==============================================================================
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 June 30, 2002
-------------
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 1-6541
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LOEWS CORPORATION
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(Exact name of registrant as specified in is charter)
Delaware 13-2646102
- ------------------------------- -------------------
(State of other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
667 MADISON AVENUE, NEW YORK, N.Y. 10021-8087
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(Address of principal executive offices) (Zip Code)
(212) 521-2000
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(Registrant's telephone number, including area code)
NOT APPLICABLE
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(Former name, former address and former fiscal year,
if changed since last report)
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
--------- ---------
Class Outstanding at August 9, 2002
- ------------------------------------ -----------------------------
Common Stock, $1.00 par value 186,103,400 shares
Carolina Group Stock, $.01 par value 40,250,000 shares
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1
INDEX
Part I. Financial Information Page No.
--------
Item 1. Financial Statements
Consolidated Condensed Balance Sheets--
June 30, 2002 and December 31, 2001 . . . . . . . . . . . . 3
Consolidated Condensed Statements of Income--
Three and six months ended June 30, 2002 and 2001 . . . . . 4
Consolidated Condensed Statements of Cash Flows--
Six months ended June 30, 2002 and 2001 . . . . . . . . . . 6
Notes to Consolidated Condensed Financial Statements . . . . 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations . . . . . . . . . . . . . 56
Item 3. Quantitative and Qualitative Disclosures about Market
Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91
Part II. Other Information
Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . 95
Item 4. Submission of Matters to a Vote of Security Holders . . 98
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . 100
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
--------------------
Loews Corporation and Subsidiaries
Consolidated Condensed Balance Sheets
- ------------------------------------------------------------------------------------------------
(In millions) June 30, December 31,
2002 2001
--------------------------
Assets:
Investments:
Fixed maturities, amortized cost of $33,654.7 and $31,004.1 . . $32,286.2 $31,191.0
Equity securities, cost of $1,534.9 and $1,457.3 . . . . . . . 1,575.0 1,646.0
Other investments . . . . . . . . . . . . . . . . . . . . . . . 1,746.0 1,587.3
Short-term investments . . . . . . . . . . . . . . . . . . . . 8,433.7 6,734.8
--------------------------
Total investments . . . . . . . . . . . . . . . . . . . . . 44,040.9 41,159.1
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 182.1 181.3
Receivables-net . . . . . . . . . . . . . . . . . . . . . . . . . 19,113.5 19,452.8
Property, plant and equipment-net . . . . . . . . . . . . . . . . 2,999.8 3,075.3
Deferred income taxes . . . . . . . . . . . . . . . . . . . . . . 724.0 607.0
Goodwill and other intangible assets-net . . . . . . . . . . . . 262.8 323.8
Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . 4,360.2 4,229.8
Deferred acquisition costs of insurance subsidiaries . . . . . . 2,513.4 2,423.9
Separate account business . . . . . . . . . . . . . . . . . . . . 3,387.0 3,798.1
--------------------------
Total assets . . . . . . . . . . . . . . . . . . . . . . . . $77,583.7 $75,251.1
==========================
Liabilities and Shareholders' Equity:
Insurance reserves:
Claim and claim adjustment expense . . . . . . . . . . . . . . $30,385.7 $31,266.2
Future policy benefits . . . . . . . . . . . . . . . . . . . . 7,158.2 7,306.4
Unearned premiums . . . . . . . . . . . . . . . . . . . . . . . 4,914.1 4,505.3
Policyholders' funds . . . . . . . . . . . . . . . . . . . . . 565.5 546.0
-------------------------
Total insurance reserves . . . . . . . . . . . . . . . . . . . . 43,023.5 43,623.9
Payable for securities purchased . . . . . . . . . . . . . . . . 1,916.5 1,365.6
Securities sold under agreements to repurchase . . . . . . . . . 3,133.0 1,602.4
Long-term debt, less unamortized discount . . . . . . . . . . . . 5,929.5 5,920.3
Reinsurance balances payable . . . . . . . . . . . . . . . . . . 2,718.9 2,722.9
Other liabilities . . . . . . . . . . . . . . . . . . . . . . . . 4,844.9 4,595.2
Separate account business . . . . . . . . . . . . . . . . . . . . 3,387.0 3,798.1
--------------------------
Total liabilities . . . . . . . . . . . . . . . . . . . . . 64,953.3 63,628.4
Minority interest . . . . . . . . . . . . . . . . . . . . . . . . 1,875.1 1,973.4
Shareholders' equity . . . . . . . . . . . . . . . . . . . . . . 10,755.3 9,649.3
--------------------------
Total liabilities and shareholders' equity . . . . . . . . . $77,583.7 $75,251.1
==========================
See accompanying Notes to Consolidated Condensed Financial Statements.
3
Loews Corporation and Subsidiaries
Consolidated Condensed Statements of Operations
- ------------------------------------------------------------------------------------------------
(In millions, except per share data) Three Months Ended Six Months Ended
June 30, June 30,
------------------------ -------------------------
2002 2001 2002 2001
---------------------------------------------------
Revenues:
Insurance premiums . . . . . . . . . . $ 2,825.4 $ 1,586.8 $ 5,661.5 $ 4,083.6
Investment income, net of expenses . . 539.8 464.3 1,002.9 1,047.6
Investment (losses) gains . . . . . . . (195.0) 584.1 (171.5) 991.6
Manufactured products (including excise
taxes of $176.1, $160.4, $356.5 and
$311.1). . . . . . . . . . . . . . . . 1,067.8 1,021.7 2,072.3 1,959.1
Other . . . . . . . . . . . . . . . . . 410.6 483.3 869.8 987.2
---------------------------------------------------
Total . . . . . . . . . . . . . . . 4,648.6 4,140.2 9,435.0 9,069.1
---------------------------------------------------
Expenses:
Insurance claims and policyholders'
benefits . . . . . . . . . . . . . . . 2,382.2 4,276.2 4,692.3 6,345.6
Amortization of deferred acquisition
costs . . . . . . . . . . . . . . . . 461.6 450.5 902.0 874.1
Cost of manufactured products sold . . 599.9 589.7 1,207.3 1,153.4
Other operating expenses . . . . . . . 785.6 1,062.9 1,654.2 1,919.3
Restructuring and other related charges 56.1 62.1
Interest . . . . . . . . . . . . . . . 78.2 92.7 154.7 179.0
---------------------------------------------------
Total . . . . . . . . . . . . . . . 4,307.5 6,528.1 8,610.5 10,533.5
---------------------------------------------------
341.1 (2,387.9) 824.5 (1,464.4)
---------------------------------------------------
Income tax expense (benefit) . . . . . 124.5 (768.3) 296.0 (439.9)
Minority interest . . . . . . . . . . . 14.7 (202.5) 42.7 (132.8)
---------------------------------------------------
Total . . . . . . . . . . . . . . . 139.2 (970.8) 338.7 (572.7)
---------------------------------------------------
Income (loss) from continuing operations 201.9 (1,417.1) 485.8 (891.7)
Discontinued operations-net . . . . . . . 1.9 (31.0) 2.1
Cumulative effect of changes in
accounting principles-net . . . . . . . (53.3)
---------------------------------------------------
Net income (loss) . . . . . . . . . . . $ 201.9 $(1,415.2) $ 454.8 $ (942.9)
===================================================
4
Loews Corporation and Subsidiaries
Consolidated Condensed Statements of Operations
- ------------------------------------------------------------------------------------------------
(In millions, except per share data) Three Months Ended Six Months Ended
June 30, June 30,
------------------------ -------------------------
2002 2001 2002 2001
---------------------------------------------------
Net income (loss) attributable to:
Loews Common Stock:
Income (loss) from continuing
operations . . . . . . . . . . . . . $ 160.5 $(1,417.1) $ 426.4 $ (891.7)
Discontinued operations-net . . . . . 1.9 (31.0) 2.1
Cumulative effect of change in
accounting principles-net . . . . . (53.3)
---------------------------------------------------
Loews Common Stock . . . . . . . . . . 160.5 (1,415.2) 395.4 (942.9)
Carolina Group Stock . . . . . . . . . 41.4 59.4
---------------------------------------------------
Total . . . . . . . . . . . . . . . $ 201.9 $(1,415.2) $ 454.8 $ (942.9)
===================================================
Income (loss) per Loews common share:
Income (loss) from continuing
operations . . . . . . . . . . . . . . $ 0.85 $ (7.19) $ 2.25 $ (4.52)
Discontinued operations . . . . . . . . 0.01 (0.16) 0.01
Cumulative effect of changes in
accounting principles . . . . . . . . (0.27)
---------------------------------------------------
Net income (loss) . . . . . . . . . $ 0.85 $ (7.18) $ 2.09 $ (4.78)
===================================================
Net income per Carolina Group common
share . . . . . . . . . . . . . . . . . $ 1.03 $ 1.48
===================================================
Weighted average number of shares
outstanding:
Loews Common Stock . . . . . . . . . . 188.19 197.24 189.63 197.24
Carolina Group Stock . . . . . . . . . 40.25 40.25
See accompanying Notes to Consolidated Condensed Financial Statements.
5
Loews Corporation and Subsidiaries
Consolidated Condensed Statements of Cash Flows
- ------------------------------------------------------------------------------------------------
(In millions) Six Months Ended June 30,
2002 2001
----------------------------
Operating Activities:
Net income (loss) . . . . . . . . . . . . . . . . . . . . $ 454.8 $ (942.9)
Adjustments to reconcile net income (loss) to net cash
provided (used) by operating activities-net . . . . . . . 208.1 (1,233.5)
Discontinued operations - net . . . . . . . . . . . . . . 31.0 (2.1)
Cumulative effect of changes in accounting principles . . 53.3
Changes in assets and liabilities-net:
Reinsurance receivable . . . . . . . . . . . . . . . . . 48.3 (1,736.0)
Other receivables . . . . . . . . . . . . . . . . . . . (36.5) 696.8
Federal income taxes . . . . . . . . . . . . . . . . . . 873.0 (611.2)
Prepaid reinsurance premiums . . . . . . . . . . . . . . (228.5) 89.3
Deferred acquisition costs . . . . . . . . . . . . . . . (91.7) (50.6)
Insurance reserves and claims . . . . . . . . . . . . . (225.4) 2,888.7
Reinsurance balances payable . . . . . . . . . . . . . . (4.0) 237.7
Other liabilities . . . . . . . . . . . . . . . . . . . (4.9) 484.0
Trading securities . . . . . . . . . . . . . . . . . . . (400.2) 173.5
Other-net . . . . . . . . . . . . . . . . . . . . . . . 169.0 (247.1)
----------------------------
793.0 (200.1)
----------------------------
Investing Activities:
Purchases of fixed maturities . . . . . . . . . . . . . . (39,678.8) (47,878.6)
Proceeds from sales of fixed maturities . . . . . . . . . 35,840.7 39,424.7
Proceeds from maturities of fixed maturities . . . . . . . 2,719.8 8,058.6
Securities sold under agreements to repurchase . . . . . . 1,530.6 643.2
Purchase of equity securities . . . . . . . . . . . . . . (548.2) (752.5)
Proceeds from sales of equity securities . . . . . . . . . 516.3 1,666.5
Change in short-term investments . . . . . . . . . . . . . (1,545.3) (525.9)
Purchases of property, plant and equipment . . . . . . . . (189.8) (229.9)
Proceeds from sales of property, plant and equipment . . . 92.8 272.6
Change in other investments . . . . . . . . . . . . . . . (162.4) (183.9)
----------------------------
(1,424.3) 494.8
----------------------------
Financing Activities:
Dividends paid to Loews shareholders . . . . . . . . . . . (75.0) (54.2)
Dividends paid to minority interests . . . . . . . . . . . (20.0) (19.8)
Issuance of Loews Common Stock . . . . . . . . . . . . . . 0.5 0.4
Issuance of Carolina Group Stock . . . . . . . . . . . . . 1,069.6
Purchases of Loews treasury shares . . . . . . . . . . . . (309.2)
Purchases of treasury shares by subsidiaries . . . . . . . (16.9)
Issuance of long-term debt . . . . . . . . . . . . . . . . 449.4
Principal payments on long-term debt . . . . . . . . . . . (0.5) (662.6)
Receipts credited to policyholders . . . . . . . . . . . . 0.3 1.5
Withdrawals of policyholders account balances . . . . . . (26.3) (38.3)
Other . . . . . . . . . . . . . . . . . . . . . . . . . . 9.6 (0.9)
----------------------------
632.1 (324.5)
----------------------------
Net change in cash . . . . . . . . . . . . . . . . . . . . . 0.8 (29.8)
Cash, beginning of period . . . . . . . . . . . . . . . . . 181.3 195.2
----------------------------
Cash, end of period . . . . . . . . . . . . . . . . . . . . $ 182.1 $ 165.4
============================
See accompanying Notes to Consolidated Condensed Financial Statements.
6
Loews Corporation and Subsidiaries
Notes to Consolidated Condensed Financial Statements
- ------------------------------------------------------------------------------
(Dollars in millions, except per share data)
1. Basis of Presentation:
On February 6, 2002, the Company sold 40,250,000 shares of a new class
of its common stock, referred to as Carolina Group stock, for net proceeds
of $1,069.6. This stock is designed to track the performance of the
Carolina Group, which consists of: the Company's ownership interest in its
wholly owned subsidiary, Lorillard, Inc.; $2,500.0 of notional, intergroup
debt owed by the Carolina Group to the Loews Group, bearing interest at
the annual rate of 8.0% and, subject to optional prepayment, due December
31, 2021; any and all liabilities, costs and expenses of Loews Corporation
and Lorillard, Inc. arising out of the past, present or future business of
Lorillard, Inc., and all net income or net losses from the assets and
liabilities attributed to the Carolina Group. Each outstanding share of
Carolina Group stock has 1/10 of a vote per share. Holders of Carolina
Group stock are common stockholders of Loews Corporation.
The issuance of Carolina Group stock has resulted in a two class common
stock structure for Loews Corporation. The outstanding Carolina Group
stock represents a 23.17% economic interest in the economic performance of
the Carolina Group. The Loews Group consists of all Loews's assets and
liabilities other than the assets and liabilities attributable to the
Carolina Group, and includes as an asset the notional, intergroup debt of
the Carolina Group, and a 76.83% intergroup interest in the Carolina
Group.
Reference is made to the Notes to Consolidated Financial Statements in
the 2001 Annual Report to Shareholders which should be read in conjunction
with these consolidated condensed financial statements.
Accounting Changes
In 2002, the Company implemented the provisions of the Financial
Accounting Standards Board ("FASB") Emerging Issues Task Force ("EITF")
Issue No. 00-14, "Accounting for Certain Sales Incentives" and EITF Issue
No. 00-25, "Vendor Income Statement Characterization of Consideration from
a Vendor to a Retailer." EITF Issue No. 00-14 addresses the recognition,
measurement, and income statement characterization of sales incentives,
including rebates, coupons and free products or services, offered
voluntarily by a vendor without charge to the customer that can be used
in, or that are exercisable by a customer as a result of, a single
exchange transaction. EITF Issue No. 00-25 addresses whether consideration
from a vendor to a reseller of the vendor's products is (i) an adjustment
of the selling prices of the vendor's products and, therefore, should be
deducted from revenue when recognized in the vendor's income statement or
(ii) a cost incurred by the vendor for assets or services received from
the reseller and, therefore, should be included as a cost or an expense
when recognized in the vendor's income statement. As a result of both
issues, promotional expenses historically included in other operating
expenses were reclassified to cost of manufactured products sold, or as
reductions of revenues from manufactured products. Prior period amounts
were reclassified for comparative purposes. Adoption of these provisions
did not have a material impact on the financial position or results of
operations of the Company.
7
In June 2001, the FASB issued Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets." SFAS
No. 142 changes the accounting for goodwill and intangible assets with
indefinite lives from an amortization method to an impairment-only
approach. Amortization of goodwill and intangible assets with indefinite
lives, including goodwill recorded in past business combinations, ceased
effective January 1, 2002, upon adoption of SFAS No. 142. As required
under SFAS No. 142, the Company has completed the first step of its
initial impairment testing and has identified $65.0 of its $262.8 of total
net carried goodwill and indefinite-lived intangible assets, as being
impaired. The impaired goodwill is related to CNA's Specialty Lines and
Life Operations. The second step of the impairment testing, which involves
quantification of the amount of the impairment, will be completed in the
third quarter of 2002. The initial impairment loss will be reported as a
cumulative effect of a change in accounting principle as of January 1,
2002, and will require restatement of the interim 2002 results. Any
impairment losses incurred after the initial application of this standard
will be reported in operating income.
Effective January 1, 2002, the Company adopted SFAS No. 144, "Accounting
for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144
essentially applies one accounting model for long-lived assets to be
disposed of by sale, whether previously held and used or newly acquired,
and broadens the presentation of discontinued operations to include more
disposal transactions. Adoption of these provisions did not have a
material impact on the financial position or results of operations of the
Company; however, it did impact the income statement presentation of
certain operations sold in 2002.
In the first quarter of 2001, the Company adopted SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" and SFAS
No. 138, "Accounting for Certain Derivative Instruments and Certain
Hedging Activities" (collectively referred to as SFAS No. 133). The
initial adoption of SFAS No. 133 did not have a significant impact on the
equity of the Company; however, adoption of SFAS No. 133 resulted in a
charge to 2001 earnings of $53.3, net of income taxes and minority
interest of $33.0 and $8.0, respectively, to reflect the change in
accounting principle. Of this transition amount, approximately $50.5, net
of income taxes and minority interest, related to CNA Financial
Corporation's ("CNA"), a 90% owned subsidiary, investments and investment-
related derivatives. Because CNA already carried its investment and
investment-related derivatives at fair value through other comprehensive
income, there was an equal and offsetting favorable adjustment of $50.5 to
shareholders' equity (accumulated other comprehensive income). The
remainder of the transition adjustment is attributable to collateralized
debt obligation products that are derivatives under SFAS No. 133. See Note
4 of the Notes to Consolidated Financial Statements in the Company's 2001
Annual Report on Form 10-K.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 applies to the accounting and
reporting obligations associated with the retirement of tangible long-
lived assets and the associated asset retirement costs. This Statement
applies to legal obligations associated with the retirement of long-lived
assets that result from the acquisition, construction, development and/or
the normal operation of a long-lived asset, except for certain obligations
of lessees. Adoption of this Statement is required for fiscal years
beginning after June 15, 2002. Adoption of these provisions will not have
8
a material impact on the financial position or results of operations of
the Company.
Comprehensive Income (Loss)
Comprehensive income includes all changes to shareholders' equity,
including net income (loss), except those resulting from investments by
shareholders and distributions to shareholders. For the three and six
months ended June 30, 2002 and 2001, comprehensive income (loss) totaled
$411.8, $(2,082.4), $423.2 and $(1,457.5), respectively. Comprehensive
income (loss) includes net income (loss), unrealized appreciation
(depreciation) of investments and foreign currency translation gains or
losses.
Reclassifications
Certain amounts applicable to prior periods have been reclassified to
conform to the classifications followed in 2002.
2. Earnings Per Share Attributable to Loews Common Stock and Carolina Group
Stock:
Companies with complex capital structures are required to present basic
and diluted earnings per share. Basic earnings per share excludes dilution
and is computed by dividing net income (loss) attributable to each class
of common stock by the weighted average number of common shares of each
class of common stock outstanding for the period. Diluted earnings 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 and six months ended June 30, 2002 and 2001,
income (loss) per common share assuming dilution is the same as basic
income (loss) per share because the impact of securities that could
potentially dilute basic income (loss) per common share is insignificant
or antidilutive for the periods presented.
Income (loss) per share for each class of common stock was determined
based on the attribution of income (loss) to each class of common stock
for the period divided by the weighted-average number of common shares for
each class of common stock outstanding during the period.
9
The attribution of income (loss) to each class of common stock, for the
three and six months ended June 30, 2002, was as follows:
Three Months Six Months
June 30, June 30,
-------------------------
2002 2002
-------------------------
Loews Common Stock:
Consolidated net income . . . . . . . . . . . . . $201.9 $454.8
Less income attributable to Carolina Group Stock (41.4) (59.4)
-------------------------
Income attributable to Loews Common Stock . . . . $160.5 $395.4
=========================
Carolina Group Stock:
Carolina Group net income . . . . . . . . . . . . $178.8 $329.5
Less net income for January 2002 . . . . . . . . 73.1
-------------------------
Income available to Carolina Group Stock . . . . 178.8 256.4
Economic interest of the Carolina Group Stock . . 23.17% 23.17%
-------------------------
Income attributable to Carolina Group Stock . . . $ 41.4 $ 59.4
=========================
10
3. Consolidating Financial Information:
The Consolidating Condensed Balance Sheets of Loews Corporation as of
June 30, 2002 and December 31, 2001 and the Consolidating Statements of
Operations for the three and six months ended June 30, 2002 and 2001 and
Cash Flows for the six months ended June 30, 2002 and 2001, are as
follows:
CONSOLIDATING STATEMENTS OF OPERATIONS
Adjustments Consolidated
Carolina Loews and Loews
Three Months Ended June 30, 2002 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Revenues:
Insurance premiums . . . . . . . . $ 2,825.4 $ 2,825.4
Investment income, net of expenses $ 10.6 579.2 $ (50.0) (a) 539.8
Investment (losses) gains. . . . . 7.8 (202.8) (195.0)
Manufactured products . . . . . . 1,026.9 40.9 1,067.8
Other . . . . . . . . . . . . . . 0.7 409.9 410.6
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 1,046.0 3,652.6 (50.0) 4,648.6
- ------------------------------------------------------------------------------------------
Expenses:
Insurance claims and
policyholders' benefits . . . . . 2,382.2 2,382.2
Amortization of deferred
acquisition costs . . . . . . . . 461.6 461.6
Cost of manufactured products sold 580.6 19.3 599.9
Other operating expenses (b) . . . 119.5 666.1 785.6
Interest . . . . . . . . . . . . . 50.0 78.2 (50.0) (a) 78.2
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 750.1 3,607.4 (50.0) 4,307.5
- ------------------------------------------------------------------------------------------
295.9 45.2 341.1
- ------------------------------------------------------------------------------------------
Income taxes . . . . . . . . . . . 117.1 7.4 124.5
Minority interest . . . . . . . . 14.7 14.7
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 117.1 22.1 139.2
- ------------------------------------------------------------------------------------------
Income from operations . . . . . . 178.8 23.1 201.9
Equity in earnings of the Carolina
Group . . . . . . . . . . . . . . 137.4 (137.4) (c)
- ------------------------------------------------------------------------------------------
Net income . . . . . . . . . $ 178.8 $ 160.5 $ (137.4) $ 201.9
==========================================================================================
(a) To eliminate interest on the intergroup notional debt.
(b) Includes $0.1 of expenses allocated by the Carolina Group to the Loews Group for
computer related charges and $0.1 of expenses allocated by Loews Group to the Carolina
Group for services provided pursuant to a services agreement, which eliminate in these
consolidating statements.
(c) To eliminate the Loews Group's intergroup interest in the earnings of the Carolina
Group.
11
CONSOLIDATING STATEMENTS OF OPERATIONS
Adjustments Consolidated
Carolina Loews and Loews
Six Months Ended June 30, 2002 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Revenues:
Insurance premiums . . . . . . . . $ 5,661.5 $ 5,661.5
Investment income, net of expenses $ 21.8 1,060.1 $ (79.0) (a) 1,002.9
Investment (losses) gains. . . . . 10.6 (182.1) (171.5)
Manufactured products . . . . . . 2,000.0 72.3 2,072.3
Other . . . . . . . . . . . . . . 0.7 869.1 869.8
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 2,033.1 7,480.9 (79.0) 9,435.0
- ------------------------------------------------------------------------------------------
Expenses:
Insurance claims and
policyholders' benefits . . . . . 4,692.3 4,692.3
Amortization of deferred
acquisition costs . . . . . . . . 902.0 902.0
Cost of manufactured products sold 1,172.9 34.4 1,207.3
Other operating expenses (b) . . . 239.0 1,415.2 1,654.2
Interest . . . . . . . . . . . . . 79.0 154.7 (79.0)(a) 154.7
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 1,490.9 7,198.6 (79.0) 8,610.5
- ------------------------------------------------------------------------------------------
542.2 282.3 824.5
- ------------------------------------------------------------------------------------------
Income taxes . . . . . . . . . . . 212.7 83.3 296.0
Minority interest . . . . . . . . 42.7 42.7
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 212.7 126.0 338.7
- ------------------------------------------------------------------------------------------
Income from operations . . . . . . 329.5 156.3 485.8
Equity in earnings of the Carolina
Group . . . . . . . . . . . . . . 270.1 (270.1)(c)
- ------------------------------------------------------------------------------------------
Income from continuing operations 329.5 426.4 (270.1) 485.8
Discontinued operations-net . . . (31.0) (31.0)
- ------------------------------------------------------------------------------------------
Net income . . . . . . . . . $ 329.5 $ 395.4 $(270.1) $ 454.8
==========================================================================================
(a) To eliminate interest on the intergroup notional debt.
(b) Includes $0.2 of expenses allocated by the Carolina Group to the Loews Group for
computer related charges and $0.2 of expenses allocated by Loews Group to the Carolina
Group for services provided pursuant to a services agreement, which eliminate in these
consolidating statements.
(c) To eliminate the Loews Group's intergroup interest in the earnings of the Carolina
Group.
12
CONSOLIDATING STATEMENTS OF OPERATIONS
Adjustments Consolidated
Carolina Loews and Loews
Three Months Ended June 30, 2001 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Revenues:
Insurance premiums . . . . . . . . $ 1,586.8 $ 1,586.8
Investment income, net of expenses $ 19.9 444.4 464.3
Investment gains . . . . . . . . . 584.1 584.1
Manufactured products . . . . . . 991.0 30.7 1,021.7
Other . . . . . . . . . . . . . . 3.9 479.4 483.3
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 1,014.8 3,125.4 4,140.2
- ------------------------------------------------------------------------------------------
Expenses:
Insurance claims and policyholders'
benefits . . . . . . . . . . . . 4,276.2 4,276.2
Amortization of deferred
acquisition costs . . . . . . . . 450.5 450.5
Cost of manufactured products sold 574.8 14.9 589.7
Other operating expenses (a) . . . 305.9 757.0 1,062.9
Restructuring and other related
charges . . . . . . . . . . . . . 56.1 56.1
Interest . . . . . . . . . . . . . 0.2 92.5 92.7
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 880.9 5,647.2 6,528.1
- ------------------------------------------------------------------------------------------
133.9 (2,521.8) (2,387.9)
- ------------------------------------------------------------------------------------------
Income taxes (benefit) . . . . . . 53.8 (822.1) (768.3)
Minority interest . . . . . . . . (202.5) (202.5)
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 53.8 (1,024.6) (970.8)
- ------------------------------------------------------------------------------------------
Income (loss) from operations . . 80.1 (1,497.2) (1,417.1)
Equity in earnings of the Carolina
Group . . . . . . . . . . . . . . 80.1 $(80.1) (b)
- ------------------------------------------------------------------------------------------
Income (loss) from continuing
operations . . . . . . . . . . . 80.1 (1,417.1) (80.1) (1,417.1)
Discontinued operations-net . . . 1.9 1.9
- ------------------------------------------------------------------------------------------
Net income (loss) . . . . . . $ 80.1 $(1,415.2) $(80.1) $(1,415.2)
==========================================================================================
(a) Includes $0.2 of expenses allocated by the Carolina Group to the Loews Group for
computer related charges and $0.1 expenses allocated by Loews Group to the Carolina
Group for services provided pursuant to a service agreement, which eliminate in these
consolidating statements.
(b) To eliminate the Loews Group's intergroup interest in the earnings of the Carolina
Group.
13
CONSOLIDATING STATEMENTS OF OPERATIONS
Adjustments Consolidated
Carolina Loews and Loews
Six Months Ended June 30, 2001 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Revenues:
Insurance premiums . . . . . . . . $ 4,083.6 $ 4,083.6
Investment income, net of expenses $ 46.6 1,001.0 1,047.6
Investment gains . . . . . . . . . 2.1 989.5 991.6
Manufactured products . . . . . . 1,896.3 62.8 1,959.1
Other . . . . . . . . . . . . . . 5.7 981.5 987.2
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 1,950.7 7,118.4 9,069.1
- ------------------------------------------------------------------------------------------
Expenses:
Insurance claims and policyholders'
benefits . . . . . . . . . . . . 6,345.6 6,345.6
Amortization of deferred
acquisition costs . . . . . . . . 874.1 874.1
Cost of manufactured products sold 1,123.9 29.5 1,153.4
Other operating expenses (a) . . . 420.0 1,499.3 1,919.3
Restructuring and other related
charges . . . . . . . . . . . . . 62.1 62.1
Interest . . . . . . . . . . . . . 0.3 178.7 179.0
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 1,544.2 8,989.3 10,533.5
- ------------------------------------------------------------------------------------------
406.5 (1,870.9) (1,464.4)
- ------------------------------------------------------------------------------------------
Income taxes (benefit) . . . . . . 160.7 (600.6) (439.9)
Minority interest . . . . . . . . (132.8) (132.8)
- ------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . 160.7 (733.4) (572.7)
- ------------------------------------------------------------------------------------------
Income (loss) from operations . . 245.8 (1,137.5) (891.7)
Equity in earnings of the Carolina
Group . . . . . . . . . . . . . . 245.8 $(245.8) (b)
- ------------------------------------------------------------------------------------------
Income (loss) from continuing
operations . . . . . . . . . . . 245.8 (891.7) (245.8) (891.7)
Discontinued operations-net . . . 2.1 2.1
Cumulative effect of changes in
accounting principles-net . . . . (53.3) (53.3)
- ------------------------------------------------------------------------------------------
Net income (loss) . . . . . . $ 245.8 $ (942.9) $(245.8) $ (942.9)
==========================================================================================
(a) Includes $0.4 of expenses allocated by the Carolina Group to the Loews Group for
computer related charges and $0.1 of expenses allocated by Loews Group to the Carolina
Group for services provided pursuant to a service agreement, which eliminate in these
consolidating statements.
(b) To eliminate the Loews Group's intergroup interest in the earnings of the Carolina
Group.
14
CONSOLIDATING CONDENSED BALANCE SHEET
Adjustments Consolidated
Carolina Loews and Loews
June 30, 2002 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Assets:
Investments . . . . . . . . . . . $ 1,883.4 $42,157.5 $44,040.9
Cash . . . . . . . . . . . . . . 1.6 180.5 182.1
Receivables-net . . . . . . . . . 49.3 19,097.6 $ (33.4) (a) 19,113.5
Property, plant and equipment-net 183.3 2,816.5 2,999.8
Deferred income taxes . . . . . . 434.6 289.4 724.0
Goodwill and other intangible
assets-net . . . . . . . . . . . 262.8 262.8
Other assets . . . . . . . . . . 448.4 3,911.8 4,360.2
Investment in combined attributed
net assets of the Carolina Group 1,678.9 (1,678.9) (b)
Deferred acquisition costs of
insurance subsidiaries . . . . . 2,513.4 2,513.4
Separate account business . . . . 3,387.0 3,387.0
- ------------------------------------------------------------------------------------------
Total assets . . . . . . . . $ 3,000.6 $76,295.4 $(1,712.3) $77,583.7
==========================================================================================
Liabilities and Shareholders' Equity:
Insurance reserves . . . . . . . $43,023.5 $43,023.5
Payable for securities purchased 1,916.5 1,916.5
Securities sold under agreements
to repurchase . . . . . . . . . 3,133.0 3,133.0
Long-term debt, less unamortized
discount . . . . . . . . . . . . $ 2,500.0 5,929.5 $(2,500.0) (a) 5,929.5
Reinsurance balances payable . . 2,718.9 2,718.9
Other liabilities . . . . . . . . 1,569.3 3,309.0 (33.4) (a) 4,844.9
Separate account business . . . . 3,387.0 3,387.0
- ------------------------------------------------------------------------------------------
Total liabilities . . . . . 4,069.3 63,417.4 (2,533.4) 64,953.3
- ------------------------------------------------------------------------------------------
Minority interest . . . . . . . . 1,875.1 1,875.1
- ------------------------------------------------------------------------------------------
Shareholders' equity:
Loews Common stock, $1.00 par
value . . . . . . . . . . . . . 191.5 (c) 191.5
Carolina Group Stock, $0.01 par
value . . . . . . . . . . . . . 0.4 (c) 0.4
Additional paid-in capital . . . 1,115.7 (c) 1,115.7
Earnings retained in the
business . . . . . . . . . . . 9,594.7 (c) 9,594.7
Accumulated other comprehensive
income . . . . . . . . . . . . 163.1 (c) 163.1
Combined attributed net assets . (1,068.7) 11,002.9 (9,934.2)(c)
- ------------------------------------------------------------------------------------------
(1,068.7) 11,002.9 1,131.2 11,065.4
Less Loews Common Stock held in
treasury, at cost . . . . . . . (310.1) (310.1)
- ------------------------------------------------------------------------------------------
Total shareholders' equity . (1,068.7) 11,002.9 821.1 10,755.3
- ------------------------------------------------------------------------------------------
Total liabilities and
shareholders' equity . . . $ 3,000.6 $76,295.4 $(1,712.3) $77,583.7
==========================================================================================
(a) To eliminate the intergroup notional debt and interest payable/receivable.
