The Hartford owns the land and buildings comprising its Hartford location and other properties within the greater Hartford, Connecticut area which total approximately 1.6 million square feet. The Hartford's international subsidiaries own approximately 218 thousand square feet of office space in the Netherlands and 9 thousand square feet in other countries. In addition, The Hartford leases approximately 5.0 million square feet throughout the United States and 54 thousand square feet in other countries. The Company believes its properties and facilities are suitable and adequate for current operations.
Revenues for 1999 decreased $1.5 billion, or 10%, from 1998 primarily as a result of the November 1998 sale of United Kingdom-based London & Edinburgh Insurance Group, Ltd. (London & Edinburgh), which was The Hartford's largest international subsidiary, the declining block of leveraged corporate owned life insurance (COLI) business and lower net realized capital gains. The decrease was partially offset by earned premium growth in the Personal segment and higher fee income in the Investment Products operation of the Life segment as a result of increasing account values. (For an analysis of net investment income and net realized capital gains, see the Investments section.)
In 1998, core earnings increased $67, or 9%, from 1997 primarily due to an increase in fees earned resulting from growth in account values in the Investment Products and Individual Life operations due to strong sales and equity market appreciation, an increase in net service fee and other income, primarily as a result of the IRI transaction, and higher net investment income. Partially offsetting these increases were a decrease in underwriting results, primarily the result of higher catastrophe losses, as well as an increase in other non-underwriting expenses.
Net income for 1997 includes a $368 equity gain resulting from the initial public offering of Hartford Life, Inc. (HLI), the holding company parent of The Hartford's significant life insurance subsidiaries, Class A common stock (The Offering). (For additional information, see Note 2 of Notes to Consolidated Financial Statements and Capital Resources and Liquidity section under "The Offering".)
The effective tax rates for 1999, 1998 and 1997 were 23%, 26% and 25%, respectively, excluding the impact of the HLI equity gain, as discussed above, in 1997. The decrease in the effective tax rate for 1999 was due to an increase in the proportionate share of tax-exempt net investment income to total pre-tax income for 1999 compared to 1998. Tax-exempt interest earned on invested assets was the principal cause of effective rates lower than the 35% U.S. statutory rate. Income taxes paid (refunds received) in 1999, 1998 and 1997 were $41, $407 and $(37), respectively. (For additional information, see Note 14 of Notes to Consolidated Financial Statements.)
On May 21, 1998, the Board of Directors authorized a two-for-one stock split effected in the form of a 100% stock dividend distributed on July 15, 1998 to shareholders of record as of June 24, 1998. The following table represents per common share data and return on equity for the past three years:
1999 1998 1997 - ----------------------------------------------------------------- Basic earnings per share $3.83 $4.36 $5.64 Weighted average common shares outstanding 224.9 232.8 236.0 Diluted earnings per share $3.79 $4.30 $5.58 Weighted average common shares outstanding and dilutive potential common shares 227.5 236.2 238.9 Return on equity [1] 15.3% 18.7% 28.3% - ----------------------------------------------------------------- [1] Calculated by dividing net income by average equity excluding unrealized gain, after-tax. In 1997, return on equity excluding the HLI equity gain (as discussed earlier) from net income was 20.5%.
The Hartford's reporting segments consist of Commercial, Personal, Reinsurance, Life, International and Other Operations. While the measure of profit or loss used by The Hartford's management in evaluating performance is core earnings for the Life, International and Other Operations segments, the Commercial, Personal and Reinsurance segments are evaluated by The Hartford's management primarily based upon underwriting results. While not considered a segment, the Company also reports and evaluates core earnings results for North American Property & Casualty, which include the combined underwriting results of the Commercial, Personal and Reinsurance segments, along with income and expense items not directly allocable to these segments such as net
investment income. Other Operations include operations which have ceased writing new business. Also, included in Other Operations is the effect of an approximate 19% minority interest in HLI's operating results.
The following is a summary of core earnings and net income.
CORE EARNINGS 1999 1998 1997 - ----------------------------------------------------------------- N. A. Property & Casualty $ 434 $ 457 $ 433 Life 467 386 306 International 16 42 46 Other Operations (80) (69) (36) - ----------------------------------------------------------------- CORE EARNINGS $ 837 $ 816 $ 749 - -----------------------------------------------------------------
The following is a summary of North American Property & Casualty core earnings by major component, after-tax. Core earnings exclude net realized capital gains and other items.
Core earnings in 1999 for North American Property & Casualty were $434, a decrease of $23, or 5%, from 1998. The decrease was primarily the result of a $40 decrease in net service fee and other income, due primarily to proceeds received in 1998 related to the IRI transaction and an $8, or 7%, decrease in after-tax underwriting results. Partially offsetting the decrease was an increase in net investment income of $28, or 4%.
