approximately two thousand square feet in Canada. All of the properties owned or leased are used by one or more of all five reporting segments, depending on the location. For more information on reporting segments, see Part I, Item 1, Business Reporting Segments. The Company believes its properties and facilities are suitable and adequate for current operations.
On May 31, 2018, Hartford Holdings, Inc., a wholly owned subsidiary of the Company, completed the sale of the issued and outstanding equity of Hartford Life, Inc. (“HLI”), a holding company, and its life and annuity operating subsidiaries. For discussion of this transaction, see Note 20 - Business Dispositions and Discontinued Operations of Notes to Consolidated Financial Statements.
On May 10, 2017, the Company completed the sale of its U.K.
property and casualty run-off subsidiaries. The operating results of the Company's U.K. property and casualty run-off subsidiaries are included in the P&C Other Operations reporting segment. For discussion of this transaction, see Note 20 - Business Dispositions and Discontinued Operations of Notes to Consolidated Financial Statements.
On July 29, 2016, the Company completed the acquisition of Maxum Specialty Insurance Group and Lattice Strategies LLC. Maxum's revenue and earnings since the acquisition date are included in the operating results of the Company's Commercial Lines reporting segment. Lattice's revenue and earnings since the acquisition date are included in the operating results of the Company's Hartford Funds reporting segment. For discussion of these transactions, see Note 2 - Business Acquisitions of Notes to Consolidated Financial Statements.
Distribution costs within the Hartford Funds segment that were previously netted against fee income are presented gross in insurance operating costs and other expenses.
Assets Under Management (“AUM”)- include mutual fund and exchange-traded products ("ETP") assets. AUM is a measure used by the Company's Hartford Funds segment because a significant portion of the Company’s mutual fund and ETP revenues are based upon asset values. These revenues increase or decrease with a rise or fall in AUM whether caused by changes in the market or through net flows.
Current Accident Year Catastrophe Ratio- a component of the loss and loss adjustment expense ratio, represents the ratio of catastrophe losses incurred in the current accident year (net of reinsurance) to earned premiums. A catastrophe is an event that causes $25 or more in industry insured property losses and affects a significant number of property and casualty policyholders and insurers, as defined by the Property Claim Service office of Verisk. The current accident year catastrophe ratio includes the effect of catastrophe losses, but does not include the effect of reinstatement premiums.
Core Earnings- a non-GAAP measure, is an important measure of the Company’s operating performance. The Company believes that core earnings provides investors with a valuable measure of the underlying performance of the Company’s businesses because it reveals trends in our insurance and financial services businesses that may be obscured by including the net effect of certain realized capital gains and losses, certain restructuring and other costs, loss on extinguishment of debt, pension settlements, integration and transaction costs in connection with an acquired business, gains and losses on reinsurance transactions, income tax benefit from a reduction in deferred income tax valuation allowance, impact of the Tax Cuts and Jobs Act of 2017 ("Tax Reform") on net deferred tax assets, and results of discontinued operations. Some realized capital gains and losses are primarily driven by investment decisions and external economic developments, the nature and timing of which are unrelated to the insurance and underwriting aspects of our business. Accordingly, core earnings excludes the effect of all realized gains and losses that tend to be variable from period to period based on capital market conditions. The Company believes, however, that some realized capital gains and losses are integrally related to our insurance operations, so core earnings includes net realized gains and losses such as net periodic settlements on credit derivatives. These net realized gains and losses are directly related to an offsetting item included in the income statement such as net investment income. Core earnings are net of preferred stock dividends declared since they are a cost of financing more akin to interest expense on debt and are expected to be a recurring expense as long as the preferred stock is outstanding. Net income (loss), net income (loss) available to common stockholders and income (loss) from continuing operations, net of tax, available to common stockholders are the most directly comparable U.S. GAAP measures to core earnings. Core earnings should not be considered as a substitute for net income (loss), net income (loss) available to common stockholders or income (loss) from continuing operations, net of tax, available to common stockholders and does not reflect the overall profitability of the Company’s business. Therefore, the Company believes that it is useful for investors to evaluate net income (loss), net income (loss) available to common stockholders, income (loss) from continuing operations, net of tax, available to common stockholders and core earnings when reviewing the Company’s performance.
The expense ratio for Group Benefits is expressed as the ratio of insurance operating costs and other expenses including amortization of intangibles and amortization of DAC, to premiums and other considerations, excluding buyout premiums. The expense ratio does not include integration and other transaction costs associated with an acquired business.
under management either through positive net flows or favorable market performance will have a favorable impact on fee income. Conversely, either negative net flows or unfavorable market performance will reduce fee income.
Policies in Force- represents the number of policies with coverage in effect as of the end of the period. The number of policies in force is a growth measure used for Personal Lines and standard commercial lines within Commercial Lines and is affected by both new business growth and policy count retention.
Reinstatement Premiums- represents additional ceded premium paid for the reinstatement of the amount of reinsurance coverage that was reduced as a result of the Company ceding losses to reinsurers.
Renewal Written Price Increase (Decrease)- for Commercial Lines, represents the combined effect of rate changes, amount of insurance and individual risk pricing decisions per unit of exposure on policies that renewed. For Personal Lines, renewal written price increases represent the total change in premium per policy since the prior year on those policies that renewed and includes the combined effect of rate changes, amount of insurance and other changes in exposure. For Personal Lines, other changes in exposure include, but are not limited to, the effect of changes in number of drivers, vehicles and incidents, as well as changes in customer policy elections, such as deductibles and limits. The rate component represents the change in rate filed with and approved by state regulators during the period and the amount of insurance represents the change in the value of the rating base, such as model year/vehicle symbol for automobiles, building replacement costs for property and wage inflation for workers’ compensation. A number of factors affect renewal written price increases (decreases) including expected loss costs as projected by the Company’s pricing actuaries, rate filings approved by state regulators, risk selection decisions made by the Company’s underwriters and marketplace competition. Renewal written price changes reflect the property and casualty insurance market cycle. Prices tend to increase for a particular line of business when insurance carriers have incurred significant losses in that line of business in the recent past or the industry as a whole commits less of its capital to writing exposures in that line of business. Prices tend to decrease when recent loss experience has been favorable or when competition among insurance carriers increases. Renewal written price statistics are subject to change from period to period, based on a number of factors, including changes in actuarial estimates and the effect of subsequent cancellations and non-renewals, and modifications made to better reflect ultimate pricing achieved.
Written and Earned Premiums- Written premium is a statutory accounting financial measure which represents the amount of premiums charged for policies issued, net of reinsurance, during a fiscal period. Earned premium is a U.S. GAAP and statutory measure. Premiums are considered earned and are included in the financial results on a pro rata basis over the policy period. Management believes that written premium is a performance measure that is useful to investors as it reflects current trends in the Company’s sale of property and casualty insurance products. Written and earned premium are recorded net of ceded reinsurance premium.
The profitability of the Company's property and casualty insurance businesses over time is greatly influenced by the Company’s underwriting discipline, which seeks to manage exposure to loss through favorable risk selection and diversification, its management of claims, its use of reinsurance, the size of its in force block, actual mortality and morbidity experience, and its ability to manage its expense ratio which it accomplishes through economies of scale and its management of acquisition costs and other underwriting expenses. Pricing adequacy depends on a number of factors, including the ability to obtain regulatory approval for rate changes, proper evaluation of underwriting risks, the ability to project future loss cost frequency and severity based on historical loss experience adjusted for known trends, the Company’s response to rate actions taken by competitors, its expense levels and expectations about regulatory and legal developments. The Company seeks to price its insurance policies such that insurance premiums and future net investment income earned on premiums received will cover underwriting expenses and the ultimate cost of paying claims reported on the policies and provide for a profit margin. For many of its insurance products, the Company is required to obtain approval for its premium rates from state insurance departments.
Book value per diluted common share decreased to $35.06 from $37.11 as of December 31, 2017 as a result of a 5% decrease in common stockholders' equity resulting primarily from a decrease in AOCI over the period, partially offset by net income in excess of stockholder dividends.
Net investment income increased 11% to $1,780 compared with the prior year primarily due to higher average fixed maturities asset levels during 2018 as compared to 2017 largely driven by the acquisition of Aetna's U.S. group life and disability business in November 2017 and, to a lesser extent, higher income from partnerships and other alternative investments and a higher reinvestment rate on fixed maturities.
Annualized investment yield, after tax of 3.3%, was up 30 basis points from 2017 primarily due to the effect of a lower corporate Federal income tax rate.
Catastrophe losses of $821, before tax, decreased from catastrophe losses of $836, before tax, in the prior year, with catastrophes in both years including losses from California wildfires, hurricanes, winter storms and various wind and hail events.
The Consolidated Results of Operations should be read in conjunction with the Company's Consolidated Financial Statements and the related Notes beginning on page as well as with the segment operating results sections of MD&A.
Excludes distribution costs of $188 and $184 for the years ended December 31, 2017, and 2016, respectively, that were previously netted against fee income and are now presented gross in insurance operating costs and other expenses.
