The Company, through its subsidiaries, owns an investment portfolio of income-producing properties and real estate funds. Included in this portfolio are four office buildings in which the Company holds a 50% ownership interest located in New York, New York, which collectively accounted for approximately 12% of the carrying value of the property portfolio at December 31, 2011.
•Net income of $1.43 billion, or $3.40 per share basic and $3.36 diluted
Earned premiums of $22.09 billion in 2011 were $658 million, or 3%, higher than in 2010. In the Business Insurance segment, earned premiums in 2011 increased by 5% over 2010. In the Financial, Professional & International Insurance segment, earned premiums in 2011 decreased by 4% from 2010. In the Personal Insurance segment, earned premiums in 2011 increased by 3% over 2010.
Earned premiums of $21.43 billion in 2010 were $14 million, or less than 1%, higher than in 2009. In the Business Insurance segment, earned premiums in 2010 declined 2% from 2009. In the Financial, Professional & International Insurance segment, earned premiums in 2010 decreased by less than 1% from 2009. In the Personal Insurance segment, earned premiums in 2010 increased 3% over 2009.
(2)Excludes net realized investment gains and losses and net unrealized investment gains and losses.
was 4.1% in 2011, compared with 4.3% in 2010, reflecting the decline in both fixed maturity and non-fixed maturity investment income.
The following table sets forth information regarding the Company's net realized investment gains.
Other-Than-Temporary Impairment Losses on Investments -Investment impairments in 2011 and 2010 were not significant. In 2009, worldwide financial markets experienced significant disruptions, and the United States and many other countries experienced an economic downturn, resulting in heightened credit risks, reduced valuations of investments and decreased economic activity. These factors resulted in $258 million of other-than-temporary impairment losses in 2009. Impairments in the fixed maturity portfolio in 2009 were $169 million and included $81 million related to structured mortgage securities, $70 million related to various issuers' deteriorated financial position and $18 million with respect to securities that the Company either had the intent to sell or did not have the ability to assert an intention to hold until recovery in fair value. Equity impairments in 2009 were $79 million, the majority of which were related to issuers in the financial services industry. Impairments in 2009 also included $10 million related to other investments.
Other Net Realized Investment Gains-Other net realized investment gains in 2011 were $80 million, primarily driven by $52 million of net realized investment gains related to fixed maturity investments, $46 million of net realized investment gains related to equity securities and $41 million of net realized
investment gains related to other investments, partially offset by net realized investment losses of $62 million associated with U.S. Treasury futures contracts (which require daily mark-to-market settlement and are used to shorten the duration of the Company's fixed maturity investment portfolio).
Claims and claim adjustment expenses in 2011 were $16.28 billion, $3.07 billion, or 23%, higher than in 2010. The increase primarily reflected the significant increase in catastrophe losses, a decrease in net favorable prior year reserve development, the impact of loss cost trends and higher non-catastrophe weather-related losses. Catastrophe losses in 2011 and 2010 were $2.56 billion and $1.11 billion, respectively. Catastrophe losses in 2011 primarily resulted from numerous tornadoes, wind and hail storms and severe winter storms, as well as Hurricane Irene. Net favorable prior year reserve development in 2011 and 2010 was $715 million and $1.25 billion, respectively. With respect to net favorable prior year reserve development in 2011, accident years prior to and including 2009 experienced $1.10 billion of net favorable prior year reserve development, while the 2010 accident year experienced $383 million of net unfavorable prior year reserve development. Factors contributing to net favorable prior year reserve development are discussed in more detail in the segment discussions that follow.
Claims and claim adjustment expenses were $13.21 billion in 2010, $802 million, or 6%, higher than in 2009. The increase primarily reflected the significant increase in catastrophe losses, the modest decline in net favorable prior year reserve development and the impact of loss cost trends. Catastrophe losses in 2010 and 2009 were $1.11 billion and $457 million, respectively. Catastrophe losses in 2010 primarily resulted from several severe wind and hail storms, as well as severe winter storms and an earthquake in Chile. Catastrophe losses in 2009 primarily resulted from several wind and hail storms, as well as flooding. Net favorable prior year reserve development in 2010 and 2009 were $1.25 billion and $1.33 billion, respectively.
The amortization of deferred acquisition costs in 2011 was $3.88 billion, $74 million, or 2%, higher than in 2010. The amortization of deferred acquisition costs in 2010 was $3.80 billion, virtually level with the 2009 total. Changes in the amortization of deferred acquisition costs in both 2011 and 2010 were generally consistent with the changes in earned premiums as compared with the respective prior year.
Interest expense in 2011, 2010 and 2009 was $386 million, $388 million and $382 million, respectively. The increase in 2010 over 2009 primarily reflected a higher average level of debt outstanding in 2010.
The Company's effective tax rate was (5%), 25% and 23% in 2011, 2010 and 2009, respectively. The Company's income tax benefit of $74 million in 2011 primarily reflected the impact of tax-exempt investment income on the calculation of the Company's income tax provision. In addition, the income tax benefit in 2011 included the $104 million benefit resulting from the favorable resolution of various prior year tax matters recorded in the first quarter of 2011. The effective tax rate in 2009 also benefited from the favorable resolution of prior year tax matters. Excluding that benefit in 2009, the effective tax rates in 2010 and 2009 were virtually level.
The consolidated loss and loss adjustment expense ratio of 72.9% in 2011 was 11.9 points higher than the loss and loss adjustment expense ratio of 61.0% in 2010. Catastrophe losses accounted for 11.6 points and 5.2 points of the 2011 and 2010 loss and loss adjustment expense ratios, respectively. Net favorable prior year reserve development provided 3.2 points and 5.8 points of benefit to the consolidated loss and loss adjustment expense ratio in 2011 and 2010, respectively. The consolidated loss and loss adjustment expense ratio excluding catastrophe losses and prior year reserve development in 2011 was 2.9 points higher than the 2010 ratio on the same basis, primarily reflecting the impact of loss cost trends and higher non-catastrophe weather-related losses.
The consolidated underwriting expense ratio of 32.2% in 2010 was 0.3 points higher than the 2009 consolidated underwriting expense ratio of 31.9%. The 2009 ratio reflected a 0.4 point benefit resulting from the reduction in the estimate of property windpool assessments related to Hurricane Ike. Excluding that factor in 2009, the consolidated underwriting expense ratio in 2010 was 0.1 points lower than in 2009.
Gross and net written premiums in 2011 both increased by 3% over 2010. In 2010, gross written premiums increased by less than 1% over 2009, while net written premiums increased by 1%. Factors contributing to the changes in gross and net written premiums in each segment in 2011 and 2010 as
compared with the respective prior year are discussed in more detail in the segment discussions that follow.
Operating income of $2.30 billion in 2010 was $289 million, or 11%, lower than in 2009. The decrease in 2010 primarily reflected a significant increase in catastrophe losses, a modest decline in net favorable prior year reserve development, lower underlying underwriting margins related to earned pricing and loss cost trends, partially offset by an increase in net investment income and a decline in general and administrative expenses. In addition, operating income in 2009 included a benefit of $42 million from the favorable resolution of various prior year tax matters and a $38 million reduction in the estimate of property windpool assessments related to Hurricane Ike. Catastrophe losses in 2010 were $437 million, compared with $176 million in 2009. Net favorable prior year reserve development was $901 million in 2010, compared with $1.03 billion in 2009.
Net investment income of $2.04 billion in 2011 was $115 million, or 5%, lower than in 2010. In 2010, net investment income of $2.16 billion was $254 million, or 13% higher than in 2009. Refer to the "Net Investment Income" section of "Consolidated Results of Operations" herein for a discussion of the changes in the Company's net investment income in 2011 and 2010 as compared with the respective prior year. In addition, refer to note 2 of notes to the Company's consolidated financial statements herein for a discussion of the Company's net investment income allocation methodology.
Claims and claim adjustment expenses in 2011 were $8.45 billion, $1.94 billion, or 30%, higher than in 2010. The increase in 2011 primarily reflected a significant decline in net favorable prior year reserve development and a significant increase in catastrophe losses, along with the impact of loss cost trends that included slightly higher than expected loss costs in the workers' compensation and commercial auto product lines. Net favorable prior year reserve development in 2011 was $245 million, compared with $901 million in 2010. Net favorable prior year reserve development in 2011 was primarily driven by better than expected loss development in the general liability product line (excluding increases to asbestos and environmental reserves discussed below), which was concentrated in excess coverages for accident years 2005-2008 and reflected what the Company believes are more favorable legal and judicial environments than what the Company previously expected, as well as better than expected loss development for the 2008 and 2009 accident years in the property product line. The workers' compensation line of business contributed slightly to net favorable prior year reserve development in 2011, as favorable reserve development for the 2003-2009 accident years was largely offset by net unfavorable reserve development for the 2010 accident year related to higher than expected loss frequency. These factors were partially offset by $175 million and $76 million increases to asbestos and environmental reserves in 2011, respectively (discussed in further detail in the "Asbestos Claims and Litigation" and "Environmental Claims and Litigation" sections herein), unfavorable prior year reserve development in the commercial multi-peril product line driven by higher than expected late reported hail claims from 2010 and unfavorable prior year reserve development in the commercial automobile product line that reflected worse than expected severity for the 2009-2010 accident years. Catastrophe losses in 2011 were $1.02 billion, compared with $437 million in 2010. Catastrophe losses in 2011 primarily resulted from winter storms and severe wind and hail storms throughout the United States, as well as Hurricane Irene.
decline in net favorable prior year reserve development and the impact of loss cost trends. Catastrophe losses in 2010 and 2009 were $437 million and $176 million, respectively. Catastrophe losses in 2010 primarily resulted from several severe wind and hail storms as well as severe winter storms. Net favorable prior year reserve development in 2010 and 2009 was $901 million and $1.03 billion, respectively. Net favorable prior year reserve development in 2010 was driven by better than expected loss development in the property, general liability (excluding increases to asbestos and environmental reserves discussed below) and workers' compensation product lines for multiple accident years, as well as in assumed reinsurance, which is in runoff. The property product line improvement primarily occurred in the 2008 and 2009 accident years as a result of better than expected loss development in Industry-Focused Underwriting and Target Risk Underwriting. The general liability product line improvement was concentrated in excess coverages for accident years 2006 and prior and reflected what the Company believes are more favorable legal and judicial environments than what the Company previously expected. Net favorable prior year reserve development in the workers' compensation product line was concentrated in accident years 2007 and prior and resulted from better than expected loss development. The improvement in assumed reinsurance resulted primarily from favorable resolutions of claims and disputes from accident years 2002 and prior. In addition, better than expected loss development in the Business Insurance segment in recent years resulted in a favorable re-estimation of reserves for unallocated loss adjustment expenses in 2010. The net favorable prior year reserve development in these product lines in 2010 was partially offset by $140 million and $35 million increases to asbestos and environmental reserves, respectively (discussed in further detail in the "Asbestos Claims and Litigation" and "Environmental Claims and Litigation" sections herein).
General and administrative expenses in 2010 were $1.90 billion, $62 million, or 3%, lower than in 2009. The 2009 total included a $38 million reduction in the estimate of property windpool assessments related to Hurricane Ike. Adjusting for that reduction in 2009, general and administrative expenses in 2010 were $100 million, or 5%, lower than in 2009, driven by a decline in loss-based assessments that reflected the impact of favorable prior year reserve development and favorable rate changes, as well as a decline in employee-related expenses and a reduction in the amount of the Company's corporate advertising expense allocated to this segment resulting from a change in focus to the Personal Insurance segment's direct to consumer initiative in 2010.
The underwriting expense ratio of 31.6% in 2011 was 0.6 points lower than the 2010 underwriting expense ratio, primarily reflecting the impact of higher earned premiums.
In 2010, the loss and loss adjustment expense ratio of 59.1% was 5.2 points higher than the 2009 ratio of 53.9%. Catastrophe losses in 2010 and 2009 accounted for 4.1 points and 1.6 points of the loss and loss adjustment expense ratio, respectively. Net favorable prior year reserve development provided 8.4 points and 9.3 points of benefit to the loss and loss adjustment expense ratio in 2010 and 2009, respectively. The loss and loss adjustment expense ratio in 2010 excluding catastrophe losses and prior year reserve development was 1.8 points higher than the 2009 ratio on the same basis, reflecting the impact of loss cost trends described above.
The Business Insurance segment's gross and net written premiums by market were as follows:
In 2011, gross and net written premiums both increased by 4% over 2010. The increase in gross and net written premiums in 2011 was concentrated in Commercial Accounts and Industry-Focused Underwriting and, to a lesser extent, in Select Accounts. Gross and net written premiums were favorably impacted by positive audit premium adjustments in 2011, as compared with negative adjustments in 2010. Overall business retention rates remained strong in 2011 and were consistent with 2010. Both components of renewal premium changes-renewal rate changes and insured exposure growth-were positive in 2011 and improved over 2010. New business levels in 2011 declined modestly from 2010.
level of insured exposure growth. New business volume in 2011 declined from 2010. Net written premiums of $2.72 billion in 2010 decreased 1% from 2009. Business retention rates in 2010 remained strong but were slightly lower than in 2009. Renewal premium changes remained positive in 2010 and increased over 2009, reflecting positive renewal rate changes and modest exposure growth. New business volume in 2010 declined compared with 2009, driven by lower business volumes from larger accounts where marketplace competition remained high.
