10-Q



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2016
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission File Number 1-5823
 
CNA FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
 
36-6169860
(I.R.S. Employer
Identification No.)
333 S. Wabash
Chicago, Illinois
(Address of principal executive offices)
 
60604
(Zip Code)
(312) 822-5000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes [x] No [ ]
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes [x] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer [x]
 
Accelerated filer [ ]
 
Non-accelerated filer [ ] (Do not check if a smaller reporting company)
 
Smaller reporting company [ ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [x]
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
Class
 
Outstanding at April 29, 2016
Common Stock, Par value $2.50
 
270,479,961







Item Number
 
Page
Number
 
PART I. Financial Information
 
1.
 
 
 
 
 
 
 
2.
3.
4.
 
PART II. Other Information
 
1.
6.

2

Table of Contents

PART I. Financial Information
Item 1. Condensed Consolidated Financial Statements
CNA Financial Corporation
Condensed Consolidated Statements of Operations (Unaudited)
Three months ended March 31
 
 
 
(In millions, except per share data)
2016
 
2015
Revenues
 
 
 
Net earned premiums
$
1,699

 
$
1,687

Net investment income
435

 
558

Net realized investment (losses) gains:
 
 
 

Other-than-temporary impairment losses
(23
)
 
(12
)
Other net realized investment (losses) gains
(13
)
 
22

Net realized investment (losses) gains
(36
)
 
10

Other revenues
97

 
97

Total revenues
2,195

 
2,352

Claims, Benefits and Expenses
 
 
 
Insurance claims and policyholders’ benefits
1,408

 
1,339

Amortization of deferred acquisition costs
307

 
303

Other operating expenses
381

 
358

Interest
42

 
39

Total claims, benefits and expenses
2,138

 
2,039

Income before income tax
57

 
313

Income tax benefit (expense)
9

 
(80
)
Net income
$
66

 
$
233

 
 
 
 
Basic earnings per share
$
0.25

 
$
0.86

 
 
 
 
Diluted earnings per share
$
0.24

 
$
0.86

 
 
 
 
Dividends declared per share
$
2.25

 
$
2.25

 
 
 
 
Weighted Average Outstanding Common Stock and Common Stock Equivalents
 
 
 
Basic
270.3

 
270.1

Diluted
270.9

 
270.7


The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

3

Table of Contents

CNA Financial Corporation
Condensed Consolidated Statements of Comprehensive Income (Unaudited)
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Comprehensive Income
 
 
 
Net income
$
66

 
$
233

Other Comprehensive Income, Net of Tax
 
 
 
Changes in:
 
 
 
Net unrealized gains on investments with other-than-temporary impairments
5

 
(1
)
Net unrealized gains on other investments
234

 
112

Net unrealized gains on investments
239

 
111

Foreign currency translation adjustment
14

 
(96
)
Pension and postretirement benefits
6

 
6

Other comprehensive income, net of tax
259

 
21

Total comprehensive income
$
325

 
$
254

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

4

Table of Contents

CNA Financial Corporation
Condensed Consolidated Balance Sheets
(In millions, except share data)
March 31,
2016 (Unaudited)
 
December 31,
2015
Assets
 
 
 
Investments:
 
 
 
Fixed maturity securities at fair value (amortized cost of $37,271 and $37,253)
$
40,252

 
$
39,572

Equity securities at fair value (cost of $182 and $191)
189

 
197

Limited partnership investments
2,562

 
2,548

Other invested assets
45

 
44

Mortgage loans
675

 
678

Short term investments
1,648

 
1,660

Total investments
45,371

 
44,699

Cash
242

 
387

Reinsurance receivables (less allowance for uncollectible receivables of $38 and $38)
4,692

 
4,453

Insurance receivables (less allowance for uncollectible receivables of $50 and $51)
2,151

 
2,078

Accrued investment income
426

 
404

Deferred acquisition costs
622

 
598

Deferred income taxes
461

 
638

Property and equipment at cost (less accumulated depreciation of $214 and $382)
263

 
343

Goodwill
150

 
150

Other assets (includes $66 and $- due from Loews Corporation)
1,124

 
1,295

Total assets
$
55,502

 
$
55,045

Liabilities
 

 
 

Insurance reserves:
 
 
 

Claim and claim adjustment expenses
$
23,018

 
$
22,663

Unearned premiums
3,807

 
3,671

Future policy benefits
10,500

 
10,152

Short term debt

 
350

Long term debt
2,708

 
2,210

Other liabilities (includes $7 and $82 due to Loews Corporation)
3,999

 
4,243

Total liabilities
44,032

 
43,289

Commitments and contingencies (Notes C, F and H)
 
 
 
Stockholders' Equity
 

 
 

Common stock ($2.50 par value; 500,000,000 shares authorized; 273,040,243 shares issued; 270,479,961 and 270,274,361 shares outstanding)
683

 
683

Additional paid-in capital
2,146

 
2,153

Retained earnings
8,770

 
9,313

Accumulated other comprehensive income
(56
)
 
(315
)
Treasury stock (2,560,282 and 2,765,882 shares), at cost
(73
)
 
(78
)
Total stockholders’ equity
11,470

 
11,756

Total liabilities and stockholders' equity
$
55,502

 
$
55,045

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

5

Table of Contents

CNA Financial Corporation
Condensed Consolidated Statements of Cash Flows (Unaudited)
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Cash Flows from Operating Activities
 