(b) To eliminate the Loews Group's intergroup notional debt receivable and its 76.83%
equity interest in the combined attributed net assets of the Carolina Group.
(c) To eliminate the combined attributed net assets of the Carolina Group and the Loews
Group, and to record the Loews Corporation consolidated equity accounts at the balance
sheet date.
15
CONSOLIDATING CONDENSED BALANCE SHEET
Adjustments Consolidated
Carolina Loews and Loews
December 31, 2001 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Assets:
Investments . . . . . . . . . . . $1,628.9 $39,530.2 $41,159.1
Cash . . . . . . . . . . . . . . 1.7 179.6 181.3
Receivables-net . . . . . . . . . 45.9 19,406.9 19,452.8
Property, plant and equipment-net 181.2 2,894.1 3,075.3
Deferred income taxes . . . . . . 426.6 180.4 607.0
Goodwill and other intangible
assets-net . . . . . . . . . . . 323.8 323.8
Other assets . . . . . . . . . . 485.1 3,744.7 4,229.8
Investment in combined attributed
net assets of the Carolina Group 1,274.5 $ (1,274.5)(a)
Deferred acquisition costs of
insurance subsidiaries . . . . . 2,423.9 2,423.9
Separate account business . . . . 3,798.1 3,798.1
- ------------------------------------------------------------------------------------------
Total assets . . . . . . . . $2,769.4 $73,756.2 $ (1,274.5) $75,251.1
==========================================================================================
Liabilities and Shareholders' Equity:
Insurance reserves . . . . . . . $43,623.9 $43,623.9
Payable for securities purchased 1,365.6 1,365.6
Securities sold under agreements
to repurchase . . . . . . . . . 1,602.4 1,602.4
Long-term debt, less unamortized
discount . . . . . . . . . . . . 5,920.3 5,920.3
Reinsurance balances payable . . 2,722.9 2,722.9
Other liabilities . . . . . . . . $1,494.9 3,100.3 4,595.2
Separate account business . . . . 3,798.1 3,798.1
- ------------------------------------------------------------------------------------------
Total liabilities . . . . . 1,494.9 62,133.5 63,628.4
- ------------------------------------------------------------------------------------------
Minority interest . . . . . . . . 1,973.4 1,973.4
- ------------------------------------------------------------------------------------------
Shareholders' equity:
Loews Common stock, $1.00 par
value . . . . . . . . . . . . . $ 191.5 (b) 191.5
Additional paid-in capital . . . 48.2 (b) 48.2
Earnings retained in the business 9,214.9 (b) 9,214.9
Accumulated other comprehensive
income . . . . . . . . . . . . 194.7 (b) 194.7
Combined attributed net assets . 1,274.5 9,649.3 (10,923.8)(b)
- ------------------------------------------------------------------------------------------
Total shareholders' equity . 1,274.5 9,649.3 (1,274.5) 9,649.3
- ------------------------------------------------------------------------------------------
Total liabilities and
shareholders' equity . . . $2,769.4 $73,756.2 $ (1,274.5) $75,251.1
==========================================================================================
(a) To eliminate the Loews Group's 100% equity interest in the combined attributed net
assets of the Carolina Group.
(b) To eliminate the combined attributed net assets of the Carolina Group and the Loews
Group, and to record the Loews Corporation consolidated equity accounts at the balance
sheet date.
16
CONSOLIDATING STATEMENT OF CASH FLOWS
Adjustments Consolidated
Carolina Loews and Loews
Six Months Ended June 30, 2002 Group Group Eliminations Corporation
- ------------------------------------------------------------------------------------------
Net cash provided by operating
activities . . . . . . . . . . . . $ 344.3 $ 608.1 $ (159.4) $ 793.0
- -----------------------------------------------------------------------------------------
Investing activities:
Purchases of property and equipment (23.5) (166.3) (189.8)
Proceeds from sales of property
and equipment . . . . . . . . . . 2.6 90.2 92.8
Change in short-term investments (146.2) (1,399.1) (1,545.3)
Other investing activities . . . . 218.0 218.0
- -----------------------------------------------------------------------------------------
(167.1) (1,257.2) (1,424.3)
- -----------------------------------------------------------------------------------------
Financing activities:
Dividends paid to shareholders . . (177.3) (57.1) 159.4 (75.0)
Other financing activities . . . . 707.1 707.1
- -----------------------------------------------------------------------------------------
(177.3) 650.0 159.4 632.1
- -----------------------------------------------------------------------------------------
Net change in cash . . . . . . . . (0.1) 0.9 0.8
Cash, beginning of period . . . . . 1.7 179.6 181.3
- -----------------------------------------------------------------------------------------
Cash, end of period . . . . . . . . $ 1.6 $ 180.5 $ 182.1
=========================================================================================
Six Months Ended June 30, 2001
- ------------------------------------------------------------------------------------------
Net cash provided (used) by
operating activities $ 448.0 $ (398.1) $ (250.0) $ (200.1)
- -----------------------------------------------------------------------------------------
Investing activities:
Purchases of property and equipment (14.4) (215.5) (229.9)
Proceeds from sales of property
and equipment . . . . . . . . . . 10.2 262.4 272.6
Change in short-term investments . (194.2) (331.7) (525.9)
Other investing activities . . . . 978.0 978.0
- -----------------------------------------------------------------------------------------
(198.4) 693.2 494.8
- -----------------------------------------------------------------------------------------
Financing activities:
Dividends paid to shareholders . . (250.0) (54.2) 250.0 (54.2)
Other financing activities . . . . (270.3) (270.3)
- -----------------------------------------------------------------------------------------
(250.0) (324.5) 250.0 (324.5)
- -----------------------------------------------------------------------------------------
Net change in cash . . . . . . . . . (0.4) (29.4) (29.8)
Cash, beginning of period . . . . . 1.4 193.8 195.2
- -----------------------------------------------------------------------------------------
Cash, end of period . . . . . . . . $ 1.0 $ 164.4 $ 165.4
=========================================================================================
17
4. Reinsurance:
CNA assumes and cedes reinsurance with other insurers and reinsurers and
members of various reinsurance pools and associations. CNA utilizes
reinsurance arrangements to limit its maximum loss, provide greater
diversification of risk, minimize exposures on larger risks and to exit
certain lines of business. Reinsurance coverages are tailored to the
specific risk characteristics of each product line and CNA's retained
amount varies by type of coverage. Generally, property risks are reinsured
on an excess of loss, per risk basis. Liability coverages are generally
reinsured on a quota share basis in excess of CNA's retained risk. CNA's
life reinsurance includes coinsurance, yearly renewable term and
facultative programs.
CNA's overall reinsurance program includes certain property-casualty
contracts, such as the corporate aggregate reinsurance treaties discussed
in more detail later in this section, that are entered into and accounted
for on a "funds withheld" basis. Under the funds withheld basis, CNA
records the cash remitted to the reinsurer for the reinsurer's margin, or
cost of the reinsurance contract, as ceded premiums. The remainder of the
premiums ceded under the reinsurance contract is recorded as a funds
withheld liability. CNA is required to increase the funds withheld balance
at stated interest crediting rates applied to the funds withheld balance
or as otherwise specified under the terms of the contract. The funds
withheld liability is reduced by any cumulative claim payments made by CNA
in excess of CNA's retention under the reinsurance contract. If the funds
withheld liability is exhausted, interest crediting will cease and
additional claim payments are recoverable from the reinsurer. The funds
withheld liability is recorded in reinsurance balances payable in the
Consolidated Condensed Balance Sheets.
Interest cost on these contracts is credited during all periods in which
a funds withheld liability exists. Interest cost, which is included in
investment income, was $57.0 and $86.0 for the second quarter of 2002 and
2001 and $115.0 and $122.0 for the six months ended June 30, 2002 and
2001. The amount subject to interest crediting rates on such contracts was
$2,889.0 and $2,724.0 at June 30, 2002 and December 31, 2001.
The amount subject to interest crediting on these funds withheld
contracts will vary over time based on a number of factors, including the
timing of loss payments and ultimate gross losses incurred. CNA expects
that it will continue to incur significant interest costs on these
contracts for several years.
The ceding of insurance does not discharge the primary liability of CNA.
Therefore, a credit exposure exists with respect to property-casualty and
life reinsurance ceded to the extent that any reinsurer is unable to meet
the obligations assumed under reinsurance agreements.
18
The effects of reinsurance on earned premiums are shown in the following
table:
Direct Assumed Ceded Net
-------------------------------------------
Six Months Ended June 30, 2002
-------------------------------------------
Property-casualty . . . . . . . . . . . . . . $ 4,882.0 $ 409.0 $1,897.0 $ 3,394.0
Accident and health . . . . . . . . . . . . . 1,859.0 75.0 4.0 1,930.0
Life . . . . . . . . . . . . . . . . . . . . 538.0 18.0 218.0 338.0
-------------------------------------------
Total . . . . . . . . . . . . . . . . . $ 7,279.0 $ 502.0 $2,119.0 $ 5,662.0
===========================================
Direct Assumed Ceded Net
-------------------------------------------
Six Months Ended June 30, 2001
-------------------------------------------
Property-casualty . . . . . . . . . . . . . . $ 3,926.0 $ 372.0 $2,304.0 $ 1,994.0
Accident and health . . . . . . . . . . . . . 1,753.0 137.0 139.0 1,751.0
Life . . . . . . . . . . . . . . . . . . . . 559.0 119.0 339.0 339.0
-------------------------------------------
Total . . . . . . . . . . . . . . . . . $ 6,238.0 $ 628.0 $2,782.0 $ 4,084.0
===========================================
For 2002, CNA has entered into an aggregate reinsurance treaty covering
substantially all of its property-casualty lines of business (the "2002
Cover"). The loss protection provided by the 2002 Cover is dependent on
the level of subject premium, but there is a maximum aggregate limit of
$1,125.0. Maximum ceded premium under the contract is $683.0, and
premiums, claims recoveries and interest charges other than the
reinsurer's margin and related fees are made on a funds withheld basis.
Interest is credited on funds withheld at 8.0% per annum, and all premiums
are deemed to have been paid as of January 1, 2002. Ceded premium related
to the reinsurer's margin in the amount of $2.0 and $5.0 was recorded for
the 2002 Cover for the three and six months ended June 30, 2002.
The aggregate reinsurance protection from the 2002 Cover attaches at a
defined accident year loss and allocated loss adjustment expense
(collectively, losses) ratio. Under the contract, CNA has the right to
elect to cede losses to the 2002 Cover when its recorded accident year
losses exceed the attachment point. This election period expires March 31,
2004. If no losses are ceded by this date, the contract is considered to
be commuted. If CNA elects to cede any losses to the 2002 Cover, it must
continue to cede all losses subject to the terms of the contract.
In 1999, CNA entered into an aggregate reinsurance treaty related to the
1999 through 2001 accident years covering substantially all of CNA's
property-casualty lines of business (the "Aggregate Cover"). CNA has two
sections of coverage under the terms of the Aggregate Cover. These
coverages attach at defined loss ratios for each accident year. Coverage
under the first section of the Aggregate Cover, which is available for all
accident years covered by the contract, has annual limits of $500.0 of
ceded losses with an aggregate limit of $1,000.0 of ceded losses for the
three year period. The ceded premiums are a percentage of ceded losses and
for each $500.0 of limit the ceded premium is $230.0. The second section
19
of the Aggregate Cover, which was only utilized for accident year 2001,
provides additional coverage of up to $510.0 of ceded losses for a maximum
ceded premium of $310.0. Under the Aggregate Cover, interest charges on
the funds withheld accrue at 8.0% per annum. If the aggregate loss ratio
for the three-year period exceeds certain thresholds, additional premiums
may be payable and the rate at which interest charges are accrued would
increase to 8.25% per annum commencing in 2006.
The coverage under the second section of the Aggregate Cover was
triggered for the 2001 accident year. As a result of losses related to the
September 11, 2001 World Trade Center Disaster and related events, the
limit under this section was exhausted. Additionally, as a result of the
significant reserve additions recorded in the second quarter of 2001, the
$500.0 limit on the 1999 accident year under the first section was also
fully utilized. No losses have been ceded to the remaining $500.0 of limit
on accident years 2000 and 2001 under the first section.
The impact of the Aggregate Cover on pretax operating results was as
follows:
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------------------
2002 2001 2002 2001
- -------------------------------------------------------------------------------------------
Ceded earned premiums . . . . . . . . . . . . $(418.0) $(460.0)
Ceded claim and claim adjustment expenses . . 683.0 722.0
Interest charges . . . . . . . . . . . . . . $(12.0) (53.0) $(25.0) (59.0)
- -------------------------------------------------------------------------------------------
Pretax impact on operating results . . . . . $(12.0) $ 212.0 $(25.0) $ 203.0
===========================================================================================
In 2001, CNA entered into a one-year aggregate reinsurance treaty
related to the 2001 accident year covering substantially all property-
casualty lines of business in the Continental Casualty Company pool (the
"CCC Cover"). The loss protection provided by the CCC Cover has an
aggregate limit of approximately $760.0 of ceded losses. The ceded
premiums are a percentage of ceded losses and for the $760.0 of limit, the
ceded premium is $456.0. The CCC Cover provides continuous coverage in
excess of the second section of the Aggregate Cover discussed above. Under
the CCC Cover, interest charges on the funds withheld generally accrue at
8.0% per annum. The interest rate increases to 10.0% per annum if the
aggregate loss ratio exceeds certain thresholds. Losses of $563.0 have
been ceded under the CCC Cover through June 30, 2002.
20
The impact of the CCC Cover on pretax operating results was as follows:
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------------------
2002 2001 2002 2001
- -------------------------------------------------------------------------------------------
Ceded earned premiums . . . . . . . . . . . . $ (2.0) $(61.0) $ (2.0)
Ceded claim and claim adjustment expenses . . 93.0
Interest charges . . . . . . . . . . . . . . $(6.0) (16.0)
- -------------------------------------------------------------------------------------------
Pretax impact on operating results . . . . . $(6.0) $ (2.0) $ 16.0 $ (2.0)
===========================================================================================
5. Other Investments:
Other invested assets include investments in limited partnerships and
certain derivative securities. The Company's limited partnership
investments are recorded at fair value, typically reflecting a reporting
lag of up to three months, with changes in fair value reported in
investment income, net of expenses. Fair value of the Company's limited
partnership investments represents the Company's equity in the
partnership's net assets as determined by the general partner. The
carrying value of the Company's limited partnership investments was
$1,498.6 and $1,307.0 as of June 30, 2002 and December 31, 2001.
Limited partnerships are a relatively small portion of the Company's
overall investment portfolio. The majority of the limited partnerships
invest in a substantial number of securities that are readily marketable.
The Company is a passive investor in such partnerships and does not have
influence over the partnerships' management, who are committed to operate
them according to established guidelines and strategies. These strategies
may include the use of leverage and hedging techniques that potentially
introduce more volatility and risk to the partnerships.
The Company has committed approximately $172.0 to future capital calls
from various third-party limited partnership investments in exchange for
an ownership interest in the related partnerships.
21
6. Receivables:
June 30, December 31,
2002 2001
- --------------------------------------------------------------------------
Reinsurance . . . . . . . . . . . . . . . . . $13,775.1 $13,823.4
Other insurance . . . . . . . . . . . . . . . 4,050.6 4,006.4
Security sales . . . . . . . . . . . . . . . 914.9 648.1
Accrued investment income . . . . . . . . . . 421.4 398.3
Federal income taxes . . . . . . . . . . . . 586.6
Other . . . . . . . . . . . . . . . . . . . . 322.8 353.7
- --------------------------------------------------------------------------
Total . . . . . . . . . . . . . . . . . 19,484.8 19,816.5
Less allowance for doubtful accounts and cash
discounts . . . . . . . . . . . . . . . . . 371.3 363.7
- --------------------------------------------------------------------------
Receivables-net . . . . . . . . . . . . $19,113.5 $19,452.8
==========================================================================
7. Claim and Claim Adjustment Expense Reserves:
CNA's property-casualty insurance claim and claim adjustment expense
reserves represent the estimated amounts necessary to settle all
outstanding claims, including claims that are incurred but not reported,
as of the reporting date. CNA's reserve projections are based primarily
on detailed analysis of the facts in each case, CNA'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 and public
attitudes. All of these factors can affect the estimation of reserves.
Establishing loss reserves, including loss 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 general liability and professional liability
claims. Adjustments to prior year reserve estimates, if necessary, are
reflected in operating results in the period that the need for such
adjustments is determined.
22
Environmental Pollution and Mass Tort and Asbestos Reserves ("APMT")
CNA's property-casualty insurance subsidiaries have potential exposures
related to environmental pollution and mass tort and asbestos claims. The
following table provides data related to claim and claim adjustment
expense reserves.
June 30, 2002 December 31, 2001
-------------------------------------------------------------------------------------------
Environmental Environmental
Pollution Pollution
and Mass and Mass
Tort Asbestos Tort Asbestos
-------------------------------------------------------------------------------------------
Gross reserves . . . . . . . . . . . $ 754.0 $1,572.0 $ 820.0 $1,590.0
Less ceded reserves . . . . . . . . (195.0) (353.0) (203.0) (386.0)
-------------------------------------------------------------------------------------------
Net reserves . . . . . . . . . . . . $ 559.0 $1,219.0 $ 617.0 $1,204.0
===========================================================================================
Environmental pollution cleanup is the subject of both federal and state
regulation. By some estimates, there are thousands of potential waste
sites subject to cleanup. The insurance industry is involved in extensive
litigation regarding coverage issues. Judicial interpretations in many
cases have expanded the scope of coverage and liability beyond the
original intent of the policies. The Comprehensive Environmental Response
Compensation and Liability Act of 1980 ("Superfund") and comparable state
statutes ("mini-Superfunds") govern the cleanup and restoration of toxic
waste sites and formalize the concept of legal liability for cleanup and
restoration by "Potentially Responsible Parties" ("PRPs"). Superfund and
the mini-Superfunds establish mechanisms to pay for cleanup of waste sites
if PRPs fail to do so, and to assign liability to PRPs. The extent of
liability to be allocated to a PRP is dependent upon a variety of factors.
Further, the number of waste sites subject to cleanup is unknown. To date,
approximately 1,500 cleanup sites have been identified by the
Environmental Protection Agency ("EPA") and included on its National
Priorities List ("NPL"). State authorities have designated many cleanup
sites as well.
Many policyholders have made claims against various CNA insurance
subsidiaries for defense costs and indemnification in connection with
environmental pollution matters. These claims relate to accident years
1989 and prior, which coincides with CNA's adoption of the Simplified
Commercial General Liability coverage form, which includes what is
referred to in the industry as an "absolute pollution exclusion." CNA and
the insurance industry are disputing coverage for many such claims. Key
coverage issues include whether cleanup costs are considered damages under
the policies, trigger of coverage, allocation of liability among triggered
policies, applicability of pollution exclusions and owned property
exclusions, the potential for joint and several liability and the
definition of an occurrence. To date, courts have been inconsistent in
their rulings on these issues.
A number of proposals to reform Superfund have been made by various
parties. However, no reforms were enacted by Congress during 2001 or the
first six months of 2002, and it is unclear what positions Congress or the
administration will take and what legislation, if any, will result in the
23
future. If there is legislation, and in some circumstances even if there
is no legislation, the federal role in environmental cleanup may be
significantly reduced in favor of state action. Substantial changes in the
federal statute or the activity of the EPA may cause states to reconsider
their environmental cleanup statutes and regulations. There can be no
meaningful prediction of the pattern of regulation that would result or
the effect upon CNA's results of operations and/or financial position.
Due to the inherent uncertainties described above, including the
inconsistency of court decisions, the number of waste sites subject to
cleanup, and the standards for cleanup and liability, the ultimate
liability of CNA for environmental pollution claims may vary substantially
from the amount currently recorded.
As of June 30, 2002 and December 31, 2001, CNA carried approximately
$559.0 and $617.0 of claim and claim adjustment expense reserves, net of
reinsurance recoverables, for reported and unreported environmental
pollution and mass tort claims. There was no environmental pollution and
mass tort net development for the three and six months ended June 30,
2002. Unfavorable environmental pollution and mass tort development for
the three and six months ended June 30, 2001 amounted to $449.0 and
$453.0.
The reserve strengthening in the second quarter of 2001 for
environmental pollution and mass tort reserves was due to reviews
completed during the year, which indicated that paid and reported losses
were higher than expectations based on prior year reviews. Factors that
have led to this development include a number of declaratory judgments
filed in 2001 due to an increasingly favorable legal environment for
policyholders in certain courts involving environmental pollution and mass
tort claims, and other unfavorable decisions regarding cleanup issues. Due
to the uncertainties created by these factors, the ultimate liability of
CNA for mass tort claims may also vary substantially from the amount
currently recorded.
CNA's property-casualty insurance subsidiaries also have exposure to
asbestos-related claims. Estimation of asbestos-related claim and claim
adjustment expense reserves involves many of the same limitations
discussed above for environmental pollution claims, such as inconsistency
of court decisions, specific policy provisions, allocation of liability
among insurers and insureds, and additional factors such as missing
policies and proof of coverage. Furthermore, estimation of asbestos-
related claims is difficult due to, among other reasons, the proliferation
of bankruptcy proceedings and attendant uncertainties, the targeting of a
broader range of businesses and entities as defendants, the uncertainty as
to which other insureds may be targeted in the future, and the
uncertainties inherent in predicting the number of future claims.
As of June 30, 2002 and December 31, 2001, CNA carried approximately
$1,219.0 and $1,204.0 of net claim and claim adjustment expense reserves,
net of reinsurance recoverables, for reported and unreported asbestos-
related claims. There was no asbestos net claim and claim adjustment
expense development for the three and six months ended June 30, 2002.
Unfavorable asbestos net claim and claim adjustment reserve development
for the three and six months ended June 30, 2001 amounted to $748.0 and
$769.0. CNA has attempted to manage its asbestos-related exposures by
aggressively resolving older claims.
24
The reserve strengthening in the second quarter of 2001 for asbestos-
related claims was based on a management review of developments with
respect to these exposures conducted in the second quarter. This analysis
indicated a significant increase in claim counts for asbestos-related
claims. The factors that led to the deterioration in claim counts
included, among other things, intensive advertising campaigns by lawyers
for asbestos claimants and the addition of new defendants such as the
distributors and installers of asbestos containing products. New claim
filings increased significantly in 2000 over 1999 and that trend continued
in 2001 and the first half of 2002. The volume of new claims caused the
bankruptcies of numerous asbestos defendants. Those bankruptcies also may
result in increased liability for remaining defendants under principles of
joint and several liability. In some bankruptcy proceedings asbestos
claimants may assert an entitlement to policy proceeds upon confirmation
of a plan of reorganization, rather than when claims would ordinarily be
paid to all claimants. If such assertions are made successfully, they
could have the effect of accelerating claims payment patterns.
In addition, some asbestos-related defendants asserted that their claims
for insurance are not subject to aggregate limits on coverage. CNA has
such claims from a number of insureds. Some of these claims involve
insureds facing exhaustion of products liability aggregate limits in their
policies, who have asserted that their asbestos-related claims fall within
so-called "non-products" liability coverage contained within their
policies rather than products liability coverage, and that the claimed
"non-products" coverage is not subject to any aggregate limit. It is
difficult to predict the ultimate size of any of the claims for coverage
not subject to aggregate limits or predict to what extent, if any, the
attempts to assert "non-products" claims outside the products liability
aggregate will succeed.
Due to the uncertainties created by volatility in claim numbers and
settlement demands, the effect of bankruptcies, the extent to which non-
impaired claimants can be precluded from making claims and the efforts by
insureds to obtain coverage not subject to aggregate limits, the ultimate
liability of CNA for asbestos-related claims may vary substantially from
the amount currently recorded. Other variables that will influence CNA's
ultimate exposure to asbestos-related claims will be medical inflation
trends, jury attitudes, the strategies of plaintiff attorneys to broaden
the scope of defendants, the mix of asbestos-related diseases presented
and the possibility of legislative reform. Adverse developments with
respect to such matters discussed in this paragraph could have a material
adverse effect on the Company's results of operations and/or financial
condition.
The results of operations and financial condition of the Company in
future years may continue to be adversely affected by environmental
pollution and mass tort and asbestos claim and claim adjustment expenses.
Management will continue to review and monitor these liabilities and make
further adjustments, including the potential for further reserve
strengthening, as warranted.
25
Second Quarter 2001 Prior Year Reserve Strengthening
During the second quarter of 2001, CNA noted the continued emergence of
adverse loss experience across several lines of business related to prior
years, which are discussed in further detail below. CNA completed a number
of reserve studies during the second quarter of 2001 for many of its lines
of business, including those in which these adverse trends were noted.
With respect to APMT reserves, CNA reviewed internal claims data as well
as studies generated by external parties, including a significant industry
analysis of asbestos and environmental pollution exposures by an
international rating agency. As a result of these various reviews,
management concluded that ultimate losses, including losses for APMT
claims, would be higher in the range of possible outcomes than previously
estimated. CNA recorded a pretax charge of $2,616.0 ($1,479.5 after-tax
and minority interest) of reserve strengthening, net of the related
corporate aggregate reinsurance treaty benefit, associated with a change
in estimate of prior year net loss reserves, including $1,197.0 pretax
($677.0 after-tax and minority interest) related to APMT.
The second quarter 2001 reserve strengthening and related items
comprising the amounts noted above are detailed in the following table.
Three Months Ended
June 30, 2001
------------------
Net reserve strengthening, excluding the impact
of the corporate aggregate reinsurance treaty
APMT . . . . . . . . . . . . . . . . . . . . . $1,197.0
Non-APMT . . . . . . . . . . . . . . . . . . . 1,594.0
--------
Total . . . . . . . . . . . . . . . . . . . 2,791.0
Pretax benefit from corporate aggregate
reinsurance treaty on accident year 1999 (1) . . (223.0)
Accrual for insurance-related assessments . . . . 48.0
--------
Net reserve strengthening and related accruals 2,616.0
--------
Change in estimate of premium accruals . . . . . 616.0
Reduction of related commission accruals. . . . . (50.0)
--------
Net premium and related accrual reductions. . . 566.0
--------
Total reserve strengthening and related accruals $3,182.0
========
(1) $500.0 of ceded losses reduced by $230.0 of ceded premiums and $47.0
of interest charges.
The non-APMT adverse reserve development was the result of analyses of
several lines of business. This development related principally to
commercial insurance coverages including automobile liability and
multiple-peril, as well as assumed reinsurance and health care related
coverages. A brief summary of these lines of business and the associated
reserve development is discussed below.
26
Approximately $600.0, excluding the impact of the corporate aggregate
reinsurance treaty, of the adverse reserve development was a result of
analyses of several coverages provided to commercial entities written by
various segments of CNA. These analyses showed unexpected increases in the
size of claims for several lines, including commercial automobile
liability, general liability and the liability portion of commercial
multiple-peril. In addition, the number of commercial automobile liability
claims was higher than expected. Finally, several state-specific factors
resulted in higher than anticipated losses, including developments
associated with commercial automobile liability coverage in Ohio and
general liability coverage provided to contractors in New York.
An analysis of CNA Re's assumed reinsurance business showed that the
paid and reported losses for recent accident years were higher than
expectations and resulted in an increase of net reserves of approximately
$560.0, excluding the impact of the corporate aggregate reinsurance
treaty. The estimated ultimate loss ratios for these recent accident years
have been revised to reflect the paid and reported losses.
Approximately $320.0 of adverse reserve development, excluding the
impact of the corporate aggregate reinsurance treaty, was recorded in
Specialty Lines and was caused by coverages provided to health care
related entities. The level of paid and reported losses associated with
coverages provided to national long-term care facilities was higher than
expected. In addition, the average size of claims resulting from coverages
provided to physicians and institutions providing health care related
services increased more than expected.
Concurrent with CNA's review of loss reserves, CNA completed
comprehensive studies of estimated premium receivable accruals on
retrospectively rated insurance policies and involuntary market
facilities. The studies included the review of all such retrospectively
rated insurance policies and the estimates of ultimate losses.
As a result of this review and changes in premiums associated with the
change in estimates for loss reserves, CNA recorded a pretax reduction in
premium accruals of $566.0. The effect on net earned premiums was $616.0
offset by a reduction of accrued commissions of $50.0. Approximately
$188.0 of this amount resulted from a change in estimate in premiums
related to involuntary market facilities, which had an offsetting impact
on net losses and therefore had no impact on the net operating results in
2001. Accruals for ceded premiums related to other reinsurance treaties
increased $83.0 due to the reserve strengthening. The remainder of the
decrease in premium accruals relates to the change in estimate of the
amount of retrospective premium receivables as discussed above.
27
8. Shareholders' equity:
June 30, December 31,
2002 2001
- --------------------------------------------------------------------------
Preferred stock, $0.10 par value,
Authorized--100,000,000 shares
Common stock:
Loews Common Stock, $1.00 par value:
Authorized--600,000,000 shares
Issued-191,506,800 and 191,493,300 shares $ 191.5 $ 191.5
Carolina Group Stock, $0.01 par value:
Authorized--600,000,000 shares
Issued and outstanding-40,250,000 shares 0.4
Additional paid-in capital . . . . . . . . . 1,115.7 48.2
Earnings retained in the business . . . . . . 9,594.7 9,214.9
Accumulated other comprehensive income . . . 163.1 194.7
- --------------------------------------------------------------------------
11,065.4 9,649.3
Less Loews common stock (5,401,600 shares)
held in treasury, at cost . . . . . . . . . 310.1
- --------------------------------------------------------------------------
Total shareholders' equity . . . . . . . . . $10,755.3 $ 9,649.3
==========================================================================
During the second quarter of 2002, CNA recorded $292.0 pretax of
impairment losses, principally on corporate bonds. Included in the second
quarter 2002 impairment writedowns were $129.0 related to debt securities
issued by WorldCom Inc. and $74.0 related to Adelphia Communications
Corporation, both of which have recently filed for bankruptcy. These
securities were written down to estimated net realizable value of $33.0
and $29.0, respectively. The remaining $89.0 of impairment writedowns
related primarily to issuers in the telecommunications sector. Of the
total amount of impairment writedowns, $76.0 and $17.0 are included in
accumulated other comprehensive income as unrealized losses during the
three and six months ended June 30, 2002.
