UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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[ X ] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the Quarterly Period Ended March 31, 2004
[ ] 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: 1-6563
Safeco Corporation
State of Incorporation: Washington
I.R.S. Employer I.D. No.: 91-0742146
Address of Principal Executive Offices: Safeco Plaza, Seattle, Washington 98185
Telephone: 206-545-5000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES [X]. NO [ ].
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). YES [X]. NO [ ].
139,309,813 shares of common stock of Safeco Corporation, no par value, were
outstanding at April 30, 2004.
Safeco Corporation and Subsidiaries
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CONTENTS
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Item Description Page
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Part I Financial Information
1 Financial Statements
Consolidated Statements of Income
for the three months ended March 31, 2004 and 2003 3
Consolidated Balance Sheets
March 31, 2004 and December 31, 2003 4
Consolidated Statements of Cash Flows
for the three months ended March 31, 2004 and 2003 6
Consolidated Statements of Shareholders' Equity
for the three months ended March 31, 2004 and 2003 8
Consolidated Statements of Comprehensive Income
for the three months ended March 31, 2004 and 2003 8
Condensed Notes to Consolidated Financial Statements 9
2 Management's Discussion and Analysis of Financial Condition and 23
Results of Operations
4 Controls and Procedures 47
Part II Other Information
1 Legal Proceedings 48
6 Exhibits and Reports on Form 8-K 48
Signatures 50
Safeco Corporation and Subsidiaries
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Consolidated Statements of Income
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THREE MONTHS ENDED MARCH 31 2004 2003
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(In Millions, Except Per Share Amounts) (Unaudited)
REVENUES
Property & Casualty Earned Premiums $ 1,340.5 $ 1,163.1
Net Investment Income 115.0 119.6
Net Realized Investment Gains 42.8 8.2
Other -- 2.6
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Total 1,498.3 1,293.5
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EXPENSES
Losses and Loss Adjustment Expenses 826.0 789.1
Other Underwriting and Operating Expenses 154.1 158.4
Amortization of Deferred Policy Acquisition Costs 226.9 204.6
Interest Expense 30.5 34.8
Restructuring Charges 1.3 --
-----------------------------
Total 1,238.8 1,186.9
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Income from Continuing Operations before Income Taxes 259.5 106.6
Provision for Income Taxes 73.9 27.1
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Income from Continuing Operations 185.6 79.5
Income from Discontinued Operations (Net of Taxes of $26.9 and $6.3) 50.6 10.5
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Net Income $ 236.2 $ 90.0
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INCOME PER SHARE OF COMMON STOCK - DILUTED
Income from Continuing Operations $ 1.33 $ 0.57
Income from Discontinued Operations 0.36 0.08
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Net Income 1.69 0.65
INCOME PER SHARE OF COMMON STOCK - BASIC
Income from Continuing Operations 1.34 0.57
Income from Discontinued Operations 0.36 0.08
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Net Income 1.70 0.65
Dividends Declared $ 0.185 $ 0.185
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Average Number of Shares Outstanding During the Period:
Diluted 140.0 138.7
Basic 138.9 138.3
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See Condensed Notes to Consolidated Financial Statements.
Safeco Corporation and Subsidiaries
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Consolidated Balance Sheets
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MARCH 31 DECEMBER 31
2004 2003
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(In Millions) (Unaudited)
ASSETS
Investments
Available-for-Sale Securities:
Fixed Maturities, at Fair Value
(Cost or amortized cost: $7,797.0; $7,717.2) $ 8,311.7 $ 8,159.2
Marketable Equity Securities, at Fair Value
(Cost: $653.9; $684.8) 1,134.8 1,166.2
Other Invested Assets 26.1 18.8
Short-Term Investments 68.5 77.6
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Total Investments 9,541.1 9,421.8
Cash and Cash Equivalents 317.5 241.4
Accrued Investment Income 110.9 120.9
Premiums and Service Fees Receivable 1,079.9 1,043.9
Other Notes and Accounts Receivable 151.6 104.8
Current Income Taxes Recoverable -- 20.5
Deferred Income Taxes Recoverable 204.4 274.3
Reinsurance Recoverables 358.6 372.0
Deferred Policy Acquisition Costs 361.4 356.8
Land, Buildings and Equipment for Company Use
(At cost less accumulated depreciation: $323.8; $311.8) 420.7 433.7
Other Assets 238.3 256.5
Securities Lending Collateral 1,023.0 951.9
Assets of Discontinued Operations 23,108.3 22,548.9
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Total Assets $ 36,915.7 $ 36,147.4
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See Condensed Notes to Consolidated Financial Statements.
Safeco Corporation and Subsidiaries
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Consolidated Balance Sheets
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MARCH 31 DECEMBER 31
2004 2003
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(In Millions) (Unaudited)
LIABILITIES AND SHAREHOLDERS' EQUITY
Loss and Loss Adjustment Expense Reserves $ 5,068.9 $ 5,044.6
Unearned Premiums 2,085.2 2,053.6
Debt 1,951.3 1,951.3
Current Income Taxes Payable 31.1 --
Other Liabilities 998.8 1,180.0
Securities Lending Payable 1,023.0 951.9
Liabilities of Discontinued Operations 20,222.7 19,942.7
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Total Liabilities 31,381.0 31,124.1
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Commitments and Contingencies -- --
Preferred Stock, No Par value
Shares Authorized: 10
Shares Issued and Outstanding: None -- --
Common Stock, No Par Value
Shares Authorized: 300
Shares Reserved for Options: 11.0; 11.6
Shares Issued and Outstanding: 139.2; 138.6 1,216.9 1,197.3
Retained Earnings 2,519.2 2,308.7
Accumulated Other Comprehensive Income, Net of Taxes
Unrealized Gains and Losses on Available-for-Sale Securities
and Derivative Financial Instruments 1,892.4 1,589.0
Unrealized Foreign Currency Translation Adjustment (9.8) (8.8)
Deferred Policy Acquisition Costs Valuation Allowance (78.3) (57.2)
Minimum Pension Liability Adjustment (5.7) (5.7)
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Total Accumulated Other Comprehensive Income 1,798.6 1,517.3
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Total Shareholders' Equity 5,534.7 5,023.3
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Total Liabilities and Shareholders' Equity $ 36,915.7 $ 36,147.4
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See Condensed Notes to Consolidated Financial Statements.
Safeco Corporation and Subsidiaries
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Consolidated Statements of Cash Flows
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THREE MONTHS ENDED MARCH 31 2004 2003
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(In Millions) (Unaudited)
OPERATING ACTIVITIES
Insurance Premiums Received $ 1,336.0 $ 1,191.9
Dividends and Interest Received 138.7 116.1
Insurance Claims Paid (807.0) (845.1)
Underwriting, Acquisition, Insurance and Other Operating Costs Paid (552.6) (398.4)
Interest Paid (63.4) (47.9)
Income Taxes Received (Paid) 19.8 (23.6)
Discontinued Operations, Net 260.4 224.6
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Net Cash Provided by Operating Activities 331.9 217.6
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INVESTING ACTIVITIES
Purchases of
Fixed Maturities Available-for-Sale (405.8) (550.7)
Equity Securities Available-for-Sale (110.3) (33.5)
Maturities and Calls of Fixed Maturities Available-for-Sale 195.8 307.8
Sales of:
Fixed Maturities Available-for-Sale 180.0 389.5
Equity Securities Available-for-Sale 135.4 30.0
Net (Increase) Decrease in Short-Term Investments 9.1 (253.0)
Other, Net 11.0 6.0
Discontinued Operations, Net (25.5) (296.3)
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Net Cash Used in Investing Activities (10.3) (400.2)
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FINANCING ACTIVITIES
Proceeds from Notes -- 495.9
Repayment of Notes -- (307.1)
Dividends Paid to Shareholders (25.7) (25.6)
Other, Net 15.1 2.2
Discontinued Operations, Net (196.2) 44.0
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Net Cash Provided by (Used in) Financing Activities (206.8) 209.4
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Cash (Provided By) Used In Discontinued Operations (38.7) 27.7
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Net Increase in Cash and Cash Equivalents in Continuing Operations 76.1 54.5
Cash and Cash Equivalents at Beginning of Period 241.4 121.1
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Cash and Cash Equivalents at End of Period $ 317.5 $ 175.6
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See Condensed Notes to Consolidated Financial Statements.
Safeco Corporation and Subsidiaries
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Consolidated Statements of Cash Flows -
Reconciliation of Net Income to Net Cash Provided by Operating Activities
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THREE MONTHS ENDED MARCH 31 2004 2003
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(In Millions) (Unaudited)
Net Income $ 236.2 $ 90.0
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ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH
PROVIDED BY OPERATiNG ACTIVITIES
Income from Discontinued Operations, Net of Taxes (50.6) (10.5)
Net Realized Investment Gains (42.8) (8.2)
Amortization of Fixed Maturities 9.5 (3.7)
Amortization and Depreciation 14.8 14.4
Deferred Income Tax Provision 38.3 30.2
Other 2.8 --
Changes in
Accrued Investment Income 10.0 10.8
Deferred Policy Acquisition Costs (4.6) 0.4
Property & Casualty Loss and Loss Adjustment Expense Reserves 24.3 (84.3)
Unearned Premiums 31.6 44.6
Current Income Taxes Recoverable 51.6 (25.8)
Other Assets and Liabilities (249.6) (64.9)
Discontinued Operations, Net 260.4 224.6
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Total Adjustments 95.7 127.6
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Net Cash Provided by Operating Activities $ 331.9 $ 217.6
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There were no significant non-cash financing or investing activities for the three months ended March 31,
2004 and 2003.
See Condensed Notes to Consolidated Financial Statements.
Safeco Corporation and Subsidiaries
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Consolidated Statements of Shareholders' Equity
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THREE MONTHS ENDED MARCH 31 2004 2003
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(In Millions) (Unaudited)
COMMON STOCK
Balance at Beginning of Period $ 1,197.3 $ 1,178.1
Stock Issued for Options and Rights 16.8 2.4
Stock Option Expense 2.8 --
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Balance at End of Period 1,216.9 1,180.5
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RETAINED EARNINGS
Balance at Beginning of Period 2,308.7 2,072.2
Net Income 236.2 90.0
Dividends Declared (25.7) (25.6)
Other -- (0.1)
----------------------------
Balance at End of Period 2,519.2 2,136.5
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ACCUMULATED OTHER COMPREHENSIVE INCOME, NET OF TAXES
Balance at Beginning of Period 1,517.3 1,181.3
Other Comprehensive Income 281.3 63.7
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Balance at End of Period 1,798.6 1,245.0
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Shareholders' Equity $ 5,534.7 $ 4,562.0
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Consolidated Statements of Comprehensive Income
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THREE MONTHS ENDED MARCH 31 2004 2003
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(In Millions) (Unaudited)
Net Income $ 236.2 $ 90.0
----------------------------
Other Comprehensive Income, Net of Taxes:
Change in Unrealized Gains (Losses) on Available-for-Sale Securities 257.7 21.8
Reclassification Adjustment for Net Realized Investment (Gains) Losses
Included in Net Income 38.4 32.4
Derivatives Qualifying as Cash Flow Hedges - Net Change in Fair Value 7.3 2.1
Adjustment for Deferred Policy Acquisition Costs Valuation Allowance (21.1) 1.6
Foreign Currency Translation Adjustments (1.0) 5.8
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Other Comprehensive Income 281.3 63.7
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Comprehensive Income $ 517.5 $ 153.7
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See Condensed Notes to Consolidated Financial Statements.
Safeco Corporation and Subsidiaries
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Condensed Notes to Consolidated Financial Statements (unaudited)
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(Dollar amounts in millions except per share data, unless noted otherwise)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations
Safeco Corporation is a Washington State corporation operating across the United
States, with insignificant non-U.S. activities. Our subsidiaries sell property
and casualty insurance including surety. Our discontinued businesses sell life
insurance, group stop-loss medical insurance and asset management products to
individuals and corporations. We generated virtually all of our revenues for the
periods presented in this report from these activities.
Throughout our unaudited Consolidated Financial Statements, Safeco Corporation
and its subsidiaries are referred to as "Safeco" "we" and "our." The property
and casualty businesses including surety are referred to as "Property &
Casualty" and "P&C". All other continuing activities, primarily the financing of
our business activities, are collectively referred to as "Corporate." The
discontinued life insurance, group stop-loss medical insurance and asset
management businesses are referred to as "Discontinued Operations", "Life &
Investments" and "L&I".