 
 
Net income
$
66

 
$
233

Adjustments to reconcile net income to net cash flows provided by operating activities:
 
 
 
Deferred income tax expense
55

 
71

Trading portfolio activity
(3
)
 
13

Net realized investment losses (gains)
36

 
(10
)
Equity method investees
262

 
(91
)
Net amortization of investments
(4
)
 

Depreciation and amortization
21

 
19

Changes in:
 
 
 
Receivables, net
(317
)
 
(157
)
Accrued investment income
(22
)
 
(25
)
Deferred acquisition costs
(23
)
 
(13
)
Insurance reserves
511

 
304

Other assets
(89
)
 
(34
)
Other liabilities
(168
)
 
(235
)
Other, net
9

 
19

Total adjustments
268

 
(139
)
Net cash flows provided by operating activities
334

 
94

Cash Flows from Investing Activities
 

 
 

Dispositions:
 
 
 
Fixed maturity securities - sales
1,722

 
1,144

Fixed maturity securities - maturities, calls and redemptions
490

 
1,144

Equity securities
4

 
2

Limited partnerships
89

 
20

Mortgage loans
22

 
3

Purchases:
 
 
 
Fixed maturity securities
(2,238
)
 
(1,919
)
Equity securities

 
(5
)
Limited partnerships
(169
)
 
(34
)
Mortgage loans
(19
)
 
(8
)
Change in other investments

 
7

Change in short term investments
16

 
190

Purchases of property and equipment
(33
)
 
(20
)
Disposals of property and equipment
107

 

Other, net

 
2

Net cash flows (used) provided by investing activities
$
(9
)
 
$
526

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

6

Table of Contents

Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Cash Flows from Financing Activities
 
 
 
Dividends paid to common stockholders
$
(609
)
 
$
(608
)
Proceeds from the issuance of debt
498

 

Repayment of debt
(358
)
 

Other, net

 
5

Net cash flows used by financing activities
(469
)

(603
)
Effect of foreign exchange rate changes on cash
(1
)
 
(6
)
Net change in cash
(145
)
 
11

Cash, beginning of year
387

 
190

Cash, end of period
$
242

 
$
201

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).


7

Table of Contents

CNA Financial Corporation
Condensed Consolidated Statements of Stockholders' Equity (Unaudited)
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Common Stock
 
 
 
Balance, beginning of period
$
683

 
$
683

Balance, end of period
683

 
683

Additional Paid-in Capital
 
 
 
Balance, beginning of period
2,153

 
2,151

Stock-based compensation
(7
)
 
(8
)
Balance, end of period
2,146

 
2,143

Retained Earnings
 
 
 
Balance, beginning of period
9,313

 
9,645

Dividends paid to common stockholders
(609
)
 
(608
)
Net income
66

 
233

Balance, end of period
8,770

 
9,270

Accumulated Other Comprehensive Income
 
 
 
Balance, beginning of period
(315
)
 
400

Other comprehensive income
259

 
21

Balance, end of period
(56
)
 
421

Treasury Stock
 
 
 
Balance, beginning of period
(78
)
 
(84
)
Stock-based compensation
5

 
5

Balance, end of period
(73
)
 
(79
)
Notes Receivable for the Issuance of Common Stock
 
 
 
Balance, beginning of period

 
(1
)
Balance, end of period

 
(1
)
Total stockholders' equity
$
11,470

 
$
12,437

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

8

Table of Contents

CNA Financial Corporation
Notes to Condensed Consolidated Financial Statements (Unaudited)
Note A. General
Basis of Presentation
The Condensed Consolidated Financial Statements include the accounts of CNA Financial Corporation (CNAF) and its subsidiaries. Collectively, CNAF and its subsidiaries are referred to as CNA or the Company. Loews Corporation (Loews) owned approximately 90% of the outstanding common stock of CNAF as of March 31, 2016.
The accompanying Condensed Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP). Intercompany amounts have been eliminated. Certain financial information that is normally included in annual financial statements, including certain financial statement notes, prepared in accordance with GAAP, is not required for interim reporting purposes and has been condensed or omitted. These statements should be read in conjunction with the Consolidated Financial Statements and notes thereto included in CNAF's Annual Report on Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2015, including the summary of significant accounting policies in Note A. The preparation of Condensed Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the Condensed Consolidated Financial Statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates.
The interim financial data as of March 31, 2016 and for the three months ended March 31, 2016 and 2015 is unaudited. However, in the opinion of management, the interim data includes all adjustments, including normal recurring adjustments, necessary for a fair statement of the Company's results for the interim periods. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year.
Recently Adopted Accounting Standards Updates (ASU)
In April 2015, the Financial Accounting Standards Board (FASB) issued ASU No. 2015-03, Interest-Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. The updated accounting guidance requires debt issuance costs to be presented as a deduction from the corresponding debt liability instead of the historical presentation as an unamortized debt issuance asset. As of January 1, 2016, the Company adopted the updated accounting guidance retrospectively. The Company adjusted its previously reported financial information included herein to reflect the change in accounting guidance for debt issuance costs. The impacts of adopting the new accounting standard on the Company’s Consolidated Balance Sheet as of December 31, 2015, were a decrease in Other assets and a decrease in Long term debt of $2 million.
In May 2015, the FASB issued ASU No. 2015-07, Fair Value Measurement (Topic 820): Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent). The updated accounting guidance removes the requirement to categorize assets measured at fair value utilizing the net asset value per share (or equivalent) practical expedient within the fair value hierarchy. As of January 1, 2016, the Company adopted the updated accounting guidance retrospectively. The Company adjusted its previously reported financial information included herein to reflect the change in accounting guidance for assets measured using the net asset value. The impacts of adopting the new accounting standard resulted in excluding overseas deposits of $28 million and $27 million from the fair value level disclosure as of March 31, 2016 and December 31, 2015.