Commercial provides workers' compensation, property, automobile, liability, marine, agricultural and bond coverages to commercial accounts throughout the United States and Canada. Excess and surplus lines business not normally written by standard lines insurers is also provided. Commercial is organized into three customer markets: Business Insurance, Commercial Affinity and Commercial Specialty.
Business Insurance provides standard commercial business for small accounts (Select Customer) and mid-sized insureds (Key Accounts). Commercial Affinity provides commercial risk management products and services to small and mid-sized members of affinity groups and customers of financial institutions. Commercial Specialty provides insurance through retailers and wholesalers to large commercial clients (Major/National) and insureds requiring a variety of specialized coverages. Its results also include the bond lines and First State Management Group, a leading underwriter of excess and surplus lines business produced primarily through wholesale brokers. Agricultural, livestock and marine products are also included within Commercial Specialty.
Underwriting results improved $42, or 0.7 combined ratio points, in 1999 as compared with 1998. This improvement can be attributed to a decline in the loss ratio of 1.3 points resulting from underwriting initiatives and price increases. Partially offsetting this improvement was an increase in the other underwriting expense ratio due to investments in growth areas, primarily Select Customer.
In 1998, underwriting results decreased $64, or 1.7 combined ratio points, compared to 1997. Increases in property catastrophe losses of $70, or 2.1 combined ratio points, were the primary factor in the decline, as catastrophe experience was worse in 1998 as compared to the highly favorable experience in 1997. In addition, intense price competition in the mid- and large-sized marketplace resulted in reduced profit margins, as decreases in rate and price, particularly in the workers' compensation line, outpaced loss cost savings. The Commercial segment, however, continued to experience the benefit of its extensive cost containment strategies which mitigate the rate and price pressure on underwriting results.
Written premiums increased $327, or 17%, in 1998 compared with 1997. The acquisition of Omni accounted for $167, or 9%, of the written premium increase. Favorable underwriting experience was passed through to AARP members in reduced rates and, despite the reduced rates, the program posted a written premium increase of $65, or 5%, contributing 3% to the segment's total written premium growth in 1998. Agency experienced substantial premium growth improvement in 1998 with an increase of $67, or 11%, contributing 4% to the segment's total written premium growth. A primary driver of this premium growth was the strategic shift from homeowners to automobile coverages, which began in 1997. The Affinity unit, which was still in a start-up phase, experienced growth of $28, or 105%, in 1998, contributing 1% to the segment's total written premium growth.
Written premiums decreased $8, or 1%, in 1999 primarily due to an increase in ceded reinsurance premium, principally as a result of cessions under an aggregate stop loss treaty in 1999, and the non-recurrence of a significant single finite risk account written in 1998. These decreases were partially offset by the first quarter 1999 acquisition of renewal rights for the reinsurance business of Vesta Fire Insurance Corp., a subsidiary of Vesta Insurance Group Inc. Written premiums increased $23, or 3%, in 1998 primarily due to the acquisition of renewal rights for the reinsurance business of a large Italian insurance company and the finite risk account referred to above. Partially offsetting these increases were reductions in North American and European premiums caused by rate reductions arising from market conditions and the impact of unfavorable foreign exchange rates on Hong Kong premiums.
The reinsurance market is highly competitive and prices continue to remain relatively soft in most product lines in most parts of the world. However, some early positive signs appear to be emerging which indicate market pricing may begin to improve in 2000 and continue into 2001. Until market pricing is fully restored to more reasonable levels, HartRe remains focused on writing long-term profitable business, even at the expense of premium growth. On a positive note, responsible buyers are looking to establish core relationships with a select group of financially strong reinsurers, which possess specialized product and geographic spread, service capabilities, and expertise. HartRe stands ready to capitalize on its strengths in these areas in view of the changing marketplace.
The following describes each operation, including products and services offered, and analyzes the above results.
Revenues in the Investment Products operation of $2.0 billion in 1999 increased $257, or 14%, from 1998. This increase was primarily driven by higher fee income in the individual annuity and retail mutual fund businesses. Fees generated by individual annuities increased $248, or 29%, while related account values grew $18.2 billion, or 26%, to $89.0 billion in 1999. The growth in account values was due, in part, to strong individual annuity sales of $10.9 billion in 1999, as well as favorable persistency and equity market appreciation. In addition, fee income from other investment products increased $68, or 59%, primarily driven by the Company's continued growth in its retail mutual fund operations. The substantial growth in retail mutual fund assets under management of $3.9 billion, or 154%, was primarily due to strong sales of $3.3 billion and favorable persistency as well as equity market appreciation. Associated with continued growth in this operation, amortization of deferred policy acquisition costs grew $104, or 32%, and operating expenses increased $32, or 13%. Core earnings of $330 in 1999 increased $64, or 24%, from 1998, primarily due to the operation's growth in fee income as a result of the increase in assets under management, as well as increased operating efficiencies.