Net income (loss) available to common stockholders increased from a net loss in 2017, primarily due to a number of charges in 2017, including a $3.3 billion after tax loss on sale of the life and annuity business sold in May 2018, $877 of income tax expense primarily from reducing net deferred tax assets due to the reduction of the corporate Federal income tax rate, and the effect of a pension settlement charge of $488, after tax. Apart from these charges in 2017, net income available to common stockholders increased, driven by higher net income in Commercial Lines, Group Benefits and Hartford Funds that was partially attributable to a lower corporate Federal income tax rate in 2018. Higher earned premium and net investment income in Commercial Lines and Group Benefits, including from the acquisition of Aetna’s U.S. group life and disability business, increased fee income in Hartford Funds, more favorable prior accident year development in workers’ compensation, a lower current accident year loss ratio before catastrophes in Personal Lines and improved long term disability results, were partially offset by the effect of lower Personal Lines earned premium and higher insurance operating costs and other expenses, and a change to net realized capital losses.
offset by a 3% increase in Commercial Lines. For a discussion of the Company's operating results by segment, see MD&A - Segment Operating Summaries.
Fee income increased, reflecting higher income in Group Benefits related to an increase in administrative service contracts as a result of the acquisition from Aetna and in Hartford Funds largely due to higher average daily AUM during the year despite a decline in AUM at the end of the year.
Benefits, losses and loss adjustment expenses increased in Group Benefits, partially offset by a decrease in Property & Casualty with the increase in Group Benefits primarily due to the effect of growth in earned premium
Current accident year loss and loss adjustment expenses before catastrophes in Property & Casualty decreased, primarily resulting from the effect of lower Personal Lines earned premium and lower loss costs in auto, homeowners and general liability, partially offset by higher loss costs in workers’ compensation.
Income tax expense decreased primarily due to an $877 charge in 2017 due to a reduction in net deferred tax assets as a result of the lower corporate Federal income tax rate partially offset by an increase in before tax income and the effect of a lower corporate Federal income tax rate in 2018. Differences between the Company's effective income tax rate and the U.S. statutory rate of 21% and 35% in 2018 and 2017, respectively, are due primarily to tax-exempt interest earned on invested assets, stock-based compensation, non-deductible executive compensation and the effects of Tax Reform on net deferred tax
assets. For further discussion of income taxes, see Note 16 - Income Taxes of Notes to Consolidated Financial Statements.
Income from discontinued operations, net of tax of $322 in 2018, increased from a net loss from discontinued operations of $2.9 billion in 2017. The $322 of income from discontinued operations in 2018 was mostly attributable to recognizing additional retained tax benefits from the sale of the life and annuity business in May 2018 and the reclassification of $193 of stranded tax effects from AOCI to retained earnings related to this sale, both of which reduced the estimated loss on sale. The reclassification of stranded tax effects resulted in a corresponding increase in AOCI related to the assets held for sale. For more information on the reclassification of stranded tax effects, see Note 1 - Basis of Presentation and Significant Accounting Policies of Notes to Consolidated Financial Statements. The $2.9 billion net loss on discontinued operations in 2017 was driven by a $3.3 billion net loss on the sale of the life and annuity business which closed on May 31, 2018.
Net income (loss) available to common stockholders decreased from net income in 2016 to a net loss in 2017 primarily due to a loss on discontinued operations of $2.9 billion related to the pending sale of the life and annuity business, a charge to income tax expense of $877 arising primarily from the reduction of net deferred tax assets due to the enactment of lower Federal income tax rates and a pension settlement charge of $488 after tax. Partially offsetting the decline were the effects of a $179 after tax change from net realized capital losses in 2016 to net realized capital gains in 2017, the effect of a $423 after tax charge in 2016 related to a loss on reinsurance covering the Company’s asbestos and environmental exposures and a reduction in the valuation allowance on capital loss carryovers in 2016. In addition, a $324 after tax improvement in P&C prior accident year development and higher earnings in Group Benefits and Hartford Funds were largely offset by a $273 after tax increase in current accident year catastrophes and higher variable incentive compensation.
Current accident year losses and loss adjustment expenses before catastrophes in Property & Casualty were relatively flat, primarily resulting from improved loss ratios and lower earned premiums in Personal Lines, offset by higher loss ratios in workers' compensation and general liability.
Favorable prior accident year reserve development in Property & Casualty of $41, before tax, compared to unfavorable reserve development of $457, before tax, for the prior year period. Prior accident year development in 2017 primarily included decreases in reserves for workers’ compensation and small commercial package business, partially offset by an increase in reserves for bond claims. Prior accident year development in 2016 was largely due to a $268 increase in asbestos and environmental reserves and a $160 increase in Personal Lines automobile liability reserves. For additional information, see MD&A - Critical Accounting Estimates, Reserve Rollforwards and Development.
Amortization of other intangible assets increased by $10 largely due to amortization of identifiable intangible assets recorded as a result of the acquisition of the Aetna U.S. group life and disability business, including in-force contracts, customer relationships and a marketing agreement with Aetna.
Income tax expense increased primarily due to a charge of $877 as a result of the Tax Cuts and Jobs Act ("Tax Reform") enacted in December, 2017. Among other changes, Tax Reform reduced the Federal corporate income tax rate from 35% to 21% effective January 1, 2018 which resulted in a reduction of the Company's net deferred tax assets, including its net operating loss carryovers. Also contributing to the increase in income tax expense were Federal income tax benefits of $113 in 2016 arising from investments in solar energy partnerships that generated tax benefits and the effect of a federal income tax benefit of $65 in 2016 related to the sale of the Company's U.K. property and casualty run-off subsidiaries.
Income (loss) from discontinued operations, net of tax decreased from income of $283 in 2016 to a net loss of $2.9 billion in 2017 with the net loss in 2017 due to a loss on sale of the Company’s life and annuity business of $3.3 billion, partially offset by operating income from discontinued operations of $388. Operating income from discontinued operations increased from $283 in 2016 primarily due to lower net realized capital losses in 2017. Apart from the reduction in net realized capital losses, earnings were relatively flat as an increase in the unlock benefit and lower interest credited were largely offset by lower net investment income and lower fee income due to the continued run off of the variable annuity block.
Effective January 1, 2018, with the adoption of new accounting standards for financial instruments, equity securities, AFS were reclassified to equity securities at fair value.
Short-term investments increased due to proceeds from the sale of the life and annuity business sold in May 2018 and holding additional short-term investments in preparation to fund the Navigators acquisition and debt that matured in January 2019.
Annualized net investment income yield, excluding non-routine items which include prepayment penalties on mortgage loans and make-whole payments on fixed maturities, was 3.7% in 2018 up from 3.6% for the same period for 2017.
We expect the annualized net investment income yield for the 2019 calendar year, excluding limited partnerships and other alternative investments, to approximate the portfolio yield earned in 2018 though it could be higher depending on if reinvestment rates stay above the sales/maturity yield. The estimated impact on net investment income yield is subject to change as the composition of the portfolio changes through portfolio management and changes in market conditions.
Total net investment income increased primarily due to higher income from limited partnerships and other alternative investments, partially offset by lower make whole payment income on fixed maturities and increased investment expense. Income from limited partnerships and other alternative investments increased due to higher valuation write-ups of private equity partnerships and strong returns on real estate investments in 2017.
Other, net losses included losses of $11 related to credit derivatives due to credit spread widening.
Other, net gain included gains of $21 related to credit derivatives due to credit spread tightening, partially offset by losses of $7 related to equity derivatives hedging against the
Certain of these estimates are particularly sensitive to market conditions, and deterioration and/or volatility in the worldwide debt or equity markets could have a material impact on the Consolidated Financial Statements. In developing these estimates
It typically takes many months or years to pay claims incurred under a property and casualty insurance product; accordingly, the Company must establish reserves at the time the loss is incurred. Most of the Company’s policies provide for occurrence-based coverage where the loss is incurred when a claim event happens like an automobile accident, house or building fire or injury to an employee under a workers’ compensation policy. Some of the Company's policies, mostly for directors and officers insurance and errors and omissions insurance, are claims-made policies where the loss is incurred in the period the claim event is reported to the Company even if the loss event itself occurred in an earlier period.
The Company estimates the portion of losses and loss adjustment expenses to be ceded based on the terms of any applicable facultative and treaty reinsurance, including an estimate of how IBNR for losses will ultimately be ceded.
determined to be necessary. In the judgment of management, information currently available has been properly considered in establishing the reserves for unpaid losses and loss adjustment expenses and in recording the reinsurance recoverables for ceded unpaid losses.