9

Table of Contents

Recently Issued ASUs
In May 2015, the FASB issued ASU No. 2015-09, Financial Services-Insurance (Topic 944): Disclosures about Short-Duration Contracts. The updated accounting guidance requires enhanced disclosures to provide additional information about insurance liabilities for short-duration contracts. The guidance is effective for annual periods beginning after December 15, 2015, and interim periods within the annual periods beginning after December 15, 2016. The Company is currently evaluating the effect the updated guidance will have on the Company's financial statement disclosures.
In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The updated accounting guidance requires changes to the reporting model for financial instruments. The guidance is effective for interim and annual periods beginning after December 15, 2017. The Company is currently evaluating the effect the guidance will have on the Company's financial statements, and expects the primary change for the Company to be the requirement for equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842): Accounting for Leases. The updated accounting guidance requires lessees to recognize on the balance sheet the assets and liabilities for the rights and obligations created by all leases, including those historically accounted for as operating leases. The guidance is effective for interim and annual periods beginning after December 15, 2018. The Company is currently evaluating the effect the updated guidance will have on the Company's financial statements.
In March 2016, the FASB issued ASU No. 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The updated accounting guidance simplifies the accounting for share-based payment award transactions including income tax consequences, classification of awards as either equity or liabilities and classification on the statement of cash flows. The guidance is effective for annual periods beginning after December 15, 2017, and interim periods within annual periods beginning December 15, 2018. The Company is currently evaluating the effect the updated guidance will have on the Company’s financial statements.
Note B. Earnings Per Share
Earnings per share is based on the weighted average number of outstanding common shares. Basic earnings (loss) per share excludes the effect of dilutive securities and is computed by dividing Net income (loss) by the weighted average number of common shares outstanding for the period. Diluted earnings (loss) per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock.
For the three months ended March 31, 2016 and 2015, approximately 542 thousand and 654 thousand potential shares attributable to exercises under stock-based employee compensation plans were included in the calculation of diluted earnings per share. For those same periods, approximately 180 thousand and 182 thousand potential shares attributable to exercises under stock-based employee compensation plans were not included in the calculation of diluted earnings per share because the effect would have been antidilutive.

10

Table of Contents

Note C. Investments
The significant components of Net investment income are presented in the following table.
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Fixed maturity securities
$
446

 
$
443

Equity securities
3

 
3

Limited partnership investments
(14
)
 
114

Mortgage loans
9

 
8

Short term investments
3

 
2

Trading portfolio
2

 
2

Gross investment income
449

 
572

Investment expense
(14
)
 
(14
)
Net investment income
$
435

 
$
558

Net realized investment gains (losses) are presented in the following table.
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Net realized investment gains (losses):
 
 
 
Fixed maturity securities:
 
 
 
Gross realized gains
$
45

 
$
33

Gross realized losses
(62
)
 
(21
)
Net realized investment gains (losses) on fixed maturity securities
(17
)
 
12

Equity securities:
 
 
 

Gross realized gains

 
1

Gross realized losses
(5
)
 
(1
)
Net realized investment gains (losses) on equity securities
(5
)
 

Derivative financial instruments
(7
)
 
(1
)
Short term investments and other
(7
)
 
(1
)
Net realized investment gains (losses)
$
(36
)
 
$
10

Net realized investment losses for the three months ended March 31, 2016 include $8 million related to the redemption of the Company's $350 million senior notes due August 2016.
The components of Net other-than-temporary impairment (OTTI) losses recognized in earnings by asset type are presented in the following table.
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Fixed maturity securities available-for-sale:

 
 
Corporate and other bonds
$
16

 
$
5

States, municipalities and political subdivisions

 
5

Asset-backed:
 
 
 

Residential mortgage-backed

 
1

Other asset-backed
2

 

Total asset-backed
2

 
1

Total fixed maturity securities available-for-sale
18

 
11

Equity securities available-for-sale:
 
 
 
Common stock
5

 
1

Total equity securities available-for-sale
5

 
1

OTTI losses recognized in earnings
$
23

 
$
12


11

Table of Contents

The following tables present a summary of fixed maturity and equity securities.
March 31, 2016
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair
Value
 
Unrealized
OTTI
Losses (Gains)
(In millions)
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
 
Corporate and other bonds
$
17,076

 
$
1,255

 
$
224

 
$
18,107

 
$

States, municipalities and political subdivisions
11,478

 
1,704

 
3

 
13,179

 
(15
)
Asset-backed:
 
 
 
 
 
 
 
 
 
Residential mortgage-backed
5,028

 
197

 
19

 
5,206

 
(33
)
Commercial mortgage-backed
2,137

 
78

 
16

 
2,199

 

Other asset-backed
937

 
4

 
20

 
921

 