9. Restructuring and Other Related Charges:
2001 Restructuring
In 2001, CNA finalized and approved two separate restructuring plans. The
first plan related to CNA's Information Technology operations (the "IT
Plan"). The second plan related to restructuring the property-casualty
segments and Life Operations, discontinuation of the variable life and
annuity business and consolidation of real estate locations (the "2001
Plan").
IT Plan
The overall goal of the IT Plan was to improve technology for the
underwriting function and throughout CNA and to eliminate inefficiencies
in the deployment of IT resources. The changes facilitate a strong focus
on enterprise-wide system initiatives. The IT Plan had two main
28
components, which included the reorganization of IT resources into the
Technology and Operations Group with a structure based on centralized,
functional roles and the implementation of an integrated technology
roadmap that included common architecture and platform standards that
directly support CNA's strategies.
For the three and six months ended June 30, 2001, CNA incurred $56.1 and
$62.1 pretax of restructuring and other related charges for the IT Plan
primarily related to employee severance charges and the write-off of
impaired assets.
No restructuring and other related charges related to the IT Plan have
been incurred in 2002; however, payments were made during the six months
ended June 30, 2002 related to amounts accrued as of December 31, 2001.
The following table summarizes the remaining IT Plan accrual at June 30,
2002 and the activity in that accrual since inception.
IT Plan Accrual
Employee
Termination Impaired
And Related Asset Other
Benefit Costs Charges Costs Total
- -------------------------------------------------------------------------------------------
IT Plan initial accrual . . . . . . . . . . . . $ 29.0 $ 32.0 $1.0 $ 62.0
Costs that did not require cash in 2001 . . . . (32.0) (32.0)
Payments charges against liability in 2001 . . . (19.0) (19.0)
- -------------------------------------------------------------------------------------------
Accrued costs at December 31, 2001 . . . . . . . 10.0 1.0 11.0
Payments charged against liability in 2002 . . . (1.0) (1.0)
- -------------------------------------------------------------------------------------------
Accrued costs at June 30, 2002 . . . . . . . . . $ 9.0 $ $1.0 $ 10.0
===========================================================================================
The IT Plan is not expected to result in decreased operating expenses in
the foreseeable future because savings from the workforce reduction will
be used to fund new technology-related initiatives. Employee termination
and related benefit payments will continue through 2004 due to employment
contract obligations.
2001 Plan
The overall goal of the 2001 Plan was to create a simplified and leaner
organization for customers and business partners. The major components of
the plan included a reduction in the number of strategic business units
("SBUs") in the property-casualty operations, changes in the strategic
focus of the Life Operations and consolidation of real estate locations.
The reduction in the number of property-casualty SBUs resulted in
consolidation of SBU functions, including underwriting, claims, marketing
and finance. The strategic changes in Life Operations included a decision
to discontinue writing variable life and annuity business.
No restructuring and other related charges related to the 2001 Plan have
been incurred in 2002; however, payments were made during the six months
ended June 30, 2002 related to amounts accrued as of December 31, 2001.
The following table summarizes the remaining 2001 Plan accrual as of June
30, 2002 and the activity in that accrual since inception.
29
2001 Plan Accrual
Employee
Termination Lease Impaired
and Related Termination Asset Other
Benefit Costs Costs Charges Costs Total
- -------------------------------------------------------------------------------------------
2001 Plan initial accrual . . . . . . $ 68.0 $ 56.0 $ 30.0 $ 35.0 $189.0
Costs that did not require cash
in 2001 . . . . . . . . . . . . . . (35.0) (35.0)
Payments charged against liability
in 2001 . . . . . . . . . . . . . . (2.0) (2.0)
- -------------------------------------------------------------------------------------------
Accrued costs at December 31, 2001 . 66.0 56.0 30.0 152.0
Costs that did not require cash
in 2002 . . . . . . . . . . . . . . (25.0) (25.0)
Payments charged against liability
in 2002 . . . . . . . . . . . . . . (45.0) (10.0) (1.0) (56.0)
- -------------------------------------------------------------------------------------------
Accrued costs at June 30, 2002 . . . $ 21.0 $ 46.0 $ 4.0 $ $ 71.0
===========================================================================================
10. Significant Transactions:
National Post Mail Handlers Union Contract Termination
During the second quarter of 2002, CNA announced the sale of the Claims
Administration Corporation and the transfer of the National Post Mail
Handlers Union group benefits plan (the "Plan") to First Health Group
Corp., effective July 1, 2002.
The assets and liabilities of the Claims Administration Corporation and
the Plan were $319.0 and $308.0 at June 30, 2002 and $352.0 and $350.0 at
December 31, 2001. The revenues of the Claims Administration Corporation
and Plan were $537.0 and $516.0 for the three months ended June 30, 2002
and 2001 and $1,153.0 and $1,049.0 for the six months ended June 30, 2002
and 2001.
Net operating income from the Claims Administration Corporation and the
Plan was $3.6 and $1.7 for the three months ended June 30, 2002 and 2001
and $6.2 and $5.2 for the six months ended June 30, 2002 and 2001.
CNA Vida Disposition
In March of 2002, CNA completed the sale of the common stock of CNA
Holdings Limited and its subsidiaries ("CNA Vida"), CNA's life operations
in Chile, to Consorcio Financiero S.A. ("Consorcio"). In connection with
the sale, CNA received proceeds of $73.0 and recorded a loss from
discontinued operations of $31.0. This loss is composed of $32.8 realized
loss on the sale of CNA Vida and income of $1.8 from CNA Vida's operations
for 2002.
CNA Vida's assets and liabilities at December 31, 2001 were $442.0 and
$337.0. CNA Vida's net earned premiums were $16.0 for the three months
ended June 30, 2001 and $24.0 and $49.0 for the six months ended June 30,
2002 and 2001. Net operating income was $1.7 for the three months ended
June 30, 2001 and $1.8 and $1.7 for the six months ended June 30, 2002 and
2001. CNA Vida's results of operations, including the loss on sale, is
presented as discontinued operations in all periods presented.
30
Other Dispositions and Planned Dispositions of Certain Businesses
During the second quarter of 2001, CNA announced its intention to sell
certain businesses. The assets being held for disposition included the
U.K. subsidiaries of CNA Re ("CNA Re U.K.") and certain other businesses.
Based upon the impairment analyses performed at that time, CNA anticipated
that it would realize losses in connection with those planned sales. In
determining the anticipated loss from these sales, CNA estimated the net
realizable value of each business being held for sale. An estimated loss
of $278.4 (after-tax and minority interest) was initially recorded in the
second quarter of 2001. This loss was reported as investment losses in the
Statement of Operations.
CNA continues to monitor the impairment losses recorded for these
businesses and perform updated impairment analyses. Based on the analyses,
the impairment loss has been reduced by approximately $170.0, primarily
because the net assets of the businesses had been significantly diminished
by their operating losses, including adverse loss reserve development
recognized by CNA Re U.K. in the fourth quarter of 2001.
In the fourth quarter of 2001, CNA sold certain businesses as planned.
The realized after-tax and minority interest loss applicable to these
businesses recognized in the second quarter of 2001 was $33.1. Revenues of
these businesses included in the three and six months ended June 30, 2001
totaled approximately $18.0 and $25.0. Net operating losses related to
these businesses included in the three and six months ended June 30, 2001
were approximately $12.2 and $14.8.
At June 30, 2002, CNA Re U.K. and certain other businesses remain held
for sale. On July 15, 2002, CNA announced that it signed a share purchase
agreement to sell CNA Re U.K. to Tawa U.K. Limited, a subsidiary of
Artemis Group, a French conglomerate. The share purchase agreement
includes all remaining business underwritten since inception by CNA Re
U.K. The sale is subject to approval in the United Kingdom by the
Financial Services Authority. Additionally, certain aspects of the
transaction also require approval by the Illinois Insurance Department,
which will also conduct a comprehensive review of the terms of the
transaction. While there can be no assurance that the transaction will
close, management believes that all conditions necessary to close,
including regulatory approvals, will be satisfied and that such closing
will occur by the end of 2002. This sale does not impact CNA Re's on-going
U.S.-based operations.
CNA Re U.K. will be sold for one dollar, subject to a completion
adjustment at closing primarily driven by certain operating results
between January 1, 2002 and closing and changes in interest rates. No
additional impairment loss is expected based upon the terms of the sale
agreement.
Concurrent with the sale, several reinsurance agreements under which CCC
had provided retrocessional protection to CNA Re U.K. will be commuted. As
part of the sale, CNA Re U.K.'s net exposure to all IGI Program
liabilities will be ceded to CCC and CCC will provide a $100.0 stop loss
cover attaching at carried reserves on CNA Re U.K.'s 2001 underwriting
year exposures, both for the benefit of the buyer. See Note 13 for
discussion of the IGI Program.
31
The statutory surplus of CNA Re U.K., was below the required regulatory
minimum surplus level at December 31, 2001. CCC contributed $120.0 of
capital on March 25, 2002 bringing the capital above the regulatory
minimum.
As of June 30, 2002, CNA Re U.K. contributed revenues of approximately
$19.0 and $82.0 for the three months ended June 30, 2002 and 2001, and
$42.0 and $163.0 for the six months ended June 30, 2002 and 2001. CNA Re
U.K. contributed net operating income of $1.8 and losses of $59.2 in the
three months ended June 30, 2002 and 2001 and income of $3.6 and losses of
$58.3 for the six months ended June 30, 2002 and 2001. The assets and
liabilities of CNA Re U.K., after excluding the effects of planned
concurrent transactions, were approximately $2,300.0 and $2,300.0 as of
June 30, 2002 and $2,600.0 and $2,600.0 as of December 31, 2001.
The businesses sold in 2002 excluding both CNA Vida and the National
Post Mail Handlers Contract, and those that continue to be held for
disposition as of June 30, 2002, excluding CNA Re U.K., contributed
revenues of approximately $6.0 and $34.0 for the three months ended June
30, 2002 and 2001, and $36.0 and $73.0 for the six months ended June 30,
2002 and 2001. Additionally, these businesses contributed net operating
losses of $10.7 and $7.8 in the three months ended June 30, 2002 and 2001
and $13.3 and $12.2 for the six months ended June 30, 2002 and 2001. The
assets and liabilities of these businesses were approximately $645.0 and
$638.0 as of June 30, 2002 and $763.0 and $750.0 as of December 31, 2001.
All anticipated sales are expected to be completed in 2002.
11. Discontinued Operations:
The Company reports CNA's net assets of discontinued operations, which
primarily consist of run-off operations discontinued in the mid-1990's, in
other assets in the Consolidated Condensed Balance Sheets. The following
table provides more detailed information regarding those net assets.
June 30, December 31,
2002 2001
- --------------------------------------------------------------------------
Total investments . . . . . . . . . . . . . . $ 483.0 $ 467.0
Other assets . . . . . . . . . . . . . . . . 260.0 264.0
Insurance reserves . . . . . . . . . . . . . (421.0) (412.0)
Other liabilities . . . . . . . . . . . . . . (24.0) (25.0)
- -------------------------------------------------------------------------
Net assets of discontinued operations . . . . $ 298.0 $ 294.0
=========================================================================
32
12. Business Segments:
Loews Corporation is a holding company. Its subsidiaries are engaged in
the following lines of business: property, casualty and life insurance
(CNA Financial Corporation, a 90% owned subsidiary); the production and
sale of cigarettes (Lorillard, Inc., a wholly owned subsidiary); the
operation of hotels (Loews Hotels Holding Corporation, a wholly owned
subsidiary); the operation of offshore oil and gas drilling rigs (Diamond
Offshore Drilling, Inc., a 53% owned subsidiary); and the distribution and
sale of watches and clocks (Bulova Corporation, a 97% owned subsidiary).
Each operating entity is responsible for the operation of its specialized
business and is headed by a chief executive officer having the duties and
authority commensurate with that position.
CNA's insurance products include property and casualty coverages; life,
accident and health insurance; and retirement products and annuities.
CNA's services include risk management, information services, health care
management and claims administration. CNA's products and services are
marketed through agents, brokers, managing general agents and direct
sales.
During the second quarter of 2002, Group Reinsurance, the business which
assumes reinsurance from unaffiliated entities on group life, accident and
health products as well as excess medical risk coverages for self-funded
employers, was transferred from Group Operations to the Other Insurance
segment to be included as part of run-off insurance operations. Also, CNA
Trust, a limited-operations bank specializing in 401(k) plan
administration, was transferred from Life Operations to Group Operations.
Segment disclosures of prior periods have been restated to conform to the
current period presentation.
The Other Insurance segment is comprised primarily of losses and
expenses related to the centralized adjusting and settlement of APMT
claims, certain run-off insurance operations and other operations. This
segment's results also include interest expense on CNA's corporate
borrowings, eBusiness initiatives and CNA UniSource.
Lorillard's principal products are marketed under the brand names of
Newport, Kent, True, Maverick and Old Gold with substantially all of its
sales in the United States.
Loews Hotels owns and/or operates 18 hotels, 16 of which are in the
United States and two are in Canada. There is also a property in the
United States under development with an opening date scheduled in 2004.
Diamond Offshore's business primarily consists of operating 45 offshore
drilling rigs that are chartered on a contract basis for fixed terms by
companies engaged in exploration and production of hydrocarbons. Offshore
rigs are mobile units that can be relocated based on market demand. As of
June 30, 2002, 28 of these rigs were located in the Gulf of Mexico, 5 were
located in Brazil and the remaining 12 were located in various foreign
markets.
Bulova distributes and sells watches and clocks under the brand names of
Bulova, Wittnauer, Caravelle and Accutron with substantially all of its
sales in the United States and Canada. All watches and clocks are
purchased from foreign suppliers.
33
The accounting policies of the segments are the same as those described
in the summary of significant accounting policies in Note 1 of the Notes
to Consolidated Financial Statements in the Annual Report on Form 10-K for
the year ended December 31, 2001. In addition, CNA does not maintain a
distinct investment portfolio for each of its insurance segments, and
accordingly, allocation of assets to each segment is not performed.
Therefore, investment income and investment gains (losses) are allocated
based on each segment's carried insurance reserves, as adjusted.
The following tables set forth the Company's consolidated revenues and
income by business segment:
Three Months Ended Six Months Ended
June 30, June 30,
-----------------------------------------------
2002 2001 2002 2001
-----------------------------------------------
Revenues (a):
CNA Financial:
Property-casualty . . . . . . . . . . $ 2,045.6 $ 1,245.6 $ 4,051.6 $ 3,336.5
Life . . . . . . . . . . . . . . . . 366.6 484.4 818.6 967.2
Group . . . . . . . . . . . . . . . . 862.0 865.2 1,822.1 1,728.0
Other Insurance . . . . . . . . . . . 43.4 112.7 73.2 245.0
- -------------------------------------------------------------------------------------------
Total CNA Financial . . . . . . . . . 3,317.6 2,707.9 6,765.5 6,276.7
Lorillard . . . . . . . . . . . . . . . 1,037.9 1,014.8 2,022.2 1,948.7
Loews Hotels . . . . . . . . . . . . . 82.0 91.2 159.2 176.0
Diamond Offshore . . . . . . . . . . . 187.8 239.3 391.9 463.7
Bulova . . . . . . . . . . . . . . . . 41.2 31.7 73.6 64.6
Corporate . . . . . . . . . . . . . . . (17.9) 55.3 22.6 139.4
- -------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . . . . . . $ 4,648.6 $ 4,140.2 $ 9,435.0 $ 9,069.1
===========================================================================================
Income (loss) before taxes, minority
interest, discontinued operations and
cumulative effect of changes in
accounting principles:
CNA Financial:
Property-casualty . . . . . . . . . . $ 92.1 $(1,493.1) $ 232.3 $(1,117.2)
Life . . . . . . . . . . . . . . . . (17.2) 110.9 49.9 243.6
Group . . . . . . . . . . . . . . . . 21.6 28.5 51.2 52.8
Other Insurance . . . . . . . . . . . (48.4) (1,255.4) (111.9) (1,238.0)
- -------------------------------------------------------------------------------------------
Total CNA Financial . . . . . . . . . 48.1 (2,609.1) 221.5 (2,058.8)
Lorillard . . . . . . . . . . . . . . . 337.9 133.9 610.4 404.4
Loews Hotels . . . . . . . . . . . . . 10.3 15.1 19.8 23.8
Diamond Offshore . . . . . . . . . . . 8.6 57.1 36.3 104.3
Bulova . . . . . . . . . . . . . . . . 4.6 3.3 7.6 7.6
Corporate . . . . . . . . . . . . . . . (68.4) 11.8 (71.1) 54.3
- -------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . . . . . . $ 341.1 $(2,387.9) $ 824.5 $(1,464.4)
===========================================================================================
34
Three Months Ended Six Months Ended
June 30, June 30,
-----------------------------------------------
2002 2001 2002 2001
-----------------------------------------------
Net income (loss) (a):
CNA Financial:
Property-casualty . . . . . . . . . $ 57.7 $ (889.9) $ 141.2 $ (671.3)
Life . . . . . . . . . . . . . . . . (9.7) 63.4 28.8 138.1
Group . . . . . . . . . . . . . . . 12.8 17.7 30.6 33.2
Other Insurance . . . . . . . . . . (26.9) (723.4) (63.1) (719.5)
- -------------------------------------------------------------------------------------------
Total CNA Financial .. . . . . . . . 33.9 (1,532.2) 137.5 (1,219.5)
Lorillard . . . . . . . . . . . . . . 203.9 80.1 370.6 244.5
Loews Hotels . . . . . . . . . . . . . 6.7 9.6 12.7 15.1
Diamond Offshore . . . . . . . . . . 1.7 17.8 10.4 32.5
Bulova . . . . . . . . . . . . . . . . 2.6 1.8 4.2 4.2
Corporate . . . . . . . . . . . . . . (46.9) 5.8 (49.6) 31.5
- -------------------------------------------------------------------------------------------
Income from continuing operations . . 201.9 (1,417.1) 485.8 (891.7)
Discontinued operations-net . . . . . 1.9 (31.0) 2.1
Cumulative effect of changes in
accounting principles - net . . . . . (53.3)
- -------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . . . . . $ 201.9 $(1,415.2) $ 454.8 $ (942.9)
===========================================================================================
(a) Investment gains (losses) included in Revenues and Net income (loss) are as follows:
Three Months Ended Six Months Ended
June 30, June 30,
-----------------------------------------------
2002 2001 2002 2001
-----------------------------------------------
Revenues:
CNA Financial:
Property-casualty . . . . . . . . . $ (62.7) $ 416.0 $ (51.7) $ 613.3
Life . . . . . . . . . . . . . . . . (74.0) 73.6 (60.6) 142.1
Group . . . . . . . . . . . .. . . . (6.2) 8.2 1.3 13.0
Other Insurance . . . . . . . . . . (19.4) 69.2 (50.3) 169.4
- -------------------------------------------------------------------------------------------
Total CNA Financial . . . . . . . . . (162.3) 567.0 (161.3) 937.8
Corporate and other . . . . . . . . . (32.7) 17.1 (10.2) 53.8
- -------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . . . . . $ (195.0) $ 584.1 $(171.5) $ 991.6
===========================================================================================
Net income (loss):
CNA Financial:
Property-casualty . . . . . . . . . $ (36.3) $ 194.5 $ (28.3) $ 303.7
Life . . . . . . . . . . . . . . . . (42.0) 41.1 (34.7) 78.7
Group . . . . . . . . . . . . . . . (3.5) 4.7 0.8 7.4
Other Insurance . . . . . . . . . . (12.1) 31.4 (29.5) 88.8
- -------------------------------------------------------------------------------------------
Total CNA Financial . . . . . . . . . (93.9) 271.7 (91.7) 478.6
Corporate and other . . . . . . . . . (24.0) 9.0 (10.4) 31.0
- -------------------------------------------------------------------------------------------
Total . . . . . . . . . . . . . . . . $ (117.9) $ 280.7 $(102.1) $ 509.6
===========================================================================================
35
13. Legal Proceedings and Contingent Liabilities:
INSURANCE RELATED
Tobacco Litigation
Four CNA insurance subsidiaries are defendants in a lawsuit arising out
of policies allegedly issued to Liggett Group, Inc. ("Liggett"). The
lawsuit was filed by Liggett and its current parent, Brooke Group Holding
Inc., in the Delaware Superior Court, New Castle County, on January 26,
2000. The lawsuit, which involves numerous insurers, concerns coverage
issues relating to over 1,000 tobacco-related claims asserted against
Liggett over the past 20 years. However, Liggett only began submitting
claims for coverage under the policies in January 2000. The trial court
granted the CNA insurance subsidiaries' summary judgment motions asserting
that they have no duty to defend or to indemnify as to a number of
representative lawsuits. On May 16, 2002, the Delaware Supreme Court
affirmed the trial court's grant of summary judgment to CNA and other
insurers.
IGI Contingency
In 1997, CNA Reinsurance Company Limited ("CNA Re Ltd.") entered into an
arrangement with IOA Global, Ltd. ("IOA"), an independent managing general
agent based in Philadelphia, Pennsylvania, to develop and manage a book of
accident and health coverages. Pursuant to this arrangement, IGI
Underwriting Agencies, Ltd. ("IGI"), a personal accident reinsurance
managing general underwriter, was appointed to underwrite and market the
book under the supervision of IOA. Between April 1, 1997 and December 1,
1999, IGI underwrote a number of reinsurance arrangements with respect to
personal accident insurance worldwide (the "IGI Program"). Under various
arrangements, CNA Re Ltd. both assumed risks as a reinsurer and also ceded
a substantial portion of those risks to other companies, including other
CNA insurance subsidiaries and ultimately to a group of reinsurers
participating in a reinsurance pool known as the Associated Accident and
Health Reinsurance Underwriters ("AAHRU") Facility. CNA's Group Operations
business unit participated as a pool member in the AAHRU Facility in
varying percentages between 1997 and 1999.
CNA has determined that a small portion of the premiums assumed under
the IGI Program related to United States workers compensation "carve-out"
business. CNA is aware that a number of reinsurers with workers
compensation carve-out insurance exposure have disavowed their obligations
under various legal theories. If one or more such companies are successful
in avoiding or reducing their liabilities, then it is likely that CNA's
potential liability will also be reduced. Moreover, based on information
known at this time, CNA reasonably believes it has strong grounds for
avoiding a substantial portion of its United States workers compensation
carve-out exposure through legal action.
As noted, CNA arranged substantial reinsurance protection to manage its
exposures under the IGI Program. CNA believes it has valid and enforceable
reinsurance contracts with the AAHRU Facility and other reinsurers with
respect to the IGI Program, including the United States workers
compensation carve-out business. However, certain reinsurers dispute their
liabilities to CNA, and CNA has commenced arbitration proceedings against
such reinsurers.
36
CNA has established reserves for its estimated exposure under the
program and an estimate for recoverables from retrocessionaires.
CNA is pursuing a number of loss mitigation strategies. Although the
results of these various actions to date support the recorded reserves,
the estimate of ultimate losses is subject to considerable uncertainty. As
a result of these uncertainties, the results of operations in future years
may be adversely affected by potentially significant reserve additions.
Management does not believe that any such reserve additions will be
material to the equity of CNA.
California Wage and Hour Litigation
In Ernestine Samora, et al. v. Continental Casualty Company, Case No. BC
242487, Superior Court of California, County of Los Angeles, California
and Brian Wenzel v. Galway Insurance Company, Superior Court of
California, County of Orange No. BC01CC08868 (coordinated), two former CNA
employees filed lawsuits in Los Angeles Superior Court on behalf of
purported classes of CNA employees asserting they worked hours for which
they should have been compensated at a rate of 1 1/2 times their base
hourly wage over a four-year period. The cases were coordinated and an
amended complaint was filed which alleges overtime claims under California
law over a four year period. In June 2002, CNA filed a responsive pleading
denying the material allegations of the amended complaint. CNA intends to
defend this case vigorously. Due to the recent commencement of discovery
and the uncertainty of California law as applied to the facts of these
cases, an estimate of the extent of losses or the probability of success
on liability is subject to considerable uncertainty. Based on facts and
circumstances currently known, in the opinion of management, the outcome
will not materially affect the equity of the Company, although results of
operations may be adversely affected.
Voluntary Market Premium Litigation
CNA, along with dozens of other insurance companies, is a defendant in
sixteen purported class action cases brought by large policyholders, which
generally allege that the defendants, as part of an industry-wide
conspiracy, included improper charges in their retrospectively rated and
other loss-sensitive insurance premiums. Fourteen lawsuits were brought as
class actions in state courts and one in federal court. Among the claims
asserted were violations of state antitrust laws, breach of contract,
fraud and unjust enrichment. In two of the cases, the defendants won
dismissals on motions and, in three others, class certification was denied
after hearing. Plaintiffs voluntarily dismissed their claims in three
states. In the federal court case, Sandwich Chef of Texas, Inc., at al. v.
Reliance National Indemnity Insurance Company, et al., Civil Action No. H-
98-1484, United States District Court for the Southern District of Texas,
the district court certified a multi-state class. The U.S. Court of
Appeals for the Fifth Circuit granted leave for an interlocutory appeal.
An estimate of the extent of losses or the probability of success on
liability is subject to considerable uncertainty. Based on facts and
circumstances currently known, in the opinion of management, the outcome
of the voluntary market premium litigation cases will not materially
affect the equity of the Company, although results of operations may be
adversely affected.
37
Other Contingencies
CNA has a commitment to purchase a $100.0 floating rate note issued by
the California Earthquake Authority in the event California earthquake-
related insurance losses exceed $4,900.0 prior to December 31, 2002.
CNA is obligated to make future payments totaling $433.0 for non-
cancelable operating leases expiring from 2002 through 2014 primarily for
office space and data processing, office and transportation equipment.
Estimated future minimum payments under these contracts are as follows:
$50.0 in 2002; $85.0 in 2003; $65.0 in 2004; $57.0 in 2005; and $176.0 in
2006 and beyond. Additionally, CNA has entered into a limited number of
guaranteed payment contracts, primarily relating to telecommunication
services, amounting to approximately $34.0. Estimated future minimum
purchases under these contracts are as follows: $8.0 in 2002; $13.0 in
2003; $10.0 in 2004; and $3.0 in 2005.
NON-INSURANCE
TOBACCO RELATED
Approximately 4,575 product liability cases are pending against
cigarette manufacturers in the United States; Lorillard is a defendant in
approximately 4,185 of these cases. Lawsuits continue to be filed against
Lorillard and other manufacturers of tobacco products. Some of the
lawsuits also name the Company as a defendant. Among the 4,575 product
liability cases are approximately 1,200 cases pending in a West Virginia
court. Another group of approximately 2,800 cases has been brought by
flight attendants alleging injury from exposure to environmental tobacco
smoke in the cabins of aircraft. Lorillard is a defendant in all of the
flight attendant suits and is a defendant in most of the cases pending in
West Virginia.
Excluding the flight attendant and West Virginia suits, approximately
570 product liability cases are pending against U.S. cigarette
manufacturers. Of these 570 cases, Lorillard is a defendant in
approximately 240 cases. The Company is a defendant in approximately 45 of
these actions, although it has not received service of process in
approximately 10 of them.
Tobacco litigation includes various types of claims. In these actions,
plaintiffs claim substantial compensatory, statutory and punitive damages,
as well as equitable and injunctive relief, in amounts ranging into the
billions of dollars. These claims are based on a number of legal theories
including, among other theories, theories of negligence, fraud,
misrepresentation, strict liability, breach of warranty, enterprise
liability (including claims asserted under the Racketeering Influenced and
Corrupt Organizations Act), civil conspiracy, intentional infliction of
harm, violation of consumer protection statutes, violation of antitrust
statutes, and failure to warn of the harmful and/or addictive nature of
tobacco products.
Some cases have been brought by individual plaintiffs who allege cancer
and/or other health effects resulting from an individual's use of
cigarettes and/or smokeless tobacco products, addiction to smoking or
exposure to environmental tobacco smoke. These cases are generally
referred to as "conventional product liability cases." In other cases,
plaintiffs have brought claims as purported class actions on behalf of
large numbers of individuals for damages allegedly caused by smoking.
38
These cases are generally referred to as purported "class action cases."
In other cases, plaintiffs are U.S. and foreign governmental entities or
entities such as labor unions, private companies, hospitals or hospital
districts, American Indian tribes, or private citizens suing on behalf of
taxpayers. Plaintiffs in these cases seek reimbursement of health care
costs allegedly incurred as a result of smoking, as well as other alleged
damages. These cases are generally referred to as "reimbursement cases."
In addition, there are claims for contribution and/or indemnity in
relation to asbestos claims filed by asbestos manufacturers or the
insurers of asbestos manufacturers. These cases are generally referred to
as "claims for contribution."
In addition to the above, claims have been brought against Lorillard
seeking damages resulting from alleged exposure to asbestos fibers which
were incorporated into filter material used in one brand of cigarettes
manufactured by Lorillard for a limited period of time, ending more than
40 years ago. These cases are generally referred to as "filter cases."
Approximately 40 filter cases are pending against Lorillard. The number of
pending filter cases has approximately doubled during 2002. The Company is
a defendant in one of the pending filter cases.
Lorillard believes that it has valid defenses to the cases pending
against it. Lorillard also believes it has valid bases for appeal of the
adverse verdicts against it. To the extent the Company is a defendant in
any of the lawsuits described in this section, the Company believes that
it is not a proper defendant in these matters and has moved or plans to
move for dismissal of all such claims against it. Litigation is subject to
many uncertainties and it is possible that some of these actions could be
decided unfavorably. Lorillard will continue to maintain a vigorous
defense in all such litigation. Lorillard may enter into discussions in an
attempt to settle particular cases if it believes it is appropriate to do
so.
While Lorillard intends to defend vigorously all smoking and health
related litigation which may be brought against it, it is not possible to
predict the outcome of any of this litigation. Litigation is subject to
many uncertainties, and it is possible that some of these actions could be
decided unfavorably.
In addition, adverse developments in relation to smoking and health,
including the release in 1998 of industry documents, have received
widespread media attention. These developments may reflect adversely on
the tobacco industry and, together with adverse outcomes in pending cases,
could have adverse effects on the ability of Lorillard to prevail in
smoking and health litigation and could prompt the filing of additional
litigation.
Except for the impact of the State Settlement Agreements as described
below, Lorillard is unable to make a meaningful estimate of the amount or
range of loss that could result from an unfavorable outcome of pending
litigation. It is possible that the Company's results of operations or
cash flows in a particular quarterly or annual period or its financial
position could be materially affected by an unfavorable outcome of certain
pending litigation.
SIGNIFICANT RECENT DEVELOPMENTS
During August of 2002, the California Supreme Court issued two rulings
in separate cases in which it addressed the effect of an amendment to a
39
statute in effect in the state between January 1, 1988, and December 31,
1997 (the "immunity period"). In one of its rulings, the California
Supreme Court held that the amendment conferred immunity to cigarette
manufacturers in product liability actions for conduct engaged in during
the immunity period, regardless of when a plaintiff may have sustained or
discovered an injury allegedly caused by the cigarette manufacturers. In
the second decision issued during August of 2002, the California Supreme
Court held that, within the immunity period, immunity does not extend to
allegations that the cigarette manufacturers "used additives that exposed
smokers to dangers beyond those commonly known to be associated with
cigarette smoking." The California Supreme Court did not precisely define
the term "additives," nor did it expressly state how the phrase "dangers
beyond those commonly known to be associated with cigarette smoking"
should be considered.
During July of 2002, the U.S. District Court for the Eastern District of
New York issued a ruling in a reimbursement suit filed by private
citizens, Mason v. The American Tobacco Company, Inc., et al., that denied
plaintiffs' motion for class certification on behalf of U.S. taxpayers and
granted defendants' motion to dismiss the case. Plaintiffs have noticed an
appeal to the U.S. Court of Appeals for the Second Circuit.
