Net operating income (loss) is calculated by deducting net investment gains or losses, discontinued operations and the cumulative effect of a change in accounting principle (after deduction of related income taxes and minority interests), from net income (loss). Analysts following the Company's stock have advised the Company that such information is meaningful in assisting them in measuring the performance of its insurance subsidiaries. In addition, it is used in management's discussion of the results of operations for the insurance related segments due to the significance of the amount of net investment gains or losses. Net operating income (losses) is also a common measure throughout the insurance industry. Net realized investment gains (losses) are excluded from this operating measure because investment gains or losses related to CNA's available-for-sale investment portfolio are largely discretionary, are generally driven by economic factors that are not necessarily consistent with key drivers of underwriting performance, and are therefore not an indication of trends in operations.
CNA's overall reinsurance program includes certain property and casualty contracts, such as the corporate aggregate reinsurance treaties discussed in more detail later in this section, that are entered into and accounted for on a "funds withheld" basis. Under the funds withheld basis, CNA records the cash remitted to the reinsurer for the reinsurer's margin, or cost of the reinsurance contract, as ceded premiums. The remainder of the premiums ceded under the reinsurance contract is recorded as funds withheld liabilities. CNA is required to increase the funds withheld balance at stated interest crediting rates applied to the funds withheld balance or as otherwise specified under the terms of the contract. The funds withheld liability is reduced by any cumulative claim payments made by CNA in excess of CNA's retention under the reinsurance contract. If the funds withheld liability is exhausted, interest crediting will cease and additional claim payments are recoverable from the reinsurer. The funds withheld liability is recorded in reinsurance balances payable in the Consolidated Balance Sheets.
CNA attempts to mitigate its credit risk related to reinsurance by entering into reinsurance arrangements only with reinsurers that have credit ratings above certain levels and by obtaining substantial amounts of collateral. The primary
CNA's insurance loss reserves are recorded at management's best estimate which is based on the reviews and analyses performed by CNA's actuaries and management's judgment as to the responsiveness of these reviews and analyses to the factors affecting CNA's loss and loss adjustment expense loss reserves. Management considers factors such as changes in inflation, changes in claim handling and case reserving, changes in underwriting and pricing, and changes in the legal environment. Management considers different specific factors for each situation since the factors affect each type of business differently.
The combined ratio decreased 7.0 points in 2002 as compared with 2001 and the underwriting results for the property and casualty segment improved $366.0 million. This change was due to decreases in the loss expense and dividend ratios. The loss ratio decreased 0.1 points as a result of improved current accident year results related to rate increases and new business across property and casualty operations and favorable prior year reserve development in Standard Lines in 2002. Partially offsetting these improvements was unfavorable prior year reserve development in Specialty Lines and CNA Re recorded in 2002. The property and casualty segment recorded $26.0 million of unfavorable reserve
Standard Lines achieved average rate increases of 27.0%, 17.0% and 13.0% in 2002, 2001 and 2000 for the contracts that renewed during these years and had retention rates of 68.0%, 76.0% and 68.0% for those contracts that were up for renewal.
Group Operations achieved rate increases that averaged approximately 5.0%, 6.0% and 3.0% in 2002, 2001 and 2000 for the disability, accident and life lines of business within Group Benefits. Premium persistency rates were approximately 81.0%, 81.0% and 84.0% in 2002, 2001 and 2000.
During 2002, favorable net reserve development, including premium development, of $23.0 million was recorded in the Other Insurance segment as compared with unfavorable net reserve development of $63.0 million recorded in 2001, excluding the second quarter 2001 reserve strengthening. The gross carried claim and claim adjustment expense reserve was $4,847.0 and $5,043.0 million at December 31, 2002 and 2001. The net carried claim and claim adjustment expense reserve was $2,002.0 and $2,110.0 million at December 31, 2002 and 2001.
Excluding these 2001 significant items, net operating results increased $28.4 million primarily as a result of lower interest expense on corporate borrowings in 2001 as compared with 2000 and a non-recurring favorable adjustment of expense recoveries under a service contract related to personal insurance. These increases were partially offset by $39.1 million for non- recurring ceding commissions included in 2000 results related to the transfer of the personal insurance line of business to Allstate in 1999, $30.6 million related to increased eBusiness initiatives in 2001 and $10.5 million due to decreased limited partnership income.
Exclusive of investment gains (losses), revenues decreased $19.1 million and net loss increased $3.0 million, or 11.5% and 21.1%, respectively, in 2001 compared to 2000, due primarily to lower investment income. This change was partially offset by increased operating results from Majestic reflecting increased demand and charter rates in the crude oil tanker markets.
For the year ended December 31, 2002, net cash used for investing activities was $1,488.0 million as compared with $205.0 million in 2001. Cash flows used by investing activities were related principally to increased purchases of invested assets due to positive operating cash flow and cash provided by financing activities.