Commercial Accounts. Net written premiums of $2.89 billion in 2011 increased by 12% over 2010. The increase was partially due to the benefit of positive audit premium adjustments, compared with negative adjustments in 2010. Business retention rates remained strong, decreasing slightly in 2011 compared with 2010. Renewal premium changes were positive in 2011 and increased over 2010, primarily driven by positive renewal rate changes. New business volume in 2011 declined slightly from 2010. Net written premiums of $2.58 billion in 2010 were 3% higher than in 2009. Business retention rates in 2010 remained strong and increased slightly over 2009. Renewal premium changes in 2010 were slightly positive, as positive renewal rate changes were largely offset by a modest decline in exposures that reflected the impact of general economic conditions. New business levels also increased over 2009.
National Accounts. Net written premiums of $782 million in 2011 decreased by 3% from 2010, primarily reflecting negative retrospective premium adjustments related to prior year policies. Business retention rates remained high in 2011 and increased slightly over 2010, while renewal premium changes in 2011 also increased over 2010. New business volume in 2011 declined slightly from 2010. Net written premiums of $806 million in 2010 were 11% lower than in 2009, reflecting reduced insurance exposures driven by lower levels of economic activity, lower prior year retrospective premium adjustments and the loss of a large account. Despite the loss of that account, business retention rates remained high in 2010.
Industry-Focused Underwriting. Net written premiums of $2.41 billion in 2011 increased by 5% over 2010, primarily driven by growth in Construction, Oil & Gas and Technology. Net written premiums of $2.30 billion in 2010 increased 1% over 2009. Premium growth in 2010 was concentrated in the Technology, Agribusiness and Oil & Gas business units.
Earned premiums of $3.17 billion in 2011 decreased by $143 million, or 4%, from 2010. The decline primarily reflected the impact of the termination of an exclusive broker relationship in the Republic of Ireland in the fourth quarter of 2010, lower construction surety premium volumes over the preceding twelve months, intentional underwriting actions undertaken in the Company's operations at Lloyd's intended to improve risk and reward (particularly in the catastrophe-exposed lines of business) and competitive market conditions. Earned premiums in 2011 benefited slightly from the favorable impact of foreign currency exchange rates. In addition, earned premiums in 2010 benefited from the impact of a reduction in surety reinsurance costs associated with prior year reinsurance treaties.
Earned premiums of $3.32 billion in 2010 were slightly lower than in 2009, primarily reflecting the impact of intentional underwriting actions taken and competitive market conditions in the Professional Liability business unit and in the Company's operation at Lloyd's. These factors were largely offset by lower reinsurance costs, the impact of changes in the structure of the Company's reinsurance during the first quarter of 2010 that modestly increased retentions to directionally align retentions in the Company's International business with its U.S. practices, and the favorable impact of foreign currency exchange rates.
Net investment income of $414 million in 2011 decreased by $25 million, or 6%, compared with 2010. In 2010, net investment income of $439 million declined by $13 million, or 3%, from 2009. Included in the Financial, Professional & International Insurance segment are certain legal entities whose invested assets and related net investment income are reported exclusively in this segment and not allocated among all business segments. As a result, reported net investment income in the Financial, Professional & International Insurance segment reflects a significantly smaller proportion of allocated net investment income, including that from the Company's non-fixed maturity investments that experienced a substantial increase in investment income in 2010. Refer to the "Net Investment Income" section of "Consolidated Results of Operations" herein for a discussion of the change in the Company's consolidated net investment income in 2011 and 2010 as compared with the respective prior years. In addition, refer to note 2 of notes to the Company's consolidated financial statements for a discussion of the Company's net investment income allocation methodology.
Claims and claim adjustment expenses in 2010 were $1.70 billion, $47 million, or 3%, lower than in 2009, primarily reflecting an increase in net favorable prior year reserve development, partially offset by increases in catastrophe losses and non-catastrophe weather-related losses. In addition, the 2009 total included an increase in reserves for a non-renewed professional liability program in the Republic of Ireland. Net favorable prior year reserve development was $259 million and $168 million in 2010 and 2009, respectively. In Bond & Financial Products, net favorable prior year reserve development in 2010 was driven by better than expected loss development in the surety and management liability lines of business due to lower than expected claim activity and loss severity in the 2008 and prior accident years. In International, the majority of net favorable prior year reserve development in 2010 occurred at the Company's operation at Lloyd's, in Canada and in the United Kingdom. Net favorable prior year
The GAAP combined ratio of 85.8% in 2011 was 1.9 points lower than the GAAP combined ratio of 87.7% in 2010.
The loss and loss adjustment expense ratio of 46.4% in 2011 was 4.5 points lower than the 2010 ratio of 50.9%. Catastrophe losses in 2011 and 2010 accounted for 1.7 and 2.4 points of the loss and loss adjustment expense ratio, respectively. Net favorable prior year reserve development provided 11.3 points and 7.8 points of benefit to the loss and loss adjustment expense ratio in 2011 and 2010, respectively. The loss and loss adjustment expense ratio in 2011 excluding catastrophe losses and prior year reserve development was 0.3 points lower than the 2010 ratio on the same basis, reflecting the factors discussed above.
The loss and loss adjustment expense ratio of 50.9% in 2010 was 1.2 points lower than the 2009 ratio of 52.1%. Catastrophe losses in 2010 and 2009 accounted for 2.4 and 0.1 points of the loss and loss adjustment expense ratio, respectively. Net favorable prior year reserve development provided 7.8 points and 5.1 points of benefit, to the loss and loss adjustment expense ratio in 2010 and 2009, respectively. The loss and loss adjustment expense ratio in 2010 excluding catastrophe losses and prior year reserve development was 0.8 points lower than the 2009 ratio on the same basis, reflecting the factors discussed above.
Gross and net written premiums in 2011 decreased by 4% and 3%, respectively, compared with 2010. In 2010, gross and net written premiums decreased by 5% and 2%, respectively, compared with 2009.
Net written premiums of $1.95 billion in Bond & Financial Products in 2011 were $28 million, or 1%, lower than in 2010, reflecting lower construction surety premium volume due to the continued slowdown in construction spending, and disciplined underwriting. The decrease also reflected the impact of reductions in surety reinsurance costs in 2010 associated with prior year reinsurance treaties. Excluding the surety line of business, for which the following are not relevant measures, business retention rates in 2011 remained strong and were higher than in 2010. Renewal premium changes in 2011 were slightly positive (compared with slightly negative in 2010), as the modest growth in insured exposures exceeded negative renewal rate changes. New business volume in 2011 increased considerably over 2010.
An operating loss of ($332) million in 2011 compared with operating income of $440 million in 2010. This decline in operating income was primarily driven by a significant increase in catastrophe losses, along with lower underlying underwriting margins related to earned pricing and loss cost trends, higher than expected non-catastrophe weather-related losses, lower net investment income and an increase in expenses related to the Company's direct to consumer initiative. These factors were partially offset by the favorable impact of increased business volumes, an increase in net favorable prior year reserve development and a $10 million benefit resulting from the favorable resolution of various prior year tax matters. Catastrophe losses in 2011 were $1.49 billion, compared with $594 million in 2010. Net favorable prior year reserve development in 2011 was $110 million, compared with $87 million in 2010.
In 2010, operating income of $440 million was $161 million, or 27%, lower than in 2009. The decline primarily reflected the significant increase in catastrophe losses, a decline in net favorable prior year reserve development and an increase in expenses related to the Company's direct to consumer initiative. These factors were partially offset by increases in net investment income and business
Earned premiums of $7.59 billion in 2011 were $240 million, or 3%, higher than in 2010. Earned premiums of $7.35 billion in 2010 were $232 million, or 3%, higher than in 2009. The increases in both years primarily reflected an increase in net written premiums over the preceding twelve months.
The amortization of deferred acquisition costs was $1.46 million in 2011, $17 million, or 1%, higher than in 2010. The increase in 2011 was less than the increase in earned premiums, primarily reflecting an increase in the number of agents reverting to a contingent commission compensation program (the costs of which are classified in "general and administrative expenses") from a fixed-value compensation program (the costs of which are classified in "amortization of deferred acquisition costs"). The amortization of deferred acquisition costs in 2010 was $1.44 billion, $25 million, or 2%, higher than in 2009. The increase in 2010 was consistent with the increase in earned premiums.
General and administrative expenses of $908 million in 2011 were $41 million, or 5%, higher than in 2010. The increase in 2011 was primarily driven by costs associated with the Company's direct to consumer initiative, as well as the increase in contingent commission expense due to the increase in the number of agents reverting to a contingent commission compensation program. The cost of the contingent commission program is not subject to deferred acquisition cost accounting treatment and, therefore, is expensed as incurred.
The loss and loss adjustment expense ratio of 83.5% in 2011 was 15.4 points higher than the 2010 ratio of 68.1%. Catastrophe losses accounted for 19.6 and 8.1 points of the loss and loss adjustment expense ratio in 2011 and 2010, respectively. Net favorable prior year reserve development provided 1.5 points and 1.2 points of benefit to the loss and loss adjustment expense ratio in 2011 and 2010, respectively. The 2011 loss and loss adjustment expense ratio excluding catastrophe losses and prior year reserve development was 4.2 points higher than the 2010 ratio on the same basis, primarily reflecting the impact of higher non-catastrophe weather-related losses.
The underwriting expense ratio of 30.1% in 2011 was 0.1 points lower than the underwriting expense ratio of 30.2% in 2010. The slight decline in the underwriting expense ratio for 2011 compared with 2010 reflected growth in earned premiums and increases in costs associated with the Company's direct to consumer initiative, the impacts of which were largely offsetting.
For its Agency business, the Personal Insurance segment had approximately 7.7 million and 7.6 million active policies at December 31, 2011 and 2010, respectively. In the Agency Automobile line of business, active policies at December 31, 2011 were level with the same date in 2010. Active policies in the Agency Homeowners and Other line of business at December 31, 2011 grew by 1% over the same date in 2010.
The operating loss for Interest Expense and Other in 2011 was $39 million lower than in 2010, primarily reflecting $39 million of expenses related to the Company's purchase and retirement of a significant portion of its 6.25% fixed-to-floating rate junior subordinated debentures in 2010. After-tax interest expense in 2011 and 2010 was $251 million and $252 million, respectively. The $85 million increase in operating loss for Interest Expense and Other in 2010 compared with 2009 primarily reflected the $39 million of expenses referred to above. The operating loss in 2010 also included a $12 million increase in tax expense associated with recent federal health care legislation and an increase in interest expense. In addition, the operating loss in 2009 included a benefit of $28 million from the favorable resolution of various prior year tax matters. After-tax interest expense in 2010 was $252 million, compared with $248 million in 2009.
The Company believes that the property and casualty insurance industry has suffered from court decisions and other trends that have expanded insurance coverage for asbestos claims far beyond the original intent of insurers and policyholders. The Company continues to receive a significant number of asbestos claims from the Company's policyholders (which includes others seeking coverage under a policy), including claims against the Company's policyholders by individuals who do not appear to be impaired by asbestos exposure. Factors underlying these claim filings include intensive advertising by lawyers seeking asbestos claimants and the focus by plaintiffs on previously peripheral defendants. The focus on these defendants is primarily the result of the number of traditional asbestos defendants who have sought bankruptcy protection in previous years. In addition to contributing to the overall number of claims, bankruptcy proceedings may increase the volatility of asbestos-related losses by initially delaying the reporting of claims and later by significantly accelerating and increasing loss payments by insurers, including the Company. The bankruptcy of many traditional defendants has also caused increased settlement demands against those policyholders who are not in bankruptcy but that remain in the tort system. Currently, in many jurisdictions, those who allege very serious injury and who can present credible medical evidence of their injuries are receiving priority trial settings in the courts, while those who have not shown any credible disease manifestation are having their hearing dates delayed or placed on an inactive docket. This trend of prioritizing claims involving credible evidence of injuries, along with the focus on previously peripheral defendants, contributes to the claims and claim adjustment expense payments experienced by the Company. The Company's asbestos-related claims and claim adjustment expense experience also has been impacted by the unavailability of other insurance sources potentially available to policyholders, whether through exhaustion of policy limits or through the insolvency of other participating insurers.
•continued high level of litigation activity involving individuals alleging serious asbestos-related illness;
Net asbestos losses paid in 2011, 2010 and 2009 were $284 million, $350 million and $341 million, respectively. The decrease in gross and net paid losses in 2011 primarily resulted from completing, during 2010, the final installment payments on a previously reserved settlement. Approximately 19%, 32% and 41% of total net paid losses in 2011, 2010 and 2009, respectively, related to policyholders with whom the Company had entered into settlement agreements limiting the Company's liability.
obligation which the Company may have for other claims, including but not limited to asbestos and other cumulative injury claims. The Company and its policyholders may also agree to settlements which extinguish any liability arising from known specified sites or claims. Where appropriate, these agreements also include indemnities and hold harmless provisions to protect the Company. The Company's general purpose in executing these agreements is to reduce the Company's potential environmental exposure and eliminate the risks presented by coverage litigation with the policyholder and related costs.
