The executive offices of the Corporation and the administrative offices of the Property and Casualty Group are in Warren, New Jersey. The Real Estate Group's corporate headquarters is located in Roseland, New Jersey. The Life Group has its administrative offices in Concord, New Hampshire; Parsippany, New Jersey and Chattanooga, Tennessee. The insurance subsidiaries maintain zone administrative and branch offices in major cities throughout the United States, and members of the Property and Casualty Insurance Group also have offices in Canada, Europe, Australia, the Far East and Latin America. Office facilities are leased with the exception of buildings in Branchburg, New Jersey and Chattanooga, and a portion of the Life Group's home office complex in Concord. Management considers its office facilities suitable and adequate for the current level of operations. See Note (12) of the notes to consolidated financial statements incorporated by reference from the Corporation's 1996 Annual Report to Shareholders.
Selected financial data for the five years ended December 31, 1996 are incorporated by reference from the Corporation's 1996 Annual Report to Shareholders, pages 40 and 41.
The following discussion presents our past results and our expectations for the near term future. The supplementary financial information and the consolidated financial statements and related notes, all of which are integral parts of the following analysis of our results and our financial position, are incorporated by reference from the Corporation's 1996 Annual Report to Shareholders, pages 21, 22 and 42 through 64.
The Corporation entered into a definitive agreement, dated February 23, 1997, to sell its life and health insurance operations to Jefferson-Pilot Corporation for $875 million in cash, subject to various closing adjustments and other customary conditions. The sale is subject to regulatory approvals and is expected to be completed by the end of the second quarter of 1997. In light of the decision to sell, the life and health insurance operations have been classified as discontinued operations. For a further discussion of the discontinued life and health insurance operations, see page 29.
Income from continuing operations, which includes realized investment gains and losses related to such operations, was $486 million in 1996 compared with $655 million in 1995 and $508 million in 1994. Decisions to sell securities are governed principally by considerations of investment opportunities and tax consequences. Thus, realized investment gains and losses may vary significantly from year to year.
Catastrophe losses were $142 million in 1996, $64 million in 1995 and $169 million in 1994. Our initial retention level for each catastrophic event is approximately $100 million. We did not have any recoveries from our catastrophe reinsurance coverage during the past three years since there were no individual catastrophes for which our losses exceeded the initial retention.
The marketplace remained competitive, particularly in the commercial classes, in all our markets worldwide. Competitors continued to place significant pressure on pricing as they attempted to maintain or increase market share. As a result, price increases have been difficult to achieve. In this environment, we have focused on our specialty lines where we emphasize the added value we provide to our customers. Premium growth in 1996 and 1995 was due to exposure growth on existing business, the purchase of additional coverages by current customers and the selective writing of new business. Substantial premium growth in both years was achieved outside the United States from our expanding international branch network.
Also, effective January 1, 1996, our casualty excess of loss reinsurance program was modified, principally for excess liability and executive protection coverages. The changes included an increase in the initial retention for each loss from $5 million to $10 million and an increase in the initial aggregate amount of losses retained for each year before reinsurance becomes available. These changes in our casualty reinsurance program increased net premiums written in 1996 by approximately $130 million.
Underwriting results were profitable in 1996 and 1995 compared with near breakeven results in 1994. The combined loss and expense ratio, the common measure of underwriting profitability, was 98.3% in 1996 compared with 96.8% in 1995 and 99.5% in 1994.
During 1996, we continued to evaluate the relative costs and benefits of our casualty excess of loss reinsurance program. As a result, effective January 1, 1997, we again modified the program, increasing the initial retention for each loss from $10 million to $25 million. The increase in net premiums written in 1997 resulting from this change in our casualty reinsurance program is not expected to be significant.
The following discussion of underwriting results reflects certain reclassifications to present results in a manner more consistent with the way the property and casualty business is now managed. Prior period amounts have been restated to conform with the new presentation.
Excluding the effects of the changes in the reinsurance agreement, personal lines premiums increased 9% in 1996, our best growth rate in many years. We continued to grow our homeowners and other non-automobile business in non-catastrophe prone areas while maintaining our disciplined approach to pricing and risk selection. Personal automobile premiums increased as a result of an increase in the number of in-force policies for high-value automobiles.
Our personal insurance business produced substantial underwriting profits in 1996 and 1995 compared with breakeven results in 1994. The combined loss and expense ratio was 91.7% in 1996 compared with 87.1% in 1995 and 99.8% in 1994.
unprofitable results in 1994 reflect the adverse effect of significant catastrophe losses, particularly the winter storms and, to a lesser extent, the California earthquake. Catastrophe losses represented 16.7 percentage points of the loss ratio for this class in 1996 compared with 10.3 percentage points in 1995 and 19.4 percentage points in 1994.