The Individual Life operation, which focuses on the high-end estate and business planning markets, sells a variety of life insurance products, including variable life, universal life, interest-sensitive whole life and term life insurance.
Revenues in the Individual Life operation were slightly higher in 1999 as compared to 1998. Fee income increased $59, or 18%, in 1999, primarily as a result of an increase in life insurance in force of 9% to $66.7 billion in 1999, as well as higher variable life account values which increased $868, or 50%, to $2.6 billion in 1999. The higher fee income was partially offset by a decrease in premium revenue resulting from the sale of HLI's Canadian life insurance operations. Benefits, claims and expenses increased slightly in 1999 as compared to 1998, primarily due to higher amortization of deferred policy acquisition costs associated with growth in the operation, partially offset by favorable mortality experience. Core earnings increased $6, or 9%, in 1999, primarily driven by increased fees associated with higher insurance in force and variable life account values, as well as favorable mortality as described above.
Revenues of $1.8 billion in 1998 increased $109, or 6%, from 1997. This increase in revenues was driven by strong sales of fully insured business, excluding buyouts, of $397 in 1998, which increased $68, or 21%, compared to 1997. This growth in new sales was driven by group life and group disability business where sales, excluding buyouts, grew 20% compared to the prior year. Benefits, claims and expenses increased $101, or 6%, as compared to the prior year, primarily due to higher benefits, claims and claim adjustment expenses associated with this growing block of business. As a result of increased premium revenue, an increased level of investment in tax-exempt securities and favorable mortality and morbidity experience, core earnings increased $13, or 22%, to $71 in 1998 from $58 in 1997.
Revenues of $1.6 billion in 1998 increased $587, or 60%, from 1997. This increase was primarily due to revenues of $541 related to the recaptured MBL business, as discussed earlier. In addition, revenues increased due to fee income on growing variable COLI account values, partially offset by declines in revenues associated with the downsizing of the overall leveraged COLI business. Benefits, claims and expenses increased $593, or 63%, to $1.5 billion in 1998 from $938 in 1997 due primarily to the recaptured MBL business. Core earnings of $24 in 1998 declined $3, or 11%, from 1997 as the growth in the Company's variable COLI business was offset by the declining block of leveraged COLI the Company had prior to the passage of the HIPA Act of 1996. The recaptured MBL business had no impact on core earnings or net income in 1998.
Certain proposed legislative initiatives which could impact the Life segment are discussed in the Regulatory Matters and Contingencies section.
The International segment includes direct insurance business written by Zwolsche Algemeene (Zwolsche) located in the Netherlands, Belgium and Luxembourg, Hartford Seguros in Spain (formerly ITT Ercos), People's Insurance Company Limited (People's Insurance), of which The Hartford acquired a 49% interest in January 1998, in Singapore and London & Edinburgh Insurance Group, Ltd. (London & Edinburgh) in the United Kingdom, until its sale by The Hartford in November 1998, as discussed below. These companies offer property and casualty products in both personal and commercial lines as well as life insurance products and services designed to meet the needs of local customers.
On November 16, 1998, The Hartford completed the sale of London & Edinburgh to Norwich Union, a leading provider of general and life insurance in the United Kingdom. The Hartford received approximately $525, before costs of sale, for the ongoing operations of London & Edinburgh. The Hartford retained ownership of Excess Insurance Co. Ltd., London & Edinburgh's property and casualty insurance and reinsurance subsidiary, which discontinued writing new business in 1993. Excess Insurance Co. Ltd. is included in The Hartford's Other Operations segment. The gain from the sale of London & Edinburgh of $33, after-tax, has been reported in the 1998 investment results of North American Property & Casualty. London & Edinburgh's operating results are included in the International segment 1998 results through the date of sale and, therefore, are not comparable to current and prior year results.
In 1999, International revenues of $509 were $1.1 billion, or 69%, lower than 1998, primarily due to the sale of London & Edinburgh. Excluding London & Edinburgh, revenues decreased 4% over 1998. Revenues at Zwolsche decreased $38, or 9%, over 1998 primarily due to a 73% decrease in net realized capital gains. The property and casualty market at Zwolsche remained very competitive in 1999 while life business continued to be reasonably priced. Revenues at Hartford Seguros increased $20, or 21%, over 1998 due primarily to 52% growth in automobile earned premiums, offset somewhat by lower net investment income and net realized capital gains. The growth in automobile business in Spain is attributable to a new centralized agent service center combined with risk segmentation and pricing initiatives. Life written premiums in Spain increased due to further penetration of the existing agent distribution network. People's Insurance contributed $19 of revenues in 1999, down 14% from $22 in 1998, due primarily to lower earned premiums and net investment income. This decrease was primarily due to lower investment yields and a very competitive marketplace. Excluding London & Edinburgh, there was a negative foreign exchange impact on total revenues of $14 in 1999, due mainly to weakness in the Euro.