During June of 2002, a jury impaneled by the Circuit Court of Dade
County, Florida, returned a verdict in favor of the plaintiff in a suit
filed by a flight attendant, French v. Philip Morris Incorporated, et al.
The jury awarded plaintiff $2.0 for past damages and $3.5 for future
damages. The suit was filed pursuant to the settlement agreement in the
Broin case and plaintiff was not permitted to seek recovery of punitive
damages. The defendants, including Lorillard, have filed a joint motion to
set aside the verdict and for entry of judgment in accordance with their
motions for directed verdict. In the alternative, defendants seek a new
trial and/or remittitur of the damages awarded to the plaintiff. The
Circuit Court of Dade County, Florida has heard argument of this motion
and has taken it under advisement.
During June of 2002, a jury impaneled by the Circuit Court of Dade
County, Florida, returned a verdict in favor of the plaintiffs and against
the defendants in a suit by individuals against other cigarette
manufacturers, Lukacs v. Brown & Williamson Tobacco Corporation, et al.
Plaintiffs were awarded $0.5 in economic damages, $24.5 in non-economic
damages and $12.5 in damages for loss of consortium. Plaintiffs did not
seek punitive damages at trial as they contend they are entitled to a
portion of the amount awarded in the Engle case. A final judgment will not
be entered in the case until the Engle appeal is resolved. Neither the
Company nor Lorillard were defendants in this suit at trial.
During June of 2002, an intermediate court of appeal in Oregon affirmed
the verdict returned in favor of the plaintiff in the case of Williams v.
Philip Morris Incorporated and reinstated the jury's award of $79.5 in
punitive damages. Philip Morris has filed a petition for rehearing with
the Oregon Court of Appeals that asks the court to reconsider its June
decision. As of August 1, 2002, the Oregon Court of Appeals had not ruled
on the petition for rehearing. Neither the Company nor Lorillard were
defendants in this action.
During May of 2002, a jury impaneled by the Circuit Court of Pinellas
County, Florida, returned a verdict in favor of the defendant in the case
of Tune v. Philip Morris Incorporated. A final judgment has not been
40
entered and the time for plaintiff to seek post-verdict remedies has not
expired. Neither the Company nor Lorillard were defendants in this action.
During April of 2002, the U.S. District Court for the Middle District of
North Carolina granted a motion for class certification on behalf of
tobacco farmers in the case of DeLoach v. Philip Morris Inc., et al. The
class members contend that U.S. cigarette manufacturers conspired to set
the prices they offered to U.S. growers for tobacco. An estimated 500,000
farmers are members of the class. Defendants sought permission to appeal
the District Court's class certification decision to the Fourth Circuit
Court of Appeals, and in June of 2002 a three judge panel of that court
declined to accept the appeal. A motion for reconsideration by the full
court was also denied, and discovery is proceeding in the case.
During March of 2002, a jury impaneled by the Circuit Court of Multnomah
County, Oregon, returned a verdict in favor of the plaintiff in a suit
brought against another cigarette manufacturer, Schwarz v. Philip Morris
Incorporated. The jury awarded plaintiff approximately one hundred
nineteen thousand dollars in economic damages, fifty thousand dollars in
non-economic damages and $150.0 in punitive damages. Many of plaintiff's
claims were directed to allegations that the defendant had made false
representations regarding the low tar cigarettes smoked by the decedent.
The court granted in part the defendant's motion for elimination or
reduction of the punitive damages award and reduced the punitive damages
verdict to $100.0. The court denied the defendant's motion for new trial
and for judgment notwithstanding the verdict. Philip Morris has noticed an
appeal to the Oregon Court of Appeals. Neither the Company nor Lorillard
are defendants in this matter.
During March of 2002, a jury impaneled by the U.S. District Court for
the District of Rhode Island returned a verdict in favor of the only
defendant in a case against another U.S. cigarette manufacturer, Hyde v.
Philip Morris Incorporated. The court denied plaintiffs' motion for new
trial. Plaintiff did not notice an appeal from the judgment in favor of
Philip Morris Incorporated. Neither the Company nor Lorillard were
defendants in this matter.
During February of 2002, the U.S. District Court for the Eastern
District of New York entered an order in the case of Blue Cross and Blue
Shield of New Jersey, et al. v. Philip Morris Incorporated, et al., a
health plan reimbursement case, that awarded plaintiffs' counsel
approximately $38.0 in attorneys' fees from the defendants, including
Lorillard. The award of attorneys' fees followed from a 2001 verdict in
favor of one of the plan plaintiffs that is asserting claims in the case,
Empire Blue Cross and Blue Shield. Defendants are pursuing a single appeal
from the judgment reflecting the verdict and from the order awarding
attorneys' fees.
During February of 2002, a jury impaneled by the U.S. District Court for
the District of Kansas returned a verdict in favor of the plaintiff in a
case against other U.S. cigarette manufacturers, Burton v. R.J. Reynolds
Tobacco Company, et al. The jury awarded plaintiff approximately $0.2 in
actual damages and found that plaintiff had presented evidence that
entitled him to an award of punitive damages from one of the two
defendants in the case. Pursuant to Kansas law, the amount plaintiff was
awarded in punitive damages was set by the court. During June of 2002, the
court issued an order awarding plaintiff $15.0 in punitive damages from
R.J. Reynolds. R.J. Reynolds' post-trial motions were denied and it has
41
noticed an appeal to the U.S. Court of Appeals for the Tenth Circuit.
Neither the Company nor Lorillard are defendants in this matter.
During July of 2002, the U.S. District Court for the Northern District
of Georgia granted defendants' motion for summary judgment in a case
brought against Lorillard and other domestic and international cigarette
manufacturers by tobacco product wholesalers for violations of U.S.
antitrust laws. The decision entirely dismissed nine cases that were
consolidated for pre-trial purposes. The plaintiffs have filed a notice of
appeal in the U.S. Court of Appeals for the Eleventh Circuit.
SETTLEMENT OF STATE REIMBURSEMENT LITIGATION - On November 23, 1998,
Lorillard, Philip Morris Incorporated, Brown & Williamson Tobacco
Corporation and R.J. Reynolds Tobacco Company, the "Original Participating
Manufacturers," entered into a Master Settlement Agreement with 46 states,
the District of Columbia, the Commonwealth of Puerto Rico, Guam, the U.S.
Virgin Islands, American Samoa and the Commonwealth of the Northern
Mariana Islands to settle the asserted and unasserted health care cost
recovery and certain other claims of those states. These settling entities
are generally referred to as the "Settling States." The Original
Participating Manufacturers had previously settled similar claims brought
by Mississippi, Florida, Texas and Minnesota, which together with the
Master Settlement Agreement are generally referred to as the "State
Settlement Agreements."
The State Settlement Agreements provide that the agreements are not
admissions, concessions or evidence of any liability or wrongdoing on the
part of any party, and were entered into by the Original Participating
Manufacturers to avoid the further expense, inconvenience, burden and
uncertainty of litigation.
Lorillard recorded pretax charges of $291.9, $302.1, $587.7 and $581.3
for the three and six months ended June 30, 2002 and 2001, respectively,
to account for its obligations under the State Settlement Agreements.
Lorillard's portion of ongoing adjusted payments and legal fees is based
on its share of domestic cigarette shipments in the year preceding that in
which the payment is due. Accordingly, Lorillard records its portions of
ongoing settlement payments as part of cost of manufactured products sold
as the related sales occur.
The State Settlement Agreements require that the domestic tobacco
industry make annual payments in the following amounts, subject to
adjustment for several factors, including inflation, market share and
industry volume: 2002, $11,300.0; 2003, $10,900.0; 2004 through 2007,
$8,400.0; and thereafter, $9,400.0. In addition, the domestic tobacco
industry is required to pay settling plaintiffs' attorneys' fees, subject
to an annual cap of $500.0, as well as additional amounts of $250.0 per
annum for 2002 through 2003. These payment obligations are the several and
not joint obligations of each settling defendant.
The State Settlement Agreements also include provisions relating to
significant advertising and marketing restrictions, public disclosure of
certain industry documents, limitations on challenges to tobacco control
and underage use laws, and other provisions.
In addition, as part of the Master Settlement Agreement, the Original
Participating Manufacturers committed to work cooperatively with the
tobacco growing community to address concerns about the potential adverse
economic impact on that community. On January 21, 1999, the Original
42
Participating Manufacturers reached an agreement to establish a $5,200.0
trust fund payable between 1999 and 2010 to compensate the tobacco growing
communities in 14 states. Payments to the trust fund are to be allocated
among the Original Participating Manufacturers according to their relative
market share of domestic cigarette shipments, except that Philip Morris
paid more than its market share in 1999 but will have its payment
obligations reduced in 2009 and 2010 to make up for the overpayment. Of
the total $5,200.0, a total of $1,211.0 was paid since 1999 through June
30, 2002, of which $102.0 was paid by Lorillard. Lorillard believes its
remaining payments under the agreement will total approximately $413.0.
All payments will be adjusted for inflation, changes in the unit volume of
domestic cigarette shipments, and the effect of new increases in state or
federal excise taxes on tobacco products that benefit the tobacco growing
community.
The Company believes that the State Settlement Agreements will
materially adversely affect its cash flows and operating income in future
years. The degree of the adverse impact will depend, among other things,
on the rates of decline in U.S. cigarette sales in the premium price and
discount price segments, Lorillard's share of the domestic premium price
and discount price cigarette segments, and the effect of any resulting
cost advantage of manufacturers not subject to significant payment
obligations under the State Settlement Agreements. Almost all domestic
manufacturers have agreed to become subject to the terms of the Master
Settlement Agreement.
CONVENTIONAL PRODUCT LIABILITY CASES - Conventional product liability
cases are cases in which individuals allege they or their decedents have
been injured due to smoking cigarettes, due to exposure to environmental
tobacco smoke, due to use of smokeless tobacco products, or due to
cigarette or nicotine dependence or addiction. Plaintiffs in most
conventional product liability cases seek unspecified amounts in
compensatory damages and punitive damages. Lorillard is a defendant in
approximately 1,270 of these cases. This total includes approximately
1,100 cases pending in West Virginia that are part of a consolidated
proceeding. Additional cases are pending against other cigarette
manufacturers. The Company is a defendant in seven of the cases filed by
individuals, although six of the cases have not been served on the
Company. The Company is not a defendant in any of the conventional product
liability cases pending in West Virginia.
Since January 1, 2000, 17 cases filed by individual plaintiffs have been
tried. Lorillard was a defendant in three of the 17 cases, and juries
returned verdicts in favor of the defendants in each of these three
matters. The Company was not a defendant in any of the 17 conventional
product liability cases tried since January 1, 2000. As of August 1, 2002,
no trials were proceeding in any matter filed by individuals against
Lorillard or the Company, or, to our knowledge, against any other U.S.
cigarette manufacturer. Lorillard understands that a trial against another
cigarette manufacturer has begun in the Superior Court of California, Los
Angeles County.
Lorillard was not a defendant in 14 of the individual cases tried since
January 1, 2000. Juries have returned verdicts in favor of the defendants
in six of the cases. In one of the suits, a court granted the motion for
directed verdict filed by the defendant at the conclusion of plaintiff's
evidence. In the seven cases decided in plaintiffs' favor, juries have
awarded various amounts. During 2002, an Oregon jury awarded the plaintiff
approximately $0.17 in actual damages and $150.0 in punitive damages. In a
43
second 2002 trial, a Kansas jury awarded a plaintiff $.2 in actual damages
and found that plaintiff had presented evidence that entitled him to
recover an award for punitive damages. The court subsequently awarded
plaintiff $15.0 in punitive damages. In a third trial in 2002, a jury
awarded the plaintiffs $0.5 in economic damages, $24.5 in noneconomic
damages and $12.5 in damages for loss of consortium. In 2001, a Florida
jury awarded plaintiff $0.17 in actual damages but declined to award
punitive damages, while a California jury awarded another plaintiff
approximately $5.5 in actual damages and $3,000.0 in punitive damages,
although the court subsequently reduced the punitive damages award to
$100.0. During 2000, a California jury awarded plaintiffs $21.5 and a
Florida jury awarded plaintiff $0.2.
As a result of pending appeals or post-trial motions, plaintiffs have
not been able to execute on any of the judgments reflecting these adverse
verdicts. In all but two of these matters, defendants have noticed appeals
to the appropriate courts of appeal. In the case in Florida in which
plaintiff was awarded $0.2 in 2000, the trial court granted the
defendant's post-trial motion and entered judgment in its favor.
Plaintiff, however, has noticed an appeal. In one of the matters tried
during 2002, the deadline for defendants to notice an appeal has not
expired as a final judgment will not be entered until an appeal is
resolved in the Engle class action case discussed below.
Appeals also are pending in two cases in which adverse verdicts were
returned prior to January 1, 2000. Neither Lorillard nor the Company is a
defendant in either of these matters. In one of these matters, the
California Supreme Court issued a ruling during January of 2002 that
accepted for review the defendant's appeal from a 1999 judgment by a
California court that reflects an award to a California plaintiff of
$26.5. The California Court of Appeal, in rulings issued during 2001,
affirmed this judgment and subsequently denied the defendant's motion for
rehearing. In the second of these matters, the Oregon Court of Appeals
issued an order during June of 2002 that affirmed the jury's verdict in
favor of the plaintiff and reinstated the full amount of the $79.5
punitive damages award. The defendant has filed a petition for
reconsideration of this ruling. As of August 1, 2002, the Oregon Court of
Appeals had not ruled on the petition.
Some cases against U.S. cigarette manufacturers and manufacturers of
smokeless tobacco products are scheduled for trial during 2002 and beyond.
These trials include a consolidated trial of the cases brought by
approximately 1,200 West Virginia smokers or users of smokeless tobacco
products that is scheduled to begin during June of 2003. Lorillard is a
defendant in some of the cases set for trial, including the consolidated
West Virginia trial. The trial dates are subject to change.
FLIGHT ATTENDANT CASES - There are approximately 2,800 cases pending in
the Circuit Court of Dade County, Florida against Lorillard and three
other U.S. cigarette manufacturers in which the plaintiffs are present or
former flight attendants, or the estates of deceased flight attendants,
who allege injury as a result of exposure to environmental tobacco smoke
in aircraft cabins. The Company is not a defendant in any of the flight
attendant cases.
The suits were filed as a result of a settlement agreement on October
10, 1997 by the parties to Broin v. Philip Morris Companies, Inc., et al.
(Circuit Court, Dade County, Florida, filed October 31, 1991), a class
action brought on behalf of flight attendants claiming injury as a result
44
of exposure to environmental tobacco smoke. The trial court approved the
settlement agreement on February 3, 1998. Pursuant to the settlement
agreement, among other things, Lorillard and three other U.S. cigarette
manufacturers paid approximately $300.0 to create and endow a research
institute to study diseases associated with cigarette smoke. In addition,
the settlement agreement permitted the plaintiff class members to file
individual suits. These individuals may not seek punitive damages for
injuries that arose prior to January 15, 1997.
During October of 2000, the Circuit Court of Dade County, Florida
entered an order that may be construed to hold that the flight attendants
are not required to prove the substantive liability elements of their
claims for negligence, strict liability and breach of implied warranty in
order to recover damages. The court further ruled that the trials of these
suits are to address whether the plaintiffs' alleged injuries were caused
by their exposure to environmental tobacco smoke and, if so, the amount of
damages to be awarded. It is not clear how the trial judges will apply
this order. The Florida Third District Court of Appeal dismissed as
premature defendants' appeal from the October 2000 decision. The Court of
Appeals denied defendants' motion for rehearing and for rehearing en banc
or, in the alternative, for certification of the October 2001 ruling to
the Florida Supreme Court. During January 2002, the defendants, which
included Lorillard, filed a notice to invoke the discretionary
jurisdiction of the Florida Supreme Court in order to seek review of the
trial court's October 2000 ruling and the orders by the Florida Third
District Court of Appeal that affirmed the October 2000 decision. The
Florida Supreme Court denied defendants' petition during July of 2002.
Trial has been held in two of the flight attendant cases. On April 5,
2001, a jury in the Circuit Court of Dade County, Florida returned a
verdict in favor of Lorillard and the other defendants in the case of
Fontana v. Philip Morris Incorporated, et al. The court has entered final
judgment in favor of the defendants and has denied plaintiff's post-trial
motions. Plaintiff has noticed an appeal to the Florida Third District
Court of Appeal. On June 18, 2002, a jury in the Circuit Court of Dade
County, Florida returned a verdict in favor of the plaintiff and against
the defendants, including Lorillard, and awarded her $2.0 for past damages
and $3.5 for future damages. The defendants, including Lorillard, have
filed a joint motion to set aside the verdict and for entry of judgment in
accordance with their motions for directed verdict. In the alternative,
defendants seek a new trial and/or remittitur of the damages awarded to
the plaintiff. The Circuit Court of Dade County, Florida has heard
argument of this motion and has taken it under advisement.
Additional flight attendant cases are set for trial. As of August 1,
2002, approximately 15 such cases were scheduled for trial between August
of 2002 and March of 2003. It is possible that several of the flight
attendant cases will be tried during 2002 and thereafter.
CLASS ACTION CASES - Certain cases have been filed against cigarette
manufacturers, including Lorillard, in which plaintiffs purport to seek
class certification on behalf of groups of cigarette smokers. Lorillard is
a defendant in approximately 20 of these cases, three of which also name
the Company as a defendant. One case that names both the Company and
Lorillard as defendants has not been served on any of the parties. As of
August 1, 2002, three of the purported class actions were on appeal. The
remaining purported class actions are in the pre-trial, discovery stage,
except that trial proceedings are under way in the case of Scott v. The
American Tobacco Company, et al. Most of the suits seek class
45
certification on behalf of residents of the states in which the purported
class action cases have been filed, although some suits seek class
certification on behalf of residents of multiple states. Plaintiffs in all
but two of the purported class action cases seek class certification on
behalf of individuals who smoked cigarettes or were exposed to
environmental tobacco smoke. In one of the two remaining purported class
action cases, plaintiffs seek class certification on behalf of individuals
who paid insurance premiums. Plaintiffs in the other remaining suit seek
class certification on behalf of U.S. residents under the age of 22 who
purchased cigarettes as minors and who do not have personal injury claims.
Neither Lorillard nor the Company are defendants in approximately 20
additional class action cases pending against other cigarette
manufacturers, many of which assert claims on behalf of smokers of "light"
cigarettes. Plaintiffs in a few of the reimbursement cases, which are
discussed below, also seek certification of such cases as class actions.
Various courts have ruled on motions for class certification in smoking
and health-related cases. In 12 state court cases, which were pending in
five states and the District of Columbia, courts have denied plaintiffs'
class certification motions. In another 15 cases, cigarette manufacturers
have defeated motions for class certification before either federal trial
courts or courts of appeal from cases pending in 13 states and the
Commonwealth of Puerto Rico. The denial of class certification in a New
York federal court case, however, was due to the court's interest in
preserving judicial resources for a potentially broader class
certification ruling in In re Simon (II) Litigation, which is discussed
below. In six cases in which Lorillard is a defendant, plaintiffs' motions
for class certification have been granted and appeals either have been
rejected at the interlocutory stage, or, in one case, plaintiffs' claims
were resolved through a settlement agreement. These six cases are Broin
(which is the matter concluded by a settlement agreement and discussed
under "Flight Attendant Cases"), Engle, Blankenship, Scott, Daniels and
Brown.
Theories of liability asserted in the purported class action cases
include a broad range of product liability theories, including those based
on consumer protection statutes and fraud and misrepresentation.
Plaintiffs seek damages in each case that range from unspecified amounts
to the billions of dollars. Most plaintiffs seek punitive damages and some
seek treble damages. Plaintiffs in many of the cases seek medical
monitoring. Plaintiffs in some of the purported class action cases are
represented by a well-funded and coordinated consortium of law firms from
throughout the United States.
The Engle case: Trial began during July 1998 in the case of Engle v.
R.J. Reynolds Tobacco Co., et al. (Circuit Court, Dade County, Florida,
filed May 5, 1994). The trial court, as amended by the Florida Court of
Appeal, granted class certification on behalf of Florida residents and
citizens, and survivors of such individuals, who have been injured or have
died from medical conditions allegedly caused by their addiction to
cigarettes containing nicotine.
The case is being tried in three phases. The first phase began during
July of 1998 and involved consideration of certain issues claimed to be
common to the members of the class and their asserted causes of action.
On July 7, 1999, the jury returned a verdict against defendants,
including Lorillard, at the conclusion of the first phase. The jury found,
among other things, that cigarette smoking is addictive and causes lung
46
cancer and a variety of other diseases, that the defendants concealed
information about the health risks of smoking, and that defendants'
conduct rose to a level that would permit a potential award or entitlement
to punitive damages. The verdict permitted the trial to proceed to a
second phase. The jury was not asked to award damages in the Phase One
verdict.
By order dated July 30, 1999 and supplemented on August 2, 1999,
together, the Punitive Damages Order, the trial judge amended the trial
plan with respect to the manner of determining punitive damages. The
Punitive Damages Order provided that the jury would determine punitive
damages, if any, on a lump-sum dollar amount basis for the entire
qualified class. The Florida Third District Court of Appeal rejected as
premature defendants' appeals from the Punitive Damages Order, and the
Florida Supreme Court declined to review the Punitive Damages Order at
that time.
The first portion of Phase Two of the trial began on November 1, 1999
before the same jury that returned the verdict in Phase One. In the first
part of Phase Two, the jury determined issues of specific causation,
reliance, affirmative defenses, and other individual-specific issues
related to the claims of three named plaintiffs and their entitlement to
damages, if any.
On April 7, 2000, the jury found in favor of the three plaintiffs and
awarded them a total of $12.5 in economic damages, pain and suffering
damages and damages for loss of consortium. After awarding damages to one
of the three plaintiffs, the jury appeared to find that his claims were
barred by the statute of limitations. The final judgment entered by the
trial court on November 6, 2000 reflected the damages award, and held that
only a portion of this plaintiff's claims were barred by the statute of
limitations.
The second part of Phase Two of the trial began on May 22, 2000 and was
heard by the same jury that heard the trial's prior phases and considered
evidence as to the punitive damages to be awarded to the class. On July
14, 2000, the jury awarded approximately $145,000.0 in punitive damages
against all defendants, including $16,250.0 against Lorillard.
On November 6, 2000, the Circuit Court of Dade County, Florida, entered
a final judgment in favor of the plaintiffs. The judgment also provides
that the jury's awards bear interest at the rate of 10% per year. The
court's final judgment denied various of defendants' post-trial motions,
which included a motion for new trial and a motion seeking reduction of
the punitive damages award. Lorillard has noticed an appeal from the final
judgment to the Florida Third District Court of Appeal and has posted its
appellate bond in the amount of $100.0 pursuant to Florida legislation
enacted in May of 2000 limiting the amount of an appellate bond required
to be posted in order to stay execution of a judgment for punitive damages
in a certified class action. While Lorillard believes this legislation is
valid and that any challenges to the possible application or
constitutionality of this legislation would fail, during May of 2001,
Lorillard and two other defendants jointly contributed a total of $709.0
to a fund (held for the benefit of the Engle plaintiffs) that will not be
recoverable by them even if challenges to the judgment are resolved in
favor of the defendants. As a result, the class has agreed to a stay of
execution, referred to as the Engle agreement, on its punitive damages
judgment until appellate review is completed, including any review by the
U.S. Supreme Court. Lorillard contributed a total of $200.0 to this fund,
47
which included the $100.0 that was posted as collateral for its appellate
bond. Accordingly, Lorillard recorded a pretax charge of $200.0 in the
second quarter of the year ended December 31, 2001.
In the event that Lorillard, Inc.'s balance sheet net worth falls below
$921.2 (as determined in accordance with generally accepted accounting
principles in effect as of July 14, 2000), the stay granted in favor of
Lorillard in the Engle agreement would terminate and the class would be
free to challenge the Florida legislation. As of June 30, 2002, Lorillard,
Inc. had a balance sheet net worth of approximately $1,404.5.
In addition, the Engle agreement requires Lorillard to obtain the
written consent of class counsel or the court prior to selling any
trademark of or formula comprising a cigarette brand having a U.S. market
share of 0.5% or more during the preceding calendar year. The Engle
agreement also requires Lorillard to obtain the written consent of the
Engle class counsel or the court to license to a third party the right to
manufacture or sell such a cigarette brand unless the cigarettes to be
manufactured under the license will be sold by Lorillard.
Now that the jury has awarded punitive damages and final judgment has
been entered, Lorillard believes that it is unclear how the Punitive
Damages Order will be implemented. The Punitive Damages Order provides
that the lump-sum punitive damages amount, if any, will be allocated
equally to each class member and acknowledges that the actual size of the
class will not be known until the last case has withstood appeal, i.e.,
the punitive damages amount, if any, determined for the entire qualified
class, would be divided equally among those plaintiffs who are ultimately
successful. The Punitive Damages Order does not address whether defendants
would be required to pay the punitive damages award, if any, prior to a
determination of claims of all class members, which is Phase Three of the
trial plan, a process that could take years to conclude. The final
judgment entered by the court on November 6, 2000 directs that the amounts
awarded by the jury are to be paid immediately. Phase Three would address
potentially hundreds of thousands of other class members' claims,
including issues of specific causation, reliance, affirmative defenses and
other individual-specific issues regarding entitlement to damages, in
individual trials before separate juries.
Lorillard is a defendant in five separate lawsuits that are pending in
the Florida courts in which the plaintiffs claim that they are members of
the Engle class, that all liability issues associated with their claims
were resolved in the earlier phases of the Engle proceedings, and that
trials on their claims should proceed immediately. Lorillard is opposing
trials of these actions on the grounds that they should be considered
during Phase Three of the Engle case and should be stayed while the Engle
appeal is proceeding. Trial has been held in one of the cases in which
Lorillard was not a party. During June of 2002, a jury in the Circuit
Court of Dade County, Florida returned a verdict in favor of the
plaintiffs and awarded them $0.5 in economic damages, $24.5 in noneconomic
damages and $12.5 in damages for loss of consortium. No post-trial motions
are scheduled to be filed as a final judgment reflecting the verdict will
not be entered until the Engle appeal is resolved.
Lorillard remains of the view that the Engle case should not have been
certified as a class action. Lorillard believes that class certification
in the Engle case is inconsistent with the majority of federal and state
court decisions which have held that mass smoking and health claims are
inappropriate for class treatment. Lorillard has challenged the class
48
certification, as well as numerous other legal errors that it believes
occurred during the trial. As of August 1, 2002, briefing in defendants'
appeal was scheduled to conclude during August of 2002. The Florida Third
District Court of Appeal has not scheduled the appeal for oral argument.
Lorillard believes that an appeal of these issues on the merits should
prevail.
Other Class Action Cases - On November 14, 2001, a jury in the Circuit
Court of Ohio County, West Virginia returned a verdict in favor of the
defendants, including Lorillard, in the case of Blankenship v. American
Tobacco Company, et al. (Circuit Court, Ohio County, West Virginia, filed
January 31, 1997). The court denied plaintiffs' motion for new trial.
Plaintiff has noticed an appeal to the Supreme Court of Appeals of West
Virginia. During 2000, the court granted plaintiffs' motion for class
certification. The court ruled that the class consisted of West Virginia
residents who were cigarette smokers on or after January 31, 1995; who had
a minimum of a five pack-year smoking history as of December 4, 2000; who
had not been diagnosed with certain medical conditions; and who had not
received health care funded by the State of West Virginia. The West
Virginia Supreme Court of Appeals declined to review defendants' petition
for a writ of prohibition against the class certification ruling.
Plaintiffs sought the creation of a fund, the purpose of which would be to
pay for class members to receive medical monitoring for chronic
obstructive pulmonary disease, emphysema and lung cancer. Lorillard is a
defendant in the case.
In the case of Scott v. The American Tobacco Company, et al. (District
Court, Orleans Parish, Louisiana, filed May 24, 1996), the trial court
certified a class comprised of residents of the State of Louisiana who
desire to participate in medical monitoring or smoking cessation programs
and who began smoking prior to September 1, 1988, or who began smoking
prior to May 24, 1996 and allege that defendants undermined compliance
with the warnings on cigarette packages. Jury selection began during June
of 2001. A twelve-member jury and ten alternate jurors were selected, but
the Louisiana Court of Appeals and the Louisiana Supreme Court, in
response to writ applications initiated by the defendants, excused a total
of 14 jurors or alternate jurors. In their writ applications, defendants
contended that several selected jurors had family members who were
potential members of the class certified by the trial court, and that the
selected jury was biased against the defendants. The Louisiana Supreme
Court directed the trial court to re-open the jury selection process in
order to select additional jurors. The Louisiana Supreme Court, however,
has denied defendants' motion to declare a mistrial due to issues related
to the jury selection process. The trial court has not announced when the
jury as finally constituted would begin hearing evidence in the trial. As
of August 1, 2002, a full complement of jurors had not been selected.
Lorillard is a defendant in the case.
During December of 2000, the Superior Court of San Diego County,
California issued an order in the case of Daniels v. Philip Morris,
Incorporated, et al. that granted plaintiffs' motion for class
certification on behalf of California residents who, while minors, smoked
at least one cigarette between April 1994 and December 31, 1999. Trial in
this matter is scheduled to begin during October of 2002. Lorillard is a
defendant in the case.
During April of 2001, the Superior Court of San Diego County, California
in the case of Brown v. The American Tobacco Company, Inc., et al.,
granted in part plaintiff's motion for class certification and certified a
49
class comprised of adult residents of California who smoked at least one
of defendants' cigarettes during the applicable time period and who were
exposed to defendants' marketing and advertising activities in California.
Certification was granted as to plaintiff's claims that defendants
violated California Business and Professions Code sections 17200 and
17500. The court subsequently defined the applicable class period for
plaintiff's claims, pursuant to a stipulation submitted by the parties, as
June 10, 1993 through April 23, 2001. Trial is scheduled to begin during
March of 2003. Lorillard is a defendant in the case.
REIMBURSEMENT CASES - In addition to the cases settled by the State
Settlement Agreements described above, approximately 45 other suits are
pending, comprised of cases brought by the U.S. federal government, county
governments, city governments, unions, American Indian tribes, hospitals
or hospital districts, private companies and foreign governments filing
suit in U.S. courts, in which plaintiffs seek recovery of funds allegedly
expended by them to provide health care to individuals with injuries or
other health effects allegedly caused by use of tobacco products or
exposure to cigarette smoke. These cases are based on, among other things,
equitable claims, including injunctive relief, indemnity, restitution,
unjust enrichment and public nuisance, and claims based on antitrust laws
and state consumer protection acts. Plaintiffs in some of these actions
seek certification as class actions. Plaintiffs seek damages in each case
that range from unspecified amounts to the billions of dollars. Most
plaintiffs seek punitive damages and some seek treble damages. Plaintiffs
in some of the cases seek medical monitoring. Lorillard is named as a
defendant in all of the reimbursement cases except for a few of those
filed in U.S. courts by foreign governments. The Company is named as a
defendant in approximately 25 of the pending reimbursement cases, although
it has not received service of four of these matters.
U.S. Federal Government Action - The U.S. federal government filed a
reimbursement suit on September 22, 1999 in the U.S. District Court for
the District of Columbia against Lorillard, other U.S. cigarette
manufacturers, some parent companies and two trade associations. The
Company is not a defendant in this action. Plaintiff asserted claims under
the Medical Care Recovery Act, the Medicare as Secondary Payer provisions
of the Social Security Act, and the Racketeer Influenced and Corrupt
Organizations Act. The government alleges in the complaint that it has
incurred costs of more than $20,000.0 annually in providing health care
costs under several federal programs, including Medicare, military and
veterans' benefits programs, and the Federal Employee Health Benefits
Program. The federal government seeks to recover an unspecified amount of
health care costs, and various types of other relief, including
disgorgement of profits, injunctive relief and declaratory relief that
defendants are liable for the government's future costs of providing
health care resulting from the defendants' alleged wrongful conduct.
