THE TRAVELERS COMPANIES The following is a discussion and analysis of the Company's financial condition and results of operations for the years endedDecember 31, 2019 and 2018, including year-to-year comparisons between 2019 and 2018. Year-to-year comparisons between 2018 and 2017 have been omitted from this Form 10-K, but may be found in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Part II, Item 7 of the Company's Annual Report on Form 10-K for the year endedDecember 31, 2018 . FINANCIAL HIGHLIGHTS 2019 Consolidated Results of Operations • Net income of$2.62 billion , or$10.01 per share basic and$9.92 per
share diluted
• Net earned premiums of
• Catastrophe losses of
• Net unfavorable prior year reserve development of$60 million ($47 million after-tax) • Combined ratio of 96.5%
• Net investment income of
•Operating cash flows of$5.21 billion 2019 Consolidated Financial Condition • Total investments of$77.88 billion ; fixed maturities and short-term
securities comprise 94% of total investments
• Total assets of
• Total debt of
of 20.2% (21.7% excluding net unrealized investment gains, net of tax,
included in shareholders' equity)
• Repurchased 11.2 million common shares for total cost of $1.55 billion
and paid $844 million of dividends to shareholders
• Shareholders' equity of
• Net unrealized investment gains of
• Book value per common share of
• Holding company liquidity of
61
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CONSOLIDATED OVERVIEW
Consolidated Results of Operations
(for the year ended December 31, in millions except per share amounts) 2019 2018 2017
Revenues
Premiums $ 28,272 $ 27,059 $ 25,683
Net investment income 2,468 2,474 2,397
Fee income 459 432 447
Net realized investment gains 113 114 216
Other revenues 269 203 159
Total revenues 31,581 30,282 28,902
Claims and expenses
Claims and claim adjustment expenses 19,133 18,291 17,467
Amortization of deferred acquisition costs 4,601 4,381 4,166
General and administrative expenses 4,365 4,297 4,170
Interest expense 344 352 369
Total claims and expenses 28,443 27,321 26,172
Income before income taxes 3,138 2,961 2,730
Income tax expense(1) 516 438 674
Net income $ 2,622 $ 2,523 $ 2,056
Net income per share
Basic $ 10.01 $ 9.37 $ 7.39
Diluted $ 9.92 $ 9.28 $ 7.33
Combined ratio
Loss and loss adjustment expense ratio 66.9 % 66.8 % 67.2 %
Underwriting expense ratio 29.6 30.1 30.7
Combined ratio 96.5 % 96.9 % 97.9 %
___________________________________________
(1) OnDecember 22, 2017 , theU.S. enacted the Tax Cuts and Jobs Act of 2017 (TCJA) which, among other changes, reduced theU.S. Federal tax rate from
35% to 21% beginning on
and previously untaxed post-1986 foreign earnings and profits (accumulated
foreign earnings). Total income tax expense for 2017 included a net charge
of
and tax rates included in TCJA at the date of enactment, primarily
reflecting the revaluation of the Company's deferred tax assets and
liabilities at the new statutory federal tax rate of 21%, and the
recognition of tax imposed on the accumulated foreign earnings.
The following discussions of the Company's net income and segment income are
presented on an after-tax basis. Discussions of the components of net income
and segment income are presented on a pre-tax basis, unless otherwise noted.
Discussions of earnings per common share are presented on a diluted basis.
Overview
Diluted net income per share of $9.92 in 2019 increased by 7% over diluted net
income per share of $9.28 in 2018. Net income of $2.62 billion in 2019 increased
by 4% over net income of $2.52 billion in 2018. The higher rate of increase in
diluted net income per share reflected the impact of share repurchases in recent
periods. The increase in income before income taxes primarily reflected the
pre-tax impacts of (i) significantly lower catastrophe losses, partially offset
by (ii) net unfavorable prior year reserve development in 2019 compared to net
favorable prior year reserve development in 2018 and (iii) lower underwriting
margins excluding catastrophe losses and prior year reserve development
("underlying underwriting margins"). Catastrophe losses in 2019 and 2018 were
$886 million and $1.72 billion , respectively. Net unfavorable prior year reserve
development in 2019 was $60 million , compared to net favorable prior year
reserve development of $517 million in 2018. Underlying underwriting margins in
each of the Company's business segments were lower than in 2018. Income tax
expense in 2019 was higher than in 2018, primarily
62
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reflecting the impacts of (i) the increase in income before income taxes and
(ii) the reduction in income tax expense in 2018 resulting from the Company's
$200 million voluntary contribution to its qualified domestic pension plan,
which provided a 35% tax benefit rather than a 21% tax benefit.
The Company has insurance operations in Canada , the United Kingdom , the Republic
of Ireland and throughout other parts of the world as a corporate member of
Lloyd's , as well as in Brazil and Colombia , primarily through joint ventures.
Because these operations are conducted in local currencies other than the U.S.
dollar, the Company is subject to changes in foreign currency exchange rates.
For the years ended December 31, 2019 and 2018, changes in foreign currency
exchange rates impacted reported line items in the statement of income by
insignificant amounts. The impact of these changes was not material to the
Company's net income or segment income for the periods reported.
Revenues
Earned Premiums Earned premiums in 2019 were$28.27 billion ,$1.21 billion or 4% higher than in 2018. InBusiness Insurance , earned premiums in 2019 increased by 4% over 2018. InBond & Specialty Insurance , earned premiums in 2019 increased by 6% over 2018. InPersonal Insurance , earned premiums in 2019 increased by 5% over 2018. Factors contributing to the increases in earned premiums in each segment in 2019 as compared with 2018 are discussed in more detail in the segment discussions that follow. Net Investment Income The following table sets forth information regarding the Company's investments. (for the year ended December 31, in millions) 2019 2018 2017 Average investments(1)$ 74,866 $ 73,031 $ 71,867 Pre-tax net investment income 2,468 2,474 2,397 After-tax net investment income 2,097$ 2,102 1,872 Average pre-tax yield(2) 3.3 % 3.4 % 3.3 % Average after-tax yield(2) 2.8 % 2.9 % 2.6 %
___________________________________________
(1) Excludes net unrealized investment gains and losses and reflects cash,
receivables for investment sales, payables on investment purchases and
accrued investment income.
(2) Excludes net realized and net unrealized investment gains and losses.
Net investment income in 2019 was$2.47 billion , comparable with 2018. Net investment income from fixed maturity investments in 2019 was$2.07 billion ,$90 million higher than in 2018, primarily resulting from a higher average level of fixed maturity investments and higher long-term interest rates. Net investment income from short-term securities in 2019 was$105 million ,$13 million higher than in 2018, primarily resulting from higher short-term interest rates. Net investment income generated by the Company's remaining investment portfolios in 2019 was$333 million ,$108 million lower than in 2018, primarily reflecting lower returns from private equity limited partnerships and real estate partnerships. Fee Income The National Accounts market inBusiness Insurance is the primary source of the Company's fee-based business. Fee income is described in more detail in theBusiness Insurance discussion that follows. 63 -------------------------------------------------------------------------------- Net Realized Investment Gains The following table sets forth information regarding the Company's net pre-tax realized investment gains. (for the year ended December 31, in millions) 2019 2018
2017
Other-than-temporary impairment losses$ (4 ) $ (1 ) $ (14 ) Net realized investment gains (losses) on equity securities still held 61 (29 ) - Other net realized investment gains, including from sales 56 144 230 Total$ 113 $ 114 $ 216 Other Net Realized Investment Gains Other net realized investment gains in 2019 included$59 million of net realized investment gains related to fixed maturity investments,$12 million of net realized investment gains related to equity securities sold and$15 million of net realized investment losses related to foreign currency translation and other investments. Other net realized investment gains in 2018 included$92 million of net realized investment gains related to other investments, primarily resulting from the sale of a private equity limited partnership,$33 million of net realized gains related to fixed maturity investments,$23 million of net realized investment gains from real estate sales and$4 million of net realized investment losses related to equity securities sold. Other Revenues Other revenues in all years presented included installment premium charges. Other revenues in all years also included revenues from Simply Business, which was acquired inAugust 2017 . Other revenues in 2017 also included a gain related to the settlement of a reinsurance dispute. Claims and Expenses Claims and Claim Adjustment Expenses Claims and claim adjustment expenses in 2019 were$19.13 billion ,$842 million or 5% higher than in 2018, primarily reflecting the impacts of (i) net unfavorable prior year reserve development compared to net favorable prior year reserve development in 2018, (ii) loss cost trends, (iii) higher loss estimates in the general liability line for primary and excess coverages and in the commercial automobile product line, (iv) higher business volumes and (v) higher non-catastrophe weather-related losses, partially offset by (vi) significantly lower catastrophe losses and (vii) lower loss estimates in the workers' compensation product line. Catastrophes in 2019 primarily resulted from Hurricane Dorian and several winter, wind and hail storms throughoutthe United States . Catastrophes in 2018 primarily resulted from wildfires inCalifornia , Hurricanes Florence and Michael, wind and hail storms in several regions ofthe United States and winter storms in the easternUnited States . Factors contributing to net prior year reserve development during the years endedDecember 31, 2019 , 2018 and 2017 are discussed in more detail in note 7 of notes to the consolidated financial statements. Significant Catastrophe Losses The Company defines a "catastrophe" as an event: • that is designated a catastrophe by internationally recognized organizations that track and report on insured losses resulting from catastrophic events, such as Property Claim Services (PCS) for events inthe United States andCanada ; and • for which the Company's estimates of its ultimate losses before reinsurance and taxes exceed a pre-established dollar threshold. The Company's threshold for disclosing catastrophes is primarily determined at the reportable segment level. If a threshold for one segment or a combination thereof is exceeded and the other segments have losses from the same event, losses from the event are identified as catastrophe losses in the segment results and for the consolidated results of the Company. Additionally, an 64 -------------------------------------------------------------------------------- aggregate threshold is applied for International business across all reportable segments. The threshold for 2019 ranged from approximately$19 million to$30 million of losses before reinsurance and taxes. The following table presents the amount of losses recorded by the Company for significant catastrophes that occurred in 2019, 2018 and 2017, the amount of net unfavorable (favorable) prior year reserve development recognized in 2019 and 2018 for catastrophes that occurred in 2018 and 2017, and the estimate of ultimate losses for those catastrophes atDecember 31, 2019 , 2018 and 2017. For purposes of the table, a significant catastrophe is an event for which the Company estimates its ultimate losses will be$100 million or more after reinsurance and before taxes. Losses Incurred / Unfavorable (Favorable)
Estimated Ultimate Losses at
Prior Year Reserve Development for the Year Ended December 31, December 31,
(in millions, pre-tax and net of reinsurance)(1) 2019 2018 2017 2019 2018 2017
2017
PCS Serial Number:
22 - Severe wind and hail storms $ (2 ) $ (2 ) $ 111 $ 107 $ 109 $ 111
32 - Severe wind and hail storms 6 19 210 235 229 210
43 - Hurricane Harvey (14 ) (24 ) 254 216 230 254
44 - Hurricane Irma (12 ) (28 ) 187 147 159 187
48 - California wildfire-Tubbs fire (5 ) 1 507 503 508 507
2018
PCS Serial Number:
15 - Winter storm (4 ) 144 n/a 140 144 n/a
17 - Severe wind and hail storms (6 ) 111 n/a 105 111 n/a
33 - Severe wind and hail storms 2 117 n/a 119 117 n/a
52 - Hurricane Florence (18 ) 106 n/a 88 106 n/a
57 - Hurricane Michael 2 158 n/a 160 158 n/a
59 - California wildfire-Camp fire 2 334 n/a 336 334 n/a
60 - California wildfire-Woolsey fire 10 119 n/a 129 119 n/a
2019
PCS Serial Number:
33 - Severe wind storms 250 n/a n/a 250 n/a n/a
61 - Severe wind storms and tornadoes 109 n/a n/a 109 n/a n/a
___________________________________________
(1) Amounts are reported pre-tax and net of recoveries under all applicable reinsurance treaties, except for the Underlying Property Aggregate Catastrophe Excess-of-Loss Treaty, the terms of which are described in "Part I-Item 1-Business." That treaty covers the accumulation of certain property losses arising from one or multiple occurrences (both catastrophe and non-catastrophe events) for the periodJanuary 1, 2019 through and includingDecember 31, 2019 . As a result, the benefit from that treaty is not included in the table above as the allocation of the treaty's benefit to each identified catastrophe changes each time there are additional events or changes in estimated losses from any covered event. n/a: not applicable. Amortization of Deferred Acquisition Costs Amortization of deferred acquisition costs in 2019 was$4.60 billion ,$220 million or 5% higher than in 2018. Amortization of deferred acquisition costs is discussed in more detail in the segment discussions that follow.
General and Administrative Expenses
General and administrative expenses in 2019 were$4.37 billion ,$68 million or 2% higher than in 2018, primarily reflecting the impact of costs associated with higher business volumes. General and administrative expenses are discussed in more detail in the segment discussions that follow. 65 -------------------------------------------------------------------------------- Interest Expense Interest expense in 2019 and 2018 was$344 million and$352 million , respectively. Income Tax Expense Income tax expense in 2019 was$516 million ,$78 million or 18% higher than in 2018, primarily reflecting the impacts of (i) the$177 million increase in income before income taxes in 2019 and (ii) the reduction in income tax in 2018 resulting from the Company's$200 million voluntary contribution to its qualified domestic pension plan, which provided a 35% tax benefit rather than a 21% tax benefit. The Company's effective tax rate was 16%, 15% and 25% in 2019, 2018 and 2017, respectively. The effective tax rates in all years were lower than the respective statutory rate of 21% in both 2019 and 2018 and 35% in 2017, primarily due to the impact of tax-exempt investment income on the calculation of the Company's income tax provision. The effective tax rate in 2018 also included the impact of the reduction in income tax expense resulting from the Company's$200 million voluntary contribution to its qualified domestic pension plan in 2018, which provided a 35% tax benefit rather than a 21% tax benefit. The effective tax rate in 2017 reflected the net charge related to TCJA and the impact of the resolution of prior year tax matters. Combined Ratio The combined ratio of 96.5% in 2019 was 0.4 points lower than the combined ratio of 96.9% in 2018. The loss and loss adjustment expense ratio of 66.9% in 2019 was 0.1 points higher than the loss and loss adjustment expense ratio of 66.8% in 2018. The underwriting expense ratio of 29.6% in 2019 was 0.5 points lower than the underwriting expense ratio of 30.1% in 2018. Catastrophe losses in 2019 and 2018 accounted for 3.1 points and 6.3 points, respectively, of the combined ratio. Net unfavorable prior year reserve development in 2019 accounted for 0.2 points of the combined ratio. Net favorable prior year reserve development in 2018 provided 1.9 points of benefit to the combined ratio. The combined ratio excluding prior year reserve development and catastrophe losses ("underlying combined ratio") in 2019 was 0.7 points higher than the 2018 ratio on the same basis, primarily reflecting the impacts of (i) higher loss estimates in the general liability product line for primary and excess coverages and in the commercial automobile product line, (ii) the impact on earned premiums related to the Company's new catastrophe reinsurance treaty and (iii) higher non-catastrophe weather-related losses, partially offset by (iv) lower loss estimates in the workers' compensation product line.
In recent periods, both prior year reserve development and the underlying combined ratio have been impacted by adverse developments in the tort environment, including more aggressive attorney involvement in insurance claims.
Written Premiums
Consolidated gross and net written premiums were as follows:
Gross Written Premiums
(for the year ended December 31, in millions) 2019 2018 2017
Business Insurance $ 17,151 $ 16,255 $ 15,473
Bond & Specialty Insurance 2,931 2,665 2,480
Personal Insurance 10,981 10,332 9,695
Total $ 31,063 $ 29,252 $ 27,648
Net Written Premiums
(for the year ended December 31, in millions) 2019 2018 2017
Business Insurance $ 15,629 $ 14,956 $ 14,270
Bond & Specialty Insurance 2,739 2,528 2,359
Personal Insurance 10,783 10,224 9,590
Total $ 29,151 $ 27,708 $ 26,219
Gross and net written premiums in 2019 increased by 6% and 5%, respectively,
over 2018. Net written premium growth in 2019 was impacted by ceded written
premiums related to the new catastrophe reinsurance treaty entered into in the
first quarter of 2019.
66
--------------------------------------------------------------------------------Factors contributing to the changes in gross and net written premiums in each segment in 2019 as compared with 2018 are discussed in more detail in the segment discussions that follow.
RESULTS OF OPERATIONS BY SEGMENTBusiness Insurance Results ofBusiness Insurance were as follows: (for the year ended December 31, in millions) 2019 2018 2017 Revenues Earned premiums$ 15,300 $ 14,722 $ 14,146 Net investment income 1,816 1,833 1,786 Fee income 437 412 430 Other revenues 155 112 69 Total revenues 17,708 17,079 16,431 Total claims and expenses 16,093 15,182 14,370 Segment income before income taxes 1,615 1,897 2,061 Income tax expense (1) 223 259 448 Segment income$ 1,392 $ 1,638 $ 1,613 Loss and loss adjustment expense ratio 70.3 % 67.8 % 65.9 % Underwriting expense ratio 30.6 31.3 31.9 Combined ratio 100.9 % 99.1 % 97.8 %
___________________________________________
(1) OnDecember 22, 2017 , theU.S. enacted the Tax Cuts and Jobs Act of 2017 (TCJA) which, among other changes, reduced theU.S. Federal tax rate from
35% to 21% beginning on
and previously untaxed post-1986 foreign earnings and profits (accumulated
foreign earnings).
Overview
Segment income in 2019 was$1.39 billion ,$246 million or 15% lower than segment income of$1.64 billion in 2018. The decrease in segment income before income taxes primarily reflected the pre-tax impacts of (i) net unfavorable prior year reserve development in 2019 compared to net favorable prior year reserve development in 2018 and (ii) lower underlying underwriting margins, partially offset by (iii) lower catastrophe losses. Net unfavorable prior year reserve development in 2019 was$258 million . Net favorable prior year reserve development in 2018 was$142 million . Catastrophe losses in 2019 and 2018 were$470 million and$639 million , respectively. The lower underlying underwriting margins primarily reflected the impacts of (i) higher loss estimates in the general liability product line for primary and excess coverages and in the commercial automobile product line and (ii) the impact on earned premiums related to the Company's new catastrophe reinsurance treaty, partially offset by (iii) higher business volumes and (iv) lower loss estimates in the workers' compensation product line. Income tax expense in 2019 was lower than in 2018, primarily reflecting the impacts of (i) the decrease in segment income before income taxes, partially offset by (ii) the reduction in income tax expense in 2018 resulting from the Company's voluntary contribution to its qualified domestic pension plan.
Revenues
Earned Premiums Earned premiums of$15.30 billion in 2019 were$578 million or 4% higher than in 2018, primarily reflecting an increase in net written premiums over the preceding twelve months, partially offset by the earned impact of the new catastrophe reinsurance treaty. 67 -------------------------------------------------------------------------------- Net Investment Income Net investment income in 2019 was$1.82 billion ,$17 million or 1% lower than in 2018. Refer to the "Net Investment Income" section of the "Consolidated Results of Operations" discussion for a description of the factors contributing to the Company's consolidated net investment income in 2019 compared with 2018. In addition, refer to note 2 of notes to the consolidated financial statements for a discussion of the Company's net investment income allocation methodology. Fee Income National Accounts is the primary source of fee income due to revenue from its large deductible policies and service businesses, which include risk management, claims administration, loss control and risk management information services provided to third parties, as well as claims and policy management services to workers' compensation residual market pools. Fee income in 2019 was$437 million ,$25 million or 6% higher than in 2018, primarily reflecting higher claim volume under administration associated with its service businesses. Other Revenues Other revenues in all years presented included installment premium charges and other policyholder service charges, as well as revenues from Simply Business, which was acquired inAugust 2017 . Claims and Expenses Claims and Claim Adjustment Expenses Claims and claim adjustment expenses in 2019 were$10.96 billion ,$792 million or 8% higher than in 2018, primarily reflecting the impacts of (i) net unfavorable prior year reserve development in 2019 compared to net favorable prior year reserve development in 2018, (ii) loss cost trends, (iii) higher loss estimates in the general liability product line for primary and excess coverages and the commercial automobile product line and (iv) higher business volumes, partially offset by (v) lower catastrophe losses and (vi) lower loss estimates in the workers' compensation product line.
Factors contributing to net prior year reserve development during the years
ended
Amortization of Deferred Acquisition Costs Amortization of deferred acquisition costs in 2019 was$2.50 billion ,$115 million or 5% higher than in 2018, generally consistent with the increase in earned premiums. General and Administrative Expenses General and administrative expenses in 2019 were$2.63 billion , comparable with 2018. Income Tax Expense Income tax expense in 2019 was$223 million ,$36 million or 14% lower than in 2018, primarily reflecting the impacts of (i) the$282 million decrease in income before income taxes in 2019, partially offset by (ii) the reduction in income tax expense in 2018 resulting from the Company's voluntary contribution to its qualified domestic pension plan in 2018. Combined Ratio The combined ratio of 100.9% in 2019 was 1.8 points higher than the combined ratio of 99.1% in 2018. The loss and loss adjustment expense ratio of 70.3% in 2019 was 2.5 points higher than the loss and loss adjustment expense ratio of 67.8% in 2018. The underwriting expense ratio of 30.6% in 2019 was 0.7 points lower than the underwriting expense ratio of 31.3% in 2018. Catastrophe losses in 2019 and 2018 accounted for 3.0 points and 4.4 points, respectively, of the combined ratio. Net unfavorable prior year reserve development in 2019 accounted for 1.7 points of the combined ratio. Net favorable prior year reserve development in 2018 provided 1.0 points of benefit to the combined ratio. The underlying combined ratio in 2019 was 0.5 points higher than the 2018 ratio on the same basis, primarily reflecting the impacts of (i) higher loss estimates in the general liability product line for primary and excess coverages and the commercial automobile product line and (ii) the impact on earned premiums related to 68 --------------------------------------------------------------------------------
the Company's new catastrophe reinsurance treaty, partially offset by (iii) lower loss estimates in the workers' compensation product line and (iv) a lower underwriting expense ratio.