Core earnings of $16 in 1999 decreased $26, or 62%, from 1998. Excluding the impact of London & Edinburgh, core earnings in 1999 decreased $6, or 27%. Core earnings at Zwolsche decreased $4, or 13%, as property and casualty core
In 1998, revenues of $1.6 billion were $85, or 5%, lower than 1997, primarily due to the sale of London & Edinburgh which reflects operating results to the date of sale. Excluding London & Edinburgh, revenue growth over 1997 was 5%. Market conditions in property and casualty business in the Netherlands were very competitive, resulting in nominal premium growth, while life business produced modest growth. Zwolsche revenue was down 4% due to lower net realized capital gains and a negative foreign exchange impact due to weakness in the Dutch Guilder. Hartford Seguros revenues were up significantly due to 62% growth in automobile written premiums. Also, People's Insurance contributed $22 of revenues in 1998. Foreign exchange impacts on total revenues were negligible in 1998 as the strength in the Sterling offset weakness in the Dutch Guilder.
The outlook at Zwolsche for 2000 is for slow written premium growth in property and casualty due to continued soft market conditions. Continued moderate growth is expected for life operations. Growth expectations for life savings and pension products in the Netherlands continue to be positive due to their tax advantages and the expected continuation of a favorable interest rate environment. An impending change in tax laws to be effective in 2001 is expected to remove some of the tax advantages currently available to certain life products. This change will result in a shift of business away from certain life insurance products to asset accumulation products. The asset management business is expected to benefit from this change. Zwolsche will continue to explore the viability of opportunities in both life and property and casualty business in the Netherlands during 2000 as the government continues to review moving certain social security programs into the private sector. In February 1998, Zwolsche obtained a bank license to support the growth of the life and asset management business in the Netherlands and in 1999, established an insurance company in Luxembourg to support the growth of its Belgium life operation and to develop a European cross-border operation in life and asset accumulation products.
The outlook for Hartford Seguros is for slower growth in automobile in property and casualty business and significant growth in life savings products due to a recently signed distribution agreement with the largest mutual fund in Spain. Management expects that Hartford Seguros will continue to build on its unique centralized service business model and segmented underwriting and pricing skills. Hartford Seguros is reviewing various alternative distribution opportunities and continues to enhance its strategy to grow its life business. The Spanish market is expected to have significant growth opportunities in life and savings products in the years ahead.
The International segment continues to explore acquisition opportunities in Western Europe, Latin America and Asia. The investment in People's Insurance Company is intended to provide a base of operations for further Asian development in both life and property and casualty businesses.
Other Operations consist of the property and casualty insurance operations of The Hartford which have discontinued writing new business. These operations primarily include First State Insurance Company, Heritage Reinsurance Company, Ltd. and Excess Insurance Company Limited. The main focus of these operations is the proper disposition of claims, resolving disputes and collecting reinsurance proceeds related largely to business underwritten and reinsured prior to 1985.
The Hartford continues to receive claims asserting damages from environmental exposures and for injuries from asbestos and asbestos-related products, both of which affect North American Property & Casualty and the Other Operations segments. Environmental claims relate primarily to pollution and related clean-up costs. With regard to these claims, uncertainty exists which impacts the ability of insurers and reinsurers to estimate the ultimate reserves for unpaid losses and related settlement expenses. The Hartford finds that conventional reserving techniques cannot estimate the ultimate cost of these claims because of inadequate development patterns and inconsistent emerging legal doctrine. For the majority of environmental claims and many types of asbestos claims, unlike any other type of contractual claim, there is almost no agreement or consistent precedent to determine what, if any, coverage exists or which, if any, policy years and insurers or reinsurers may be liable. Further uncertainty arises with environmental claims since claims are often made under policies, the existence of which may be in dispute, the terms of which may have changed over many years, which may or may not provide for legal defense costs, and which may or may not contain environmental exclusion clauses that may be absolute or allow for fortuitous events. Courts in different jurisdictions have reached disparate conclusions on similar issues and in certain situations have broadened the interpretation of policy coverage and liability issues. In light of the extensive claim settlement process for environmental and asbestos claims, involving comprehensive fact gathering, subject matter expertise and intensive litigation, The Hartford established an environmental claims facility in 1992 to defend itself aggressively against unwarranted claims and to minimize costs.
The study included a review of identified environmental and asbestos exposures of North American Property & Casualty, along with the U.S. exposures of The Hartford's International segment and exposures of the Other Operations segment. The methodology utilized a ground-up analysis of policy, site and exposure level data for a representative sample of The Hartford's claims. The results of the evaluation were extrapolated against the balance of the claim population to estimate the Company's overall exposure for reported claims.