On March 15, 2004, we entered into definitive agreements to sell substantially
all our L&I operations. On April 8, 2004, we entered into an agreement for the
sale of the remaining part of our L&I operations and accordingly we have
presented L&I as a Discontinued Operation in these Consolidated Financial
Statements in accordance with Financial Accounting Standards Board (FASB)
Statement of Financial Accounting Standards (SFAS) 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". Prior-year amounts have been
restated to reflect the presentation of Discontinued Operations.
Basis of Consolidation and Reporting and Use of Estimates
We prepared the unaudited Consolidated Financial Statements in conformity with
accounting principles generally accepted in the United States (GAAP) for interim
financial information and with the instructions to Form 10-Q. Certain financial
information, which is required in the annual financial statements prepared in
conformity with GAAP, may not be required for interim financial reporting
purposes and has been condensed or omitted. In the opinion of management, all
adjustments (consisting of normal and recurring adjustments) considered
necessary for a fair presentation of results for the interim periods have been
included. Results for the three-month period ended March 31, 2004 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2004.
These unaudited Consolidated Financial Statements and condensed notes should be
read in conjunction with the Consolidated Financial Statements and notes
included in our 2003 Annual Report on Form 10-K that was previously filed with
the Securities and Exchange Commission.
The preparation of these interim Consolidated Financial Statements in conformity
with GAAP requires us to make estimates and assumptions that may affect amounts
reported in these Consolidated Financial Statements and accompanying notes.
Actual results could differ from those estimates.
The unaudited Consolidated Financial Statements include Safeco Corporation and
its subsidiaries. All significant intercompany transactions and balances have
been eliminated in the Consolidated Financial Statements.
We have made certain reclassifications to the prior-year amounts to conform to
the current-year presentation.
Earnings per Share
We calculate basic earnings per share by dividing net income by the
weighted-average number of common shares outstanding during the quarter. Diluted
earnings per share reflect the potential dilution that could occur if options or
other dilutive instruments granted under our stock-based compensation plans were
exercised.
We present the computation of net income per share below, based upon
weighted-average common and dilutive shares outstanding:
THREE MONTHS ENDED MARCH 31 2004 2003
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Net Income $ 236.2 $ 90.0
Average Number of Common Shares Outstanding 138.9 138.3
-------------------------------
Basic Net Income Per Share $ 1.70 $ 0.65
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Net Income $ 236.2 $ 90.0
Average Number of Common Shares Outstanding 138.9 138.3
Additional Common Shares Assumed Issued Under Treasury Stock Method 1.1 0.4
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Average Number of Common Shares Outstanding - Diluted 140.0 138.7
-------------------------------
Diluted Net Income Per Share $ 1.69 $ 0.65
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Stock Compensation Expense
Prior to 2003, we applied Accounting Principles Board (APB) Opinion 25 in
accounting for our stock options, as allowed under SFAS 123, "Accounting for
Stock-Based Compensation," as amended. Under APB 25, we recognized no
compensation expense related to options because the exercise price of our
employee stock options equaled the fair market value of the underlying stock on
the date of grant.
In December 2002, the FASB issued SFAS 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure," amending SFAS 123, to provide
alternative methods of transition to the fair value method of accounting for
stock-based employee compensation under SFAS 123. Effective January 1, 2003, we
adopted the fair value method for accounting for stock options as defined in
SFAS 123, using the prospective basis transition method. Under this method, we
have recognized stock-based compensation expense for options granted, modified
or settled after January 1, 2003. No stock options were granted in the first
quarter of 2003. Stock-based compensation expense was $2.8 ($1.5 after tax) for
the three months ended March 31, 2004.
The following table illustrates the pro forma effect on net income and net
income per share as if the fair value method had been applied to all outstanding
and unvested awards in each period:
THREE MONTHS ENDED MARCH 31 2004 2003
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Net Income, as reported $ 236.2 $ 90.0
Add: Stock-based Compensation Expense Included in Reported Net Income, After Tax 1.5 --
Deduct: Pro Forma Stock-based Compensation Expense* (2.6) (1.9)
-----------------------------
Pro Forma Net Income $ 235.1 $ 88.1
-----------------------------
Net Income Per Share
Basic - as Reported $ 1.70 $ 0.65
Diluted - as Reported $ 1.69 $ 0.65
Basic - Pro Forma $ 1.69 $ 0.64
Diluted - Pro Forma $ 1.68 $ 0.64
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* Determined under fair value based method for all awards, net of related tax effects.
Cash Balance Plan
The Safeco Cash Balance Plan (CBP) is a noncontributory defined benefit plan
that provides benefits for each year of service after 1988, based on each
eligible participant's compensation plus a stipulated rate of return on their
benefit balance. We make contributions to the CBP based on funding requirements
set by the Employee Retirement Income Security Act (ERISA). Our annual
contribution for 2004 was made in the first quarter and totaled $12.9.
Other Postretirement Benefits
We also provide certain healthcare and life insurance benefits, Other
Postretirement Benefits (OPRB), for certain retired employees, their
beneficiaries and eligible dependents. We contributed $1.3 in the first quarter
and expect to contribute a total of $5.2 to the OPRB program in 2004.
We amended our OPRB program in the third quarter of 2003. The amendments created
negative prior service cost which will be amortized over the average remaining
service period all active participants. The related amortization resulted in a
credit to OPRB expense of $2.6 pretax for the three months ended March 31, 2004.
The following table summarizes CBP and OPRB costs charged (credited) to income:
CBP OPRB
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THREE MONTHS ENDED MARCH 31 2004 2003 2004 2003
- ------------------------------------------ --------------- -------------- -------------- ---------------
Service Cost $ 3.4 $ 2.4 $ 0.1 $ 1.3
Interest Cost 2.4 2.1 0.9 2.3
Expected Return on Plan Assets (2.8) (1.9) -- --
Amortization of Prior Service Cost and
Unrecognized Net Actuarial (Gain) Loss 0.1 0.4 (2.6) 0.4
- ------------------------------------------ --------------- -------------- -------------- ---------------
Total $ 3.1 $ 3.0 $ (1.6) $ 4.0
- ------------------------------------------ --------------- -------------- -------------- ---------------
New Accounting Standards
American Institute of Certified Public Accountants (AICPA) Statement of Position
(SOP) 03-1, "Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long-Duration Contracts and for Separate Accounts"
The provisions of SOP 03-1 are effective for fiscal years beginning after
December 15, 2003. SOP 03-1 provides guidance in three areas: separate account
presentation and valuation; the accounting recognition given sales inducements;
and the classification and valuation of long-duration contract liabilities. Our
Discontinued Operations adopted SOP 03-1 effective January 1, 2004, with no
material impact on our Consolidated Financial Statements.
FASB Exposure Draft, "Share-Based Payment"
On March 31, 2004, the FASB issued its Exposure Draft, "Share-Based Payment",
which is a proposed amendment to SFAS 123. The proposed statement would require
all share-based compensation awards granted, modified or settled after December
15, 1994 to be accounted for using the fair value method of accounting on a
prospective basis. As discussed above, we adopted the fair value method of
accounting for share-based awards effective January 1, 2003. Based on the
current amount of remaining unvested, and previously unaccounted for,
share-based awards issued since December 15, 1994, we do not believe that
adoption of the statement in its current form would have a material impact on
our financial condition or results of operations. The FASB expects to issue a
final statement late in 2004 that would be effective for public companies for
fiscal years beginning after December 15, 2004.
NOTE 2 - INVESTMENTS
FIXED MATURITIES AND MARKETABLE EQUITY SECURITIES
The following tables summarize our fixed maturities and marketable equity
securities:
COST OR GROSS GROSS NET
AMORTIZED UNREALIZED UNREALIZED UNREALIZED
MARCH 31, 2004 COST GAINS LOSSES GAINS FAIR VALUE
- ------------------------------- -----------------------------------------------------------------------------
Fixed Maturities:
U.S. Government and
Agencies $ 936.5 $ 66.3 $ (0.1) $ 66.2 $ 1,002.7
State and Political
Subdivisions 2,215.2 172.8 (1.9) 170.9 2,386.1
Foreign Governments 78.3 4.0 -- 4.0 82.3
Corporate Securities 3,466.0 226.7 (5.4) 221.3 3,687.3
Mortgage-Backed Securities 1,101.0 52.9 (0.6) 52.3 1,153.3
- ------------------------------- -----------------------------------------------------------------------------
Total Fixed Maturities 7,797.0 522.7 (8.0) 514.7 8,311.7
Marketable Equity Securities 653.9 483.9 (3.0) 480.9 1,134.8
- ------------------------------- -----------------------------------------------------------------------------
Total - Continuing Operations $ 8,450.9 $ 1,006.6 $ (11.0) $ 995.6 $ 9,446.5
- ------------------------------- -----------------------------------------------------------------------------
Fixed Maturities -
Discontinued Operations $ 16,671.8 $ 1,856.5 $ -- $ 1,856.5 $ 18,528.3
Marketable Equity Securities
Discontinued Operations 96.3 16.5 -- 16.5 112.8
- ------------------------------- --------------- -------------- -------------- --------------- --------------
Total - Discontinued $ 16,768.1 $ 1,873.0 $ -- $ 1,873.0 $ 18,641.1
Operations
- ------------------------------- -----------------------------------------------------------------------------
COST OR GROSS GROSS NET
AMORTIZED UNREALIZED UNREALIZED UNREALIZED
DECEMBER 31, 2004 COST GAINS LOSSES GAINS FAIR VALUE
- ------------------------------- -----------------------------------------------------------------------------
U.S. Government and
Agencies $ 964.6 $ 53.3 $ (0.5) $ 52.8 $ 1,017.4
Fixed Maturities:
State and Political
Subdivisions 2,219.6 164.9 (3.4) 161.5 2,381.1
Foreign Governments 41.8 3.7 -- 3.7 45.5
Corporate Securities 3,403.3 193.5 (9.8) 183.7 3,587.0
Mortgage-Backed Securities 1,087.9 43.6 (3.3) 40.3 1,128.2
- ------------------------------------------------------------------------------------------------------------------
Total Fixed Maturities 7,717.2 459.0 (17.0) 442.0 8,159.2
Marketable Equity Securities 684.8 484.1 (2.7) 481.4 1,166.2
- ------------------------------------------------------------------------------------------------------------------
Total - Continuing Operations $ 8,402.0 $ 943.1 $ (19.7) $ 923.4 $ 9,325.4
- ------------------------------------------------------------------------------------------------------------------
Fixed Maturities -
Discontinued Operations $ 16,573.0 $ 1,474.3 $ -- $ 1,474.3 $ 18,047.3
Marketable Equity Securities-
Discontinued Operations 96.9 15.9 -- 15.9 112.8
- ------------------------------------------------------------------------------------------------------------------
Total -
Discontinued Operations $ 16,669.9 $ 1,490.2 $ -- $ 1,490.2 $ 18,160.1
- ------------------------------------------------------------------------------------------------------------------
We have recorded an impairment charge for all securities held by L&I with
unrealized losses at March 31, 2004 and December 31, 2003 because we do not
expect them to recover in value before the sale of the L&I businesses is
completed.