The Company continues to receive notices from policyholders tendering claims for the first time. These policyholders continue to present smaller exposures, have fewer sites and are lower tier defendants. Further, in many instances, clean-up costs have been reduced because regulatory agencies are willing to accept risk-based site analyses and more efficient clean-up technologies. Over the past several years, the Company has experienced generally favorable trends in overall environmental claim payments, in the number of new policyholders tendering environmental claims for the first time and in the number of pending declaratory judgment actions relating to environmental matters. However, in 2011, the Company increased its net environmental reserves by $76 million, primarily because the degree to which those favorable trends continued was less than anticipated. In 2010, the Company increased its net environmental reserves by $35 million due to a modest upward development in the expected defense and settlement costs for certain of its pending policyholders. The Company increased its net environmental reserves by $70 million in 2009, due to a slight increase in the number of
Net environmental losses paid in 2011, 2010 and 2009 were $86 million, $77 million and $91 million, respectively. At December 31, 2011, approximately 93% of the net environmental reserve (approximately $316 million) was carried in a bulk reserve and included unresolved environmental claims, incurred but not reported environmental claims and the anticipated cost of coverage litigation disputes relating to these claims. The bulk reserve the Company carries is established and adjusted based upon the aggregate volume of in-process environmental claims and the Company's experience in resolving those claims. The balance, approximately 7% of the net environmental reserve (approximately $25 million), consists of case reserves.
policyholders, whether through exhaustion of policy limits or through the insolvency of other participating insurers. In addition, uncertainties arise from the insolvency or bankruptcy of policyholders and other defendants. It is also not possible to predict changes in the legal, regulatory and legislative environment and their impact on the future development of asbestos and environmental claims. This environment could be affected by changes in applicable legislation and future court and regulatory decisions and interpretations, including the outcome of legal challenges to legislative and/or judicial reforms establishing medical criteria for the pursuit of asbestos claims. It is also difficult to predict the ultimate outcome of complex coverage disputes until settlement negotiations near completion and significant legal questions are resolved or, failing settlement, until the dispute is adjudicated. This is particularly the case with policyholders in bankruptcy where negotiations often involve a large number of claimants and other parties and require court approval to be effective. As part of its continuing analysis of asbestos and environmental reserves, the Company continues to study the implications of these and other developments. (Also see note 15 of notes to the consolidated financial statements).
The carrying values of investments in fixed maturities classified as available for sale at December 31, 2011 and 2010 were as follows:
(3)Included in commercial mortgage-backed securities and project loans are $66 million of securities guaranteed by the U.S. government and $15 million by government sponsored enterprises.
The Company bases its investment decision on the underlying credit characteristics of the municipal security. While its municipal bond portfolio includes a number of securities that were enhanced by third-party insurance for the payment of principal and interest in the event of an issuer default, the Company does not rely on enhanced credit characteristics provided by such third-party insurance. The downgrade during 2008 and 2009 of credit ratings of insurers of these securities resulted in a corresponding downgrade in the ratings of many such securities to the underlying rating of the respective security. Of the insured municipal securities in the Company's investment portfolio at December 31, 2011, approximately 99% were rated at A3 or above, and approximately 92% were rated at Aa3 or above, without the benefit of insurance. The Company believes that a loss of the benefit of insurance would not result in a material adverse impact on the Company's results of operations, financial position or liquidity, due to the underlying credit strength of the issuers of the securities, as well as the Company's ability and intent to hold the securities. The average credit rating of the underlying issuers of these securities was "Aa2" at December 31, 2011. The average credit rating of the entire municipal bond portfolio was "Aa1" at December 31, 2011 with and without the enhancement provided by third-party insurance.
The Company's fixed maturity investment portfolio at December 31, 2011 and 2010 included $3.52 billion and $4.16 billion, respectively, of residential mortgage-backed securities including
pass-through-securities and collateralized mortgage obligations (CMO), all of which are subject to prepayment risk (either shortening or lengthening of duration). While prepayment risk for both guaranteed and non-guaranteed securities and its effect on income cannot be fully controlled, particularly when interest rates move dramatically, the Company's investment strategy generally favors securities that control this risk within expected interest rate ranges. Included in the totals at December 31, 2011 and 2010 were $1.82 billion and $2.09 billion, respectively, of GNMA, FNMA and FHLMC (excluding FHA project loans) guaranteed residential mortgage-backed pass-through securities classified as available for sale. Also included in those totals were residential CMOs classified as available for sale with a fair value of $1.70 billion and $2.07 billion, at December 31, 2011 and 2010, respectively.
At December 31, 2011 and 2010, the carrying value of the Company's other investments was $3.45 billion and $2.93 billion, respectively. The Company's other investments are primarily comprised of private equity limited partnerships, hedge funds, real estate partnerships, joint ventures, mortgage loans, venture capital (through direct ownership and limited partnerships) and trading securities, which are subject to more volatility than the Company's fixed maturity investments. These asset classes have historically provided a higher return than fixed maturities but are subject to more volatility. Net investment income provided by these asset classes was $292 million and $304 million in 2011 and 2010, respectively, compared with negative net investment income of $106 million in 2009. The negative net investment income in 2009 reflected market conditions.
The Company has engaged in securities lending activities from which it generates net investment income by lending certain of its investments to other institutions for short periods of time. The Company has not incurred any investment losses in its securities lending program for the years ended December 31, 2011, 2010 and 2009.
Net pretax unrealized investment gains were $4.40 billion, $2.83 billion and $2.82 billion at December 31, 2011, 2010 and 2009, respectively. The Company's fixed maturities portfolio at December 31, 2011 experienced an increase in valuation compared with the prior year-end, primarily due to the continuing decline in market interest rates. The Company's fixed maturities and equity securities portfolios at December 31, 2010 experienced increases in valuations compared with the prior year-end, which were offset by a decrease in net unrealized appreciation on other investments that primarily resulted from the Company's sale of substantially all of its common stock holdings in Verisk Analytics, Inc. That sale generated a pretax realized investment gain of $205 million in 2010.
These unrealized investment losses at December 31, 2011 represent less than 1% of the combined fixed maturity and equity security portfolios on a pretax basis and less than 1% of shareholders' equity on an after-tax basis.
At December 31, 2011, below investment grade securities comprised 3.1% of the Company's fixed maturity investment portfolio. Included in below investment grade securities at December 31, 2011 were securities in an unrealized loss position that, in the aggregate, had an amortized cost of $741 million and a fair value of $699 million, resulting in a net pretax unrealized investment loss of $42 million. These securities in an unrealized loss position represented approximately 1% of both the total amortized cost and the fair value of the fixed maturity portfolio at December 31, 2011 and accounted for 47% of the total gross pretax unrealized investment loss in the fixed maturity portfolio at December 31, 2011.
Following are the pretax realized losses on investments sold during the year ended December 31, 2011:
The tables below set forth the probabilities that estimated losses from a single event occurring in a one-year timeframe will equal or exceed the indicated loss amounts (expressed in dollars and as a percentage of the Company's common equity), based on the current version of the proprietary computer model utilized by the Company at December 31, 2011. For example, on the basis described below the tables, the Company estimates that there is a one percent chance that the Company's loss from a single U.S. hurricane in a one-year timeframe would equal or exceed $1.4 billion, or 6% of the Company's common equity at December 31, 2011.
The threshold loss amounts in the tables above, which are based on the Company's in-force portfolio at December 31, 2011 and catastrophic reinsurance program at January 1, 2012, are net of reinsurance, after-tax and exclude most loss adjustment expenses, which historically have been less than 10% of loss estimates. The amounts for hurricanes reflect U.S. exposures and include property exposures, property residual market exposures and an adjustment for certain non-property exposures. The amounts for earthquakes reflect U.S. and Canadian exposures and include property exposures and workers' compensation exposures. The Company does not believe that the inclusion of hurricane or earthquake losses arising from other geographical areas or other exposures would materially change the estimated threshold loss amounts.
•Increasingly unpredictable and severe weather conditions could result in increased frequency and severity of claims under policies issued by the Company. See "Risk Factors-Catastrophe losses could materially and adversely affect our results of operations, our financial position and/or liquidity, and could adversely impact our ratings, our ability to raise capital and the availability and cost of reinsurance" and "-Outlook-Underwriting Gain/Loss."
•Increased regulation adopted in response to potential changes in climate conditions may impact the Company and its customers. For example, state insurance regulation could impact the Company's ability to manage property exposures in areas vulnerable to significant climate driven losses. If the Company is unable to implement risk based pricing, modify policy terms or reduce exposures to the extent necessary to address rising losses related to catastrophes and smaller scale weather events (should those increased losses occur), its business may be adversely affected. See "Risk Factors-Catastrophe losses could materially and adversely affect our results of operations, our financial position and/or liquidity, and could adversely impact our ratings, our ability to raise capital and the availability and cost of reinsurance."
Ceded reinsurance involves credit risk, except with regard to mandatory pools for which liability is mostly joint and several, and is generally subject to aggregate loss limits. Although the reinsurer is liable to the Company to the extent of the reinsurance ceded, the Company remains liable as the direct insurer on all risks reinsured. Reinsurance recoverables are reported after reductions for known insolvencies and after allowances for uncollectible amounts. The Company also holds collateral, including trust agreements, escrow funds and letters of credit, under certain reinsurance agreements. The Company monitors the financial condition of reinsurers on an ongoing basis and reviews its reinsurance arrangements periodically. Reinsurers are selected based on their financial condition, business practices and the price of their product offerings. After reinsurance is purchased, the Company has limited ability to manage the credit risk to a reinsurer. In addition, in a number of jurisdictions, particularly the European Union and the United Kingdom, a reinsurer is permitted to transfer a reinsurance arrangement to another reinsurer, which may be less creditworthy, without a counterparty's consent, provided that the transfer has been approved by the applicable regulatory and/or court authority.
The Company has also entered into Master Security Agreements with certain reinsurers. These agreements define conditions that require the reinsurer to provide collateral. The specific conditions and the amounts and form of collateral to be provided by these agreements vary based on a number of
Reinsurance companies and life insurance companies continued to be negatively impacted by turbulent economic conditions, significant catastrophe events and investment portfolio challenges during 2011. A number of such companies have been subjected to downgrades and/or negative outlook changes by various ratings agencies, including those with which the Company conducts business. The Company considers these factors in assessing the adequacy of its allowance for uncollectible amounts.
Catastrophe and other weather-related losses are inherently unpredictable from period to period. The Company experienced significant catastrophe and other weather-related losses in 2011 which adversely impacted its results of operations. The Company's results of operations would continue to be adversely impacted if significant catastrophe and other weather-related losses were to occur during 2012.
reinsurance or through catastrophe bonds, to provide protection against the higher potential retention of catastrophe losses resulting from the expected increase in the attachment point.
Increased late reporting of weather-related losses by claimants over the last several years, particularly losses from hail damage, has also adversely impacted the Company's results of operations. Actions that the Company has taken in response, including increased pricing in some areas, changes to terms and conditions and an increased focus on fraud detection, may not be successful.
In recent years, the Company's results have included significant amounts of net favorable prior year reserve development, although at lower levels in recent quarters, driven by better than expected loss experience in all of the Company's segments. The lower levels of prior year reserve development in recent quarters may be in part due to the estimation process incorporating those factors that led to the higher levels of prior year reserve development in previous years. If that trend continues, the better than expected loss experience may continue at these recent lower levels, or even lower levels. However, given the inherent uncertainty in estimating claims and claim adjustment expense reserves, loss experience could develop such that the Company recognizes higher or lower levels of favorable prior year reserve development, no favorable prior year reserve development or unfavorable prior year reserve development in future periods. In addition, the ongoing review of prior year claims and claim adjustment expense reserves, or other changes in current period circumstances, may result in the Company revising current year loss estimates upward or downward in future periods.
The Company also invests much smaller amounts in equity securities, real estate, private equity limited partnerships, hedge funds, real estate partnerships, real estate and insurance joint ventures, mortgage loans, venture capital (through direct ownership and limited partnerships) and trading securities. These investment classes have the potential for higher returns but also involve varying degrees of risk, including less stable rates of return and less liquidity.
Capital Position. The Company believes it has a strong capital position and, as part of its ongoing efforts to create shareholder value, expects to continue to return capital not needed to support its business operations to its shareholders. In recent years, the Company has returned capital to its shareholders, comprising dividends to common shareholders and common share repurchases, in amounts that have exceeded its operating income. In 2012, the Company expects that the combination of dividends to common shareholders and common share repurchases will likely not exceed operating income. In addition, actual amounts of common share repurchases will also depend on a variety of additional factors, including corporate and regulatory requirements, maintaining capital levels commensurate with the Company's existing ratings from independent rating agencies, share price, funding of the Company's qualified pension plan, strategic initiatives and other market conditions. For information regarding the Company's common share repurchases in 2011, see "Liquidity and Capital Resources-Share Repurchases" in this report.
The Company had a net after-tax unrealized investment gain of $2.77 billion in its fixed maturity investment portfolio at December 31, 2011. While the Company does not attempt to predict future interest rate movements, a rising interest rate environment would reduce the market value of fixed maturity investments and, therefore, reduce shareholders' equity, and a declining interest rate environment would have the opposite effects.