Reserve activity for both reported and unreported environmental and asbestos claims, including reserves for legal defense costs, for the years ended December 31, 1999, 1998 and 1997, was as follows (net of reinsurance):
The investment portfolios of North American Property & Casualty, Life, International and Other Operations are managed by distinct investment strategy groups. They are responsible for monitoring and managing the asset/liability profile, establishing investment objectives and guidelines, and determining, within specified risk tolerances and investment guidelines, the appropriate asset allocation, duration, convexity and other characteristics of the portfolios. Hartford Investment Management Company, a wholly owned subsidiary of The Hartford Financial Services Group, Inc., executes the investment plan of the strategy groups for North American Property & Casualty, Life and Other Operations, including the identification and purchase of securities that fulfill the objectives of the strategy groups. Execution of international investment plans is performed by each international subsidiary.
Total invested assets were $14.2 billion at December 31, 1999 and were comprised of fixed maturities of $13.0 billion and other investments of $1.2 billion, primarily equity securities. At December 31, 1998, total invested assets were $15.1 billion and were comprised of fixed maturities of $14.3 billion and other investments of $823, primarily equity securities.
The taxable equivalent duration of the December 31, 1999 fixed maturity portfolio was 5.0 years compared to 4.8 years at December 31, 1998. The change in taxable equivalent duration was primarily due to the purchase of longer duration securities and an increase in interest rates. Duration is defined as the market price sensitivity of the portfolio to parallel shifts in the yield curve.
1999 1998 1997 - ------------------------------------------------------------------ Net investment income, before-tax $ 853 $ 824 $ 777 Net investment income, after-tax[1] $ 684 $ 656 $ 619
Yield on average invested assets, before-tax [2] 6.0% 5.8% 5.9% Yield on average invested assets, after-tax [1] [2] 4.8% 4.6% 4.7% Net realized capital gains, before-tax $ 22 $ 231 $ 231 - ------------------------------------------------------------------ [1] Due to the significant holdings in tax-exempt investments, after-tax net investment income and yield are included. [2] Represents net investment income (excluding net realized capital gains) divided by average invested assets at cost (fixed maturities at amortized cost).
Net realized capital gains for the year ended December 31, 1999 decreased from the prior year, primarily as a result of opportunities taken in 1998 in a strong equity market. Net realized capital gains for 1999 were partially offset by a $9, after-tax, other than temporary impairment of asset backed securities securitized and serviced by Commercial Financial Services, Inc. (CFS). The CFS securities were sold in August of 1999 at a nominal gain.
equity securities were partially offset by a $7, after-tax, other than temporary impairment of the CFS securities. Net realized capital gains for 1998 also included a $33, after-tax gain from the sale of London & Edinburgh.
Fixed Maturities by Type - ------------------------------------------------------------------ 1999 1998 - ----------------------------------------------------------------- Type Fair Value Percent Fair Value Percent - -----------------------------------------------------------------
During 1999, the Life segment continued its investment strategy of increasing its allocation to municipal tax-exempt securities with the objective of increasing after-tax yields, and also increasing its allocation to Commercial MBS and MBS-agency. The decrease in short-term investments as of December 31, 1999 as compared to 1998 is primarily related to the funding of scheduled liability maturities and reallocation into other asset sectors.
Net investment income - ex. policy loans $ 1,171 $ 1,166 $ 1,111 Policy loan income 391 789 425 ----------------------------- Net investment income - total $ 1,562 $ 1,955 $ 1,536 Yield on average invested assets[1] 6.7% 7.9% 7.6% Net realized capital losses $ (5) $ -- $ -- - ---------------------------------------------------------------- [1] Represents net investment income (excluding net realized capital losses) divided by average invested assets at cost (fixed maturities at amortized cost). In 1998, average invested assets were calculated assuming the MBL Recapture proceeds were received on January 1, 1998.
For the year ended December 31, 1998, total before-tax net investment income increased 27% from 1997, primarily due to an increase in policy loan income resulting from the 1998 MBL Recapture. The increase in yields on average invested assets was due to the increase in policy loan income and, to a lesser extent, an increase in fixed maturities rated BBB.
Net realized capital gains on the sale of equity securities and fixed maturities for the year ended December 31, 1999 partially offset a $32, after-tax, other than temporary impairment of asset backed securities securitized and serviced by CFS. The CFS securities were sold in August of 1999 for a nominal gain.
For the year ended December 31, 1998, before-tax net investment income decreased 11% from 1997, primarily as a result of the sale of London & Edinburgh. Excluding London & Edinburgh, net investment income increased 13% despite a continued trend of lower yields in Europe. This growth was primarily due to an increase in life business at Zwolsche in the Netherlands and the acquisition of The Hartford's 49% interest in People's Insurance in Singapore in January 1998.