Results for our casualty business were similarly unprofitable in 1996 and 1995 compared with near breakeven results in 1994. In each of the past three years, but more so in 1996 and 1995, casualty results have been adversely affected by increases in loss reserves for asbestos-related and toxic waste claims. The excess liability component of our casualty coverages has remained profitable due to favorable loss experience in this class. Results in the automobile component were breakeven in 1996 compared with profitable results in 1995 and 1994.
Workers' compensation results were slightly unprofitable in 1996 compared with profitable results in 1995 and unprofitable results in 1994. Results deteriorated in 1996 due in part to an increase in claim frequency and the impact of price reductions. Results in 1995 benefited from rate increases, reform of the benefit provisions of workers' compensation laws in many states, and the impact of medical cost containment and disability management activities. Results from our share of the involuntary pools and mandatory business in which we must participate by law have also benefited from these positive factors.
Property and marine results were profitable in 1996 and 1995 compared with unprofitable results in 1994. Results in 1996 deteriorated somewhat due to an increase in catastrophe losses which were insignificant in 1995. Both years benefited from stable loss frequency. Results for this class in 1994 were adversely affected by significant catastrophe losses, resulting primarily from the earthquake in California. Catastrophe losses represented 4.5 percentage points of the loss ratio for this class in 1996 compared with 0.8 of a percentage point in 1995 and 6.8 percentage points in 1994.
Our executive protection results were highly profitable in each of the past three years due to favorable loss experience. Our financial institutions business produced increasingly profitable results in 1995 and 1996. The financial fidelity portion of this business was highly profitable in each of the past three years. Results in the non-fidelity portion of this business were unprofitable in 1994 due in part to several large losses.
Reinsurance assumed is treaty reinsurance assumed primarily from Sun Alliance. The growth in premiums in 1995 was primarily due to an increase in our participation in the business of Sun Alliance. The substantial decrease in premiums in 1996 was due to the effects of the changes in the reinsurance agreement with Sun Alliance whereby we assumed less reinsurance from them. The decrease in premiums included the first quarter effect of the $65 million portfolio transfer of unearned premiums to Sun Alliance as of January 1, 1996. The reinsurance agreement with Sun Alliance was terminated effective January 1, 1997. Underwriting results for this segment were near breakeven in each of the past three years.
The process of establishing loss reserves is an imprecise science and reflects significant judgmental factors. In many liability cases, significant periods of time, ranging up to several years or more, may elapse between the occurrence of an insured loss, the reporting of the loss and the settlement of the loss. In fact, approximately 60% of our loss reserves at December 31, 1996 were for claims that had not yet been reported to us, some of which were not yet known to the insured, and for future development on reported claims.
Judicial decisions and legislative actions continue to broaden liability and policy definitions and to increase the severity of claim payments. As a result of this and other societal and economic developments, the uncertainties inherent in estimating ultimate claim costs on the basis of past experience have increased significantly, further complicating the already complex loss reserving process.
Pacific Indemnity and Continental Casualty reached a separate agreement for the handling of all asbestos-related bodily injury claims pending on August 26, 1993 against Fibreboard. Pacific Indemnity's obligation under this agreement with respect to such pending claims is approximately $635 million, the final $450 million of which was paid during 1996. The agreement further provides that the total responsibility of both insurers with respect to pending and future asbestos-related bodily injury claims against Fibreboard will be shared between Pacific Indemnity and Continental Casualty on an approximate 35% and 65% basis, respectively.
In 1995, the United States District Court of the Eastern District of Texas approved the global settlement agreement and the trilateral agreement. The judgments approving these agreements were appealed to the United States Court of Appeals for the Fifth Circuit. In July 1996, the Fifth Circuit
The courts have been engaged in developing guidelines regarding coverage for asbestos claims and have begun to articulate more consistent standards regarding the extent of the obligation of insurers to provide coverage and the method of allocation of costs among insurers. However, we still do not know the universe of potential claims. Therefore, uncertainty remains as to our ultimate liability for asbestos-related claims.
Hazardous waste sites are another significant potential exposure. Under the federal "Superfund" law and similar state statutes, when potentially responsible parties (PRPs) fail to handle the clean-up, regulators have the work done and then attempt to establish legal liability against the PRPs. The PRPs, with proper government authorization in many instances, disposed of toxic materials at a waste dump site or transported the materials to the site. Most sites have multiple PRPs.
Insurance policies issued to PRPs were not intended to cover the clean-up costs of pollution and, in many cases, did not intend to cover the pollution itself. Pollution was not a recognized hazard at the time many of these policies were written. In more recent years, however, policies specifically exclude such exposures.