The following table shows our investment gross unrealized losses and fair
values, aggregated by investment category and length of time that individual
securities have been in a continuous unrealized loss position at March 31, 2004:
LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL
------------------------- ------------------------- ------------------------
DESCRIPTION OF SECURITIES FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
VALUE LOSSES VALUE LOSSES VALUE LOSSES
- --------------------------- ---------- -------------- -- ---------- -------------- -- ----------- ------------
Fixed Maturities:
U.S. Government and
Agencies $ 40.0 $ (0.1) $ -- $ -- $ 40.0 $ (0.1)
State and Political
Subdivisions 67.9 (0.9) 9.5 (1.0) 77.4 (1.9)
Corporate Securities 100.3 (1.3) 36.7 (4.1) 137.0 (5.4)
Mortgaged-Backed
Securities 45.7 (0.3) 4.2 (0.3) 49.9 (0.6)
- --------------------------- ---------- -------------- -- ---------- -------------- -- ----------- ------------
Total Fixed Maturities 253.9 (2.6) 50.4 (5.4) 304.3 (8.0)
Marketable Equity
Securities 39.8 (3.0) -- -- 39.8 (3.0)
- --------------------------- ---------- -------------- -- ---------- -------------- -- ----------- ------------
Total - Continuing
Operations $ 293.7 $ (5.6) $ 50.4 $ (5.4) $ 344.1 $ (11.0)
- --------------------------- ---------- -------------- -- ---------- -------------- -- ----------- ------------
We reviewed all our investments with unrealized losses at March 31, 2004 in
accordance with our impairment policy. Our evaluation concluded that these
declines in fair value were temporary after considering:
o For securities in an unrealized loss position for less than 12 months, the
volatility of each security's market price and the length of time the
security has been in an unrealized loss position
o For securities in an unrealized loss position for 12 months or more, the
number of securities that were in an unrealized loss position and the
extent to which each security was in an unrealized loss position
FIXED MATURITIES BY MATURITY DATE
The following table summarizes the cost or amortized cost and fair value of our
Continuing Operations fixed maturities at March 31, 2004, by contractual
years-to-maturity. Actual maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or
without prepayment penalties:
COST OR
MATURITY AMORTIZED COST FAIR VALUE
- -------------------------------------------------------------- ---------------------------- ---------------------
One Year or Less $ 652.8 $ 666.5
Over One Year through Five Years 3,280.8 3,478.7
Over Five Years through Ten Years 872.1 938.2
Over Ten Years 1,890.3 2,075.0
Mortgage-Backed Securities 1,101.0 1,153.3
- -------------------------------------------------------------- ---------------------------- ---------------------
Total Fixed Maturities - Continuing Operations $ 7,797.0 $ 8,311.7
- -------------------------------------------------------------- ---------------------------- ---------------------
The carrying value of securities on deposit with state regulatory authorities
was $339.5 at March 31, 2004 and $399.9 at December 31, 2003 for our Continuing
Operations. The carrying value of securities on deposit with state regulatory
authorities for our Discontinued Operations was $11.0 at March 31, 2004 and
$11.0 at December 31, 2003.
NOTE 3 - DERIVATIVE FINANCIAL INSTRUMENTS
Derivatives are instruments whose values are derived from underlying
instruments, indices or rates, have notional amounts and can be net settled.
This may include derivatives that are "embedded" in other derivative instruments
or in certain existing assets or liabilities. We use derivative financial
instruments, including interest rate swaps, options and financial futures, as a
means of hedging exposure to equity price changes and/or interest rate risk on
anticipated transactions or on existing assets and liabilities.
Interest rate risk is the risk of economic losses due to changes in the level of
interest rates. We manage interest rate risk through active portfolio management
and selective use of interest rate swaps as hedges to change the characteristics
of certain assets and liabilities. With interest rate swap agreements, we
exchange with a counterparty, at specified intervals, interest rate payments of
differing character (for example, fixed-rate payments exchanged for
variable-rate payments), based on an underlying principal balance (notional
amount). No cash is exchanged at the outset of the contract and no principal
payments are made by either party. The net interest accrued and the net interest
payments made at each interest payment due date are recorded to interest income
or expense, depending on the hedged item.
Continuing Operations
FAIR VALUE HEDGES
We use interest rate swaps to hedge the change in fair value of certain
fixed-rate debt. At March 31, 2004 we had $575.0 of notional amounts outstanding
relating to such hedges. These derivatives have been designated as fair value
hedges and, because they have been determined to be highly effective, changes in
their fair value and the related portions of the debt that they hedge are
recognized on a net basis in Net Realized Investment Gains in the Consolidated
Statements of Income.
In January 2003, we discontinued $300.0 notional of interest rate swaps as the
underlying medium-term notes were repaid. There were no significant fair value
hedges discontinued during the first quarter of 2004.
Differences between the changes in fair value of these derivatives and the
hedged items represent hedge ineffectiveness. In the three months ended March
31, 2004 and 2003, no amounts were recognized in earnings due to hedge
ineffectiveness.
OTHER DERIVATIVES
Safeco Financial Products (SFP), our wholly owned subsidiary, engaged in limited
derivatives activity by selling single-name credit default swaps, writing and
hedging S&P 500 index options and investing in and hedging convertible bonds.
All these derivative positions were terminated prior to December 31, 2003. These
SFP activities were not designated for hedge accounting treatment under SFAS
133. Changes in the fair values of these instruments were recognized in Net
Realized Investment Gains in the Consolidated Statements of Income. The fee
income on the credit default swaps and the earnings and fair value adjustments
for the S&P 500 index options and the convertible bonds were included in Net
Investment Income in the Consolidated Statements of Income. Pretax income (loss)
before net realized investment gains for SFP was $(0.4), and $2.1 for the three
months ended March 31, 2004 and 2003. Net realized investment gains before tax
for SFP were $9.0 for the three months ended March 31, 2003 and there were no
gains or losses in the three months ended March 31, 2004.
Discontinued Operations
FAIR VALUE HEDGES
Our Discontinued Operations use interest rate swaps to offset the change in fair
value of certain fixed rate assets. At March 31, 2004 we had $317.1 of notional
amounts outstanding relating to such hedges. There was no hedge ineffectiveness
recognized related to these fair value hedges in the three months ended March
31, 2004 and 2003.
CASH FLOW HEDGES
We also use interest rate swaps to hedge the variability of future cash flows
arising from changes in interest rates associated with certain variable rate
assets and forecasted transactions. At March 31, 2004, we had $404.4 of notional
amounts outstanding relating to such hedges. These derivatives have been
designated as cash flow hedges and, because they have been determined to be
highly effective, we recognize the changes in fair value of the derivatives as a
component of Other Comprehensive Income (OCI), net of deferred income taxes,
until the hedged transaction affects current earnings. At the time current
earnings are affected by the variability of cash flows due to interest rate
changes, the related portion of deferred gains or losses on cash flow hedge
derivatives are reclassified from OCI and recorded in the Consolidated
Statements of Income. Amounts recorded in OCI related to derivatives qualifying
as cash flow hedges resulted in an increase of $7.3 after tax for the three
months ended March 31, 2004 and an increase of $2.1 after tax for the same
period in 2003.
The interest rate swaps related to forecasted transactions that are considered
probable of occurring are considered to be highly effective and qualify for
hedge treatment under SFAS 133. SFAS 133 requires that amounts deferred in OCI
be reclassified into earnings either when the forecasted transaction occurs, or
when it is considered not probable of occurring - whichever happens sooner. In
the three months ended March 31, 2004, $3.6 after tax was reclassified from OCI
to Income from Discontinued Operations relating to forecasted transactions that
were considered no longer probable of occurring. No such amounts were
reclassified from OCI in the three months ended March 31, 2003.
At March 31, 2004, the maximum length of time over which we were hedging our
exposure to future cash flows for forecasted transactions was approximately 27
months.
Differences between the changes in fair value of cash flow hedges and the hedged
items represent hedge ineffectiveness and are recognized in interest expense. In
2003, no amounts were recognized in earnings due to hedge ineffectiveness.
OTHER DERIVATIVES
In 1997, L&I introduced its Equity Indexed Annuity (EIA) product that credits
the policyholder based on a percentage of the gain in the S&P 500 Index. Sales
of the EIA product were suspended in the fourth quarter of 1998. In connection
with this product, Safeco has a hedging program with the objective to hedge the
exposure to changes in the S&P 500 Index by purchasing S&P 500 index options. As
permitted under a grandfathering clause in SFAS 133, we elected not to apply the
fair value adjustment requirement of this statement to the embedded derivatives
contained in the liability related to EIA products sold prior to January 1,
1999. The change in fair value of the options, as well as any gains or losses
when they expire or terminate, are recognized as an adjustment to results of
Discontinued Operations in the Consolidated Statements of Income. We did not
recognize any adjustments for the three months ended March 31, 2004 and 2003.
NOTE 4 - INCOME TAXES
We use the liability method of accounting for income taxes in accordance with
SFAS 109, "Accounting for Income Taxes," under which deferred income tax assets
and liabilities are determined based on the differences between their financial
reporting and their tax bases and are measured using the enacted tax rates.
Differences between income taxes computed by applying the U.S. federal income
tax rate of 35% to Income from Continuing Operations and Discontinued Operations
before Income Taxes and the consolidated provision (benefit) for income taxes
were as follows:
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
CONTINUING DISCONTINUED CONTINUING DISCONTINUED
OPERATIONS OPERATIONS OPERATIONS OPERATIONS
- -----------------------------------------------------------------------------------------------------------
Income before Income Taxes $ 259.5 $ 77.5 $ 106.6 $ 16.8
- -----------------------------------------------------------------------------------------------------------
Computed "Expected" Tax Expense 90.8 27.1 37.3 5.9
Tax-Exempt Municipal Bond Income (9.1) -- (9.2) --
Dividends Received Deduction (2.4) (0.8) (1.4) (0.8)
Other (5.4) 0.6 0.4 1.2
- -----------------------------------------------------------------------------------------------------------
Consolidated Provision for Income Taxes 73.9 26.9 27.1 6.3
- -----------------------------------------------------------------------------------------------------------
Current Provision (Benefit) for Income 25.4
Taxes 35.6 3.7 (3.1)
Deferred Provision for Income Taxes 38.3 23.2 30.2 (19.1)
- -----------------------------------------------------------------------------------------------------------
Consolidated Provision for Income Taxes $ 73.9 $ 26.9 $ 27.1 $ 6.3
- -----------------------------------------------------------------------------------------------------------
The tax effects of temporary differences that give rise to the deferred income tax assets and deferred
income tax liabilities at March 31, 2004 and December 31, 2003 were as follows:
MARCH 31, 2004 DECEMBER 31, 2003
- ------------------------------------------------------------------------------------------------------------
CONTINUING DISCONTINUED CONTINUING DISCONTINUED
OPERATIONS OPERATIONS OPERATIONS OPERATIONS
- ------------------------------------------------------------------------------------------------------------
Deferred Income Tax Assets
Goodwill $ 180.8 $ 14.5 $ 185.9 $ 14.9
Discounting of Loss and LAE Reserves
for Tax Purposes 207.7 -- 211.4 --
Unearned Premium Liability 160.5 -- 159.0 --
Investment Impairments 20.9 92.8 26.2 99.4
Postretirement Benefits 40.9 3.8 42.1 4.0
Alternative Minimum Tax Carryforwards 57.6 -- 62.4 --
Net Operating Loss Carryforwards -- -- 23.5 --
Adjustment to Life Policy Liabilities -- 80.1 -- 96.7
Capitalization of Life Policy
Acquisition Costs -- 73.8 -- 76.1
Other 65.3 24.1 63.8 25.6
- ------------------------------------------------------------------------------------------------------------
Total Deferred Income Tax Assets 733.7 289.1 774.3 316.7
- ------------------------------------------------------------------------------------------------------------
Unrealized Appreciation of Investment
Securities, Derivative Financial
Instruments, Deferred Policy
Acquisition Cost Valuation
Allowance, Minimum Pension Liability
and Foreign Currency Adjustment 345.1 618.0 314.2 497.2
Deferred Policy Acquisition Costs 126.5 128.3 124.9 129.6
Other 57.7 53.2 60.9 56.6
- ------------------------------------------------------------------------------------------------------------
Total Deferred Income Tax Liabilities 529.3 799.5 500.0 683.4
- ------------------------------------------------------------------------------------------------------------
Net Deferred Income Tax Asset $ 204.4 $ (510.4) $ 274.3 $ (366.7)
(Liability)
- ------------------------------------------------------------------------------------------------------------
NOTE 5 - LONG-TERM DEBT
The following table shows the total principal amount of our long-term debt, interest rates and maturities of
debt. No debt is classified as current at March 31, 2004 and December 31, 2003.
MARCH 31, 2004 DECEMBER 31, 2003
- -------------------------------------------------------------------------------------------------------------
6.875% Notes Due 2007 $ 200.0 $ 200.0
4.200% Notes Due 2008 200.0 200.0
4.875% Notes Due 2010 300.0 300.0
7.250% Notes Due 2012 375.0 375.0
8.072% Debentures Due 2037 876.3 876.3
- -------------------------------------------------------------------------------------------------------------
Total Debt $ 1,951.3 $ 1,951.3
- -------------------------------------------------------------------------------------------------------------
We maintain a bank credit facility with $500.0 available through September 2005.
After the sale of L&I is completed, we may lower the bank credit facility and we
expect to reset the amount of the requirement to maintain a minimum level of
shareholders' equity.
NOTE 6 - RESTRUCTURING CHARGES
We have identified expense reductions across the company that will enable us to
better compete in property and casualty insurance markets. In September 2003, we
announced that we would eliminate approximately 500 jobs and as of March 31,
2004, all such jobs had been eliminated. Positions impacted are primarily in our
corporate departments. We expect this initiative to reduce our 2004 operating
expenses by approximately $75.0.