Written Premiums
Gross Written Premiums
(for the year ended December 31, in millions) 2019 2018 2017
Domestic:
Select Accounts $ 2,945 $ 2,841 $ 2,817
Middle Market 9,073 8,537 8,051
National Accounts 1,603 1,601 1,556
National Property and Other 2,279 2,036 1,902
Total Domestic 15,900 15,015 14,326
International 1,251 1,240 1,147
Total Business Insurance $ 17,151 $ 16,255 $ 15,473
Net Written Premiums
(for the year ended December 31, in millions) 2019 2018 2017
Domestic:
Select Accounts $ 2,911 $ 2,828 $ 2,800
Middle Market 8,630 8,214 7,756
National Accounts 1,051 1,025 1,010
National Property and Other 1,965 1,805 1,691
Total Domestic 14,557 13,872 13,257
International 1,072 1,084 1,013
Total Business Insurance $ 15,629 $ 14,956 $ 14,270
Gross written premiums in 2019 increased by 6% over 2018. Net written premiums in 2019 increased by 4% over 2018. Net written premium growth in 2019 was impacted by the Company's new catastrophe reinsurance treaty entered into in the first quarter of 2019. Select Accounts. Net written premiums of$2.91 billion in 2019 increased by 3% over 2018. Net written premiums in 2019 were reduced by the new catastrophe reinsurance treaty. Business retention rates remained strong in 2019. Renewal premium changes in 2019 remained positive and were higher than in 2018. New business premiums in 2019 increased over 2018. Middle Market. Net written premiums of$8.63 billion in 2019 increased by 5% over 2018. Net written premiums in 2019 were reduced by the new catastrophe reinsurance treaty. Business retention rates remained strong in 2019. Renewal premium changes in 2019 remained positive and were higher than in 2018. New business premiums in 2019 were lower than in 2018. National Accounts. Net written premiums of$1.05 billion in 2019 increased by 3% over 2018. Net written premiums in 2019 included a benefit related to a transaction to close out prior year liabilities with a former customer. Business retention rates remained strong in 2019. Renewal premium changes in 2019 were slightly positive but lower than in 2018. New business premiums in 2019 increased over 2018. National Property and Other. Net written premiums of$1.97 billion in 2019 increased by 9% over 2018. Net written premiums in 2019 were reduced by the new catastrophe reinsurance treaty. Business retention rates remained strong in 2019. Renewal premium changes in 2019 remained positive and were higher than in 2018. New business premiums in 2019 increased over 2018.
International. Net written premiums of
69
--------------------------------------------------------------------------------Results ofBond & Specialty Insurance were as follows: (for the year ended December 31, in millions) 2019 2018 2017 Revenues Earned premiums$ 2,565 $ 2,420 $ 2,307 Net investment income 233 233 228 Other revenues 26 23 24 Total revenues 2,824 2,676 2,559 Total claims and expenses 2,055 1,685 1,795 Segment income before income taxes 769 991 764 Income tax expense (1) 151 198 208 Segment income$ 618 $ 793 $ 556 Loss and loss adjustment expense ratio 42.2 % 31.5 % 38.6 % Underwriting expense ratio 37.3 37.5 38.8 Combined ratio 79.5 % 69.0 % 77.4 %
___________________________________________
(1) OnDecember 22, 2017 , theU.S. enacted the Tax Cuts and Jobs Act of 2017 (TCJA) which, among other changes, reduced theU.S. Federal tax rate from
35% to 21% beginning on
and previously untaxed post-1986 foreign earnings and profits (accumulated
foreign earnings).
Overview
Segment income in 2019 was$618 million ,$175 million or 22% lower than segment income of$793 million in 2018. The decrease in segment income before income taxes primarily reflected the pre-tax impacts of (i) lower net favorable prior year reserve development and (ii) lower underlying underwriting margins. Net favorable prior year reserve development in 2019 and 2018 was$65 million and$266 million , respectively. Catastrophe losses in 2019 and 2018 were$5 million and$16 million , respectively. The lower underlying underwriting margins primarily reflected modestly higher loss estimates in the domestic general liability product line for management liability coverages. Income tax expense in 2019 was lower than in 2018, primarily reflecting the impact of the decrease in segment income before income taxes.
Revenues
Earned Premiums Earned premiums in 2019 were$2.57 billion ,$145 million or 6% higher than in 2018, primarily reflecting an increase in net written premiums over the preceding twelve months. Net Investment Income Net investment income in 2019 was$233 million , level with 2018. Included inBond & Specialty Insurance are certain legal entities whose invested assets and related net investment income are reported exclusively in this segment and not allocated among all business segments. As a result, reported net investment income inBond & Specialty Insurance reflects a significantly smaller proportion of allocated net investment income, including net investment income from the Company's non-fixed maturity investments that experienced a decrease in investment income in 2019. Refer to the "Net Investment Income" section of the "Consolidated Results of Operations" discussion for a description of the factors contributing to the Company's consolidated net investment income in 2019 as compared with the 2018. In addition, refer to note 2 of notes to the consolidated financial statements for a discussion of the Company's net investment income allocation methodology. 70 -------------------------------------------------------------------------------- Claims and Expenses Claims and Claim Adjustment Expenses Claims and claim adjustment expenses in 2019 were$1.09 billion ,$322 million or 42% higher than in 2018, primarily reflecting the impacts of (i) lower net favorable prior year reserve development, (ii) higher business volumes and (iii) modestly higher loss estimates in the domestic general liability product line for management liability coverages. Factors contributing to net favorable prior year reserve development during the years endedDecember 31, 2019 , 2018 and 2017 are discussed in more detail in note 7 of notes to the consolidated financial statements. Amortization of Deferred Acquisition Costs Amortization of deferred acquisition costs in 2019 was$478 million ,$24 million or 5% higher than in 2018, generally consistent with the increase in earned premiums. General and Administrative Expenses General and administrative expenses in 2019 were$483 million ,$24 million or 5% higher than in 2018, primarily reflecting the impact of costs associated with higher business volumes. Income Tax Expense Income tax expense in 2019 was$151 million ,$47 million or 24% lower than in 2018, primarily reflecting the impact of the$222 million decrease in income before income taxes in 2019. Combined Ratio The combined ratio of 79.5% in 2019 was 10.5 points higher than the combined ratio of 69.0% in 2018. The loss and loss adjustment expense ratio of 42.2% in 2019 was 10.7 points higher than the loss and loss adjustment expense ratio of 31.5% in 2018. The underwriting expense ratio of 37.3% in 2019 was 0.2 points lower than the underwriting expense ratio of 37.5% in 2018. Net favorable prior year reserve development in 2019 and 2018 provided 2.5 points and 11.0 points of benefit, respectively, to the combined ratio. Catastrophe losses in 2019 and 2018 accounted for 0.2 points and 0.6 points, respectively, of the combined ratio. The underlying combined ratio in 2019 was 2.4 points higher than the 2018 ratio on the same basis, primarily reflecting the impacts of modestly higher loss estimates in the domestic general liability product line for management liability coverages.
Gross Written Premiums
(for the year ended December 31, in millions) 2019 2018 2017
Domestic:
Management Liability $ 1,720 $ 1,523 $ 1,422
Surety 926 887 844
Total Domestic 2,646 2,410 2,266
International 285 255 214
Total Bond & Specialty Insurance $ 2,931 $ 2,665 $ 2,480
71
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Net Written Premiums
(for the year ended December 31, in millions) 2019 2018 2017
Domestic:
Management Liability $ 1,605 $ 1,455 $ 1,367
Surety 866 835 793
Total Domestic 2,471 2,290 2,160
International 268 238 199
Total Bond & Specialty Insurance $ 2,739 $ 2,528 $ 2,359
Gross written premiums in 2019 increased by 10% over 2018. Net written premiums in 2019 increased by 8% over 2018. Net written premium growth in 2019 was impacted by higher ceded written premiums for several reinsurance treaties, including those related to the new catastrophe reinsurance treaty entered into in the first quarter of 2019. Domestic. Net written premiums in 2019 were$2.47 billion ,$181 million or 8% higher than in 2018. Excluding the surety line of business, for which the following are not relevant measures, business retention rates remained strong in 2019. Renewal premium changes in 2019 remained positive and were higher than in 2018. New business premiums in 2019 increased over 2018. International. Net written premiums in 2019 were$268 million ,$30 million or 13% higher than in 2018, primarily driven by increases in theUnited Kingdom andCanada , partially offset by the impact of changes in foreign currency exchange rates.Personal Insurance Results ofPersonal Insurance were as follows: (for the year ended December 31, in millions) 2019 2018 2017 Revenues Earned premiums$ 10,407 $ 9,917 $ 9,230 Net investment income 419 408 383 Fee income 22 20 17 Other revenues 87 66 60 Total revenues 10,935 10,411 9,690 Total claims and expenses 9,916 10,072 9,606 Segment income before income taxes 1,019 339
84
Income tax expense (benefit) (1) 195 42 (44 ) Segment income$ 824 $ 297 $
128
Loss and loss adjustment expense ratio 68.0 % 74.1 % 76.3 % Underwriting expense ratio 26.2 26.5 26.8 Combined ratio 94.2 % 100.6 % 103.1 %
___________________________________________
(1) OnDecember 22, 2017 , theU.S. enacted the Tax Cuts and Jobs Act of 2017 (TCJA) which, among other changes, reduced theU.S. Federal tax rate from
35% to 21% beginning on
and previously untaxed post-1986 foreign earnings and profits (accumulated
foreign earnings).
Overview
Segment income in 2019 was$824 million ,$527 million or 177% higher than segment income of$297 million in 2018. The increase in segment income before income taxes primarily reflected the pre-tax impacts of (i) significantly lower catastrophe losses and (ii) higher net favorable prior year reserve development, partially offset by (iii) lower underlying underwriting margins. Catastrophe losses in 2019 and 2018 were$411 million and$1.06 billion , respectively. Net favorable prior year reserve development in 2019 and 2018 was$133 million and$109 million , respectively. The lower underlying underwriting margins primarily reflected 72 -------------------------------------------------------------------------------- (i) higher non-catastrophe weather-related losses in Agency Homeowners and Other and (ii) the impact on earned premiums related to the Company's new catastrophe reinsurance treaty, mostly impacting Agency Homeowners and Other, partially offset by (iii) earned pricing that exceeded loss cost trends in Agency Automobile and (iv) higher business volumes. Income tax expense in 2019 was higher than in 2018, primarily reflecting the impacts of (i) the increase in segment income before income taxes and (ii) the reduction in income tax expense in 2018 resulting from the Company's voluntary contribution to its qualified domestic pension plan. Revenues Earned Premiums Earned premiums in 2019 were$10.41 billion ,$490 million or 5% higher than in 2018, primarily reflecting an increase in net written premiums over the preceding twelve months. The increase in earned premiums in 2019 was reduced by the earned impact of the new catastrophe reinsurance treaty. Net Investment Income Net investment income in 2019 was$419 million ,$11 million or 3% higher than in 2018. Refer to the "Net Investment Income" section of the "Consolidated Results of Operations" discussion for a description of the factors contributing to the Company's consolidated net investment income in 2019 as compared with the 2018. In addition, refer to note 2 of notes to the consolidated financial statements for a discussion of the Company's net investment income allocation methodology. Other Revenues Other revenues in all years presented included installment premium charges. Claims and Expenses Claims and Claim Adjustment Expenses Claims and claim adjustment expenses in 2019 were$7.08 billion ,$272 million or 4% lower than in 2018, primarily reflecting the impacts of (i) significantly lower catastrophe losses and (ii) higher net favorable prior year reserve development, partially offset by (iii) higher non-catastrophe weather-related losses in Agency Homeowners and Other, (iv) higher business volumes and (v) loss cost trends. Factors contributing to net favorable prior year reserve development during the years endedDecember 31, 2019 and 2018 are discussed in more detail in note 7 of notes to the consolidated financial statements. Net prior year reserve development in 2017 was not significant. Amortization of Deferred Acquisition Costs Amortization of deferred acquisition costs in 2019 was$1.62 billion ,$81 million or 5% higher than in 2018, generally consistent with the increase in earned premiums. General and Administrative Expenses General and administrative expenses in 2019 were$1.22 billion ,$35 million or 3% higher than in 2018, primarily reflecting the impact of costs associated with higher business volumes. Income Tax Expense Income tax expense in 2019 was$195 million ,$153 million or 364% higher than in 2018, primarily reflecting the impacts of (i) the$680 million increase in income before income taxes in 2019 and (ii) the reduction in income tax expense in 2018 resulting from the Company's voluntary contribution to its qualified domestic pension plan. The level of income tax expense in both years reflected the impact of tax-exempt investment income on the calculation of the Company's tax provision. 73
-------------------------------------------------------------------------------- Combined Ratio The combined ratio of 94.2% in 2019 was 6.4 points lower than the combined ratio of 100.6% in 2018. The loss and loss adjustment expense ratio of 68.0% in 2019 was 6.1 points lower than the loss and loss adjustment expense ratio of 74.1% in 2018. The underwriting expense ratio of 26.2% in 2019 was 0.3 points lower than the underwriting expense ratio of 26.5% in 2018. Catastrophe losses accounted for 4.0 points and 10.7 points of the combined ratio in 2019 and 2018, respectively. Net favorable prior year reserve development in 2019 and 2018 provided 1.3 and 1.1 points of benefit, respectively, to the combined ratio. The underlying combined ratio in 2019 was 0.5 points higher than the 2018 ratio on the same basis, primarily reflecting the impacts of (i) higher non-catastrophe weather-related losses in Agency Homeowners and Other and (ii) the impact on earned premiums related to the Company's new catastrophe reinsurance treaty, mostly impacting Agency Homeowners and Other, partially offset by (iii) earned pricing that exceeded loss cost trends in Agency Automobile and (iv) a lower underwriting expense ratio. Written PremiumsPersonal Insurance's gross and net written premiums were as follows: Gross Written Premiums (for the year ended December 31, in millions) 2019 2018 2017 Domestic: Agency: Automobile$ 5,154 $ 4,998 $ 4,671 Homeowners and Other 4,685 4,213 4,000Total Agency 9,839 9,211 8,671 Direct-to-Consumer 418 398 362 Total Domestic 10,257 9,609 9,033 International 724 723 662Total Personal Insurance $ 10,981 $ 10,332 $ 9,695 Net Written Premiums (for the year ended December 31, in millions) 2019 2018 2017 Domestic: Agency: Automobile$ 5,124 $ 4,972 $ 4,646 Homeowners and Other 4,540 4,148 3,933Total Agency 9,664 9,120 8,579 Direct-to-Consumer 412 396 361 Total Domestic 10,076 9,516 8,940 International 707 708 650Total Personal Insurance $ 10,783 $ 10,224 $ 9,590 Domestic Agency Written PremiumsPersonal Insurance's domestic Agency business comprises business written through agents, brokers and other intermediaries.Domestic Agency gross written premiums in 2019 increased by 7% over 2018. Net written premiums in 2019 increased by 6% over 2018. Net written premium growth in 2019 was impacted by the Company's new catastrophe reinsurance treaty entered into in the first quarter of 2019. Domestic Agency Automobile net written premiums of$5.12 billion in 2019 were 3% higher than in 2018. Net written premiums in 2019 were reduced by the new catastrophe reinsurance treaty. Business retention rates remained strong in 2019. Renewal premium changes in 2019 remained positive but were lower than in 2018. New business premiums in 2019 increased over 2018. 74 -------------------------------------------------------------------------------- Domestic Agency Homeowners and Other net written premiums of$4.54 billion in 2019 were 9% higher than in 2018. Net written premiums in 2019 were reduced by the new catastrophe reinsurance treaty. Business retention rates remained strong in 2019. Renewal premium changes in 2019 remained positive and were higher than in 2018. New business premiums in 2019 increased over 2018.
For its domestic Agency business,
Direct-to-Consumer and International Written Premiums Direct-to-Consumer net written premiums in 2019 were 4% higher than in 2018, primarily driven by growth in homeowners and other. Net written premiums in 2019 were reduced by the new catastrophe reinsurance treaty.
International net written premiums in 2019 were comparable with 2018.
For its International and Direct-to-Consumer business,Personal Insurance had approximately 869,000 and 900,000 active policies atDecember 31, 2019 and 2018, respectively. Interest Expense and Other (for the year ended December 31, in millions) 2019 2018 2017 Income (loss)$ (297 ) $ (298 ) $ (254 ) The Income (loss) for Interest Expense and Other in 2019 was$1 million lower than in 2018. Pre-tax interest expense in 2019 and 2018 was$344 million and$352 million , respectively. After-tax interest expense in 2019 and 2018 was$272 million and$278 million , respectively. ASBESTOS CLAIMS AND LITIGATION The Company believes that the property and casualty insurance industry has suffered from court decisions and other trends that have expanded insurance coverage for asbestos claims far beyond the original intent of insurers and policyholders. The Company has received and continues to receive a significant number of asbestos claims. Factors underlying these claim filings include continued intensive advertising by lawyers seeking asbestos claimants and the focus by plaintiffs on defendants who were not traditionally primary targets of asbestos litigation. The focus on these defendants is primarily the result of the number of traditional asbestos defendants who have sought bankruptcy protection in previous years. The bankruptcy of many traditional defendants has also caused increased settlement demands against those policyholders who are not in bankruptcy but remain in the tort system. Currently, in many jurisdictions, those who allege very serious injury and who can present credible medical evidence of their injuries are receiving priority trial settings in the courts, while those who have not shown any credible disease manifestation are having their hearing dates delayed or placed on an inactive docket. Prioritizing claims involving credible evidence of injuries, along with the focus on defendants who were not traditionally primary targets of asbestos litigation, contributes to the claims and claim adjustment expense payment patterns experienced by the Company. The Company's asbestos-related claims and claim adjustment expense experience also has been impacted by the unavailability of other insurance sources potentially available to policyholders, whether through exhaustion of policy limits or through the insolvency of other participating insurers. The Company continues to be involved in disputes, including litigation, with a number of policyholders, some of whom are in bankruptcy over coverage for asbestos-related claims. Many coverage disputes with policyholders are only resolved through settlement agreements. Because many policyholders make exaggerated demands, it is difficult to predict the outcome of settlement negotiations. Settlements involving bankrupt policyholders may include extensive releases which are favorable to the Company, but which could result in settlements for larger amounts than originally anticipated. Although the Company has seen a reduction in the overall risk associated with these disputes, it remains difficult to predict the ultimate cost of these claims. As in the past, the Company will continue to pursue settlement opportunities. In addition to claims against policyholders, proceedings have been launched directly against insurers, including the Company, by individuals challenging insurers' conduct with respect to the handling of past asbestos claims and by individuals seeking damages arising from alleged asbestos-related bodily injuries. It is possible that the filing of other direct actions against insurers, including the Company, could be made in the future. It is difficult to predict the outcome of these proceedings, including whether the 75 --------------------------------------------------------------------------------
plaintiffs would be able to sustain these actions against insurers based on novel legal theories of liability. The Company believes it has meritorious defenses to any such claims and has received favorable rulings in certain jurisdictions.
Because each policyholder presents different liability and coverage issues, the Company generally reviews the exposure presented by each policyholder at least annually. Among the factors which the Company may consider in the course of this review are: available insurance coverage, including the role of any umbrella or excess insurance the Company has issued to the policyholder; limits and deductibles; an analysis of the policyholder's potential liability; the jurisdictions involved; past and anticipated future claim activity and loss development on pending claims; past settlement values of similar claims; allocated claim adjustment expense; the potential role of other insurance; the role, if any, of non-asbestos claims or potential non-asbestos claims in any resolution process; and applicable coverage defenses or determinations, if any, including the determination as to whether or not an asbestos claim is a products/completed operation claim subject to an aggregate limit and the available coverage, if any, for that claim.
The Company categorizes its asbestos reserves as follows:
Number of Net Asbestos
Policyholders Total Net Paid Reserves
(at and for the year ended
2019 2018 2019 2018
Policyholders with settlement agreements 12 11 $ 10 $ 20 $ 45 $ 53
Home office and field office policyholders 1,439 1,466 200 188 1,093 1,089
Assumed reinsurance and other - - 14 17 141 139
Total 1,451 1,477 $ 224 $ 225 $ 1,279 $ 1,281
The policyholders with settlement agreements category includes certain
policyholders with whom the Company has entered into permanent settlement
agreements. Reserves in this category are based on the expected payout for each
policyholder under the applicable agreement. The home office and field office
category relates to all other policyholders and also includes IBNR reserves and
reserves for the costs of defending asbestos-related coverage litigation. IBNR
reserves in this category include amounts for new claims and adverse development
on existing policyholders in this category, as well as reserves for claims from
policyholders reporting asbestos claims for the first time and for policyholders
for which there is, or may be, litigation. Policyholders are identified for the
annual home office review based upon, among other factors: a combination of past
payments and current case reserves in excess of a specified threshold (currently
$100,000 ), perceived level of exposure, number of reported claims,
products/completed operations and potential "non-product" exposures, size of
policyholder and geographic distribution of products or services sold by the
policyholder. The assumed reinsurance and other category primarily consists of
reinsurance of excess coverage, including various pool participations.
In the third quarter of 2019, the Company completed its annual in-depth asbestos
claim review, including a review of active policyholders and litigation cases
for potential product and "non-product" liability, and noted the continuation of
the following trends:
• a high level of litigation activity in certain jurisdictions involving
individuals alleging serious asbestos-related illness, primarily involving
mesothelioma claims;
• while overall payment patterns have been generally stable, there has been
an increase in severity for certain policyholders due to the high level of
litigation activity; and
• a moderate level of asbestos-related bankruptcy activity.
In the home office and field office category, which accounts for the vast
majority of policyholders with active asbestos-related claims, the number of
policyholders with open asbestos claims and net asbestos-related payments were
comparable with 2018. Payments on behalf of policyholders in this category
continue to be influenced by a high level of litigation activity in a limited
number of jurisdictions where individuals alleging serious asbestos-related
injury, primarily mesothelioma, continue to target defendants who were not
traditionally primary targets of asbestos litigation.
The Company's quarterly asbestos reserve reviews include an analysis of exposure
and claim payment patterns by policyholder category, as well as recent
settlements, policyholder bankruptcies, judicial rulings and legislative
actions. The Company also analyzes developing payment patterns among
policyholders in the home office and field office category and the assumed
reinsurance and other category as well as projected reinsurance billings and
recoveries. In addition, the Company reviews its historical gross and net loss
and expense paid experience, year-by-year, to assess any emerging trends,
fluctuations or characteristics suggested by the aggregate paid activity.
Conventional actuarial methods are not utilized to establish asbestos reserves,
and the Company's evaluations have not resulted in a reliable method to
determine a meaningful average asbestos defense or indemnity payment.