The components of CNA's net investment (losses) gains are presented in the following table:
When a security is placed on the watch list, it is monitored for further market value changes and additional news related to the issuer's financial condition. The focus is on objective evidence that may influence the evaluation of impairment factors.
For the year ended December 31, 2000 the impairment losses recorded related primarily to corporate bonds and equities and were largely spread amongst the consumer, financial, and communications industry sectors including $14.0 million for Specialty Foods Corporation.
(a) Includes gains on sales of Global Crossing Ltd. ("Global Crossing") common stock of $962.0 and $484.9 for the years ended December 31, 2001 and 2000, respectively. In March of 2000, the Company entered into a hedge arrangement related to its Global Crossing stock. The unrealized appreciation of the stock that was preserved by the hedge was reflected as an unrealized gain in accumulated other comprehensive income at December 31, 2000. The hedge agreements were closed out in 2001 resulting in the realized gain of $962.0. (b) Includes losses of pretax $136.6 (after tax and minority interest) related to the planned disposition of certain subsidiary operations, principally the U.K. subsidiaries of CNA Re, for the year ended December 31, 2001.
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 $205.0 and $183.7 million with fair value liabilities of $200.7 and $193.4 million at December 31, 2002 and 2001, respectively. These positions are marked to market and investment gains or losses are included in the Consolidated Statements of Operations.
Loews and Carolina Group Consolidating Condensed Statement of Cash Flows Information
The gross and net carried claim and claim adjustment expense reserves for the Other Insurance segment, excluding the gross and net carried claim and claim adjustment expense reserves for APMT, were $2,562.0 and $225.0 million for the beginning of the year of 2002.
Gross deferred tax assets amounted to $2,775.2 and $2,718.8 million and liabilities amounted to $2,148.0 and $1,980.2 million at December 31, 2002 and 2001, respectively. Although realization of deferred tax assets is not assured, management believes it is more likely than not that deferred tax assets will be realized through future earnings, including but not limited to the generation of future operating income and reversal of existing temporary differences and available tax planning strategies. As a result, no valuation allowance was recorded at December 31, 2002 and 2001.
Under this agreement, CNA has paid, or will pay, the Company approximately $94.0 million for 2002. In 2001 and 2000, CNA received $908.0 million and paid $64.0 million, respectively. The agreement may be canceled by either of the parties upon thirty days' written notice.
In the first quarter of 2002, CNA completed the sale of the common stock of CNA Holdings Limited and its subsidiaries ("CNA Vida"), CNA's life operations in Chile, to Consorcio Financiero S.A. ("Consorcio"). In connection with the sale, CNA received proceeds of $73.0 million and recorded a loss from discontinued operations of $31.0 million, after tax and minority interest of $9.3 and $4.0 million. This loss is composed of a $32.8 million realized loss on the sale of CNA Vida and income of $1.8 million from CNA Vida's operations for 2002.
The CNA Life Re business contributed net earned premiums of $229.0 million and net income of $15.6 million for the year ended December 31, 2000.
Life premiums are primarily from long duration contracts and property and casualty premiums and accident and health premiums are primarily from short duration contracts.
Approximately 4,500 product liability cases are pending against cigarette manufacturers in the United States. Lorillard is a defendant in approximately 4,075 of these cases.
Carter v. Philip Morris USA (Court of Common Pleas, Philadelphia County, Pennsylvania). A defense verdict was returned during January of 2003. Plantiff has filed a motion for new trial.
Apostolou v. The American Tobacco Company, et al. (Supreme Court, Kings County, New York). Lorillard was a defendant in this matter. A defense verdict was returned during January of 2002. Plaintiffs withdrew their appeal during 2002.
Lorillard has noticed an appeal from the final judgment to the Florida Third District Court of Appeal and has posted its appellate bond in the amount of $100.0 million pursuant to Florida legislation enacted in May of 2000 limiting the amount of an appellate bond required to be posted in order to stay execution of a judgment for punitive damages in a certified class action. While Lorillard believes this legislation is valid and that any challenges to the possible application or constitutionality of this legislation would fail, during May of 2001, Lorillard entered into an agreement with the plaintiffs (the "Engle Agreement") in which it contributed $200.0 million to a fund held for the benefit of the Engle plaintiffs that will not be recoverable by Lorillard even if the challenges to the judgment are resolved in favor of the defendants. The $200.0 million contribution included the $100.0 million that Lorillard posted as collateral for the appellate bond. Accordingly, Lorillard recorded a pretax charge of $200.0 million in the second quarter of the year ended December 31, 2001. Two other defendants executed agreements with the plaintiffs that are similar to Lorillard's. As a result, the class has agreed to a stay of execution, with respect to Lorillard and the two other defendants on its punitive damages judgment until appellate review is completed, including any review by the U.S. Supreme Court.