Use of Actuarial Methods and Judgments- The Company’s reserving actuaries regularly review reserves for both current and prior accident years using the most current claim data. A variety of actuarial methods and judgments are used for most lines of business to arrive at selections of estimated ultimate losses and loss adjustment expenses. In 2018, new methods were added to inform these selections where appropriate. The reserve selections incorporate input, as appropriate, from claims personnel, pricing actuaries and operating management about reported loss cost trends and other factors that could affect the reserve estimates. Most reserves are reviewed fully each quarter, including loss and loss adjustment expense reserves for homeowners, commercial property, automobile physical damage, automobile liability, package property business, and workers’ compensation. Other reserves, including most general liability and professional liability lines, are reviewed semi-annually. Certain additional reserves are also reviewed semi-annually or annually, including reserves for losses incurred in accident years older than twelve years for Personal Lines and older than twenty years for Commercial Lines, as well as reserves for bond, assumed reinsurance, latent exposures such as construction defects, and unallocated loss adjustment expenses. For reserves that are reviewed semi-annually or annually, management monitors the emergence of paid and reported losses in the intervening quarters and, if necessary, performs a reserve review to determine whether the reserve estimate should change.
An expected loss ratio is used in initially recording the reserves for both short-tail and long-tail lines of business. This expected
In the final step of the reserve review process, senior reserving actuaries and senior management apply their judgment to determine the appropriate level of reserves considering the actuarial indications and other factors not contemplated in the actuarial indications. Those factors include, but are not limited to, the assessed reliability of key loss trends and assumptions used in the current actuarial indications, the maturity of the accident year, pertinent trends observed over the recent past, the level of volatility within a particular line of business, and the improvement or deterioration of actuarial indications in the current period as compared to the prior periods. The Company also considers the magnitude of the difference between the actuarial indication and the recorded reserves. As of December 31, 2018, recorded reserves were above the actuarial indications by an amount comparable with December 31, 2017.
adjustments of reserves are referred to as “prior accident year development”. Increases in previous estimates of ultimate loss costs are referred to as either an increase in prior accident year reserves or as unfavorable reserve development. Decreases in previous estimates of ultimate loss costs are referred to as either a decrease in prior accident year reserves or as favorable reserve development. Reserve development can influence the comparability of year over year underwriting results.
assess whether those conditions constitute a long-term trend that should result in a reserving action (i.e., increasing or decreasing the reserve).
General liability- Within Commercial Lines and Property & Casualty Other Operations, the Company has exposure to general liability claims, including from bodily injury, property damage and product liability. Reserves for these exposures can be particularly difficult to estimate due to the long development pattern and uncertainty about how cases will settle. In particular, the Company has exposure to bodily injury claims that is the result of long-term or continuous exposure to harmful products or substances. Examples include, but are not limited to, pharmaceutical products, silica, talcum powder, head injuries and lead paint. The Company also has exposure to claims from construction defects, where property damage or bodily injury from negligent construction is alleged. In addition, the Company has exposure to claims asserted against religious institutions and other organizations relating to molestation or abuse. Such exposures may involve potentially long latency periods and may implicate coverage in multiple policy periods. These factors make reserves for such claims more uncertain than other bodily injury or property damage claims. With regard to these exposures, the Company monitors trends in litigation, the external environment, the similarities to other mass torts and the potential impact on the Company’s reserves.
Workers’ compensation- Included in middle market and specialty commercial, workers’ compensation is the Company’s single biggest line of business and the property and casualty line of business with the longest pattern of loss emergence. To the extent that patterns in the frequency of settlement payments deviate from historical patterns, loss reserve estimates would be less reliable. Medical costs make up approximately 50% of workers’ compensation payments. As such, reserve estimates for workers’ compensation are particularly sensitive to changes in medical inflation, the changing use of medical care procedures and changes in state legislative and regulatory environments. In addition, a deteriorating economic environment can reduce the ability of an injured worker to return to work and lengthen the time a worker receives disability benefits. Within specialty commercial, reserves for large deductible workers’ compensation insurance require estimating losses attributable to the deductible amount that will be paid by the insured; if such losses are not paid by the insured due to financial difficulties, the Company is contractually liable.
Commercial Lines automobile-Uncertainty in estimated claim severity causes reserve variability for commercial automobile losses including reserve variability due to changes in internal claim handling and case reserving practices as well as due to changes in the external environment.
Directors' and officers' insurance- Uncertainty regarding the number and severity of class action suits can result in reserve volatility for both directors' and officers' insurance claims. Additionally, the Company’s exposure to losses under directors’ and officers’ insurance policies is primarily in excess layers, making estimates of loss more complex.
Personal Lines automobile- In Personal Lines, while claims emerge over relatively shorter periods, estimates can still vary due to a number of factors, including uncertain estimates of frequency and severity trends, particularly for auto liability
claims. Severity trends are affected by changes in internal claim handling and case reserving practices as well as by changes in the external environment. Changes in claim practices increase the uncertainty in the interpretation of case reserve data, which increases the uncertainty in recorded reserve levels. Severity trends have increased in recent accident years, in part driven by more expensive parts associated with new automobile technology, causing additional uncertainty about the reliability of past patterns. In addition, the introduction of new products and class plans has led to a different mix of business by type of insured than the Company experienced in the past. Such changes in mix increase the uncertainty of the reserve projections, since historical data and reporting patterns may not be applicable to the new business.
The estimated liabilities of insureds and the Company’s exposure to the insureds depends heavily on an analysis of the relevant legal issues and litigation environment. This analysis is conducted by the Company’s lawyers and is subject to applicable privileges.
During 2018, the Company’s re-estimates of prior accident year reserves included the following significant reserve changes:
Workers’ compensation reserves were reduced in small commercial and middle market, primarily for accident years 2014 and 2015, as claim severity has emerged favorably compared to previous reserve estimates. Also contributing was a reduction in estimated reserves for unallocated loss adjustment expense ("ULAE").
Professional liability reserves were reduced, principally for accident years 2014 and prior, for directors and
Catastrophe reserves were reduced, primarily as a result of lower estimated net losses from 2017 catastrophes, principally related to hurricanes Harvey and Irma. Before reinsurance, estimated losses for 2017 catastrophe events decreased by $133, resulting in a decrease in reinsurance recoverables of $90 as the Company no longer expects to recover under the 2017 Property Aggregate reinsurance treaty as aggregate ultimate losses for 2017 catastrophe events are now projected to be less than $850.
Uncollectible reinsurance reserves were increased due to lower anticipated recoveries related to older accident years.
Other reserve re-estimates, net, primarily represents an increase in ULAE reserves in Property & Casualty
General liability reserves were increased for the 2013 to 2016 accident years on a class of business that insures service and maintenance contractors. This increase was partially offset by a decrease in recent accident year reserves for other middle market general liability reserves.
Package business reserves were reduced for accident years 2013 and prior largely due to reducing the Company’s estimate of allocated loss adjustment expenses incurred to settle the claims.
Automobile liability reserves within Commercial Lines were increased in small commercial and large national accounts for the 2013 to 2016 accident years, driven by higher frequency of more severe accidents, including litigated claims.
During 2016, the Company’s re-estimates of prior accident year reserves included the following significant reserve changes:
Package business reserves increased due to higher than expected severity on liability claims, principally for accident years 2013 - 2015. Severity for these accident years has developed unfavorably and management has placed more weight on emerged experience.
Automobile liability reserves increased due to increases in both commercial lines automobile and personal lines automobile. Commercial automobile liability reserves increased, predominately for the 2015 accident year, primarily due to increased frequency of large claims. Personal automobile liability reserves increased, primarily related to increased bodily injury
Uncollectible reinsurance reserves decreased as a result of giving greater weight to favorable collectibility experience in recent calendar periods in estimating future collections.
Reserves for asbestos and environmental are primarily within P&C Other Operations with less significant amounts of asbestos and environmental reserves included within Commercial Lines and Personal Lines. The following tables include all asbestos and environmental reserves, including reserves in P&C Other Operations and Commercial Lines and Personal Lines.
Effective December 31, 2016, the Company entered into an A&E ADC reinsurance agreement with NICO, a subsidiary of Berkshire Hathaway Inc., to reduce uncertainty about potential adverse development. Under the ADC, the Company paid a reinsurance premium of $650 for NICO to assume adverse net loss and allocated loss adjustment expense reserve development up to $1.5 billion above the Company’s existing net A&E reserves as of December 31, 2016 of approximately $1.7 billion. The $650 reinsurance premium was placed in a collateral trust account as security for NICO’s claim payment obligations to the Company. The Company has retained the risk of collection on amounts due from other third-party reinsurers and continues to be responsible for claims handling and other administrative services, subject to certain conditions. The ADC covers substantially all the Company’s A&E reserve development up to the reinsurance limit.
Under retroactive reinsurance accounting, net adverse A&E reserve development after December 31, 2016, will result in an offsetting reinsurance recoverable up to the $1.5 billion limit. Cumulative ceded losses up to the $650 reinsurance premium paid are recognized as a dollar-for-dollar offset to net losses incurred before ceding to the ADC. Cumulative ceded losses exceeding the $650 reinsurance premium paid would result in a deferred gain. The deferred gain would be recognized over the claim settlement period in the proportion of the amount of cumulative ceded losses collected from the reinsurer to the estimated ultimate reinsurance recoveries. Consequently, until periods when the deferred gain is recognized as a benefit to earnings, cumulative adverse development of A&E claims after December 31, 2016 in excess of $650 may result in significant charges against earnings.