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The completion of these reviews and analyses in 2019, 2018 and 2017 resulted in
$220 million , $225 million and $225 million increases, respectively, to the
Company's net asbestos reserves. In each year, the reserve increases were
primarily driven by increases in the Company's estimate of projected settlement
and defense costs related to a broad number of policyholders in the home office
and field office category. The increase in the estimate of projected settlement
and defense costs resulted from payment trends that continue to be higher than
previously anticipated due to the impact of the current litigation environment
surrounding mesothelioma claims discussed above. Over the past decade, the
property and casualty insurance industry, including the Company, has experienced
net unfavorable prior year reserve development with regard to asbestos reserves,
but the Company believes that over that period there has been a reduction in the
volatility associated with the Company's overall asbestos exposure as the
overall asbestos environment has evolved from one dominated by exposure to
significant litigation risks, particularly coverage disputes relating to
policyholders in bankruptcy who were asserting that their claims were not
subject to the aggregate limits contained in their policies, to an environment
primarily driven by a frequency of litigation related to individuals with
mesothelioma. The Company's overall view of the current underlying asbestos
environment is essentially unchanged from recent periods, and there remains a
high degree of uncertainty with respect to future exposure to asbestos claims.
Net asbestos paid loss and loss expenses in 2019, 2018 and 2017 were $224
million , $225 million and $271 million , respectively. Approximately 4%, 9% and
4% of total net paid losses in 2019, 2018 and 2017, respectively, related to
policyholders with whom the Company had entered into settlement agreements
limiting the Company's liability.
The following table displays activity for asbestos losses and loss expenses and
reserves:
(at and for the year ended December 31, in millions) 2019 2018 2017
Beginning reserves:
Gross $ 1,608 $ 1,538 $ 1,512
Ceded (327 ) (257 ) (186 )
Net 1,281 1,281 1,326
Incurred losses and loss expenses:
Gross 268 343 340
Ceded (48 ) (118 ) (115 )
Net 220 225 225
Paid loss and loss expenses:
Gross 277 273 315
Ceded (53 ) (48 ) (44 )
Net 224 225 271
Foreign exchange and other:
Gross 2 - 1
Ceded - - -
Net 2 - 1
Ending reserves:
Gross 1,601 1,608 1,538
Ceded (322 ) (327 ) (257 )
Net $ 1,279 $ 1,281 $ 1,281 ___________________________________________
See "-Uncertainty Regarding Adequacy of Asbestos and Environmental Reserves."
ENVIRONMENTAL CLAIMS AND LITIGATION
The Company has received and continues to receive claims from policyholders who
allege that they are liable for injury or damage arising out of their alleged
disposition of toxic substances. These claims are mainly brought pursuant to
various state or federal statutes that require a liable party to undertake or
pay for environmental remediation. Liability under these statutes may be joint
and several with other responsible parties.
77
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The Company has also been, and continues to be, involved in litigation involving
insurance coverage issues pertaining to environmental claims. The Company
believes that some court decisions have interpreted the insurance coverage to be
broader than the original intent of the insurers and policyholders. These
decisions often pertain to insurance policies that were issued by the Company
prior to the mid-1980s. These decisions continue to be inconsistent and vary
from jurisdiction to jurisdiction. Environmental claims, when submitted, rarely
indicate the monetary amount being sought by the claimant from the policyholder,
and the Company does not keep track of the monetary amount being sought in those
few claims which indicate a monetary amount.
The resolution of environmental exposures by the Company generally occurs
through settlements with policyholders as opposed to claimants. Generally, the
Company strives to extinguish any obligations it may have under any policy
issued to the policyholder for past, present and future environmental
liabilities and extinguish any pending coverage litigation dispute with the
policyholder. This form of settlement is commonly referred to as a "buy-back"
of policies for future environmental liability. In addition, many of the
agreements have also extinguished any insurance obligation which the Company may
have for other claims, including, but not limited to, asbestos and other
cumulative injury claims. The Company and its policyholders may also agree to
settlements which only extinguish any liability arising from known specified
sites or claims. In many instances, these agreements also include indemnities
and hold harmless provisions to protect the Company. The Company's general
purpose in executing these agreements is to reduce the Company's potential
environmental exposure and eliminate the risks presented by coverage litigation
with the policyholder and related costs.
In establishing environmental reserves, the Company evaluates the exposure
presented by each policyholder and the anticipated cost of resolution, if any.
In the course of this analysis, the Company generally considers the probable
liability, available coverage and relevant judicial interpretations. In
addition, the Company considers the many variables presented, such as: the
nature of the alleged activities of the policyholder at each site; the number of
sites; the total number of potentially responsible parties at each site; the
nature of the alleged environmental harm and the corresponding remedy at each
site; the nature of government enforcement activities at each site; the
ownership and general use of each site; the overall nature of the insurance
relationship between the Company and the policyholder, including the role of any
umbrella or excess insurance the Company has issued to the policyholder; the
involvement of other insurers; the potential for other available coverage,
including the number of years of coverage; the role, if any, of
non-environmental claims or potential non-environmental claims in any resolution
process; and the applicable law in each jurisdiction. Conventional actuarial
methods are not used to estimate these reserves.
The Company continues to receive notices from policyholders tendering claims for
the first time, frequently under policies issued prior to the mid-1980s. These
policyholders continue to present smaller exposures, have fewer sites and are
lower-tier defendants. Further, in many instances, clean-up costs have been
reduced because regulatory agencies are willing to accept risk-based site
analyses and more efficient clean-up technologies. Over the past several years,
the Company has experienced generally favorable trends in the number of new
policyholders tendering environmental claims for the first time and in the
number of pending declaratory judgment actions relating to environmental
matters. However, the degree to which those favorable trends have continued has
been less than anticipated. In addition, reserve development on existing
environmental claims as well as the costs associated with coverage litigation on
environmental matters have been greater than anticipated, driven by claims and
legal developments in a limited number of jurisdictions. As a result of these
factors, in 2019, 2018 and 2017, the Company increased its net environmental
reserves by $76 million , $55 million and $65 million , respectively.
At December 31, 2019 , approximately 92% of the net environmental reserve
(approximately $296 million ) was carried in a bulk reserve and included
unresolved environmental claims, incurred but not reported environmental claims
and the anticipated cost of coverage litigation disputes relating to these
claims. The bulk reserve the Company carries is established and adjusted based
upon the aggregate volume of in-process environmental claims and the Company's
experience in resolving those claims. The balance, approximately 8% of the net
environmental reserve (approximately $25 million ), consists of case reserves.
78
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The following table displays activity for environmental losses and loss expenses
and reserves:
(at and for the year ended December 31, in millions) 2019 2018 2017
Beginning reserves:
Gross $ 358 $ 373 $ 395
Ceded (24 ) (13 ) (13 )
Net 334 360 382
Incurred losses and loss expenses:
Gross 84 71 74
Ceded (8 ) (16 ) (9 )
Net 76 55 65
Paid loss and loss expenses:
Gross 92 86 97
Ceded (2 ) (6 ) (9 )
Net 90 80 88
Foreign exchange and other:
Gross - - 1
Ceded 1 (1 ) -
Net 1 (1 ) 1
Ending reserves:
Gross 350 358 373
Ceded (29 ) (24 ) (13 )
Net $ 321 $ 334 $ 360
UNCERTAINTY REGARDING ADEQUACY OF ASBESTOS AND ENVIRONMENTAL RESERVES
As a result of the processes and procedures discussed above, management believes
that the reserves carried for asbestos and environmental claims are
appropriately established based upon known facts, current law and management's
judgment. However, the uncertainties surrounding the final resolution of these
claims continue, and it is difficult to determine the ultimate exposure for
asbestos and environmental claims and related litigation. As a result, these
reserves are subject to revision as new information becomes available and as
claims develop. Changes in the legal, regulatory and legislative environment may
impact the future resolution of asbestos and environmental claims and result in
adverse loss reserve development. The emergence of a greater number of asbestos
or environmental claims beyond that which is anticipated may result in adverse
loss reserve development. Changes in applicable legislation and future court and
regulatory decisions and interpretations, including the outcome of legal
challenges to legislative and/or judicial reforms establishing medical criteria
for the pursuit of asbestos claims, could affect the settlement of asbestos and
environmental claims. It is also difficult to predict the ultimate outcome of
complex 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. As part of its
continuing analysis of asbestos and environmental reserves, the Company
continues to study the implications of these and other developments.
Because of the uncertainties set forth above, additional liabilities may arise
for amounts in excess of the Company's current reserves. In addition, the
Company's estimate of claims and claim adjustment expenses may change. These
additional liabilities or increases in estimates, or a range of either, cannot
now be reasonably estimated and could result in income statement charges that
could be material to the Company's operating results in future periods.
INVESTMENT PORTFOLIO
The Company's invested assets at December 31, 2019 were $77.88 billion , of which
94% was invested in fixed maturity and short-term investments, 1% in equity
securities, 1% in real estate investments and 4% in other investments. Because
the primary purpose of the investment portfolio is to fund future claims
payments, the Company employs a thoughtful investment philosophy that focuses on
appropriate risk-adjusted returns. A significant majority of funds available for
investment are deployed in a widely diversified portfolio of high quality,
liquid, taxable U.S. government, tax-exempt U.S. municipal and taxable corporate
and U.S. agency mortgage-backed bonds.
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The carrying value of the Company's fixed maturity portfolio at December 31,
2019 was $68.13 billion . The Company closely monitors the duration of its fixed
maturity investments, and investment purchases and sales are executed with the
objective of having adequate funds available to satisfy the Company's insurance
and debt obligations. The weighted average credit quality of the Company's
fixed maturity portfolio, both including and excluding U.S. Treasury securities,
was "Aa2" at both December 31, 2019 and 2018. Below investment grade securities
represented 2.1% and 2.3% of the total fixed maturity investment portfolio at
December 31, 2019 and 2018, respectively. The weighted average effective
duration of fixed maturities and short-term securities was 4.0 (4.3 excluding
short-term securities) at December 31, 2019 and 4.5 (4.7 excluding short-term
securities) at December 31, 2018 . The decrease in duration compared with
December 31, 2018 primarily reflected the decrease in market interest rates
during 2019.
The carrying values of investments in fixed maturities classified as available
for sale at December 31, 2019 and 2018 were as follows:
2019 2018
Weighted Weighted
Average Credit Average Credit
(at December 31, in millions) Carrying Value Quality (1) Carrying Value Quality (1)
U.S. Treasury securities and
obligations of U.S. government and
government agencies and authorities $ 2,095 Aaa/Aa1 $ 2,064 Aaa/Aa1
Obligations of states, municipalities
and political subdivisions: 0
Local general obligation 16,315 Aaa/Aa1 14,572 Aaa/Aa1
Revenue 10,315 Aaa/Aa1 9,853 Aaa/Aa1
State general obligation 1,231 Aaa/Aa1 1,334 Aaa/Aa1
Pre-refunded 2,056 Aaa/Aa1 2,852 Aaa/Aa1
Total obligations of states,
municipalities and political
subdivisions 29,917 28,611
Debt securities issued by foreign
governments 1,173 Aaa/Aa1 1,257 Aaa/Aa1
Mortgage-backed securities,
collateralized mortgage obligations and
pass-through securities 3,280 Aaa/Aa1 2,573 Aaa/Aa1
All other corporate bonds and
redeemable preferred stock:
Financial:
Bank 3,841 A1 3,641 A1
Insurance 1,183 Aa3 1,006 A1
Finance/leasing 42 Ba3 39 Ba2
Brokerage and asset management 103 A1 80 A1
Total financial 5,169 4,766
Industrial 18,128 A3 16,957 A3
Public utility 3,953 A3 3,222 A2
Canadian municipal securities 1,416 Aa2 1,165 Aa2
Sovereign corporate securities (2) 582 Aaa 629 Aaa
Commercial mortgage-backed securities
and project loans (3) 1,509 Aaa 1,217 Aaa
Asset-backed and other 912 Aa1 1,003 Aa1
Total all other corporate bonds and
redeemable preferred stock 31,669 28,959
Total fixed maturities $ 68,134 Aa2 $ 63,464 Aa2
___________________________________________
(1) Rated using external rating agencies or by the Company when a public rating
does not exist.
80--------------------------------------------------------------------------------
(2) Sovereign corporate securities include corporate securities that are backed
by a government and include sovereign banks and securities issued under the
Federal Ship Financing Programs.
(3) Included in commercial mortgage-backed securities and project loans at
guaranteed by the
securities guaranteed by government-sponsored enterprises at both December
31, 2019 and 2018.
The following table sets forth the Company's fixed maturity investment portfolio
rated using external ratings agencies or by the Company when a public rating
does not exist:
Carrying Percent of Total
(at December 31, 2019, in millions) Value Carrying Value
Quality Rating:
Aaa $ 29,164 42.9 %
Aa 15,819 23.2
A 12,148 17.8
Baa 9,541 14.0
Total investment grade 66,672 97.9
Below investment grade 1,462 2.1
Total fixed maturities $ 68,134 100.0 %
Obligations of States, Municipalities and Political Subdivisions
The Company's fixed maturity investment portfolio at December 31, 2019 and 2018
included $29.92 billion and $28.61 billion , respectively, of securities which
are obligations of states, municipalities and political subdivisions
(collectively referred to as the municipal bond portfolio). The municipal bond
portfolio is diversified across the United States , the District of Columbia and
Puerto Rico and includes general obligation and revenue bonds issued by states,
cities, counties, school districts and similar issuers. Included in the
municipal bond portfolio at December 31, 2019 and 2018 were $2.06 billion and
$2.85 billion , respectively, of pre-refunded bonds, which are bonds for which
states or municipalities have established irrevocable trusts, almost exclusively
comprised of U.S. Treasury securities and obligations of U.S. government and
government agencies and authorities. These trusts were created to fund the
payment of principal and interest due under the bonds. The irrevocable trusts
are verified as to their sufficiency by an independent verification agent of the
underwriter, issuer or trustee. All of the Company's holdings of securities
issued by Puerto Rico and related entities have been pre-refunded and therefore
are defeased by U.S. Treasury securities.
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The following table shows the geographic distribution of the
Weighted
Average
(at December 31, 2019, State General Local General Total Carrying Credit
in millions) Obligation Obligation Revenue Value Quality(1)
State:
Texas $ 14 $ 2,803 $ 1,143 $ 3,960 Aaa
Washington 110 1,389 483 1,982 Aaa/Aa1
Virginia 8 913 826 1,747 Aaa/Aa1
California - 1,086 454 1,540 Aaa/Aa1
Minnesota 73 1,089 246 1,408 Aaa/Aa1
North Carolina 97 794 438 1,329 Aaa/Aa1
Massachusetts - 123 1,089 1,212 Aaa/Aa1
Colorado - 711 282 993 Aa1
Maryland 33 726 166 925 Aaa/Aa1
Georgia 158 596 160 914 Aaa/Aa1
Wisconsin 143 496 182 821 Aa1
Tennessee 63 623 88 774 Aa1
Florida 46 77 624 747 Aa1
South Carolina 53 557 118 728 Aa1
All others (2) 433 4,332 4,016 8,781 Aaa/Aa1
Total $ 1,231 $ 16,315 $ 10,315 $ 27,861 Aaa/Aa1
___________________________________________
(1) Rated using external rating agencies or by the Company when a public
rating does not exist. Ratings shown are the higher of the rating of the
underlying issuer or the insurer in the case of securities enhanced by
third-party insurance for the payment of principal and interest in the
event of issuer default.
(2) No other single state accounted for 2.5% or more of the total
non-pre-refunded municipal bonds.
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The following table displays the funding sources for the
Weighted Average
Carrying Credit
(at December 31, 2019, in millions) Value Quality(1)
Source:
Water and sewer $ 4,016 Aaa/Aa1
Higher education 2,626 Aaa/Aa1
Power utilities 785 Aa1
Transportation 727 Aa1
Special tax 578 Aa1
Health care 94 Aa2
Housing 35 Aaa/Aa1
Lease 34 Aaa/Aa1
Industrial 14 A2
Property tax 12 Aa2
Other revenue sources 1,394 Aaa/Aa1
Total $ 10,315 Aaa/Aa1
___________________________________________
(1) Rated using external rating agencies or by the Company when a public
rating does not exist. Ratings shown are the higher of the rating of the
underlying issuer or the insurer in the case of securities enhanced by
third-party insurance for the payment of principal and interest in the
event of issuer default.
The Company bases its investment decision on the underlying credit
characteristics of the municipal security. The weighted average credit rating
of the municipal bond portfolio was "Aaa/Aa1" at December 31, 2019 .
Debt Securities Issued by Foreign Governments
The following table shows the geographic distribution of the Company's long-term
fixed maturity investments in debt securities issued by foreign governments at
December 31, 2019 :
Carrying Weighted Average Credit
(at December 31, 2019, in millions) Value Quality (1)
Foreign Government:
Canada $ 790 Aaa
United Kingdom 355 Aa2
All Others (2) 28 Baa2
Total $ 1,173 Aaa/Aa1
___________________________________________
(1) Rated using external rating agencies or by the Company when a public
rating does not exist.
(2) No other country accounted for 2.5% or more of total debt securities issued
by foreign governments.
The following table shows the Company's Eurozone exposure at December 31, 2019
to all debt securities issued by foreign governments, financial companies,
sovereign corporations (including sovereign banks) whose securities are backed
by the respective country's government and all other corporate securities
(comprised of industrial corporations and utility companies) which could be
affected if economic conditions deteriorated due to a prolonged recession:
83
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Corporate Securities
Debt Securities Issued
by Foreign Governments Financial Sovereign Corporates All Other
Weighted Average Weighted Average Weighted Average Weighted Average
(at December 31, 2019, in Carrying Credit Carrying Credit Carrying Credit Carrying Credit
millions) Value Quality (1) Value Quality (1) Value Quality (1) Value Quality (1)
Eurozone Periphery
Spain $ - - $ 78 A2 $ - - $ 19 Baa2
Ireland - - - - - - 138 Baa2
Greece - - - - - - - -
Italy - - - - - - - -
Portugal - - - - - - - -
Subtotal - 78 - 157
Eurozone Non-Periphery
Germany - - 5 Baa3 353 Aaa/Aa1 535 A3
France - - 4 A1 - - 632 A2
Netherlands - - 150 A1 218 Aaa/Aa1 337 A2
Austria - - - - 124 Aa2 - -
Finland - - 26 Aa3 - - - -
Belgium - - - - - - 74 Baa1
Luxembourg - - - - - - 14 Aa3
Subtotal - 185 695 1,592
Total $ - $ 263 $ 695 $ 1,749 ___________________________________________
(1) Rated using external rating agencies or by the Company when a public
rating does not exist. The table includes
securities which have high ratings issued by external rating agencies for
short-term issuances. For purposes of this table, the short-term
securities, which are rated "A-1+" and/or "P-1," are included as "Aaa"
rated securities.
In addition to fixed maturities noted in the foregoing table, the Company has
exposure totaling $131 million to private equity limited partnerships and real
estate partnerships (both of which are included in other investments in the
Company's consolidated balance sheet) whose primary investing focus is across
Europe . The Company has unfunded commitments totaling $134 million to these
partnerships. The Company has no non-redeemable preferred stock issued by
companies in the Eurozone .
Mortgage-Backed Securities , Collateralized Mortgage Obligations and Pass-Through
Securities
The Company's fixed maturity investment portfolio at December 31, 2019 and 2018
included $3.28 billion and $2.57 billion , respectively, of residential
mortgage-backed securities, including pass-through-securities and collateralized
mortgage obligations (CMOs), all of which are subject to prepayment risk (either
shortening or lengthening of duration). While prepayment risk for securities and
its effect on income cannot be fully controlled, particularly when interest
rates move dramatically, the Company's investment strategy generally favors
securities that reduce this risk within expected interest rate ranges. The
Company makes investments in residential CMOs that are either guaranteed by
GNMA, FNMA or FHLMC, or if not guaranteed, are senior or super-senior positions
within their respective securitizations. Both guaranteed and non-guaranteed
residential CMOs allocate the distribution of payments from the underlying
mortgages among different classes of bondholders. In addition, non-guaranteed
residential CMOs provide structures that allocate the impact of credit losses to
different classes of bondholders. Senior and super-senior CMOs are protected,
to varying degrees, from credit losses as those losses are initially allocated
to subordinated bondholders. The Company's investment strategy is to purchase
CMO tranches that are expected to offer the most favorable return given the
Company's assessment of associated risks. The Company does not purchase
residual interests in CMOs. For more information regarding the Company's
investments in residential mortgage-backed securities, see note 3 of notes to
the consolidated financial statements.
84
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Commercial Mortgage-Backed Securities and Project Loans
At December 31, 2019 and 2018, the Company held commercial mortgage-backed
securities (including FHA project loans) of $1.51 billion and $1.22 billion ,
respectively. For more information regarding the Company's investments in
commercial mortgage-backed securities, see note 3 of notes to the consolidated
financial statements.
Equity Securities , Real Estate and Short-Term Investments
See note 1 of notes to the consolidated financial statements for further
information about these invested asset classes.
Other Investments
The Company also invests in private equity limited partnerships, hedge funds and
real estate partnerships. Also included in other investments are non-public
common and preferred equities and derivatives. These asset classes have
historically provided a higher return than fixed maturities but are subject to
more volatility. At December 31, 2019 and 2018, the carrying value of the
Company's other investments was $3.42 billion and $3.56 billion , respectively.
The Company has unfunded commitments to private equity limited partnerships and
real estate partnerships in which it invests. These commitments totaled $1.66
billion and $1.60 billion at December 31, 2019 and 2018, respectively. It is the
opinion of the Company's management that the Company has adequate liquidity to
meet these commitments.
Securities Lending
The Company has, from time to time, engaged in securities lending activities
from which it generates net investment income by lending certain of its
investments to other institutions for short periods of time. At December 31,
2019 and 2018, the Company had $404 million and $367 million of securities on
loan, respectively, as part of a tri-party lending agreement. The average
monthly balance of securities on loan during 2019 and 2018 was $368 million and
$319 million , respectively. Borrowers of these securities provide collateral
equal to at least 102% of the market value of the loaned securities plus accrued
interest. The Company did not incur any investment losses in its securities
lending program for the years ended December 31, 2019 and 2018.