For the three months ended March 31, 2004, period costs associated with the
restructuring totaled $1.3. These period costs represented one-time termination
benefits. Charges have been recognized and accrued as a restructuring charge and
allocated to our reportable segments in accordance with SFAS 146, "Accounting
for Costs Associated with Exit or Disposal Activities". Other charges that do
not meet the criteria for accrual will be expensed as restructuring charges when
incurred.
Estimated and actual costs associated with the restructuring are as follows:
THREE MONTHS
TOTAL ENDED
EXPECTED COSTS 2003 MARCH 31, 2004
- ----------------------------------------------------------------------------------------------------
One-Time Termination Benefits $ 9.7 $ 8.2 $ 1.3
Lease Termination Costs and Other Costs 3.2 1.0 --
- ----------------------------------------------------------------------------------------------------
Total $ 12.9 $ 9.2 $ 1.3
- ----------------------------------------------------------------------------------------------------
Estimated costs associated with the restructuring to reduce our expenses are
allocated to our reportable
segments in our Continuing Operations as follows:
THREE MONTHS
TOTAL ENDED
EXPECTED COSTS 2003 MARCH 31, 2004
- ----------------------------------------------------------------------------------------------------
Safeco Personal Insurance (SPI)
Auto $ 5.5 $ 3.8 $ 0.6
Property 2.2 1.6 0.2
Specialty 0.2 0.1 --
- ----------------------------------------------------------------------------------------------------
Total SPI 7.9 5.5 0.8
- ----------------------------------------------------------------------------------------------------
Safeco Business Insurance (SBI)
SBI Regular 2.7 1.9 0.3
SBI Special Accounts Facility 0.9 0.6 0.1
- ----------------------------------------------------------------------------------------------------
Total SBI 3.6 2.5 0.4
- ----------------------------------------------------------------------------------------------------
Surety 0.4 0.3 0.1
P&C Other 0.1 0.0 --
- ----------------------------------------------------------------------------------------------------
Total P&C 12.0 8.3 1.3
Corporate 0.9 0.9 --
- ----------------------------------------------------------------------------------------------------
Total $ 12.9 $ 9.2 $ 1.3
- ----------------------------------------------------------------------------------------------------
The activity related to previously accrued restructuring charges as of March 31,
2004 was as follows:
BALANCE AT BALANCE AT
DECEMBER 31 COSTS AMOUNTS MARCH 31
2003 ACCRUED PAID 2004
- ----------------------------- ------------------- ---------------- --------------- -------------------
Severance Costs $ 0.2 $ -- $ 0.2 $ --
Lease Terminations and
Other Costs 0.7 -- 0.7 --
- ----------------------------- ------------------- ---------------- --------------- -------------------
Total $ 0.9 $ -- $ 0.9 $ --
- ----------------------------- ------------------- ---------------- --------------- -------------------
NOTE 7 - COMPREHENSIVE INCOME
Comprehensive income is defined as all changes in shareholders' equity, except
those arising from transactions with shareholders. Comprehensive income includes
net income and other comprehensive income, which for us consists of changes in
unrealized gains or losses on investments carried at fair market value, changes
in foreign currency translation gains or losses, deferred policy acquisition
costs valuation allowance, derivatives and minimum pension liability.
The components of accumulated other comprehensive income or losses were as
follows:
THREE MONTHS ENDED 2004 2003
MARCH 31
- ----------------------------------------------------------------------------------------------------------
PRETAX TAXES AFTER TAX PRETAX TAXES AFTER TAX
-----------------------------------------------------------------------------
Change in Unrealized Gains
and Losses of
Available-for-Sale
Securities $ 396.3 $ (138.6) $ 257.7 $ 33.6 $ (11.8) $ 21.8
Reclassification adjustment
for Net Realized
Investment (Gains)Losses
included in Net Income 59.1 (20.7) 38.4 49.9 (17.5) 32.4
Derivatives Qualifying as
Cash Flow Hedges - Net
Changes in Fair Value 11.3 (4.0) 7.3 3.2 (1.1) 2.1
Deferred Policy Acquisition
Costs Valuation Allowance (32.4) 11.3 (21.1) 2.5 (0.9) 1.6
Foreign Currency Translation
Adjustments (1.6) 0.6 (1.0) 8.9 (3.1) 5.8
-----------------------------------------------------------------------------
Other Comprehensive Income $ 432.7 $ (151.4) $ 281.3 $ 98.1 $ (34.4) $ 63.7
- ----------------------------------------------------------------------------------------------------------
NOTE 8 - SEGMENT INFORMATION
Continuing Operations
On January 1, 2004, we made minor revisions to our P&C segments that better
reflect how these segments are managed. Our non-voluntary auto and property
results, previously in P&C Other, are now included in SPI Auto and SPI Property.
Certain products, previously reported in SPI Specialty, primarily earthquake,
inland marine and dwelling fire, are now included in SPI Property. Our
commercial specialty programs and large commercial accounts in runoff,
previously in SBI Runoff, are now included in P&C Other. Prior-period amounts
have been restated to reflect the revised presentation of P&C segments.
P&C
Our P&C Insurance operations are organized around our four business segments:
Safeco Personal Insurance (SPI), Safeco Business Insurance (SBI), Surety and P&C
Other. These operations contain our reportable segments, which are managed
separately as described below.
SAFECO PERSONAL INSURANCE
SPI offers auto, homeowners and other specialty insurance products for
individuals, and the SPI operations are organized around three reportable
segments - Auto, Property and Specialty - which are managed separately by these
product groupings.
The Auto segment provides coverage for liability of our customers to others for
both bodily injury and property damage, for injuries sustained by our customers
and for physical damage to our customers' vehicles from collision and other
hazards.
The Property segment provides homeowners, earthquake, dwelling fire and inland
marine coverage for individuals. Our Property coverages protect homes,
condominiums and rental property contents against losses from a wide variety of
hazards. We also protect individuals from liability for accidents that occur on
their property.
The Specialty segment provides umbrella, recreational vehicle, motorcycle and
boat insurance coverage for individuals.
SAFECO BUSINESS INSURANCE
SBI offers business owner policies, multi-peril packages, property, general
liability, commercial auto and workers compensation. SBI's operations are
organized around two segments: SBI Regular and SBI Special Accounts Facility,
which are managed separately based on the nature of the underlying insured.
SBI Regular is our core commercial segment writing a variety of commercial
insurance products for small- to medium-sized businesses (customers who pay
annual written premiums of $100,000 or less). Our principal business insurance
products include business owner policies, commercial auto, commercial
multi-peril, workers compensation, property and general liability.
SBI Special Accounts Facility writes larger commercial accounts for our key
agents who sell our core P&C products as well as our four specialty commercial
programs, which are lender-placed property insurance, agents' errors and
omissions insurance, mini-storage and warehouse properties and non-profit social
services organizations.
SURETY
We offer surety bonds primarily for construction, performance and legal matters
that include appeals, probate and bankruptcies.
P&C OTHER
P&C Other includes large commercial business accounts, commercial specialty
programs and London operations that are in runoff and certain product lines that
we have exited.
P&C RESULTS
Our management measures segment profit or loss for P&C based upon underwriting
results. Underwriting results (profit or loss) represents the net amount of
earned premium less underwriting losses and expenses on a pretax basis.
Management views underwriting profit or loss as a critical measure to assess
underwriting effectiveness and to evaluate the results of the P&C operations.
Underwriting results are not a substitute for net income determined in
accordance with GAAP.
CORPORATE
In addition to these operating segments, certain activities are reported in the
Corporate segment and not allocated to individual segments. The Corporate
segment includes operating results for the parent company, which includes
interest expense for our debt; SFP, which was engaged in limited derivative
activity until its operations were wound down in December 2003; intercompany
eliminations and other corporate activities.
Discontinued Operations
L&I
The Discontinued Operations include results of our L&I businesses. See Note 9
for more information.
In reporting L&I as a discontinued operation, general corporate overhead
expenses are no longer allocated to L&I. Previously allocated expenses of $3.0
in the first quarter of 2003 have been eliminated from the L&I operations.
Prior-period amounts have been restated to reflect the presentation of L&I as a
Discontinued Operation.
The following tables present selected financial information by segment for our
Continuing Operations and reconcile segment revenues and underwriting results to
amounts reported in the Consolidated Statements of Income.
REVENUES
THREE MONTHS ENDED MARCH 31 2004 2003
- ---------------------------------------------------------------------------------------------------------
PROPERTY & CASUALTY
Safeco Personal Insurance (SPI)
Auto $ 620.1 $ 522.1
Property 228.2 227.5
Specialty 21.2 19.7
----------------------------------
Total SPI 869.5 769.3
----------------------------------
Safeco Business Insurance (SBI)
SBI Regular 302.4 266.0
SBI Special Accounts Facility 116.7 87.9
----------------------------------
Total SBI 419.1 353.9
----------------------------------
Surety 45.4 32.1
P&C Other 6.5 7.8
----------------------------------
Total Property & Casualty Earned Premiums 1,340.5 1,163.1
P&C Net Investment Income 111.7 112.8
----------------------------------
Total Property & Casualty Revenues (excluding Net Realized Investment
Gains) 1,452.2 1,275.9
----------------------------------
CORPORATE 3.3 9.4
Net Realized Investment Gains 42.8 8.2
----------------------------------
TOTAL REVENUES $ 1,498.3 $ 1,293.5
- ---------------------------------------------------------------------------------------------------------
PRETAX UNDERWRITING PROFITS (LOSSES) AND NET INCOME
THREE MONTHS ENDED MARCH 31 2004 2003
- ---------------------------------------------------------------------------------------------------------
PROPERTY & CASUALTY
Underwriting Profits (Losses)
Safeco Personal Insurance (SPI)
Auto $ 23.1 $ (6.6)
Property 61.4 28.0
Specialty 6.4 5.3
----------------------------------
Total SPI 90.9 26.7
----------------------------------
Safeco Business Insurance (SBI)
SBI Regular 23.8 (5.3)
SBI Special Accounts Facility 18.5 6.4
----------------------------------
Total SBI 42.3 1.1
----------------------------------
Surety 9.3 3.7
P&C Other (7.1) (10.5)
----------------------------------
Total Pretax Underwriting Profit 135.4 21.0
P&C Net Investment Income 111.7 112.8
Restructuring Charges (1.3) --
----------------------------------
Total Property & Casualty 245.8 133.8
----------------------------------
CORPORATE (29.1) (35.4)
Net Realized Investment Gains before Taxes 42.8 8.2
----------------------------------
Income from Continuing Operations before Income Taxes 259.5 106.6
Provision for Income Taxes 73.9 27.1
----------------------------------
Income from Continuing Operations 185.6 79.5
Income from Discontinued Operations, Net of Tax 50.6 10.5
----------------------------------
NET INCOME $ 236.2 $ 90.0
- ---------------------------------------------------------------------------------------------------------
ASSETS MARCH 31 DECEMBER 31
2004 2003
- ---------------------------------------------------------------------------------------------------------
PROPERTY & CASUALTY
Safeco Personal Insurance (SPI)
Auto $ 3,923.5 $ 3,683.0
Property 2,212.9 2,199.8
Specialty 199.5 189.0
----------------------------------
Total SPI 6,335.9 6,071.8
----------------------------------
Safeco Business Insurance (SBI)
SBI Regular 3,342.8 3,235.6
SBI Special Accounts Facility 779.8 722.1
----------------------------------
Total SBI 4,122.6 3,957.7
----------------------------------
Surety 432.2 385.6
P&C Other 2,368.2 2,490.3
----------------------------------
TOTAL PROPERTY & CASUALTY 13,258.9 12,905.4
----------------------------------
CORPORATE 548.5 693.1
DISCONTINUED OPERATIONS 23,108.3 22,548.9
----------------------------------
TOTAL ASSETS $ 36,915.7 $ 36,147.4
- ---------------------------------------------------------------------------------------------------------
NOTE 9 - DISCONTINUED OPERATIONS
On March 15, 2004, we entered into a definitive agreement to sell our life
insurance, group stop-loss medical insurance and asset management operations to
a group of investors led by White Mountains Insurance Group, Ltd., and Berkshire
Hathaway Inc. The purchase price is $1,350.0 and could include a minor
adjustment to proceeds based on June 30, 2004 statutory book value.
In a separate transaction, we entered into a definitive agreement to sell Talbot
Financial Corporation (Talbot), our insurance brokerage operation for $90.0 to
an investor group led by senior management of Talbot, with financial support
from Hub International Limited.