Many of the statements in this "Outlook" section are forward-looking statements, which are subject to risks and uncertainties that are often difficult to predict and beyond the Company's control. Actual results could differ materially from those expressed or implied by such forward-looking statements. Further, such forward-looking statements speak only as of the date of this report and the Company undertakes no obligation to update them. See "-Forward Looking Statements." For a discussion of potential risks and uncertainties that could impact the Company's results of operations or financial position, see "Item 1A - Risk Factors" and "Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Estimates" in this report.
may also result in increased liquidity requirements. It is the opinion of the Company's management that the Company's future liquidity needs will be adequately met from all of the above sources.
The Company currently utilizes uncollateralized letters of credit issued by major banks with an aggregate limit of approximately $432 million to provide much of the capital needed to support its obligations at Lloyd's. If uncollateralized letters of credit are not available at a reasonable price or at all in the future, the Company can collateralize these letters of credit or may have to seek alternative means of supporting its obligations at Lloyd's, which could include utilizing holding company funds on hand.
Net cash flows provided by operating activities were $2.17 billion, $3.05 billion and $4.23 billion in 2011, 2010 and 2009, respectively. Cash flows in 2011 reflected an increase in losses paid related to catastrophes and ongoing business (including the impact of increased loss costs), a higher level of contributions to the Company's qualified domestic pension plan and lower receipts related to net investment income as compared with 2010. These factors were partially offset by a higher level of collected premiums, a lower level of paid operating expenses and a lower level of paid losses related to asbestos claims and operations in runoff. Cash flows in 2010 reflected a higher level of claims and claim adjustment expense payments due to the impact of loss cost trends and a higher level of catastrophe loss payments, as well as a lower level of reinsurance recoveries, partially offset by declines in the amount of contributions to the Company's qualified domestic pension plan and lower claims and claim adjustment expense payments related to operations in runoff as compared with 2009. In the years ended December 31, 2011, 2010 and 2009, the Company contributed $185 million, $35 million and $260 million, respectively, to its qualified domestic pension plan.
offset by operating cash flows of $2.17 billion and a $1.57 billion increase in net pretax unrealized appreciation of investments.
2011. On June 1, 2011, the Company repaid the remaining $9 million principal balance on its 7.22% real estate non-recourse debt.
Prior to November 2010, the Company was subject to a replacement capital covenant that it had granted to the holders of its 6.75% senior notes due June 20, 2036 (the senior notes). The replacement capital covenant restricted the Company's ability to repurchase its $1.00 billion in outstanding 6.25% fixed-to-floating rate junior subordinated debentures due March 15, 2067 (the debentures). In November 2010, the Company paid approximately $4 million to holders of the senior notes to terminate the replacement capital covenant. Following the termination, the Company purchased approximately $885 million aggregate principal amount of the debentures. A $60 million pretax loss was recognized in 2010 related to these transactions.
On September 16, 2010, the Company repaid the remaining $4 million principal balance on its 7.81% private placement senior notes. On August 23, 2010, the Company's $21 million, 7.415% medium-term notes matured and were fully paid. On April 15, 2010, the Company's $250 million, 8.125% senior notes matured and were fully paid. All of these debt payments were made from internally-generated funds.
2009. On June 2, 2009, the Company issued $500 million aggregate principal amount of 5.90% senior notes that will mature on June 2, 2019. The net proceeds of the issuance, after original issuance discount and the deduction of underwriting expenses and commissions and other expenses, were approximately $494 million. Interest on the senior notes is payable semi-annually in arrears on June 2 and December 2 of each year. The senior notes are redeemable in whole at any time or in part from time to time, at the Company's option, at a redemption price equal to the greater of (a) 100% of the principal amount of senior notes to be redeemed or (b) the sum of the present values of the remaining scheduled payments of principal and interest on the senior notes to be redeemed (exclusive of interest accrued to the date of redemption) discounted to the date of redemption on a semi-annual basis (assuming a 360-day year consisting of twelve 30-day months) at the then current Treasury rate (as defined) plus 35 basis points.
The amounts of debt obligations, other than commercial paper, that becomes due in 2012 and 2013 are $250 million and $500 million, respectively. In 2014, no debt obligations become due.
In 2011, 2010 and 2009, the Company acquired 1.4 million, 1.3 million and 1.5 million shares, respectively, of common stock from employees as treasury stock primarily to cover payroll withholding taxes related to the vesting of restricted stock awards and exercises of stock options.
The $1.00 billion decrease in total capitalization from December 31, 2010 primarily reflected the impact of common share repurchases under the Company's share repurchase authorization of $2.90 billion and shareholder dividends of $669 million, partially offset by net income of $1.43 billion and a $1.01 billion increase in net unrealized appreciation on investments.
Line of Credit Agreement. The Company is party to a three-year, $1.0 billion revolving credit agreement with a syndicate of financial institutions that expires in June 2013. Pursuant to the credit agreement covenants, the Company must maintain a minimum consolidated net worth (generally defined as shareholders' equity plus certain trust preferred and mandatorily convertible securities, reduced for goodwill and other intangible assets) of $14.35 billion. The Company must also maintain a ratio of total debt to the sum of total debt plus consolidated net worth of not greater than 0.40 to 1.00. In addition, the credit agreement contains other customary restrictive covenants as well as certain customary events of default, including with respect to a change in control, which is defined to include the acquisition of 35% or more of the Company's voting stock and certain changes in the composition of the Company's board of directors. At December 31, 2011, the Company was in compliance with these covenants. Generally, the cost of borrowing under this agreement will range from LIBOR plus 100 basis points to LIBOR plus 175 basis points depending on the Company's credit ratings. At December 31, 2011, that cost would have been LIBOR plus 125 basis points had there been any amounts outstanding under the credit agreement. This line of credit also supports the Company's commercial paper program.
Share Repurchase Authorization. At December 31, 2011, the Company had $3.61 billion of capacity remaining under its share repurchase authorization approved by the board of directors.
The following table summarizes, as of December 31, 2011, the Company's future payments under contractual obligations and estimated claims and claim-related payments. The table excludes short-term obligations and includes only liabilities at December 31, 2011 that are expected to be settled in cash.
The table below includes the amount and estimated future timing of claims and claim-related payments. The amounts do not represent the exact liability, but instead represent estimates, generally utilizing actuarial projections techniques, at a given accounting date. These estimates include expectations of what the ultimate settlement and administration of claims will cost based on the Company's assessment of facts and circumstances then known, review of historical settlement patterns, estimates of trends in claims severity, frequency, legal theories of liability and other factors. Variables in the reserve estimation process can be affected by both internal and external events, such as changes in claims handling procedures, economic inflation or deflation, legal trends and legislative changes. Many of these items are not directly quantifiable, particularly on a prospective basis. Additionally, there may be significant reporting lags between the occurrence of the policyholder event and the time it is actually reported to the insurer. The future cash flows related to the items contained in the table below required estimation of both amount (including severity considerations) and timing. Amount and timing
are frequently estimated separately. An estimation of both amount and timing of future cash flows related to claims and claim-related payments is generally reliable only in the aggregate with some unavoidable estimation uncertainty.
For business underwritten by non-U.S. operations, future cash flows related to reported and unreported claims incurred and related claim adjustment expenses were translated at the spot rate on December 31, 2011.
policies" represent the estimated future payment for claims and claim related expenses below the deductible amount, net of the estimated recovery of the deductible. The liability and the related deductible receivable for unpaid claims are presented in the consolidated balance sheet as "contractholder payables" and "contractholder receivables," respectively. Most deductibles for such policies are paid directly from the policyholder's escrow which is periodically replenished by the policyholder. The payment of the loss amounts above the deductible are reported within "Claims and claim adjustment expenses" in the above table. Because the timing of the collection of the deductible (contractholder receivables) occurs shortly after the payment of the deductible to a claimant (contractholder payables), these cash flows offset each other in the table.
(12)The Company's current liabilities related to unrecognized tax benefits from uncertain tax positions are $356 million. Offsetting these liabilities are deferred tax assets of $324 million associated with the temporary differences that would exist if these positions become realized.
The Company sponsors a qualified non-contributory pension plan (the Qualified Plan), which covers substantially all employees and provides benefits primarily under a cash balance formula. In addition, the Company sponsors a nonqualified defined benefit pension plan which covers certain highly compensated employees and also sponsors a postretirement health and life insurance benefit plan for employees satisfying certain age and service requirements and for certain retirees.
The Qualified Plan is subject to regulations under the Employee Retirement Income Act of 1974 as amended (ERISA), which requires plans to meet minimum standards of funding and requires such plans to subscribe to plan termination insurance through the Pension Benefit Guaranty Corporation (PBGC). The Company does not have a minimum funding requirement for the Qualified Plan for 2012 and does not anticipate having a minimum funding requirement in 2013. The Company has significant discretion in making contributions above those necessary to satisfy the minimum funding requirements. The Company made discretionary contributions to the Qualified Plan of $185 million, $35 million, and $260 million in 2011, 2010 and 2009, respectively. In determining future contributions, the Company considers the performance of the plan's investment portfolio, the effects of interest rates on the projected benefit obligation of the plan and the Company's other capital requirements. The Company has not determined whether or not additional discretionary funding will be made in the current year or beyond. However, the Company currently believes, subject to actual plan performance and funded status at the time, that it may make discretionary pension contributions of approximately $75 million to $100 million annually over the next few years.
The Qualified Plan assets are managed to maximize long-term total return. The Company's overall strategy is to achieve a mix of approximately 85% to 90% of investments for long-term growth and 10% to 15% for near-term benefit payments with a wide diversification of asset types, fund strategies and fund managers. The current target allocations for plan assets are 55% to 65% equity securities and 20% to 40% fixed income securities, with the remainder allocated to short-term securities. For 2012, the Company plans to apply an expected long-term rate of return on plan assets of 7.50%, down from 8.00% in 2011. The reduction reflects the Company's current expectations of long-term returns on the plan's invested assets, taking into account the current low level of long-term interest rates as well as the Federal Reserve's commentary in January 2012 regarding expected interest rate levels through 2014, and projecting a return to more normal levels of long-term interest rates in the future.
The NAIC adopted RBC requirements for property casualty companies to be used as minimum capital requirements by the NAIC and states to identify companies that merit further regulatory action. The formulas have not been designed to differentiate among adequately capitalized companies that operate with levels of capital above the RBC requirements. Therefore, it is inappropriate and ineffective to use the formulas to rate or to rank these companies. At December 31, 2011, all of the Company's insurance subsidiaries had adjusted capital in excess of amounts requiring any company or regulatory action.
Claims and claim adjustment expense reserves represent management's estimate of ultimate unpaid costs of losses and loss adjustment expenses for claims that have been reported and claims that have been incurred but not yet reported (IBNR). Claims and claim adjustment expense reserves do not represent an exact calculation of liability, but instead represent management estimates, generally utilizing actuarial expertise and projection techniques, at a given accounting date. These estimates are
A portion of the Company's claims and claim adjustment expense reserves (totaling $3.13 billion at December 31, 2011) are for asbestos and environmental claims and related litigation. While the ongoing review of asbestos and environmental claims and associated liabilities considers the inconsistencies of court decisions as to coverage, plaintiffs' expanded theories of liability and the risks inherent in complex litigation and other uncertainties, in the opinion of the Company's management, it is possible that the outcome of the continued uncertainties regarding these claims could result in liability in future periods that differs from current reserves by an amount that could be material to the
The variables discussed above in this general discussion have different impacts on reserve estimation uncertainty for a given product line, depending on the length of the claim tail, the reporting lag, the impact of individual claims and the complexity of the claim process for a given product line.
The principal estimation and analysis methods utilized by the Company's actuaries are the paid development method, the case incurred development method, the Bornhuetter-Ferguson (BF) method, and average value analysis combined with the reported claim development method. The BF method is usually utilized for more recent accident periods, with a transition to other methods as the underlying claim data becomes more voluminous and therefore more credible. These are typically referred to as conventional actuarial methods. (See Glossary for an explanation of these methods).
Some components of product line reserves are susceptible to relatively infrequent large claims that can materially impact the total estimate for that component. In such cases, the Company's actuarial analysis generally isolates and analyzes separately such large claims. The reserves excluding such large
In order to provide information on reasonably possible reserving changes by product line, the historical changes in year-end claims and claim adjustment expense reserves over a one-year period are provided for the U.S. product lines. This information is provided for both the Company and the industry for the nine most recent years, and is based on the most recent publicly available data for the reported line(s) that most closely match the individual product line being discussed. These changes were calculated, net of reinsurance, from statutory annual statement data found in Schedule P of those statements, and represent the reported reserve development on the beginning-of-the-year claim liabilities divided by the beginning claim liabilities, all accident years combined, excluding non-defense related claim adjustment expense. Data presented for the Company includes history for the entire Travelers group (U.S. companies only), whether or not the individual subsidiaries were originally part of SPC or TPC. This treatment is required by the statutory reporting instructions promulgated by state regulatory authorities for Schedule P. Comparable data for non-U.S. companies is not available.