Lloyd's Trust Deposits
The Company meets its capital requirements to support its underwriting at
Lloyd's using a combination of the share capital and retained earnings of the
Company's subsidiaries participating in Lloyd's , trust deposits and
uncollateralized letters of credit. Securities with a fair value of
approximately $173 million and $115 million held by a wholly-owned subsidiary at
December 31, 2019 and 2018, respectively, and $34 million and $33 million held
by TRV at December 31, 2019 and 2018, respectively, were pledged into Lloyd's
trust accounts to provide a portion of the Lloyd's capital requirements. For
more information regarding the Company's utilization of uncollateralized letters
of credit, see "Liquidity and Capital Resources" herein.
Net Unrealized Investment Gains (Losses)
The net unrealized investment gains (losses) that were included in shareholders'
equity were as follows:
(at December 31, in millions) 2019 2018 2017
Fixed maturities $ 2,853 $ (137 ) $ 1,378
Equity securities - - 13
Other investments - - 23
Unrealized investment gains (losses) before
tax 2,853 (137 ) 1,414
Tax expense (benefit) 607 (24 ) 460
Net unrealized investment gains (losses)
included in accumulated other comprehensive
income at year end 2,246 (113 ) 954
Tax effect of TCJA - - 158
Net unrealized investment gains (losses) included in shareholders' equity at end of year$ 2,246 $ (113
)
The Company reported net unrealized investment gains included in shareholders' equity atDecember 31, 2019 as compared to net unrealized losses atDecember 31, 2018 . This change is due to a decline in interest rates during 2019. Equity securities, which 85 -------------------------------------------------------------------------------- include public common and non-redeemable preferred stocks, are reported at fair value with changes in fair value recognized in net income. Prior toJanuary 1, 2018 , equity securities were classified as available for sale, and changes in their fair value were charged or credited directly to other comprehensive income. AtDecember 31, 2019 , the Company had no fixed maturity investments reported at fair value for which fair value was less than 80% of amortized cost. For fixed maturity investments where fair value is less than the carrying value and the Company did not reach a decision to impair, the Company continues to have the intent and ability to hold such investments to a projected recovery in value, which may not be until maturity. AtDecember 31, 2019 and 2018, below investment grade securities comprised 2.1% and 2.3%, respectively, of the fair value of the Company's fixed maturity investment portfolio. Included in below investment grade securities atDecember 31, 2019 were securities in an unrealized loss position that, in the aggregate, had an amortized cost of$152 million and a fair value of$146 million , resulting in a net pre-tax unrealized investment loss of$6 million . These securities in an unrealized loss position represented less than 1% of both the amortized cost and fair value of the fixed maturity portfolio atDecember 31, 2019 and accounted for approximately 21% of the total gross pre-tax unrealized investment loss in the fixed maturity portfolio atDecember 31, 2019 . Impairment Charges Impairment charges included in net realized investment gains in the consolidated statement of income were$4 million and$1 million for the years endedDecember 31, 2019 and 2018, respectively. See note 3 of notes to the consolidated financial statements for further information. Purchases and Sales ofInvestment Securities Purchases and sales of investments are based on cash requirements, the characteristics of the insurance liabilities and current market conditions. The Company identifies investments to be sold to achieve its primary investment goals of assuring the Company's ability to meet policyholder obligations as well as to optimize investment returns, given these obligations. During the year endedDecember 31, 2019 , the Company incurred pre-tax realized losses of$8 million on the sale of fixed maturity investments having a fair value of$317 million . CATASTROPHE MODELING The Company uses various analyses and methods, including proprietary and third-party computer modeling processes, to make underwriting and reinsurance decisions designed to manage its exposure to catastrophic events. There are no industry-standard methodologies or assumptions for projecting catastrophe exposure. Accordingly, catastrophe estimates provided by different insurers may not be comparable. The Company actively monitors and evaluates changes in third-party models and, when necessary, calibrates the catastrophe risk model estimates delivered via its own proprietary modeling processes. The Company considers historical loss experience, recent events, underwriting practices, market share analyses, external scientific analysis and various other factors, including non-modeled losses, to refine its proprietary view of catastrophe risk. These proprietary models are updated regularly as new information and techniques emerge. The tables below set forth the probabilities that estimated losses, comprising claims and allocated claim adjustment expenses (but excluding unallocated claim adjustment expenses), from a single event occurring in a one-year timeframe will equal or exceed the indicated loss amounts (expressed in dollars, net of tax, and as a percentage of the Company's common equity), based on the proprietary and third-party computer models utilized by the Company atDecember 31, 2019 . For example, on the basis described below the tables, the Company estimates that there is a one percent chance that the Company's loss from a singleU.S. and Canadian hurricane in a one-year timeframe would equal or exceed$1.6 billion , or 7% of the Company's common equity atDecember 31, 2019 . 86 -------------------------------------------------------------------------------- Dollars (in billions) Single U.S. and Single U.S. and Canadian Canadian Likelihood of Exceedance (1) Hurricane Earthquake 2.0% (1-in-50)$ 1.3 $ 0.5 1.0% (1-in-100)$ 1.6 $ 0.7 0.4% (1-in-250)$ 2.2 $ 1.2 0.1% (1-in-1,000)$ 4.9 $ 1.9 Percentage of Common Equity (2) Single U.S. and Single U.S. and Canadian Canadian Likelihood of Exceedance Hurricane Earthquake 2.0% (1-in-50) 5 % 2 % 1.0% (1-in-100) 7 % 3 % 0.4% (1-in-250) 9 % 5 % 0.1% (1-in-1,000) 21 % 8 %
___________________________________________
(1) An event that has, for example, a 2% likelihood of exceedance is sometimes
described as a "1-in-50 year event." As noted above, however, the
probabilities in the table represent the likelihood of losses from a
single event equaling or exceeding the indicated threshold loss amount in
a one-year timeframe, not over a multi-year timeframe. Also, because the
probabilities relate to a single event, the probabilities do not address
the likelihood of more than one event occurring in a particular period,
and, therefore, the amounts do not address potential aggregate catastrophe
losses occurring in a one-year timeframe.
(2) The percentage of common equity is calculated by dividing (a) indicated
loss amounts in dollars by (b) total common equity excluding net
unrealized investment gains and losses, net of taxes, included in
shareholders' equity. Net unrealized investment gains and losses can besignificantly impacted by both discretionary and other economic factors
and are not necessarily indicative of operating trends. Accordingly, the
Company's management uses the percentage of common equity calculated on
this basis as a metric to evaluate the potential impact of a single
hurricane or single earthquake on the Company's financial position for
purposes of making underwriting and reinsurance decisions.
The threshold loss amounts in the tables above, which are based on the Company's
in-force portfolio at December 31, 2019 and catastrophe reinsurance program at
January 1, 2020 , are net of reinsurance, after-tax and exclude unallocated claim
adjustment expenses, which historically have been less than 10% of loss
estimates. For further information regarding the Company's reinsurance, see
"Item 1-Business-Reinsurance." The amounts for hurricanes reflect U.S. and
Canadian exposures and include property exposures, property residual market
exposures and an adjustment for certain non-property exposures. The hurricane
loss amounts are based on the Company's catastrophe risk model estimates and
include losses from the hurricane hazards of wind and storm surge. The amounts
for earthquakes reflect U.S. and Canadian property and workers' compensation
exposures. The Company does not believe that the inclusion of hurricane or
earthquake losses arising from other geographical areas or other exposures would
materially change the estimated threshold loss amounts.
Catastrophe modeling relies upon inputs based on experience, science,
engineering and history. These inputs reflect a significant amount of judgment
and are subject to changes which may result in volatility in the modeled output.
Catastrophe modeling output may also fail to account for risks that are outside
the range of normal probability or are otherwise unforeseeable. Catastrophe
modeling assumptions include, among others, the portion of purchased reinsurance
that is collectible after a catastrophic event, which may prove to be materially
incorrect. Consequently, catastrophe modeling estimates are subject to
significant uncertainty. In the tables above, the uncertainty associated with
the estimated threshold loss amounts increases significantly as the likelihood
of exceedance decreases. In other words, in the case of a relatively more
remote event (e.g., 1-in-1,000), the estimated threshold loss amount is
relatively less reliable. Actual losses from an event could materially exceed
the indicated threshold loss amount. In addition, more than one such event could
occur in any period.
Moreover, the Company is exposed to the risk of material losses from other than
property and workers' compensation coverages arising out of hurricanes and
earthquakes, and it is exposed to catastrophe losses from perils other than
hurricanes and earthquakes, such as tornadoes and other windstorms, hail,
wildfires, severe winter weather, floods, tsunamis, volcanic eruptions, solar
flares and other naturally-occurring events, as well as acts of terrorism and
cyber events.
87-------------------------------------------------------------------------------- For more information about the Company's exposure to catastrophe losses, see "Item 1A-Risk Factors-High levels of catastrophe losses, including as a result of factors such as increased concentrations of insured exposures in catastrophe-prone areas, could materially and adversely affect our results of operations, our financial position and/or liquidity, and could adversely impact our ratings, our ability to raise capital and the availability and cost of reinsurance" and "Item 1A-Risk Factors- We may be adversely affected if our pricing and capital models provide materially different indications than actual results." CHANGING CLIMATE CONDITIONS Severe weather events over the last two decades have underscored the unpredictability of future climate trends and created uncertainty regarding insurers' exposures to financial loss as a result of catastrophes and other weather-related events. The insurance industry experienced increased catastrophe losses due to a number of potential causal factors, including, in addition to weather/climate variability, more people living in high-risk areas, population growth in areas with weaker enforcement of building codes, urban expansion and an increase in the average size of a house. For example, hurricane and storm surge activity have impacted areas further inland than previously experienced, and demographic changes have resulted in larger populations in coastal areas which historically have been subject to severe storms, thus expanding the Company's potential for losses from hurricanes. Additionally, both the frequency and severity of tornado and hail storms inthe United States have been more volatile during the last decade. The frequency and severity of wildfire losses have been elevated in more recent years, due in part to record droughts inCalifornia that some climate studies suggest are likely to increase over time. Demographic changes in areas prone to wildfires have expanded the Company's potential for losses from wildfires. Moreover, the Company's catastrophe models may be less reliable due to the increased unpredictability in frequency and severity of severe weather events, emerging trends in climate conditions, inadequate reflection of regulatory changes and the other factors mentioned above. Accordingly, the Company may be subject to increased losses from catastrophes and other weather-related events.
The Company discusses how changing climate conditions may present other issues for its business under "Item 1A - Risk Factors" and "Outlook." For example, among other things:
• Increasingly unpredictable and severe weather conditions could result in
increased frequency and severity of claims under policies issued by the
Company. See "Item 1A-Risk Factors-High levels of catastrophe losses,
including as a result of factors such as increased concentrations of
insured exposures in catastrophe-prone areas, could materially and
adversely affect our results of operations, our financial position and/or
liquidity, and could adversely impact our ratings, our ability to raise
capital and the availability and cost of reinsurance" and
"-Outlook-Underwriting Gain/Loss."
• Changing climate conditions could also impact the creditworthiness ofissuers of securities in which the Company invests. For example, water
supply adequacy could impact the creditworthiness of bond issuers with
significant assets or business activities in the Southwestern United
States, and more frequent and/or severe hurricanes could impact the
creditworthiness of issuers with significant assets or business activities
in the
Factors-Our investment portfolio is subject to credit and interest rate
risk, and may suffer reduced or low returns or material realized or
unrealized losses."
• Increased regulation adopted in response to potential changes in climate
conditions may impact the Company and its customers, including state
insurance regulations that could impact the Company's ability to manage
property exposures in areas vulnerable to significant climate driven
losses. For example, a state recently passed legislation that restricts a
carrier's ability to cancel or non-renew policies within or adjacent to
declared state emergency zip codes. If the Company is unable to implement
risk-based pricing, modify policy terms or reduce exposures to the extent
necessary to address rising losses related to catastrophes and smaller
scale weather events (should those increased losses occur), its business
may be adversely affected. See "Item 1A-Risk Factors-High levels of
catastrophe losses, including as a result of factors such as increased
concentrations of insured exposures in catastrophe-prone areas, could
materially and adversely affect our results of operations, our financial
position and/or liquidity, and could adversely impact our ratings, our
ability to raise capital and the availability and cost of reinsurance." In
addition, climate change regulation could increase the Company's
customers' costs of doing business. For example, insureds faced with
carbon management regulatory requirements may have less available capital
for investment in loss prevention and safety features which may, over
time, increase loss exposures. Increased regulation may also result inreduced economic activity, which would decrease the amount of insurable
assets and businesses.
• The full range of potential liability exposures related to changing
climate conditions continues to evolve. For example, from time to time
third parties sue our policyholders alleging that they caused or
contributed to changing climate conditions. Through the Company's Emerging
Issues Committee and its
the Company works with its business units and corporate groups, as
appropriate, to identify and try to assess climate change-related
liability issues, which are continually evolving and often hard to fully
evaluate. The Company regularly reviews
88-------------------------------------------------------------------------------- emerging issues, including changing climate conditions, to consider potential changes to its modeling and the use of such modeling, as well as to help determine the need for new underwriting strategies, coverage modifications or new products. See "Item 1A-Risk Factors-The effects of emerging claim and coverage issues on our business are uncertain, and court decisions or legislative changes that take place after we issue our policies can result in an unexpected increase in the number of claims and have a material adverse impact on our results of operations." REINSURANCE RECOVERABLES The Company reinsures a portion of the risks it underwrites in order to control its exposure to losses. For additional discussion regarding the Company's reinsurance coverage, see "Part I-Item 1-Business-Reinsurance." The following table summarizes the composition of the Company's reinsurance recoverables: (atDecember 31 , in millions) 2019
2018
Gross reinsurance recoverables on paid and unpaid claims and claim adjustment expenses
$ 3,476 $ 3,485 Allowance for uncollectible reinsurance (92 ) (110 ) Net reinsurance recoverables 3,384
3,375
Mandatory pools and associations 1,886
2,005
Structured settlements 2,965
2,990
Total reinsurance recoverables$ 8,235
Net reinsurance recoverables atDecember 31, 2019 were comparable to recoverables atDecember 31, 2018 . The following table presents the Company's top five reinsurer groups by reinsurance recoverable atDecember 31, 2019 (in millions). Also included is theA.M. Best rating of the Company's predominant reinsurer from each such reinsurer group atFebruary 13, 2020 : Reinsurance A.M. Best Rating of Group's Predominant Reinsurer Group Recoverable Reinsurer Swiss Re Group $ 457 A+ second highest of 16 ratings Berkshire Hathaway 347 A++ highest of 16 ratings Munich Re Group 289 A+ second highest of 16 ratingsAXA Group 170 A+ second highest of 16 ratings Alleghany Group 141 A+ second highest of 16 ratings AtDecember 31, 2019 , the Company held$823 million of collateral in the form of letters of credit, funds and trust agreements held to fully or partially collateralize certain reinsurance recoverables. Included in total reinsurance recoverables are amounts related to structured settlements, which are annuities purchased from various life insurance companies to settle certain personal physical injury claims, of which workers' compensation claims comprise a significant portion. In cases where the Company did not receive a release from the claimant, the amount due from the life insurance company related to the structured settlement is included in the Company's consolidated balance sheet as a reinsurance recoverable and the related claim cost is included in the liability for claims and claim adjustment expense reserves, as the Company retains the contingent liability to the claimant. If it is expected that the life insurance company is not able to pay, the Company would recognize an impairment of the related reinsurance recoverable if, and to the extent, the purchased annuities are not covered by state guaranty associations. In the event that the life insurance company fails to make the required annuity payments, the Company would be required to make such payments. The following table presents the Company's top five groups by structured settlements atDecember 31, 2019 (in millions). Also included is theA.M. Best rating of the Company's predominant insurer from each such insurer group atFebruary 13, 2020 : 89 --------------------------------------------------------------------------------
Structured A.M. Best Rating of Group's Predominant
Group Settlements Insurer
Fidelity & Guaranty Life Group(1) $ 777 A- fourth highest of 16 ratings
Genworth Financial Group (2) 338 B seventh highest of 16 ratings
John Hancock Group 272 A+ second highest of 16 ratings
Brighthouse Financial, Inc. 248 A third highest of 16 ratings
Symetra Financial Corporation 241 A third highest of 16 ratings
___________________________________________
(1) OnFebruary 7, 2020 , Fidelity National Financial, Inc. announced that it had signed a merger agreement to acquire FGL Holdings (Fidelity & Guaranty Life Group ). The transaction is expected to close in the second or third quarter of 2020, and is subject to the approval of FGL Holdings stockholders and federal and state regulators, as well as the satisfaction of other customary closing conditions. (2) OnOctober 23, 2016 , Genworth Financial (Genworth) announced that they
entered into a definitive agreement under which China Oceanwide Holdings
shares of Genworth. China Oceanwide is a privately held, family-owned
international financial holding group headquartered in
acquisition is pending the receipt of required regulatory approvals. On
December 23, 2019 , the parties agreed to extend the closing deadline for
the transaction until March 31, 2020 .
The Company considers the ratings and related outlook assigned to reinsurance
companies and life insurance companies by various independent ratings agencies
in assessing the adequacy of its allowance for uncollectible amounts.
OUTLOOK
The following discussion provides outlook information for certain key drivers of the Company's results of operations and capital position.
Premiums. The Company's earned premiums are a function of net written premium volume. Net written premiums comprise both renewal business and new business and are recognized as earned premium over the life of the underlying policies. When business renews, the amount of net written premiums associated with that business may increase or decrease (renewal premium change) as a result of increases or decreases in rate and/or insured exposures, which the Company considers as a measure of units of exposure (such as the number and value of vehicles or properties insured). Net written premiums from both renewal and new business, and therefore earned premiums, are impacted by competitive market conditions as well as general economic conditions, which, particularly in the case ofBusiness Insurance , affect audit premium adjustments, policy endorsements and mid-term cancellations. Property and casualty insurance market conditions are expected to remain competitive. Net written premiums may also be impacted by the structure of reinsurance programs and related costs, as well as changes in foreign currency exchange rates. Overall, the Company expects retention levels (the amount of expiring premium that renews, before the impact of renewal premium changes) will remain strong by historical standards during 2020. InBusiness Insurance , the Company expects that domestic renewal premium changes for 2020 will remain positive and will be higher than the level attained in 2019. InBond & Specialty Insurance , the Company expects that renewal premium changes with respect to domestic management liability business for 2020 will remain positive and will be higher than the level attained in 2019. InPersonal Insurance , the Company expects that domestic Agency Automobile renewal premium changes for 2020 will remain positive but will be lower than the level attained in 2019. The Company expects that domestic Agency Homeowners and Other renewal premium changes for 2020 will remain positive and will be higher than the level attained in 2019. The need for state regulatory approval for changes to personal and many commercial property and casualty insurance prices, as well as competitive market conditions, may impact the timing and extent of renewal premium changes. Given the relatively smaller amount of premium that the Company generates from outsidethe United States and the transactional nature of some of those markets, particularlyLloyd's , international renewal premium changes during 2020 could be somewhat higher, broadly consistent with or somewhat lower than the levels attained in 2019; however, the Company expects that international renewal premium changes for the first half of 2020 will remain positive and will be higher than the level attained in the same period of 2019. Property and casualty insurance market conditions are expected to remain competitive during 2020 for new business. In each of the Company's business segments, new business generally has less of an impact on underwriting profitability than renewal business, given the volume of new business relative to renewal business. However, in periods of meaningful increases in new business, despite its positive impact on underwriting gains over time, the impact of higher new business levels may negatively impact the combined ratio for a period of time. 90
-------------------------------------------------------------------------------- Economic conditions inthe United States and elsewhere could change due to a variety of factors, including the political and regulatory environment, changes to monetary policy, inflation or deflation (including the impact of rapid changes in wages and/or commodity prices), changes in tariffs or other international trade regulations, fluctuations in interest rates and foreign currency exchange rates, high levels of global debt after an extended period of low interest rates, theUnited Kingdom's withdrawal from theEuropean Union , a shutdown of theU.S. government, the failure by theU.S. government to raise the debt ceiling, changes to theU.S. Federal budget and further potential changes in tax laws or health care legislation inthe United States . The resulting changes in levels of economic activity could positively or negatively impact exposure changes at renewal and the Company's ability to write business at acceptable rates. Additionally, changes in levels of economic activity could positively or negatively impact audit premium adjustments, policy endorsements and mid-term cancellations after policies are written. All of the foregoing, in turn, could positively or negatively impact net written premiums during 2020, and because earned premiums are a function of net written premiums, earned premiums could be impacted on a lagging basis. Underwriting Gain/Loss. The Company's underwriting gain/loss can be significantly impacted by catastrophe losses and net favorable or unfavorable prior year reserve development, as well as underlying underwriting margins. Underlying underwriting margins can be impacted by a number of factors, including variability in non-catastrophe weather, large loss and other loss activity; changes in current period loss estimates resulting from prior period loss development; changes in loss trend; changes in business mix; changes in reinsurance coverages and/or costs; premium adjustments; and variability in expenses and assessments. Catastrophe losses and non-catastrophe weather-related losses are inherently unpredictable from period to period. The Company's results of operations could be adversely impacted if significant catastrophe and/or non-catastrophe weather-related losses were to occur. On average over the last ten years, the Company has experienced approximately 40% of its annual catastrophe losses during the second quarter, primarily arising out of severe wind and hail storms, including tornadoes. Hurricanes, wildfires and winter storms tend to happen at other times of the year and can also have a material impact on the Company's results of operations. Catastrophe losses incurred in a particular quarter in any given year may differ materially from historical experience. In addition, most of the Company's reinsurance programs renew onJanuary 1 orJuly 1 of each year, and, therefore, any changes to the cost or coverage terms of such programs will be effective after such dates. Over the past decade, the Company's results have included significant amounts of net favorable prior year reserve development driven by better than expected loss experience. However, given the inherent uncertainty in estimating claims and claim adjustment expense reserves, loss experience could develop such that the Company recognizes in future periods higher or lower levels of favorable prior year reserve development, no favorable prior year reserve development or, as was the case in 2019, unfavorable prior year reserve development. In addition, the ongoing review of prior year claims and claim adjustment expense reserves, or other changes in current period circumstances, may result in the Company revising current year loss estimates upward or downward in future periods of the current year. It is possible that changes in economic conditions could lead to higher or lower inflation than the Company had anticipated, which could in turn lead to an increase or decrease in the Company's loss costs and the need to strengthen or reduce claims and claim adjustment expense reserves. These impacts of inflation on loss costs and claims and claim adjustment expense reserves could be more pronounced for those lines of business that require a relatively longer period of time to finalize and settle claims for a given accident year and, accordingly, are relatively more inflation sensitive. For a further discussion, see "Part I-Item 1A-Risk Factors-If actual claims exceed our claims and claim adjustment expense reserves, or if changes in the estimated level of claims and claim adjustment expense reserves are necessary, including as a result of, among other things, changes in the legal/tort, regulatory and economic environments in which the Company operates, our financial results could be materially and adversely affected." InBusiness Insurance , the Company expects that for 2020 in the aggregate, the underlying underwriting margin will be higher, and the underlying combined ratio will be lower, than in 2019, assuming the anticipated impacts of earned pricing in excess of loss cost trends and improved results in the Company's international business. The improvements are expected in the second through fourth quarters of the year as a result of the timing impact of higher loss estimates recognized in the same periods of 2019 in the general liability product line for primary and excess coverages and in the commercial automobile product line.