As the cost of environmental clean-up continues to grow, PRPs and others have increasingly filed claims with their insurance carriers. Litigation against insurers extends to issues of liability, coverage and other policy provisions.
There is great uncertainty involved in estimating our liabilities related to these claims. First, the underlying liabilities of the claimants are extremely difficult to estimate. At any given clean-up site, the allocation of remediation costs among governmental authorities and the PRPs varies greatly. Second, different courts have addressed liability and coverage issues regarding pollution claims and have reached inconsistent conclusions in their interpretation of several issues. These significant uncertainties are not likely to be resolved in the near future.
Uncertainties also remain as to the Superfund law itself, which has generated far more litigation than it has brought about the cleanup of hazardous waste sites. Superfund's taxing authority expired on
Litigation costs remain substantial, particularly for toxic waste claims. A substantial portion of the funds expended to date by us has been for legal fees incurred in the prolonged litigation of coverage issues. Primary policies provide a limit on indemnity payments but many do not limit defense costs. This language in the policy sometimes leads to the payment of defense costs in multiples of the policy limits.
Reserves for asbestos and toxic waste claims cannot be estimated with traditional loss reserving techniques. We have established case reserves and expense reserves for costs of related litigation where sufficient information has been developed to indicate the involvement of a specific insurance policy. In addition, IBNR reserves have been established to cover additional exposures on both known and unasserted claims. These reserves are continually reviewed and updated. Increases in loss reserves relating to asbestos and toxic waste claims were $151 million in 1996, $182 million in 1995 and $115 million in 1994. Further increases in such reserves in 1997 and future years are possible as legal and factual issues concerning these claims are clarified although the amounts cannot be reasonably estimated.
The effective tax rate on our investment income was 15.8% in 1996, 15.9% in 1995 and 15.3% in 1994. The effective tax rate increased in 1995 as the percentage of our investment income subject to tax increased.
Generally, premiums are received by our property and casualty subsidiaries months or even years before losses are paid under the policies purchased by such premiums. These funds are used first to make current claim and expense payments. The balance is invested to augment the investment income generated by the existing portfolio. Historically, cash receipts from operations, consisting of insurance premiums and investment income, have provided more than sufficient funds to pay losses, operating expenses and dividends to the Corporation.
The main objectives of the investment portfolio of the property and casualty subsidiaries are to maximize after-tax investment income and total investment returns while minimizing credit risks as well as to provide maximum support to the insurance underwriting operations. Investment strategies
are developed based on many factors including underwriting results and our resulting tax position, fluctuations in interest rates and regulatory requirements.
In 1997, the property and casualty subsidiaries will receive approximately $300 million as the net result of the portfolio transfers of unearned premiums and loss reserves as of January 1, 1997 related to the termination of the reinsurance agreements with Sun Alliance.
At December 31, 1996, the property and casualty subsidiaries held foreign investments of $1.3 billion supporting their international operations. Such foreign investments have quality and maturity characteristics similar to our domestic portfolio. We reduce the risks relating to currency fluctuations by maintaining investments in those foreign currencies in which we transact business, with characteristics similar to the liabilities in those currencies.
The property and casualty subsidiaries maintain sufficient investments in highly liquid, short-term securities at all times to provide for immediate cash needs and the Corporation maintains bank credit facilities that are available to respond to unexpected cash demands.
Our investment interests in joint ventures generally consist of the ownership and lease of the underlying land and the management and operation of the buildings. We have agreements with joint ventures to manage all aspects of the joint venture properties, including debt structures, tenant leasing, and building improvements and maintenance.
Our occupancy rate has been strong in substantially all markets in which we operate. We have been successful in both retaining existing tenants and securing new ones and we do not have a significant credit problem with tenants. During 1996, a total of 2,280,000 square feet was leased compared with 2,320,000 square feet in 1995 and 2,420,000 square feet in 1994. At December 31, 1996, we owned or had interest in 10,091,000 square feet of office and industrial space. Our vacancy rate was 6% at year-end 1996 and 1995 and 7% at year-end 1994.
In certain markets, renewing leases in established buildings has been difficult as demand for commercial office space diminished due to an overbuilt market and corporate downsizing. While we have experienced significant leasing activity in recent years and have achieved improved rental rates on many of these buildings, a significant portion of our existing leases are at low market rental rates.
The Corporation adopted Statement of Financial Accounting Standards (SFAS) No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, in the first quarter of 1996. SFAS No. 121 establishes accounting standards for the impairment of long-lived assets, certain identifiable intangibles and goodwill related to those assets.