The amount of reserve estimate uncertainty also varies significantly by component for the general liability product line. The components in this product line with the longest latency, longest reporting lags, largest potential dollars involved and greatest claim settlement complexity are asbestos and environmental. Components that include latency, reporting lag and/or complexity issues, but to a materially lesser extent than asbestos and environmental, include construction defect, medical malpractice and other mass tort actions. Many components of general liability are not subject to material latency or claim complexity risks and hence have materially less uncertainty than the previously mentioned components. In general, policies providing coverage with shorter reporting lags, fewer parties involved in settlement negotiations, only one policy potentially triggered per claim, fewer potential settlement dollars, reasonably foreseeable (and stable) potential hazards/claims and no mass tort potential result in much less reserve estimate uncertainty than policies without those characteristics.
•Changes in claim adjuster office structure (causing distortions in the data)
Historically, the one-year change in the reserve estimate for this product line, excluding estimated asbestos and environmental amounts, over the last nine years has varied from -8% to 14% (averaging 1%) for the Company and from -5% to 7% (averaging 0%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. Because the high end of the Company's range of historical adverse development comes from certain businesses that the Company has since exited, the Company believes that the industry's range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. General liability reserves (excluding asbestos and environmental) represent approximately 25% of the Company's total claims and claim adjustment expense reserves.
The Company's change in reserve estimate for this product line, excluding estimated asbestos and environmental amounts, was -8% for 2011, -5% for 2010 and -5% for 2009. The 2011 change was concentrated in excess coverages for accident years 2005-2008 and reflected what the Company believes are more favorable legal and judicial environments than what the Company previously expected. The 2010 change was primarily concentrated in excess coverages for accident years 2006 and prior and reflected what the Company believes are more favorable legal and judicial environments than what the Company previously expected. The 2009 change was driven by several factors, including improved legal and judicial environments, as well as enhanced risk control, underwriting and claim process initiatives.
Historically, the one-year change in the reserve estimate for this product line over the last nine years has varied from -34% to 26% (averaging -13%) for the Company, and from -14% to 7% (averaging -7%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. Because the high end of the Company's range of historical adverse development comes from certain businesses that the Company has since exited, the Company believes that the industry's range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Property reserves represent approximately 3% of the Company's total claims and claim adjustment expense reserves.
The Company's change in reserve estimate for this product line was 3% for 2011, 0% for 2010 and -8% for 2009. The 2011 change reflected unfavorable loss development driven by late reporting of hail claims incurred in 2010. The 2009 change was attributable to several factors, including improved legal and judicial environments, and enhanced risk control, underwriting and claim process initiatives. Also contributing to the change was improvement in the litigation environment relating to, and ongoing claim settlements for, Hurricane Katrina.
The commercial automobile product line is a mix of property and liability coverages and, therefore, includes both short and long tail coverages. The payments that are made quickly typically pertain to auto physical damage (property) claims and property damage (liability) claims. The payments that take
longer to finalize and are more difficult to estimate relate to bodily injury claims. In general, claim reporting lags are minor, claim complexity is not a major issue, and the line is viewed as high frequency, low to moderate severity. Overall, the claim liabilities for this line create a moderate estimation risk.
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for commercial automobile, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.2% increase (decrease) in claims and claim adjustment expense reserves.
The Company's change in reserve estimate for this product line was 5% for 2011, -1% for 2010 and -6% for 2009. The 2011 change reflected worse than expected severity for the 2009 and 2010 accident years. The 2009 change was a result of better than expected loss development, primarily for recent accident years, which was attributable to several factors, including improved legal and judicial environments, and enhanced risk control, underwriting and claim process initiatives.
•Changes in the interpretations and processes of the workers' compensation commissions' oversight of claims(1)
•Mortality trends of injured workers with lifetime benefits and medical treatment
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for workers' compensation, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.3% increase (decrease) in claims and claim adjustment expense reserves.
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for fidelity and surety, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.3% increase (decrease) in claims and claim adjustment expense reserves.
•Changes in the use of credit data for rating and underwriting
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for personal automobile, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.1% increase (decrease) in claims and claim adjustment expense reserves.
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for homeowners and personal lines other, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.1% increase (decrease) in claims and claim adjustment expense reserves.
Company, and from -8% to 11% (averaging -3%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Homeowners and personal lines other reserves represent approximately 3% of the Company's total claims and claim adjustment expense reserves.
Due to changes in the business mix for this line over time, the recently incurred claim liabilities are relatively short term (due to both the products and the jurisdictions involved, e.g., the Republic of Ireland and the United Kingdom), while the older liabilities include some from runoff operations that are extremely long tail (e.g., U.S. excess liabilities reinsured through the London market, and several underwriting pools in runoff). The speed of claim reporting and claim settlement is a function of the specific coverage provided, the jurisdiction, the distribution system (e.g., underwriting pool versus direct) and the proximity of the insurance sale to the insured hazard (e.g., insured and insurer located in different countries). In particular, liabilities arising from the underwriting pools in runoff may result in significant reporting lags, settlement lags and claim complexity, due to the need to coordinate with other pool members or co-insurers through a broker or lead-insurer for claim settlement purposes.
above, provided that reserves relating to insured hazards outside the United States are analyzed taking into account differences in the legal environment and differences in terms and conditions, including, for example and where applicable, that in some jurisdictions there are no aggregate policy limits on certain liability coverages. Where the underlying hazard is within the U.S., the coverage involved is typically that of General Liability and Property, but on an excess or excess-of-loss reinsurance basis. Excess exposure requires the insured to "prove" not only claims under the policy, but also the prior payment of claims reaching up to the excess policy's attachment point.
The reinsurance agreements that the Company entered into as part of its catastrophe bond programs are dual trigger contracts and meet the requirements to be accounted for as reinsurance in accordance with guidance for accounting for reinsurance contracts. The Company's catastrophe bond programs are described in more detail in "Item 1 - Business-Catastrophe Reinsurance."
Recoverables attributable to structured settlements relate primarily to personal injury claims, of which workers' compensation claims comprise a significant portion, for which the Company has purchased annuities and remains contingently liable in the event of a default by the companies issuing the annuities. Recoverables attributable to mandatory pools and associations relate primarily to workers' compensation service business. These recoverables are supported by the participating
insurance companies' obligation to pay a pro rata share based on each company's voluntary market share of written premium in each state in which it is a pool participant. In the event a member of a mandatory pool or association defaults on its share of the pool's or association's obligations, the other members' share of such obligation increases proportionally.
On August 20, 2010, in a reinsurance dispute in New York state court captioned United States Fidelity & Guaranty Company v. American Re-Insurance Company, et al., the trial court granted summary judgment for United States Fidelity and Guaranty Company (USF&G), a subsidiary of the Company, and on October 25, 2010, entered judgment against American Re-Insurance Company, a subsidiary of Munich Re (American Re) and three other reinsurers, awarding USF&G $251 million plus pre-judgment interest in the amount of $169 million. The judgment, including the award of interest, was appealed to the New York Supreme Court, Appellate Division, First Department. On January 24, 2012, the Appellate Division affirmed the judgment, which, as of that date, totaled $467 million, comprising the judgment of $251 million and interest of $216 million (including post-judgment interest). Post-judgment interest continues to accrue (without compounding) at the rate of 9% until the judgment is paid. On January 30, 2012, the reinsurers filed a motion with the Appellate Division seeking permission to appeal its decision to the New York Court of Appeals. Whether the Appellate Division grants permission to appeal is within its discretion. The $251 million awarded by the court represents the amount owed to USF&G under the terms of the disputed reinsurance agreements and is reported as part of reinsurance recoverables in the Company's consolidated balance sheet. The interest awarded by the Court, including post-judgment interest, is treated for accounting purposes as a gain contingency in accordance with FASB Topic 450, Contingencies, and accordingly has not been recognized in the Company's consolidated financial statements.
The Company's estimates of fair value for financial assets and financial liabilities are based on the framework established in the fair value accounting guidance. The framework is based on the inputs used in valuation, gives the highest priority to quoted prices in active markets, and requires that observable inputs be used in the valuations when available. The disclosure of fair value estimates in the fair value accounting guidance hierarchy is based on whether the significant inputs into the valuation are observable. In determining the level of the hierarchy in which the estimate is disclosed, the highest priority is given to unadjusted quoted prices in active markets and the lowest priority to unobservable inputs that reflect the Company's significant market assumptions. The level in the fair value hierarchy within which the fair value measurement is reported is based on the lowest level input that is significant to the measurement in its entirety. The three levels of the hierarchy are as follows:
The fair value of a financial instrument is the estimated amount at which the instrument could be exchanged in an orderly transaction between knowledgeable, unrelated, willing parties, i.e., not in a
The Company reviews the estimates of fair value provided by the pricing service and compares the estimates to the Company's knowledge of the market to determine if the estimates obtained are representative of the prices in the market. In addition, the Company has periodic discussions with the
pricing service to discuss any changes in their process and reactions to overall markets. The Company produces a report monthly that lists all price changes from the previous month in excess of 10%. The Company reviews the report and will challenge any prices deemed not to be representative of fair value. In addition, the Company has implemented various other processes including randomly selecting purchased or sold securities and comparing execution prices to the estimates from the pricing service as well as reviewing reports that contain securities whose valuation did not change from their previous valuation (stale price review). The Company also uses an additional independent pricing service to further test the primary pricing service's valuation of the Company's fixed maturity portfolio. These processes have not highlighted any significant issues with the fair value estimates received from the pricing service.
See note 1 of notes to the Company's consolidated financial statements for a discussion of impairments of goodwill and other intangible assets.
•its results of operations and financial condition (including, among other things, premium volume, premium rates, net and operating income, investment income and performance, return on equity, and expected current returns and combined ratios);
•the impact of emerging claims issues as well as other insurance and non-insurance litigation;
Consolidated Statement of Cash Flows for the years ended December 31, 2011, 2010 and
We have audited the accompanying consolidated balance sheet of The Travelers Companies, Inc. and subsidiaries (the Company) as of December 31, 2011 and 2010, and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2011. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), The Travelers Companies, Inc. and subsidiaries' internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 16, 2012 expressed an unqualified opinion on the effectiveness of the Company's internal control over financial reporting.
In April 2011, the FASB issued updated guidance to clarify whether a modification or restructuring of a receivable is considered a troubled debt restructuring, i.e., whether the creditor has granted a concession and whether the debtor is experiencing financial difficulties. A modification or restructuring that is considered a troubled debt restructuring will result in the creditor having to account for the receivable as being impaired and will also result in additional disclosure of the creditors' troubled debt restructuring activities. The provisions of the guidance were effective for the quarter ended September 30, 2011 on a retrospective basis to the beginning of the year. The adoption of this guidance did not have any effect on the Company's results of operations, financial position or liquidity.
In October 2010, the FASB issued updated guidance to address diversity in practice for the accounting for costs associated with acquiring or renewing insurance contracts. This guidance modifies the definition of acquisition costs to specify that a cost must be directly related to the successful acquisition of a new or renewal insurance contract in order to be deferred. If application of this guidance would result in the capitalization of acquisition costs that had not previously been capitalized by a reporting entity, the entity may elect not to capitalize those costs.
The updated guidance is effective for the quarter ending March 31, 2012. The adoption of this guidance is not expected to have any effect on the Company's results of operations, financial position or liquidity.
In June 2011, the FASB issued updated guidance to increase the prominence of items reported in other comprehensive income by eliminating the option of presenting components of comprehensive income as part of the statement of changes in shareholders' equity. The updated guidance requires that all nonowner changes in shareholders' equity be presented either as a single continuous statement of comprehensive income or in two separate but consecutive statements. The updated guidance is to be applied retrospectively and is effective for the quarter ending March 31, 2012. Early adoption is permitted.
The updated guidance will result in a change in the presentation of the Company's consolidated financial statements but will not have any impact on the Company's results of operations, financial position or liquidity.
The Company's real estate investments include warehouses, office buildings and other commercial land and properties that are directly owned. Real estate is recorded on the purchase date at the purchase price, which generally represents fair value, and is supported by internal analysis or external appraisals, using discounted cash flow analyses and other acceptable valuation techniques. Real estate held for investment purposes is subsequently carried at cost less accumulated depreciation. Buildings are depreciated on a straight-line basis over the shorter of the expected useful life of the building or 39 years. Real estate held for sale is carried at lower of cost or fair value, less estimated cost to sell.
Also included in other investments are common stock with transfer restrictions, non-public common and preferred equities, mortgage loans, trading securities and derivatives. Common stock with transfer restrictions and non-public common and preferred equities are reported at fair value with changes in fair value, net of income taxes, charged or credited directly to accumulated other changes in equity from nonowner sources. Mortgage loans are carried at amortized cost. Trading securities are marked to market with the change in fair value recognized in net investment income during the current period. The Company's derivative financial instruments are carried at fair value, with the changes in fair value reflected in the consolidated statement of income in net realized investment gains (losses). For a further discussion of the derivatives used by the Company, see note 3.
For fixed maturity investments that the Company does not intend to sell or for which it is more likely than not that the Company would not be required to sell before an anticipated recovery in value, the Company separates the credit loss component of the impairment from the amount related to all other factors and reports the credit loss component in net realized investment gains (losses). The impairment related to all other factors is reported in accumulated other changes in equity from nonowner sources.
For equity securities (including public common, non-redeemable preferred stock and common stock with transfer restrictions) and for fixed maturity investments the Company intends to sell or for which it is more likely than not that the Company will be required to sell before an anticipated recovery in value, the full amount of the impairment is included in net realized investment gains (losses).