We expect both transactions to close by September 30, 2004. The life insurance,
group stop-loss medical insurance and asset management operations transaction is
subject to regulatory approvals and other customary closing conditions. We
anticipate a net loss on these sale transactions of approximately $200.0 after
tax.
On April 8, 2004, we entered into a definitive agreement to sell Safeco Trust
Company to Mellon Trust of Washington, and on April 19, 2004, this transaction
was completed.
The enterprises included in these transactions represent all of the business and
earnings generated by the L&I segments. We have presented L&I as a Discontinued
Operation, as we have met all of the "held-for-sale" criteria under SFAS 144. In
reporting L&I as a discontinued operation, general corporate overhead expenses
are no longer allocated to L&I. Previously allocated expenses of $3.0 in the
first quarter of 2003 have been eliminated from the L&I Other segment and
included in our Corporate segment.
Results of Operations for our Discontinued Operations were as follows:
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
REVENUES
Premiums and Other Revenues $ 216.5 $ 223.9
Net Investment Income 303.2 303.5
Net Realized Investment Gains (Losses) 16.2 (58.1)
--------------------------------
Total Revenues 535.9 469.3
EXPENSES
Policy Benefits 338.2 343.0
Other Operating Expenses 120.2 109.5
--------------------------------
Total Expenses 458.4 452.5
--------------------------------
Income from Discontinued Operations before Income Taxes 77.5 16.8
Provision for Income Taxes on Discontinued Operations 26.9 6.3
--------------------------------
Income from Discontinued Operations, Net of Taxes $ 50.6 $ 10.5
- -----------------------------------------------------------------------------------------------------------
Assets and liabilities of our Discontinued Operations were as follows:
MARCH 31 DECEMBER 31
2004 2003
- -----------------------------------------------------------------------------------------------------------
ASSETS
Total Investments $ 19,746.2 $ 19,301.4
Other Assets 1,002.4 1,055.6
Separate Account Assets 1,164.7 1,137.4
Securities Lending Collateral 1,195.0 1,054.5
--------------------------------
Total Assets of Discontinued Operations 23,108.3 22,548.9
LIABILITIES
Funds Held Under Deposit Contracts 16,577.4 16,582.4
Life Policy Liabilities 332.0 331.8
Accident and Health Reserves 134.4 139.1
Deferred Income Taxes Payable 510.4 366.7
Other Liabilities 308.8 330.8
Separate Account Liabilities 1,164.7 1,137.4
Securities Lending Collateral 1,195.0 1,054.5
--------------------------------
Total Liabilities of Discontinued Operations 20,222.7 19,942.7
--------------------------------
Net Assets of Discontinued Operations $ 2,885.6 $ 2,606.2
- -----------------------------------------------------------------------------------------------------------
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(Dollar amounts in millions unless noted otherwise)
This discussion should be read with the consolidated financial statements and
related footnotes included elsewhere in this report.
Forward-Looking Information
Forward-looking information contained in this report is subject to risk and
uncertainty.
Information contained in this report that relates to anticipated financial
performance, business prospects and plans, regulatory developments and similar
matters are "forward-looking statements" as defined in the Private Securities
Litigation Reform Act of 1995. Statements in this report that are not historical
information are forward-looking. Our business is subject to certain risks and
uncertainties that may cause actual results to differ materially from those
suggested by the forward-looking statements in this report. The risks and
uncertainties include, but are not limited to:
o Risks related to the pricing and underwriting of our products, and the
subsequent establishment of reserves, such as:
- Successful implementation of a new-business entry model for personal
and commercial lines
- Our ability to appropriately price and reserve for changes in the mix
of our book of business
- Our ability to establish pricing for any changes in driving patterns
- Inflationary pressures on medical care costs, auto parts and repair,
construction costs and other economic sectors that increase the
severity of claims
- Our availability and pricing of our reinsurance, including coverage
for loss from terrorism and our ability to collect from our reinsurers
- Our ability to price for or exclude the risk of loss from terrorism on
our policies
o Risks related to our P&C insurance strategy such as:
- Our ability to achieve premium targets and profitability, including
realization of growth and business retention estimates
- Our ability to achieve overall expense goals
- Our ability to run off our London business and other businesses that
we have exited or intend to exit in the future without incurring
material unexpected charges
o Regulatory, judicial and legislative risks such as:
- Our ability to freely enter and exit lines of business
- Our ability to successfully obtain regulatory approval of rates and
underwriting guidelines, including price-tiered products and the use
of insurance scores that include credit information as a component
- Interpretation of insurance policy provisions by courts or tax
authorities, court decisions regarding coverage and theories of
liability, trends in litigation and changes in claims settlement
practices
- The outcome of any litigation against us
- Legislative and regulatory developments affecting the actions of
insurers, including requirements regarding rates, taxes and
availability of coverage
o The competitive pricing environment, initiatives by competitors and other
changes in the competition
o Unusual loss activity, such as:
- Weather conditions, including the severity and frequency of storms,
hurricanes, hail, snowfall and winter conditions
- The occurrence of significant natural disasters, including earthquakes
- The occurrence of significant man-made disasters, such as the attack
on September 11, 2001, or war
- The occurrence of bankruptcies that result in losses under surety
bonds, investment losses or lower investment income
o Our ability to successfully divest the L&I businesses
o Financial and economic conditions such as:
- Performance of financial markets
- Availability of bank credit facilities
- Fluctuations in interest rates
- General economic conditions
o Operational risks such as:
- Damage to our infrastructure in a disruption of our operations
- Internal or external fraud perpetrated against us
Summary
We are an insurance company with headquarters in Seattle, Washington. We sell
insurance products through a national network of independent agents, brokers and
financial advisors. Our business helps people protect what they value and deal
with the unexpected. We earn revenue from insurance policy premiums and income
on our invested assets.
Our Property & Casualty (P&C) subsidiaries provide insurance for autos, homes
and other personal property; insurance for small- and mid-sized businesses; and
surety bonds.
On March 15, 2004, we entered into two definitive agreements to sell
substantially all our L&I operations to separate investor groups, and on April
8, 2004, we entered into a definitive agreement to sell the remaining operation.
We have presented L&I as a Discontinued Operation in our Consolidated Financial
Statements in accordance with Financial Accounting Standards Board (FASB)
Statement of Financial Accounting Standards (SFAS) 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". Prior-year amounts have been
restated to reflect the presentation of Discontinued Operations.
Reviewing Our Results of Operations
HOW WE REPORT OUR RESULTS
On January 1, 2004, we made minor revisions to our P&C segments. Our
non-voluntary auto and property results, previously in P&C Other, are now
included in SPI Auto and SPI Property. Certain products, previously reported in
SPI Specialty, primarily earthquake, inland marine and dwelling fire, are now
included in SPI Property. Our commercial specialty programs and large commercial
accounts in runoff, previously SBI Runoff, are now included in P&C Other.
Prior-period amounts have been restated to reflect the revised presentation of
our P&C segments.
We manage our P&C businesses in four business and seven reportable segments:
o Safeco Personal Insurance (SPI)
-- Auto
-- Property
-- Specialty
o Safeco Business Insurance (SBI)
-- SBI Regular
-- SBI Special Accounts Facility
o Surety
o P&C Other
As previously discussed, our L&I businesses are now reported as Discontinued
Operations. We managed them in six reportable segments:
o Group
o Income Annuities
o Retirement Services
o Individual
o Asset Management
o L&I Other
In addition to these segments, certain activities such as interest expense and
intercompany eliminations are reported in Corporate and not allocated to
individual segments.
HOW WE MEASURE PROFITABILITY
P&C -- We use three measures of our underwriting results to assess the
profitability of our P&C businesses. These measures are net earned premiums,
underwriting profit or loss and combined ratio.
We include property and casualty insurance premiums in revenue as earned over
the terms of the respective policies. We report the unearned premium as a
liability on the Consolidated Balance Sheets before the effect of reinsurance.
Underwriting profit or loss is our net earned premiums less our losses from
claims, loss adjustment expenses (LAE) and underwriting expenses. Combined ratio
is our losses, LAE and underwriting expenses divided by our net earned premiums.
We report combined ratio as a percentage. For example, a combined ratio of 95%
means that our losses, LAE and underwriting expenses equal 95% of our net earned
premiums, or a 5% underwriting profit. A lower combined ratio reflects better
results than a higher combined ratio.
We don't include our investment portfolio results when measuring the
profitability of our P&C businesses. That's because we manage the investment
portfolio separately from our underwriting activities.
Discontinued Operations - L&I -- We measure our Discontinued Operations' results
using revenues and pretax operating earnings. Pretax operating earnings excludes
net realized investment gains and losses and is a non-GAAP measure. We believe
that looking at pretax operating earnings enhances the understanding of our L&I
results of operations. Net realized investment gains and losses can fluctuate
significantly and distort the comparison of our results.
INVESTMENT RESULTS
Investment activities are an important part of our business. We invest insurance
premiums received in a diversified portfolio until needed to pay claims. Income
from our investments is a significant part of our total revenues and net income.
Our investment philosophy is to:
o Emphasize investment yield, balanced with investment quality and risk
o Provide for liquidity when needed
o Diversify our portfolio
We measure our investment results in two parts - the net investment income that
we earn on our invested assets and the net realized investment gains and losses
we recognize when we sell or impair investments.
Application of Critical Accounting Estimates
We have identified P&C Loss and LAE Reserves, P&C Reinsurance and Valuation of
Investments as accounting estimates critical to understanding our results of
operations and financial condition. As such, they require management to use
judgments involving assumptions and estimates concerning future results, trends,
or other developments that could significantly influence our results should
actual experience differ from those assumptions and estimates.
Please see additional discussion of critical accounting estimates in the MD&A
section of our 2003 Annual Report on Form 10-K.
Consolidated Results of Operations
The following table presents summary consolidated financial information for the
periods indicated.
THREE MONTHS ENDED MARCH 31 2004 2003
- ----------------------------------------------------------------------------------------------------------
REVENUES
P&C Earned Premiums $ 1,340.5 $ 1,163.1
Net Investment Income 115.0 119.6
Net Realized Investment Gains 42.8 8.2
Other Revenues -- 2.6
-----------------------------
Total Revenues 1,498.3 1,293.5
-----------------------------
EXPENSES
Losses and Loss Adjustment Expenses 826.0 789.1
Other Underwriting and Operating Expenses 154.1 158.4
Amortization of Deferred Acquisition Costs 226.9 204.6
Interest Expense 30.5 34.8
Restructuring Charges 1.3 --
-----------------------------
Total Expenses 1,238.8 1,186.9
-----------------------------
Income from Continuing Operations before Income Taxes 259.5 106.6
Provision for Income Taxes 73.9 27.1
-----------------------------
Income from Continuing Operations 185.6 79.5
Income from Discontinued Operations (Net of Taxes of $26.9 and $6.3) 50.6 10.5
-----------------------------
Net Income $ 236.2 $ 90.0
- ----------------------------------------------------------------------------------------------------------
Net Income - Consolidated net income increased in first quarter 2004 over the
same period in 2003 driven primarily by growth and improved underwriting results
within our Continuing Operations.
Revenues - The increase in revenues in the first quarter of 2004 reflected
growth in P&C earned premiums that resulted from:
o Growth in policies-in-force in our Auto segment
o Premium rate increases across all our lines of business
o Improved renewal retention in our SBI Regular segment
An increase in net realized investment gains due to lower impairments also
contributed to the increase in revenues.
Losses and Loss Adjustment Expenses - The increase in losses and LAE for the
first three months of 2004 reflect our growth. However, losses and loss
adjustment expenses did not grow at the same rate due to improvement in our loss
ratios. Our loss ratios in SPI Auto were 61.7% for the three months ended March
31, 2004 compared with 62.3% for the same period in 2003, our loss ratios in SPI
Property were 36.3% for the three months ended March 31, 2004 compared with
48.0% for the same period in 2003, and our SBI Regular loss ratios were 46.2%
for the three months ended March 31, 2004 compared with 49.5% for the same
period in 2003.
The improving ratios resulted from price increases, segmented underwriting
techniques that better matched rate and risk, and favorable loss experience
particularly from lower claim frequency in Property.
Underwriting and Operating Expenses, Amortization of Deferred Acquisition Costs
- - The increases in underwriting, acquisition and operating expenses primarily
resulted from growth in our businesses during first quarter 2004 but the rate of
increase was at a lower pace due to our expense reduction efforts initiated in
September 2003.