In
InPersonal Insurance , the Company expects that for 2020 in the aggregate, the underlying underwriting margin will be higher, and the underlying combined ratio will be lower, than in 2019. The improvements are expected in the second through fourth quarters of the year assuming lower levels of non-catastrophe weather-related losses. In Agency Automobile, the Company expects 91 -------------------------------------------------------------------------------- that for 2020 in the aggregate, the underlying underwriting margin and the underlying combined ratio will be broadly consistent with 2019. In Agency Homeowners and Other, the Company expects that for 2020 in the aggregate, the underlying underwriting margin will be higher, and the underlying combined ratio will be lower, than in 2019. The improvements are expected in the second through fourth quarters of the year assuming lower levels of non-catastrophe weather-related losses. Investment Portfolio. The Company expects to continue to focus its investment strategy on maintaining a high-quality investment portfolio and a relatively short average effective duration. The weighted average effective duration of fixed maturities and short-term securities was 4.0 (4.3 excluding short-term securities) atDecember 31, 2019 . From time to time, the Company enters into short positions inU.S. Treasury futures contracts to manage the duration of its fixed maturity portfolio. AtDecember 31, 2019 , the Company had no openU.S. Treasury futures contracts. The Company continually evaluates its investment alternatives and mix. Currently, the majority of the Company's investments are comprised of a widely diversified portfolio of high-quality, liquid, taxableU.S. government, tax-exemptU.S. municipal and taxable corporate andU.S. agency mortgage-backed bonds. The Company also invests much smaller amounts in equity securities, real estate, private equity limited partnerships, hedge funds, and real estate partnerships and joint ventures. These investment classes have the potential for higher returns but also the potential for higher degrees of risk, including less stable rates of return and less liquidity. Net investment income is a material contributor to the Company's results of operations. Based on the impact of expected lower reinvestment yields on fixed income investments, partially offset by slightly higher levels of fixed income investments, the Company expects that for 2020, after-tax net investment income from that portfolio will be approximately$5 million to$10 million lower on a quarterly basis as compared to the corresponding quarters of 2019. The impact of future market conditions on net investment income from the Company's non-fixed income investment portfolios for 2020 is hard to predict. If general economic conditions and/or investment market conditions change, the Company could experience an increase or decrease in net investment income and/or significant realized investment gains or losses (including impairments) compared with 2019. The Company had a net pre-tax unrealized investment gain of$2.85 billion ($2.25 billion after-tax) in its fixed maturity investment portfolio atDecember 31, 2019 . While the Company does not attempt to predict future interest rate movements, a rising interest rate environment would reduce the market value of fixed maturity investments and, therefore, reduce shareholders' equity, and a declining interest rate environment would have the opposite effects. The Company's investment portfolio has benefited from certain tax exemptions (primarily those related to interest from municipal bonds) and certain other tax laws, including, but not limited to, those governing dividends-received deductions and tax credits (such as foreign tax credits). Changes in these laws could adversely impact the value of the Company's investment portfolio. See "Changes inU.S. tax laws or in the tax laws of other jurisdictions in which we operate could adversely impact us" included in "Part I-Item 1A-Risk Factors." For further discussion of the Company's investment portfolio, see "Investment Portfolio." For a discussion of the risks to the Company's business during or following a financial market disruption and risks to the Company's investment portfolio, see the risk factors entitled "During or following a period of financial market disruption or an economic downturn, our business could be materially and adversely affected" and "Our investment portfolio is subject to credit and interest rate risk, and may suffer reduced or low returns or material realized or unrealized losses" included in "Part I-Item 1A-Risk Factors." For a discussion of the risks to the Company's investments from foreign currency exchange rate fluctuations, see the risk factor entitled "We are also subject to a number of additional risks associated with our business outsidethe United States " included in "Part I-Item 1A-Risk Factors" and see "Part II-Item 7A-Quantitative and Qualitative Disclosures About Market Risk-Foreign Currency Exchange Rate Risk." Capital Position. The Company believes it has a strong capital position and, as part of its ongoing efforts to create shareholder value, expects to continue to return capital not needed to support its business operations to its shareholders. The Company expects that, generally over time, the combination of dividends to common shareholders and common share repurchases will likely not exceed net income. The Company also expects that to the extent that it continues to grow premium volumes, the amount of capital returned to shareholders relative to earnings would be somewhat less than it otherwise would have been in the absence of such growth. The timing and actual number of shares to be repurchased in the future will depend on a variety of factors, including the Company's financial position, earnings, share price, catastrophe losses, maintaining capital levels commensurate with the Company's desired ratings from independent rating agencies, changes in levels of written premiums, funding of the Company's qualified pension plan, capital requirements of the Company's operating subsidiaries, legal requirements, regulatory constraints, other investment opportunities (including mergers and acquisitions and related financings), market conditions and other factors. For information regarding the Company's common share repurchases in 2019, see "Liquidity and Capital Resources." As a result of the Company's business outside ofthe United States , primarily inCanada , theUnited Kingdom (includingLloyd's ), theRepublic of Ireland and inBrazil through a joint venture, the Company's capital is also subject to the effects of changes in foreign currency exchange rates. For example, strengthening of theU.S. dollar in comparison to other currencies could result in 92 -------------------------------------------------------------------------------- a reduction of shareholders' equity. For additional discussion of the Company's foreign exchange market risk exposure, see "Part II-Item 7A-Quantitative and Qualitative Disclosures About Market Risk." Many of the statements in this "Outlook" section are forward-looking statements, which are subject to risks and uncertainties that are often difficult to predict and beyond the Company's control. Actual results could differ materially from those expressed or implied by such forward-looking statements. Further, such forward-looking statements speak only as of the date of this report and the Company undertakes no obligation to update them. See "-Forward Looking Statements." For a discussion of potential risks and uncertainties that could impact the Company's results of operations or financial position, see "Part I-Item 1A-Risk Factors" and "Critical Accounting Estimates." LIQUIDITY AND CAPITAL RESOURCES Liquidity is a measure of a company's ability to generate sufficient cash flows to meet the cash requirements of its business operations and to satisfy general corporate purposes when needed. Operating Company Liquidity. The liquidity requirements of the Company's insurance subsidiaries are met primarily by funds generated from premiums, fees, income received on investments and investment maturities. Cash provided from these sources is used primarily for claims and claim adjustment expense payments and operating expenses. The insurance subsidiaries' liquidity requirements can be impacted by, among other factors, the timing and amount of catastrophe claims, which are inherently unpredictable, as well as the timing and amount of reinsurance recoveries, which may be affected by reinsurer solvency and reinsurance coverage disputes. Additionally, the variability of asbestos-related claim payments, as well as the volatility of potential judgments and settlements arising out of litigation, may also result in increased liquidity requirements. It is the opinion of the Company's management that the insurance subsidiaries' future liquidity needs will be adequately met from all of the sources described above. Subject to restrictions imposed by states in which the Company's insurance subsidiaries are domiciled, the Company's principal insurance subsidiaries pay dividends to their respective parent companies, which, in turn, pay dividends to the corporate holding (parent) company (TRV). For further information regarding restrictions on dividends paid by the Company's insurance subsidiaries, see "Part I-Item 1-Business-Regulation." Holding Company Liquidity. TRV's liquidity requirements primarily include shareholder dividends, debt servicing, common share repurchases and, from time to time, contributions to its qualified domestic pension plan. AtDecember 31, 2019 , TRV held total cash and short-term invested assets inthe United States aggregating$1.43 billion and having a weighted average maturity of 53 days. TRV has established a holding company liquidity target equal to its estimated annual pre-tax interest expense and common shareholder dividends (currently approximately$1.20 billion ). TRV's holding company liquidity of$1.43 billion atDecember 31, 2019 exceeded this target, and it is the opinion of the Company's management that these assets are sufficient to meet TRV's current liquidity requirements. TRV is not dependent on dividends or other forms of repatriation from its foreign operations to support its liquidity needs. The undistributed earnings of the Company's foreign operations are intended to be permanently reinvested in those operations, and such earnings were not material to the Company's financial position or liquidity atDecember 31, 2019 . TRV has a shelf registration statement filed with theSecurities and Exchange Commission that expires onJune 10, 2022 which permits it to issue securities from time to time. TRV also has a$1.0 billion line of credit facility with a syndicate of financial institutions that expires onJune 4, 2023 . AtDecember 31, 2019 , the Company had$100 million of commercial paper outstanding. TRV is not reliant on its commercial paper program to meet its operating cash flow needs. The Company utilized uncollateralized letters of credit issued by major banks with an aggregate limit of approximately$317 million to provide a portion of the capital needed to support its obligations atLloyd's atDecember 31, 2019 . If uncollateralized letters of credit are not available at a reasonable price or at all in the future, the Company can collateralize these letters of credit or may have to seek alternative means of supporting its obligations atLloyd's , which could include utilizing holding company funds on hand. Operating Activities Net cash flows provided by operating activities were$5.21 billion and$4.38 billion in 2019 and 2018, respectively. The increase in cash flows in 2019 primarily reflected higher levels of cash received for (i) premiums and (ii) net investment income, and (iii) a lower level of payments for general and administrative expenses, partially offset by the impacts of higher levels of payments for (iv) claims and claim adjustment expenses and (v) commission expenses. The higher level of payments for claims and claim adjustment expenses in 2019 included the impact of increased business volumes, partially offset by a lower level of payments related to catastrophe losses. The lower level of payments for general and administrative expenses reflected no voluntary 93 -------------------------------------------------------------------------------- contribution to the Company's qualified domestic pension plan in 2019, compared to a voluntary contribution of$200 million in 2018. The qualified domestic pension plan was 108% and 109% funded atDecember 31, 2019 and 2018, respectively. Investing Activities Net cash used in investing activities was$2.90 billion and$2.33 billion in 2019 and 2018 , respectively. The Company's consolidated total investments atDecember 31, 2019 increased by$5.61 billion , or 8% overDecember 31, 2018 , primarily reflecting the impacts of (i) net unrealized gains on investments atDecember 31, 2019 as compared with net unrealized losses on investments atDecember 31, 2018 due to a decline in interest rates during 2019 and (ii) net cash flows provided by operating activities, partially offset by (iii) common share repurchases and (iv) dividends paid to shareholders. The Company's investment portfolio is managed to support its insurance operations; accordingly, the portfolio is positioned to meet obligations to policyholders. As such, the primary goals of the Company's asset-liability management process are to satisfy the insurance liabilities and maintain sufficient liquidity to cover fluctuations in projected liability cash flows. Generally, the expected principal and interest payments produced by the Company's fixed maturity portfolio adequately fund the estimated runoff of the Company's insurance reserves. Although this is not an exact cash flow match in each period, the substantial amount by which the market value of the fixed maturity portfolio exceeds the value of the net insurance liabilities, as well as the positive cash flow from newly sold policies and the large amount of high quality liquid bonds, contributes to the Company's ability to fund claim payments without having to sell illiquid assets or access credit facilities. Financing Activities Net cash flows used in financing activities were$2.19 billion and$2.01 billion in 2019 and 2018, respectively. The totals in both years primarily reflected common share repurchases, dividends paid to shareholders and the payment of debt, partially offset by the issuance of debt and proceeds from employee stock option exercises. Common share repurchases in 2019 and 2018 were$1.55 billion and$1.32 billion , respectively. Debt Transactions. 2019. OnMarch 4, 2019 , the Company issued$500 million aggregate principal amount of 4.10% senior notes that will mature onMarch 4, 2049 . The net proceeds of the issuance, after the deduction of the underwriting discount and expenses payable by the Company, totaled approximately$492 million . Interest on the senior notes is payable semi-annually in arrears onMarch 4 andSeptember 4 . Prior toSeptember 4, 2048 , the senior notes may be redeemed, in whole or in part, at the Company's option, at any time or from time to time, at a redemption price equal to the greater of (a) 100% of the principal amount of any senior notes to be redeemed or (b) the sum of the present values of the remaining scheduled payments of principal and interest to but excludingSeptember 4, 2048 on any senior notes to be redeemed (exclusive of interest accrued to the date of redemption) discounted to the date of redemption on a semi-annual basis (assuming a 360-day year consisting of twelve 30-day months) at the then currentTreasury rate (as defined in the senior notes), plus 20 basis points. On or afterSeptember 4, 2048 , the senior notes may be redeemed, in whole or in part, at the Company's option, at any time or from time to time, at a redemption price equal to 100% of the principal amount of any senior notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date. OnJune 2, 2019 , the Company's$500 million , 5.90% senior notes matured and were fully paid. 2018. OnMarch 7, 2018 , the Company issued$500 million aggregate principal amount of 4.05% senior notes that will mature onMarch 7, 2048 . The net proceeds of the issuance, after the deduction of the underwriting discount and expenses payable by the Company, totaled approximately$491 million . Interest on the senior notes is payable semi-annually in arrears onMarch 7 andSeptember 7 . Prior toSeptember 7, 2047 , the senior notes may be redeemed, in whole or in part, at the Company's option, at any time or from time to time, at a redemption price equal to the greater of (a) 100% of the principal amount of any senior notes to be redeemed or (b) the sum of the present values of the remaining scheduled payments of principal and interest to but excludingSeptember 7, 2047 on any senior notes to be redeemed (exclusive of interest accrued to the date of redemption) discounted to the date of redemption on a semi-annual basis (assuming a 360-day year consisting of twelve 30-day months) at the then currentTreasury rate (as defined in the senior notes), plus 15 basis points. On or afterSeptember 7, 2047 , the senior notes may be redeemed, in whole or in part, at the Company's option, at any time or from time to time, at a redemption price equal to 100% of the principal amount of any senior notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date. OnMay 15, 2018 , the Company's$500 million , 5.80% senior notes matured and were fully paid. Dividends. Dividends paid to shareholders were$844 million and$814 million in 2019 and 2018 , respectively. The declaration and payment of future dividends to holders of the Company's common stock will be at the discretion of the Company's Board of 94 -------------------------------------------------------------------------------- Directors and will depend upon many factors, including the Company's financial position, earnings, capital requirements of the Company's operating subsidiaries, legal requirements, regulatory constraints and other factors as the Board of Directors deems relevant. Dividends will be paid by the Company only if declared by its Board of Directors out of funds legally available, subject to any other restrictions that may be applicable to the Company. OnJanuary 23, 2020 , the Company announced that its Board of Directors declared a regular quarterly dividend of$0.82 per share, payableMarch 31, 2020 to shareholders of record onMarch 10, 2020 . Share Repurchases. The Company's Board of Directors has approved common share repurchase authorizations under which repurchases may be made from time to time in the open market, pursuant to pre-set trading plans meeting the requirements of Rule 10b5-1 under the Securities Exchange Act of 1934, in private transactions or otherwise. The authorizations do not have a stated expiration date. The most recent authorization was approved by the Board of Directors inApril 2017 and added$5.0 billion of repurchase capacity to the$709 million capacity remaining at that date. The Company expects that, generally over time, the combination of dividends to common shareholders and common share repurchases will likely not exceed net income. The Company also expects that to the extent that it continues to grow premium volumes, the amount of capital returned to shareholders relative to earnings would be somewhat less than it otherwise would have been. The timing and actual number of shares to be repurchased in the future will depend on a variety of factors, including the Company's financial position, earnings, share price, catastrophe losses, maintaining capital levels commensurate with the Company's desired ratings from independent rating agencies, changes in levels of written premiums, funding of the Company's qualified pension plan, capital requirements of the Company's operating subsidiaries, legal requirements, regulatory constraints, other investment opportunities (including mergers and acquisitions and related financings), market conditions and other factors. The following table summarizes repurchase activity in 2019 and the remaining repurchase capacity atDecember 31, 2019 : (in millions, except per Number of Remaining capacity share amounts) shares Cost of shares Average price paid under share repurchase Quarterly Period Ending repurchased repurchased per share authorization March 31, 2019 2.9 $ 375 $ 129.42 $ 2,911 June 30, 2019 2.6 375 $ 145.87 $ 2,536 September 30, 2019 2.5 375 $ 147.23 $ 2,161 December 31, 2019 2.8 375 $ 134.33 $ 1,786 Total 10.8 $ 1,500 $ 138.80 $ 1,786 From the inception of the first authorization onMay 2, 2006 throughDecember 31, 2019 , the Company has repurchased a cumulative total of 508.1 million shares for a total cost of$34.21 billion , or an average of$67.34 per share. In both 2019 and 2018, the Company acquired 0.4 million shares of common stock from employees as treasury stock primarily to cover payroll withholding taxes in connection with the vesting of restricted stock unit awards and performance share awards, and shares used by employees to cover the price of certain stock options that were exercised. Capital Resources Capital resources reflect the overall financial strength of the Company and its ability to borrow funds at competitive rates and raise new capital to meet its needs. The following table summarizes the components of the Company's capital structure atDecember 31, 2019 and 2018: 95 --------------------------------------------------------------------------------
(at December 31, in millions) 2019 2018 Debt: Short-term$ 600 $ 600 Long-term 6,004 6,004
Net unamortized fair value adjustments and debt issuance costs (46 ) (40 ) Total debt
6,558 6,564
Shareholders' equity: Common stock and retained earnings, less treasury stock 25,303
24,753
Accumulated other comprehensive income (loss) 640 (1,859 ) Total shareholders' equity 25,943 22,894 Total capitalization$ 32,501 $ 29,458 Total capitalization atDecember 31, 2019 was$32.50 billion ,$3.04 billion higher than atDecember 31, 2018 , primarily reflecting the impacts of (i) accumulated other comprehensive income of$640 million atDecember 31, 2019 as compared with an accumulated other comprehensive loss of$1.86 billion atDecember 31, 2018 , primarily reflecting the change in unrealized appreciation on investments due to a decline in interest rates during 2019, (ii) net income of$2.62 billion and (iii) proceeds from the exercise of employee share options of$213 million , partially offset by (iv) common share repurchases totaling$1.50 billion under the Company's share repurchase authorization and (v) shareholder dividends of$848 million . The following table provides a reconciliation of total capitalization presented in the foregoing table to total capitalization excluding net unrealized gains (losses) on investments, net of taxes, included in shareholders' equity: (at December 31, dollars in millions) 2019
2018
Total capitalization$ 32,501
2,246 (113 ) Total capitalization excluding net unrealized gains (losses) on investments, net of taxes, included in shareholders' equity
$ 30,255 $ 29,571 Debt-to-total capital ratio 20.2 %
22.3 % Debt-to-total capital ratio excluding net unrealized gains (losses) on investments, net of taxes, included in shareholders' equity
21.7 % 22.2 %
The debt-to-total capital ratio excluding net unrealized gains (losses) on investments, net of taxes, included in shareholders' equity, is calculated by dividing (a) debt by (b) total capitalization excluding net unrealized gains and losses on investments, net of taxes, included in shareholders' equity. Net unrealized gains and losses on investments can be significantly impacted by both interest rate movements and other economic factors. Accordingly, in the opinion of the Company's management, the debt-to-total capital ratio calculated on this basis provides another useful metric for investors to understand the Company's financial leverage position. The Company's ratio of debt-to-total capital excluding after-tax net unrealized investment gains included in shareholders' equity of 21.7% atDecember 31, 2019 was within the Company's target range of 15% to 25%. Credit Agreement. The Company is a party to a five-year,$1.0 billion revolving credit agreement with a syndicate of financial institutions that expires onJune 4, 2023 . Terms of the credit agreement are discussed in more detail in note 8 of notes to the consolidated financial statements. Shelf Registration. The Company has filed a universal shelf registration statement with theSecurities and Exchange Commission that expires onJune 10, 2022 for the potential offering and sale of securities. The Company may offer these securities from time to time at prices and on other terms to be determined at the time of offering. Share Repurchase Authorization. AtDecember 31, 2019 , the Company had$1.79 billion of capacity remaining under its share repurchase authorization approved by the Board of Directors. 96 -------------------------------------------------------------------------------- Contractual Obligations The following table summarizes, as ofDecember 31, 2019 , the Company's future payments under contractual obligations and estimated claims and claim-related payments. The table excludes short-term obligations and includes only liabilities atDecember 31, 2019 that are expected to be settled in cash. The table below includes the amount and estimated future timing of claims and claim-related payments. The amounts do not represent the exact liability, but instead represent estimates, generally utilizing actuarial projection techniques, at a given accounting date. These estimates include expectations of what the ultimate settlement and administration of claims will cost based on the Company's assessment of facts and circumstances known, review of historical settlement patterns, estimates of trends in claims severity, frequency, legal theories of liability and other factors. Variables in the reserve estimation process can be affected by both internal and external events, such as changes in claims handling procedures, economic inflation or deflation, legal trends and legislative changes. Many of these items are not directly quantifiable, particularly on a prospective basis. Additionally, there may be significant reporting lags between the occurrence of the policyholder event and the time it is actually reported to the insurer. The future cash flows related to the items contained in the table below required estimation of both amount (including severity considerations) and timing. Amount and timing are frequently estimated separately. An estimation of both amount and timing of future cash flows related to claims and claim-related payments has unavoidable estimation uncertainty. The contractual obligations atDecember 31, 2019 were as follows: Payments Due by Period Less than 1-3 3-5 After 5 (in millions) Total 1 Year Years Years Years Debt Senior notes$ 6,250 $ 500 $ - $ -$ 5,750 Junior subordinated debentures 254 - - - 254 Total debt principal 6,504 500 - - 6,004 Interest 6,526 332 625 625 4,944 Total long-term debt obligations (1) 13,030 832 625 625 10,948 Real estate and other operating leases (2) 441 120 175 89 57 Purchase obligations Information systems administration and maintenance commitments (3) 165 92 68 5 - Other purchase commitments (4) 231 77 95 46 13 Total purchase obligations 396 169 163 51 13 Long-term unfunded investment commitments (5) 1,666 359 522 553 232 Estimated claims and claim-related payments Claims and claim adjustment expenses (6) 50,039 11,256 12,551 5,854 20,378 Claims from large deductible policies (7) - - - - - Loss-based assessments (8) 124 23 35 14 52 Reinsurance contracts accounted for as deposits (9) 1 - 1 - - Payout from ceded funds withheld (10) 67 8 12 14 33 Total estimated claims and claim-related payments 50,231 11,287 12,599 5,882 20,463 Liabilities related to unrecognized tax benefits (11) 50 - 46 4 - Total$ 65,814 $ 12,767 $ 14,130 $ 7,204 $ 31,713
___________________________________________
(1) See note 8 of notes to the consolidated financial statements for a further
discussion of outstanding indebtedness. Because the amounts reported in
the foregoing table include principal and interest, the total long-term
debt obligations will not agree with the amounts reported in note 8.