Total asset-backed
8,102

 
279

 
55

 
8,326

 
(33
)
U.S. Treasury and obligations of government-sponsored enterprises
133

 
7

 

 
140

 

Foreign government
447

 
17

 
1

 
463

 

Redeemable preferred stock
33

 
2

 

 
35

 

Total fixed maturity securities available-for-sale
37,269

 
3,264

 
283

 
40,250

 
$
(48
)
Total fixed maturity securities trading
2

 


 


 
2

 
 
Equity securities available-for-sale:
 
 
 
 
 
 
 
 
 
Common stock
37

 
6

 
2

 
41

 
 
Preferred stock
145

 
5

 
2

 
148

 
 
Total equity securities available-for-sale
182

 
11

 
4

 
189

 
 
Total
$
37,453

 
$
3,275

 
$
287

 
$
40,441

 



December 31, 2015
Cost or
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair
Value
 
Unrealized
OTTI
Losses (Gains)
(In millions)
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
 
Corporate and other bonds
$
17,080

 
$
1,019

 
$
342

 
$
17,757

 
$

States, municipalities and political subdivisions
11,729

 
1,453

 
8

 
13,174

 
(4
)
Asset-backed:
 
 
 
 
 
 
 
 
 
Residential mortgage-backed
4,935

 
154

 
17

 
5,072

 
(37
)
Commercial mortgage-backed
2,154

 
55

 
12

 
2,197

 

Other asset-backed
923

 
6

 
8

 
921

 

Total asset-backed
8,012

 
215

 
37

 
8,190

 
(37
)
U.S. Treasury and obligations of government-sponsored enterprises
62

 
5

 

 
67

 

Foreign government
334

 
13

 
1

 
346

 

Redeemable preferred stock
33

 
2

 

 
35

 

Total fixed maturity securities available-for-sale
37,250

 
2,707

 
388

 
39,569

 
$
(41
)
Total fixed maturity securities trading
3

 


 


 
3

 
 
Equity securities available-for-sale:
 
 
 
 
 
 
 
 
 
Common stock
46

 
3

 
1

 
48

 
 
Preferred stock
145

 
7

 
3

 
149

 
 
Total equity securities available-for-sale
191

 
10

 
4

 
197

 
 
Total
$
37,444

 
$
2,717

 
$
392

 
$
39,769

 
 

12

Table of Contents

The net unrealized gains on investments included in the tables above are recorded as a component of Accumulated other comprehensive income (AOCI). When presented in AOCI, these amounts are net of tax and any required Shadow Adjustments. To the extent that unrealized gains on fixed income securities supporting certain products within the Life & Group Non-Core segment would result in a premium deficiency if realized, a related increase in Insurance reserves is recorded, net of tax, as a reduction of net unrealized gains through Other comprehensive income (loss) (Shadow Adjustments). As of March 31, 2016 and December 31, 2015, the net unrealized gains on investments included in AOCI were net of after-tax Shadow Adjustments of $1,311 million and $1,111 million.

13

Table of Contents

The following tables present the estimated fair value and gross unrealized losses of fixed maturity and equity securities in a gross unrealized loss position by the length of time in which the securities have continuously been in that position.
 
Less than 12 Months
 
12 Months or Longer
 
Total
March 31, 2016
Estimated
Fair Value
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
Gross
Unrealized
Losses
(In millions)
 
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
 
 
 
Corporate and other bonds
$
2,669

 
$
174

 
$
274

 
$
50

 
$
2,943

 
$
224

States, municipalities and political subdivisions
90

 
3

 
64

 

 
154

 
3

Asset-backed:
 
 
 
 
 
 
 
 
 
 
 
Residential mortgage-backed
376

 
11

 
159

 
8

 
535

 
19

Commercial mortgage-backed
505

 
14

 
102

 
2

 
607

 
16

Other asset-backed
572

 
20

 
5

 

 
577

 
20

Total asset-backed
1,453

 
45

 
266

 
10

 
1,719

 
55

U.S. Treasury and obligations of government-sponsored enterprises
23

 

 

 

 
23

 

Foreign government
54

 
1

 

 

 
54

 
1

Redeemable preferred stock
2

 

 

 

 
2

 

Total fixed maturity securities available-for-sale
4,291

 
223

 
604

 
60

 
4,895

 
283

Equity securities available-for-sale:
 
 
 
 
 
 
 
 
 
 
 
Common stock
6

 
2

 

 

 
6

 
2

Preferred stock
17

 
2

 

 

 
17

 
2

Total equity securities available-for-sale
23

 
4

 

 

 
23

 
4

Total
$
4,314

 
$
227

 
$
604

 
$
60

 
$
4,918

 
$
287


 
Less than 12 Months
 
12 Months or Longer
 
Total
December 31, 2015
Estimated
Fair Value
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
Gross
Unrealized
Losses
(In millions)
 
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
 
 
 
Corporate and other bonds
$
4,882

 
$
302

 
$
162

 
$
40

 
$
5,044

 
$
342

States, municipalities and political subdivisions
338

 
8

 
75

 

 
413

 
8

Asset-backed:
 
 
 
 
 
 
 
 
 
 
 
Residential mortgage-backed
963

 
9

 
164

 
8

 
1,127

 
17

Commercial mortgage-backed
652

 
10

 
96

 
2

 
748

 
12

Other asset-backed
552

 
8

 
5

 