Net realized capital gains at December 31, 1999 decreased from 1998, primarily due to the further weakening of the equity market in the Netherlands.
Corporate $ 1,306 63.4% $ 1,603 64.7% Commercial MBS 185 9.0% 145 5.9% ABS 161 7.8% 224 9.0% Gov't/Gov't agencies - U.S. 67 3.2% 82 3.3% Gov't/Gov't agencies - For. 59 2.9% 50 2.0% Municipal - taxable 37 1.8% 40 1.6% MBS - agency 32 1.6% 41 1.7% CMO 12 0.6% 20 0.8% Short-term 193 9.4% 262 10.6% Redeemable preferred stock 7 0.3% 9 0.4% - ----------------------------------------------------------------- Total fixed maturities $ 2,059 100.0% $ 2,476 100.0% - -----------------------------------------------------------------
Investment objective varies by fund account type, as outlined in the applicable fund prospectus or separate account plan of operations. Non-guaranteed separate account products include variable annuities, variable life insurance contracts and COLI. Guaranteed separate account products primarily consist of modified guaranteed individual annuities and modified guaranteed life insurance, and generally include market value adjustment features to mitigate the risk of disintermediation.
The following tables identify fixed maturity securities for the property and casualty operations, including international and other operations, and the life operations, including international operations and guaranteed separate accounts, by credit quality. The ratings referenced in the tables are based on the ratings of a nationally recognized rating organization or, if not rated, assigned based on the Company's internal analysis of such securities.
As of December 31, 1999 and 1998, over 95% of the fixed maturity portfolio was invested in securities rated investment grade.
U.S. Gov't/Gov't agencies $ 650 4.2% $ 805 4.7% AAA 6,045 39.2% 6,570 38.2% AA 3,278 21.2% 3,209 18.7% A 2,613 16.9% 3,409 19.8% BBB 1,240 8.0% 1,508 8.8% BB & below 658 4.3% 682 3.9% Short-term 958 6.2% 1,016 5.9% - ----------------------------------------------------------------- Total fixed maturities $ 15,442 100.0% $ 17,199 100.0% - -----------------------------------------------------------------
Upward movement in market interest rates during 1999 resulted in a significant decline in the unrealized appreciation of the
fixed income security portfolio from 1998, to an unrealized loss position at December 31, 1999. However, The Hartford's asset allocation, and therefore its exposure to market risk, has not changed materially from its position at December 31, 1998.
The Company uses derivative instruments in its management of market risk consistent with four risk management strategies: hedging anticipated transactions, hedging liability instruments, hedging invested assets and hedging portfolios of assets and/or liabilities. (For additional information on these strategies along with tables reflecting outstanding derivative instruments, see the Property and Casualty Operations and Life Operations discussions below.)
The following table provides information as of December 31, 1999 on interest rate swaps used to manage interest rate risk on fixed maturities and presents notional amounts with weighted average pay and receive rates by maturity year. Comparative totals are included as of December 31, 1998. The weighted average pay rate is based on spot rates as of December 31, 1999 and 1998.
The following table reflects equity securities owned at December 31, 1999 and 1998, grouped by major market type.
Currency exchange risk within the property and casualty operations relates primarily to translating both profits and net equity investment in its international subsidiaries from the subsidiary's local currency to U.S. dollars. The following table represents the property and casualty operations' net equity investments in its primary foreign subsidiaries, the related
foreign currency and the impact to the net equity investment based upon a 10% change in foreign currency rates at December 31, 1999 and 1998. The property and casualty operations also had immaterial exposures to the Singapore Dollar, British Sterling and Spanish Peseta.
Currency exchange risk also exists with respect to investments in foreign equity securities. Forward foreign contracts with a notional amount of $48 and $43 were used to manage this risk at December 31, 1999 and 1998, respectively.
As described above, the life operations hold a significant fixed maturity portfolio that includes both fixed and variable rate features. The following table reflects the principal amounts of the life operations' general and guaranteed separate account fixed and variable rate fixed maturity portfolios, along with the respective weighted average coupons by estimated maturity year at December 31, 1999. Comparative totals are included as of December 31, 1998. Expected maturities differ from contractual maturities due to call or prepayment provisions. The weighted average coupon on variable rate securities is based on spot rates as of December 31, 1999 and 1998, and is primarily based on LIBOR. Callable bonds and notes are distributed to either call dates or maturity depending on which date produces the most conservative yield. Asset backed securities, collateralized mortgage obligations and mortgage backed securities are distributed to maturity year based on estimates of the rate of future prepayments of principal over the remaining life of the securities. These estimates are developed using prepayment speeds provided in broker consensus data. Such estimates are derived from prepayment speeds previously experienced at the interest rate levels projected for the underlying collateral. Actual prepayment experience may vary from these estimates. Financial instruments with certain leverage features have been included in each of the fixed maturity categories. These instruments have not been separately displayed because they were immaterial to the life investment portfolio.