(2) Represents agreements entered into in the ordinary course of business to
lease office space, equipment and furniture.
(3) Includes agreements with vendors to purchase system software
administration and maintenance services.
97--------------------------------------------------------------------------------
(4) Includes commitments to vendors entered into in the ordinary course of
business for goods and services including property, plant and equipment,
office supplies, archival services, etc.
(5) Represents estimated timing for fulfilling unfunded commitments for
private equity limited partnerships and real estate partnerships, as well
as a put/call option entered into by the Company in connection with a
business acquisition.
(6) The amounts in "Claims and claim adjustment expenses" in the table above
represent the estimated timing of future payments for both reported and
unreported claims incurred and related claim adjustment expenses, gross of
reinsurance recoverables, excluding structured settlements expected to be
paid by annuity companies.
The Company has entered into reinsurance agreements to manage its exposure to losses and protect its capital as described in note 5 of notes to the consolidated financial statements. In order to qualify for reinsurance accounting, a reinsurance agreement must indemnify the insurer from insurance risk, i.e., the agreement must transfer amount and timing risk. Since the timing and amount of cash inflows from such reinsurance agreements are directly related to the underlying payment of claims and claim adjustment expenses by the insurer, reinsurance recoverables are recognized in a manner consistent with the liabilities (the estimated liability for claims and claim adjustment expenses) relating to the underlying reinsured contracts. The presence of any feature that can delay timely reimbursement of claims by a reinsurer results in the reinsurance contract being accounted for as a deposit rather than reinsurance. The assumptions used in estimating the amount and timing of the reinsurance recoverables are consistent with those used in estimating the amount and timing of the related liabilities.
The estimated future cash inflows from the Company's reinsurance contracts that qualify for reinsurance accounting are as follows:
Less than 1 1-3 3-5 After 5
(in millions) Total Year Years Years Years
Reinsurance recoverables $ 5,150 $ 890 $ 948 $ 528 $ 2,784
The Company manages its business and evaluates its liabilities for claims and
claim adjustment expenses on a net of reinsurance basis. The estimated cash
flows on a net of reinsurance basis are as follows:
Less than 1 1-3 3-5 After 5
(in millions) Total Year Years Years Years
Claims and claim
adjustment expenses, net $ 44,889 $ 10,366 $ 11,603 $ 5,326 $ 17,594
For business underwritten by non-U.S. operations, future cash flows related to
reported and unreported claims incurred and related claim adjustment expenses
were translated at the spot rate on December 31, 2019 .
The amounts reported in the table above and in the table of reinsurance
recoverables above are presented on a nominal basis and have not been adjusted
to reflect the time value of money. Accordingly, the amounts above will differ
from the Company's balance sheet to the extent that the liability for claims and
claim adjustment expenses and the related reinsurance recoverables have been
discounted in the balance sheet. See note 1 of notes to the consolidated
financial statements.
(7) Workers' compensation large deductible policies provide third-party
coverage in which the Company typically is responsible for paying the
entire loss under such policies and then seeks reimbursement from theinsured for the deductible amount. "Claims from large deductible policies"
represent the estimated future payment for claims and claim related
expenses below the deductible amount, net of the estimated recovery of the
deductible. The liability and the related deductible receivable for unpaid
claims are presented in the consolidated balance sheet as "contractholder
payables" and "contractholder receivables," respectively. Most deductibles
for such policies are paid directly from the policyholder's escrow, which
is periodically replenished by the policyholder. The payment of the loss
amounts above the deductible are reported within "Claims and claim
adjustment expenses" in the above table. Because the timing of thecollection of the deductible (contractholder receivables) occurs shortly
after the payment of the deductible to a claimant (contractholder
payables), these cash flows offset each other in the table.
The estimated timing of the payment of the contractholder payables and the
collection of contractholder receivables for workers' compensation policies is
presented below:
Less than 1 1-3 3-5 After 5
(in millions) Total Year Years Years Years
Contractholder payables/receivables $ 4,619 $ 1,261 $ 1,316 $ 676 $ 1,366
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(8) The amounts in "Loss-based assessments" relate to estimated future
payments of second-injury fund assessments which would result from payment
of current claim liabilities. Second injury funds cover the cost of any
additional benefits for aggravation of a pre-existing condition. For
loss-based assessments, the cost is shared by the insurance industry and
self-insureds, funded through assessments to insurance companies and
self-insureds based on losses. Amounts relating to second-injury fund
assessments are included in "other liabilities" in the consolidated
balance sheet.
(9) The amounts in "Reinsurance contracts accounted for as deposits" represent
estimated future nominal payments for reinsurance agreements that are
accounted for as deposits. Amounts payable under deposit agreements are
included in "other liabilities" in the consolidated balance sheet.
(10) The amounts in "Payout from ceded funds withheld" represent estimated
payments for losses and return of funds held related to certain
reinsurance arrangements whereby the Company holds a portion of the
premium due to the reinsurer and is allowed to pay claims from the amounts
held.
(11) The Company's current liabilities related to unrecognized tax benefits
from uncertain tax positions are
are deferred tax assets of
differences that would exist if these positions become realized.
The above table does not include an analysis of liabilities reported for structured settlements for which the Company has purchased annuities and remains contingently liable in the event of default by the company issuing the annuity. The Company is not reasonably likely to incur material future payment obligations under such agreements. In addition, the Company is not currently subject to any minimum funding requirements for its qualified pension plan. Accordingly, future contributions are not included in the foregoing table. Dividend Availability The Company's principal insurance subsidiaries are domiciled in theState of Connecticut . The insurance holding company laws ofConnecticut applicable to the Company's subsidiaries requires notice to, and approval by, the state insurance commissioner for the declaration or payment of any dividend that, together with other distributions made within the preceding twelve months, exceeds the greater of 10% of the insurer's statutory capital and surplus as of the precedingDecember 31 , or the insurer's net income for the twelve-month period ending the precedingDecember 31 , in each case determined in accordance with statutory accounting practices and by state regulation. This declaration or payment is further limited by adjusted unassigned surplus, as determined in accordance with statutory accounting practices. The insurance holding company laws of other states in which the Company's subsidiaries are domiciled generally contain similar, although in some instances somewhat more restrictive, limitations on the payment of dividends. A maximum of$2.79 billion is available by the end of 2020 for such dividends to the holding company, TRV, without prior approval of theConnecticut Insurance Department . The Company may choose to accelerate the timing within 2020 and/or increase the amount of dividends from its insurance subsidiaries in 2020, which could result in certain dividends being subject to approval by theConnecticut Insurance Department . In addition to the regulatory restrictions on the availability of dividends that can be paid by the Company'sU.S. insurance subsidiaries, the maximum amount of dividends that may be paid to the Company's shareholders is limited, to a lesser degree, by certain covenants contained in its line of credit agreement with a syndicate of financial institutions that require the Company to maintain a minimum consolidated net worth as described in note 8 of notes to the consolidated financial statements. TRV is not dependent on dividends or other forms of repatriation from its foreign operations to support its liquidity needs. The undistributed earnings of the Company's foreign operations are intended to be permanently reinvested in those operations, and such earnings were not material to the Company's financial position or liquidity atDecember 31, 2019 . TRV and its two non-insurance holding company subsidiaries received dividends of$2.50 billion and$2.30 billion from theirU.S. insurance subsidiaries in 2019 and 2018, respectively. Pension and Other Postretirement Benefit PlansThe Company sponsors a qualified non-contributory defined benefit pension plan (the Qualified Plan), which covers substantially allU.S. domestic employees and provides benefits primarily under a cash balance formula. In addition, the Company sponsors a nonqualified defined benefit pension plan which covers certain highly-compensated employees, pension plans for employees of its foreign subsidiaries, and a postretirement health and life insurance benefit plan for employees satisfying certain age and service requirements and for certain retirees. 99 -------------------------------------------------------------------------------- The Qualified Plan is subject to regulations under the Employee Retirement Income Security Act of 1974 as amended (ERISA), which requires plans to meet minimum standards of funding and requires such plans to subscribe to plan termination insurance through thePension Benefit Guaranty Corporation (PBGC). The Company does not have a minimum funding requirement for the Qualified Plan for 2020 and does not anticipate having a minimum funding requirement in 2021. The Company has significant discretion in making contributions above those necessary to satisfy the minimum funding requirements. In 2019, 2018 and 2017, there was no minimum funding requirement for the Qualified Plan. In 2019, the Company made no voluntary contributions to the Qualified Plan. In 2018 and 2017, the Company voluntarily made contributions totaling$200 million and$300 million , respectively, to the Qualified Plan. Based on its funded status atDecember 31, 2019 , the Company does not currently anticipate making a voluntary contribution to the Qualified Plan in 2020. In determining future contributions, the Company will consider the performance of the plan's investment portfolio, the effects of interest rates on the projected benefit obligation of the plan and the Company's other capital requirements. The Qualified Plan assets are managed to maximize long-term total return while maintaining an appropriate level of risk. The Company's overall strategy is to achieve a mix of approximately 85% to 90% of investments for long-term growth and 10% to 15% for near-term benefit payments with a diversification of asset types, fund strategies and fund managers. The current target allocations for plan assets are 55% to 65% equity securities and 20% to 40% fixed income securities, with the remainder allocated to short-term securities. For 2020, the Company plans to apply an expected long-term rate of return on plan assets of 6.75%, compared with 7.00% in 2019. The expected rate of return reflects the Company's current expectations with regard to long-term returns in the capital markets, taking into account the pension plan's asset allocation targets, the historical performance and current valuation ofU.S. and international equities, and the level of long term interest rate and inflation expectations. The decrease in the expected long-term rate of return on plan assets to 6.75% for 2020 primarily reflects the Company's current expectations with regard to long-term interest rates in the future. For further discussion of the pension and other postretirement benefit plans, see note 14 of notes to the consolidated financial statements.Risk-Based Capital The NAIC has an RBC requirement for most property and casualty insurance companies, which determines minimum capital requirements and is intended to raise the level of protection for policyholder obligations. The Company'sU.S. insurance subsidiaries are subject to these NAIC RBC requirements based on laws that have been adopted by individual states. These requirements subject insurers having policyholders' surplus less than that required by the RBC calculation to varying degrees of regulatory action, depending on the level of capital inadequacy. Each of the Company'sU.S. insurance subsidiaries had policyholders' surplus atDecember 31, 2019 significantly above the level at which any RBC regulatory action would occur. Regulators in the jurisdictions in which the Company's foreign insurance subsidiaries are located require insurance companies to maintain certain levels of capital depending on, among other things, the type and amount of insurance policies written. Each of the Company's foreign insurance subsidiaries had capital significantly above their respective regulatory requirements atDecember 31, 2019 . Off-Balance Sheet Arrangements The Company has entered into certain contingent obligations for guarantees related to selling businesses to third parties, certain investments, certain insurance policy obligations of former insurance subsidiaries and various other indemnifications. See note 16 of notes to the consolidated financial statements. The Company does not expect these arrangements will have a material effect on the Company's financial position, changes in financial position, revenues and expenses, results of operations, liquidity, capital expenditures or capital resources. CRITICAL ACCOUNTING ESTIMATES The Company considers its most significant accounting estimates to be those applied to claims and claim adjustment expense reserves and related reinsurance recoverables, investment valuation and impairments, and goodwill and other intangible assets impairments. 100 -------------------------------------------------------------------------------- Claims and Claim Adjustment Expense Reserves Gross claims and claim adjustment expense reserves by product line were as follows: December 31, 2019 December 31, 2018 (in millions) Case IBNR Total Case IBNR Total General liability$ 4,898 $ 7,451 $ 12,349 $ 4,780 $ 7,092 $ 11,872 Commercial property 1,035 312 1,347 1,157 297 1,454 Commercial multi-peril 2,148 2,065 4,213 2,089 1,886 3,975 Commercial automobile 2,533 1,872 4,405 2,339 1,661 4,000 Workers' compensation 10,233 9,279 19,512 10,299 9,216 19,515 Fidelity and surety 261 259 520 280 288 568 Personal automobile 2,019 1,509 3,528 2,038 1,400 3,438 Homeowners and personal-other 838 871 1,709 942 884 1,826
International and other 2,620 1,633 4,253 2,574 1,431 4,005 Property-casualty 26,585 25,251 51,836 26,498 24,155 50,653 Accident and health 13 - 13 15 - 15 Claims and claim adjustment expense reserves$ 26,598 $ 25,251 $ 51,849 $
26,513
The$1.18 billion increase in gross claims and claim adjustment expense reserves sinceDecember 31, 2018 primarily reflected the impacts of higher volumes of insured exposures and loss cost trends for the current accident year. Asbestos and environmental reserves are included in the General liability, Commercial multi-peril and International and other lines in the foregoing summary table. Asbestos and environmental reserves are discussed separately; see "Asbestos Claims and Litigation", "Environmental Claims and Litigation" and "Uncertainty Regarding Adequacy of Asbestos and Environmental Reserves." Claims and claim adjustment expense reserves represent management's estimate of the ultimate liability for unpaid losses and loss adjustment expenses for claims that have been reported and claims that have been incurred but not yet reported (IBNR) as of the balance sheet date. Claims and claim adjustment expense reserves do not represent an exact calculation of liability, but instead represent management estimates, primarily utilizing actuarial expertise and projection methods. These estimates are expectations of what the ultimate settlement and administration of claims will cost upon final resolution in the future, based on the Company's assessment of facts and circumstances then known, review of historical settlement patterns, estimates of trends in claims severity and frequency, expected interpretations of legal theories of liability and other factors. In establishing gross claims and claim adjustment expense reserves, the Company also considers salvage and subrogation. Estimated recoveries from reinsurance are included in "Reinsurance Recoverables" as an asset on the Company's consolidated balance sheet. The claims and claim adjustment expense reserves are reviewed regularly by qualified actuaries employed by the Company. The process of estimating claims and claim adjustment expense reserves involves a high degree of judgment and is subject to a number of variables. These variables can be affected by both internal and external events, such as changes in claims handling procedures, changes in individuals involved in the reserve estimation process, economic inflation, changes in the tort environment, legal trends and legislative changes, among others. The impact of many of these items on ultimate costs for claims and claim adjustment expenses is difficult to estimate. Estimation difficulties also differ significantly by product line due to differences in claim complexity, the volume of claims, the potential severity of individual claims, the determination of occurrence date for a claim and reporting lags (the time between the occurrence of the policyholder event and when it is actually reported to the insurer). Informed judgment is applied throughout the process, including the application of various individual experiences and expertise to multiple sets of data and analyses. The Company continually refines its estimates in a regular ongoing process as historical loss experience develops and additional claims are reported and settled. The Company rigorously attempts to consider all significant facts and circumstances known at the time claims and claim adjustment expense reserves are established. Due to the inherent uncertainty underlying these estimates including, but not limited to, the future settlement environment, final resolution of the estimated liability for claims and claim adjustment expenses may be higher or lower than the related claims and claim adjustment expense reserves at the reporting date. Therefore, actual paid losses, as claims are settled in the future, may be materially different than the amount currently recorded-favorable or unfavorable. 101 --------------------------------------------------------------------------------
Because establishment of claims and claim adjustment expense reserves is an inherently uncertain process involving estimates and the application of judgment, currently established claims and claim adjustment expense reserves may change. The Company reflects adjustments to the reserves in the results of operations in the period the estimates are changed.
There are also additional risks which impact the estimation of ultimate costs for catastrophes. For example, the estimation of reserves related to hurricanes, tornadoes, wildfires and other catastrophic events can be affected by the inability of the Company and its insureds to access portions of the impacted areas, the complexity of factors contributing to the losses, the legal and regulatory uncertainties, including the interpretation of policy terms and conditions, and the nature of the information available to establish the reserves. Complex factors include, but are not limited to: determining whether damage was caused by flooding versus wind; evaluating general liability and pollution exposures; estimating additional living expenses; estimating the impact of demand surge, infrastructure disruption, fraud, the effect of mold damage and business interruption costs; and reinsurance collectibility. The timing of a catastrophe, such as at or near the end of a reporting period, can also affect the information available to the Company in estimating reserves for that reporting period. The estimates related to catastrophes are adjusted as actual claims emerge. A portion of the Company's gross claims and claim adjustment expense reserves (totaling$1.95 billion atDecember 31, 2019 ) are for asbestos and environmental claims and related litigation. While the ongoing review of asbestos and environmental claims and associated liabilities considers the inconsistencies of court decisions as to coverage, plaintiffs' expanded theories of liability and the risks inherent in complex litigation and other uncertainties, in the opinion of the Company's management, it is possible that the outcome of the continued uncertainties regarding these claims could result in liability in future periods that differs from current insurance reserves by an amount that could be material to the Company's future operating results. See the preceding discussion of "Asbestos Claims and Litigation" and "Environmental Claims and Litigation." General Discussion The process for estimating the liabilities for claims and claim adjustment expenses begins with the collection and analysis of claim data. Data on individual reported claims, both current and historical, including paid amounts and individual claim adjuster estimates, are grouped by common characteristics (components) and evaluated by actuaries in their analyses of ultimate claim liabilities. Such data is occasionally supplemented with external data as available and when appropriate. The process of analyzing reserves for a component is undertaken on a regular basis, generally quarterly, in light of continually updated information. Multiple estimation methods are available for the analysis of ultimate claim liabilities. Each estimation method has its own set of assumption variables and its own advantages and disadvantages, with no single estimation method being better than the others in all situations and no one set of assumption variables being meaningful for all product line components. The relative strengths and weaknesses of the particular estimation methods when applied to a particular group of claims can also change over time. Therefore, the actual choice of estimation method(s) can change with each evaluation. The estimation method(s) chosen are those that are believed to produce the most reliable indication at that particular evaluation date for the claim liabilities being evaluated. In most cases, multiple estimation methods will be valid for the particular facts and circumstances of the claim liabilities being evaluated. This will result in a range of reasonable estimates for any particular claim liability. The Company uses such range analyses to back test whether previously established estimates for reserves by reporting segments are reasonable, given available information. Reported values found to be closer to the endpoints of a range of reasonable estimates are subject to further detailed reviews. These reviews may substantiate the validity of management's recorded estimate or lead to a change in the reported estimate. The exact boundary points of these ranges are more qualitative than quantitative in nature, as no clear line of demarcation exists to determine when the set of underlying assumptions for an estimation method switches from being reasonable to unreasonable. As a result, the Company does not believe that the endpoints of these ranges are or would be comparable across companies. In addition, potential interactions among the different estimation assumptions for different product lines make the aggregation of individual ranges a highly judgmental and inexact process. Property-casualty insurance policies are either written on a "claims-made" or on an "occurrence" basis. Claims-made policies generally cover, subject to requirements in individual policies, claims reported during the policy period. Policies that are written on an occurrence basis require that the insured demonstrate that a loss occurred in the policy period, even if the insured reports the loss many years later.
Most general liability policies are written on an occurrence basis. These policies are subject to substantial loss development over time as facts and circumstances change in the years following the policy issuance. The occurrence form, which accounts for much of the reserve development in asbestos and environmental exposures, is also used to provide coverage for construction general
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liability, including construction defect. Occurrence-based forms of insurance
for general liability exposures require substantial projection of loss trends,
which can be influenced by a number of factors, including future inflation,
judicial interpretations and societal litigation trends (e.g., size of jury
awards and propensity of individuals to pursue litigation), among others.
A basic premise in most actuarial analyses is that past patterns demonstrated in
the data will repeat themselves in the future, absent a material change in the
associated risk factors discussed below. To the extent a material change
affecting the ultimate claim liability is known, such change is estimated to the
extent possible through an analysis of internal company data and, if available
and when appropriate, external data. Such a measurement is specific to the facts
and circumstances of the particular claim portfolio and the known change being
evaluated. Significant structural changes to the available data, product mix or
organization can materially impact the reserve estimation process. In addition,
the introduction of new products creates a unique risk as historical company
data would typically not be available.
Informed judgment is applied throughout the reserving process. This includes the
application of various individual experiences and expertise to multiple sets of
data and analyses. In addition to actuaries, experts involved with the reserving
process also include underwriting and claims personnel and lawyers, as well as
other company management. Therefore, management may have to consider varying
individual viewpoints as part of its estimation of claims and claim adjustment
expense reserves. It is also likely that during periods of significant change,
such as a merger, consistent application of informed judgment becomes even more
complicated and difficult.
The variables discussed above in this general discussion have different impacts
on reserve estimation uncertainty for a given product line, depending on the
length of the claim tail, the reporting lag, the impact of individual claims and
the complexity of the claim process for a given product line.
Product lines are generally classifiable as either long tail or short tail,
based on the average length of time between the event triggering claims under a
policy and the final resolution of those claims. Short tail claims are reported
and settled quickly, resulting in less estimation variability. The longer the
time to final claim resolution, the greater the exposure to estimation risks and
hence the greater the estimation uncertainty.
A major component of the claim tail is the reporting lag. The reporting lag,
which is the time between the event triggering a claim and the reporting of the
claim to the insurer, makes estimating IBNR inherently more uncertain. In
addition, the greater the reporting lag, the greater the proportion of IBNR to
the total claim liability for the product line. Writing new products with
material reporting lags can result in adding several years' worth of IBNR claim
exposure before the reporting lag exposure becomes clearly observable, thereby
increasing the risk associated with estimating the liabilities for claims and
claim adjustment expenses for such products. The most extreme example of claim
liabilities with long reporting lags are asbestos claims.