 
557

 
8

Total asset-backed
2,167

 
27

 
265

 
10

 
2,432

 
37

U.S. Treasury and obligations of government-sponsored enterprises
4

 

 

 

 
4

 

   Foreign government
54

 
1

 

 

 
54

 
1

Redeemable preferred stock
3

 

 

 

 
3

 

Total fixed maturity securities available-for-sale
7,448

 
338

 
502

 
50

 
7,950

 
388

Equity securities available-for-sale:
 
 
 
 
 
 
 
 
 
 
 
Common stock
3

 
1

 

 

 
3

 
1

   Preferred stock
13

 
3

 

 

 
13

 
3

Total equity securities available-for-sale
16

 
4

 

 

 
16

 
4

Total
$
7,464

 
$
342

 
$
502

 
$
50

 
$
7,966

 
$
392


14

Table of Contents

Based on current facts and circumstances, the Company believes the unrealized losses presented in the March 31, 2016 table above, are not indicative of the ultimate collectibility of the current amortized cost of the securities, but rather are attributable to changes in interest rates, credit spreads and other factors, including volatility in the energy and metals and mining sectors. As of March 31, 2016, the Company held fixed maturity securities and equity securities with an estimated fair value of $2,446 million and a cost or amortized cost of $2,464 million in the energy and metals and mining sectors. The portion of these securities in a gross unrealized loss position had an estimated fair value of $1,069 million and a cost or amortized cost of $1,202 million. The Company has no current intent to sell securities with unrealized losses, nor is it more likely than not that it will be required to sell prior to recovery of amortized cost; accordingly, the Company has determined that there are no additional OTTI losses to be recorded as of March 31, 2016.
The following table presents the activity related to the pretax credit loss component reflected in Retained earnings on fixed maturity securities still held as of March 31, 2016 and 2015 for which a portion of an OTTI loss was recognized in Other comprehensive income (loss).
Three months ended March 31
 
 
 
(In millions)
2016
 
2015
Beginning balance of credit losses on fixed maturity securities
$
53

 
$
62

Additional credit losses for securities for which an OTTI loss was previously recognized

 

Reductions for securities sold during the period
(5
)
 
(1
)
Reductions for securities the Company intends to sell or more likely than not will be required to sell

 

Ending balance of credit losses on fixed maturity securities
$
48

 
$
61

Contractual Maturity
The following table presents available-for-sale fixed maturity securities by contractual maturity.
 
March 31, 2016
 
December 31, 2015
(In millions)
Amortized
Cost
 
Estimated
Fair
Value
 
Amortized
Cost
 
Estimated
Fair
Value
Due in one year or less
$
1,747

 
$
1,773

 
$
1,574

 
$
1,595

Due after one year through five years
8,335

 
8,748

 
7,721

 
8,070

Due after five years through ten years
14,587

 
15,129

 
14,652

 
14,915

Due after ten years
12,600

 
14,600

 
13,303

 
14,989

Total
$
37,269

 
$
40,250

 
$
37,250

 
$
39,569

Actual maturities may differ from contractual maturities because certain securities may be called or prepaid. Securities not due at a single date are allocated based on weighted average life.
Derivative Financial Instruments
The Company holds an embedded derivative on funds withheld liability with a notional value of $178 million and $179 million as of March 31, 2016 and December 31, 2015 and a fair value of $1 million and $(5) million as of March 31, 2016 and December 31, 2015. The embedded derivative on funds withheld liability is accounted for separately and reported with the funds withheld liability in Other liabilities on the Condensed Consolidated Balance Sheets.

15

Table of Contents

Investment Commitments
As of March 31, 2016, the Company had committed approximately $371 million to future capital calls from various third-party limited partnership investments in exchange for an ownership interest in the related partnerships.
As of March 31, 2016, the Company had a mortgage loan commitment of $10 million representing a signed loan application received and accepted.
The Company invests in various privately placed debt securities, including bank loans, as part of its overall investment strategy and has committed to additional future purchases, sales and funding. Purchases and sales of privately placed debt securities are recorded once funded. As of March 31, 2016, the Company had commitments to purchase or fund additional amounts of $163 million and sell $166 million under the terms of such securities.

16

Table of Contents

Note D. Fair Value
Fair value is the price that would be received upon sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The following fair value hierarchy is used in selecting inputs, with the highest priority given to Level 1, as these are the most transparent or reliable.
Level 1 - Quoted prices for identical instruments in active markets.
Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs are observable in active markets.
Level 3 - Valuations derived from valuation techniques in which one or more significant inputs are not observable.
Prices may fall within Level 1, 2 or 3 depending upon the methodology and inputs used to estimate fair value for each specific security. In general the Company seeks to price securities using third-party pricing services. Securities not priced by pricing services are submitted to independent brokers for valuation and, if those are not available, internally developed pricing models are used to value assets using a methodology and inputs the Company believes market participants would use to value the assets. Prices obtained from third-party pricing services or brokers are not adjusted by the Company.
The Company performs control procedures over information obtained from pricing services and brokers to ensure prices received represent a reasonable estimate of fair value and to confirm representations regarding whether inputs are observable or unobservable. Procedures include i) the review of pricing service or broker pricing methodologies, ii) back-testing, where past fair value estimates are compared to actual transactions executed in the market on similar dates, iii) exception reporting, where period-over-period changes in price are reviewed and challenged with the pricing service or broker based on exception criteria, iv) deep dives, where the Company performs an independent analysis of the inputs and assumptions used to price individual securities and v) pricing validation, where prices received are compared to prices independently estimated by the Company.