The table below provides information as of December 31, 1999 on debt obligations and TruPS and reflects principal cash flows and related weighted average interest rate by maturity year. Comparative totals are included as of December 31, 1998.
The life operations employ several risk management tools to quantify and manage market risk arising from their investments and interest sensitive liabilities. For certain portfolios, management monitors the changes in present value between assets and liabilities resulting from various interest rate scenarios using integrated asset/liability measurement systems and a proprietary system that simulates the impacts of parallel and non-parallel yield curve shifts. Based on this current and prospective information, management implements risk reducing techniques to improve the match between assets and liabilities.
Anticipatory Hedging -- For certain liabilities, life operations commits to the price of the product prior to receipt of the associated premium or deposit. Anticipatory hedges are executed to offset the impact of changes in asset prices arising from interest rate changes pending the receipt of premium or deposit and the subsequent purchase of an asset. These hedges involve taking a long position in interest rate futures or entering into an interest rate swap with duration characteristics equivalent to the associated liabilities or anticipated investments. The notional amounts of anticipatory hedges as of December 31, 1999 and 1998 were $314 and $712, respectively.
Management of the duration of investments with respective policyholder obligations is an explicit objective of the life operations' management strategy. The estimated cash flows of insurance policy liabilities based upon internal actuarial assumptions as of December 31, 1999 are reflected in the table below by expected maturity year. Comparative totals are included for December 31, 1998.
Capital resources and liquidity represent the overall financial strength of The Hartford and its ability to generate strong cash flows from each of the business segments and borrow funds at competitive rates to meet operating and growth needs. The capital structure of The Hartford consists of debt, minority interest and equity summarized as follows as of December 31:
The Hartford's total capitalization, excluding unrealized gain on securities, net of tax, increased by $499 as of December 31, 1998 compared to 1997. This change primarily was the result of earnings and additional net borrowings, partially offset by dividends declared on The Hartford's common stock and the net effect of treasury stock acquired.
Pursuant to the initial public offering on May 22, 1997 (the Offering) of Class A common stock of Hartford Life, Inc. (HLI), the holding company parent of The Hartford's significant life insurance subsidiaries, HLI sold to the public 26 million shares at $28.25 per share and received proceeds, net of offering expenses, of $687.
Total debt in 1998 increased $56 compared to 1997. The Hartford used the proceeds of these net additional borrowings for general corporate purposes. (For additional information regarding Debt, see Note 6 of Notes to Consolidated Financial Statements.)
Dividends - The Hartford declared $209 and paid $207 in dividends to shareholders in 1999 and declared $199 and paid $197 in 1998.
Treasury Stock - In December 1997, The Hartford's Board of Directors authorized the repurchase of up to $1.0 billion of the Company's outstanding common stock over a three-year period beginning with the first quarter of 1998. The Hartford completed the $1.0 billion repurchase authorization during 1999 by repurchasing 9.2 million shares of its common stock in the open market at a total cost of $453. In October 1999, The Hartford's Board of Directors authorized the repurchase of up to an additional $1.0 billion of the Company's outstanding common stock. This repurchase authorization was initiated in November 1999 when the prior repurchase authorization granted in December 1997 was completed, and covers a three-year period. As of December 31, 1999, The Hartford repurchased 3.1 million shares of its common stock in the open market at a total cost of $143 under this repurchase authorization. Some of the repurchased shares were reissued pursuant to certain stock-based benefit plans.
Unrealized Gain (Loss) - Unrealized gain (loss) on securities, net of tax, decreased by $1.0 billion as of December 31, 1999 compared to December 31, 1998. The change resulted primarily from the impact of increased interest rates on the fixed maturity portfolio.
The following table summarizes The Hartford's significant U.S. member companies' financial ratings from the major independent rating organizations as of February 29, 2000.
A.M. DUFF & STANDARD BEST PHELPS & POOR'S MOODY'S - ---------------------------------------------------------------- Insurance Ratings: Hartford Fire A+ AA AA Aa3 Hartford Life Insurance Company A+ AA+ AA Aa3 Hartford Life & Accident A+ AA+ AA Aa3 Hartford Life & Annuity A+ AA+ AA Aa3 - ---------------------------------------------------------------- Other Ratings: The Hartford Financial Services Group, Inc.: Senior debt a+ A+ A A2 Commercial paper -- D-1 A-1 P-1 Hartford Capital I and II quarterly income preferred securities a+ A BBB+ a2 Hartford Life, Inc.: Senior debt a+ A+ A A2 Commercial paper -- D-1 A-1 P-1 Hartford Life, Inc.: Capital I trust preferred securities a+ A BBB+ a2 - ----------------------------------------------------------------
Enactment of the Financial Services Modernization Act at the federal level has focused renewed attention on state regulation of insurance. Elements of the insurance industry are involved in a countrywide initiative to streamline regulatory procedures, notably the elimination of rate and form filing requirements for property-casualty lines. Altogether, about half the states have considered a variety of such measures, which could result in reduced transaction costs and improved speed to market.