As of December 31, 2018, the Company has incurred a cumulative $523 in adverse development on A&E reserves that have been ceded under the ADC treaty with NICO, leaving approximately $977 of coverage available for future adverse net reserve development, if any.
Net and gross survival ratios are a measure of the quotient of the carried reserves divided by average annual payments (net of reinsurance and on a gross basis) and is an indication of the number of years that carried reserves would last (i.e. survive) if future annual payments were consistent with the calculated historical average.
As a result of the 2017 fourth quarter review, the Company increased estimated reserves before NICO reinsurance by $183, primarily due to mesothelioma claim filings not declining as expected, unfavorable developments in coverage law in some jurisdictions and continued filings in specific, adverse jurisdictions. An increase in reserves from umbrella and excess policies in the 1981-1985 policy years contributed to the adverse development. This increase in reserves was offset by a $183 reinsurance recoverable under the NICO treaty.
As a result of the 2018 fourth quarter review, the Company increased estimated reserves before NICO reinsurance by $71 due to increased defense and clean-up costs associated with increasingly complex remediation plans at Superfund sites, intensifying regulatory scrutiny by state agencies (particularly in the Pacific Northwest), and increased liability shares due to unavailability of other responsible parties. The increase in environmental reserves was offset by a $71 reinsurance recoverable under the NICO treaty.
As a result of the 2017 comprehensive annual review, the Company increased estimated reserves before NICO reinsurance by $102. This increase was offset by a reinsurance recoverable of $102 under the NICO cover. A substantial majority of the Company’s direct environmental accounts trended as expected. However, a small percentage of the Company’s direct accounts exhibited deterioration due to increased clean-up costs and liability shares associated with Superfund sites and sediments in waterways, as well as adverse legal rulings, most notably from jurisdictions in the Pacific Northwest.
During the 2016 comprehensive annual review, a substantial majority of the Company's direct environmental accounts trended as expected. However, a small percentage of the Company's direct accounts exhibited deterioration associated with the tendering of new sites for coverage, increased defense
Estimating property and casualty insurance product reserves uses a variety of methods, assumptions and data elements.
The following table summarizes the effect of reserve re-estimates, net of reinsurance, on calendar year operations for the ten-year period ended December 31, 2018. The total of each column details the amount of reserve re-estimates made in the indicated calendar year and shows the accident years to which the re-estimates are applicable. The amounts in the total column on the far right represent the cumulative reserve re-estimates during the ten year period ended December 31, 2018 for the indicated accident year in each row.
The net increases in estimates of ultimate losses for accident years 2008 and prior are driven mostly by increased reserves for asbestos and environmental reserves, and also by increased estimates for customs bonds and other mass torts claims.
Unfavorable changes in estimates of ultimate losses on accident years 2010 and 2011 were primarily related to workers' compensation and commercial automobile liability. Workers' compensation loss cost trends were higher than initially expected as an increase in frequency outpaced a moderation of severity trends. Unfavorable commercial automobile liability reserve re-estimates were driven by higher frequency of large loss bodily injury claims.
The Company establishes reserves for group life and accident & health contracts, including long-term disability coverage, for both outstanding reported claims and claims related to insured events that the Company estimates have been incurred but have not yet been reported. These reserve estimates can change over time based on facts and interpretations of circumstances, and consideration of various internal factors including The Hartford’s experience with similar cases, claim payment patterns, loss control programs and mix of business. In addition, the reserve estimates are influenced by various external factors including court decisions and economic conditions. The effects of inflation are implicitly considered in the reserving process. Long-tail claim liabilities are discounted because the payment pattern and the ultimate costs are reasonably fixed and determinable on an
individual claim basis. The majority of Group Benefits’ reserves are for LTD claimants who are known to be disabled and are currently receiving benefits. The Company held $6,767 and $6,807 of LTD unpaid losses and loss adjustment expenses, net of reinsurance, as of December 31, 2018 and 2017, respectively.
The DLR also includes a liability for potential payments to pending claimants beyond the elimination period who have not yet been approved for LTD. In these cases, the present value of future benefits is reduced for the likelihood of claim denial based on Company experience.
Estimates for incurred but not reported ("IBNR") claims are made by applying completion factors to expected emerged experience by line of business. Included within IBNR are bulk reserves for claims reported but still within the waiting period, typically 3 or 6 months depending on the contract. Completion factors are derived from standard actuarial techniques using triangles that display historical claim count emergence by incurral month. These estimates are reviewed for reasonableness and are adjusted for current trends and other factors expected to cause a change in claim emergence. The reserves include an estimate of unpaid claim expenses, including a provision for the cost of initial set-up of the claim once reported.
For all products, including LTD, there is a period generally ranging from two to twelve months, depending on the product and line of business, where emerged claims for an incurral year are not yet credible enough to be a basis for estimating reserves. In these cases, the ultimate loss is estimated using earned premium multiplied by an expected loss ratio based on pricing assumptions of claim incidence, claim severity, and earned pricing.
approval standards or benefit offerings, create a risk that the amount to settle open claims will exceed initial estimates. Since the monthly income benefit for a claimant is established based on the individual’s salary at the time of disability and the level of coverages and benefits provided, inflation is not considered a significant risk to the reserve estimate. Few of the Company’s LTD policies provide for cost of living adjustments to the monthly income benefit.
priority order: quoted prices, prices from third-party pricing services, internal matrix pricing, and independent broker quotes. The fair value of free-standing derivative instruments are determined primarily using a discounted cash flow model or option model technique and incorporate counterparty credit risk. In some cases, quoted market prices for exchange-traded transactions and transactions cleared through central clearing houses ("OTC-cleared") may be used and in other cases independent broker quotes may be used. For further discussion, see the Fixed Maturities, Equity Securities, Short-term Investments and Free-standing Derivatives section in Note 5 - Fair Value Measurements of Notes to Consolidated Financial Statements.
Deferred tax assets represent the tax benefit of future deductible temporary differences and certain tax carryforwards. Deferred tax assets are measured using the enacted tax rates expected to be in effect when such benefits are realized if there is no change in tax law. Under U.S. GAAP, we test the value of deferred tax assets for impairment on a quarterly basis at the entity level within each tax jurisdiction, consistent with our filed tax returns. Deferred tax assets are reduced by a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion, or all, of the deferred tax assets will not be realized. The determination of the valuation allowance for our deferred tax assets requires management to make certain judgments and assumptions. In evaluating the ability to recover deferred tax assets, we have considered all available evidence as of December 31, 2018, including past operating results, forecasted earnings, future taxable income, and prudent and feasible tax planning strategies. In the event we determine it is more likely than not that we will not be able to realize all or part of our deferred tax assets in the future, an increase to the valuation allowance would be charged to earnings in the period such determination is made. Likewise, if it is later determined that it is more likely than not that those deferred tax assets would be realized, the previously provided valuation allowance would be reversed. Our judgments and assumptions are subject to change given the inherent uncertainty in predicting future performance and specific industry and investment market conditions.
As of December 31, 2018 and December 31, 2017, the Company had no valuation allowance. The reduction in the valuation
allowance in 2016 stems primarily from taxable gains on the termination of derivatives during the period. The Company’s net operating loss carryovers, if unused, would expire between 2026 and 2036. As of December 31, 2018, the Company projects there will be sufficient future taxable income to fully recover the remainder of its loss carryovers, though the Company's estimate of the likely realization may change over time. As of December 31, 2018, the Company had AMT credit carryovers of $841 which are reflected as a current income tax receivable within Other Assets in the accompanying consolidated balance sheet. AMT credits may be used to offset a regular tax liability for any taxable year beginning after December 31, 2017, and are refundable at an amount equal to 50 percent of the excess of the minimum tax credit for the taxable year over the amount of the credit allowable for the year against regular tax liability. Any remaining credits not used against regular tax liability are refundable in the 2021 tax year to be realized in 2022. For additional information about Tax Reform, see Note - 16, Income Taxes of Notes to Consolidated Financial Statements.
For discussion of current accident year catastrophes and prior accident year development, see MD&A - Critical Accounting Estimates, Property and Casualty Insurance Product Reserves Development, Net of Reinsurance.
Standard commercial lines consists of small commercial and middle market. Standard commercial premium measures exclude Maxum, higher hazard general liability in middle market and livestock lines of business.
Net income increased in 2018 due to a higher underwriting gain, a lower corporate Federal income tax rate and, to a lesser extent, an increase in net investment income, partially offset by a shift from net realized capital gains in 2017 to net realized capital losses in 2018. (For further discussion of investment results, see MD&A - Investment Results).
Net income decreased in 2017 due to a lower underwriting gain, partially offset by increases in net investment income and net realized capital gains. (For further discussion of investment results, see MD&A - Investment Results).
Other of $45, $46, and $42 for 2018, 2017, and 2016, respectively, is included in the total.
Earned premiums increased in 2018 reflecting written premium growth over the preceding twelve months.