During September of 2000, the court granted in part and denied in part
defendants' motion to dismiss the complaint. The court dismissed
plaintiff's claims asserted under the Medical Care Recovery Act as well as
those under the Medicare as Secondary Payer provisions of the Social
Security Act. The court denied the motion as to plaintiff's claims under
the Racketeering Influenced and Corrupt Organizations Act. Plaintiff
sought modification of the trial court's order as it related to the
dismissal of the Medical Care Recovery Act claim. In an amended complaint
filed during February of 2001, plaintiff attempted to replead the Medicare
as Secondary Payer claim. In a July 2001 decision, the court reaffirmed
its dismissal of the Medical Care Recovery Act claims. The court also
50
dismissed plaintiff's reasserted claims under the Medicare as Secondary
Payer Act. The court has denied a motion for intervention and a proposed
complaint in intervention filed by the Cherokee Nation Tribe on behalf of
a purported nationwide class of American Indian tribes. Trial in this
matter is schedule to begin during July of 2003.
In June of 2001, the government invited defendants in the lawsuit,
including Lorillard, to meet to discuss the possibility of a settlement of
the government's case. Lorillard participated in one such meeting and no
further meetings are scheduled.
Reimbursement Cases filed by Foreign Governments in U.S. Courts - Cases
have been brought in U.S. courts by 13 nations, 11 Brazilian states, 11
Brazilian cities and one Canadian province. Both the Company and Lorillard
are named as defendants in most of the cases. The Company has not received
service of process of the cases filed by two of the nations and by one of
the Brazilian states. Four of the cases have been voluntarily dismissed.
During 2001, a federal court of appeal affirmed orders dismissing three of
the cases, and the U.S. Supreme Court denied plaintiffs' petitions for
writ of certiorari. During 2001, a Florida court dismissed two of the
suits, and the plaintiff in one of the two actions has noticed an appeal.
In addition, Lorillard and the Company were dismissed from three suits
that remain pending against other defendants.
In 1977, Lorillard sold substantially all of its trademarks outside of
the United States and the international business associated with those
brands. Performance by Lorillard of obligations under the 1977 agreement
reflecting the sale was guaranteed by the Company. Lorillard and the
Company have received notice from Brown & Williamson Tobacco Corporation,
which claims to be a successor to the purchaser, that indemnity will be
sought under certain indemnification provisions of the 1977 agreement with
respect to suits brought by various of the foregoing foreign
jurisdictions, and in certain cases brought in foreign countries by
individuals concerning periods prior to June 1977 and during portions of
1978.
Reimbursement Cases by American Indian Tribes - American Indian tribes are
the plaintiffs in four pending reimbursement suits. Three of the four
cases have been filed in tribal courts. Lorillard is a defendant in each
of the cases. The Company is not named as a defendant in any of the
pending tribal cases. One of the four cases is pending before a federal
court of appeals following plaintiffs' appeal from an order that granted
defendants' motion to dismiss the complaint. During July of 2002, the
court of appeals affirmed the judgment in favor of the defendants. As of
August 1, 2002, the deadline for the plaintiff to seek further appellate
review had not expired. The remaining three cases are in the pre-trial
discovery stage.
Reimbursement Cases by Private Companies and Health Plans or Hospitals and
Hospital Districts - Two cases are pending against cigarette manufacturers
in which the plaintiffs are not-for-profit insurance companies. Lorillard
is a defendant in both pending cases. The Company is not a defendant in
either matter. In addition, two cases are pending in which plaintiffs are
hospitals or hospital districts. Lorillard is named as a defendant in both
such cases. The Company is not named as a defendant in either of the cases
filed by hospitals or hospital districts. In one additional suit, a city
governmental entity and several hospitals or hospital districts are
plaintiffs. The Company is a defendant in this case.
51
On June 4, 2001, the jury in the U.S. District Court for the Eastern
District of New York in the case of Blue Cross and Blue Shield of New
Jersey, Inc., et al. v. Philip Morris, Incorporated, et al., returned a
verdict awarding damages against the defendants, including Lorillard. In
this trial, the jury heard evidence as to the claims of only one of the
plan plaintiffs, Empire Blue Cross and Blue Shield, referred to as
"Empire." In its June 4, 2001 verdict, the jury found in favor of the
defendants on some of Empire's claims. One of the jury's findings
precluded it from considering Empire's claims for punitive damages. The
jury found in favor of Empire on certain other of plaintiff's claims. As a
result of these findings, Empire is entitled to an award of approximately
$17.8 in total actual damages, including approximately $1.5 attributable
to Lorillard. The court denied plaintiff's post-verdict application for
trebling of the damages awarded by the jury. On November 1, 2001, the
court entered a final judgment that reflects the jury's verdict. In the
final judgment, Empire was awarded approximately $1.5 in actual damages
and approximately fifty-five thousand dollars in pre-judgment interest for
a total award against Lorillard of approximately $1.6. The court has
awarded plaintiff's counsel approximately $38.0 in attorneys' fees. The
defendants, including Lorillard, have noticed an appeal to the U.S. Court
of Appeals for the Second Circuit from the final judgment and from the
order awarding plaintiff's counsel attorneys' fees.
Reimbursement Cases by Labor Unions - One case is pending in which the
plaintiffs are the trust funds of several labor unions. The Company is not
a defendant in this action. Approximately 75 union cases have been
dismissed in recent years. Some of these cases were dismissed voluntarily,
while others were dismissed as a result of defendants' motions. Appeals
were sought from some of these dismissal rulings and defendants have
prevailed in each of these appeals. The Second, Third, Fifth, Seventh,
Eighth, Ninth and Eleventh Circuit Courts of Appeal have found in favor of
the defendants in each of the appeals from dismissal orders entered by the
federal trial courts that were submitted to them, and the U.S. Supreme
Court has denied petitions for writ of certiorari that sought review of
some of these decisions. In addition, the Circuit Court of Appeals for the
District of Columbia entered a ruling in 2001 that found in favor of the
defendants on an appeal they filed from a ruling by a trial court that
refused to dismiss four union cases. During 2001, an intermediate
California court of appeal affirmed the final judgment entered in favor of
the defendants in a union case, and the California Supreme Court has
accepted plaintiffs' appeal. Several cases pending in state courts also
have been dismissed.
EASTERN DISTRICT OF NEW YORK LITIGATION - On April 18, 2000, a federal
judge in the Eastern District of New York issued an order that
consolidated, for settlement purposes only, ten pending cases involving
Lorillard as well as other industry defendants. The cases included three
smoking and health class actions, three contribution cases, two union
cases, one private company case and one private citizen reimbursement
case. The judge's April 18, 2000 order invited the federal government to
join in the settlement discussions. On July 31, 2000, the federal judge
orally proposed the formation of a national punitive damages class action
for the purposes of settlement. Pursuant to the judge's proposal,
Lorillard entered into discussions with a committee of counsel
representing a broad-based group of plaintiffs in an effort to arrive at a
comprehensive settlement of all exemplary and punitive damage claims,
including claims involved in the Engle class action in Florida described
above. The parties were unable to reach an understanding and the
negotiations were suspended in late 2000.
52
The federal judge directed that a combined suit be filed encompassing
all of the claims pending before him that name cigarette manufacturers as
defendants. This matter is styled In re Simon (II) Litigation (U.S.
District Court, Eastern District, New York, filed September 6, 2000). The
Company and Lorillard are defendants in this proceeding. Many of the cases
that comprised the In re Simon (II) Litigation have been dismissed. The
dismissals have included a test case comprising the claims of 15
individual plaintiffs for trial. In addition, the private company case,
Blue Cross and Blue Shield of New Jersey, et al., the private citizen
case, Mason v. The American Tobacco Company, et al., and a subsequently
dismissed union case, Bergeron v. Philip Morris, Inc., et al., have been
severed from In re Simon (II) Litigation. During July of 2002, plaintiffs
have filed a third amended complaint on behalf of a purported nationwide
class of individual smokers who have been diagnosed with certain specified
diseases. Briefing regarding class certification is ongoing.
Trial was held in two of the matters during 2001. During January of
2001, the court declared a mistrial in the case of Falise v. The American
Tobacco Company, et al. The plaintiffs, who were the trustees of the Johns
Manville Trust, voluntarily dismissed the case during 2001 and
relinquished their right to seek a re-trial. During June of 2001, a
verdict was returned in the case of Blue Cross and Blue Shield of New
Jersey (trial was limited to the claims of only one plan plaintiff), a
reimbursement case described above. Following conclusion of the Blue Cross
trial, the U.S. District Judge stayed the claims asserted in the suit by
the other plan plaintiffs pending resolution of defendants' appeal.
CONTRIBUTION CLAIMS - In addition to the foregoing cases, approximately
ten cases are pending in which private companies seek recovery of funds
expended by them to individuals whose asbestos disease or illness was
alleged to have been caused in whole or in part by smoking-related
illnesses. Lorillard is named as a defendant in each action, although it
has not received service of process in one of the cases. The Company is
named as a defendant in three of the cases but has not received service of
process in one of them.
FILTER CASES - A number of cases have been filed against Lorillard seeking
damages for cancer and other health effects claimed to have resulted from
exposure to asbestos fibers which were incorporated, for a limited period
of time, ending more than 40 years ago, into the filter material used in
one of the brands of cigarettes manufactured by Lorillard. Approximately
40 filter cases are pending in federal and state courts against Lorillard.
The Company is a defendant in one of the pending filter cases. The number
of pending filter cases has approximately doubled during 2002. Allegations
of liability include negligence, strict liability, fraud,
misrepresentation and breach of warranty. Plaintiffs in most of these
cases seek unspecified amounts in compensatory and punitive damages.
Trials have been held in 15 such cases, including three since January 1,
2000. Juries have returned verdicts in favor of Lorillard in 11 of the 15
trials. Four verdicts have been returned in plaintiffs' favor. In a 1995
trial, a California jury awarded plaintiffs approximately $1.2 in actual
damages and approximately $0.7 in punitive damages. In a 1996 trial,
another California jury awarded plaintiff approximately $0.1 in actual
damages. In a 1999 trial, a Maryland jury awarded plaintiff approximately
$2.2 in actual damages. In a 2000 trial, a California jury awarded
plaintiffs $1.1 in actual damages and the case was settled prior to a
determination of punitive damages.
53
TOBACCO-RELATED ANTITRUST CASES - Wholesalers and Direct Purchaser Suits -
Lorillard and other domestic and international cigarette manufacturers and
their parent companies, including the Company, were named as defendants in
nine separate federal court actions brought by tobacco product wholesalers
for violations of U.S. antitrust laws and international law. The
complaints allege that defendants conspired to fix the price of cigarettes
to wholesalers since 1993 in violation of the Sherman Act. These actions
seek certification of a class including all domestic and international
wholesalers similarly affected by such alleged conduct, and damages,
injunctive relief and attorneys' fees. These actions were consolidated for
pre-trial purposes in the U.S. District Court for the Northern District of
Georgia. The Court has granted class certification for a four-year class
(beginning in 1996 and ending in 2000) of domestic direct purchasers. The
Company has been voluntarily dismissed without prejudice from all direct
purchaser cases. On July 11, 2002, the Court granted motions for summary
judgment filed by Lorillard and all other defendants dismissing the
actions in their entirety. Plaintiffs have filed a notice of appeal in the
U.S. Court of Appeals for the Eleventh Circuit.
Indirect Purchaser Suits - Approximately 30 suits are pending in various
state courts alleging violations of state antitrust laws which permit
indirect purchasers, such as retailers and consumers, to sue under price
fixing or consumer fraud statutes. Approximately 18 states permit such
suits. Lorillard is a defendant in all but one of these indirect purchaser
cases. One indirect purchaser suit, in New York, has been dismissed in its
entirety. The Arizona indirect purchaser suit was dismissed by the trial
court, but the dismissal was reversed on appeal in May 2002. While one
court has granted plaintiff's motion to certify a class of consumers, two
other courts have refused to do so, and other motions seeking class
certification have been deferred by other courts pending resolution of the
federal case discussed above. In Kansas, plaintiffs have filed a Motion to
Compel against Lorillard (and one other defendant) seeking certain
documents for which Lorillard has claimed a joint defense privilege as
well as other unspecified documents. Lorillard is currently preparing a
response. The Company was also named as a defendant in most of these
indirect purchaser cases but has been voluntarily dismissed without
prejudice from all of them.
Tobacco Growers Suit - DeLoach v. Philip Morris Inc., et al. (U.S.
District Court, Middle District of North Carolina, filed February 16,
2000). Lorillard is named as a defendant in a lawsuit that, after several
amendments, alleges only antitrust violations. The other major domestic
tobacco companies are also presently named as defendants, and the
plaintiffs have now added the major leaf buyers as defendants. This case
was originally filed in U.S. District Court, District of Columbia, and
transferred to a North Carolina federal court upon motion by the
defendants. The plaintiffs' claims relate to the conduct of the companies
in the purchase of tobacco through the auction system under the federal
program. The suit seeks an unspecified amount of actual damages, trebled
under the antitrust laws, and injunctive relief. On April 3, 2002 the
court certified a class consisting of all persons holding a quota (the
licenses that a farmer must either own or rent to sell the crop) to grow,
and all domestic producers who sold, flue-cured or burley tobacco at
anytime from February 1996 to present. Defendants' petition to the United
States Court of Appeals for the Fourth Circuit seeking permission to
appeal the District Court's decision on class certification was denied on
June 12, 2002. Pre-trial discovery has commenced and is currently
scheduled to be completed on or before July 1, 2003. A trial date has not
yet been scheduled.
54
* * * *
OTHER LITIGATION - The Company and its subsidiaries are also parties to
other litigation arising in the ordinary course of business. The outcome
of this other litigation will not, in the opinion of management,
materially affect the Company's results of operations or equity.
14. In the opinion of Management, the accompanying consolidated condensed
financial statements reflect all adjustments (consisting of only normal
recurring accruals) necessary to present fairly the financial position as
of June 30, 2002 and December 31, 2001 and the statements of operations
for the three and six months and changes in cash flows for the six months
ended June 30, 2002 and 2001.
Results of operations for the second quarter and the first six months of
each of the years is not necessarily indicative of results of operations
for that entire year.
55
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
---------------------------------------------------------------------
OVERVIEW
The Company reported consolidated net income (including both the Loews Group
and Carolina Group) for the 2002 second quarter of $201.9 million, compared to
a net loss of $1,415.2 million in 2001. The net loss for the second quarter of
2001 includes a $3.2 billion pretax charge ($1.8 billion after taxes and
minority interest) at CNA related to a change in estimate of prior year net
loss and allocated loss adjustment expense reserves and retrospective premium
accruals, and a $200.0 million pretax charge ($121.0 million after taxes) at
Lorillard related to an agreement with the class in the Engle case.
Consolidated net operating income, which excludes net investment (losses)
gains and discontinued operations, and excluding the second quarter of 2001
CNA and Lorillard charges discussed above, for the quarter ended June 30, 2002
was $321.0 million, compared to $233.0 million in the second quarter of 2001.
Net operating income is calculated by deducting net investment gains or
losses, discontinued operations and the cumulative effect of a change in
accounting principle (after deduction of related income taxes and minority
interests), from net income. Analysts following our stock have advised us that
such information is meaningful in assisting them in measuring the performance
of our insurance subsidiaries. In addition, it is used in management's
discussion of the results of operations for the insurance related segments due
to the significance of the amount of net investment gains or losses. Net
operating income is also a common measure throughout the insurance industry.
Net realized investment gains are excluded from this operating measure because
investment gains or losses related to CNA's available-for-sale investment
portfolio are largely discretionary, are generally driven by economic factors
that are not necessarily consistent with key drivers of underwriting
performance, and are therefore not an indication of trends in operations.
Net income attributable to Loews Common Stock for the second quarter of 2002
amounted to $160.5 million or $0.85 per share, compared to a net loss of
$1,415.2 million or $7.18 per share in the comparable period of the prior
year. Net income in the second quarter of 2002 includes net investment losses
attributable to Loews Common Stock of $119.1 million or $0.63 per share,
compared to gains of $280.7 million or $1.42 per share in the comparable
period of the prior year.
Net operating income attributable to Loews Common Stock, which excludes net
investment (losses) gains and discontinued operations, for the quarter ended
June 30, 2002, was $279.6 million or $1.48 per share, compared to a loss of
$1,697.8 million or $8.61 per share in the comparable period of the prior
year.
Net income attributable to Carolina Group Stock for the 2002 second quarter
amounted to $41.4 million or $1.03 per Carolina Group share.
Six Months Ended June 30, 2002 compared with 2001
For the six months ended June 30, 2002 consolidated net income (including
both the Loews Group and Carolina Group) amounted to $454.8 million, compared
to a net loss of $942.9 million in the comparable period of the prior year.
The first half of 2002 included a loss for discontinued operations at CNA of
$31.0 million or $0.16 per share of Loews Common Stock, compared to income
56
from discontinued operations of $2.1 million or $0.01 per share of Loews
Common Stock in the comparable period of the prior year. The first half of
2001 also included a charge for accounting changes of $53.3 million or $0.27
per share of Loews Common Stock, related to accounting for derivative
instruments at CNA, and the CNA and Lorillard charges discussed above.
Consolidated net operating income, which excludes net investment gains
(losses), discontinued operations and accounting changes, and excluding the
second quarter of 2001 CNA and Lorillard charges discussed above, was $589.4
million in the first half of 2002, compared to $529.5 million in the
comparable period of the prior year.
Net operating income attributable to Loews Common Stock, which excludes net
investment (losses) gains, discontinued operations and accounting changes, for
the first half of 2002, was $530.0 million or $2.80 per share, compared to a
loss of $1,401.3 million or $7.10 per share in the comparable period of the
prior year.
Net income attributable to Carolina Group Stock for the first half of 2002
amounted to $59.4 million or $1.48 per Carolina Group share.
At June 30, 2002, Loews Common Stock had a book value of $59.18 per share
compared to a book value of $50.39 per share at December 31, 2001. The
increase in Loews Common Stock book value per share is primarily due to
proceeds from issuance of the Carolina Group common stock and the Loews
Group's net economic interest in the notional intergroup debt receivable.
Classes of Common Stock
The issuance of Carolina Group Stock has resulted in a two class common
stock structure for Loews Corporation. Carolina Group Stock, commonly called a
tracking stock, is intended to reflect the economic performance of a defined
group of assets and liabilities of the Company referred to as the Carolina
Group. The principal assets and liabilities attributed to the Carolina Group
are (a) the Company's 100% stock ownership interest in Lorillard, Inc.; (b)
$2.5 billion of notional, intergroup debt owed by the Carolina Group to the
Loews Group, bearing interest at the annual rate of 8.0% and, subject to
optional prepayment, due December 31, 2021; and (c) any and all liabilities,
costs and expenses arising out of or related to tobacco or tobacco-related
businesses.
The outstanding Carolina Group Stock represents a 23.17% economic interest
in the economic performance of the Carolina Group. The Loews Group, reflecting
the earnings attributable to Loews Common Stock, consists of all the Company's
assets and liabilities other than the 23.17% economic interest represented by
the outstanding Carolina Group Stock, and includes as an asset the notional,
intergroup debt of the Carolina Group.
The existence of separate classes of common stock could give rise to
occasions where the interests of the holders of Loews Common Stock and
Carolina Group Stock diverge or conflict or appear to diverge or conflict.
Subject to its fiduciary duties, the Company's board of directors could, in
its sole discretion, from time to time, make determinations or implement
policies that affect disproportionately the groups or the different classes of
stock. For example, Loews's board of directors may decide to reallocate
assets, liabilities, revenue, expenses and cash flows between groups, without
the consent of shareholders. The board of directors would not be required to
select the option that would result in the highest value for holders of
Carolina Group stock.
57
As a result of the flexibility provided to Loews's board of directors, it
might be difficult for investors to assess the future prospects of the
Carolina Group based on the Carolina Group's past performance.
The creation of the Carolina Group and the issuance of Carolina Group stock
does not change the Company's ownership of Lorillard, Inc. or Lorillard,
Inc.'s status as a separate legal entity. The Carolina Group and the Loews
Group are notional groups that are intended to reflect the performance of the
defined sets of assets and liabilities of each such group as described above.
The Carolina Group and the Loews Group are not separate legal entities and the
attribution of assets and liabilities to the Loews Group or the Carolina Group
does not affect title to the assets or responsibility for the liabilities.
Holders of the Company's common stock and of Carolina Group stock are
shareholders of Loews Corporation and are subject to the risks related to an
equity investment in Loews Corporation.
RESULTS OF OPERATIONS BY BUSINESS SEGMENT
CNA Financial
- -------------
Insurance operations are conducted by subsidiaries of CNA Financial
Corporation ("CNA"). CNA is a 90% owned subsidiary of the Company.
CNA conducts its operations through five operating groups: Standard Lines,
Specialty Lines and CNA Re (these groups comprise the Company's Property-
Casualty segment); Group Operations and Life Operations. In addition to these
five operating segments, certain other activities are reported in the Other
Insurance segment. The Other Insurance segment consists of royalty and
administrative service activities related to the personal insurance business
that was sold to The Allstate Corporation in 1999, losses and expenses related
to centralized adjusting and settlement of asbestos, pollution and mass tort
claims, certain insurance operations that are operating in run-off and not
conducting new underwriting, interest expense on corporate debt, eBusiness
initiatives, and intercompany eliminations. These segments reflect the way CNA
manages its operations and makes business decisions.
During the second quarter of 2002, Group Reinsurance, the business which
assumes reinsurance from unaffiliated entities on group life, accident and
health products as well as excess medical risk coverages for self-funded
employers, was transferred from Group Operations to the Other Insurance
segment to be included as part of run-off insurance operations. Also, CNA
Trust, a limited-operations bank specializing in 401(k) plan administration,
was transferred from Life Operations to Group Operations. Segment disclosures
of prior periods have been modified to conform with the current period
presentation.
The consolidated operations for the three and six months ended June 30, 2001
were significantly impacted by the second quarter 2001 prior year reserve
strengthening, corporate aggregate reinsurance treaties, and restructuring and
other related charges. A discussion of these items, along with CNA's current
terrorism exposure and description of reserves is presented before the results
of operations by business segment.
58
Second Quarter 2001 Prior Year Reserve Strengthening
During the second quarter of 2001, CNA noted the continued emergence of
adverse loss experience across several lines of business related to prior
years that are discussed in further detail below. CNA completed a number of
reserve studies during the second quarter of 2001 for many of its lines of
business, including those in which these adverse trends were noted. With
respect to environmental pollution and mass tort and asbestos ("APMT")
reserves, CNA reviewed internal claims data as well as studies generated by
external parties, including a significant industry analysis of asbestos and
environmental pollution exposures by an international rating agency. As a
result of these various reviews, management concluded that ultimate losses,
including losses for APMT claims, would be higher in the range of possible
outcomes than previously estimated. CNA recorded a pretax charge of $2.6
billion ($1.5 billion after-tax and minority interest) of reserve
strengthening, net of the related corporate aggregate reinsurance treaty
benefit, associated with a change in estimate of prior year net loss reserves,
including $1.2 billion pretax ($0.7 billion after-tax and minority interest)
related to APMT.
The non-APMT adverse reserve development was the result of analyses of
several lines of business. This development related principally to commercial
insurance coverages including automobile liability and multiple-peril, as well
as assumed reinsurance and health care-related coverages. A brief summary of
these lines of business and the associated reserve development is discussed
below and in more detail in the discussion of CNA's segments.
Approximately $600.0 million of the adverse reserve development, excluding
the impact of the corporate aggregate reinsurance treaty, was a result of
analyses of several coverages provided to commercial entities written by
various segments of CNA. These analyses showed unexpected increases in the
size of claims for several lines, including commercial automobile liability,
general liability and the liability portion of commercial multiple-peril. In
addition, the number of commercial automobile liability claims was higher than
expected. Finally, several state-specific factors resulted in higher than
anticipated losses, including developments associated with commercial
automobile liability coverage in Ohio and general liability coverage provided
to contractors in New York.
An analysis of CNA Re's assumed reinsurance business showed that the paid
and reported losses for recent accident years were higher than expectations
and resulted in an increase of net reserves of approximately $560.0 million,
excluding the impact of the corporate aggregate reinsurance treaty. The
estimated ultimate loss ratios for these recent accident years have been
revised to reflect the paid and reported losses.
Approximately $320.0 million of adverse reserve development, excluding the
impact of the corporate aggregate reinsurance treaty, was recorded in
Specialty Lines and was caused by coverages provided to health care related
entities. The level of paid and reported losses associated with coverages
provided to national long-term care facilities was higher than expected. In
addition, the average size of claims resulting from coverages provided to
physicians and institutions providing health care-related services increased
more than expected.
Concurrent with CNA's review of loss reserves, CNA completed comprehensive
studies of estimated premium receivable accruals on retrospectively rated
insurance policies and involuntary market facilities. The studies included the
59
review of all such retrospectively rated insurance policies and the estimates
of ultimate losses.
As a result of this review and changes in premiums associated with the
change in estimates for loss reserves, CNA recorded a pretax reduction in
premium accruals of $566.0 million. The effect on net earned premiums was
$616.0 million offset by a reduction of accrued commissions of $50.0 million.
Approximately $188.0 million of this amount resulted from a change in estimate
in premiums related to involuntary market facilities, which had an offsetting
impact on net losses and therefore had no impact on the net operating results
in 2001. Accruals for ceded premiums related to other reinsurance treaties
increased $83.0 million due to the reserve strengthening. The remainder of the
decrease in premium accruals relates to the change in estimate of the amount
of retrospective premium receivables as discussed above.
Reinsurance
CNA assumes and cedes reinsurance with other insurers and reinsurers and
members of various reinsurance pools and associations. CNA utilizes
reinsurance arrangements to limit its maximum loss, provide greater
diversification of risk, minimize exposures on larger risks and to exit
certain lines of business. Reinsurance coverages are tailored to the specific
risk characteristics of each product line and CNA's retained amount varies by
type of coverage. Generally, property risks are reinsured on an excess of
loss, per risk basis. Liability coverages are generally reinsured on a quota
share basis in excess of CNA's retained risk. CNA's life reinsurance includes
coinsurance, yearly renewable term and facultative programs.
CNA's overall reinsurance program includes certain property-casualty
contracts, such as the corporate aggregate reinsurance treaties discussed in
more detail later in this section, that are entered into and accounted for on
a "funds withheld" basis. Under the funds withheld basis, CNA records the cash
remitted to the reinsurer for the reinsurer's margin, or cost of the
reinsurance contract, as ceded premiums. The remainder of the premiums ceded
under the reinsurance contract is recorded as a funds withheld liability. CNA
is required to increase the funds withheld balance at stated interest
crediting rates applied to the funds withheld balance or as otherwise
specified under the terms of the contract. The funds withheld liability is
reduced by any cumulative claim payments made by CNA in excess of CNA's
retention under the reinsurance contract. If the funds withheld liability is
exhausted, interest crediting will cease and additional claim payments are
recoverable from the reinsurer. The funds withheld liability is recorded in
reinsurance balances payable in the Consolidated Condensed Balance Sheets.
Interest cost on these contracts is credited during all periods in which a
funds withheld liability exists. Interest cost, which is included in
investment income, was $57.0 and $86.0 million for the second quarter of 2002
and 2001 and $115.0 and $122.0 million for the six months ended June 30, 2002
and 2001. The amount subject to interest crediting rates on such contracts was
$2,889.0 and $2,724.0 million at June 30, 2002 and December 31, 2001.
The amount subject to interest crediting on these funds withheld contracts
will vary over time based on a number of factors, including the timing of loss
payments and ultimate gross losses incurred. CNA expects that it will continue
to incur significant interest costs on these contracts for several years.
For 2002, CNA has entered into an aggregate reinsurance treaty covering
substantially all of its property-casualty lines of business (the "2002
Cover"). The loss protection provided by the 2002 Cover is dependent on the
60
level of subject premium, but there is a maximum aggregate limit of $1,125.0
million. Maximum ceded premium under the contract is $683.0 million, and
premiums, claims recoveries and interest charges other than the reinsurer's
margin and related fees are made on a funds withheld basis. Interest is
credited on funds withheld at 8.0% per annum, and all premiums are deemed to
have been paid as of January 1, 2002. Ceded premium related to the reinsurer's
margin in the amount of $2.0 and $5.0 million was recorded for the 2002 Cover
for the three months and six months ended June 30, 2002.
The aggregate reinsurance protection from the 2002 Cover attaches at a
defined accident year loss and allocated loss adjustment expense
(collectively, losses) ratio. Under the contract, CNA has the right to elect
to cede losses to the 2002 Cover when its recorded accident year losses exceed
the attachment point. This election period expires March 31, 2004. If no
losses are ceded by this date, the contract is considered to be commuted. If
CNA elects to cede any losses to the 2002 Cover, it must continue to cede all
losses subject to the terms of the contract.
In 1999, CNA entered into an aggregate reinsurance treaty related to the
1999 through 2001 accident years covering substantially all of CNA's property-
casualty lines of business (the "Aggregate Cover"). CNA has two sections of
coverage under the terms of the Aggregate Cover. These coverages attach at
defined loss ratios for each accident year. Coverage under the first section
of the Aggregate Cover, which is available for all accident years covered by
the contract, has annual limits of $500.0 million of ceded losses with an
aggregate limit of $1.0 billion of ceded losses for the three year period. The
ceded premiums are a percentage of ceded losses and for each $500.0 million of
limit the ceded premium is $230.0 million. The second section of the Aggregate
Cover, which was only utilized for accident year 2001, provides additional
coverage of up to $510.0 million of ceded losses for a maximum ceded premium
of $310.0 million. Under the Aggregate Cover, interest charges on the funds
withheld accrue at 8.0% per annum. If the aggregate loss ratio for the three-
year period exceeds certain thresholds, additional premiums may be payable and
the rate at which interest charges are accrued would increase to 8.25% per
annum commencing in 2006.
The coverage under the second section of the Aggregate Cover was triggered
for the 2001 accident year. As a result of losses related to the September 11,
2001 World Trade Center Disaster and related events ("WTC event"), the limit
under this section was exhausted. Additionally, as a result of the significant
reserve additions recorded in the second quarter of 2001, the $500.0 million
limit on the 1999 accident year under the first section was also fully
utilized. No losses have been ceded to the remaining $500.0 million of limit
on accident years 2000 and 2001 under the first section.
61
The impact of the Aggregate Cover on pretax operating results was as
follows:
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------------------------
2002 2001 2002 2001
------------------------------------------------
(In millions)
Ceded earned premiums . . . . . . . . . . . $(418.0) $(460.0)
Ceded claim and claim adjustment expense . 683.0 722.0
Interest charges . . . . . . . . . . . . . $(12.0) (53.0) $(25.0) (59.0)
- ------------------------------------------------------------------------------------------------
Pretax impact on operating results . . . . $(12.0) $ 212.0 $(25.0) $ 203.0
================================================================================================
In 2001, CNA entered into a one-year aggregate reinsurance treaty related to
the 2001 accident year covering substantially all property-casualty lines of
business in the Continental Casualty Company pool ("the CCC Cover"). The loss
protection provided by the CCC Cover has an aggregate limit of approximately
$760.0 million of ceded losses. The ceded premiums are a percentage of ceded
losses and for the $760.0 million of limit, the ceded premium is $456.0
million. The CCC Cover provides continuous coverage in excess of the second
section of the Aggregate Cover discussed above. Under the CCC Cover, interest
charges on the funds withheld generally accrue at 8.0% per annum. The interest
rate increases to 10.0% per annum if the aggregate loss ratio exceeds certain
thresholds. Losses of $563.0 million have been ceded under the CCC Cover
through June 30, 2002.