For structured fixed maturity securities (primarily residential and commercial mortgage-backed securities, collateralized mortgage obligations and pass-through securities), the Company estimates the present value of the security by projecting future cash flows of the assets underlying the securitization, allocating the flows to the various tranches based on the structure of the securitization, and determining the present value of the cash flows using the effective yield of the security at the date of acquisition (or the most recent implied rate used to accrete the security if the implied rate has changed as a result of a previous impairment or changes in expected cash flows). The Company incorporates levels of delinquencies, defaults and severities as well as credit attributes of the remaining assets in the securitization, along with other economic data, to arrive at its best estimate of the parameters applied to the assets underlying the securitization. In order to project cash flows, the following assumptions are applied to the assets underlying the securitization: (1) voluntary prepayment rates, (2) default rates and
The Company performs a review, on at least an annual basis, of goodwill held by the reporting units which are the Company's three operating and reportable segments: Business Insurance; Financial, Professional & International Insurance; and Personal Insurance. The Company estimates the fair value
of its reporting units and compares it to their carrying value, including goodwill. If the carrying values of the reporting units were to exceed their fair value, the amount of the impairment would be calculated and goodwill adjusted accordingly.
The Company uses a discounted cash flow model to estimate the fair value of its reporting units. The discounted cash flow model is an income approach to valuation that is based on a detailed cash flow analysis for deriving a current fair value of reporting units and is representative of the Company's reporting units' current and expected future financial performance. Other indefinite-lived intangible assets held by the Company are also reviewed for impairment on at least an annual basis. The classification of the asset as indefinite-lived is reassessed and an impairment is recognized if the carrying amount of the asset exceeds its fair value.
Included in other liabilities in the consolidated balance sheet is the Company's estimate of its liability for guaranty fund and other insurance-related assessments. The liability for expected state guaranty fund and other premium-based assessments is recognized as the Company writes or becomes obligated to write or renew the premiums on which the assessments are expected to be based. The liability for loss-based assessments is recognized as the related losses are incurred. At December 31, 2011 and 2010, the Company had a liability of $293 million and $294 million, respectively, for guaranty
Also included in other liabilities is an accrual for policyholder dividends. Certain insurance contracts, primarily workers' compensation, are participating whereby dividends are paid to policyholders in accordance with contract provisions. Net written premiums for participating dividend policies were approximately 1% of total Company net written premiums for each of the years ended December 31, 2011, 2010 and 2009. Policyholder dividends are accrued against earnings using best available estimates of amounts to be paid. The liability accrued for policyholder dividends totaled $54 million and $45 million at December 31, 2011 and 2010, respectively.
The Company's insurance subsidiaries, domiciled principally in the state of Connecticut, prepare statutory financial statements in accordance with the accounting practices prescribed or permitted by the insurance departments of the states of domicile. Prescribed statutory accounting practices are those practices that are incorporated directly or by reference in state laws, regulations, and general administrative rules applicable to all insurance enterprises domiciled in a particular state. Permitted statutory accounting practices include practices not prescribed by the domiciliary state, but allowed by the domiciliary state regulatory authority. The impact of any permitted accounting practices on policyholders' surplus of the Company is not material.
subsequent year of account (normally the following year of account) in consideration for which all subsequent underwriting transactions resulting from the closing year and all previous years reinsured therein are brought forward to (accepted by) the subsequent year of account.
The amount of the assets received in an RITC is equal to the accepted claims including incurred but not reported (IBNR) claims and is undiscounted for the time value of money. Accordingly, there is no gain or loss at the time the assets and liabilities are acquired and recognized by the subsequent year of account. In addition, there is no impact on reported premiums and losses as a result of an RITC transaction.
The Company assigns functional currencies to its foreign operations, which are generally the currencies of the local operating environment. Foreign currency amounts are remeasured to the functional currency, and the resulting foreign exchange gains or losses are reflected in earnings. Functional currency amounts are then translated into U.S. dollars. The foreign currency remeasurement and translation are calculated using current exchange rates for items reported in the balance sheets and average exchange rates for items recorded in earnings. The change in unrealized foreign currency translation gain or loss during the year, net of tax, is a component of accumulated other changes in equity from nonowner sources.
•National Accounts provides large companies with casualty products and services, including workers' compensation, general liability and automobile liability, as well as property coverages, generally utilizing loss-sensitive products, on both a bundled and unbundled basis. National Accounts also includes the Company's commercial residual market business, which primarily offers workers' compensation products and services to the involuntary market.
•Technology serves small to large companies involved in telecommunications, information technology, medical technology and electronics manufacturing, offering a comprehensive portfolio of products and services. Products offered include property, commercial auto, general liability, workers' compensation, umbrella, internet liability, technology errors and omissions coverages and global companion products.
•Oil & Gas provides specialized property and liability products and services for customers involved in the exploration and production of oil and natural gas, including operators and drilling contractors, as well as various service and supply companies and manufacturers that support upstream operations. The policies written by this business group cover risks including physical damage, liability and business interruption.
•Inland Marine provides insurance for goods in transit and movable objects for customers such as jewelers, museums, contractors and the transportation industry. Builders' risk insurance is also offered to customers during the construction, renovation or repair of buildings and other structures.
•Global Underwriting provides insurance to foreign organizations with property and liability exposures located in the United States (reverse-flow), as part of a global program.
Business Insurance also includes the Special Liability Group (which manages the Company's asbestos and environmental liabilities) and the assumed reinsurance and certain international and other runoff operations, which collectively are referred to as Business Insurance Other.
The Financial, Professional & International Insurance segment includes surety and financial liability coverages, which primarily use credit-based underwriting processes, as well as property and casualty products that are primarily marketed on a domestic basis in the United Kingdom, Canada and the Republic of Ireland, and on an international basis through Lloyd's. The segment includes the following groups:
On June 17, 2011, the Company acquired 43% of the common stock of J. Malucelli Participações em Seguros e Resseguros S.A ("JMalucelli"). JMalucelli is currently the market leader in surety in
Automobile policies provide coverage for liability to others for both bodily injury and property damage, uninsured motorist protection, and for physical damage to an insured's own vehicle from collision. In addition, many states require policies to provide first-party personal injury protection, frequently referred to as no-fault coverage.
and retirement of a significant portion of its 6.25% fixed-to-floating rate junior subordinated debentures. Interest Expense and Other in 2009 included a benefit of $28 million from the favorable resolution of various prior year tax matters.
Proceeds from sales of fixed maturities classified as available for sale were $1.16 billion, $3.71 billion and $2.81 billion in 2011, 2010 and 2009, respectively. Gross gains of $63 million, $106 million and $119 million and gross losses of $10 million, $11 million and $19 million were realized on sales in 2011, 2010 and 2009, respectively.
At December 31, 2011 and 2010, the Company's insurance subsidiaries had $4.70 billion and $4.51 billion, respectively, of securities on deposit at financial institutions in certain states pursuant to the respective states' insurance regulatory requirements. Funds deposited with third parties to be used as collateral to secure various liabilities on behalf of insureds, cedants and other creditors had a fair value of $90 million and $86 million at December 31, 2011 and 2010, respectively. Other investments pledged as collateral securing outstanding letters of credit had a fair value of $59 million and $88 million at December 31, 2011 and 2010, respectively.
In 2011 and 2009, there were no sales of real estate investments. Proceeds from the sale of real estate investments totaled $10 million in 2010. Gross gains of $3 million were realized on those sales and there were no gross losses. The Company had no real estate held for sale at December 31, 2011 and 2010. Accumulated depreciation on real estate held for investment purposes was $226 million and $200 million at December 31, 2011 and 2010, respectively.
Future minimum rental income expected on operating leases relating to the Company's real estate properties is $80 million, $72 million, $62 million, $53 million, $36 million for 2012, 2013, 2014, 2015 and 2016, respectively, and $56 million for 2017 and thereafter.
The Company's short-term securities consist of Aaa-rated registered money market funds, U.S. Treasury securities and high-quality commercial paper (primarily A1/P1) with a combined average of 79 days to maturity at December 31, 2011. The amortized cost of these securities, which totaled $3.59 billion and $5.62 billion at December 31, 2011 and 2010, respectively, approximated their fair value.
In the second quarter of 2009, the Company adopted updated accounting guidance that changed the reporting of other-than-temporary impairments (OTTI). As a result, the credit component of OTTI on fixed maturities was reported separately effective April 1, 2009, the date of adoption.
The following tables present a roll-forward of the credit component of OTTI on fixed maturities recognized in the consolidated statement of income for which a portion of the OTTI was recognized in
accumulated other changes in equity from nonowner sources for the years ended December 31, 2011 and 2010:
The Company uses U.S. Treasury note futures transactions to modify the effective duration of specific assets within the investment portfolio and enters into 90-day futures contracts on 2-year, 5-year, 10-year and 30-year U.S. Treasury notes which require a daily mark-to-market and settlement with the broker. The notional value of the open U.S. Treasury futures contracts was $900 million and $400 million at December 31, 2011 and 2010, respectively. Net realized investment gains in 2011, 2010 and 2009 included net losses of $62 million, net losses of $30 million and net gains of $23 million, respectively, related to U.S. Treasury futures contracts.
For investments that have quoted market prices in active markets, the Company uses the unadjusted quoted market prices as fair value and includes these prices in the amounts disclosed in Level 1 of the hierarchy. The Company receives the quoted market prices from a third party, nationally recognized pricing service (pricing service). When quoted market prices are unavailable, the Company utilizes a pricing service to determine an estimate of fair value, which is mainly used for its fixed
The Company also holds certain fixed maturity investments which are not priced by the pricing service and estimates the fair value of such fixed maturities using an internal matrix that is based on market information regarding interest rates, credit spreads and liquidity. The underlying source data for calculating the matrix of credit spreads relative to the U.S. Treasury curve are the BofA Merrill Lynch U.S. Corporate Index and the BofA Merrill Lynch High Yield BB Rated Index. The Company includes the fair value estimates of these corporate bonds in Level 2, since all significant inputs are market observable.
At December 31, 2010, the estimated fair value of stocks having transfer restrictions that expired within one year was determined by adjusting the observed market price of the securities for a liquidity discount which takes into consideration the restrictions that existed at December 31, 2010 and was based on market observable inputs. As a result of adjusting the market price to reflect the impact of the transfer restrictions on estimated fair value, the Company disclosed these holdings in Level 2 at December 31, 2010. At December 31, 2011, the Company held no stocks having transfer restrictions that expired within one year.
The Company had no financial assets or financial liabilities that were measured at fair value on a non-recurring basis during the years ended December 31, 2011 and 2010.
The carrying value and fair value of the Company's debt at December 31, 2011 was $6.61 billion and $7.71 billion, respectively. The respective totals at December 31, 2010 were $6.61 billion and $7.21 billion. The Company utilized a pricing service to estimate fair value measurements for approximately 93% and 94% of its debt, other than commercial paper, at December 31, 2011 and 2010, respectively. The pricing service utilizes market quotations for debt that have quoted prices in active markets. For the small amount of the Company's debt securities for which a pricing service is not used, the Company utilizes pricing estimates from a nationally recognized broker/dealer to estimate fair value. If estimates of fair value are unavailable from the pricing service or the broker/dealer, the
The Company's consolidated financial statements reflect the effects of assumed and ceded reinsurance transactions. Assumed reinsurance refers to the acceptance of certain insurance risks that other insurance companies have underwritten. Ceded reinsurance involves transferring certain insurance risks (along with the related written and earned premiums) the Company has underwritten to other insurance companies who agree to share these risks. The primary purpose of ceded reinsurance is to protect the Company, at a cost, from losses in excess of the amount it is prepared to accept. Reinsurance is placed on both a quota-share and excess of loss basis. Ceded reinsurance arrangements do not discharge the Company as the primary insurer, except for instances where the primary policy or policies have been novated.
The Company evaluates and monitors the financial condition of its reinsurers under voluntary reinsurance arrangements to minimize its exposure to significant losses from reinsurer insolvencies. In addition, in the ordinary course of business, the Company may become involved in coverage disputes with its reinsurers. Some of these disputes could result in lawsuits and arbitrations brought by or against the reinsurers to determine the Company's rights and obligations under the various reinsurance agreements. The Company employs dedicated specialists and strategies to manage reinsurance collections and disputes.
Also included in reinsurance recoverables are certain amounts related to structured settlements. Structured settlements are annuities purchased from various life insurance companies to settle certain personal physical injury claims, of which workers' compensation claims comprise a significant portion. In cases where the Company did not receive a release from the claimant, the structured settlement is included in reinsurance recoverables as the Company retains the contingent liability to the claimant. In the event that the life insurance company fails to make the required annuity payments, the Company would be required to make such payments if and to the extent not paid by state guaranty associations.
Ceded premiums included the premiums paid to Longpoint Re Ltd. and Longpoint Re Ltd. II for coverage under the Company's catastrophe bond programs.
The Terrorism Risk Insurance Program (the Program) is a Federal program administered by the Department of the Treasury that provides for a system of shared public and private compensation for certain insured losses resulting from acts of terrorism or war committed by or on behalf of a foreign interest. The Program has been authorized through 2014.