Written premiums increased in 2018 primarily due to growth in middle market, small commercial and specialty commercial. In standard commercial lines, renewal written price increases declined in 2018, mostly attributable to bigger rate decreases in small commercial workers' compensation. New business and renewal written premium increased across most lines of business, particularly in middle market, partially offset by declines in small commercial workers' compensation.
Small commercial written premium increased in 2018, primarily driven by the business acquired under a renewal
Loss and LAE ratio before catastrophes and prior accident year development increased in 2017, primarily due to a higher loss and loss adjustment expense ratio in both workers' compensation and general liability, as well as higher commercial property losses in middle market. The workers’ compensation current accident year loss ratio deteriorated from 2016 to 2017 as increases in average claim severity outpaced the effect of earned pricing and a modest reduction in loss cost frequency.
Prior accident year development was a net favorable $200, before tax, for 2018 compared to favorable $22, before tax, for 2017. Net reserve decreases for 2018 were primarily related to decreases for workers' compensation, catastrophes and unallocated loss adjustment expense reserves, partially offset by an increase in general liability reserves. Estimated losses for 2017 catastrophe events in Commercial Lines decreased by $93 in 2018 resulting in a decrease in reinsurance recoverables of $43 as the Company no longer expects to recover under the 2017 Property Aggregate reinsurance treaty.
Prior accident year development was favorable in 2017 compared to unfavorable prior accident year development
Includes servicing revenues of $84, $85, and $86 for 2018, 2017, and 2016, respectively and includes servicing expenses of $68, $69, and $66 for 2018, 2017, and 2016, respectively.
In 2019, the Company expects the level of pricing increases for automobile and homeowners across the industry to decrease, as loss cost trends have moderated. Accordingly, the Company expects written pricing increases in 2019 to be in the mid single-digits for automobile and high single-digits for homeowners. Written premium is expected to decline slightly in 2019 as non-renewal of premium more than offsets new business growth, particularly in the agency channel. The Company expects to drive new business growth in more states in 2019, particularly in the direct channel.
The Company expects the combined ratio for Personal Lines will be between approximately 97.5 and 99.5 for 2019 compared to 106.3 in 2018, primarily due to lower current accident year catastrophes with the underlying combined ratio flat to slightly higher, as the Company increases spending on marketing. Current accident year catastrophes are budgeted to be 6.5 points of the combined ratio in 2019 compared with 16.1 points in 2018. For automobile, we expect the underlying combined ratio to improve slightly as a modest loss ratio improvement is partially offset by an increase in acquisition costs to increase new business. While management actions, including the effect of earned pricing, are expected to modestly exceed an increase in loss cost severity,
those will be partially offset by an increase in direct marketing and other expenses to generate new business. The underlying combined ratio for homeowners is expected to increase slightly in 2019, driven by a return to a more normal level of non-catastrophe weather loss experience and higher acquisition costs, partially offset by earned pricing increases.
Net loss was higher in 2018 than in 2017 due to a higher underwriting loss, a change to net realized capital losses and the effect of a lower corporate income tax rate, partially offset by higher net investment income.
Underwriting loss increased in 2018 primarily due to higher current accident year catastrophe losses, higher underwriting expenses and the effect of lower earned premium, partially offset by lower current accident year loss ratios before catastrophes in both auto and homeowners and lower amortization of DAC. The increase in underwriting expenses was largely driven by an increase in direct marketing spending, selling expenses, and operational costs to generate new business.
Earned premiums decreased in 2018, reflecting a decline in written premium over the prior six to twelve months in both Agency channels and, to a lesser extent, in AARP Direct.
Policy count retention increased in automobile as renewal written price increases decreased. Policy count
retention in homeowners was flat despite higher renewal written price increases.
Earned premiums decreased in 2017, reflecting a decline in written premium over the prior six to twelve months in the Other Agency channel and, to a lesser extent, in AARP Direct.
Renewal written pricing increases were higher in 2017 in both automobile and home, as the Company increased rates to improve profitability.
Loss and Loss Adjustment Expense Ratio before Catastrophes and Prior Accident Year Development
Current Accident Year Catastrophes and Unfavorable (Favorable) Prior Accident Year Development
Current accident year catastrophe losses for 2018 were primarily from wildfires in California, wind and hail storms in Colorado, hurricanes Florence and Michael in the Southeast and various wind storms and winter storms across the country. Catastrophe losses in 2018 are net of an estimated
Environmental Reserves reflected no net incurred losses and allocated loss adjustment expenses in 2018 as a $71 increase in estimated reserves before NICO reinsurance was offset by $71 of loss recoverable under the NICO treaty. The increase in reserves before NICO reinsurance was primarily due to increased clean-up costs and liability shares associated with Superfund sites and sediment in waterways, increased defense costs and adverse legal rulings, most notably from jurisdictions in the Pacific Northwest.
Asbestos Reserves reflected no net incurred losses and allocated loss adjustment expenses in 2017 as a $183 increase in estimated reserves before NICO reinsurance was offset by $183 of losses recoverable under the NICO treaty. The increase in reserves before NICO reinsurance was primarily due to mesothelioma claim filings not declining as expected, unfavorable developments in coverage law in some jurisdictions and continued filings in specific, adverse jurisdictions. An increased share of adverse development from the fourth quarter review is from umbrella and excess policies in the 1981-1985 policy years.
increase in reserves before NICO reinsurance was primarily due to increased clean-up costs and liability shares associated with Superfund sites and sediment in waterways, as well as adverse
The Results of Operations related to 2017 include two months of results from Aetna's U.S. group life and disability business due to the acquisition that occurred on November 1, 2017. For discussion of the acquisition, see Note 2 - Business Acquisitions of Notes to the Consolidated Financial Statements.
[1] Integration and transaction costs related to the acquisition of Aetna's U.S. group life and disability business are not included in the expense ratio.
Insurance operating costs and other expenses increased 40% primarily due to the acquisition of Aetna's U.S. group life and disability business, including integration costs and amortization of intangible assets, partially offset by state guaranty fund assessments of $20 before tax related to the liquidation of a life and health insurance company in 2017. Integration costs were $47 in 2018 compared to $17 in 2017.
Fully insured ongoing premiums increased 52% in 2018 driven primarily by the acquisition of Aetna's U.S. group life and disability business, sales in excess of cancellations with strong group life and disability persistency, and premium from the New York Paid Family Leave product.
Fully insured ongoing premiums increased in 2017, in part, because it included two months of premiums for the acquired Aetna's U.S. group life and disability business. Excluding the impact of the acquisition, fully insured ongoing premiums increased 3% due to sales, strong persistency and modest group disability pricing increases.
Total loss ratio decreased 0.8 points from 2017 to 2018 as a decrease in the group disability loss ratio was partially offset by an increase in the group life loss ratio. The group disability loss ratio decreased 3.4 points driven by continued favorable incidence trends, including favorable prior incurral year development of approximately $230 with most of that development from the 2017 incurral year as incidence trends become known after the elimination period is satisfied. In addition, the group disability loss ratio benefited from the lower discount accretion associated with the disability business acquired from Aetna.
2017 includes $4 of income tax expense primarily from reducing net deferred tax assets due to the reduction in the corporate Federal income tax rate from 35% to 21%. For further discussion, see Note 16 - Income Taxes of Notes to Consolidated Financial Statements.
Represents AUM of the life and annuity business sold in May, 2018 that is still managed by the Company's Hartford Funds segment.
Due in large part to the effect of the decline in markets on assets under management since October 2018, the Company expects net income for Hartford Funds to be relatively flat from 2018 to 2019, provided the Company continues to deliver strong fund performance and generates positive net flows. The Company expects to increase net sales in 2019 from a diversified lineup of mutual funds and ETPs, though net flows are more uncertain given the increased volatility in the markets. Assuming the Company can generate positive net flows and fund performance is strong, assets under management are expected to increase modestly despite the continued decline of the Talcott Resolution AUM.
Hartford Funds AUM decreased from December 31, 2017 to December 31, 2018 largely due to a decline in markets in the fourth quarter of 2018 and the continued expected decline of the Talcott Resolution AUM still managed by the Company. Despite the decline in AUM in the fourth quarter of 2018, average daily assets under management for the year were up 9% due to market appreciation and net positive flows during the first 9 months of 2018.
Net income compared to a net loss in 2017, primarily due to a number of charges in 2017, including a $3.3 billion after tax loss on the life and annuity business sold in May 2018, $867 of income tax expense primarily from reducing net deferred tax assets due to the reduction of the corporate Federal income tax rate from 35% to 21%, and the effect of a pension settlement charge of
$488, after tax. The settlement charge in 2017 related to the purchase of a group annuity contract to transfer $1.6 billion of certain U.S. qualified pension plan liabilities to a third party. Apart from the effect of these charges in 2017, an increase in fee income from managing Talcott Resolution invested assets post-sale and lower interest expense, as well as higher net investment income and lower benefits and losses incurred related to run-off structured settlement and terminal funding agreement liabilities was partially offset by higher investment management expenses and a lower tax benefit due to the reduction in the corporate Federal income tax rate. Other revenue in 2018 from providing transition services to Talcott Resolution was offset by the cost of providing those services.