The impact of the CCC Cover on pretax operating results was as follows:
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------------------------
2002 2001 2002 2001
------------------------------------------------
(In millions)
Ceded earned premiums . . . . . . . . . . . $(2.0) $(61.0) $ (2.0)
Ceded claim and claim adjustment expense . 93.0
Interest charges . . . . . . . . . . . . . $(6.0) (16.0)
- ------------------------------------------------------------------------------------------------
Pretax impact on operating results . . . . $(6.0) $(2.0) $ 16.0 $ (2.0)
================================================================================================
62
The impact by operating segment of the 2002 Cover, Aggregate Cover and the
CCC Cover on pretax operating results was as follows:
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------------------------
2002 2001 2002 2001
------------------------------------------------
(In millions)
Standard Lines . . . . . . . . . . . . . . $(14.0) $ 186.0 $ (28.0) $182.0
Specialty Lines . . . . . . . . . . . . . (3.0) (4.0) (5.0) (6.0)
CNA Re . . . . . . . . . . . . . . . . . . (3.0) 25.0 19.0 25.0
Corporate and Other . . . . . . . . . . . 3.0
- ------------------------------------------------------------------------------------------------
Pretax impact on operating results . . . . $(20.0) $ 210.0 $ (14.0) $201.0
================================================================================================
2001 Restructuring
In 2001, CNA finalized and approved two separate restructuring plans. The
first plan related to CNA's Information Technology operations (the "IT Plan").
The second plan related to restructuring the property-casualty segments and
Life Operations, discontinuation of variable life and annuity business and
consolidation of real estate locations (the "2001 Plan").
IT Plan
The overall goal of the IT Plan was to improve technology for the
underwriting function and throughout CNA and to eliminate inefficiencies in
the deployment of IT resources. The changes facilitated a strong focus on
enterprise-wide system initiatives. The IT Plan had two main components, which
included the reorganization of IT resources into the Technology and Operations
Group with a structure based on centralized, functional roles and the
implementation of an integrated technology roadmap that included common
architecture and platform standards that directly support CNA's strategies.
For the three and six months ended June 30, 2001, CNA incurred $56.1 and
$62.1 million pretax of restructuring and other related charges for the IT
Plan primarily related to employee severance charges and the write-off of
impaired assets.
The following table summarizes the pretax effect of these costs on CNA's
operating segments.
Three Months Ended Six Months Ended
June 30, 2001 June 30, 2001
- ------------------------------------------------------------------------------------------------
(In millions)
Property-Casualty Operations $ 8.0 $ 8.0
Life Operations 17.0 17.0
Other Insurance 31.1 37.1
- ------------------------------------------------------------------------------------------------
Total $56.1 $62.1
================================================================================================
63
No restructuring and other related charges related to the IT Plan have been
incurred in 2002; however, payments were made during the six months ended June
30, 2002 related to amounts accrued as of December 31, 2001. The following
table summarizes the remaining IT Plan accrual at June 30, 2002 and the
activity in that accrual since inception. Approximately $5.0 of the remaining
accrual is expected to be paid during the remainder of 2002.
Employee
Termination Impaired
and Related Asset Other
Benefit Costs Charges Costs Total
- ------------------------------------------------------------------------------------------------
(In millions)
IT Plan initial accrual . . . . . . . . . . . . $29.0 $ 32.0 $1.0 $ 62.0
Costs that did not require cash in 2001 . . . . (32.0) (32.0)
Payments charged against liability in 2001 . . . (19.0) (19.0)
- ------------------------------------------------------------------------------------------------
Accrued costs at December 31, 2001 . . . . . . . 10.0 1.0 11.0
Payments charged against liability in 2002 . . . (1.0) (1.0)
- ------------------------------------------------------------------------------------------------
Accrued costs at June 30, 2002 . . . . . . . . . $ 9.0 $1.0 $ 10.0
================================================================================================
The IT Plan is not expected to result in decreased operating expenses in the
foreseeable future because savings from the workforce reduction will be used
to fund new technology-related initiatives. Employee termination and related
benefit payments will continue through 2004 due to employment contract
obligations.
2001 Plan
The overall goal of the 2001 Plan was to create a simplified and leaner
organization for customers and business partners. The major components of the
plan included a reduction in the number of strategic business units ("SBUs")
in the property-casualty operations, changes in the strategic focus of the
Life Operations and consolidation of real estate locations. The reduction in
the number of property-casualty SBUs resulted in consolidation of SBU
functions, including underwriting, claims, marketing and finance. The
strategic changes in Life Operations included a decision to discontinue
writing variable life and annuity business.
No restructuring and other related charges related to the 2001 Plan have
been incurred in 2002; however, payments were made during the six months ended
June 30, 2002 related to amounts accrued as of December 31, 2001. The
following table summarizes the remaining 2001 Plan accrual as of June 30, 2002
and the activity in that accrual since inception. Approximately $35.0 million
of the remaining accrual is expected to be paid during the remainder of 2002.
64
2001 Plan Accrual
Employee
Termination Lease Impaired
and Related Termination Asset Other
Benefit Costs Costs Charges Costs Total
- ------------------------------------------------------------------------------------------------
(In millions)
2001 Plan initial accrual . . . . . $ 68.0 $ 56.0 $ 30.0 $ 35.0 $189.0
Costs that did not require cash
in 2001 . . . . . . . . . . . . . . (35.0) (35.0)
Payments charged against liability
in 2001 . . . . . . . . . . . . . . (2.0) (2.0)
- ------------------------------------------------------------------------------------------------
Accrued costs at December 31, 2001 . 66.0 56.0 30.0 152.0
Costs that did not require cash
in 2002 . . . . . . . . . . . . . . (25.0) (25.0)
Payments charged against liability
in 2002 . . . . . . . . . . . . . . (45.0) (10.0) (1.0) (56.0)
- ------------------------------------------------------------------------------------------------
Accrued costs at June 30, 2002 . . . $ 21.0 $ 46.0 $ 4.0 $ 71.0
================================================================================================
Reserves - Estimates and Uncertainties
CNA maintains loss reserves ("reserves") to cover its estimated ultimate
unpaid liability for losses and loss adjustment expenses, including the
estimated cost of the claims adjudication process, for claims that have been
reported but not yet settled and claims that have been incurred but not
reported. Reserves are reflected as liabilities on the Consolidated Condensed
Balance Sheets under the heading "Insurance Reserves." Changes in reserves are
reflected in the Company's Statement of Operations, during the period in which
the change arises.
The level of reserves maintained by CNA represents management's best
estimate, as of a particular point in time, of what the ultimate settlement
and administration of claims will cost based on its assessment of facts and
circumstances known to it at that time. Reserves are not an exact calculation
of liability but instead are estimates which are derived by CNA, generally
utilizing a variety of actuarial reserve estimation techniques, from numerous
assumptions and expectations about future events, both internal and external,
many of which are highly uncertain. Some of the many uncertain future events
about which CNA makes assumptions and estimates are claims severity, frequency
of claims, economic inflation, the impact of underwriting policy and claims
handling practices and the lag time between the occurrence of an insured event
and the time it is ultimately settled (referred to in the insurance industry
as the "tail").
CNA's experience has been that the inherent uncertainties of estimating
insurance reserves are generally greater for casualty coverages (particularly
long-tail casualty risks such as APMT losses) than for property coverages.
Estimates of the cost of future APMT claims are highly complex and include an
assessment of, among other things, whether certain costs are covered under the
policies and whether recovery limits apply, allocation of liability among
numerous parties, some of whom are in bankruptcy proceedings, inconsistent
court decisions and developing legal theories and tactics of plaintiffs'
lawyers. Reserves for property-related catastrophes, both natural disasters
and man-made catastrophes such as terrorist acts, are also difficult to
estimate. See the discussion of Environmental Pollution and Mass Tort and
65
Asbestos Reserves in the Management Discussion and Analysis for further
information on APMT.
In addition to the uncertainties inherent in estimating APMT and catastrophe
losses, CNA is subject to the uncertain effects of emerging or potential
claims and coverage issues which arise as industry practices and legal,
judicial, social, and other environmental conditions change. These issues can
have a negative effect on CNA's business by either extending coverage beyond
the original underwriting intent or by increasing the number or size of
claims. Either development could require material increases in reserves.
Examples of emerging or potential claims and coverage issues include: (i)
increases in the number and size of water damage claims related to expenses
for testing and remediation of mold conditions; (ii) increases in the number
and size of claims relating to injuries from medical products, and exposure to
lead and radiation related to cellular phone usage; (iii) expected increases
in the number and size of claims relating to accounting and financial
reporting, including director and officer errors and omissions insurance
claims, in an environment of major corporate bankruptcies; and (iv) a growing
trend of plaintiffs targeting insurers in class action litigation relating to
claims-handling and other practices. The future impact of these and other
unforeseen emerging or potential claims and coverage issues is extremely hard
to predict and could materially adversely affect the adequacy of CNA's
reserves and could lead to future reserve additions.
CNA's current reserve levels reflect management's best estimate of CNA's
ultimate claims and claim adjustment expenses at June 30, 2002, based upon
known facts and current law. However, in light of the many uncertainties
associated with making the estimates and assumptions necessary to establish
reserve levels, CNA reviews its reserve estimates on a regular and ongoing
basis and makes changes as experience develops. CNA may in the future
determine that its recorded reserves are not sufficient and may increase its
reserves in amounts that may be material, which could materially adversely
affect the Company's business and financial condition. Any such increase in
reserves would be recorded as a charge against the Company's earnings for the
period in which the estimate of reserves changes.
Terrorism Exposure
CNA and the insurance industry incurred substantial losses related to the
tragic events of September 11, 2001. For the most part, CNA believes the
industry was able to absorb the loss of capital from these losses, but the
capacity to withstand the effect of any additional terrorism events was
significantly diminished. The public debate following September 11 centered on
the role, if any, the U.S. federal government should play in providing a
"terrorism backstop" for the industry. Several legislative proposals were
introduced, but as yet, Congress has not enacted any of the proposed
solutions.
Without any federal backstop in place, CNA is exposed to potentially
material losses arising from a future terrorism event. Accordingly, CNA's
results of operations and financial condition could be materially adversely
impacted by a future terrorism event. CNA is attempting to mitigate this
exposure through its underwriting practices, policy terms and conditions, and
the use of reinsurance. CNA is generally prohibited from excluding terrorism
exposure from its primary workers compensation, individual life and group life
and health policies. CNA's current reinsurance arrangements either exclude
terrorism coverage or significantly limit the level of coverage.
66
Property-Casualty
- -----------------
CNA conducts its property-casualty operations through the following
operating segments: Standard Lines, Specialty Lines and CNA Re. The discussion
of underwriting results and ratios reflect the underlying business results of
CNA's property-casualty insurance subsidiaries. Underwriting ratios are
industry measures of property-casualty underwriting results. The loss ratio is
the percentage of net incurred claim and claim adjustment expenses to net
earned premiums. The expense ratio is the percentage of underwriting and
acquisition expenses, including the amortization of deferred acquisition
costs, to net earned premiums. The dividend ratio is the ratio of dividends
incurred to net earned premiums.
The following table summarizes key components of the Property-Casualty
segment operating results for the three and six months ended June 30, 2002 and
2001.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
- ------------------------------------------------------------------------------------------------
(In millions)
Net written premiums. . . . . . . . . . . . $1,788.0 $ 960.0 $3,578.0 $ 2,473.0
Net earned premiums . . . . . . . . . . . . 1,735.0 538.0 3,396.0 2,013.0
Underwriting loss . . . . . . . . . . . . . (121.0) (2,089.0) (225.0) (2,224.0)
Net investment income . . . . . . . . . . . 258.0 189.0 455.0 491.0
Net operating income (loss) . . . . . . . . 94.0 (1,084.4) 169.5 (975.0)
Ratios:
Loss and loss adjustment expense . . . . 75.8% 376.0% 74.2% 153.3%
Expense . . . . . . . . . . . . . . . . . 30.3 107.5 31.4 54.8
Dividend . . . . . . . . . . . . . . . . 0.9 4.6 1.0 2.4
- ------------------------------------------------------------------------------------------------
Combined . . . . . . . . . . . . . . . . 107.0% 488.1% 106.6% 210.5%
================================================================================================
2001 adjusted underwriting loss* . . . . . $ (167.0) $ (299.0)
================================================================================================
2001 adjusted ratios*
Loss and loss adjustment expense . . . . 72.6% 72.6%
Expense . . . . . . . . . . . . . . . . . 36.4 35.5
Dividend . . . . . . . . . . . . . . . . 1.6 1.6
- ------------------------------------------------------------------------------------------------
Combined . . . . . . . . . . . . . . . 110.6% 109.7%
================================================================================================
* The 2001 adjusted underwriting loss and adjusted ratios exclude the impact of the second
quarter 2001 reserve strengthening, corporate aggregate reinsurance treaties and restructuring
and other related charges.
Net operating results improved $1,178.4 million for the second quarter of
2002 as compared with the same period in 2001. The impact of the second
quarter 2001 reserve strengthening, net of the related corporate aggregate
reinsurance treaty benefit, was $1,114.5 million after taxes and minority
interest. In addition, net operating results for the second quarter of 2001
included $8.7 million related to the cost of the corporate aggregate
67
reinsurance treaties from core operations and $4.4 million for restructuring
and other related charges.
Excluding these 2001 significant items, net operating results increased
$50.8 million for the second quarter of 2002 as compared with the same period
in 2001. This increase was due primarily to improved underwriting results in
both Specialty Lines and the U.S. operations of CNA Re, the impact of better
aligning premium earnings patterns with the emergence of claims in Specialty
Lines' vehicle warranty line of business which reduced operating results in
2001 and improved net investment income, including $23.0 million related to
limited partnership income. These increases were partially offset by a decline
in underwriting results in Standard Lines.
The combined ratio decreased 3.6 points for the second quarter of 2002 as
compared with the adjusted combined ratio for the same period in 2001, and
underwriting results improved by $46.0 million as compared with the adjusted
underwriting results for the same period in 2001. This change was due to
decreases in both the expense and dividend ratios, partially offset by an
increase in the loss ratio. The loss ratio increased 3.2 points due
principally to a net cost of reinsurance in 2002 as compared with a
significant benefit from the use of reinsurance in 2001 across the property-
casualty operating units and prior year reserve development recorded in 2002
in Standard Lines, primarily in the Excess & Surplus lines of business, and in
CNA Re. These loss ratio increases were partially offset by rate increases in
most property-casualty businesses and improvement in the current accident year
loss ratio in CNA Re. The expense ratio decreased 6.1 points primarily as a
result of the 2001 write-off of unrecoverable deferred acquisition costs in
the vehicle warranty line of business in Specialty Lines. Also contributing to
the decrease in the expense ratio were decreased acquisition expenses in 2002
and a shift in the business mix resulting in a lower commission rate in CNA Re
and lower underwriting expenses resulting from decreased head count due to the
2001 Plan. The dividend ratio decreased 0.7 points due primarily to favorable
current accident year dividends and adverse dividend reserve development
recorded in Standard Lines in 2001.
Net written premiums increased $828.0 million for the second quarter of 2002
as compared with the same period in 2001. Second quarter results for 2001
included reductions in net written premiums totaling $661.0 million related to
the corporate aggregate reinsurance treaties, additional ceded premiums
arising from the reserve strengthening and a change in estimate for
involuntary market premium accruals. Excluding these 2001 significant items,
net written premiums increased $167.0 million. This increase was due primarily
to strong rate increases across the property-casualty operating units, lower
ceded premiums in Standard Lines, and clients increasing their premium
writings above original estimates in CNA Re. These increases were partially
offset by the decision made in the third quarter of 2001 to cease new business
writings in the CNA Re U.K. subsidiary, and lower net written premiums for the
Casualty lines of business in Standard Lines.
Net earned premiums increased $1,197.0 million for the second quarter of
2002 as compared with the same period in 2001. Second quarter results for 2001
included reductions in net earned premiums totaling $1,040.0 million related
to the corporate aggregate reinsurance treaties, additional ceded premiums and
a change in estimate for retrospective premium accruals arising from the
reserve strengthening and a change in estimate for involuntary market premium
accruals. Excluding these 2001 significant items, net earned premiums
increased $157.0 million due primarily to the increases in net written
premiums noted above.
68
Net operating results improved $1,144.5 million for the six months ended
June 30, 2002 as compared with the same period in 2001. The impact of the
second quarter 2001 reserve strengthening, net of the related corporate
aggregate reinsurance treaty benefit, was $1,114.5 million after taxes and
minority interest. In addition, net operating results for the six months ended
June 30, 2001 included $12.2 million related to the cost of the corporate
aggregate reinsurance treaties from core operations and $4.4 million for
restructuring and other related charges.
Excluding these 2001 significant items, net operating results increased
$13.4 million for the six months ended June 30, 2002 as compared with the same
period in 2001. This increase was due primarily to the impact of the 2001
vehicle warranty charge noted above and improved underwriting results in
Specialty Lines and the U.S. operations of CNA Re. In addition, net operating
results improved due to an increased benefit from the additional cessions to
the CCC Cover as a result of the increase in WTC related losses recorded in
the first quarter of 2002 in CNA Re. These increases were partially offset by
lower net investment income and declines in underwriting results in Standard
Lines.
The combined ratio decreased 3.1 points for the six months ended June 30,
2002 as compared with the adjusted combined ratio for the same period in 2001,
and underwriting results improved by $74.0 million as compared with the
adjusted underwriting results for the same period in 2001. This change was due
to decreases in both the expense and dividend ratios, partially offset by an
increase in the loss ratio. The loss ratio increased 1.6 points due
principally to a reduced benefit from the use of reinsurance in both Standard
Lines and Specialty Lines and the loss development in both Standard Lines and
CNA Re noted above. These loss ratio increases were partially offset by rate
increases and a $32.0 million net underwriting benefit in CNA Re related to
the corporate aggregate reinsurance treaties resulting from the re-estimation
of the WTC event. The expense ratio decreased 4.1 points and the dividend
ratio decreased 0.6 points primarily as a result of the second quarter
activity described above.
Net written premiums increased $1,105.0 million for the six months ended
June 30, 2002 as compared with the same period in 2001. The six months ended
June 30, 2001 included reductions in net written premiums totaling $702.0
million related to the corporate aggregate reinsurance treaties, additional
ceded premiums arising from the reserve strengthening and a change in estimate
for involuntary market premium accruals. Excluding these 2001 significant
items, net written premiums increased $403.0 million. This increase was due
principally to strong rate increases across the property-casualty operating
units, a higher level of new business in Standard Lines and Specialty Lines,
and clients increasing their premium writings above original estimates in CNA
Re.
Net earned premiums increased $1,383.0 million for the six months ended June
30, 2002 as compared with the same period in 2001. The six months ended June
30, 2001 included reductions in net earned premiums totaling $1,081.0 million
related to the corporate aggregate reinsurance treaties, additional ceded
premiums and a change in estimate for retrospective premium accruals arising
from the reserve strengthening and a change in estimate for involuntary market
premium accruals. Excluding these 2001 significant items, net earned premiums
increased $302.0 million due primarily to the increases in net written
premiums noted above.
69
Group
- -----
Net operating results improved $3.3 million for the second quarter of 2002
as compared with the same period in 2001. This improvement was primarily
attributable to favorable expenses and increased net investment income.
Net earned premiums increased $10.0 million for the second quarter of 2002
as compared with the same period in 2001. This growth was due primarily to
higher premiums in the Federal Markets mail handlers benefit program, which
was driven by increased medical cost trends. This increase was partially
offset by lower net earned premiums in the Group Benefits specialty medical
line of business.
Net operating income improved $4.0 million for the six month period ended
June 30, 2002 as compared with the same period in 2001. This improvement was
primarily attributable to favorable expenses and increased net investment
income.
Net earned premiums increased $106.0 million for the six months ended June
30, 2002 as compared with the same period in 2001. This growth was due
primarily to higher premiums in the Federal Markets mail handlers benefit
program, which was driven by increased medical cost trends and higher cost
containment fees. In addition there was also growth in the disability, life
and accident and group long term care lines of business. These increases were
partially offset by lower net earned premiums in the Group Benefits specialty
medical line of business.
Effective July 1, 2002 CNA closed on the sale of Claims Administration
Corporation and the transfer of the National Postal Mail Handlers Union group
benefits plan to First Health Group Corporation. CNA received $2.2 billion of
revenue and recorded $8.7 million of net operating income from this contract
in 2001. The loss of this contract is not anticipated to have an adverse
material impact on 2002 net operating income.
Life
- ----
Net operating results improved $10.0 million for the second quarter of 2002
as compared with the same period in 2001. This improvement related primarily
to restructuring and other related charges of $9.1 million that occurred in
2001. Excluding restructuring and other related charges, net operating results
improved $.9 million due primarily to higher net investment income, partially
offset by increased acquisition costs.
Sales volume decreased $546.0 million for the second quarter of 2002 as
compared with the same period in 2001. This decrease was attributable
primarily to lower sales of synthetic guaranteed investment contracts and
structured settlement annuities, along with reduced sales in the variable
products business, which CNA decided to exit in the fourth quarter of 2001.
These decreases were partially offset by increased sales in the Life core and
Long Term Care businesses. Net earned premiums increased $6.0 million for the
second quarter of 2002 as compared with the same period in 2001, attributable
primarily to growth in the Long Term Care business, partially offset by
decreased sales in the Retirement Services and structured settlements
businesses.
Net operating results improved $4.1 million for the six months ended June
30, 2002 as compared with the same period in 2001. This improvement related
70
primarily to the absence of restructuring and other related charges of $9.1
million that were recorded in 2001. Excluding restructuring and other related
charges, net operating results declined $5.0 million due primarily to
increased acquisition expenses and favorable 2001 results in the Index 500
product, partially offset by increased net investment income in 2002.
Sales volume decreased $578.0 million for the six months ended June 30, 2002
as compared with the same period in 2001. This decrease was attributable
primarily to the second quarter 2001 decreases in sales volume noted above.
Net earned premiums increased $32.0 million for the six months ended June 30,
2002 as compared with the same period in 2001 attributable primarily to growth
in the Long Term Care business, partially offset by decreased sales in the
Retirement Services business.
Other Insurance
- ---------------
Net operating results improved $740.0 million for the second quarter of 2002
as compared with the same period in 2001. The after-tax impact of the second
quarter 2001 reserve strengthening on the Other Insurance segment was $695.2
million, including $644.7 million for APMT. See the Environmental Pollution
and Mass Tort and Asbestos Reserves section following for a discussion of this
prior year reserve strengthening. Net operating results for 2001 also included
$17.4 million of restructuring and other related charges. Excluding these 2001
significant items, net operating results improved $27.4 million for the second
quarter of 2002 as compared with the same period in 2001. This improvement was
due primarily to reduced expenses for e-Business initiatives and increased net
investment income, partially offset by decreased operating results for CNA
UniSource.
Total operating revenues increased $7.0 million for the second quarter 2002
as compared with the same period in 2001. This increase was due primarily to
higher net earned premiums in Group Reinsurance and increased net investment
income, partially offset by reduced revenues for CNA UniSource.
Net operating results improved $774.7 million for the six months ended June
30, 2002 as compared with the same period in 2001. Included in the 2001
results were $695.2 million related to the second quarter 2001 reserve
strengthening, including $644.7 million for APMT, and $20.9 million of
restructuring and other related charges. Excluding these 2001 significant
items, net operating results improved $58.6 million for the six months ended
June 30, 2002 as compared with the same period in 2001. This improvement was
due primarily to the second quarter improvement described above.
Total operating revenues increased $24.0 million for the six months ended
June 30, 2002 as compared with the same period in 2001. This increase was due
primarily to the second quarter increase described above.
In the second quarter of 2001, CNA planned the disposition of CNA UniSource,
a payroll processor and professional employer organization ("PEO"). After
exploring possible transactions to dispose of its PEO business, CNA UniSource
exited the PEO business as of March 31, 2002. As of that date, substantially
all existing PEO client contracts were terminated. All obligations related to
the PEO operation are being run-off in an orderly manner and the associated
costs are included in continuing operations. The Company anticipates
additional operating losses from the PEO run-off for the remainder of 2002.
CNA UniSource's payroll processing business, which has annual revenues of
approximately $11.0 million, remains designated as held for sale.
71
Environmental Pollution and Mass Tort and Asbestos Reserves
CNA's property-casualty insurance subsidiaries have potential exposures
related to environmental pollution and mass tort and asbestos claims.
Environmental pollution cleanup is the subject of both federal and state
regulation. By some estimates, there are thousands of potential waste sites
subject to cleanup. The insurance industry is involved in extensive litigation
regarding coverage issues. Judicial interpretations in many cases have
expanded the scope of coverage and liability beyond the original intent of the
policies. The Comprehensive Environmental Response Compensation and Liability
Act of 1980 ("Superfund") and comparable state statutes ("mini-Superfunds")
govern the cleanup and restoration of toxic waste sites and formalize the
concept of legal liability for cleanup and restoration by "Potentially
Responsible Parties" ("PRPs"). Superfund and the mini-Superfunds establish
mechanisms to pay for cleanup of waste sites if PRPs fail to do so, and to
assign liability to PRPs. The extent of liability to be allocated to a PRP is
dependent upon a variety of factors. Further, the number of waste sites
subject to cleanup is unknown. To date, approximately 1,500 cleanup sites have
been identified by the Environmental Protection Agency ("EPA") and included on
its National Priorities List ("NPL"). State authorities have designated many
cleanup sites as well.
Many policyholders have made claims against various CNA insurance
subsidiaries for defense costs and indemnification in connection with
environmental pollution matters. These claims relate to accident years 1989
and prior, which coincides with CNA's adoption of the Simplified Commercial
General Liability coverage form, which includes what is referred to in the
industry as an "absolute pollution exclusion." CNA and the insurance industry
are disputing coverage for many such claims. Key coverage issues include
whether cleanup costs are considered damages under the policies, trigger of
coverage, allocation of liability among triggered policies, applicability of
pollution exclusions and owned property exclusions, the potential for joint
and several liability and the definition of an occurrence. To date, courts
have been inconsistent in their rulings on these issues.
A number of proposals to reform Superfund have been made by various parties.
However, no reforms were enacted by Congress during 2001 or the first six
months of 2002, and it is unclear what positions Congress or the
administration will take and what legislation, if any, will result in the
future. If there is legislation, and in some circumstances even if there is no
legislation, the federal role in environmental cleanup may be significantly
reduced in favor of state action. Substantial changes in the federal statute
or the activity of the EPA may cause states to reconsider their environmental
cleanup statutes and regulations. There can be no meaningful prediction of the
pattern of regulation that would result or the effect upon CNA's results of
operations and/or financial position.
Due to the inherent uncertainties described above, including the
inconsistency of court decisions, the number of waste sites subject to
cleanup, and the standards for cleanup and liability, the ultimate liability
of CNA for environmental pollution claims may vary substantially from the
amount currently recorded.
As of June 30, 2002 and December 31, 2001, CNA carried approximately $559.0
and $617.0 million of claim and claim adjustment expense reserves, net of
reinsurance recoverables, for reported and unreported environmental pollution
and mass tort claims. There was no environmental pollution and mass tort
development for the three and six months ended June 30, 2002. Unfavorable
72
environmental pollution and mass tort development for the three and six months
ended June 30, 2001 amounted to $449.0 and $453.0 million.
The reserve strengthening in the second quarter of 2001 for environmental
pollution and mass tort reserves was due to reviews completed during the year,
which indicated that paid and reported losses were higher than expectations
based on prior year reviews. Factors that have led to this development include
a number of declaratory judgments filed in 2001 due to an increasingly
favorable legal environment for policyholders in certain courts involving
environmental pollution and mass tort claims and other unfavorable decisions
regarding cleanup issues. Due to the uncertainties created by these factors,
the ultimate liability of CNA for mass tort claims may also vary substantially
from the amount currently recorded.
CNA's property-casualty insurance subsidiaries also have exposure to
asbestos-related claims. Estimation of asbestos-related claim and claim
adjustment expense reserves involves many of the same limitations discussed
above for environmental pollution claims, such as inconsistency of court
decisions, specific policy provisions, allocation of liability among insurers
and insureds, and additional factors such as missing policies and proof of
coverage. Furthermore, estimation of asbestos-related claims is difficult due
to, among other reasons, the proliferation of bankruptcy proceedings and
attendant uncertainties, the targeting of a broader range of businesses and
entities as defendants, the uncertainty as to which other insureds may be
targeted in the future, and the uncertainties inherent in predicting the
number of future claims.
As of June 30, 2002 and December 31, 2001, CNA carried approximately
$1,219.0 million and $1,204.0 million of net claim and claim adjustment
expense reserves, net of reinsurance recoverables, for reported and unreported
asbestos-related claims. There was no asbestos net claim and claim adjustment
expense development for the three and six months ended June 30, 2002.
Unfavorable asbestos net claim and claim adjustment reserve development for
the three and six months ended June 30, 2001 amounted to $748.0 million and
$769.0 million. CNA has attempted to manage its asbestos-related exposures by
aggressively resolving older claims.
The reserve strengthening in the second quarter of 2001 for asbestos-related
claims was based on a management review of developments with respect to these
exposures conducted in the second quarter. This analysis indicated a
significant increase in claim counts for asbestos-related claims. The factors
that led to the deterioration in claim counts included, among other things,
intensive advertising campaigns by lawyers for asbestos claimants and the
addition of new defendants such as the distributors and installers of asbestos
containing products. New claim filings increased significantly in 2000 over
1999 and that trend continued in 2001. The volume of new claims caused the
bankruptcies of numerous asbestos defendants. Those bankruptcies also may
result in increased liability for remaining defendants under principles of
joint and several liability. In some bankruptcy proceedings asbestos claimants
may assert an entitlement to policy proceeds upon confirmation of a plan of
reorganization, rather than when claims would ordinarily be paid to all
claimants. If such assertions are made successfully, they could have the
effect of accelerating claims payment patterns.
In addition, some asbestos-related defendants asserted that their claims for
insurance are not subject to aggregate limits on coverage. CNA has such claims
from a number of insureds. Some of these claims involve insureds facing
exhaustion of products liability aggregate limits in their policies, who have
asserted that their asbestos-related claims fall within so-called "non-
73
products" liability coverage contained within their policies rather than
products liability coverage, and that the claimed "non-products" coverage is
not subject to any aggregate limit. It is difficult to predict the ultimate
size of any of the claims for coverage not subject to aggregate limits or
predict to what extent, if any, the attempts to assert "non-products" claims
outside the products liability aggregate will succeed.
Due to the uncertainties created by volatility in claim numbers and
settlement demands, the effect of bankruptcies, the extent to which non-
impaired claimants can be precluded from making claims and the efforts by
insureds to obtain coverage not subject to aggregate limits, the ultimate
liability of CNA for asbestos-related claims may vary substantially from the
amount currently recorded. Other variables that will influence CNA's ultimate
exposure to asbestos-related claims will be medical inflation trends, jury
attitudes, the strategies of plaintiff attorneys to broaden the scope of
defendants, the mix of asbestos-related diseases presented and the possibility
of legislative reform. Adverse developments with respect to such matters
discussed in this paragraph could have a material adverse effect on the
Company's results of operations and/or financial condition.
The results of operations and financial condition of the Company in future
years may continue to be adversely affected by environmental pollution and
mass tort and asbestos claim and claim adjustment expenses. Management will
continue to review and monitor these liabilities and make further adjustments,
including the potential for further reserve strengthening, as warranted.
Lorillard
- ---------
Lorillard, Inc. and subsidiaries ("Lorillard"). Lorillard, Inc. is a wholly
owned subsidiary of the Company.