In order for a loss to be covered under the Program (subject losses), the loss must meet certain aggregate industry loss minimums and must be the result of an event that is certified as an act of terrorism by the U.S. Secretary of the Treasury, in concurrence with the Secretary of State and the Attorney General of the United States. The annual aggregate industry loss minimum is $100 million through 2014. The Program excludes from participation the following types of insurance: Federal crop
insurance, private mortgage insurance, financial guaranty insurance, medical malpractice insurance, health or life insurance, flood insurance, reinsurance, commercial automobile, professional liability (other than directors and officers'), surety, burglary and theft, and farm-owners multi-peril. In the case of a war declared by Congress, only workers' compensation losses are covered by the Program. All commercial property and casualty insurers licensed in the United States are generally required to participate in the Program. Under the Program, a participating insurer is entitled to be reimbursed by the Federal Government for 85% of subject losses, after an insurer deductible, subject to an annual cap.
The following presents a summary of the Company's other intangible assets by major asset class at December 31, 2011 and 2010:
(1)The fair value adjustment of $191 million was recorded in connection with the merger of The St. Paul Companies, Inc. and Travelers Property Casualty Corp. in 2004 and was based on management's estimate of nominal claims and claim adjustment expense reserves and reinsurance recoverables (after adjusting for conformity with the acquirer's accounting policy on discounting of workers' compensation reserves), expected payment patterns, the April 1, 2004 U.S. Treasury spot rate yield curve, a leverage ratio assumption (reserves to statutory surplus), and a cost of capital expressed as a spread over risk-free rates. The method used calculates a risk adjustment to a risk-free discounted reserve that will, if reserves run off as expected, produce results that yield the assumed cost-of-capital on the capital supporting the loss reserves. The fair value adjustment is reported as an other intangible asset on the consolidated balance sheet, and the amounts measured in accordance with the acquirer's accounting policies for insurance contracts are reported as part of the claims and claim adjustment expense reserves and reinsurance recoverables. The intangible asset will be recognized into income over the expected payment pattern. Because the time value of money and the risk adjustment (cost of capital) components of the intangible asset run off at different rates, the amount recognized in income may be a net benefit in some periods and a net expense in other periods.
In 2011, estimated claims and claim adjustment expenses incurred included $842 million of net favorable development for claims arising in prior years, including $715 million of net favorable prior year reserve development impacting the Company's results of operations, which excludes $45 million of accretion of discount. Overall, accident years prior to and including 2009 experienced $1.10 billion of net favorable reserve development, while the 2010 accident year experienced $383 million of net unfavorable reserve development.
Business Insurance. Net favorable prior year reserve development in 2010 totaled $901 million, driven by better than expected loss development in the property, general liability (excluding increases to asbestos and environmental reserves discussed below) and workers' compensation product lines for multiple accident years, as well as in assumed reinsurance, which is in runoff. The property product line improvement primarily occurred in the 2008 and 2009 accident years as a result of better than expected loss development in Industry-Focused Underwriting and Target Risk Underwriting. The general liability product line improvement was concentrated in excess coverages for accident years 2006 and prior and reflected what the Company believes are more favorable legal and judicial environments than what the Company previously expected. Net favorable prior year reserve development in the workers' compensation product line was concentrated in accident years 2007 and prior and resulted from better than expected loss development. The improvement in assumed reinsurance resulted primarily from favorable resolutions of claims and disputes from accident years 2002 and prior. In addition, better than expected loss development in the Business Insurance segment in recent years resulted in a favorable re-estimation of reserves for unallocated loss adjustment expenses in 2010. The net favorable prior year reserve development in these product lines in 2010 was partially offset by $140 million and $35 million increases to asbestos and environmental reserves, respectively.
Financial, Professional & International Insurance. Net favorable prior year reserve development totaled $259 million in 2010. In Bond & Financial Products, net favorable prior year reserve development in 2010 was driven by better than expected loss development in the surety and management liability lines of business due to lower than expected claim activity and loss severity in the 2008 and prior accident years. In International, the majority of net favorable prior year reserve development in 2010 occurred at the Company's operation at Lloyd's, in Canada and in the United Kingdom.
Business Insurance. Net favorable prior year reserve development totaled $1.03 billion in 2009, driven by better than expected loss development primarily concentrated in the general liability (excluding increases to asbestos and environmental reserves discussed below), commercial multi-peril, commercial automobile and commercial property product lines for recent accident years. The general liability and commercial multi-peril product lines experienced better than anticipated loss development that was attributable to several factors, including what the Company believes is improved legal and judicial environments, as well as enhanced risk control, underwriting and claim process initiatives. The commercial automobile line of business experienced better than expected loss development that was attributable to what the Company believes are more favorable legal and judicial environments than what the Company previously expected, claim handling initiatives and improvements in auto safety technology. The commercial property product line improvement primarily occurred in the 2007 and 2008 accident years as a result of better than expected loss development for certain large national property and inland marine exposures. In addition, the commercial property product line's 2005 accident year experience improved due to the litigation environment relating to, and ongoing claim settlements for, Hurricane Katrina. The net favorable prior year reserve development in these product lines in 2009 was partially offset by a $185 million increase to asbestos reserves and a $70 million increase to environmental reserves.
In the third quarter of 2011, the Company completed its annual in-depth asbestos claim review and noted the following trends:
•a further decrease in the number of large asbestos exposures confronting the Company due to additional settlement activity;
level of litigation activity in a limited number of jurisdictions where individuals alleging serious asbestos-related injury continue to target previously peripheral defendants.
The completion of these reviews and analyses in 2011 and 2010 resulted in $175 million and $140 million increases, respectively, in the Company's net asbestos reserves, primarily driven by increases in the Company's estimate of projected settlement and defense costs related to a broad number of policyholders and higher projected payments on assumed reinsurance accounts. The increase in the estimate of projected settlement and defense costs resulted from recent payment trends being moderately higher than previously anticipated due to the impact of the current litigation environment discussed above. Notwithstanding these trends, the Company's overall view of the underlying asbestos environment is essentially unchanged from recent periods. The increase in 2010 also reflected increases in costs of litigating asbestos-related coverage matters and was partially offset by a $70 million benefit from the reduction in the allowance for uncollectible reinsurance resulting from a favorable ruling related to a reinsurance dispute. In 2009, the Company recorded a $185 million increase in asbestos reserves, primarily driven by a slight increase in the Company's assumption for projected defense costs related to many policyholders.
The Company continues to receive notices from policyholders tendering claims for the first time. These policyholders continue to present smaller exposures, have fewer sites and are lower tier defendants. Further, in many instances, clean-up costs have been reduced because regulatory agencies are willing to accept risk-based site analyses and more efficient clean-up technologies. Over the past several years, the Company has experienced generally favorable trends in overall environmental claim payments, in the number of new policyholders tendering environmental claims for the first time and in the number of pending declaratory judgment actions relating to environmental matters. However, in 2011, the Company increased its net environmental reserves by $76 million, primarily because the degree to which those favorable trends continued was less than anticipated. In 2010, the Company
increased its net environmental reserves by $35 million due to a modest upward development in the expected defense and settlement costs for certain of its pending policyholders. The Company increased its net environmental reserves by $70 million in 2009, due to a slight increase in the number of policyholders tendering claims for the first time and upward development in the expected defense and settlement costs for certain of its pending policyholders.
Asbestos and Environmental Reserves. As a result of the processes and procedures described above, management believes that the reserves carried for asbestos and environmental claims at December 31, 2011 are appropriately established based upon known facts, current law and management's judgment. However, the uncertainties surrounding the final resolution of these claims continue, and it is difficult to determine the ultimate exposure for asbestos and environmental claims and related litigation. As a result, these reserves are subject to revision as new information becomes available and as claims develop. The continuing uncertainties include, without limitation, the risks and lack of predictability inherent in complex litigation, any impact from the bankruptcy protection sought by various asbestos producers and other asbestos defendants, a further increase or decrease in the cost to resolve, and/or the number of, asbestos and environmental claims beyond that which is anticipated, the role of any umbrella or excess policies the Company has issued, the resolution or adjudication of disputes pertaining to the amount of available coverage for asbestos and environmental claims in a manner inconsistent with the Company's previous assessment of these claims, the number and outcome of direct actions against the Company, future developments pertaining to the Company's ability to recover reinsurance for asbestos and environmental claims and the unavailability of other insurance sources potentially available to policyholders, whether through exhaustion of policy limits or through the insolvency of other participating insurers. In addition, uncertainties arise from the insolvency or bankruptcy of policyholders and other defendants. It is also not possible to predict changes in the legal, regulatory and legislative environment and their impact on the future development of asbestos and environmental claims. This environment could be affected by changes in applicable legislation and future court and regulatory decisions and interpretations, including the outcome of legal challenges to legislative and/or judicial reforms establishing medical criteria for the pursuit of asbestos claims. It is also difficult to predict the ultimate outcome of complex coverage disputes until settlement negotiations near completion and significant legal questions are resolved or, failing settlement, until the dispute is adjudicated. This is particularly the case with policyholders in bankruptcy where negotiations often involve a large number of claimants and other parties and require court approval to be effective. As part of its continuing analysis of asbestos and environmental reserves, the Company continues to study the implications of these and other developments.
2010 Debt Issuance-On November 1, 2010, the Company issued $500 million aggregate principal amount 3.90% senior notes that will mature on November 1, 2020, and $750 million aggregate principal amount 5.35% senior notes that will mature on November 1, 2040. The net proceeds of these issuances, after original issuance discount and the deduction of underwriting expenses and commissions and other expenses, totaled approximately $496 million and $738 million, respectively. Interest on the senior notes is payable semi-annually in arrears on November 1 and May 1 of each year. The senior notes are redeemable in whole at any time or in part from time to time, at the Company's option, at a redemption price equal to the greater of (a) 100% of the principal amount of senior notes to be
redeemed or (b) the sum of the present values of the remaining scheduled payments of principal and interest on the senior notes to be redeemed (exclusive of interest accrued to the date of redemption) discounted to the date of redemption on a semi-annual basis (assuming a 360-day year consisting of twelve 30-day months) at the then current Treasury rate (as defined) plus 15 basis points for the 2020 senior notes and 20 basis points for the 2040 notes.
2010 Debt Payments and Maturities-Prior to November 2010, the Company was subject to a replacement capital covenant that it had granted to the holders of its 6.75% senior notes due June 20, 2036 (the senior notes). The replacement capital covenant restricted the Company's ability to repurchase its $1.00 billion in outstanding 6.25% fixed-to-floating rate junior subordinated debentures due March 15, 2067 (the debentures). In November 2010, the Company paid approximately $4 million to holders of the senior notes to terminate the replacement capital covenant. Following the termination, the Company purchased approximately $885 million aggregate principal amount of the debentures. A $60 million pretax loss was recognized in 2010 related to these transactions.
for five consecutive years or, if earlier, made a payment of current interest during a deferral period. The Company may defer interest for up to ten consecutive years without giving rise to an event of default. Deferred interest will accumulate additional interest at an annual rate equal to the annual interest rate then applicable to the debentures.
On April 1, 2004, The Travelers Companies, Inc. fully and unconditionally guaranteed the payment of all principal, premiums, if any, and interest on certain debt obligations of its subsidiaries TPC and
The Company's board of directors has approved common share repurchase authorizations under which repurchases may be made from time to time in the open market, pursuant to pre-set trading plans meeting the requirements of Rule 10b5-1 under the Securities Exchange Act of 1934, in private transactions or otherwise. The authorizations do not have a stated expiration date. The timing and actual number of shares to be repurchased in the future will depend on a variety of factors, including the Company's financial position, earnings, share price, catastrophe losses, funding of the Company's qualified pension plan, capital requirements of the Company's operating subsidiaries, legal requirements, regulatory constraints, other investment opportunities (including mergers and acquisitions), market conditions and other factors. The following table summarizes repurchase activity in 2011 and remaining repurchase capacity at December 31, 2011.
The current income tax receivable was $119 million at December 31, 2011 and is included in other assets in the consolidated balance sheet. The current income tax payable was $265 million at December 31, 2010 and is included in other liabilities in the consolidated balance sheet.
For tax return purposes, as of December 31, 2011, the Company had net operating loss (NOL) carryforwards on a regular tax basis and an alternative minimum tax (AMT) basis of approximately $59 million and $14 million, respectively. These NOL carryforwards expire, if unused, in 2018. In addition, the Company has AMT credit carryforwards of $95 million which are available to reduce future federal regular income taxes over an indefinite period. The amount and timing of realizing the benefits of NOL and AMT credit carryforwards depend on future taxable income and limitations imposed by tax laws. The benefits of the NOL and AMT credit carryforwards have been recognized in the consolidated financial statements and are included in net deferred tax assets.
U.S. income taxes have not been recognized on $649 million of the Company's foreign operations' undistributed earnings as of December 31, 2011, as such earnings are intended to be permanently reinvested in those operations. Furthermore, any taxes paid to foreign governments on these earnings may be used as credits against the U.S. tax on any dividend distributions from such earnings.
The following is a reconciliation of the beginning and ending amount of unrecognized tax benefits for the years ended December 31, 2011 and 2010:
Included in the balances at December 31, 2011 and 2010 were $2 million and $3 million, respectively, of unrecognized tax benefits that, if recognized, would affect the annual effective tax rate. Also included in the balances at those dates were $35 million and $100 million, respectively, of tax positions for which the ultimate deductibility is certain, but for which there is uncertainty about the timing of deductibility. The timing of such deductibility would not affect the annual effective tax rate.