Loans receivable, which were issued in connection with our joint venture activities and other property sales, are primarily purchase money mortgages. Such loans are generally collateralized by buildings and, in some cases, land. We continually evaluate the ultimate collectibility of such loans and establish appropriate reserves. Our valuation approach is similar to that utilized under SFAS No. 121, except that future cash flows are discounted at the receivable interest rates. Our agreements to manage all aspects of the joint venture properties have played a significant role in enabling us to control potential collectibility issues related to these receivables. The reserve for possible uncollectible receivables was increased by charges against income of $2 million in 1996, $18 million in 1995 and $29 million in 1994, principally related to loans on selected properties with operating income at levels which may not fully meet debt service requirements. The 1995 charge included $10 million from the initial application of SFAS No. 114, Accounting by Creditors for Impairment of a Loan, which established new criteria for measuring impairment of a loan. The reserve was reduced by write-downs aggregating $4 million in both 1996 and 1995 and $10 million in 1994 related to specific loans that are uncollectible. Management believes the reserve of $86 million at December 31, 1996 adequately reflects the current condition of the portfolio. However, if conditions in the real estate market do not improve, additional reserves may be required.
Real estate activities have been funded with short-term credit instruments, primarily commercial paper, and debt issued by Chubb Capital Corporation as well as term loans and mortgages. The weighted average interest cost on short-term credit instruments approximated 5 1/2% in 1996 compared with 6% in 1995 and 4 1/2% in 1994. In 1996, the range of interest rates for term loans was 7% to 9 1/2% and for mortgages the range was 5% to 12%.
Investment income earned on corporate invested assets and interest and other expenses not allocable to the operating subsidiaries are reflected in the corporate segment. Corporate income after taxes was $20 million in 1996, $15 million in 1995 and $8 million in 1994.
Fixed maturities which the Corporation and its insurance subsidiaries have the ability and intent to hold to maturity are classified as held-to-maturity. The remaining fixed maturities, which may be sold prior to maturity to support our investment strategies, such as in response to changes in interest rates and the yield curve or to maximize after-tax returns, are classified as available-for-sale. Fixed maturities classified as held-to-maturity are carried at amortized cost while fixed maturities classified as available-for-sale are carried at market value. At December 31, 1996, 22% of the fixed maturity portfolio of our continuing operations was classified as held-to-maturity compared with 30% at December 31, 1995 and 36% at December 31, 1994.
The Corporation entered into a definitive agreement, dated February 23, 1997, to sell Chubb Life Insurance Company of America to Jefferson-Pilot Corporation for $875 million in cash, subject to various closing adjustments and other customary conditions. The sale is subject to regulatory approvals and is expected to be completed by the end of the second quarter of 1997.
The estimated loss on the sale of the life and health insurance operations is $22 million, consisting of a loss before tax of $5 million and a tax of $17 million on the sale. The tax on the sale is due to the tax
carrying value of these operations being lower than their carrying value for financial statement purposes. The purchase price will not be adjusted to reflect results of operations subsequent to December 31, 1996. Therefore, it is expected that the discontinued life and health insurance operations will not affect the Corporation's net income in the future.
Group insurance operations resulted in losses of $1 million in 1996, $9 million in 1995 and $19 million in 1994. Premiums were $224 million in 1996 compared with $312 million in 1995 and $564 million in 1994.
Gross investment income increased 4% in 1996 compared with 12% in 1995. Growth was primarily due to an increase in invested assets, tempered in 1996 by lower yields on new investments. New cash available for investment amounted to $265 million in 1996 compared with $225 million in 1995 and $140 million in 1994. The new cash was primarily due to increases in deposits credited to policyholder funds.
mortgage-backed securities holdings at December 31, 1996 and 1995 related to residential mortgages consisting of government agency pass-through securities, government agency collateralized mortgage obligations (CMOs) and AAA rated non-agency CMOs backed by government agency collateral or single family home mortgages. The majority of the CMOs are actively traded in liquid markets and market value information is readily available from broker-dealers. The notion of impairment associated with default in paying principal is less applicable to residential CMOs. Other risks, most notably prepayment and extension risks, are monitored regularly. Changes in prepayment patterns can either lengthen or shorten the expected timing of the principal repayments and thus the average life and the effective yield of the security. We invest primarily in those classes of residential CMO instruments that are subject to less prepayment and extension risk and are therefore less volatile than other CMO instruments.
Net investment gains realized by the life and health insurance operations were as follows:
Chubb Capital has outstanding in the Eurodollar market $229 million of 6% exchangeable subordinated notes due in 1998. The notes are guaranteed by the Corporation and exchangeable into its common stock. The proceeds have been used to support our real estate operations. During 1996, the holders of $21 million of exchangeable notes elected the available option to exchange such notes into shares of common stock of the Corporation, resulting in the issuance of 480,464 shares of common stock.