Interest Expense - The decrease in interest expense in 2004 was primarily due to
the additional interest expense of $3.4 in 2003 on $500.0 of debt issued in
January 2003 that was subsequently used to pay down $300.0 of debt on March 15,
2003 and $200.0 on April 1, 2003.
Restructuring Charges - The charges in 2004 represent one-time termination
benefits related to the $75.0 corporate expense reduction effort announced in
September 2003.
Discontinued Operations - Results from Discontinued Operations increased in
first quarter 2004 over the same period a year ago, primarily due to an increase
in net realized investment gains as a result of fewer impairments in 2004.
Continuing Operations
Reconciling Segment Results
The following table assists in reconciling our GAAP results, specifically the
"Income from Continuing Operations before Income Taxes" line from our
Consolidated Statements of Income to our segment performance measures.
THREE MONTHS ENDED MARCH 31 2004 2003
- ----------------------------------------------------------------------------------------------------------
P&C $ 284.7 $ 132.3
Corporate (25.2) (25.7)
-------------------------------
Income from Continuing Operations before Income Taxes $ 259.5 $ 106.6
- ----------------------------------------------------------------------------------------------------------
The P&C GAAP results are further detailed into segment underwriting results.
Underwriting results provide a helpful picture of how our company is doing.
However, using them to measure profitability - while fairly common in our
industry - does not follow GAAP.
Our P&C Operating Results
The primary measures of our operating results include our underwriting profit or
loss, net earned premiums, and combined ratios. The next three tables report
those key items - by our reportable segments - for the first three months of
2004 and 2003. More information about the results - also by segment - follows
the tables.
First, net earned premiums are the primary driver of our revenues:
NET EARNED PREMIUMS
-------------------------------
THREE MONTHS ENDED MARCH 31 2004 2003
- ----------------------------------------------------------------------------------------------------------
SPI
Auto $ 620.1 $ 522.1
Property 228.2 227.5
Specialty 21.2 19.7
-------------------------------
Total SPI 869.5 769.3
-------------------------------
SBI Regular 302.4 266.0
SBI Special Accounts Facility 116.7 87.9
-------------------------------
Total SBI 419.1 353.9
-------------------------------
Surety 45.4 32.1
P&C Other 6.5 7.8
-------------------------------
Total P&C Earned Premiums $ 1,340.5 $ 1,163.1
- ----------------------------------------------------------------------------------------------------------
Next, underwriting profit (loss) is our measure of each P&C segment's
performance:
UNDERWRITING
PROFITS (LOSSES)
--------------------------------
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
SPI
Auto $ 23.1 $ (6.6)
Property 61.4 28.0
Specialty 6.4 5.3
--------------------------------
Total SPI 90.9 26.7
--------------------------------
SBI Regular 23.8 (5.3)
SBI Special Accounts Facility 18.5 6.4
--------------------------------
Total SBI 42.3 1.1
--------------------------------
Surety 9.3 3.7
P&C Other (7.1) (10.5)
--------------------------------
Total Underwriting Profit 135.4 21.0
P&C Net Investment Income 111.7 112.8
Restructuring Charges (1.3) --
P&C Net Realized Investment Gains (Losses) 38.9 (1.5)
--------------------------------
P&C Income from Continuing Operations before Income Taxes $ 284.7 $ 132.3
- -----------------------------------------------------------------------------------------------------------
Finally, combined ratios show the relationship between net earned premiums and
underwriting profit (loss). Using ratios help us see our operating trends
without the effect of changes in net earned premiums:
COMBINED RATIOS+
--------------------------------
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
SPI
Auto 96.3% 101.3%
Property 73.1 87.7
Specialty 70.0 73.4
--------------------------------
Total SPI 89.5 96.5
--------------------------------
SBI Regular 92.1 102.0
SBI Special Accounts Facility 84.2 92.7
--------------------------------
Total SBI 89.9 99.6
--------------------------------
Surety 79.6 88.6
P&C Other * *
--------------------------------
Total P&C Operations 89.9% 98.2%
- -----------------------------------------------------------------------------------------------------------
+ Combined ratios are GAAP basis. Expressed as a percentage, they are equal to losses and expenses divided
by net earned premiums.
* Not meaningful because this is in runoff with minimal premium.
Auto
The Auto segment provides voluntary and non-voluntary coverage for liability of
our customers to others for both bodily injury and property damage, for injuries
sustained by our customers and for physical damage to our customers' vehicles
from collision and other hazards.
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 620.1 $ 522.1
Underwriting Profit (Loss) 23.1 (6.6)
Combined Ratio 96.3% 101.3%
- -----------------------------------------------------------------------------------------------------------
NET EARNED PREMIUMS
Net earned premiums increased by 18.8% in the three months ended March 31, 2004
compared with the same period in 2003. The increase in net earned premiums was
driven by:
o Growth of policies-in-force (PIF): PIF grew by 10.0% in first quarter 2004
compared with a year ago. The growth in PIF was driven by a 33.9% increase
in new business coupled with stable retention. Our point-of-sale (POS)
technology is making it easier for our distributors to sell our products.
o Increases in filed rates: We file rate changes on a state-by-state basis.
On average, we implemented mid-single digit rate increases in 2003 and into
the first quarter of 2004.
UNDERWRITING RESULTS AND COMBINED RATIO
The improved underwriting results reflected higher earned premiums as discussed
above and improved loss and expense ratios. Our loss ratio improved to 61.7% in
the first quarter of 2004 compared with 62.3% in the first quarter of 2003. The
expense ratio improved to 22.9% in 2004 from 23.7% in 2003. Lower expense ratios
were primarily driven by efficiency improvements and corporate staff reductions.
These underwriting results were primarily driven by:
o Improved rate adequacy: Rate increases exceeded loss cost increases in the
first quarter. Decreases in claims frequency - the number of claims filed
that are not catastrophe-related - moderated in first quarter 2004, but
claims severity - the average cost per claim - increased.
o Claims handling: We've invested in training for our claims representatives.
We now have more efficient processes.
o Our segmented auto product: Our 15-tier segmented model continues to
provide more accurate matching of prices for a wide range of risks.
In April 2004, we started launching our auto product on Safeco Now, an
internet-based sales platform where our distributors can quote and issue
personal auto, homeowners and most of our small-business insurance products in
minutes. We expect to complete the launch of our auto product on Safeco Now in
all states where we write business by June 30, 2004.
Property
Our Property segment provides homeowners, earthquake, dwelling fire and inland
marine coverage for individuals. Our Property coverages protect homes,
condominiums and rental property contents against losses from a wide variety of
hazards. We also protect individuals from liability for accidents that occur on
their property.
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 228.2 $ 227.5
Underwriting Profit 61.4 28.0
Combined Ratio 73.1% 87.7%
- -----------------------------------------------------------------------------------------------------------
NET EARNED PREMIUMS
Net earned premiums were flat in first quarter 2004 compared with first quarter
2003. This reflects a decline in PIF offset by rate increases:
o Decline in PIF: The number of policies that did not renew in 2004 exceeded
the number of new policies that we wrote, leading to a net reduction in PIF
of 8.7% at March 31, 2004 compared with a year ago. However, our new
business increased during the first quarter of 2004 over a year ago as our
nine-tier new homeowners product is now rolled out in 43 of the 44 states
where we write business. In addition, we lifted new business moratoriums
throughout 2003 and into the first quarter of 2004. Currently we have a
moratorium in only one state, Texas.
o Rate increases: We file rate changes on a state-by-state basis. Overall we
received approval for average rate changes in the low single-digits in the
first quarter of 2004 and in the low to mid teens in 2003. These rate
increases are earned in our revenues over the policy term. Additionally,
premiums reflect automatic increases in the amount of insurance coverage to
adjust for inflation.
UNDERWRITING RESULTS AND COMBINED RATIO
The improved underwriting results were driven by our homeowners line. The loss
ratio in homeowners was 35.8% during first quarter 2004 compared with 50.0% in
the same period in 2003.
This was due to:
o Our segmented homeowners product: Our nine-tier segmented underwriting
model is performing as expected. It is now in place in every state except
California.
o Lower Losses: Property loss costs have declined in recent periods driven by
a moderation of increases in claims severity and double-digit decreases in
claims frequency. Many of our customers have increased their homeowners'
policy deductibles from $250 to $500 or higher - this has significantly
reduced the number of small maintenance-type claims. Severity increases
reflect inflationary trends in repair material and labor costs.
Catastrophe losses -- Our pretax catastrophe losses were $7.4 for the three
months ended March 31, 2004 compared with $9.3 for the same period in 2003.
Catastrophes in 2004 included snow and ice storms in Washington and Oregon.
The second quarter is traditionally our most active quarter in terms of severe
weather and catastrophe losses. We generally earn less in the second quarter
than in any other period of the year due to this historical seasonality.
In April 2004, we started launching our homeowners product on Safeco Now. We
expect to complete the launch of our homeowners product in all states where we
write business by June 30, 2004. We expect this to contribute to property
premium growth in late 2004.
Specialty
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 21.2 $ 19.7
Underwriting Profit 6.4 5.3
Combined Ratio 70.0% 73.4%
- -----------------------------------------------------------------------------------------------------------
Our Specialty operation provides individuals with umbrella, recreational
vehicle, motorcycle and boat insurance. These products serve to round out our
personal lines insurance product offerings.
NET EARNED PREMIUMS
Earned premiums increased 7.6% for first quarter 2004, driven by an increase in
PIF due to a 38.3% increase in new business in umbrella and a 38.8% increase in
new business in boatowners.
UNDERWRITING RESULTS AND COMBINED RATIO
The improvement in underwriting profit and combined ratio reflect lower loss
experience.
SBI Regular
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 302.4 $ 266.0
Underwriting Profit (Loss) 23.8 (5.3)
Combined Ratio 92.1% 102.0%
- -----------------------------------------------------------------------------------------------------------
Our SBI Regular segment provides insurance for small-to-medium-sized businesses
(customers who pay annual written premiums of $100,000 or less). This is our
core commercial lines business. Our main products include:
o Business owner policies (BOP)
o Commercial auto
o Commercial property
o Commercial multi-peril
o General liability
o Workers compensation
NET EARNED PREMIUMS
Net earned premiums increased 13.7% in the first quarter of 2004 compared with
the first quarter of 2003. This reflects rate increases averaging 10% in 2003
and mid-single digits in 2004, along with our efforts to make it easy for our
distributors to sell our products. These efforts included:
o Continued focus on our redesigned business model
o Emphasis on retaining customers
o Growth in our business service center
Continued focus on our redesigned business model - In first quarter 2004, new
sales utilizing Safeco Now, our web-based sales and underwriting platform,
continued at a strong pace. The number of BOP new business policies sold
increased by 45.0% over the same period of 2003 and, during the first quarter of
2004, we expanded our commercial auto and underwriting model to include fleets
(up to nine vehicles), which helped to produce a 41.0% increase over last year's
first quarter. Workers compensation new business policies sold increased 20.3%
in the first quarter of 2004 over the same period in 2003. BOP was launched on
Safeco Now in February 2003, commercial auto in July 2003, and workers
compensation in December 2003.
Emphasis on retaining customers - Renewal retention of SBI Regular customers
improved to 80.2% in the first quarter of 2004 from 76.1% in first quarter 2003.
This strong improvement is attributed to competitively pricing our business
utilizing our automated underwriting platform. The model has allowed us to
improve our accuracy in pricing risks and has led to strong retention within our
most favorable pricing tiers.
Growth in our business service center - We provide agents with an option to have
us service the policies of their customers for a fee. This allows the agents to
focus on growing their business and shifts the policy servicing activities to
us. This service increases the retention of policyholders, benefiting both us
and the agent. Since its inception in 2002, we have seen consistent growth in
the business entering our Business Service Center. In first quarter 2004, we
achieved a significant increase in premium volume, compared with the same period
in 2003. Though we are still in the early stages of placing business in the
Business Service Center, strong percentage growth is expected and this positive
momentum is continuing.
Underwriting Results and Combined Ratio
Underwriting results during the first quarter of 2004 improved $29.1 over the
same period in 2003 reflecting our efforts to restore profitability in this
segment. The improvement in results reflects:
o Improved rate adequacy
o Completion of our reunderwriting of business
o The continued impact of implementing our automated underwriting platform,
which provides a better matching of price to risk
Our pretax catastrophe losses were $2.4 in the first quarter of 2004 and $4.4 in
the same period of 2003.
SBI Regular is experiencing increased competition in middle market business
(customers who pay annual written premiums from $25,000 to $100,000).
