It is also difficult to forecast changes in the legal and legislative environment and the impact on the future development of A&E claims. This development will be affected by future court decisions and interpretations, as well as changes in applicable legislation. It is difficult to predict the ultimate outcome of large coverage disputes until settlement negotiations near completion and significant legal questions are resolved or, failing settlement, until the dispute is adjudicated. This is particularly the case with policyholders in bankruptcy where negotiations often involve a large number of claimants and other parties and require court approval to be effective.
Traditional actuarial methods and techniques employed to estimate the ultimate cost of claims for more traditional property and casualty exposures are less precise in estimating claim and claim adjustment reserves for A&E, particularly in an environment of emerging or potential claims and coverage issues that arise from industry practices and legal, judicial and social conditions. Therefore, these traditional actuarial methods and techniques are necessarily supplemented with additional estimation techniques and methodologies, many of which involve significant judgments that are required of management. For A&E, CNA regularly monitors its exposures, including reviews of loss activity, regulatory developments and court rulings. In addition, CNA performs a ground up analysis on its exposures. CNA’s actuaries, in conjunction with its specialized claim unit, use various modeling techniques to estimate its overall exposure to known accounts. CNA uses this information and additional modeling techniques to develop loss distributions and claim reporting patterns to determine reserves for accounts that will report A&E exposure in the future. Estimating the average claim size requires analysis of the impact of large losses and claim cost trend based on changes in the cost of repairing or replacing property, changes in the cost of legal fees, judicial decisions, legislative changes, and other factors. Due to the inherent uncertainties in estimating reserves for A&E claim and claim adjustment expenses and the degree of variability due to, among other things, the factors described above, CNA may be required to record material changes in CNA’s claim and claim adjustment expense reserves in the future, should new information become available or other developments emerge. See the A&E Reserves section of this MD&A and Note 9 of the Notes to Consolidated Financial Statements included under Item 8 for additional information relating to A&E claims and reserves.
The Bornhuetter-Ferguson using premiums and incurred loss method is similar to the Bornhuetter-Ferguson using premiums and paid loss method except that it uses case incurred losses. The use of case incurred losses instead of paid losses can result in development patterns that are less variable than paid patterns. However, the inclusion of case reserves can lead to distortions if changes in case reserving have taken place, and the method requires analysis of all the factors that need to be reviewed for the loss ratio and incurred development methods.
CNA Specialty’s rate on average decreased 4.0% for 2008, as compared to a decrease of 5.0% for 2007 for policies that renewed in each period. Retention rates of 85.0% and 83.0% were achieved for those policies that were up for renewal in each period.
During 2009, natural gas prices decreased significantly compared to 2008, due largely to increased onshore natural gas production, plentiful levels of working gas in storage and reduced demand. The increase in onshore natural gas production was due largely to increased production from “unconventional” sources of natural gas such as shale gas, coalbed methane and tight sandstones, made possible in recent years by modern technology in creating extensive artificial fractures around well bores and advances in horizontal drilling technology. At the same time, drilling costs remained high in the first half of 2009 and did not decrease until late in the third quarter. In light of these developments, HighMount elected to substantially reduce its 2009 drilling activity earlier in the year and implemented a limited drilling program in the second half of the year. Also, as a result of the low natural gas prices, HighMount elected to curtail production during the third and fourth quarters. Reduced drilling activity and well curtailments negatively impact production volumes.
DD&A expenses increased by $110 million to $177 million for 2008 as compared to $67 million for 2007. DD&A expenses included depletion of natural gas and NGL properties of $162 million and $62 million for 2008 and 2007. Depletion expense increased by $100 million in 2008, compared to 2007, due primarily to an $82 million increase from higher production volumes and $18 million due to higher depletion expense per Mcfe. HighMount’s depletion rate per Mcfe increased by $0.17 per Mcfe to $1.58 per Mcfe in 2008, compared to $1.41 per Mcfe in 2007. The increase on a per unit basis was primarily due to higher capital costs throughout 2008 and higher projected future development costs, reflecting higher costs particularly for steel and diesel fuel, and other economic conditions.