For some lines, the impact of large individual claims can be material to the
analysis. These lines are generally referred to as being "low frequency/high
severity," while lines without this "large claim" sensitivity are referred to as
"high frequency/low severity." Estimates of claim liabilities for low
frequency/high severity lines can be sensitive to the impact of a small number
of potentially large claims. As a result, the role of judgment is much greater
for these reserve estimates. In contrast, for high frequency/low severity lines
the impact of individual claims is relatively minor and the range of reasonable
reserve estimates is likely narrower and more stable.
Claim complexity can also greatly affect the estimation process by impacting the
number of assumptions needed to produce the estimate, the potential stability of
the underlying data and claim process, and the ability to gain an understanding
of the data. Product lines with greater claim complexity, such as for certain
surety and construction exposures, have inherently greater estimation
uncertainty.
Actuaries have to exercise a considerable degree of judgment in the evaluation
of all these factors in their analysis of reserves. The human element in the
application of actuarial judgment is unavoidable when faced with material
uncertainty. Different actuaries may choose different assumptions when faced
with such uncertainty, based on their individual backgrounds, professional
experiences and areas of focus. Hence, the estimates selected by the various
actuaries may differ materially from each other.
Lastly, significant structural changes to the available data, product mix or
organization can also materially impact the reserve estimation process. Events
such as mergers increase the inherent uncertainty of reserve estimates for a
period of time, until stable trends re-establish themselves within the new
organization.
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Risk Factors
The major causes of material uncertainty ("risk factors") generally will vary
for each product line, as well as for each separately analyzed component of the
product line. In a few cases, such risk factors are explicit assumptions of the
estimation method, but in most cases, they are implicit. For example, a method
may explicitly assume that a certain percentage of claims will close each year,
but will implicitly assume that the legal interpretation of existing contract
language will remain unchanged. Actual results will likely vary from
expectations for each of these assumptions, causing actual paid losses, as
claims are settled in the future, to be different in amount than the reserves
being estimated currently.
Some risk factors will affect more than one product line. Examples include
changes in claim department practices, changes in the tort environment, changes
in settlement patterns, regulatory and legislative actions, court actions,
timeliness of claim reporting, state mix of claimants and degree of claimant
fraud. The extent of the impact of a risk factor will also vary by components
within a product line. Individual risk factors are also subject to interactions
with other risk factors within product line components.
The effect of a particular risk factor on estimates of claim liabilities cannot
be isolated in most cases. For example, estimates of potential claim settlements
may be impacted by the risk associated with potential court rulings, but the
final settlement agreement typically does not delineate how much of the settled
amount is due to this and other factors.
The evaluation of data is also subject to distortion from extreme events or
structural shifts, sometimes in unanticipated ways. For example, the timing of
claims payments in one geographic region may be impacted if claim adjusters are
temporarily reassigned from that region to help settle catastrophe claims in
another region.
While some changes in the claim environment are sudden in nature (such as a new
court ruling affecting the interpretation of all contracts in that
jurisdiction), others are more evolutionary. Evolutionary changes can occur when
multiple factors affect final claim values, with the uncertainty surrounding
each factor being resolved separately, in stepwise fashion. The final impact is
not known until all steps have occurred.
Sudden changes generally cause a one-time shift in claim liability estimates, although there may be some lag in reliable quantification of their impact. Evolutionary changes generally cause a series of shifts in claim liability estimates, as each component of the evolutionary change becomes evident and estimable.
Actuarial Methods for Analyzing and Estimating Claims and Claim Adjustment Expense Reserves The principal estimation and analysis methods utilized by the Company's actuaries to evaluate management's existing estimates for prior accident periods are the paid loss development method, the case incurred development method, the Bornhuetter-Ferguson (BF) method, and average value analysis combined with the reported claim development method. The BF method is usually utilized for more recent accident periods, with a transition to other methods as the underlying claim data becomes more voluminous and therefore more credible. These estimation and analysis methods are typically referred to as conventional actuarial methods. (See note 7 of notes to the consolidated financial statements for an explanation of these methods). While the Company utilizes these conventional actuarial methods to estimate the claims liability for its various businesses, Company actuaries evaluating a particular component for a product line may select from the full range of methods developed within the casualty actuarial profession. The Company's actuaries are also continually monitoring developments within the profession for advances in existing techniques or the creation of new techniques that might improve current and future estimates.
Some components of a product line may be susceptible to infrequent large claims or not be subject to conventional methods. In such cases, the Company's actuarial analysis will isolate such components for review. The reserves excluding such large claims are generally analyzed using the conventional methods described above. The reserves associated with large claims are then analyzed utilizing various methods, such as:
• Estimating the number of large claims and their average values based on
historical trends from prior accident periods, adjusted for the current
environment and supplemented with actual data for the accident year
analyzed to the extent available.
• Utilizing individual claim adjuster estimates of the large claims,
combined with continual monitoring of the aggregate accuracy of such claimadjuster estimates. (This monitoring may lead to supplemental adjustments
to the aggregate of such claim estimates).
• Utilizing historic longer-term average ratios of large claims to small
claims, and applying such ratios to the estimated ultimate small claims
from conventional analysis.
• Ground-up analysis of the underlying exposure (typically used for asbestos
and environmental).
104-------------------------------------------------------------------------------- The results of such methodologies are subjected to various reasonability and diagnostic tests, including implied incurred-loss-to-earned-premium ratios, non-zero claim severity trends and paid-to-incurred loss ratios. An actual versus expected analysis is also performed comparing actual loss development to expected development embedded within management's estimate. Additional analyses may be performed based on the results of these diagnostics, including the investigation of other actuarial methods. The methods described above are generally utilized to evaluate management's estimate for prior accident periods. For the initial estimate of the current accident year, however, the available claim data is typically insufficient to produce a reliable indication. As a result, the initial estimate for an accident year is generally based on an exposure-based method using either the loss ratio projection method or the expected loss method. The loss ratio projection method, which is typically used for guaranteed-cost business, develops an initial estimate for an accident year by multiplying earned premiums for the accident year by a projected loss ratio. The projected loss ratio is determined by analyzing prior period experience, and adjusting for loss cost trends, rate level differences, mix of business changes and other known or observed factors influencing the current accident year relative to prior accident years. The exact number of prior accident years utilized varies by product line component, based on the stability and consistency of the individual accident year estimates. The expected loss method, which is typically used for loss sensitive business, develops an initial estimate of ultimate claims and claim adjustment expenses for an accident year by analyzing exposures by account. Management's Estimates At least once per quarter, certain members of Company management meet with the Company's actuaries to review the latest claims and claim adjustment expense reserve analyses. Based on these analyses, management determines whether its ultimate claim liability estimates should be changed from the prior period. In doing so, it must evaluate whether the new data provided represents credible actionable information or an anomaly that will have no effect on estimated ultimate claim liability. For example, as described above, payments may have decreased in one geographic region due to fewer claim adjusters being available to process claims. The resulting claim payment patterns would be analyzed to determine whether or not the change in payment pattern represents a change in ultimate claim liability. Such an assessment requires considerable judgment. It is frequently not possible to determine whether a change in the data is an anomaly until sometime after the event. Even if a change is determined to be permanent, it is not always possible to reliably determine the extent of the change until sometime later. The overall detailed analyses supporting such an effort can take several months to perform as the underlying causes of the trends observed need to be evaluated, which may require the gathering or assembling of data not previously available. It may also include interviews with experts involved with the underlying processes. As a result, there can be a time lag between the emergence of a change and a determination that the change should be reflected in the Company's estimated claim liabilities. The final estimate selected by management in a reporting period is based on these various detailed analyses of past data, adjusted to reflect any new actionable information.
The Audit Committee of the Board of Directors reviews the process by which the Company establishes reserves for the purpose of the Company's financial statements.
Discussion of Product Lines The following section details reserving considerations and common risk factors by product line. There are many additional risk factors that may impact ultimate claim costs. Each risk factor presented will have a different impact on required reserves. Also, risk factors can have offsetting or compounding effects on required reserves. For example, in workers' compensation, the use of expensive medical procedures that result in medical cost inflation may enable workers to return to work faster, thereby lowering indemnity costs. Thus, in almost all cases, it is impossible to discretely measure the effect of a single risk factor and construct a meaningful sensitivity expectation. In order to provide information on reasonably possible reserving changes by product line, the historical changes in year-end claims and claim adjustment expense reserves over a one-year period are provided for theU.S. product lines. This information is provided for both the Company and the industry for the nine most recent years, and is based on the most recent publicly available data for the reported line(s) that most closely match the individual product line being discussed. These changes were calculated, net of reinsurance, from statutory annual statement data found in Schedule P of those statements, and represent the reported reserve development on the beginning-of-the-year claim liabilities divided by the beginning claim liabilities, all accident years combined, excluding non-defense related claim adjustment expense. Data presented for the Company includes history for the entire Travelers group (U.S. companies only), as required by the statutory reporting instructions promulgated by state regulatory authorities for Schedule P. Comparable data for non-U.S. companies is not available. 105
-------------------------------------------------------------------------------- General Liability General liability is generally considered a long tail line, as it takes a relatively long period of time to finalize and settle claims from a given accident year. The speed of claim reporting and claim settlement is a function of the characteristics of claims, including specific coverage provided, the jurisdiction and specific policy provisions such as self-insured retentions, among others. There are numerous components underlying the general liability product line. Some of these have relatively moderate payment patterns (with most of the claims for a given accident year closed within five to seven years), while others can have extreme lags in both reporting and payment of claims (e.g., a reporting lag of a decade or more for "construction defect" claims). While the majority of general liability coverages are written on an "occurrence" basis, certain general liability coverages (such as those covering management and professional liability, including cyber coverages) are typically insured on a "claims-made" basis. General liability reserves are generally analyzed as two components: primary and excess/umbrella, with the primary component generally analyzed separately for bodily injury and property damage. Bodily injury liability payments reimburse the claimant for damages pertaining to physical injury as a result of the policyholder's legal obligation arising from non-intentional acts such as negligence, subject to the insurance policy provisions. In some cases the damages can include future wage loss (which is a function of future earnings power and wage inflation) and future medical treatment costs. Property damage liability payments result from damages to the claimant's private property arising from the policyholder's legal obligation for non-intentional acts. In most cases, property damage losses are a function of costs as of the loss date, or soon thereafter.
In addition, sizable or unique exposures are reviewed separately. These exposures include asbestos, environmental, other mass torts, construction defect and large unique accounts that would otherwise distort the analysis. These unique categories often require a very high degree of judgment and require reserve analyses that do not rely on conventional actuarial methods.
Defense costs are also a part of the insured costs covered by liability policies and can be significant, sometimes greater than the cost of the actual paid claims. For some products this risk is mitigated by policy language such that the insured portion of defense costs is included in the policy limit available to pay the claim. Such "defense within the limits" policies are most common for "claims-made" products. When defense costs are outside of the policy limits, the full amount of the policy limit is available to pay claims and the amounts paid for defense costs have no contractual limit. This line is typically the largest source of reserve estimate uncertainty inthe United States (excluding assumed reinsurance contracts covering the same risk). Major contributors to this reserve estimate uncertainty include the reporting lag (i.e., the length of time between the event triggering coverage and the actual reporting of the claim), the number of parties involved in the underlying tort action, whether the "event" triggering coverage is confined to only one time period or is spread over multiple time periods, the potential dollars involved (in the individual claim actions), whether such claims were reasonably foreseeable and intended to be covered at the time the contracts were written (i.e., coverage dispute potential), and the potential for mass claim actions. Claims with longer reporting lags result in greater estimation uncertainty. This is especially true for alleged claims with a latency feature, particularly where courts have ruled that coverage is spread over multiple policy years, hence involving multiple defendants (and their insurers and reinsurers) and multiple policies (thereby increasing the potential dollars involved and the underlying settlement complexity). Claims with long latencies also increase the potential recognition lag (i.e., the lag between writing a type of policy in a certain market and the recognition that such policies have potential mass tort and/or latent claim exposure). The amount of reserve estimate uncertainty also varies significantly by component for the general liability product line. The components in this product line with the longest latency, longest reporting lags, largest potential dollars involved and greatest claim settlement complexity are asbestos and environmental. Components that include latency, reporting lag and/or complexity issues, but to a materially lesser extent than asbestos and environmental, include construction defect and other mass tort actions. Many components of general liability are not subject to material latency or claim complexity risks and hence have materially less uncertainty than the previously mentioned components. In general, components with shorter reporting lags, fewer parties involved in settlement negotiations, only one policy potentially triggered per claim, fewer potential settlement dollars, reasonably foreseeable (and stable) potential hazards/claims and no mass tort potential result in much less reserve estimate uncertainty than components without those characteristics. In addition to the conventional actuarial methods mentioned in the general discussion section, the company utilizes various report year development methods for the construction defect components of this product line. The Construction Defect report year development analysis is supplemented with projected claim counts and average values for IBNR claim counts. For components with greater lags in claim reporting, such as excess and umbrella components of this product line, the Company relies more heavily on the BF method than on the paid and case incurred development methods. 106 -------------------------------------------------------------------------------- Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required general liability reserves (beyond those included in the general discussion section) include:
General liability risk factors
• Changes in claim handling philosophies
• Changes in policy provisions or court interpretation of such provisions
• New or expanded theories of liability
• Trends in jury awards
• Changes in the propensity to sue, in general with specificity to
particular issues
• Changes in the propensity to litigate rather than settle a claim
• Increases in attorney involvement in, or impact on, claims
• Changes in statutes of limitations
• Changes in the underlying court system
• Distortions from losses resulting from large single accounts or single issues
• Changes in tort law
• Shifts in lawsuit mix between federal and state courts
• Changes in claim adjuster processes or reporting which may cause
distortions in the data being analyzed
• The potential impact of inflation on loss costs
• Changes in settlement patterns
General liability book of business risk factors • Changes in policy provisions (e.g., deductibles, policy limits, endorsements)
• Changes in underwriting standards
• Product mix (e.g., size of account, industries insured, jurisdiction mix)
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for general liability (excluding asbestos and environmental), a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.5% increase (decrease) in claims and claim adjustment expense reserves. Historically, the one-year change in the reserve estimate for this product line, excluding estimated asbestos and environmental amounts, over the last nine years has varied from -8% to 6% (averaging -3%) for the Company, and from -4% to 0% (averaging -2%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. General liability reserves (excluding asbestos and environmental) represent approximately 21% of the Company's total claims and claim adjustment expense reserves. The Company's change in reserve estimate for this product line, excluding the impacts of increases in asbestos and environmental reserves and the extension of the statute of limitations for childhood sexual molestation claims, was 6% for 2019, -1% for 2018 and -4% for 2017. The 2019 change primarily reflected higher than expected loss experience inBusiness Insurance for both primary and excess coverages for accident years 2013 through 2018, partially offset by better than expected loss experience for management liability coverages inBond & Specialty Insurance for accident years 2013 through 2015. The 2018 change primarily reflected better than expected loss experience for management liability coverages inBond & Specialty Insurance for accident years 2013 through 2015, partially offset by higher than expected loss experience for both primary and excess coverages inBusiness Insurance for accident years 2012 through 2017. The 2017 change primarily reflected better than expected loss experience for both primary and excess coverages for accident years 2009 through 2016. Commercial Property Commercial property is generally considered a short tail line with a simpler and faster claim reporting and adjustment process than liability coverages, and less uncertainty in the reserve setting process (except for more complex business interruption claims). It is generally viewed as a moderate frequency, low to moderate severity line, except for catastrophes and coverage related to large properties. The claim reporting and settlement process for property coverage claim reserves is generally restricted to the insured and the insurer. Overall, the claim liabilities for this line create a low estimation risk, except possibly for catastrophes and business interruption claims. 107 -------------------------------------------------------------------------------- Commercial property reserves are typically analyzed in two components, one for catastrophic or other large single events, and another for all other events. Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required property reserves (beyond those included in the general discussion section) include:
Commercial property risk factors
• Physical concentration of policyholders
• Availability and cost of local contractors
• For the more severe catastrophic events, "demand surge" inflation, which
refers to significant short-term increases in building material and laborcosts due to a sharp increase in demand for those materials and services
• Local building codes
• Amount of time to return property to full usage (for business interruption
claims)
• Frequency of claim re-openings on claims previously closed
• Court interpretation of policy provisions (such as occurrence definition,
or wind versus flooding)
• Lags in reporting claims (e.g., winter damage to summer homes, hidden
damage after an earthquake, hail damage to roofs and/or equipment on
roofs)
• Court or legislative changes to the statute of limitations
Commercial property book of business risk factors • Policy provisions mix (e.g., deductibles, policy limits, endorsements)
• Changes in underwriting standards
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for property, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.1% increase (decrease) in claims and claim adjustment expense reserves.
Historically, the one-year change in the reserve estimate for this product line
over the last nine years has varied from -22% to -5% (averaging -13%) for the
Company, and from -14% to -5% (averaging -8%) for the industry overall. The
Company's year-to-year changes are driven by, and are based on, observed events
during the year. The Company believes that its range of historical outcomes is
illustrative of reasonably possible one-year changes in reserve estimates for
this product line. Commercial property reserves represent approximately 2% of
the Company's total claims and claim adjustment expense reserves.
Since commercial property is considered a short tail coverage, the one year
change for commercial property can be more volatile than that for the longer
tail product lines. This is due to the fact that the majority of the reserve for
commercial property relates to the most recent accident year, which is subject
to the most uncertainty for all product lines. This recent accident year
uncertainty is relevant to commercial property because weather-related events
that occur in the second half of the year may not be completely resolved until
the following year. Reserve estimates associated with major catastrophes may
take even longer to resolve. The reserve estimates for this product line are
also potentially subject to material changes due to uncertainty in measuring
ultimate losses for significant catastrophes such as Storm Sandy and wildfires.
The Company's change in reserve estimate for this product line was -6% for 2019,
-11% for 2018 and -9% for 2017. The 2019 change primarily reflected better than
expected loss experience related to both catastrophe and non-catastrophe losses
for accident years 2016 through 2018. The 2018 change primarily reflected better
than expected loss experience related to both catastrophe and non-catastrophe
losses for accident years 2015 through 2017. The 2017 change primarily reflected
better than expected loss experience related to non-catastrophe losses for
accident years 2015 and 2016.
Commercial Multi-Peril
Commercial multi-peril provides a combination of property and liability coverage
typically for small businesses and, therefore, includes both short and long tail
coverages. For property coverage, it generally takes a relatively short period
of time to close claims, while for the other coverages, generally for the
liability coverages, it takes a longer period of time to close claims.
The reserving risk for this line is dominated by the liability coverage portion
of this product, except occasionally in the event of catastrophic or other large
single loss events. The reserving risk for this line differs from that of the
general liability product line and the property product line due to the nature
of the customer. Commercial multi-peril is generally sold to small- to mid-sized
accounts, while the customer profile for general liability and commercial
property includes larger customers.
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--------------------------------------------------------------------------------See "Commercial property risk factors" and "General liability risk factors," discussed above, with regard to reserving risk for commercial multi-peril.
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for commercial multi-peril (excluding asbestos and environmental), a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.2% increase (decrease) in claims and claim adjustment expense reserves. Historically, the one-year change in the reserve estimate for this product line, excluding estimated asbestos and environmental amounts, over the last nine years has varied from -5% to 5% (averaging 1%) for the Company, and from -4% to 1% (averaging -2%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Commercial multi-peril reserves (excluding asbestos and environmental reserves) represent approximately 8% of the Company's total claims and claim adjustment expense reserves. As discussed above, this line combines general liability and commercial property coverages and it has been impacted in the past by many of the same events as those two lines. The Company's change in reserve estimate for this product line was 4% for 2019, 1% for 2018 and -5% for 2017. The 2019 change primarily reflected higher than expected loss experience for liability coverages for accident years 2017 and 2018. The 2018 change primarily reflected higher than expected loss experience for liability coverages for accident year 2017. The 2017 change primarily reflected better than expected loss experience for liability coverages for accident years 2016 and prior. Commercial Automobile The commercial automobile product line is a mix of property and liability coverages and, therefore, includes both short and long tail coverages. The payments that are made quickly typically pertain to auto physical damage (property) claims and property damage (liability) claims. The payments that take longer to finalize and are more difficult to estimate relate to bodily injury claims. In general, claim reporting lags are generally short, claim complexity is not a major issue, and the line is viewed as high frequency, low to moderate severity. Overall, the claim liabilities for this line create a moderate estimation risk. Recently, the Company has seen more of an increase in the rate of attorney involvement than it had anticipated and a lengthening of the claim development pattern. As a consequence, the Company has experienced a higher level of bodily injury severity than it had anticipated. Commercial automobile reserves are typically analyzed in four components: bodily injury liability; property damage liability; collision claims; and comprehensive claims. These last two components have minimum reserve risk and fast payouts and, accordingly, separate risk factors are not presented.
The Company utilizes the conventional actuarial methods mentioned in the general discussion above in estimating claim liabilities for this line. This is supplemented with detailed custom analyses where needed.
Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required commercial automobile reserves (beyond those included in the general discussion section) include:
Bodily injury and property damage liability risk factors
• Trends in jury awards
• Changes in the underlying court system
• Changes in case law • Litigation trends
• Increases in attorney involvement in, or impact on, claims
• Frequency of claims with payment capped by policy limits
• Change in average severity of accidents, or proportion of severe accidents
• Changes in auto safety technology
• Subrogation opportunities
• Changes in claim handling philosophies
• Frequency of visits to health providers
• Number of medical procedures given during visits to health providers
• Types of health providers used
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--------------------------------------------------------------------------------• Types of medical treatments received
• Changes in cost of medical treatments
• Degree of patient responsiveness to treatment
Commercial automobile book of business risk factors
• Changes in policy provisions (e.g., deductibles, policy limits,
endorsements, etc.)