Historically, this business is more price-competitive when rates are more
adequate in relation to loss costs. Many regional carriers are lowering rates to
be more price-competitive, particularly in the commercial property line where
rates appear to be adequate. However, the inflation and building materials costs
are increasing significantly and will impact loss costs. We remain committed to
pricing our business based on loss cost trends.
SBI Special Accounts Facility
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 116.7 $ 87.9
Underwriting Profit 18.5 6.4
Combined Ratio 84.2% 92.7%
- -----------------------------------------------------------------------------------------------------------
Our SBI Special Accounts Facility (SAF) segment includes insurance for large
commercial accounts (customers who pay annual written premiums of more than
$100,000) and four commercial programs.
While our main focus is the small- to medium-sized market, we continue to serve
some large commercial accounts on behalf of key agents and brokers who sell our
core property and casualty products. Fifty-five percent of our new
small-commercial business comes from distributors who also sell to large
commercial accounts.
SAF also provides insurance for the following commercial programs:
o Lender-placed property
o Agents' errors and omissions (predominantly for Safeco agents)
o Mini-storage and warehouse properties
o Non-profit social services organizations
NET EARNED PREMIUMS
The increase in net earned premiums during first quarter 2004 was driven by
continued price increases in large account and program business.
UNDERWRITING RESULTS AND COMBINED RATIO
The SAF segment continues to produce solid underwriting results with both large
accounts and program business posting improved combined ratios reflecting rate
increases and stable loss costs.
Surety
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 45.4 $ 32.1
Underwriting Profit 9.3 3.7
Combined Ratio 79.6% 88.6%
- -----------------------------------------------------------------------------------------------------------
Our Surety segment provides surety bonds for construction and commercial
businesses.
NET EARNED PREMIUMS
Our net earned premiums increased 41.4% for the three months ended March 31,
2004 compared with the same period in 2003 due to rate increases in 2003 and new
business. New business increased largely as a result of the 2003 opening of new
offices in Glendale, California and Syracuse, New York.
UNDERWRITING RESULTS AND COMBINED RATIO
Our underwriting profit and our combined ratio improved in the first quarter of
2004 compared with the same period of 2003. These results reflect disciplined
underwriting and lower loss experience.
Surety implemented Safeco Now in April 2004 for the automated underwriting of
small transactional bonds. While this is currently less than 5% of our surety
premiums, it also allows our distributors to cross-sell with small-business
insurance and to write these transactional bonds quickly and easily.
P&C Other
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Earned Premiums $ 6.5 $ 7.8
Underwriting Loss (7.1) (10.5)
- -----------------------------------------------------------------------------------------------------------
Our P&C Other segment includes our:
o Runoff of assumed reinsurance business acquired as part of the American
States acquisition
o London operations that have been in runoff since the third quarter of 2002
o Large commercial business accounts in runoff and specialty programs that
we exited
Our Corporate Results
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Corporate Segment Loss $ (29.1) $ (35.4)
Net Realized Investment Gains before Income Taxes 3.9 9.7
--------------------------------
Corporate Loss from Continuing Operations before Income Taxes $ (25.2) $ (25.7)
- -----------------------------------------------------------------------------------------------------------
In our Corporate segment, we include:
o Interest expense we pay on our debt
o Our intercompany eliminations
o Miscellaneous corporate activities
Interest Expense - Our interest expense on borrowings totaled $30.5 in the first
quarter of 2004 and $34.8 in the first quarter of 2003. The decrease in interest
expense in 2004 was primarily due to a decline in the average amount of debt
outstanding from 2003.
Discontinued Operations
Our L&I Operating Results
The following discussion reflects the operating results of our Discontinued
Operations.
In reporting L&I as a Discontinued Operation, general corporate overhead
expenses are no longer allocated to L&I. Previously allocated expenses of $3.0
in the first quarter of 2003 have been eliminated from the L&I Other segment and
included in the Corporate segment above.
The primary measures of our L&I operating results include revenues and pretax
operating earnings. The next two tables summarize revenues and pretax operating
earnings by our Discontinued Operations reportable segments for the three months
ended March 31, 2004 and 2003.
More information about the results - also by segment - follows the tables.
First, revenues include premiums, net investment income and other fees. Revenues
do not include our net realized investment gains and losses.
REVENUES
--------------------------------
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Group $ 129.3 $ 142.3
Income Annuities 125.4 131.4
Retirement Services 97.0 96.1
Individual 95.6 95.9
Asset Management 7.1 6.2
L&I Other 65.3 55.5
--------------------------------
Total L&I Revenues $ 519.7 $ 527.4
- -----------------------------------------------------------------------------------------------------------
Next, pretax operating earnings is our measure of each segment's profitability:
PRETAX OPERATING EARNINGS
--------------------------------
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Group $ 12.2 $ 29.0
Income Annuities 3.7 10.1
Retirement Services 9.5 5.0
Individual 7.4 1.9
Asset Management 1.6 0.1
L&I Other 26.9 28.8
--------------------------------
Pretax Operating Earnings 61.3 74.9
Net Realized Investment Gains (Losses) 16.2 (58.1)
Provision for Income Taxes 26.9 6.3
--------------------------------
Income from Discontinued Operations, Net of Taxes $ 50.6 $ 10.5
- -----------------------------------------------------------------------------------------------------------
Group
Group's principal product is stop-loss medical insurance sold to employers with
self-insured medical plans.
The revenue decrease during first quarter 2004 reflects the continued
competitive rate environment, which has resulted in some of our policyholders
renewing their coverage with other carriers. We continue to adhere to our
disciplined underwriting standards in this environment and do not lower premiums
to compete for business where it does not meet our profit targets.
The decrease in our pretax operating earnings was due to lower revenues and a
higher loss ratio due to higher claim activity. Our loss ratio was 65.8% in the
first quarter of 2004, compared with 56.2% in the same period in 2003. The first
quarter of 2003 included a $10.5 benefit from favorable loss reserve development
related to policies obtained in the Swiss Re Life & Health America Holding
Company (Swiss Re) acquisition and this contributed to our favorable loss ratio
in 2003.
Income Annuities
Income Annuities' main product is structured settlement annuities, sold to fund
third-party personal injury settlements and long-term claim settlements of our
P&C affiliates. This product is extremely sensitive to financial strength
ratings, and our ratings downgrades in 2001 decreased our ability to sell this
product. Income Annuities also sells non-structured fixed annuities, which
provide an immediate payment stream.
The decrease in revenue during the first quarter of 2004 resulted mainly from
the impact of unfavorable prepayment adjustments of $0.3 on our mortgage-backed
securities investment portfolio. This compared with $3.7 favorable impact in the
same period last year.
Pretax operating earnings decreased $6.4 in the first quarter of 2004 compared
with the same period last year. The decrease was primarily due to the
unfavorable prepayment adjustments on mortgage-backed securities discussed above
and lower market interest rates on reinvested assets.
Retirement Services
Retirement Services' principal products are fixed deferred and variable
annuities.
We earn revenues relative to the amount of assets under management. The minor
increase in revenues during the first quarter of 2004 was primarily due to
higher investment income driven by growth in our general account liabilities.
Higher fee income on separate account liabilities, due to the improved
performance of equity markets in the first three months 2004 also contributed to
our increase in revenues. These increases were partially offset by the impact of
lower average interest rates on new and reinvested assets.
General account liabilities are amounts we owe to contract holders for products
where we bear the investment risks and include fixed deferred annuities and
guaranteed investment contracts.
Our general account liabilities have grown significantly due to an increase in
the amount of fixed deposits which exceeded surrenders. They were:
o $6,609.4 at March 31, 2004
o $6,151.3 at March 31, 2003
The increases in pretax operating earnings in the first three months of 2004
compared to the same period of 2003 resulted from:
o Growth in our general account liabilities, which contributed additional
interest income
o Higher fee income due to our growth in separate account liabilities
Individual
Individual's products include term, universal & variable universal life and
bank-owned life insurance (BOLI). BOLI is universal life insurance sold to
banks. Our ratings downgrades in 2001 significantly curtailed BOLI sales.
The increase in pretax operating earnings in the first quarter of 2004 was
primarily due to favorable mortality experience, lower operating expenses and
higher margins on our BOLI products.
Asset Management
Asset Management serves as an investment advisor for Safeco Mutual Funds,
variable insurance portfolios and institutional and trust accounts.
The increase in revenue in the first quarter of 2004 was due to higher
investment advisory fee revenue on higher average assets under management
reflecting the overall increase in equity markets.
Our average assets under management were:
o $4,049.5 in the first quarter of 2004
o $3,804.3 in the first quarter of 2003
The slight increase in our pretax operating earnings for 2004 reflects the
higher investment advisory fees from our higher assets under management and
lower operating expenses.
L&I Other
L&I Other is comprised mainly of investment income on capital and accumulated
earnings of other L&I segments, and Talbot Financial Corporation (Talbot), our
insurance agency that distributes property and casualty, life insurance and
investment products.
The increase in revenue in the first quarter of 2004 was due to increases in net
investment income reflecting higher retained capital, and increases in
commission revenues from Talbot.
Decreased earnings in the first quarter of 2004 reflected $9.3 for expenses
associated with the planned sale of the L&I operations, offset by $4.9 of
interest income on a tax settlement, higher investment income from an increase
in retained capital, and increases in commission revenues from Talbot.
Capital Resources and Liquidity
OUR LIQUIDITY NEEDS
Continuing Operations - P&C liabilities are somewhat unpredictable and generally
short in duration. The payments we make to policyholders depend upon losses they
suffer from accidents or other events. While we can estimate fairly well how
much cash we'll need and when we'll need it, we cannot predict all future
events, particularly catastrophes. So we use investments with greater liquidity
to support our P&C businesses' need for funds.
Discontinued Operations - Life insurance, retirement services and
annuity-products have primarily longer-duration liabilities that are typically
predictable in nature and are matched with investments that are generally longer
duration and less liquid.
SOURCES OF OUR FUNDS
Our Continuing Operations get cash primarily from insurance premiums, dividends,
interest and sales or maturity of investments.
We have not engaged in the sale of investments or other assets by
securitization.
The cash flow from our Continuing Operations operating activities was:
o $71.5 of cash flow generated in the first quarter of 2004
o $7.0 of cash flow used in the first quarter of 2003
We believe that cash flows from our operations, investment portfolio, and credit
facilities are sufficient to meet our future liquidity needs.
Our Discontinued Operations get cash from insurance premiums, funds received
under deposit contracts, dividends, interest, asset management fees and sales or
maturity of investments.
The cash flow from our Discontinued Operations operating activities was:
o $260.4 in the first quarter of 2004
o $224.6 in the first quarter of 2003
HOW WE USE OUR FUNDS
We use funds to support operations, make interest and principal payments on
debt, pay dividends to our shareholders, and grow our investment portfolio.
We use cash from insurance operations primarily to pay claims and claim
adjustment expenses.
We require insurance premiums to be paid in advance. As a result, cash flows
into our business before or at the time premium revenues are recognized. Cash
flows out of our business in subsequent months or years as claims are paid.
We previously announced that we will repurchase a limited amount of our common
stock under an existing stock repurchase program. Under this program, the Board
of Directors authorized the repurchase of up to 11 million shares of Safeco's
common stock, of which 2.37 million shares remain available for repurchase.
Purchases will be made from time to time on the open market or in negotiated
transactions and any repurchases will be reported in our quarterly report for
the quarter in which the purchases were made.
Our Bank Credit Facility -- We maintain a bank credit facility with $500.0
available. The terms of the bank credit facility - which runs through September
2005 - require us to:
o Pay a fee to have these funds available
o Maintain a specified minimum level of shareholders' equity
o Keep our debt-to-capitalization ratio below a specified maximum
The bank credit facility does not require us to maintain any deposits as
compensating balances.
At March 31, 2004 and December 31, 2003, we had no borrowings under the bank
credit facility. In addition, we were in compliance with all the terms of this
credit facility.
After we complete our planned sale of L&I, we may lower amount available under
the bank credit facility and we expect to reset the amount of the requirement to
maintain a minimum level of shareholders' equity. This will be necessary as we
intend to return a portion of the sale proceeds to shareholders through a
special dividend or stock repurchase or combination of the two, and that will
lower our shareholders' equity. In addition, we will continue to keep our
debt-to-capitalization ratio below the maximum requirement as we will use
proceeds from the sale of L&I to reduce our debt-to-capitalization ratio to a
level consistent with that prior to the sale.