17

Table of Contents

Assets and Liabilities Measured at Fair Value
Assets and liabilities measured at fair value on a recurring basis are presented in the following tables.
March 31, 2016
 
 
 
 
 
 
Total
Assets/Liabilities
at Fair Value
(In millions)
Level 1
 
Level 2
 
Level 3
 
Assets
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
Corporate and other bonds
$

 
$
17,916

 
$
193

 
$
18,109

States, municipalities and political subdivisions

 
13,177

 
2

 
13,179

Asset-backed:
 
 
 
 
 
 
 
Residential mortgage-backed

 
5,078

 
128

 
5,206

Commercial mortgage-backed

 
2,172

 
27

 
2,199

Other asset-backed

 
871

 
50

 
921

Total asset-backed

 
8,121

 
205

 
8,326

U.S. Treasury and obligations of government-sponsored enterprises
139

 
1

 

 
140

Foreign government

 
463

 

 
463

Redeemable preferred stock
35

 

 

 
35

Total fixed maturity securities
174

 
39,678

 
400

 
40,252

Equity securities
170

 

 
19

 
189

Other invested assets

 
17

 

 
17

Short term investments
508

 
1,064

 

 
1,572

Life settlement contracts, included in Other assets

 

 
72

 
72

Total assets
$
852

 
$
40,759

 
$
491

 
$
42,102

Liabilities
 
 
 
 
 

 
 

Other liabilities
$

 
$
1

 
$

 
$
1

Total liabilities
$

 
$
1

 
$

 
$
1

December 31, 2015
 
 
 
 
 
 
Total
Assets/Liabilities
at Fair Value
(In millions)
Level 1
 
Level 2
 
Level 3
 
Assets
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
Corporate and other bonds
$

 
$
17,592

 
$
168

 
$
17,760

States, municipalities and political subdivisions

 
13,172

 
2

 
13,174

Asset-backed:
 
 
 
 
 
 
 

Residential mortgage-backed

 
4,938

 
134

 
5,072

Commercial mortgage-backed

 
2,175

 
22

 
2,197

Other asset-backed

 
868

 
53

 
921

Total asset-backed

 
7,981

 
209

 
8,190

U.S. Treasury and obligations of government-sponsored enterprises
66

 
1

 

 
67

Foreign government

 
346

 

 
346

Redeemable preferred stock
35

 

 

 
35

Total fixed maturity securities
101

 
39,092

 
379

 
39,572

Equity securities
177

 

 
20

 
197

Other invested assets

 
17

 

 
17

Short term investments
448

 
1,134

 

 
1,582

Life settlement contracts, included in Other assets

 

 
74

 
74

Total assets
$
726

 
$
40,243

 
$
473

 
$
41,442

Liabilities
 
 
 
 
 

 
 

Other liabilities
$

 
$
(5
)
 
$

 
$
(5
)
Total liabilities
$

 
$
(5
)
 
$

 
$
(5
)

18

Table of Contents

The tables below present a reconciliation for all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3).
Level 3
(In millions)
Balance as of
January 1,
2016
 
Net realized investment gains (losses) and net change in unrealized appreciation (depreciation) included in Net income (loss)*
 
Net change in unrealized appreciation (depreciation) included in Other comprehensive income (loss)
 
Purchases
 
Sales
 
Settlements
 
Transfers into
Level 3
 
Transfers out
of Level 3
 
Balance as of
March 31,
2016
 
Unrealized gains (losses) on Level 3 assets and liabilities held as of March 31, 2016 recognized in Net income (loss)*
Fixed maturity securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate and other bonds
$
168

 
$
(1
)
 
$
4

 
$
53

 
$
(16
)
 
$
(3
)
 
$

 
$
(12
)
 
$
193

 
$

States, municipalities and political subdivisions
2

 

 

 

 

 

 

 

 
2

 

Asset-backed:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

 
 
Residential mortgage-backed
134

 
1

 

 

 

 
(5
)
 

 
(2
)
 
128

 

Commercial mortgage-backed
22

 

 

 
9

 

 

 

 
(4
)
 
27

 

Other asset-backed
53

 

 

 

 

 

 
2

 
(5
)
 
50

 

Total asset-backed
209

 
1

 

 
9

 

 
(5
)
 
2

 
(11
)
 
205

 

Total fixed maturity securities
379

 

 
4

 
62

 
(16
)
 
(8
)
 
2

 
(23
)
 
400

 

Equity securities
20

 

 
(1
)
 

 

 

 

 

 
19

 

Life settlement contracts
74

 
4

 

 

 

 
(6
)
 

 

 
72

 
1

Total
$
473

 
$
4

 
$
3

 
$
62

 
$
(16
)
 
$
(14
)
 
$
2

 
$
(23
)
 
$
491

 
$
1


19

Table of Contents

Level 3
(In millions)
Balance as of
January 1,
2015
 
Net realized investment gains (losses) and net change in unrealized appreciation (depreciation) included in Net income (loss)*
 
Net change in unrealized appreciation (depreciation) included in Other comprehensive income (loss)
 