The Company recognizes accrued interest and penalties, if any, related to unrecognized tax benefits in income taxes. During the years ended December 31, 2011 and 2010, the Company recognized approximately $(122) million and $79 million in interest, respectively. The Company had approximately $48 million and $170 million accrued for the payment of interest at December 31, 2011 and 2010, respectively.
The 2004 Incentive Plan is the only plan pursuant to which future stock-based awards may be granted. In addition to the 35 million shares initially authorized for issuance under the 2004 Incentive Plan, the following will not be counted towards the 35 million shares available and will be available for future grants under the 2004 Incentive Plan: (i) shares of common stock subject to an award that expires unexercised, that is forfeited, terminated or canceled, that is settled in cash or other forms of property, or otherwise does not result in the issuance of shares of common stock, in whole or in part; (ii) shares that are used to pay the exercise price of stock options and shares used to pay withholding taxes on awards generally; and (iii) shares purchased by the Company on the open market using cash option exercise proceeds; provided, however, that the increase in the number of shares of common stock available for grant pursuant to such market purchases shall not be greater than the number that could be repurchased at fair market value on the date of exercise of the stock option giving rise to such option proceeds. These provisions also apply to awards granted under the legacy share-based incentive compensation plans that were outstanding on the effective date of the 2004 Incentive Plan.
The Company also has a compensation program for non-employee directors (the Director Compensation Program). Under the Director Compensation Program, non-employee directors' compensation consists of an annual retainer, a deferred stock award, committee chair fees and a lead director fee. Each non-employee director may choose to receive all or a portion of his or her annual retainer in the form of cash or deferred stock units which vest upon grant. The annual deferred stock awards vest in full one day prior to the date of the Company's annual meeting of shareholders occurring in the year following the year of the grant date, subject to continued service. Any of the deferred stock awards may accumulate, including reinvestment dividends, until distribution either in a lump sum six months after termination of service as a director or, if the director so elects, in annual installments beginning at least six months following termination of service as a director. The shares of deferred stock units issued under the Director Compensation Program are awarded under the 2004 Incentive Plan.
Stock option awards granted to eligible officers and key employees have a ten-year term. Prior to January 1, 2007, stock options were granted with an exercise price equal to the fair market value of the Company's common stock on the day preceding the date of grant. Beginning January 1, 2007, all stock options are granted with an exercise price equal to the closing price of the Company's common stock on the date of grant. The stock options granted generally vest upon meeting certain years of service criteria. Except as the Compensation Committee of the Board may allow in the future, stock options cannot be sold or transferred by the participant. The stock options granted under the 2004 Incentive Plan vest three years after grant date (cliff vest).
The following table presents additional information regarding original and reload grants for the years ended December 31, 2011, 2010 and 2009.
On February 7, 2012, the Company, under the 2004 Stock Incentive Plan, granted 2,437,433 stock option awards with an exercise price of $59.74 per share. The fair value attributable to the stock option awards on the date of grant was $12.08 per share.
The Company also has a Performance Share Awards Program pursuant to the 2004 Incentive Plan which became effective beginning in 2006. Under the program, the Company may issue performance share awards to certain employees of the Company who hold positions of Vice President (or its equivalent) or above. The performance awards provide the recipient the right to earn shares of the Company's common stock based upon the Company's attainment of certain performance goals. The performance goals for performance awards are based on the Company's adjusted return on equity over a three-year performance period. Vesting of any performance shares is contingent upon the Company attaining the relevant performance period minimum threshold return on equity. If the performance period return on equity is below the minimum threshold, none of the shares will vest. If performance meets or exceeds the minimum performance threshold, a range of performance shares will vest (50%-160% for awards granted prior to and including February 2009; 50%-150% for awards granted in February 2010; 50%-130% for awards granted in February 2011 and 50%-130% for awards granted in February 2012), depending on the actual return on equity attained.
The total fair value of shares that vested during the years ended December 31, 2011, 2010 and 2009 was $121 million, $113 million and $78 million, respectively.
On February 7, 2012, the Company, under the 2004 Stock Incentive Plan, granted 1,556,874 common stock awards in the form of restricted stock units, deferred stock and performance share
At December 31, 2011, there was $114 million of total unrecognized compensation cost related to all nonvested share-based incentive compensation awards. This includes stock options, restricted stock, restricted stock units, deferred stock and performance shares granted under the Company's 2004 Incentive Plan. The unrecognized compensation cost is expected to be recognized over a weighted-average period of 1.7 years.
The Company sponsors a qualified non-contributory defined benefit pension plan, which covers substantially all employees and provides benefits under a cash balance formula, except that employees satisfying certain age and service requirements remain covered by a prior final average pay formula. In addition, the Company sponsors a nonqualified defined benefit pension plan which covers certain
highly-compensated employees and also sponsors a postretirement health and life insurance benefit plan for employees satisfying certain age and service requirements and for certain retirees.
For pension plans with an accumulated benefit obligation in excess of plan assets, the aggregate projected benefit obligation was $2.88 billion and the aggregate accumulated benefit obligation was $2.82 billion at December 31, 2011. The fair value of plan assets for the above plans was $2.49 billion and $2.42 billion at December 31, 2011 and 2010, respectively.
The Company has discretion regarding whether to provide additional funding and when to provide such funding to its qualified pension plan. In 2011 and 2010, the Company voluntarily made contributions totaling $185 million and $35 million, respectively, to the qualified pension plan. The Company has not determined whether or not additional funding will be made during 2012. There is no required contribution to the qualified pension plan during 2012.
The following table summarizes the components of net periodic benefit cost and other amounts recognized in accumulated other changes in equity from nonowner sources related to the benefit plans for the years ended December 31, 2011, 2010 and 2009.
For the defined benefit pension plans, the estimated net actuarial loss that will be amortized from other changes in equity from nonowner sources into net periodic benefit cost over the next fiscal year is $89 million, and the estimated prior service benefit to be amortized over the next fiscal year is less than $1 million. For the postretirement benefit plans, the estimated net actuarial gain that will be amortized from other changes in equity from nonowner sources into net periodic benefit cost over the next fiscal year is less than $1 million, and there is no estimated prior service benefit or cost to be amortized over the next fiscal year.
The discount rate assumption used to determine the benefit obligation was based on a yield-curve approach. Under this approach, a weighted average yield is determined from a hypothetical portfolio of high quality fixed maturity corporate bonds (rated Aa or higher) available at the year-end valuation date for which the timing and amount of cash outflows correspond with the timing and amount of the estimated benefit payouts of the Company's benefit plan.
In choosing the expected long-term rate of return on plan assets, the Company's Pension Plan Investment Committee considered the historical returns of equity and fixed maturity markets in conjunction with prevailing economic and financial market conditions.
The following tables present the level within the fair value hierarchy at which the financial assets of the Company's pension plans are measured on a recurring basis at December 31, 2011 and 2010.
The following table presents the changes in the Level 3 fair value category for the years ended December 31, 2011 and 2010.
The Company has a savings plan, The Travelers 401(k) Savings Plan (the Savings Plan), in which substantially all Company employees are eligible to participate. Under the Savings Plan, the Company matches employee contributions up to 5% of eligible pay, with a maximum annual match of $5,000 which becomes 100% vested after three years of service. For the year ended December 31, 2011, existing employees whose annual base salary on December 31, 2010 was $175,000 or more, and employees hired during 2011 at an annual base salary of $175,000 or more, were not eligible for the Company's matching contribution. The Company's matching contribution is made in cash and invested according to the employee's current investment elections. The Company's matching contribution can be reinvested at any time into any other investment option. The total expense related to the Savings Plan was $89 million, $93 million and $98 million for the years ended December 31, 2011, 2010 and 2009, respectively.
In the ordinary course of its insurance business, the Company receives claims for insurance arising under policies issued by the Company asserting alleged injuries and damages from asbestos- and environmental-related exposures that are the subject of related coverage litigation, including, among others, the litigation described below. The Company is defending asbestos-and environmental-related litigation vigorously and believes that it has meritorious defenses; however, the outcomes of these disputes are uncertain. In this regard, the Company employs dedicated specialists and aggressive resolution strategies to manage asbestos and environmental loss exposure, including settling litigation under appropriate circumstances.
The federal bankruptcy court that had presided over the bankruptcy of TPC's former policyholder Johns-Manville Corporation issued a temporary injunction prohibiting the prosecution of the Statutory Actions (but not the Hawaii Actions), the Common Law Claims and an additional set of cases filed in various state courts in Texas and Ohio, and enjoining certain attorneys from filing any further lawsuits against TPC based on similar allegations. Notwithstanding the injunction, additional common law claims were filed against TPC.
In November 2003, the parties reached a settlement of the Statutory and Hawaii Actions. This settlement includes a lump-sum payment of up to $412 million by TPC, subject to a number of significant contingencies. In May 2004, the parties reached a settlement resolving substantially all pending and similar future Common Law Claims against TPC. This settlement requires a payment of up to $90 million by TPC, subject to a number of significant contingencies. Among the contingencies for each of these settlements is a final order of the bankruptcy court clarifying that all of these claims, and similar future asbestos-related claims against TPC, are barred by prior orders entered by the bankruptcy court ("the 1986 Orders").
Various parties appealed the district court's March 29, 2006 ruling to the U.S. Court of Appeals for the Second Circuit. On February 15, 2008, the Second Circuit issued an opinion vacating on jurisdictional grounds the District Court's approval of the Clarifying Order. On February 29, 2008, TPC and certain other parties to the appeals filed petitions for rehearing and/or rehearing en banc, requesting reinstatement of the district court's judgment, which were denied. TPC and certain other parties filed Petitions for Writ of Certiorari in the United States Supreme Court seeking review of the Second Circuit's decision, and on December 12, 2008, the Petitions were granted.
Broker Anti-Trust Litigation-In 2005, four putative class action lawsuits were brought against a number of insurance brokers and insurers, including the Company, by plaintiffs who allegedly purchased insurance products through one or more of the defendant brokers. The plaintiffs alleged that various insurance brokers conspired with each other and with various insurers, including the Company, to artificially inflate premiums, allocate brokerage customers and rig bids for insurance products offered to those customers. To the extent they were not originally filed there, the federal class actions were transferred to the U.S. District Court for the District of New Jersey and were consolidated for pre-trial proceedings with other class actions under the caption In re Insurance Brokerage Antitrust Litigation. On August 1, 2005, various plaintiffs, including the four named plaintiffs in the above-referenced class actions, filed an amended consolidated class action complaint naming various brokers
and insurers, including the Company, on behalf of a putative nationwide class of policyholders. The complaint included causes of action under the Sherman Act, the Racketeer Influenced and Corrupt Organizations Act (RICO), state common law and the laws of the various states prohibiting antitrust violations. The complaint sought monetary damages, including punitive damages and trebled damages, permanent injunctive relief, restitution, including disgorgement of profits, interest and costs, including attorneys' fees. All defendants moved to dismiss the complaint for failure to state a claim. After giving plaintiffs multiple opportunities to replead, the court dismissed the Sherman Act claims on August 31, 2007 and the RICO claims on September 28, 2007, both with prejudice, and declined to exercise supplemental jurisdiction over the state law claims. The plaintiffs appealed the district court's decisions to the U.S. Court of Appeals for the Third Circuit. On August 16, 2010, the Third Circuit affirmed the district court's dismissal of all Sherman Act and RICO claims against certain defendants, including the Company, except for Sherman Act and RICO claims involving the sale of excess casualty insurance through a single defendant broker, as well as all state law claims, which they remanded to the district court for further proceedings. On October 1, 2010, defendants, including the Company, filed renewed motions to dismiss the remanded claims. On March 18, 2011, the Company and certain other defendants entered into an agreement with the plaintiffs to settle the lawsuit. The settlement, under which the Company agreed to pay $6.75 million, is subject to court approval. Preliminary approval of the settlement was granted on June 27, 2011. On September 14, 2011, the court conducted a final fairness hearing and the settling parties await the court's decision.
interpretation of the tax law, or certain named litigation. Such indemnification provisions generally survive for periods ranging from seven years following the applicable closing date to the expiration of the relevant statutes of limitations, although, in some cases, there may be other agreed upon term limitations or no term limitations. Certain of these contingent obligations are subject to deductibles which have to be incurred by the obligee before the Company is obligated to make payments. The maximum amount of the Company's contingent obligation for indemnifications related to the sale of business entities that are quantifiable was $1.22 billion at December 31, 2011, of which $9 million was recognized on the balance sheet at that date.
The following consolidating financial statements of the Company have been prepared pursuant to Rule 3-10 of Regulation S-X. These consolidating financial statements have been prepared from the Company's financial information on the same basis of accounting as the consolidated financial statements. The Travelers Companies, Inc. has fully and unconditionally guaranteed certain debt obligations of TPC, its wholly-owned subsidiary, which totaled $1.20 billion at December 31, 2011.
17. CONSOLIDATING FINANCIAL STATEMENTS OF THE TRAVELERS COMPANIES, INC. AND SUBSIDIARIES (Continued)