During the first quarter of 2002, Lorillard adopted Emerging Issues Task
Force ("EITF") No. 00-25 and No. 00-14 relating to the classification of
vendor consideration and certain sales incentives. As a result, promotional
expenses historically included in other operating expenses were reclassified
to cost of manufactured products sold, or as reductions of revenues from
manufactured products. Prior period amounts were reclassified for comparative
purposes. Adoption of the EITF issues had no impact on the results of
operations and cash flows of Lorillard.
Revenues increased by $23.1 and $73.5 million, or 2.3% and 3.8%, and net
income increased by $123.8 and $126.1 million, respectively, for the quarter
and six months ended June 30, 2002, as compared to the corresponding periods
of the prior year.
Revenues increased due to higher net sales, partially offset by lower
investment income. Net sales increased by $35.9 and $103.7 million for the
quarter and six months ended June 30, 2002 due to higher average unit prices
which resulted in an aggregate increase of approximately $79.8 and $116.8
million, or 8.1% and 6.2%, including $24.1 and $46.6 million from an increase
in federal excise taxes effective January 1, 2002. The increased unit prices
were partially offset by increased promotional expenses, mostly in the form of
coupons and other discounts provided to retailers and passed through to the
consumer. The price increases were also partially offset by unit sales volume
declines of approximately $43.9 and $13.1 million, or 4.4% and 0.7%, for the
quarter and six months ended June 30, 2002, as compared to 2001. During 2002,
Lorillard increased its net wholesale price of cigarettes by an average of
$7.86 per thousand cigarettes ($.16 per pack of 20 cigarettes), or 6.7%,
74
before the impact of any promotional activities. Federal excise taxes are
included in the price of cigarettes and on January 1, 2002, the federal excise
tax on cigarettes increased by $2.50 per thousand cigarettes ($0.05 per pack
of 20 cigarettes) to $19.50 per thousand cigarettes. All of the states also
levy excise taxes on cigarettes. Various states and municipalities have
proposed, and some have recently passed, increases in their tobacco excise
taxes. Such actions may adversely affect Lorillard's volume, net sales and net
income.
Lorillard's overall unit sales volume decreased 2.9% and 0.6% for the
quarter and six months ended June 30, 2002, as compared to 2001. Newport's
unit sales volume increased by 1.9% and 4.4% for the quarter and six months
ended June 30, 2002, primarily as a result of the introduction of additional
offerings from Newport's Medium line extension, strengthened promotional
support, inventory replenishment following the January 1, 2002 federal excise
tax increase and above average purchases by some wholesale customers in
advance of various state excise tax increases. Overall unit sales volume
reflects lower unit sales of Lorillard's Maverick and Old Gold brands in the
discount market segment due primarily to increased competition in the discount
segment and continued limitations imposed by Philip Morris's merchandising
arrangements and general competitive conditions. Overall, industry unit sales
volume decreased by 2.3% for the six months ended June 30, 2002.
Lorillard's share of wholesale cigarette shipments was 9.62% for the six
months ended June 30, 2002, as compared to 9.45% for 2001. Newport, a premium
brand, accounted for approximately 88% of Lorillard's unit sales for the six
months ended June 30, 2002, compared to 85% for the year ended December 31,
2001. Newport's market share of the premium segment was 11.5% for the six
months ended June 30, 2002, compared to 10.9% for the year ended December 31,
2001.
Lorillard recorded pretax charges of $291.9, $302.1, $587.7 and $581.3
million ($176.5, $180.7, $357.2 and $351.5 million after-taxes), for the
quarter and six months ended June 30, 2002 and 2001, respectively, to accrue
its obligations under various settlement agreements. Lorillard's portion of
ongoing adjusted payments and legal fees is based on its share of domestic
cigarette shipments in the year preceding that in which the payment is due.
Accordingly, Lorillard records its portions of ongoing settlement payments as
part of cost of manufactured products sold as the related sales occur. Funds
required for the industry payment obligations have been provided by
Lorillard's operating activities.
The State Settlement Agreements impose a stream of future payment
obligations on Lorillard and the other major U.S. cigarette manufacturers and
places significant restrictions on their ability to market and sell
cigarettes. The Company believes that the implementation of the State
Settlement Agreements will materially adversely affect its consolidated
results of operations and cash flows in future periods. The degree of the
adverse impact will depend, among other things, on the rates of decline in
U.S. cigarette sales in the premium and discount segments, Lorillard's share
of the domestic premium and discount segments, and the effect of any resulting
cost advantage of manufacturers not subject to all of the payments of the
State Settlement Agreements. See Note 13 of the Notes to Consolidated
Condensed Financial Statements in Part I.
75
Loews Hotels
- ------------
Loews Hotels Holding Corporation and subsidiaries ("Loews Hotels"). Loews
Hotels Holding Corporation is a wholly owned subsidiary of the Company.
Revenues decreased by $9.2 and $16.8 million, or 10.1% and 9.5%, and net
income decreased by $2.9 and $2.4 million, or 30.2% and 15.9%, for the quarter
and six months ended June 30, 2002, as compared to the corresponding periods
of the prior year.
Revenue per available room declined by $11.93 and $12.97, or 8.6% and 9.5%,
to $126.66 and $123.29 for the quarter and six months ended June 30, 2002,
respectively, as compared to the corresponding periods of the prior year,
primarily due to lower average room rates and occupancy rates. Net income
decreased due to the lower revenues, partially offset by improved results at
the Universal Orlando properties and the Loews Philadelphia Hotel, as well as
lower interest expense.
Diamond Offshore
- ----------------
Diamond Offshore Drilling, Inc. and subsidiaries ("Diamond Offshore").
Diamond Offshore Drilling, Inc. is a 53% owned subsidiary of the Company.
Revenues decreased by $51.5 and $71.8 million, or 21.5% and 15.5%, and net
income decreased by $16.1 and $22.1 million, or 90.4% and 68.0%, for the
quarter and six months ended June 30, 2002, respectively, as compared to the
corresponding periods of the prior year.
Revenues from high specification floaters and other semisubmersible rigs
decreased by $29.9 and $24.8 million, or 12.5% and 5.3%, for the quarter and
six months ended June 30, 2002, as compared to the corresponding periods of
the prior year. The decrease reflects lower dayrates ($9.0 and $8.5 million)
and lower utilization ($32.4 and $30.2 million) partially offset by revenues
generated by the Ocean Baroness which completed a conversion to a high
specification semisubmersible drilling unit ($11.5 and $13.9 million), for the
quarter and six months ended June 30, 2002, as compared to the corresponding
periods of the prior year.
Revenues from jack-up rigs decreased by $20.6 and $34.6 million, or 8.6% and
7.5%, due primarily to decreased dayrates ($12.2 and $23.6 million) and lower
utilization ($8.4 and $11.0 million) for the quarter and six months ended June
30, 2002.
Net income decreased due primarily to the decreased revenues discussed
above, partially offset by lower interest expenses.
On April 22, 2002, the Ocean Baroness experienced a parting of its marine
riser during operations offshore Malaysia in 5,700 feet of water. No injuries
were sustained and the well was secured without incident and successfully
plugged. The drilling unit was undamaged and known damage was limited to
subsurface elements of the riser. The rig resumed normal operations on May 19,
2002 after retrieving its marine riser. On May 30, 2002, Diamond Offshore
filed a lawsuit against the manufacturer of the marine riser seeking to
recover damages Diamond Offshore incurred as a result of the incident.
On August 9, 2002, Diamond Offshore's jack-up drilling unit the Ocean King,
while conducting routine operations offshore Louisiana, experienced a well
76
control event and fire. The rig's standing emergency action plan was initiated
and all personnel on board the rig were safely evacuated. There were no
reported injuries and no apparent pollution. The fire burned a short time and
the rig was reboarded later that day by a limited crew. Early assessments
reveal that damage was localized, primarily affecting electrical systems on
the aft end of the cantilever structure. At this time, primary rig systems do
not appear to be affected.
Bulova
- ------
Bulova Corporation and subsidiaries ("Bulova"). Bulova Corporation is a 97%
owned subsidiary of the Company.
Revenues increased by $9.5 and $9.0 million, or 30.0% and 13.9%,
respectively, for the quarter and six months ended June 30, 2002. Net income
increased $0.8 million or 44.4% for the second quarter of 2002 and net income
remains unchanged at $4.2 million for the six months ended June 30, 2002.
Revenues and net income increased due primarily to the addition of the
Wittnauer watch brand, acquired in the third quarter of 2001, increased sales
of Harley Davidson licensed product associated with the license agreement
signed in May 2001, and increased clock unit sales volume as compared to the
corresponding periods of the prior year. These increases were partially offset
by unit volume decreases in the Bulova brand as compared to 2001.
Corporate
- ---------
Corporate operations consist primarily of investment income, including
investment gains (losses) from non-insurance subsidiaries, as well as equity
earnings from a shipping joint venture, corporate interest expenses and other
corporate administrative costs.
The components of investment gains (losses) included in Corporate operations
are as follows:
Three Months Ended Six Months Ended
June 30, June 30,
------------------------ -------------------------
2002 2001 2002 2001
---------------------------------------------------
(In millions)
Revenues:
Derivative instruments . . . . . . . . $ (13.2) $ (4.0) $ (3.2) $ 4.2
Fixed maturities . . . . . . . . . . . 11.1 4.6 7.2 11.9
Equity securities, including short
positions . . . . . . . . . . . . . . (47.4) 9.8 (38.3) 25.0
Short-term investments, primarily U.S.
government securities . . . . . . . . 16.8 6.7 24.1 12.7
- ------------------------------------------------------------------------------------------------
(32.7) 17.1 (10.2) 53.8
Income tax expense . . . . . . . . . . . 11.4 (6.0) 3.5 (18.8)
Minority interest . . . . . . . . . . . (2.7) (2.1) (3.7) (4.0)
- ------------------------------------------------------------------------------------------------
Net income (loss) . . . . . . . . . $ (24.0) $ 9.0 $ (10.4) $ 31.0
================================================================================================
77
Exclusive of investment gains (losses), revenues decreased $23.4 and $52.8
million and net loss increased $19.7 and $39.7 million for the quarter and six
months ended June 30, 2002, compared to the corresponding periods of the prior
year, due primarily to lower revenues from a shipping joint venture reflecting
reduced demand and charter rates in the crude oil tanker markets, and lower
investment income.
Liquidity and Capital Resources:
- -------------------------------
CNA Financial
- -------------
The principal operating cash flow sources of CNA's property-casualty and
life insurance subsidiaries are premiums and investment income. The primary
operating cash flow uses are payments for claims, policy benefits and
operating expenses.
For the six months ended June 30, 2002 net cash provided by operating
activities was $435.0 million as compared with net cash used by operating
activities of $826.0 million for the same period in 2001. The improvement
related primarily to federal tax refunds received in 2002 as compared to taxes
paid in 2001, partially offset by increased paid claims.
Cash flows from investing activities include purchases and sales of
financial instruments, as well as the purchase and sale of land, buildings,
equipment and other assets not generally held for resale.
For the six months ended June 30, 2002, net cash used by investing
activities was $410.0 million as compared with net cash provided by investing
activities of $1,106.0 million for the same period in 2001. This decrease was
due primarily to less net sales of equity securities and $264.0 million of net
proceeds related to the sale of 180 Maiden Lane, New York facility in 2001.
Cash flows from financing activities include proceeds from the issuance of
debt or equity securities, outflows for dividends or repayment of debt and
outlays to reacquire equity instruments.
For the six months ended June 30, 2002, net cash used by financing
activities was $22.0 million as compared with $301.0 million for the same
period in 2001. Cash used by financing for the six months ended June 30, 2001
included $262.0 million of principal payments on debt.
CNA is monitoring the cash flows related to claims and reinsurance
recoverables from the WTC event. It is anticipated that significant claim
payments will be made prior to receipt of the corresponding reinsurance
recoverables. CNA does not anticipate any liquidity problems resulting from
these payments. Approximately 37.0%, 36.0% and 24.0% of the reinsurance
recoverables on the estimated losses related to the WTC event are from
companies with S&P ratings of AAA, AA or A. As of August 2, 2002, CNA has paid
$341.0 million in claims and recovered $144.0 million from reinsurers.
In April 2002, CNA exercised its option to convert a $250.0 million 364-day
revolving credit facility to a one-year term loan which matures on April 29,
2003.
The terms of CNA's credit facility requires it to maintain certain financial
ratios and combined property-casualty company statutory surplus levels. At
78
June 30, 2002 and December 31, 2001, CNA was in compliance with all
restrictive debt covenants.
In the normal course of business, CNA has obtained letters of credit in
favor of various unaffiliated insurance companies, regulatory authorities and
other entities. At June 30, 2002 there were approximately $276.0 million of
outstanding letters of credit.
CNA has committed approximately $172.0 million to future capital calls from
various third-party limited partnership investments in exchange for an
ownership interest in the related partnerships.
CNA has a commitment to purchase a $100.0 million floating rate note issued
by the California Earthquake Authority in the event California earthquake-
related insurance losses exceed $4.9 billion prior to December 31, 2002.
CNA is obligated to make future payments totaling $433.0 million for non-
cancelable operating leases expiring from 2002 through 2014 primarily for
office space and data processing, office and transportation equipment.
Estimated future minimum payments under these contracts are as follows: $50.0
million in 2002; $85.0 million in 2003; $65.0 million in 2004; $57.0 million
in 2005; and $176.0 million in 2006 and beyond. Additionally, CNA has entered
into a limited number of guaranteed payment contracts, primarily relating to
telecommunication services, amounting to approximately $34.0 million.
Estimated future minimum purchases under these contracts are as follows: $8.0
million in 2002; $13.0 million in 2003; $10.0 million in 2004; and $3.0
million in 2005.
CNA's ability to pay dividends and other credit obligations is significantly
dependent on receipt of dividends from its subsidiaries. The payment of
dividends to CNA by its insurance subsidiaries without prior approval of the
insurance department of each subsidiary's domiciliary jurisdiction is limited
by formula. Dividends in excess of these amounts are subject to prior approval
of the respective state insurance departments.
CCC is the lead insurance company subsidiary within the CCC Pool and is the
main source of CNAF dividends. All other insurance companies within the CCC
Pool are subsidiaries of CCC and are subject to the dividend rules of their
applicable state of domicile. Dividends from CCC are subject to the insurance
holding company laws of the State of Illinois, the domiciliary state of CCC.
Under these laws, ordinary dividends, or dividends that do not require prior
approval of the Illinois Department, may be paid only from earned surplus,
which is calculated by removing unrealized gains (under which statutory
accounting includes cumulative earnings of CCC's subsidiaries) from unassigned
surplus. As of June 30, 2002, CCC is in a negative earned surplus position. In
February 2002, the Illinois Department approved an extraordinary dividend in
the amount of $117.0 million to be used to fund CNA's 2002 debt service
requirements. Until CCC is in a positive earned surplus position, all
dividends require prior approval of the Illinois Department.
In addition, by agreement with the New Hampshire Insurance Department ("New
Hampshire Department"), as well as certain other state insurance departments,
dividend paying capacity for the subsidiary companies within the CIC Pool are
restricted to internal (intercompany) and external debt service requirements
through September 2003, up to a maximum of $85.0 million annually, without the
prior approval of the New Hampshire Department.
79
Lorillard
- ---------
Lorillard and other cigarette manufacturers continue to be confronted with
substantial litigation and regulatory issues. Approximately 4,575 product
liability cases are pending against cigarette manufacturers in the United
States. Of these, approximately 1,200 cases are pending in a West Virginia
court, and approximately 2,800 cases are brought by flight attendants alleging
injury from exposure to environmental tobacco smoke in the cabins of aircraft.
Lorillard is a defendant in all of the flight attendant suits served to date
and is a defendant in most of the cases pending in West Virginia.
On July 14, 2000, the jury in Engle v. R.J. Reynolds Tobacco Co., et al.
awarded a total of $145.0 billion in punitive damages against all defendants,
including $16.3 billion against Lorillard. The judgment also provides that the
jury's awards bear interest at the rate of 10% per year. Lorillard remains of
the view that the Engle case should not have been certified as a class action.
That certification is inconsistent with the majority of federal and state
court decisions which have held that mass smoking and health claims are
inappropriate for class treatment. Lorillard has challenged class
certification, as well as other numerous legal errors that it believes
occurred during the trial. The Company and Lorillard believe that an appeal of
these issues on the merits should prevail.
The terms of the State Settlement Agreements (see Note 17 of the Notes to
Consolidated Financial Statements in the 2001 Annual Report to Shareholders)
require significant payments to be made to the Settling States which began in
1998 and continue in perpetuity. Lorillard expects the cash payment to be made
under the State Settlement Agreements in 2002 to be approximately $1.1
billion. See Note 17 of the Notes to Consolidated Financial Statements in the
2001 Annual Report to Shareholders for additional information regarding this
settlement and other litigation matters.
The principal source of liquidity for Lorillard's business and operating
needs is internally generated funds from its operations. Lorillard's cash
provided by operating activities amounted to $372.1 million for the six months
ended June 30, 2002, compared to $448.0 million for the prior year. The
reduced cash flow in 2002 is primarily due to increased cash payments for
tobacco settlements. Lorillard believes that cash flows from operating
activities will be sufficient for the foreseeable future to enable it to meet
its obligations under the State Settlement Agreements and to fund its capital
expenditures. Lorillard cannot predict its cash requirements related to any
future settlements or judgments, including cash required to bond any appeals,
if necessary, and can make no assurance that it will be able to meet all of
those requirements.
Loews Hotels
- ------------
In 2002, Loews Hotels, with its partners, opened a third hotel at Universal
Orlando in Florida. Capital expenditures in relation to this hotel project
were funded by a combination of equity from Loews Hotels and its partners, and
mortgages.
Funds from operations continue to exceed operating requirements. Funds for
other capital expenditures and working capital requirements are expected to be
provided from existing cash balances and operations.
80
Diamond Offshore
- ----------------
At June 30, 2002, cash and marketable securities totaled $1.2 billion, up
from $1.1 billion at December 31, 2001. Cash provided by operating activities
for the six months ended June 30, 2002 increased by $26.8 million to $165.6
million, as compared to $138.8 million in 2001. The increase in cash flow was
primarily due to a change in prepaid expenses and other current assets, and
collection of accounts receivable in 2002, partially offset by the reduced net
income.
During the six months ended June 30, 2002, Diamond Offshore purchased
500,000 shares of its common stock at an aggregate cost of $20.0 million, upon
the exercise of put options sold in February 2001. Depending on market
conditions Diamond Offshore may, from time to time, purchase shares of its
common stock in the open market or otherwise.
During the first half of 2002, Diamond Offshore spent $93.1 million,
including capitalized interest expense, for rig upgrades, of which $38.3
million was for the conversion of the Ocean Rover and $30.1 million was for
the completion of the conversion of the Ocean Baroness. Diamond Offshore spent
$22.5 million in the first six months of 2002 to upgrade six of Diamond
Offshore's jack-up rigs. Diamond Offshore expects to spend approximately
$275.0 million for rig upgrade capital expenditures during 2002, primarily for
costs associated with upgrades of its Ocean Rover semisubmersible rig and six
jack-up rigs.
Diamond Offshore took delivery of the Ocean Baroness in January 2002 and it
was accepted by the customer on March 17, 2002, at which time it began its
current contract offshore Malaysia. The approximate cost of the upgrade was
$170.0 million. In January 2002, the Ocean Rover arrived at a shipyard in
Singapore for a major upgrade to water depths and specifications similar to
the enhanced Ocean Baroness. The estimated cost of this upgrade is
approximately $200.0 million with approximately $135.0 million to be spent in
2002. The upgrade is expected to take approximately 19 months to complete with
delivery estimated in the third quarter of 2003.
Diamond Offshore also plans to spend approximately $100.0 million over the
next two years to upgrade six of its jack-up rigs. Diamond Offshore expects to
finance these upgrades through the use of existing cash balances or internally
generated funds.
During the six months ended June 30, 2002, Diamond Offshore expended $24.7
million for its continuing rig enhancement program and to meet other corporate
capital expenditure requirements. Diamond Offshore has budgeted $100.0 million
for 2002 capital expenditures associated with these items.
Cash required to meet Diamond Offshore's capital commitments is determined
by evaluating the need to upgrade rigs to meet specific customer requirements
and by evaluating Diamond Offshore's ongoing rig equipment replacement and
enhancement programs, including water depth and drilling capability upgrades.
It is management's opinion that operating cash flows and Diamond Offshore's
cash reserves will be sufficient to meet these capital commitments; however,
Diamond Offshore will continue to make periodic assessments based on industry
conditions. In addition, Diamond Offshore may, from time to time, issue debt
or equity securities, or a combination thereof, to finance capital
expenditures, the acquisition of assets and businesses, or for general
corporate purposes. Diamond Offshore's ability to affect any such issuance
81
will be dependent on its results of operations, its current financial and
market conditions, and other factors beyond its control.
Bulova
- ------
For the six months ended June 30, 2002, net cash provided from operating
activities was $5.2 million as compared with $16.5 million in the comparable
period of 2001. Bulova's cash and cash equivalents, and investments amounted
to $24.0 million at June 30, 2002, compared to $18.9 million at December 31,
2001. The decrease in net cash flow is primarily the result of an increase in
the level of accounts receivable related to higher net sales resulting
primarily from the introduction of the new Wittnauer brand product line and
Harley Davidson licensed product, and an increase in inventory purchases,
partially offset by a change in the timing of accounts payable and accrued
expenses. Funds for capital expenditures and working capital requirements are
expected to be provided from operations and existing cash balances.
Majestic Shipping
- -----------------
As previously reported in the Company's 2001 Annual Report on Form 10-K, a
subsidiary of the Company entered into agreements for new building of four
supertankers, the total cost of the four ships was estimated to amount to
approximately $360.0 million. In March 2002, the contracts for the four
supertankers were sold at the Company's carrying value, excluding pretax
capitalized interest expense of $3.1 million, to Hellespont Shipping
Corporation, an affiliated entity.
Parent Company
- --------------
As of June 30, 2002, there were 186,103,400 shares of Loews Common Stock
outstanding. During the quarter and six months ended June 30, 2002, the
Company purchased 3,302,400 and 5,401,600 shares of Loews Common Stock at an
aggregate cost of $187.2 and $310.1 million, respectively. During the quarter
and six months ended June 30, 2002, the Company purchased 2,664,376 shares of
CNA common stock at an aggregate cost of $71.7 million. Depending on market
conditions, the Company from time to time purchases shares of its, and its
subsidiaries', outstanding common stock in the open market or otherwise.
On February 6, 2002, the Company sold 40,250,000 shares of a new class of
its common stock referred to as Carolina Group stock for net proceeds of $1.1
billion. Proceeds from this sale have been allocated to the Loews Group and
will be used for general corporate purposes.
The Company continues to pursue conservative financial strategies while
seeking opportunities for responsible growth. These include the expansion of
existing businesses, full or partial acquisitions and dispositions, and
opportunities for efficiencies and economies of scale.
82
Investments:
- -----------
Investment activities of non-insurance companies include investments in
fixed income securities, equity securities including short sales, derivative
instruments and short-term investments, and are carried at fair value. Equity
securities, which are considered part of the Company's trading portfolio,
short sales and derivative instruments are marked to market and reported as
investment gains or losses in the income statement.
The Company enters into short sales and invests in certain derivative
instruments for a number of purposes, including; (i) asset and liability
management activities, (ii) income enhancements for its portfolio management
strategy, and (iii) to benefit from anticipated future movements in the
underlying markets. If such movements do not occur as anticipated, then
significant losses may occur.
Monitoring procedures include senior management review of daily detailed
reports of existing positions and valuation fluctuations to ensure that open
positions are consistent with the Company's portfolio strategy.
The credit exposure associated with these instruments is generally limited
to the positive market value of the instruments and will vary based on changes
in market prices. The Company enters into these transactions with large
financial institutions and considers the risk of nonperformance to be remote.
The Company does not believe that any of the derivative instruments utilized
by it are unusually complex, nor do these instruments contain imbedded
leverage features which would expose the Company to a higher degree of risk.
See "Results of Operations" and "Quantitative and Qualitative Disclosures
about Market Risk" for additional information with respect to derivative
instruments, including recognized gains and losses on these instruments. See
also Note 4 of the Notes to Consolidated Financial Statements in the 2001
Annual Report on Form 10-K.
83
Insurance
- ---------
The components of CNA's net investment income for the three and six months
ended June 30, 2002 and 2001 are presented in the following table.
Three Months Ended Six Months Ended
June 30, June 30,
- ------------------------------------------------------------------------------------------------
2002 2001 2002 2001
- ------------------------------------------------------------------------------------------------
(In millions)
Fixed maturity securities:
Bonds:
Taxable . . . . . . . . . . . . . . . . . $ 458.0 $ 400.0 $ 872.0 $ 809.0
Tax-exempt . . . . . . . . . . . . . . . 38.0 28.0 71.0 62.0
Limited Partnerships . . . . . . . . . . . . 37.0 (4.0) 44.0 32.0
Short-term investments . . . . . . . . . . . 11.0 37.0 27.0 79.0
Other, including interest on funds withheld
and other deposits . . . . . . . . . . . . (30.0) (46.0) (60.0) (44.0)
- ------------------------------------------------------------------------------------------------
Gross investment income . . . . . . . . . . 514.0 415.0 954.0 938.0
Investment expense . . . . . . . . . . . . . (12.0) (13.0) (26.0) (29.0)
- ------------------------------------------------------------------------------------------------
Net investment income . . . . . . . . . . . $ 502.0 $ 402.0 $ 928.0 $ 909.0
================================================================================================
CNA experienced higher net investment income for the three and six months
ended June 30, 2002 as compared with the same periods in 2001. The increase
was due primarily to increased limited partnership income and reduced interest
costs on funds withheld and other deposits related to certain reinsurance
contracts. Other investment income includes interest costs on funds withheld
reinsurance contracts. See the Reinsurance section under "Results of
Operations" for additional information. The interest cost on these contracts
increased significantly in the second quarter of 2001 because of ceded losses
resulting from the second quarter 2001 reserve strengthening. The bond segment
of the investment portfolio yielded 6.1% in the first six months of 2002 as
compared with 6.5% during the same period in 2001.
Other invested assets include investments in limited partnerships and
certain derivative securities. CNA's limited partnership investments are
recorded at fair value and typically reflect a reporting lag of up to three
months. Fair value of CNA's limited partnership investments represents CNA's
equity in the partnership's net assets as determined by the general partner.
The carrying value of CNA's limited partnership investments was $1,400.0 and
$1,307.0 million as of June 30, 2002 and December 31, 2001.
Limited partnerships are a relatively small portion of CNA's overall
investment portfolio. The majority of the limited partnerships invest in a
substantial number of securities that are readily marketable. CNA is a passive
investor in such partnerships and does not have influence over the
partnerships' management, who are committed to operate them according to
established guidelines and strategies. These strategies may include the use of
leverage and hedging techniques that potentially introduce more volatility and
risk to the partnerships. Due to unfavorable market conditions since the close
of the 2002 second quarter, based upon current trends, CNA expects that
84
limited partnership income in the third quarter will likely be down
significantly from the level reported in the second quarter.
The components of CNA's net investment (losses) gains for the three and six
months ended June 30, 2002 and 2001 are presented in the following table:
Three Months Ended Six Months Ended
June 30, June 30,
- ------------------------------------------------------------------------------------------------
2002 2001 2002 2001
- ------------------------------------------------------------------------------------------------
(In millions)
Investment gains (losses):
Fixed maturity securities:
U.S. Government bonds . . . . . . . . . . $ 44.0 $ (21.0) $ 49.0 $ 107.0
Corporate and other taxable bonds . . . . (258.0) 1.0 (249.0) (7.0)
Tax-exempt bonds . . . . . . . . . . . . 14.0 (15.0) 16.0 38.0
Asset-backed bonds . . . . . . . . . . . 19.0 4.0 28.0 55.0
Redeemable Preferred Stock . . . . . . . (1.0) (21.0) (15.0) (21.0)
- ------------------------------------------------------------------------------------------------
Total fixed maturity securities . . . . . . (182.0) (52.0) (171.0) 172.0
Equity securities . . . . . . . . . . . . 42.0 1,015.0 49.0 1,087.0
Derivative securities . . . . . . . . . . . (13.0) 8.0 (34.0) 3.0
Other invested assets . . . . . . . . . . . (9.0) (404.0) (5.0) (324.0)
- ------------------------------------------------------------------------------------------------
Total realized investment (losses) gains . (162.0) 567.0 (161.0) 938.0
Income tax benefit (expense) . . . . . . . 57.0 (255.0) 58.0 (389.0)
Minority interest . . . . . . . . . . . . . 11.0 (41.0) 11.0 (71.0)
- ------------------------------------------------------------------------------------------------
Net investment (losses) gains . . . . . . . $ (94.0) $ 271.0 $ (92.0) $ 478.0
================================================================================================
Net realized investment gains decreased $365.0 for the second quarter of
2002 compared with the same period in 2001. This decline was due primarily to
$292.0 million of impairment losses recorded in the second quarter of 2002
principally on corporate bonds, contrasted with large gains realized in the
second quarter of 2001 from closing out the hedge agreements, entered into in
early 2000, related to CNA's investment in Global Crossing Ltd. common stock.
As noted in the general account investments table below, corporate bonds
comprise a significant portion of CNA's investment portfolio. The Company
regularly reviews the market value of each investment compared to its carrying
value. When the market value is less than the carrying value, the Company
makes a determination as to whether the decline is other than temporary. When
a decline in value is determined to be other than temporary, investments are
written down to net realizable value and losses are recognized in income.
Included in the second quarter of 2002 impairment writedowns were $129.0
million related to debt securities issued by WorldCom Inc. and $74.0 million
related to Adelphia Communications Corporation, both of which have recently
filed for bankruptcy. These securities were written down to estimated net
realizable value of $33.0 and $29.0 million, respectively. The remaining $89.0
million of impairment writedowns relates primarily to issuers in the
telecommunications sector. The Company may be subject to future impairment
losses that could materially adversely impact its results of operations.
85
Management believes any future impairment losses would not have a material
impact on the Company's overall financial position.
During the second quarter of 2001, CNA announced its intention to sell
certain businesses. The assets being held for disposition included CNA Re U.K.
and certain other businesses. Based upon the impairment analyses performed at
that time, CNA anticipated that it would realize losses in connection with
those planned sales. In determining the anticipated loss from these sales, CNA
estimated the net realizable value of each business being held for sale. An
estimated after-tax and minority interest loss of $278.4 million was initially
recorded in the second quarter of 2001. This loss was reported in other
realized investment losses.
CNA continues to monitor the impairment losses analyses recorded for these
businesses and perform updated impairment analyses. Based on the analyses, the
impairment loss has been reduced by approximately $170.0 million, primarily
because the net assets of the businesses had been significantly diminished by
their operating losses, including adverse development recognized by CNA Re
U.K. in the fourth quarter of 2001.
In the fourth quarter of 2001, CNA sold certain businesses as planned. The
realized after-tax and minority interest loss applicable to these businesses
recognized in the second quarter of 2001 was $33.1 million. Revenues of these
businesses included in the three and six months ended June 30, 2001 totaled
approximately $18.0 million and $25.0 million. Net operating losses related to
these businesses included in the three and six months ended June 30, 2001 were
approximately $12.2 million and $14.8 million.
At June 30, 2002, CNA Re U.K. and certain other businesses remain held for
sale. On July 15, 2002, CNA announced that it signed a share purchase
agreement to sell CNA Re U.K. to Tawa U.K. Limited, a subsidiary of Artemis
Group, a French conglomerate. The share purchase agreement includes all
remaining business underwritten since inception by CNA Re U.K., The sale is
subject to approval in the United Kingdom by the Financial Services Authority.