Purchases
 
Sales
 
Settlements
 
Transfers into
Level 3
 
Transfers out
of Level 3
 
Balance as of
March 31,
2015
 
Unrealized gains (losses) on Level 3 assets and liabilities held as of March 31, 2015 recognized in Net income (loss)*
Fixed maturity securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate and other bonds
$
162

 
$
1

 
$

 
$
12

 
$
(12
)
 
$
(14
)
 
$
37

 
$

 
$
186

 
$

States, municipalities and political subdivisions
94

 
1

 

 

 

 
(9
)
 

 

 
86

 

Asset-backed:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

 
 
Residential mortgage-backed
189

 
1

 

 
72

 

 
(10
)
 

 
(20
)
 
232

 

Commercial mortgage-backed
83

 
1

 
1

 
6

 

 
(1
)
 

 
(26
)
 
64

 

Other asset-backed
655

 
1

 
9

 
35

 
(144
)
 
(3
)
 

 

 
553

 

Total asset-backed
927

 
3

 
10

 
113

 
(144
)
 
(14
)
 

 
(46
)
 
849

 

Total fixed maturity securities
1,183

 
5

 
10

 
125

 
(156
)
 
(37
)
 
37

 
(46
)
 
1,121

 

Equity securities
16

 

 
(3
)
 

 

 

 

 

 
13

 

Life settlement contracts
82

 
13

 

 

 

 
(16
)
 

 

 
79

 
1

Total
$
1,281

 
$
18

 
$
7

 
$
125

 
$
(156
)
 
$
(53
)
 
$
37

 
$
(46
)
 
$
1,213

 
$
1


20

Table of Contents

*Net realized and unrealized gains and losses from Level 3 securities and derivatives are reported in Net income (loss) as follows:
Major Category of Assets and Liabilities
 
Condensed Consolidated Statements of Operations Line Items
Fixed maturity securities available-for-sale
 
Net realized investment gains (losses)
Fixed maturity securities trading
 
Net investment income
Equity securities
 
Net realized investment gains (losses)
Other invested assets - Derivative financial instruments held in a trading portfolio
 
Net investment income
Other invested assets - Derivative financial instruments not held in a trading portfolio
 
Net realized investment gains (losses)
Life settlement contracts
 
Other revenues
Other liabilities - Derivative financial instruments
 
Net realized investment gains (losses)
Securities shown on the previous pages may be transferred in or out of levels within the fair value hierarchy based on the availability of observable market information and quoted prices used to determine the fair value of the security. The availability of observable market information and quoted prices varies based on market conditions and trading volume. During the three months ended March 31, 2016 and 2015 there were no transfers between Level 1 and Level 2. The Company's policy is to recognize transfers between levels at the beginning of quarterly reporting periods.
Valuation Methodologies and Inputs
The following section describes the valuation methodologies and relevant inputs used to measure different financial instruments at fair value, including an indication of the level in the fair value hierarchy in which the instruments are generally classified.
Fixed Maturity Securities
Level 1 securities include highly liquid and exchange traded bonds and redeemable preferred stock, valued using quoted market prices. Level 2 securities include most other fixed maturity securities as the significant inputs are observable in the marketplace. All classes of Level 2 fixed maturity securities are valued using a methodology based on information generated by market transactions involving identical or comparable assets, a discounted cash flow methodology, or a combination of both when necessary. Common inputs for all classes of fixed maturity securities include prices from recently executed transactions of similar securities, marketplace quotes, benchmark yields, spreads off benchmark yields, interest rates and U.S. Treasury or swap curves. Specifically for asset-backed securities, key inputs include prepayment and default projections based on past performance of the underlying collateral and current market data. Fixed maturity securities are primarily assigned to Level 3 in cases where broker/dealer quotes are significant inputs to the valuation and there is a lack of transparency as to whether these quotes are based on information that is observable in the marketplace. Level 3 securities also include private placement debt securities whose fair value is determined using internal models with inputs that are not market observable.
Equity Securities
Level 1 equity securities include publicly traded securities valued using quoted market prices. Level 2 securities are primarily non-redeemable preferred stocks and common stocks valued using pricing for similar securities, recently executed transactions and other pricing models utilizing market observable inputs. Level 3 securities are primarily priced using broker/dealer quotes and internal models with inputs that are not market observable.

21

Table of Contents

Derivative Financial Investments
Level 2 securities primarily include the embedded derivative on funds withheld liability. The embedded derivative on funds withheld liability is valued using the change in fair value of the assets supporting the funds withheld liability, which are fixed maturity securities valued with observable inputs.
Short Term Investments
Securities that are actively traded or have quoted prices are classified as Level 1. These securities include money market funds and treasury bills. Level 2 primarily includes commercial paper, for which all inputs are market observable. Fixed maturity securities purchased within one year of maturity are classified consistent with fixed maturity securities discussed above. Short term investments as presented in the tables above differ from the amounts presented on the Condensed Consolidated Balance Sheets because certain short term investments, such as time deposits, are not measured at fair value.
Life Settlement Contracts
The fair values of life settlement contracts are determined as the present value of the anticipated death benefits less anticipated premium payments based on contract terms that are distinct for each insured, as well as the Company's own assumptions for mortality, premium expense and the rate of return that a buyer would require on the contracts, as no comparable market pricing data is available.
Other invested assets - Federal Home Loan Bank of Chicago (FHLBC) Stock
The fair value of FHLBC stock is equal to par because it can only be redeemed by the FHLBC at par or sold to another member of the FHLBC at par and is classified as Level 2.
Other invested assets - Overseas Deposits
As of March 31, 2016 and December 31, 2015, there were approximately $28 million and $27 million respectively of overseas deposits, which can be redeemed at net asset value in 90 days or less. Overseas deposits are excluded from the fair value hierarchy because their fair value is recorded using the net asset value per share (or equivalent) practical expedient.
Significant Unobservable Inputs
The following tables present quantitative information about the significant unobservable inputs utilized by the Company in the fair value measurements of Level 3 assets. Valuations for assets and liabilities not presented in the tables below are primarily based on broker/dealer quotes for which there is a lack of transparency as to inputs used to develop the valuations. The quantitative detail of these unobservable inputs is neither provided nor reasonably available to the Company.
March 31, 2016
Estimated Fair Value
(In millions)
 