• Changes in mix of insured vehicles (e.g., long haul trucks versus local
and smaller vehicles, fleet risks versus non-fleets)
• Changes in underwriting standards
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for commercial automobile, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.3% increase (decrease) in claims and claim adjustment expense reserves. Historically, the one-year change in the reserve estimate for this product line over the last nine years has varied from -2% to 11% (averaging 4%) for the Company, and from -3% to 7% (averaging 3%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Commercial automobile reserves represent approximately 8% of the Company's total claims and claim adjustment expense reserves. The Company's change in reserve estimate for this product line was 7% for 2019, 11% for 2018 and 4% for 2017. The 2019 change primarily reflected higher than expected loss experience for liability coverages for accident years 2015 through 2018. The 2018 change primarily reflected higher than expected loss experience for liability coverages for accident years 2014 through 2017. The 2017 change primarily reflected higher than expected loss experience for liability coverages for accident years 2013 through 2016. Workers' Compensation Workers' compensation is generally considered a long tail coverage, as it takes a relatively long period of time to finalize claims from a given accident year. While certain payments such as initial medical treatment or temporary wage replacement for the injured worker are made quickly, some other payments are made over the course of several years, such as awards for permanent partial injuries. In addition, some payments can run as long as the injured worker's life, such as permanent disability benefits and on-going medical care. Despite the possibility of long payment tails, the reporting lags are generally short, payment obligations are generally not complex, and most of the liability can be considered high frequency with moderate severity. The largest reserve risk generally comes from the low frequency, high severity claims providing lifetime coverage for medical expense arising from a worker's injury, as such claims are subject to greater inflation risk. Overall, the claim liabilities for this line create a somewhat greater than moderate estimation risk.
Workers' compensation reserves are typically analyzed in three components: indemnity losses, medical losses and claim adjustment expenses.
Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required workers' compensation reserves (beyond those included in the general discussion section) include: Indemnity risk factors • Time required to recover from the injury
• Degree of available transitional jobs
• Degree of legal involvement
• Changes in the interpretations and processes of the administrative bodies
that oversee workers' compensation claims
• Future wage inflation for states that index benefits
• Changes in the administrative policies of second injury funds
Medical risk factors • Changes in the cost of medical treatments (including prescription drugs)
and underlying fee schedules ("inflation")
• Frequency of visits to health providers
• Number of medical procedures given during visits to health providers
• Types of health providers used
• Type of medical treatments received
• Use of preferred provider networks and other medical cost containment
practices
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• Availability of new medical processes and equipment
• Changes in the use of pharmaceutical drugs, including drugs for pain
management
• Degree of patient responsiveness to treatment
General workers' compensation risk factors • Frequency of reopening claims previously closed
• Mortality trends of injured workers with lifetime benefits and medical
treatment
• Changes in statutory benefits
• The impact, if any, of potential future changes to government health
insurance legislation
Workers' compensation book of business risk factors • Product mix
• Injury type mix
• Changes in underwriting standards
Unanticipated changes in risk factors can affect reserves. As an indicator of
the causal effect that a change in one or more risk factors could have on
reserves for workers' compensation, a 1% increase (decrease) in incremental paid
loss development for each future calendar year could result in a 1.3% increase
(decrease) in claims and claim adjustment expense reserves.
Historically, the one-year change in the reserve estimate for this product line
over the last nine years has varied from -4% to 0% (averaging -2%) for the
Company, and from -4% to 1% (averaging -2%) for the industry overall. The
Company's year-to-year changes are driven by, and are based on, observed events
during the year. The Company believes that its range of historical outcomes is
illustrative of reasonably possible one-year changes in reserve estimates for
this product line. Workers' compensation reserves represent approximately 38% of
the Company's total claims and claim adjustment expense reserves.
The Company's change in reserve estimate for this product line was -4% for 2019,
-4% for 2018 and -3% for 2017. The 2019 change primarily reflected better than
expected loss experience for accident years 2018 and prior. The 2018 change
primarily reflected better than expected loss experience for accident years 2017
and prior. The 2017 change primarily reflected better than expected loss
experience for accident years 2016 and prior.
Fidelity and Surety
Fidelity is generally considered a short tail coverage. It takes a relatively
short period of time to finalize and settle most fidelity claims. The volatility
of fidelity reserves is generally related to the type of business of the
insured, the size and complexity of the insured's business operations, amount of
policy limit and attachment point of coverage. The uncertainty surrounding
reserves for small, commercial insureds is typically less than the uncertainty
for large commercial or financial institutions. The high frequency, low severity
nature of small commercial fidelity losses provides for stability in loss
estimates, whereas the low frequency, high severity nature of losses for large
insureds results in a wider range of ultimate loss outcomes. Actuarial
techniques that rely on a stable pattern of loss development are generally not
applicable to low frequency, high severity claims.
Surety has certain components that are generally considered short tail coverages
with short reporting lags, although large individual construction and commercial
surety contracts can result in a long settlement tail, based on the length and
complexity of the construction project(s) or commercial transaction being
bonded. The frequency of losses in surety generally correlates with economic
cycles as the primary cause of surety loss is the inability of an insured to
fulfill its contractual obligations. The Company actively seeks to mitigate this
exposure to loss through disciplined risk selection, adherence to underwriting
standards and ongoing monitoring of contractor progress in significant
construction projects. The volatility of surety losses is generally related to
the type of business performed by the bonded party, the type of bonded
obligation, the amount of limit exposed to loss and the amount of assets
available to the surety company to mitigate losses, such as unbilled contract
funds, collateral, first and third party indemnity, and other security positions
of a bonded party's assets. Certain classes of surety claims are very high
severity, low frequency in nature. These can include large construction
contractors involved with one or multiple large, complex projects as well as
certain large commercial surety exposures. Other claim factors affecting reserve
variability of surety include litigation related to amounts owed by the bonded
party and due to the surety company (e.g., salvage and subrogation efforts), the
results of financial restructuring of a bonded party and the availability and
cost of replacement contractors, labor and materials.
Examples of common risk factors, or perceptions thereof, that could change and,
thus, affect the required fidelity and surety reserves (beyond those included in
the general discussion section) include:
Fidelity risk factors
• Type of business of insured
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--------------------------------------------------------------------------------• Policy limit and attachment points
• Third-party claims • Coverage litigation • Complexity of claims
• Growth in insureds' operations
Surety risk factors • Economic trends, including the general level of construction activity
• Concentration of reserves in a relatively few large claims
• Type of business bonded
• Type of obligation bonded
• Cumulative limits of liability for the bonded party
• Assets available to mitigate loss
• Defective workmanship/latent defects
• Financial strategy of the bonded party
• Changes in statutory obligations
• Geographic spread of business
Fidelity and Surety book of business risk factors • Changes in policy provisions (e.g., deductibles, limits, endorsements)
• Changes in underwriting standards
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for fidelity and surety, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.2% increase (decrease) in claims and claim adjustment expense reserves. Historically, the one-year change in the reserve estimate for this product line over the last nine years has varied from -36% to -8% (averaging -19%) for the Company, and from -17% to -6% (averaging -11%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Fidelity and surety reserves represent approximately 1% of the Company's total claims and claim adjustment expense reserves.
In general, developments on single large claims (both adverse and favorable) are a primary source of changes in reserve estimates for this product line.
The Company's change in reserve estimate for this product line was -11% for 2019, -10% for 2018 and -10% for 2017. The 2019 change primarily reflected better than expected loss experience in the fidelity and surety product line for accident year 2017. The 2018 change primarily reflected better than expected loss experience in the fidelity and surety product line for accident years 2015 and 2016. The 2017 change primarily reflected better than expected loss experience in the fidelity and surety product line for accident years 2014 and 2015. Personal Automobile Personal automobile includes both short and long tail coverages. The payments that are made quickly typically pertain to auto physical damage (property) claims and property damage (liability) claims. The payments that take longer to finalize and are more difficult to estimate relate to bodily injury claims. Reporting lags are relatively short and the claim settlement process for personal automobile liability generally is the least complex of the liability products. It is generally viewed as a high frequency, low to moderate severity product line. Overall, the claim liabilities for this line create a moderate estimation risk. Personal automobile reserves are typically analyzed in five components: bodily injury liability, property damage liability, no-fault losses, collision claims and comprehensive claims. These last two components have minimum reserve risk and fast payouts and, accordingly, separate factors are not presented. Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required personal automobile reserves (beyond those included in the general reserve discussion section) include:
Bodily injury, property damage liability and no-fault risk factors • Trends in jury awards
• Changes in the underlying court system and its philosophy
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--------------------------------------------------------------------------------• Changes in case law • Litigation trends
• Increases in attorney involvement in, or impact on, claims
• Frequency of claims with payment capped by policy limits
• Change in average severity of accidents, or proportion of severe accidents
• Changes in auto safety technology
• Frequency and severity of claims involving distracted drivers and pedestrians
• Subrogation opportunities
• Frequency of visits to health providers
• Number of medical procedures given during visits to health providers
• Types of health providers used
• Types of medical treatments received
• Changes in cost of medical treatments
• Effectiveness of no-fault laws
• Degree of patient responsiveness to treatment
• Changes in claim handling philosophies
Personal automobile book of business risk factors • Changes in policy provisions (e.g., deductibles, policy limits,
endorsements, etc.)
• Changes in underwriting standards
• Changes in the use of permissible data for rating and underwriting
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for personal automobile, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.1% increase (decrease) in claims and claim adjustment expense reserves. Historically, the one-year change in the reserve estimate for this product line over the last nine years has varied from -4% to 3% (averaging 0%) for the Company, and from -3% to 2% (averaging -1%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Personal automobile reserves represent approximately 7% of the Company's total claims and claim adjustment expense reserves. The Company's change in reserve estimate for this product line was -2% for 2019, -2% for 2018 and 0% for 2017. The 2019 change primarily reflected better than expected loss experience for liability coverages in accident years 2016 through 2018. The 2018 change primarily reflected better than expected loss experience for liability coverages for accident years 2015 through 2017. Homeowners and Personal Lines Other Homeowners is generally considered a short tail coverage. Most payments are related to the property portion of the policy, where the claim reporting and settlement process is generally restricted to the insured and the insurer. Claims on property coverage are typically reported soon after the actual damage occurs, although delays of several months are not unusual. The resulting settlement process is typically fairly short term, although exceptions do exist. The liability portion of the homeowners policy generates claims which take longer to pay due to the involvement of litigation and negotiation, but with generally small reporting lags. Personal Lines Other products include personal umbrella policies, among others. See "general liability reserving risk factors," discussed above, for reserving risk factors related to umbrella coverages.
Overall, the line is generally high frequency, low to moderate severity (except for catastrophes), with simple to moderate claim complexity.
Homeowners reserves are typically analyzed in two components: non-catastrophe related losses and catastrophe loss payments.
Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required homeowners reserves (beyond those included in the general discussion section) include:
Non-catastrophe risk factors • Salvage opportunities
• Amount of time to return property to residential use
• Changes in weather patterns
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--------------------------------------------------------------------------------• Local building codes
• Construction and building material costs
• Litigation trends • Trends in jury awards
• Court interpretation of policy provisions (such as occurrence definition,
or wind versus flooding)
• Lags in reporting claims (e.g., winter damage to summer homes, hidden
damage after an earthquake, hail damage to roofs and/or equipment on
roofs)
• Court or legislative changes to the statute of limitations
Catastrophe risk factors • Physical concentration of policyholders
• Availability and cost of local contractors
• Local building codes
• Quality of construction of damaged homes
• Amount of time to return property to residential use
• For the more severe catastrophic events, "demand surge" inflation, which
refers to significant short-term increases in building material and laborcosts due to a sharp increase in demand for those materials and services
Homeowners book of business risk factors • Policy provisions mix (e.g., deductibles, policy limits, endorsements, etc.)
• Degree of concentration of policyholders
• Changes in underwriting standards
• Changes in the use of permissible data for rating and underwriting
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for homeowners and personal lines other, a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.1% increase (decrease) in claims and claim adjustment expense reserves. Historically, the one-year change in the reserve estimate for this product line (excluding the umbrella line of business, which for statutory reporting purposes is included with the general liability line of business) over the last nine years has varied from -17% to 3% (averaging -8%) for the Company, and from -7% to 1% (averaging -4%) for the industry overall. The Company's year-to-year changes are driven by, and are based on, observed events during the year. The Company believes that its range of historical outcomes is illustrative of reasonably possible one-year changes in reserve estimates for this product line. Homeowners and personal lines other reserves represent approximately 3% of the Company's total claims and claim adjustment expense reserves. This line combines both liability and property coverages; however, the majority of the reserves relate to property. While property is considered a short tail coverage, the one year change for property can be more volatile than that for the longer tail product lines. This is due to the fact that the majority of the reserve for property relates to the most recent accident year, which is subject to the most uncertainty for all product lines. This recent accident year uncertainty is relevant to property because of weather related events which tend to be concentrated in the second half of the year, and generally are not completely resolved until the following year. Reserve estimates associated with major catastrophes, includingCalifornia wildfires in recent years, may take even longer to resolve. The Company's change in reserve estimate for this product line (excluding the umbrella line of business) was -3% for 2019, -2% for 2018 and 1% for 2017. The 2019 change primarily reflected better than expected loss experience for catastrophe and non-catastrophe losses for accident years 2015, 2016 and 2018. The 2018 change primarily reflected better than expected loss experience for liability coverages for accident years 2014 through 2016, largely offset by higher than expected loss experience for catastrophe losses for accident year 2017. The 2017 change primarily reflected modestly higher than expected loss experience for liability coverages for accident years 2014 and 2015. International and Other International and other includes products written by the Company's international operations, as well as all other products not explicitly discussed above. The principal component of "other" claim reserves is assumed reinsurance written on an excess-of-loss basis, which may include reinsurance of non-U.S. exposures, and is runoff business. 114
-------------------------------------------------------------------------------- International and other claim liabilities result from a mix of coverages, currencies and jurisdictions/countries. The common characteristic is the need to customize the analysis to the individual component, and the inability to rely on data characterizations and reporting requirements in theU.S. statutory reporting framework. Due to changes in the business mix for this product line over time, incurred claim liabilities for more recent years are generally shorter-tailed (due to both the products and the jurisdictions involved, e.g.,Canada , theRepublic of Ireland and theUnited Kingdom ), compared to the older liabilities from runoff operations that are extremely long tail (e.g.,U.S. excess liabilities reinsured through theLondon market, and several underwriting pools in runoff). The speed of claim reporting and claim settlement is a function of the specific coverage provided, the jurisdiction, the distribution system (e.g., underwriting pool versus direct) and the proximity of the insurance sale to the insured hazard (e.g., insured and insurer located in different countries). In particular, liabilities arising from the underwriting pools in runoff may result in significant reporting lags, settlement lags and claim complexity, due to the need to coordinate with other pool members or co-insurers through a broker or lead-insurer for claim settlement purposes. International reserves are generally analyzed by country and general coverage category (e.g., General Liability inCanada , Commercial Property in theUnited Kingdom , etc.). The business is also generally split by direct versus assumed reinsurance for a given coverage. Where the underlying insured hazard is outsidethe United States , the underlying coverages are generally similar to those described under the Homeowners, Personal Automobile, Commercial Automobile, General Liability, Commercial Property and Surety discussions above, taking into account differences in the legal environment and differences in terms and conditions. However, statutory coverage differences exist amongst various jurisdictions. For example, in some jurisdictions there are no aggregate policy limits on certain liability coverages. Other reserves, primarily assumed reinsurance in runoff, are generally analyzed by program/pool, treaty type, and general coverage category (e.g., General Liability - excess of loss reinsurance). Excess exposure requires the insured to "prove" not only claims under the policy, but also the prior payment of claims reaching up to the excess policy's attachment point. Examples of common risk factors, or perceptions thereof, that could change and, thus, affect the required International and other reserves (beyond those included in the general discussion section, and in the Personal Automobile, Homeowners, General Liability, Commercial Property, Commercial Automobile and Surety discussions above) include:
International and other risk factors • Changes in claim handling procedures, including those of the primary carriers
• Changes in policy provisions or court interpretation of such provision
• Economic trends
• New theories of liability
• Trends in jury awards
• Changes in the propensity to sue
• Changes in statutes of limitations
• Changes in the underlying court system
• Distortions from losses resulting from large single accounts or single issues
• Changes in tort law
• Changes in claim adjuster office structure (causing distortions in the data)
• Changes in foreign currency exchange rates
International and other book of business risk factors • Changes in policy provisions (e.g., deductibles, policy limits,
endorsements, "claims-made" language)
• Changes in underwriting standards
• Product mix (e.g., size of account, industries insured, jurisdiction mix)
Unanticipated changes in risk factors can affect reserves. As an indicator of the causal effect that a change in one or more risk factors could have on reserves for International and other (excluding asbestos and environmental), a 1% increase (decrease) in incremental paid loss development for each future calendar year could result in a 1.3% increase (decrease) in claims and claim adjustment expense reserves. International and other reserves (excluding asbestos and environmental) represent approximately 8% of the Company's total claims and claim adjustment expense reserves. International and other represents a combination of different product lines, some of which are in runoff. Comparative historical information is not available for international product lines as insurers domiciled outside ofthe United States do not fileU.S. statutory reports. Comparative historical information on runoff business is not indicative of reasonably possible one-year changes 115 --------------------------------------------------------------------------------
in the reserve estimate for this mix of runoff business. Accordingly, the Company has not included comparative analyses for International and other.
Reinsurance Recoverables Amounts recoverable from reinsurers are estimated in a manner consistent with the associated claim liability. The Company evaluates and monitors the financial condition of its reinsurers under voluntary reinsurance arrangements to minimize its exposure to significant losses from reinsurer insolvencies. In addition, in the ordinary course of business, the Company becomes involved in coverage disputes with its reinsurers. Some of these disputes could result in lawsuits and arbitrations brought by or against the reinsurers to determine the Company's rights and obligations under the various reinsurance agreements. The Company employs dedicated specialists and comprehensive strategies to manage reinsurance collections and disputes. The Company has entered into a reinsurance contract in connection with catastrophe bonds issued by Long Point Re III. This contract meets the requirements to be accounted for as reinsurance in accordance with guidance for accounting for reinsurance contracts. The catastrophe bonds are described in more detail in "Item 1-Business-Catastrophe Reinsurance." The Company reports its reinsurance recoverables net of an allowance for estimated uncollectible reinsurance recoverables. The allowance is based upon the Company's ongoing review of amounts outstanding, length of collection periods, changes in reinsurer credit standing, disputes, applicable coverage defenses and other relevant factors. Accordingly, the establishment of reinsurance recoverables and the related allowance for uncollectible reinsurance recoverables is also an inherently uncertain process involving estimates. From time to time, as a result of the long-tailed nature of the underlying liabilities, coverage complexities and potential for disputes, the Company considers the commutation of reinsurance contracts. Changes in estimated reinsurance recoverables and commutation activity could result in additional income statement charges. Recoverables attributable to structured settlements relate primarily to personal injury claims, of which workers' compensation claims comprise a significant portion, for which the Company has purchased annuities and remains contingently liable in the event of a default by the companies issuing the annuities. Recoverables attributable to mandatory pools and associations relate primarily to workers' compensation service business. These recoverables are supported by the participating insurance companies' obligation to pay a pro rata share based on each company's voluntary market share of written premium in each state in which it is a pool participant. In the event a member of a mandatory pool or association defaults on its share of the pool's or association's obligations, the other members' share of such obligation increases proportionally. Investment Valuation and Impairments Valuation of Investments Reported at Fair Value in Financial Statements The Company's estimates of fair value for financial assets and financial liabilities are based on the framework established in the fair value accounting guidance. The framework is based on the inputs used in valuation, gives the highest priority to quoted prices in active markets and requires that observable inputs be used in the valuations when available. The fair value of a financial instrument is the estimated amount at which the instrument could be exchanged in an orderly transaction between knowledgeable, unrelated, willing parties, i.e., not in a forced transaction. The estimated fair value of a financial instrument may differ from the amount that could be realized if the security was sold in an immediate sale, e.g., a forced transaction. Additionally, the valuation of investments is more subjective when markets are less liquid due to the lack of market based inputs, which may increase the potential that the estimated fair value of an investment is not reflective of the price at which an actual transaction would occur.
See note 4 of notes to the consolidated financial statements for a further discussion of the determination of fair value of investments.
Investment Impairments
See note 1 of notes to the consolidated financial statements for a discussion of
investment impairments.
Due to the subjective nature of the Company's analysis and estimates of future
cash flows, along with the judgment that must be applied in the analysis, it is
possible that the Company could reach a different conclusion whether or not to
impair a security if it had access to additional information about the issuer.
Additionally, it is possible that the issuer's actual ability to meet
contractual obligations may be different than what the Company determined during
its analysis, which may lead to a different impairment conclusion in future
periods.
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Goodwill and Other Intangible Assets Impairments
See note 1 of notes to the consolidated financial statements for a discussion of
impairments of goodwill and other intangible assets.
OTHER UNCERTAINTIES
For a discussion of other risks and uncertainties that could impact the
Company's results of operations or financial position, see note 16 of notes to
the consolidated financial statements and "Item 1A-Risk Factors."
FORWARD-LOOKING STATEMENTS
This report contains, and management may make, certain "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. All statements, other than statements of historical facts, may be
forward-looking statements. Words such as "may," "will," "should," "likely,"
"anticipates," "expects," "intends," "plans," "projects," "believes,"
"estimates" and similar expressions are used to identify these forward-looking
statements. These statements include, among other things, the Company's
statements about:
• the Company's outlook and its future results of operations and financial
condition (including, among other things, anticipated premium volume,
premium rates, renewal premium changes, underwriting margins and
underlying underwriting margins, net and core income, investment income
and performance, loss costs, return on equity, core return on equity and
expected current returns, and combined ratios and underlying combined
ratios);
• share repurchase plans;
• future pension plan contributions;
• the sufficiency of the Company's asbestos and other reserves;
• the impact of emerging claims issues as well as other insurance and
non-insurance litigation;
• the potential benefit associated with the Company's ability to recover on
its subrogation claims;
• the cost and availability of reinsurance coverage;
• catastrophe losses;
• the impact of investment (including changes in interest rates), economic
(including inflation, changes in tax law, changes in commodity prices and
fluctuations in foreign currency exchange rates) and underwriting market
conditions;
• strategic and operational initiatives to improve profitability and
competitiveness;
• the Company's competitive advantages;
• new product offerings;
• the impact of new or potential regulations imposed or to be imposed by the
United States or other nations, including tariffs or other barriers to international trade; and
• the impact of developments in the tort environment, such as increased
attorney involvement in insurance claims and legislation allowing victims
of sexual abuse to file or proceed with claims that otherwise would have
been time-barred.
The Company cautions investors that such statements are subject to risks and
uncertainties, many of which are difficult to predict and generally beyond the
Company's control, that could cause actual results to differ materially from
those expressed in, or implied or projected by, the forward-looking information
and statements.
For a discussion of some of the factors that could cause actual results to differ, see "Item 1A-Risk Factors" and "Item 7-Management's Discussion and Analysis of Financial Condition and Results of Operations."
The Company's forward-looking statements speak only as of the date of this report or as of the date they are made, and the Company undertakes no obligation to update its forward-looking statements.
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