Net loss increased primarily due to a $3.3 billion estimated loss on sale of the life and annuity business, $867 of income tax expense arising primarily from the reduction of net deferred tax assets due to the enactment of lower Federal income tax rates and a $488 after tax pension settlement charge.
Year ended December 31, 2018 compared to the year ended December 31, 2017
Year ended December 31, 2017 compared to the year ended December 31, 2016
Sources of Insurance Risk Non-catastrophe insurance risks exist within each of the Company's divisions except Hartford Funds and include:
Catastrophe risk primarily arises in the property, automobile, group life, group disability, and workers' compensation product lines.
In addition, certain insurance products offered by The Hartford provide coverage for losses incurred due to cyber events and the Company has assessed and modeled how those products would respond to different events in order to manage its aggregate exposure to losses incurred under the insurance policies we sell. The Company models numerous deterministic scenarios including losses caused by malware, data breach, distributed denial of service attacks, intrusions of cloud environments and attacks of power grids.
In addition to the policies and procedures outlined above, the Company uses reinsurance to transfer certain risks to reinsurance companies based on specific geographic or risk concentrations. A variety of traditional reinsurance products are used as part of the Company's risk management strategy, including excess of loss occurrence-based products that reinsure property and workers' compensation exposures, and individual risk (including facultative reinsurance) or quota share arrangements, that reinsure losses from specific classes or lines of business. The Company has no significant finite risk contracts in
In addition to the Property Occurrence Treaty, for Florida events, The Hartford has purchased the mandatory FHCF reinsurance for the period from 6/1/2018 to 5/30/2019. Retention and coverage varies by writing company. The writing company with the largest coverage under FHCF is Hartford Insurance Company of the Midwest, with coverage for $84 of per event losses in excess of a $29 retention.
Portions of this layer of coverage extend beyond the traditional one year term.
In addition to the limits shown, the worker's compensation reinsurance includes a non-catastrophe, industrial accident layer, providing coverage for 80% of $30 in per event losses in excess of a $20 retention.
In addition to the property catastrophe reinsurance coverage described in the above table, the Company has other reinsurance agreements that cover property catastrophe losses. The Per Occurrence Property Catastrophe Treaty and Workers' Compensation Catastrophe Treaty include a provision to reinstate limits in the event that a catastrophe loss exhausts limits on one or more layers under the treaties.
Reinsurance for Terrorism- For the risk of terrorism, private sector catastrophe reinsurance capacity is generally limited and largely unavailable for terrorism losses caused by nuclear, biological, chemical or radiological attacks. As such, the Company's principal reinsurance protection against large-scale terrorist attacks is the coverage currently provided through TRIPRA to the end of 2020.
TRIPRA provides a backstop for insurance-related losses resulting from any “act of terrorism”, which is certified by the Secretary of the Treasury, in consultation with the Secretary of Homeland Security and the Attorney General, for losses that exceed a threshold of industry losses of $180 in 2019, with the threshold increasing to $200 by 2020. Under the program, in any one calendar year, the federal government would pay a percentage of losses incurred from a certified act of terrorism after an insurer's losses exceed 20% of the Company's eligible direct commercial earned premiums of the prior calendar year up to a combined annual aggregate limit for the federal government and all insurers of $100 billion. The percentage of losses paid by the federal government is 81% in 2019, decreasing to 80% in 2020. The Company's estimated deductible under the program is $1.3 billion for 2019. If an act of terrorism or acts of terrorism result in covered losses exceeding the $100 billion annual industry aggregate limit, Congress would be responsible for determining how additional losses in excess of $100 billion will be paid.
Reinsurance for A&E Reserve Development- Under an ADC reinsurance agreement, NICO assumes adverse net loss and allocated loss adjustment expense reserve development up to $1.5 billion above the Company’s net A&E reserves recorded as of December 31, 2016. Under retroactive reinsurance accounting, net adverse A&E reserve development after December 31, 2016 results in an offsetting reinsurance recoverable up to the $1.5 billion limit. Cumulative ceded losses up to the $650 reinsurance premium paid for the ADC are recognized as a dollar-for-dollar offset to direct losses incurred. As of December 31, 2018, $523 of incurred asbestos and environmental losses had been ceded to NICO, leaving approximately $977 of coverage available for future adverse net reserve development, if any. Cumulative ceded losses exceeding the $650 reinsurance premium paid would result in a deferred gain. The deferred gain would be recognized over the claim settlement period in the proportion of the amount of cumulative ceded losses collected from the reinsurer to the estimated ultimate reinsurance recoveries. Consequently, until periods when the deferred gain is recognized as a benefit to earnings, cumulative adverse development of A&E claims after December 31, 2016 in excess of $650 may result in significant charges against earnings. Furthermore, there is a risk that cumulative adverse development of A&E claims could ultimately exceed the $1.5 billion treaty limit in which case all adverse development in excess of the treaty limit would be absorbed as a charge to earnings by the Company. In these scenarios, the effect of these charges could be material to the Company’s consolidated operating results and liquidity.
As part of its risk management strategy, the Company regularly monitors the financial strength of other insurers and, in particular, activity by insurance regulators and various state guaranty associations relating to troubled insurers. In all states, insurers licensed to transact certain classes of insurance are required to become members of a guaranty fund.
The Hartford has implemented an information protection program with established governance routines that promote an adaptive approach for assessing and managing risks. The Hartford has invested to build a ‘defense-in-depth’ strategy that uses multiple security measures to protect the integrity of the Company's information assets. This ‘defense-in-depth’ strategy aligns to the National Institute of Standards and Technology ("NIST") Cyber Security Framework and provides preventative, detective and responsive measures that collectively protects the Company. Various cyber assurance methods, including security metrics, third party security assessments, external penetration testing, red team exercises, and cyber war game exercises are used to test the effectiveness of the overall cybersecurity control environment.
facilities as needed. The Company maintains multiple sources of contingent liquidity including a revolving credit facility, a commercial paper program, an intercompany liquidity agreement that allows for short-term advances of funds among the HFSG Holding Company and certain affiliates, and access to collateralized advances from the Federal Home Loan Bank of Boston ("FHLBB") for certain affiliates. The Company's CFO has primary responsibility for liquidity risk.
For further discussion on liquidity see the section on Capital Resources and Liquidity.
Reinsurance recoverables Reinsurance recoverables, net of an allowance for uncollectible reinsurance, were $4,357 and $4,061, as of December 31, 2018 and 2017, respectively. (See the Enterprise Risk Management section of the MD&A under “Reinsurance as a Risk Management Strategy.”)
Premiums receivable and agents' balances Premiums receivable and agents’ balances, net of an allowance for doubtful accounts, were $3,995 and $3,910, as of December 31, 2018 and 2017, respectively. (For a discussion regarding collectibility of these balances, see Note 1, Basis of Presentation and Significant Accounting Policies of Notes to Consolidated Financial Statements under the section labeled “Revenue Recognition.”)
The Company uses various derivative counterparties in executing its derivative transactions. The use of counterparties creates credit risk that the counterparty may not perform in accordance with the terms of the derivative transaction.
Downgrades to the credit ratings of the Company’s insurance operating companies may have adverse implications for its use of derivatives. In some cases, downgrades may give derivative counterparties for OTC derivatives and clearing brokers for OTC-cleared derivatives the right to cancel and settle outstanding derivative trades or require additional collateral to be posted. In addition, downgrades may result in counterparties and clearing brokers becoming unwilling to engage in or clear additional derivatives or may require collateralization before entering into any new trades.
For the year ended December 31, 2018, the Company incurred no losses on derivative instruments due to counterparty default.
permissible investments under the Company’s investment policies. These swaps reference investment grade single corporate issuers and indexes. As of December 31, 2018 and 2017, the notional amount related to credit derivatives that assume credit risk was $1.1 billion and $823, respectively, while the fair value was $3 for both periods. These amounts do not include positions that are in offsetting relationships.
For further information on credit derivatives, see Note 7 Derivatives of Notes to Consolidated Financial Statements.
The following table provides an analysis showing the estimated before tax change in the fair value of the Company’s investments and related derivatives, excluding assets supporting group life and disability reserves which are included in the table above, assuming 100 basis point upward and downward parallel shifts in the yield curve as of December 31, 2018 and 2017. Certain financial instruments, such as limited partnerships and other alternative investments, have been omitted from the analysis as the interest rate sensitivity of these investments is generally lower and less predictable than fixed income investments.
A 100 basis point parallel decrease in the yield curve would result in an increase in the fair value of the liability of $331 and $340 as of December 31, 2018 and 2017, respectively. A 100 basis point parallel increase in the yield curve would result in a decrease in the fair value of the liability of $(279) and $(287) as of December 31, 2018 and 2017, respectively. Changes in the value of long-term debt as a result of changes in interest rates will not impact the carrying value in the Company's Consolidated Balance Sheets.