Valuation Technique(s)
 
Unobservable Input(s)
 
Range
 (Weighted Average)
Fixed maturity securities
$
142

 
Discounted cash flow
 
Credit spread
 
0% - 20% (4%)
Life settlement contracts
72

 
Discounted cash flow
 
Discount rate risk premium
 
9%
 
 
 
 
 
Mortality assumption
 
55% - 1676% (164%)
December 31, 2015
Estimated Fair Value
(In millions)
 
Valuation Technique(s)
 
Unobservable Input(s)
 
Range
 (Weighted Average)
Fixed maturity securities
$
138

 
Discounted cash flow
 
Credit spread
 
3% - 184% (6%)
Life settlement contracts
74

 
Discounted cash flow
 
Discount rate risk premium
 
9%
 
 
 
 
 
Mortality assumption
 
55% - 1676% (164%)
For fixed maturity securities, an increase to the credit spread assumptions would result in a lower fair value measurement. For life settlement contracts, an increase in the discount rate risk premium or decrease in the mortality assumption would result in a lower fair value measurement.

22

Table of Contents

Financial Assets and Liabilities Not Measured at Fair Value
The carrying amount and estimated fair value of the Company's financial assets and liabilities which are not measured at fair value on the Condensed Consolidated Balance Sheets are presented in the following tables.
March 31, 2016
Carrying
Amount
 
Estimated Fair Value
(In millions)
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
 
 
Mortgage loans
$
675

 
$

 
$

 
$
697

 
$
697

Liabilities
 
 
 
 
 
 
 
 
 
Long term debt
$
2,708

 
$

 
$
2,943

 
$

 
$
2,943


December 31, 2015
Carrying
Amount
 
Estimated Fair Value
(In millions)
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
 
 
Mortgage loans
$
678

 
$

 
$

 
$
688

 
$
688

Liabilities
 
 
 
 
 
 
 
 
 
Short term debt
$
350

 
$

 
$
360

 
$

 
$
360

Long term debt
2,210

 

 
2,433

 

 
2,433

The following methods and assumptions were used to estimate the fair value of these financial assets and liabilities.
The fair value of Mortgage loans was based on the present value of the expected future cash flows discounted at the current interest rate for origination of similar quality loans, adjusted for specific loan risk.
The Company's senior notes and debentures were valued based on observable market prices. The fair value for other debt was estimated using discounted cash flows based on current incremental borrowing rates for similar borrowing arrangements.
The carrying amounts reported on the Condensed Consolidated Balance Sheets for Cash, Short term investments not carried at fair value, Accrued investment income and certain Other assets and Other liabilities approximate fair value due to the short term nature of these items. These assets and liabilities are not listed in the tables above.


23

Table of Contents

Note E. Claim and Claim Adjustment Expense Reserves
The Company's property and casualty insurance claim and claim adjustment expense reserves represent the estimated amounts necessary to resolve all outstanding claims, including incurred but not reported (IBNR) claims as of the reporting date. The Company's reserve projections are based primarily on detailed analysis of the facts in each case, the Company's experience with similar cases and various historical development patterns. Consideration is given to such historical patterns as field reserving trends and claims settlement practices, loss payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions including inflation and public attitudes. All of these factors can affect the estimation of claim and claim adjustment expense reserves.
Establishing claim and claim adjustment expense reserves, including claim and claim adjustment expense reserves for catastrophic events that have occurred, is an estimation process. Many factors can ultimately affect the final settlement of a claim and, therefore, the necessary reserve. Changes in the law, results of litigation, medical costs, the cost of repair materials and labor rates can all affect ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably estimable than long-tail claims, such as workers' compensation, general liability and professional liability claims. Adjustments to prior year reserve estimates, if necessary, are reflected in the results of operations in the period that the need for such adjustments is determined. There can be no assurance that the Company's ultimate cost for insurance losses will not exceed current estimates.
Catastrophes are an inherent risk of the property and casualty insurance business and have contributed to material period-to-period fluctuations in the Company's results of operations and/or equity. The Company reported catastrophe losses, net of reinsurance, of $36 million and $29 million for the three months ended March 31, 2016 and 2015. Catastrophe losses in 2016 related primarily to U.S. weather-related events.
Net Prior Year Development
The following tables and discussion present the net prior year development.
Three months ended March 31, 2016
 
 
 
 
 
 
 
 
 
(In millions)

Specialty
 
 Commercial
 
International
 
Corporate
& Other
Non-Core
 
Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development
$
(34
)
 
$
(14
)
 
$
(4