Many of Boardwalk Pipeline’s producer customers have been negatively impacted by recent declines in natural gas prices which although remaining elevated from historical levels, have decreased substantially from the peak levels reached during the summer of 2008. This decline in prices has caused several of Boardwalk Pipeline’s producer customers to announce plans to decrease drilling levels and, in some cases, to consider shutting in natural gas production from some producing wells, which could adversely affect the volumes of natural gas Boardwalk Pipeline can transport. The majority of Boardwalk Pipeline’s revenues are derived from capacity reservation charges that are not impacted by the volume of natural gas transported; however, smaller portions of Boardwalk Pipeline’s revenues are derived from charges based on actual volumes transported under firm and interruptible services. For example, in 2009, approximately 26.0% of Boardwalk Pipeline’s revenues were derived from charges based on actual volumes transported. Lower volumes of natural gas transported would result in lower revenues from natural gas transportation operations. Based on the significant level of revenue Boardwalk Pipeline receives from reservation capacity charges under long-term contracts and Boardwalk Pipeline’s review of the recent announcements of drilling plans by its customers, Boardwalk Pipeline does not expect the current level of natural gas prices to have a significant adverse effect on its operating results. However, Boardwalk Pipeline cannot give assurances that this will be the case, or that commodity prices will not decline further, which could result in a further reduction in drilling activities by its customers.
A.M. Best, Moody’s and S&P currently maintain a stable outlook on CNA.
Cash and investments totaled $778 million at December 31, 2009 compared to $737 million at December 31, 2008. In 2009, Diamond Offshore paid cash dividends totaling $1.1 billion, consisting of special cash dividends of $1.0 billion and regular quarterly cash dividends of $70 million. In February of 2010, Diamond Offshore declared a special dividend of $1.875 per share and a regular quarterly dividend of $0.125 per share.
Depending on market and other conditions, we may purchase shares of our and our subsidiaries’ outstanding common stock in the open market or otherwise. During the year ended December 31, 2009, we purchased 10,523,800 shares of Loews common stock at an aggregate cost of $348 million and 329,500 shares of CNA common stock at an aggregate cost of $2 million. From January 1, 2010 to February 12, 2010, we acquired an additional 2,663,000 shares of our common stock for $96 million.
(c) Future policy benefits and policyholder funds reserves are not discounted and represent CNA’s estimate of the ultimate amount and timing of the settlement of benefits based on its assessment of facts and circumstances known as of December 31, 2009. Future policy benefit reserves of $777 and policyholder fund reserves of $39 related to business which has been 100% ceded to unaffiliated parties in connection with the sale of CNA’s individual life business in 2004 are not included. Additional information on future policy benefits and policyholder funds reserves is included in Note 1 of the Notes to Consolidated Financial Statements included under Item 8.
The segregated investments support liabilities primarily in the Life & Group Non-Core segment including annuities, structured benefit settlements and long term care products.
The Company sold Bulova Corporation for approximately $263 million in January of 2008. See Note 21.
CNA performs the discounted cash flow analysis using distressed scenarios to determine future expectations regarding recoverability. For asset-backed securities significant assumptions enter into these cash flow projections including delinquency rates, probable risk of default, loss severity upon a default, over collateralization and interest coverage triggers, credit support from lower level tranches and impacts of rating agency downgrades. The discount rate utilized is either the yield at acquisition or, for lower rated structured securities, the current yield.
The agreements governing HighMount’s derivative instruments contain certain covenants, including a maximum debt to capitalization ratio reviewed quarterly. If HighMount does not comply with these covenants, the counterparties to the derivative instruments could terminate the agreements and request payment on those derivative instruments in net liability positions. The aggregate fair value of HighMount’s derivative instruments that are in a liability position was $174 million at December 31, 2009. HighMount was not required to post any collateral under the governing agreements. At December 31, 2009 HighMount is in compliance with all of its covenants under the derivatives agreements.
The Company also enters into short sales as part of its portfolio management strategy. Short sales are commitments to sell a financial instrument not owned at the time of sale, usually done in anticipation of a price decline. These sales resulted in proceeds of $66 million and $120 million with fair value liabilities of $78 million and $106 million at December 31, 2009 and 2008. These positions are marked to market and investment gains or losses are included in the Consolidated Statements of Income.
Since 2007, the Company has participated in the Compliance Assurance Process (“CAP”), which is a voluntary program for a limited number of large corporations. Under CAP, the Internal Revenue Service (“IRS”) conducts a real-time audit and works contemporaneously with the Company to resolve any issues prior to the filing of the tax return. The Company believes this approach should reduce tax-related uncertainties, if any. The Company’s 2006 tax year remains subject to examination and the 2008 tax year is under examination by the IRS. Although the outcome of tax audits are always uncertain, the Company believes that any adjustments resulting from audits will not have a material impact on its results of operations, financial position and cash flows. The Company and/or its subsidiaries also file income tax returns in various state, local and foreign jurisdictions. These returns, with few exceptions, are no longer subject to examination by the various taxing authorities before 2005.
(a) Excludes reserves associated with Volumetric Production Payment (“VPP”) delivery obligations.