Congress continues to debate reform of the Superfund hazardous waste cleanup program and the creation of a centralized mechanism for handling asbestos injury claims. Both proposals have the potential to reduce claim exposures; however, enactment of such legislation may not occur in the current Congress. Pending legislation to end abusive class-action lawsuits would also have a beneficial impact, but prospects for near-term enactment are likewise uncertain. So-called "patient protection" legislation introduced in Congress and in many states includes provisions permitting lawsuits against health maintenance organizations (HMOs) for denial of coverage. Although the Company is not a health care provider, passage of such legislation could affect medical claim costs to the extent that HMOs were constrained from aggressively managing care.
In all states, insurers licensed to transact certain classes of insurance are required to become members of an insolvency fund. In most states, in the event of the insolvency of an insurer writing any such class of insurance in the state, all members of the fund are assessed to pay certain claims of the insolvent insurer. A particular state's fund assesses its members based on their respective written premiums in the state for the classes of insurance in which the insolvent insurer is engaged. Assessments are generally limited for any year to one or two percent of premiums written per year depending on the state. Such assessments paid by The Hartford approximated $4 in 1999, $12 in 1998 and $19 in 1997.
The NAIC developed several model laws and regulations, including a Model Investment Law and amendments to the Model Holding Company System Regulatory Act (the Holding Act Amendments). The Model Investment Law defines the investments, which are permissible for property and casualty and life insurers to hold, and the Holding Act Amendments address the types of activities in which subsidiaries and affiliates may engage. The NAIC adopted these models in 1997 and 1996, but the laws have not been enacted for insurance companies domiciled in the State of Connecticut, such as Hartford Fire Insurance Company. Even if enacted in Connecticut or other states in which The Hartford's insurance subsidiaries are domiciled, it is expected that these laws will neither significantly change The Hartford's investment strategies nor have any material adverse effect on The Hartford's liquidity or financial position.
The Company distributes its annuity, life and certain property and casualty insurance products through a variety of distribution channels, including broker-dealers, banks, wholesalers, its own internal sales force and other third party organizations. The Company periodically negotiates provisions and renewals of these relationships and there can be no assurance that such terms will remain acceptable to the Company or such third parties. An interruption in the Company's continuing relationship with certain of these third parties could materially affect the Company's ability to market its products. During the first quarter of 1999, the Company modified its existing, exclusive contract with one such third party, Putnam Mutual Funds Corp. (Putnam) to eliminate the exclusivity provision which will allow both parties to pursue new market opportunities. Putnam is contractually obligated to support and service the related annuity in force block of business and to market, support and service new business. However, there can be no assurance that this contract modification will not adversely impact the Company's ability to distribute Putnam related products.
dates beginning with the Year 2000 and beyond. The Year 2000 issue exists because, historically, many IT and non-IT systems that are in use today were developed years ago when a year was identified using a two-digit date field rather than a four-digit date field. As information and data containing or related to the century date are introduced to date sensitive systems, these systems may recognize the Year 2000 as "1900," or not at all, which may result in systems processing information incorrectly. This, in turn, may significantly and adversely affect the integrity and reliability of information databases of IT systems, may cause the malfunctioning of certain non-IT systems, and may result in a wide variety of adverse consequences to a company. In addition, Year 2000 problems that occur with third parties with which a company does business, such as suppliers, computer vendors, distributors and others, may also adversely affect any given company.
Beginning in 1990, The Hartford began working on making its IT systems Year 2000 ready, either through installing new programs or replacing systems. These efforts were completed by the end of 1999, including the internal and external integrated testing of such systems. In addition, The Hartford's Year 2000 efforts included assessing the potential impact on The Hartford of third parties' Year 2000 readiness.
The after-tax costs of The Hartford's Year 2000 efforts that were incurred prior to January 1, 1998 were not material to The Hartford's financial condition or results of operations. For the years ended December 31, 1999 and 1998, the after-tax costs were approximately $17 and $23, respectively. These costs were expensed as incurred. The Hartford does not expect to incur significant costs in 2000 related to its Year 2000 efforts.
As an insurer, The Hartford has received and expects to receive claims from insureds who have incurred or may incur losses as a result of Year 2000 issues. Insurance coverage, if any, will depend upon the provisions of the policies and the facts and circumstances of each claim. The Hartford does not currently believe that the claim and claim adjustment expenses related to such claims will have a material impact upon The Hartford's financial condition or results of operations.