Additionally, certain aspects of the transaction also require approval by the
Illinois Insurance Department (the "Illinois Department"), which will also
conduct a comprehensive review of the terms of the transaction. While there
can be no assurance that the transaction will close, management believes that
all conditions necessary to close, including regulatory approvals, will be
satisfied and that such closing will occur by the end of 2002. This sale does
not impact CNA Re's on-going U.S.-based operations.
CNA Re U.K. will be sold for one dollar, subject to a completion adjustment
at closing primarily driven by certain operating results between January 1,
2002 and closing, and changes in interest rates. No additional impairment loss
is expected based on the terms of the sale agreement.
Concurrent with the sale, several reinsurance agreements under which CCC had
provided retrocessional protection to CNA Re U.K. will be commuted. As part of
the sale, CNA Re U.K.'s net exposure to all IGI Program liabilities will be
ceded to CCC, and CCC will provide a $100.0 million stop loss cover attaching
at carried reserves on CNA Re U.K.'s 2001 underwriting year exposures, both
for the benefit of the buyer.
A primary objective in the management of the fixed maturity portfolio is to
maximize total return relative to underlying liabilities and respective
liquidity needs. In achieving this goal, assets may be sold to take advantage
of market conditions or other investment opportunities or credit
86
considerations. This activity will produce realized gains and losses depending
on market conditions including interest rates.
Substantially all invested assets are marketable securities classified as
available-for-sale in the accompanying financial statements. Accordingly,
changes in fair value for these securities are reported in other comprehensive
income.
A summary of CNA's general account investments portfolios, at carrying
value, are as follows:
Change in
Unrealized
June 30, December 31, Gains
2002 2001 (Losses)
- ------------------------------------------------------------------------------
(In millions)
Fixed maturity securities:
U.S. Treasury securities and
obligations of government agencies . $ 6,297.0 $ 5,081.0 $ 50.0
Asset-backed securities . . . . . . . 8,075.0 7,723.0 91.0
Tax exempt securities . . . . . . . . 3,713.0 2,720.0 70.0
Taxable securities . . . . . . . . . 12,102.0 13,403.0 (244.0)
Redeemable preferred stock . . . . . 32.0 48.0 (13.0)
Options embedded in convertible
debt securities . . . . . . . . . . 111.0 189.0
- ------------------------------------------------------------------------------
Total fixed maturity securities . 30,330.0 29,164.0 (46.0)
Equity securities . . . . . . . . . . . 1,149.0 1,338.0 (89.0)
Short-term and other investments . . . 5,765.0 5,324.0 18.0
- ------------------------------------------------------------------------------
Total . . . . . . . . . . . . . . $37,244.0 $35,826.0 $(117.0)
==============================================================================
June 30, December 31,
2002 2001
- ------------------------------------------------------------------------------
(In millions)
Short-term and other investments:
Commercial paper . . . . . . . . . . . . . . . . $ 2,041.0 $ 1,194.0
Money market funds . . . . . . . . . . . . . . . 1,455.0 1,641.0
U.S. Treasury securities . . . . . . . . . . . . 8.0 175.0
Others . . . . . . . . . . . . . . . . . . . . . 593.0 730.0
Other investments . . . . . . . . . . . . . . . . . 1,668.0 1,584.0
- ------------------------------------------------------------------------------
Total short-term and other investments . . . . $ 5,765.0 $ 5,324.0
==============================================================================
87
CNA's general and separate account investment portfolio consists primarily
of publicly traded government bonds, asset-backed securities, mortgage-backed
securities, municipal bonds and corporate bonds.
Total net unrealized gain of the general account investments was $228.0
million at June 30, 2002 compared with $345.0 million at December 31, 2001.
The unrealized position at June 30, 2002 was composed of a net unrealized gain
$148.0 million for fixed maturities, a net unrealized gain of $81.0 million
for equity securities and a net unrealized loss of $1.0 million for short-term
investments.
CNA's investment policies for both the general and separate accounts
emphasize high credit quality and diversification by industry, issuer and
issue. Assets supporting interest rate sensitive liabilities are segmented
within the general account to facilitate asset/liability duration management.
The general account portfolio consists primarily of high quality (rated BBB
or higher) bonds, 92.0% of which were rated as investment grade at both June
30, 2002 and December 31, 2001.
At both June 30, 2002 and December 31, 2001, approximately 98.0% of the
general account portfolio were U.S. Government agencies or were rated by
Standard & Poor's ("S&P") or Moody's Investors Service ("Moody's"). The
remaining bonds were rated by other rating agencies, outside brokers or CNA
management.
Below investment grade bonds are high yield securities rated below BBB by
rating agencies, as well as other unrated securities that, in the opinion of
management, are below investment-grade. High-yield securities generally
involve a greater degree of risk than investment-grade securities. However,
expected returns should compensate for the added risk. This risk is also
considered in the interest rate assumptions for the underlying insurance
products.
Included in CNA's general account fixed maturity securities at June 30, 2002
are $8,075.0 million of asset-backed securities, at fair value, consisting of
approximately 73.0% in collateralized mortgage obligations ("CMOs"), 13.0% in
corporate asset-backed obligations 10.0% in U.S. Government agency issued
pass-through certificates, and 4.0% in corporate mortgage-backed pass-through
certificates. The majority of CMOs held are actively traded in liquid markets
and are priced by broker-dealers.
CNA invests in certain derivative financial instruments primarily to reduce
its exposure to market risk (principally interest rate, equity price and
foreign currency risk). CNA considers the derivatives in its general account
to be held for purposes other than trading. Derivative securities are recorded
at fair value at the reporting date.
Most derivatives in separate accounts are held for trading purposes. CNA
uses these derivatives to mitigate market risk by purchasing S&P 500 index
futures in a notional amount equal to the contract liability relating to Life
Operations' Index 500 guaranteed investment contract product.
88
Accounting Standards
- --------------------
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 applies to the accounting and reporting obligations
associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. This Statement applies to legal obligations
associated with the retirement of long-lived assets that result from the
acquisition, construction, development and/or the normal operation of a long-
lived asset, except for certain obligations of lessees. Adoption of this
Statement is required for fiscal years beginning after June 15, 2002. Adoption
of these provisions will not have a material impact on the financial position
or results of operations of the Company.
Forward-Looking Statements
- --------------------------
Certain statements made or incorporated by reference by the Company in this
Report are "forward-looking" statements within the meaning of the federal
securities laws. Forward-looking statements include, without limitation, any
statement that may project, indicate or imply future results, events,
performance or achievements, and may contain the words "expect", "intend",
"plan", "anticipate", "estimate", "believe", "will be", "will continue", "will
likely result", and similar expressions. Statements in this report that
contain forward-looking statements include, but are not limited to, statements
regarding CNA's insurance business relating to asbestos, pollution and mass
tort claims, expected cost savings and other results from restructuring
activities; statements regarding insurance reserves and statements regarding
planned disposition of certain businesses; statements regarding litigation and
developments affecting Lorillard's tobacco business including, among other
things statements regarding claims, litigation and settlement, and statements
regarding regulation of the industry; statements regarding Diamond Offshore's
business including, without limitation, statements with respect to
expenditures for rig conversion and upgrade, oil and gas price levels,
exploration and production activity, and statements concerning actual or
potential damage, periods of inactivity and recovery and remediation efforts
with respect to the Ocean Baroness.
Such statements inherently are subject to a variety of risks and
uncertainties that could cause actual results to differ materially from those
anticipated or projected. Such risks and uncertainties include, among others,
the impact of competitive products, policies and pricing; product and policy
availability and demand and market responses, including the effect of the
absence of applicable terrorism legislation on coverages; development of
claims and the effect on loss reserves; exposure to liabilities due to claims
made by insured and others relating to asbestos remediation and health-based
asbestos impairments, and exposure to liabilities for environmental pollution
and mass tort claims; the sufficiency of CNA's loss reserves and the
possibility of future increases in reserves; the performance of reinsurance
companies under reinsurance contracts; the effects of corporate bankruptcies
and/or accounting restatements (such as Enron and WorldCom) on the financial
markets, and the resulting decline in value of securities held by the Company
which may result in additional charges for impairment; the effects of
corporate bankruptcies and/or accounting restatements on the markets for
directors and officers and errors and omissions coverages; limitations upon
CNA's ability to receive dividends from its insurance subsidiaries imposed by
state regulatory agencies; regulatory limitations and restrictions upon CNA
and its insurance subsidiaries generally; judicial decisions and rulings; the
89
possibility of downgrades in CNA's ratings by ratings agencies and changes in
rating agency policies and practices, and the results of financing efforts.
The tobacco industry continues to be subject to health concerns relating to
the use of tobacco products and exposure to environmental tobacco smoke,
legislation, including actual and potential excise tax increases, increasing
marketing and regulatory restrictions, governmental regulation, privately
imposed smoking restrictions, litigation, including risks associated with
adverse jury and judicial determinations, courts reaching conclusions at
variance with the general understandings of applicable law, bonding
requirements and the absence of adequate appellate remedies to get timely
relief from any of the foregoing, and the effects of price increases related
to concluded tobacco litigation settlements and excise tax increases on
consumption rates.
In addition to the factors noted above, all aspects of the operations of the
Company and its subsidiaries are affected by the impact of general economic
and business conditions, changes in financial markets (interest rate, credit,
currency, commodities and equities) or in the value of specific investments;
changes in domestic and foreign political, social and economic conditions, the
economic effects of the September 11, 2001 terrorist attacks, the impact of
judicial rulings and jury verdicts, regulatory initiatives and compliance with
governmental regulations and various other matters, many of which are beyond
the control of the Company and its subsidiaries.
Developments in any of these areas, which are more fully described elsewhere
in this Report could cause the Company's results to differ materially from
results that have been or may be anticipated or projected by or on behalf of
the Company and its subsidiaries. These forward-looking statements speak only
as of the date of this Report. The Company expressly disclaims any obligation
or undertaking to release publicly any updates or revisions to any forward-
looking statement contained herein to reflect any change in the Company's
expectations with regard thereto or any change in events, conditions or
circumstances on which any statement is based.
90
Item 3. Quantitative and Qualitative Disclosures about Market Risk.
-----------------------------------------------------------
The Company is a large diversified financial services company. As such, it
and its subsidiaries have significant amounts of financial instruments that
involve market risk. The Company's measure of market risk exposure represents
an estimate of the change in fair value of its financial instruments. Changes
in the trading portfolio would be recognized as investment gains (losses) in
the Consolidated Condensed Statements of Income. Market risk exposure is
presented for each class of financial instrument held by the Company at June
30, 2002 and December 31, 2001, assuming immediate adverse market movements of
the magnitude described below. The Company believes that the various rates of
adverse market movements represent a measure of exposure to loss under
hypothetically assumed adverse conditions. The estimated market risk exposure
represents the hypothetical loss to future earnings and does not represent the
maximum possible loss nor any expected actual loss, even under adverse
conditions, because actual adverse fluctuations would likely differ. In
addition, since the Company's investment portfolio is subject to change based
on its portfolio management strategy as well as in response to changes in the
market, these estimates are not necessarily indicative of the actual results
which may occur.
Equity Price Risk - The Company has exposure to equity price risk as a
result of its investment in equity securities and equity derivatives. Equity
price risk results from changes in the level or volatility of equity prices
which affect the value of equity securities or instruments that derive their
value from such securities or indexes. Equity price risk was measured assuming
an instantaneous 25% change in the underlying reference price or index from
its level at June 30, 2002 and December 31, 2001, with all other variables
held constant.
Interest Rate Risk - The Company has exposure to interest rate risk, arising
from changes in the level or volatility of interest rates. The Company
attempts to mitigate its exposure to interest rate risk by utilizing
instruments such as interest rate swaps, interest rate caps, commitments to
purchase securities, options, futures and forwards. The Company monitors its
sensitivity to interest rate risk by evaluating the change in the value of its
financial assets and liabilities due to fluctuations in interest rates. The
evaluation is performed by applying an instantaneous change in interest rates
of varying magnitudes on a static balance sheet to determine the effect such a
change in rates would have on the recorded market value of the Company's
investments and the resulting effect on shareholders' equity. The analysis
presents the sensitivity of the market value of the Company's financial
instruments to selected changes in market rates and prices which the Company
believes are reasonably possible over a one-year period.
The sensitivity analysis estimates the change in the market value of the
Company's interest sensitive assets and liabilities that were held on June 30,
2002 and December 31, 2001 due to instantaneous parallel shifts in the yield
curve of 100 basis points, with all other variables held constant.
The interest rates on certain types of assets and liabilities may fluctuate
in advance of changes in market interest rates, while interest rates on other
types may lag behind changes in market rates. Accordingly the analysis may not
be indicative of, is not intended to provide, and does not provide a precise
forecast of the effect of changes of market interest rates on the Company's
earnings or shareholders' equity. Further, the computations do not contemplate
any actions the Company could undertake in response to changes in interest
rates.
91
The Company's long-term debt, including interest rates swap agreements, as
of June 30, 2002 and December 31, 2001 is denominated in U.S. Dollars. The
Company's debt has been primarily issued at fixed rates, and as such, interest
expense would not be impacted by interest rate shifts. The impact of a 100
basis point increase in interest rates on fixed rate debt would result in a
decrease in market value of $382.8 and $395.0 million at June 30, 2002 and
December 31, 2001, respectively. A 100 basis point decrease would result in an
increase in market value of $450.7 and $464.6 million at June 30, 2002 and
December 31, 2001, respectively.
Foreign Exchange Rate Risk - Foreign exchange rate risk arises from the
possibility that changes in foreign currency exchange rates will impact the
value of financial instruments. The Company has foreign exchange rate exposure
when it buys or sells foreign currencies or financial instruments denominated
in a foreign currency. This exposure is mitigated by the Company's
asset/liability matching strategy and through the use of futures for those
instruments which are not matched. The Company's foreign transactions are
primarily denominated in Canadian Dollars, British Pounds, and the European
Monetary Unit. The sensitivity analysis also assumes an instantaneous 20%
change in the foreign currency exchange rates versus the U.S. Dollar from
their levels at June 30,2002 and December 31, 2001, with all other variables
held constant.
Commodity Price Risk - The Company has exposure to commodity price risk as a
result of its investments in gold options. Commodity price risk results from
changes in the level or volatility of commodity prices that impact instruments
which derive their value from such commodities. Commodity price risk was
measured assuming an instantaneous change of 20% from their levels at June 30,
2002 and December 31, 2001.
92
The following tables present the Company's market risk by category (equity
markets, interest rates, foreign currency exchange rates and commodity prices)
on the basis of those entered into for trading purposes and other than trading
purposes.
Trading portfolio:
Category of risk exposure: Fair Value Asset (Liability) Market Risk
- ------------------------------------------------------------------------------------------------
June 30, December 31, June 30, December 31,
2002 2001 2002 2001
- ------------------------------------------------------------------------------------------------
(Amounts in millions)
Equity markets (1):
Equity securities . . . . . . . . . . . . $ 408.8 $ 290.1 $(102.0) $(73.0)
Options - purchased . . . . . . . . . . . 17.7 17.5 (7.0) 6.0
- written . . . . . . . . . . . (14.6) (7.8) 9.0 (3.0)
Index futures - long (1.0) (2.0)
Short sales . . . . . . . . . . . . . . . (208.5) (193.4) 52.0 48.0
Separate Accounts - Equity securities (a) 18.0 11.7 (4.0) (2.0)
- Other invested assets 329.1 342.1 (6.0) (6.0)
Interest rate (2):
Fixed maturities . . . . . . . . . . . . 925.1 677.8 (37.0) (27.0)
Options on government securities - short (2.5) (2.0)
Separate Accounts - Fixed maturity
securities . . . . . . . . . . . . . . . 221.0 308.4 (4.0) (5.0)
Commodities:
Gold (3):
Options - purchased . . . . . . . . . . 0.9 2.6 (1.0) (3.0)
- written . . . . . . . . . . . (0.9) (0.4) 1.0
- ------------------------------------------------------------------------------------------------
Note: The calculation of estimated market risk exposure is based on assumed adverse changes
in the underlying reference price or index of (1) a decrease in equity prices of 25%
at June 30, 2002 and December 31, 2001, (2) an increase in interest rates of 100 basis
points and (3) an increase in gold prices of 20%. Adverse changes on options which differ
from those presented above would not necessarily result in a proportionate change to the
estimated market risk exposure.
(a) In addition, the Separate Accounts carry positions in equity index futures. A decrease
in equity prices of 25% would result in market risk amounting to $(162.0) and $(217.0)
at June 30, 2002 and December 31, 2001, respectively. This market risk would be offset
by decreases in liabilities to customers under variable insurance contracts.
93
Exposure to market risk is managed and monitored by senior management.
Senior management approves the overall investment strategy employed by the
Company and has responsibility to ensure that the investment positions are
consistent with that strategy and the level of risk acceptable to it. The
Company may manage risk by buying or selling instruments or entering into
offsetting positions.
Other than trading portfolio:
Other than trading portfolio:
Category of risk exposure: Fair Value Asset (Liability) Market Risk
- ------------------------------------------------------------------------------------------------
June 30, December 31, June 30, December 31,
2002 2001 2002 2001
- ------------------------------------------------------------------------------------------------
(Amounts in millions)
Equity markets (1):
Equity securities:
General accounts (a) . . . . . . . . . $ 1,148.5 $ 1,338.4 $ (284.0) $ (322.0)
Separate accounts . . . . . . . . . . 125.5 148.6 (32.0) (37.0)
Other invested assets . . . . . . . . . 1,498.6 1,306.9 (167.0) (134.0)
Separate accounts - Other invested assets 473.3 533.0 (118.0) (133.0)
Interest rate (2):
Fixed maturities (a) (b) . . . . . . . . 31,361.1 30,513.2 (1,843.0) (1,533.0)
Short-term investments (a) . . . . . . . 8,433.7 6,734.8 (1.0) (1.0)
Other derivative securities . . . . . . (14.0) 16.3 (44.0) (19.0)
Separate accounts (a):
Fixed maturities . . . . . . . . . . 1,917.9 2,038.8 (109.0) (120.0)
Short-term investments . . . . . . . . 138.0 98.0
Long-term debt . . . . . . . . . . . . . (5,740.2) (5,399.0)
- ------------------------------------------------------------------------------------------------
Note: The calculation of estimated market risk exposure is based on assumed adverse changes in
the underlying reference price or index of (1) a decrease in equity prices of 25% and (2)
an increase in interest rates of 100 basis points.
(a) Certain securities are denominated in foreign currencies. An assumed 20% decline in the
underlying exchange rates would result in an aggregate foreign currency exchange rate
risk of $(142.0) and $(114.0) at June 30, 2002 and December 31, 2001, respectively.
(b) Certain fixed maturities positions include options embedded in convertible debt
securities. A decrease in underlying equity prices of 25% would result in market risk
amounting to $(119.0) and $(50.0) at June 30, 2002 and December 31, 2001, respectively.
94
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
-----------------
1. CNA is involved in various lawsuits including environmental pollution
claims. Information involving such lawsuits is incorporated by reference to
Note 9 of the Notes to Consolidated Condensed Financial Statements in Part I.
2. As noted in Item 3 Legal Proceedings of the Company's Report on Form 10-K
for the year ended December 31, 2001, Lorillard is defendant in various
lawsuits seeking damages for cancer and health effects claimed to have
resulted from the use of cigarettes or from exposure to tobacco smoke.
Information involving such lawsuits is incorporated by reference to such Item
3 Legal Proceedings. The Company is a defendant in some of these cases.
Material developments in relation to the foregoing are described below and
incorporated by reference to Note 12 of the Notes to Consolidated Condensed
Financial Statements in Part I.
CLASS ACTIONS -
In the case of Badillo v. American Tobacco Company, et al. (U.S. District
Court, Nevada, filed October 8, 1997), the court has dismissed the case.
In the case of Blankenship v. American Tobacco Company, et al. (Circuit
Court, County, West Virginia, filed January 31, 1997), the plaintiffs have
noticed an appeal to the Supreme Court of Appeals of West Virginia from the
judgment entered in favor of the defendants following a 2001 trial.
In the case of Christensen v. Philip Morris Companies, Inc., et al. (U.S.
District Court, Nevada, filed April 3, 1998), the court has dismissed the
case.
In the case of Cole v. The Tobacco Institute, et al. (U.S. District Court,
Eastern District, Texas, Texarkana Division, filed May 5, 1997), plaintiffs
did not file a petition for writ of certiorari with the U.S. Supreme Court and
no further appellate options are available to the plaintiffs.
In the case of Connor v. The American Tobacco Company, et al. (Second
Judicial District Court, Bernalillo County, New Mexico, filed October 10,
1996), the court has entered the parties' stipulation of dismissal with
prejudice, concluding the case.
In the case of Creekmore v. Brown & Williamson Tobacco Corporation, et al.
(Superior Court, Buncombe County, North Carolina, filed July 31, 1998), the
court has entered an order granting plaintiffs' motion to voluntarily dismiss
the case pursuant to a tolling agreement. The dismissal order tolls the
individual claims of the purported class representatives for one year.
In the case of Johnson v. Newport Lorillard, et al. (U.S. District Court,
Southern District, New York, filed October 31, 2001), the court has entered
an order dismissing the case.
In the case of Norton v. RJR Nabisco Holdings Corporation, et al. (Superior
Court, Madison County, Indiana, filed May 3, 1996), the court has granted
plaintiffs' motion to voluntarily dismiss the case. The Company was a
defendant in the case.
95
In the case of Scott v. The American Tobacco Company, et al. (District
Court, Orleans Parish, Louisiana, filed May 24, 1996), jury selection is
proceeding. These matters are discussed under "Legal Proceedings and
Contingent Liabilities - Non-Insurance, Tobacco Related - Class Actions."
In the case of Trivisonno v. Philip Morris, Incorporated, et al. (U.S.
District Court, Northern District, Ohio, filed on or about January 14, 2002),
the court entered an order during July of 2002 that granted defendants' motion
to dismiss the case and entered final judgment in favor of the defendants. As
of August 1, 2002, the deadline for plaintiffs to seek appellate review of the
dismissal had not expired.
REIMBURSEMENT CASES -
U.S. Local Governmental Reimbursement Cases -
In the case of County of Wayne v. Philip Morris Incorporated, et al. (U.S.
District Court, Eastern District, Michigan, filed December 6, 1999), the court
has entered the parties' stipulation of dismissal with prejudice.
Private Citizens' Reimbursement Cases -
In the case of Mason v. The American Tobacco Company, et al. (filed in U.S.
District Court, Northern District, Texas; transferred to U.S. District Court,
Eastern District, New York, filed December 23, 1997), the court entered an
order during July of 2002 that denied plaintiffs' motion for class
certification and granted defendants' motion to dismiss the complaint.
Plaintiffs have noticed an appeal to the U.S. Court of Appeals for the Second
Circuit.
Reimbursement Cases Filed by Private Companies -
In the case of Group Health Plan, Inc., et al. v. Philip Morris
Incorporated, et al. (U.S. District Court, Minnesota, filed March 11, 1998),
plaintiffs have noticed an appeal to the U.S. Court of Appeal for the Eighth
Circuit from the trial court's order that granted defendants' motion for
summary judgment.
Reimbursement Cases Filed by Labor Unions -
In the case of Bergeron, et al. v. Philip Morris Incorporated, et al. (U.S.
District Court, Eastern District, New York, filed September 29, 1999), the
court has entered the parties' stipulation of dismissal with prejudice. The
Company was a defendant in the case. Plantiffs were the trustees of the
Massachusetts State Carpenters Health Benefits Fund.
In the case of Central Laborers Welfare Fund, et al. v. Philip Morris, Inc.,
et al. (Circuit Court, Madison County, Illinois, filed on June 9, 1997),
plaintiffs voluntarily dismissed the case during April of 2002.
In the case of Holland, et al., Trustees of United Mine Workers v. Philip
Morris Incorporated, et al. (U.S. District Court, District of Columbia, filed
July 9, 1998), an order dismissing the case has been entered.
In the case of National Asbestos Workers, et al. v. Philip Morris
Incorporated, et al. (U.S. District Court, Eastern District, New York, filed
February 27, 1998), plaintiffs have voluntarily dismissed the case. The
Company was a defendant in the case.
96
In the case of S.E.I.U. v. Philip Morris, Inc., et al. (U.S. District Court,
District of Columbia, filed June 22, 1998), an order dismissing the case has
been entered.
In the case of Service Employees International Union Health & Welfare Fund,
et al. v. Philip Morris, Inc., et al. (U.S. District Court, District of
Columbia, filed March 19, 1998), an order dismissing the case has been
entered.
In the case of Sheet Metal Workers Trust Fund, et al. v. Philip Morris,
Inc., et al. (U.S. District Court, District of Columbia, filed August 31,
1999), an order dismissing the case has been entered.
CONTRIBUTION CASES -
In the case of Gasket Holdings, Inc., et al. v. RJR Nabisco, Inc., et al.
(Chancery Court, Claiborne County, Mississippi, filed April 18, 2001),
plaintiffs have voluntarily dismissed the case without prejudice.
In the case of Raymark Industries v. R.J. Reynolds Tobacco Company, et al.
(Circuit Court, Duval County, Florida, filed September 15, 1997), plaintiff
has voluntarily dismissed the case. The Company was a defendant in the case
but never received service of process.
In the case of Raymark Industries v. R.J. Reynolds Tobacco Co., et al.
(Circuit Court, Duval County, Florida, filed December 31, 1997), plaintiff has
voluntarily dismissed the case.
In the case of Raymark Industries v. The American Tobacco Company, et al.
(U.S. District Court, Eastern District, New York, filed January 30, 1998), the
court has entered the parties' stipulation of dismissal with prejudice.
TOBACCO-RELATED ANTITRUST CASES -
Wholesalers And Direct Purchaser Suits -
In the case of Holiday Markets, Inc., et al. v. Philip Morris Companies,
Inc., et al (U.S. District Court, Northern District, Georgia, filed March 17,
2000), and eight other separate cases that were brought in federal courts by
tobacco product wholesalers against cigarette manufacturers alleging
violations of antitrust laws, and consolidated together for pre-trial purposes
in the U.S. District Court for the Northern District of Georgia, the court
granted defendants motion for summary judgment and dismissed the cases in
their entirety.
Indirect Purchaser Suits -
In the case of Shafer v. Philip Morris Companies, Inc. et al. (District
Court, South Central Judicial District, Morton County, North Dakota, filed
April 18, 2000), the court denied defendants' motion to dismiss.
In the case of Del Serrone v. Philip Morris Companies, Inc. et al, (Circuit
Court, Wayne County, Michigan, filed February 8, 2000) the court denied
plaintiff's motion for class certification.
In the case of Gray v. Philip Morris Companies, Inc., et al. (Superior
Court, Pima County, Arizona, filed February 11, 2000), the court dismissed the
case in its entirety as to all defendants. On appeal, the appellate court
reversed the dismissal and reinstated the case.
97
Item 4. Submission of Matters to a Vote of Security Holders.
---------------------------------------------------
Set forth below is information relating to the 2002 Annual Meeting of
Shareholders of the Registrant.
The annual meeting was called to order at 11:00 A.M., May 14, 2002.
Represented at the meeting, in person or by proxy, were shares representing
177,019,284 votes, approximately 90.5% of the votes represented by issued and
outstanding shares entitled to vote.
The following business was transacted:
Election of Directors
Over 82% of the votes cast for directors were voted for the election of the
following directors. The number of votes for and withheld with respect to each
director was as follows:
Votes For Votes Withheld
--------- --------------
Joseph L. Bower 173,833,214 3,186,070
John Brademas 174,473,405 2,545,879
Paul J. Fribourg 173,852,414 3,166,870
Bernard Myerson 174,481,445 2,537,839
Edward J. Noha 174,467,000 2,552,284
Michael F. Price 173,875,018 3,144,266
Gloria R. Scott 173,467,614 3,191,109
Andrew H. Tisch 146,542,192 30,477,092
James S. Tisch 146,468,147 30,551,137
Jonathan M. Tisch 146,460,028 30,559,256
Laurence A.Tisch 146,447,725 30,571,559
Preston R. Tisch 146,470,098 30,549,186
Fred Wilpon 174,498,819 2,520,465
Ratification of the appointment of Independent Certified Public Accountants
- ---------------------------------------------------------------------------
Approved - 173,137,782 votes, approximately 97.8% of the votes cast, voted
to ratify the appointment of Deloitte & Touche, LLP as independent certified
public accountants for the Company. 3,694,086 votes, approximately 2.1 % of
the votes cast, voted against, and shares representing 187,416 votes,
approximately 0.1% of the votes cast, abstained.
Shareholder proposal relating to political contributions
- --------------------------------------------------------
Rejected - 154,289,675 votes, approximately 96.6% of the votes cast, voted
against this shareholder proposal. 3,581,222 votes, approximately 2.2% of the
votes cast, were cast for, and shares representing 1,878,426 votes,
approximately 1.2% of the votes cast, abstained. In addition, there were
shares representing 17,269,961 votes as to which brokers indicated that they
did not have authority to vote ("broker non-votes").
98
Shareholder proposal relating to an independent board of directors
- ------------------------------------------------------------------
Rejected - 103,025,647 votes, approximately 64.5% of the votes cast, voted
against this shareholder proposal. 55,989,839 votes, approximately 35.1% of
the votes cast, were cast for, and shares representing 733,838 votes,
approximately 0.5% of the votes cast, abstained. In addition, there were
shares representing 17,269,960 broker non-votes.
Shareholder proposal relating to independent directors and committees
- ---------------------------------------------------------------------
Rejected - 96,452,899 votes, approximately 60.4% of the votes cast, voted
against this shareholder proposal. 62,803,397 votes, approximately 39.3% of
the votes cast, were cast for, and shares representing 493,028 votes,
approximately 0.3% of the votes cast, abstained. In addition, there were
17,269,960 broker non-votes.
Shareholder proposal relating to the directors' strategy development role
- -------------------------------------------------------------------------
Rejected - 154,369,550 votes, approximately 96.6% of the votes cast, voted
against this shareholder proposal. 4,233,831 votes, approximately 2.7% of the
votes cast, were cast for, and shares representing 1,145,944 votes,
approximately 0.7% of the votes cast, abstained. In addition, there were
17,269,959 broker non-votes.
Shareholder proposal relating to a nominating committee
- -------------------------------------------------------
Rejected - 101,883,745 votes, approximately 63.8% of the votes cast, voted
against this shareholder proposal. 57,319,987 votes, approximately 35.9% of
the votes cast, were cast for, and shares representing 545,593 votes,
approximately 0.3% of the votes cast, abstained. In addition, there were
17,269,959 broker non-votes.
Shareholder proposal relating to inserts in cigarette packaging
- ---------------------------------------------------------------
Rejected - 142,112,461 votes, approximately 89.0% of the votes cast, voted
against this shareholder proposal. 5,889,900 votes, approximately 3.7% of the
votes cast, were cast for, and shares representing 11,746,964 votes,
approximately 7.4% of the votes cast, abstained. In addition, there were
17,269,959 broker non-votes.
Shareholder proposal relating to environmental tobacco smoke
- ------------------------------------------------------------
Rejected - 142,125,126 votes, approximately 89.0% of the votes cast, voted
against this shareholder proposal. 5,901,402 votes, approximately 3.7% of the
votes cast, were cast for, and shares representing 11,722,797 votes,
approximately 7.3% of the votes cast, abstained. In addition, there were
17,269,959 broker non-votes.
99
Item 6. Exhibits and Reports on Form 8-K.
--------------------------------
(a) Exhibits--
(3) By-Laws of the Registrant as amended through May 14, 2002.
(b) Current reports on Form 8-K -- There were no reports on Form 8-K filed
for the three months ended June 30, 2002.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
LOEWS CORPORATION
-------------------------
(Registrant)
Dated: August 13, 2002 By /s/ Peter W. Keegan
-------------------------
PETER W. KEEGAN
Senior Vice President and
Chief Financial Officer
(Duly authorized officer
and principal financial
officer)
100
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