A 100 basis point parallel decrease in the yield curve would impact both the value of the underlying pension assets and the value of the liability, resulting in an increase in the net pension and other post-retirement plan obligations liability of $178 and $226 as of December 31, 2018 and 2017, respectively. A 100 basis point parallel increase in the yield curve would have the inverse effect and result in a decrease in the net pension and other post-retirement plan obligations liability of $(134) and $(170) as of December 31, 2018 and 2017, respectively. Gains or losses due to changes in interest rates on the pension and post-retirement plan obligations are recorded within AOCI and are amortized into the actuarial loss component of net periodic benefit cost when they exceed a threshold.
Sources of Equity Risk The Company has exposure to equity risk from invested assets, assets that support the Company’s pension and other post-retirement benefit plans, and fee income derived from Hartford Funds assets under management.
Impact The investment portfolio is exposed to losses from market declines affecting equity securities, alternative assets and limited partnerships which could negatively impact the Company's reported earnings. For assets supporting pension and other post-retirement benefit plans, the Company may be required to make additional plan contributions if equity investments in the plan portfolios decline in value. Hartford Funds earnings are also significantly influenced by the U.S. and other equity markets. Generally, declines in equity markets will reduce the value of assets under management and the amount of fee income generated from those assets. Increases in equity markets will generally have the inverse impact.
Management The Company uses various approaches in managing its equity exposure, including limits on the proportion of assets invested in equities, diversification of the equity portfolio, and hedging of changes in equity indices.
Investment portfolio is exposed to losses from market declines affecting equity securities and certain alternative assets and limited partnerships. Generally, declines in equity markets will reduce the value of these types of investments and could negatively impact the Company’s earnings while increases in equity will have the inverse impact. For equity securities, the changes in fair value are reported in net realized capital gains and losses. For alternative assets and limited partnerships, the Company's share of earnings for the period is recorded in net investment income, though typically on a delay based on the availability of the underlying financial statements. For a discussion of equity sensitivity, see below.
Table excludes the Company's investment in Hopmeadow Holdings LP which is reported in other assets on the Company's Consolidated Balance Sheets.
Based on the fair values of the Company’s non-U.S. dollar denominated securities and derivative instruments as of December 31, 2018 and 2017, management estimates that a hypothetical 10% unfavorable change in exchange rates would decrease the fair values by a before tax total of $9 and $10, respectively. Actual results could differ materially due to the nature of the estimates and assumptions used in the analysis.
Investment in a P&C run-off entity in the United Kingdom During 2015, the Company entered into certain foreign currency forwards to hedge the currency impacts on changes in equity of a P&C run-off entity in the United Kingdom that was sold during 2017. At December 31, 2016, the derivatives used to hedge the currency impacts had a total notional amount of $200, and a total fair value of $(2), respectively. The Company terminated these hedges in 2017.
Statutory surplus amounts and risk-based capital (“RBC”) ratios may increase or decrease in any period depending upon a variety of factors and may be compounded in extreme scenarios or if multiple factors occur at the same time. In general, as equity market levels and interest rates decline, the amount and volatility of either our actual or potential obligation, as well as the related statutory surplus and capital margin can be materially negatively affected, sometimes at a greater than linear rate. At times the impact of changes in certain market factors or a combination of multiple factors on RBC ratios can be counterintuitive. Factors include:
The following table presents the Company’s fixed maturities, AFS, by credit quality. The credit ratings referenced throughout this
section are based on availability and are generally the midpoint of the available ratings among Moody’s, S&P, and Fitch. If no rating is available from a rating agency, then an internally developed rating is used.
Maturities, FVO, are not included in the preceding table. For further discussion on FVO securities, see Note 5 - Fair Value Measurements of Notes to Consolidated Financial Statements.
tax-exempt municipal bonds were reallocated into corporate bonds and structured securities during the period.
While the European economy is still growing, the International Monetary Fund cut its 2019 growth forecasts for the region, citing the prospect for a more turbulent external environment, including escalating trade tensions and slowing global demand. Political risk will likely remain elevated in Europe during 2019 due to uncertainty surrounding Great Britain's pending departure from the European Union ("Brexit"), increasing pressure on centrist governments in France and Germany and ongoing concern over Italian fiscal policy. The Company manages the credit risk associated with its European securities within the investment portfolio on an on-going basis using several processes which are supported by macroeconomic analysis and issuer credit analysis. For additional details regarding the Company’s management of credit risk, see the Credit Risk section of this MD&A.
respectively. The investment exposure largely relates to corporate entities which are domiciled in or generate a significant portion of their revenue within the United Kingdom, Germany, Sweden, Switzerland, and the Netherlands. As of both December 31, 2018 and 2017, the weighted average credit quality of European investments was A-. Entities domiciled in the United Kingdom comprise the Company's largest European exposure; as of December 31, 2018 and 2017, the U.K. exposure totals less than 2% of total invested assets and largely relates to the industrial and financial services sector and has an average credit rating of BBB+. The majority of the European investments are U.S. dollar-denominated, and those securities that are British pound or euro-denominated are hedged to U.S. dollars. For a discussion of foreign currency risks, see the Foreign Currency Exchange Risk section of this MD&A.
The following table presents the Company’s exposure to CMBS and RMBS by current credit quality included in the preceding Securities by Type table.
As of December 31, 2018, commercial mortgage loans had an amortized cost and carrying value of $3.7 billion, with a valuation allowance of $1. As of December 31, 2017, commercial mortgage loans had an amortized cost and carrying value of $3.2 billion with a valuation allowance of $1.
The following table presents the Company’s investments in limited partnerships and other alternative investments which include hedge funds, real estate funds and private equity funds. Real estate funds consist of investments primarily in real estate joint ventures and, to a lesser extent, equity funds. Private equity funds primarily consist of investments in funds whose assets typically consist of a diversified pool of investments in small to mid-sized non-public businesses with high growth potential as well as limited exposure to public markets.
The total gross unrealized losses were $654 as of December 31, 2018, and have increased $524 from December 31, 2017, due to widening of credit spreads and higher interest rates. As of December 31, 2018, $631 of the gross unrealized losses were associated with securities depressed less than 20% of cost or amortized cost. The remaining $23 of gross unrealized losses were associated with securities depressed greater than 20%. The securities depressed more than 20% are primarily related to one corporate issuer with declining credit fundamentals and commercial real estate securities that were purchased at tighter credit spreads.
Future impairments may develop as the result of changes in intent to sell specific securities that are in an unrealized loss position or if modeling assumptions, such as macroeconomic factors or security specific developments, change unfavorably from our current modeling assumptions resulting in lower cash flow expectations.
For the year ended December 31, 2016, impairments recognized in earnings were comprised of credit impairments of $21 primarily related to corporate securities due to changes in the financial condition of the issuer, impairments on equity securities of $4, and intent-to-sell impairments of $2.
Capital available at the holding company as of December 31, 2018:
A senior unsecured five-year revolving credit facility that provides for borrowing capacity up to $750 of unsecured credit through March 29, 2023. No borrowings were outstanding as of December 31, 2018.
Borrowings available under a commercial paper program to a maximum of $750. As of December 31, 2018, there was no commercial paper outstanding.
The Company’s subsidiaries, Hartford Fire Insurance Company (“Hartford Fire”) and Hartford Life and Accident Insurance Company (“HLA”), are members of the Federal Home Loan Bank of Boston (“FHLBB”) and have access to collateralized advances of up to $1.1 billion and $0.6 billion, respectively, without prior approval of the Connecticut Department of Insurance (“CTDOI”).
$440 common stockholders' dividends, subject to the discretion of the Board of Directors and before share repurchases and any change in common stockholder dividend rate.
$2.2 billion of cash consideration including transaction expenses to acquire all outstanding common shares of Navigators Group, a global specialty underwriter.
Expected sources of capital of the HFSG Holding Company for the next twelve months include dividends from Group Benefits (HLA) of $250 to $300 , dividends from Hartford Funds of $100 to $125 and cash tax receipts of approximately $600 to $700, including realization of net operating losses and AMT credits.
On March 15, 2018, The Hartford issued $500 of 4.4% senior notes ("4.4% Notes") due March 15, 2048 for net proceeds of approximately $490, after deducting underwriting discounts and expenses from the offering. The Hartford used a portion of the net proceeds from this issuance to repay $320 principal amount
On June 15, 2018, The Hartford redeemed $500 aggregate principal amount of its 8.125% Fixed-to-Floating Rate Junior Subordinated Debentures due 2068.
On November 6, 2018, the Company issued 13.8 million depositary shares of the Company’s 6.0% Series G non-cumulative perpetual preferred stock (the “Preferred Stock”) with a liquidation preference of $25,000 per share (equivalent to $25.00 per depositary share), for net proceeds of $334. The Preferred Stock is perpetual and has no maturity date but is redeemable at the Company's option in whole or in part, on or after November 15, 2023 at a redemption price of $25,000 per share, plus unpaid dividends attributable to the current dividend period.
For further information regarding Preferred Stock, see Note 15 - Equity of Notes to Consolidated Financial Statements.
On February 21, 2019, The Hartford’s Board of Directors declared a quarterly dividend of $0.30 per common share payable on April 1, 2019 to common stockholders of record as of March 4, 2019.
On February 21, 2019, The Hartford's Board of Directors declared a dividend of $375.00 on each share of the Series G preferred stock (equivalent to $0.3750 per depository share) payable on May 15, 2019 to stockholders of record at the close of business on May 1, 2019.
On December 13, 2018, The Hartford’s board of directors declared a dividend of $412.50 on each share of the Series G preferred stock (equivalent to $0.4125 per depository share) which was paid on February 15, 2019, to stockholders of record at the close of business on February 1, 2019.
Company from its insurance subsidiaries, see "Dividends from Insurance Subsidiaries" below. For a discussion of potential limitations on the HFSG Holding Company's ability to pay dividends, see Part I, Item 1A, - Risk Factors for the risk factor "Our ability to declare and pay dividends is subject to limitations".
Dividends to the HFSG Holding Company from its insurance subsidiaries are restricted by insurance regulation. The payment of dividends by Connecticut-domiciled insurers is limited under the insurance holding company laws of Connecticut. These laws require notice to and approval by the state insurance commissioner for the declaration or payment of any dividend, which, together with other dividends or distributions made within the preceding twelve months, exceeds the greater of (i) 10% of the insurer’s policyholder surplus as of December 31 of the preceding year or (ii) net income (or net gain from operations, if such company is a life insurance company) for the twelve-month period ending on the thirty-first day of December last preceding, in each case determined under statutory insurance accounting principles. In addition, if any dividend of a Connecticut-domiciled insurer exceeds the insurer’s earned surplus, it requires the prior approval of the Connecticut Insurance Commissioner. The insurance holding company laws of the other jurisdictions in which The Hartford’s insurance subsidiaries are incorporated (or deemed commercially domiciled) generally contain similar (although in certain instances more restrictive) limitations on the payment of dividends. In addition to statutory limitations on paying dividends, the Company also takes other items into consideration when determining dividends from subsidiaries. These considerations include, but are not limited to, expected earnings and capitalization of the subsidiaries, regulatory capital requirements and liquidity requirements of the individual operating company.
P&C - Under the formula described above, the Company’s property and casualty insurance subsidiaries are permitted to pay up to a maximum of approximately $1.2 billion in dividends to HFSG Holding Company for 2019 without prior approval from the applicable insurance commissioner, though only $200 of this dividend capacity could be paid before the fourth quarter of 2019. In 2019, HFSG Holding Company does not anticipate receiving net dividends from its property and casualty insurance subsidiaries, as planned 2019 dividends were received in the fourth quarter 2018. The HFSG Holding Company generally expects to receive net dividends of $850 to $900 a year from its property and casualty insurance subsidiaries subject to the profitability of those subsidiaries and their capital needs.
Group Benefits - Hartford Life and Accident Insurance Company ("HLA") has $380 dividend capacity for 2019, and anticipates paying $250 to $300 dividends in 2019.
As of December 31, 2018, there were no amounts outstanding at the HFSG Holding Company.
In August 2018, the Company’s subsidiaries, Hartford Fire Insurance Company (“Hartford Fire”) and Hartford Life and Accident Insurance Company (“HLA”), became members of the Federal Home Loan Bank of Boston (“FHLBB”). Membership allows these subsidiaries access to collateralized advances, which may be short or long-term with fixed or variable rates.
As of December 31, 2018, there were no advances outstanding under either FHLBB facility.
For further information regarding collateralized advances with Federal Home Loan Bank of Boston, see Note 13 - Debt of Notes to Consolidated Financial Statements.
The following tables represent the fixed maturity holdings, including the aforementioned cash and short-term investments necessary to meet liquidity needs, for each of the Company’s insurance operations.
The following points are significant to understanding the cash flows estimated for obligations (gross of reinsurance) under property and casualty contracts:
Under U.S. GAAP, the Company is only permitted to discount reserves for losses and loss adjustment expenses in cases where the payment pattern and ultimate loss costs are fixed and determinable on an individual claim basis. For the Company, these include claim settlements with permanently disabled claimants. As of December 31, 2018, the total property and casualty reserves in the above table are gross of a reserve discount of $388.
Amounts shown do not consider $4.2 billion of reinsurance and other recoverables the Company expects to collect related to property and casualty obligations.
Includes $954 in commitments to purchase investments including approximately $707 of limited partnership and other alternative investments, $163 of private debt and equity securities, and $84 of mortgage loans. Of the $954 in commitments to purchase investments, $48 are related to mortgage loan commitments which the Company can cancel unconditionally. Outstanding commitments under these limited partnerships and mortgage loans are included in payments due in less than 1 year since the timing of funding these commitments cannot be reliably estimated. The remaining commitments to purchase investments primarily represent payables for securities purchased which are reflected on the Company’s Consolidated Balance Sheets. Also included in purchase obligations is $688 relating to contractual commitments to purchase various goods and services such as maintenance, human resources, and information technology in the normal course of business. Purchase obligations exclude contracts that are cancelable without penalty or contracts that do not specify minimum levels of goods or services to be purchased.
related to the life and annuity business sold in May 2018, as well as due to lower net unrealized capital gains on fixed maturities. Total capitalization decreased $713, or 4%, as of December 31,
2018 compared with December 31, 2017 primarily due to the decrease in stockholders' equity and decrease in total debt.
Cash used for investing activities increased in 2018 compared to the prior year period primarily due to payments for short term investments and an increase in net payments for equity securities and mortgage loans, partially offset by proceeds from the life and annuity business sold in May 2018 and an increase in net proceeds from available for sale securities.
Cash used for investing activities in 2017 primarily relates to the acquisition of Aetna's U.S. group life and disability business for $1.4 billion (net of cash acquired), net of $222 of net proceeds from the sale of the Company's P&C U.K. run-off business. Cash provided by investing activities in 2016 primarily related to net proceeds from available-for-sale securities of $2.7 billion, partially offset by net payments for short-term investments of $1.4 billion.
Cash used for financing activities in 2017 consists primarily of net payments for deposits, transfers and withdrawals for investments and universal life products of $991, the
Ratings are an important factor in establishing a competitive position in the insurance marketplace and impact the Company's ability to access financing and its cost of borrowing. There can be no assurance that the Company’s ratings will continue for any given period of time, or that they will not be changed. In the event the Company’s ratings are downgraded, the Company’s competitive position, ability to access financing, and its cost of borrowing, may be adversely impacted.
The statutory capital for property and casualty insurance subsidiaries in this table does not include the value of an intercompany note owed by HHI to Hartford Fire Insurance Company. Accordingly, neither the $1.9 billion principal paydown of the note nor an associated $1.9 billion of dividends to the holding company during the year ended December 31, 2018 are reflected in this table.
U.S. STAT for life insurance companies like HLA establishes a formula reserve for realized and unrealized losses due to default and equity risks associated with certain invested assets (the Asset Valuation Reserve), while U.S. GAAP does not. Also, for those realized gains and losses caused by changes in interest rates, U.S. STAT for life insurance companies defers and amortizes the gains and losses, caused by changes in interest rates, into income over the original life to maturity of the asset sold (the Interest Maintenance Reserve) while U.S. GAAP does not.
The Company's U.S. insurance companies' states of domicile impose RBC requirements. The requirements provide a means of measuring the minimum amount of statutory capital appropriate for an insurance company to support its overall business operations based on its size and risk profile. Companies below specific trigger points or ratios are classified within certain levels, each of which requires specified corrective action. All of the Company's operating insurance subsidiaries had RBC ratios in excess of the minimum levels required by the applicable insurance regulations.
Similar to the RBC ratios that are employed by U.S. insurance regulators, regulatory authorities in the international jurisdictions in which the Company operates generally establish minimum solvency requirements for insurance companies. All of the Company's international insurance subsidiaries have capital levels in excess of the minimum levels required by the applicable regulatory authorities.
Tax Reform At the end of 2017, Congress passed and the president signed, the Tax Cuts and Jobs Act of 2017 ("Tax Reform"), which enacted significant reforms to the U.S. tax code. The major areas of interest to the company include the reduction of the corporate tax rate from 35% to 21% and the repeal of the corporate alternative minimum tax (AMT) and the refunding of AMT credits. We continue to analyze Tax Reform for other potential impacts. The U.S. Treasury and IRS are developing guidance implementing Tax Reform, and Congress may consider additional technical corrections to the legislation. Tax proposals and regulatory initiatives which have been or are being considered by Congress and/or the U.S. Treasury Department could have a material effect on the company and its insurance businesses. The nature and timing of any Congressional or regulatory action with respect to any such efforts is unclear. For additional information on risks to the Company related to Tax Reform, please see the risk factor entitled "Changes in federal or state tax laws could adversely affect our business, financial
For a discussion regarding Guaranty Fund and Other Insurance-related Assessments, see Note 14 Commitments and Contingencies of Notes to Consolidated Financial Statements.