FINANCIAL STRENGTH RATINGS
Financial strength (or claims paying) ratings provide a benchmark for comparing
insurers. Higher ratings generally indicate greater financial strength and a
greater ability to pay claims.
These ratings are important for the marketing of insurance products,
particularly structured settlement annuities and BOLI products in our L&I
operations.
Here are our current ratings for our Continuing Operations:
A.M. STANDARD
BEST & POOR'S MOODY'S FITCH
- -------------------------------------------- ----------------- --------------- -------------- --------------
Safeco Corporation
Senior Debt bbb+ BBB+ Baa1 A-
P&C Insurance Subsidiaries A A+ A1 AA-
- -------------------------------------------- ----------------- --------------- -------------- --------------
Each agency has a stable outlook on the ratings, and all ratings have been
affirmed within the last six months.
We believe our financial position is sound. As we have continued to execute our
plans to improve P&C operating results, our financial position has strengthened.
Our debt service coverage has improved over the last two years, and we expect
that to continue.
Here are our current ratings for our Discontinued Operations:
A.M. STANDARD
BEST & POOR'S MOODY'S FITCH
- -------------------------------------------- ----------------- --------------- -------------- --------------
L&I Insurance Subsidiaries A BBB+ A2 A+
- -------------------------------------------- ----------------- --------------- -------------- --------------
On March 15, 2004, we entered into definitive agreements to sell our L&I
operations. As a result, Standard & Poor's and Fitch downgraded the rating of
our life insurance subsidiaries with a stable outlook. A.M. Best commented that
the life insurance subsidiaries remain under review with developing
implications, but that it is "likely to affirm" the current rating.
IMPACT OF FINANCIAL STRENGTH RATINGS
Lower financial strength ratings could materially and adversely affect our
company and its performance and could:
o Increase the number of customers who terminate their policies
o Inhibit our distributors' willingness and ability to sell our products,
particularly products within our
Discontinued Operations
o Decrease new sales
o Increase our borrowing costs
o Limit our access to capital
o Restrict our ability to compete
OUR INVESTMENT RESULTS
Investment returns are an important part of our overall profitability.
Fluctuations in the fixed income or equity markets could affect the timing and
the amount of our net investment income. Defaults by third parties in the
payment or performance of their obligations - primarily on our investments in
corporate bonds - could reduce our investment income or result in realized
investment losses.
NET INVESTMENT INCOME
Continuing Operations
This table summarizes our pretax net investment income by portfolio:
THREE MONTHS ENDED MARCH 31 2004 2003
- -------------------------------------------- ----------------- ---------------------------------------------
Property & Casualty $ 111.7 $ 112.8
Corporate and Other 3.3 6.8
--------------------------------
Total $ 115.0 $ 119.6
- -----------------------------------------------------------------------------------------------------------
Our pretax investment income yield was 5.2% for the three months ended March 31,
2004 compared with 6.0% for the same period in 2003. The declines in our pretax
investment yields in our portfolio reflected the low interest rate environment.
Our after tax investment income yield was 3.9% for the three months ended March
31, 2004 compared with 4.4% for the same period in 2003.
Discontinued Operations
Our pretax net investment income for Discontinued Operations for the three
months ended March 31, 2004 was $303.2 compared with $303.5 over the same period
last year. Our pretax investment income yield was 6.8% for the three months
ended March 31, 2004 compared with 7.0% for the same period in 2003. The
declines in our pretax investment yields in our portfolio reflected the low
interest rate environment.
Our after tax investment income yield was 4.4% for the three months ended March
31, 2004 compared with 4.6% for the same period in 2003.
NET REALIZED INVESTMENT GAINS AND LOSSES
Continuing Operations
Pretax net realized investment gains and losses for the three months ended March
31, 2004 and 2003 by portfolio were:
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Property & Casualty $ 38.9 $ (1.5)
Corporate 3.9 9.7
--------------------------------
Total $ 42.8 $ 8.2
- -----------------------------------------------------------------------------------------------------------
Pretax net realized investment gains and losses for the three months ended March
31, 2004 and 2003 by component were:
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Gains on Securities Transactions $ 47.5 $ 18.1
Impairments on Fixed Maturities (4.5) (17.4)
Impairment on Equity Securities (0.1) (4.1)
Credit Default Swap Mark-to-Market -- 9.0
Other (0.1) 2.6
--------------------------------
Total $ 42.8 $ 8.2
- -----------------------------------------------------------------------------------------------------------
Investment Sales Activity - Net gains on securities transactions during the
first quarter of 2004 and 2003 resulted primarily from calls and fixed maturity
sales initiated to manage our call risk and improve the credit quality of the
underlying portfolio. These calls - issuers redeeming bonds in which we have
invested before the final maturity date - are an expected part of our investment
activity, particularly when interest rates are low.
Impairments - We closely monitor every investment that has declined in fair
value to below our cost. If we determine that the decline is other than
temporary, we write down the security to its fair value and record the charge as
an impairment in the Consolidated Statements of Income in the period of other
than the temporary decline.
We continually monitor our investment portfolio and markets for opportunities
to:
o Improve credit quality
o Reduce our exposure to companies and industries with credit problems
o Manage call risk
In our impairment determination process, we consider our intent and ability to
hold investments long enough for them to recover in value. However, our intent
to hold the investment can change due to:
o Financial market fluctuations
o Changes in the financial condition and near-term prospects of the issuer
o Strategic decisions to sell businesses
o Strategic decision to reposition our investment portfolio's duration or
asset allocation
Pretax investment impairments for the three months ended March 31, 2004 and 2003
by portfolio were:
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Property & Casualty $ 4.6 $ 20.6
Corporate -- 0.9
--------------------------------
Total $ 4.6 $ 21.5
- -----------------------------------------------------------------------------------------------------------
The impairments in the first quarter of 2003 primarily resulted from:
o Credit deterioration in the airline and franchise sectors
o Credit problems of some of the companies in which we've invested
For the three months ended March 31, 2004, the fair value of fixed maturities
and equity securities that we sold at a loss was $62.5 compared with $90.1 in
the same period last year. Our total net realized investment loss on these sales
for the quarter ended March 31, 2004 was $12.9 and for the quarter ended March
31, 2003 was $11.2.
Discontinued Operations
Pretax net realized investment gains for our Discontinued Operations were $16.2
for the three months ended March 31, 2004 compared with a net realized loss of
$58.1 in the same period of 2003.
Pretax net realized investment gains and losses for the three months ended March
31, 2004 and 2003 by component were:
THREE MONTHS ENDED MARCH 31 2004 2003
- -----------------------------------------------------------------------------------------------------------
Net Gains on Securities Transactions $ 24.7 $ 10.1
Impairments on Fixed Maturities (8.5) (62.0)
Impairments on Equity Securities -- (0.7)
Other -- (5.5)
--------------------------------
Total $ 16.2 $ (58.1)
- -----------------------------------------------------------------------------------------------------------
We have impaired all securities held by L&I with unrealized losses at March 31,
2004 because we do not expect them to recover in value before the sale of the
L&I businesses is completed.
Investment Portfolio
This table summarizes our Continuing Operations investment portfolio at March
31, 2004:
COST OR CARRYING
MARCH 31, 2004 AMORTIZED COST VALUE
- -----------------------------------------------------------------------------------------------------------
P&C
Fixed Maturities - Taxable $ 5,668.4 $ 6,020.8
Fixed Maturities - Non-taxable 1,983.4 2,144.9
Equity Securities 619.9 1,084.5
CORPORATE
Fixed Maturities - Taxable 145.2 146.0
Equity Securities 34.0 50.3
------------------------------------
Total Fixed Maturities and Equity Securities 8,450.9 9,446.5
Other Invested Assets 26.1 26.1
Short-Term Investments 68.5 68.5
------------------------------------
Total Investment Portfolio $ 8,545.5 $ 9,541.1
- -----------------------------------------------------------------------------------------------------------
Our fixed maturities carried at $8,311.7 included:
o Gross unrealized gains of $522.7
o Gross unrealized losses of $8.0
Our equity securities carried at $1,134.8 included:
o Gross unrealized gains of $483.9
o Gross unrealized losses of $3.0
We reviewed all our investments with unrealized losses at the end of March 31,
2004. Our evaluation determined that their declines in fair value were
temporary.
This table summarizes our Discontinued Operations investment portfolio at March
31, 2004:
COST OR CARRYING
MARCH 31, 2004 AMORTIZED COST VALUE
- --------------------------------------------------------------------- --------------------- ----------------
Fixed Maturities - Taxable $ 16,664.3 $ 18,520.2
Fixed Maturities - Non-taxable 7.5 8.1
Equity Securities 96.3 112.8
Mortgage Loans 927.0 927.0
Other Invested Assets 104.2 104.2
Short-Term Investments 73.9 73.9
- --------------------------------------------------------------------- --------------------- ----------------
Total Discontinued Operations $ 17,873.2 $ 19,746.2
- --------------------------------------------------------------------- --------------------- ----------------
DIVERSIFICATION
Our investment portfolio is well-diversified by issuer and industry type with no
single holding exceeding 1% of our consolidated investment portfolio.
Here is a summary of our Continuing Operations investments showing investment
types and industries that exceed 3% of our portfolio at March 31, 2004.
CARRYING PERCENT
MARCH 31, 2004 VALUE OF TOTAL
- -----------------------------------------------------------------------------------------------------------
State and Political Subdivisions $ 2,386.1 25%
Mortgage-Backed Securities 1,153.3 12
U.S Government and Agencies 1,017.5 11
Banks 850.6 9
Electric Utilities 474.9 5
Diversified Financial Services 287.1 3
Other 3,277.0 34
----------------------------------
Total Fixed Maturities and Equity Securities 9,446.5 99
Other Invested Assets 26.1 --
Short-Term Investments 68.5 1
----------------------------------
Total Investment Portfolio-Continuing Operations $ 9,541.1 100%
- -----------------------------------------------------------------------------------------------------------
Here is a summary of our Discontinued Operations investments showing investment
types and industries that exceed 3% of our portfolio at March 31, 2004.
CARRYING PERCENT
MARCH 31, 2004 VALUE OF TOTAL
- -----------------------------------------------------------------------------------------------------------
Electric Utilities $ 1,611.5 8%
Banks 1,547.3 8
U.S Government and Agencies 1,104.7 5
Gas Utilities 733.4 4
State and Political Subdivisions 698.7 4
Diversified Financial Services 604.1 3
Mortgage-Backed Securities 4,425.4 22
Other 7,916.0 40
----------------------------------
Total Fixed Maturities and Equity Securities 18,641.1 94
Mortgage Loans 927.0 5
Other Invested Assets 104.2 1
Short-Term Investments 73.9 --
----------------------------------
Total Investment Portfolio-Discontinued Operations $ 19,746.2 100%
- -----------------------------------------------------------------------------------------------------------
INVESTMENT PORTFOLIO QUALITY
The quality ratings of our Continuing Operations fixed maturities portfolio
were:
PERCENT AT
RATING MARCH 31, 2004
- -----------------------------------------------------------------------------------------------------------
AAA 43%
AA 11
A 24
BBB 19
BB and lower 2
Not Rated 1
-----------------
Total 100%
- -----------------------------------------------------------------------------------------------------------
The quality ratings of our Discontinued Operations fixed maturities portfolio
were:
PERCENT AT
RATING MARCH 31, 2004
- -----------------------------------------------------------------------------------------------------------
AAA 32%
AA 4
A 24
BBB 32
BB and lower 6
Not Rated 2
-----------------
Total 100%
- -----------------------------------------------------------------------------------------------------------
BELOW INVESTMENT GRADE AND OTHER SECURITIES
Continuing Operations
A security is considered below investment grade if it has a rating below BBB.
Our Continuing Operations investment portfolio includes below investment grade
securities with a fair value of:
o $222.1 at March 31, 2004
o $252.7 at December 31, 2003
At March 31, 2004, these securities represented 2.3% of our investments at fair
value. The related amortized cost of the below investment grade securities at
March 31, 2004 was $202.5 compared with $233.7 at December 31, 2003.
Our below investment grade securities had a net unrealized investment gain of
$19.6 at March 31, 2004. That gain comprised of:
o Gross unrealized investment gains of $21.0
o Gross unrealized investment losses of $1.4
At March 31, 2004 our investment portfolio also included:
o $94.3 of non-publicly traded fixed maturities and equity securities -
representing 1.0% of our total portfolio
o $91.6 of not-rated securities - representing 1.0% of our total portfolio
Discontinued Operations
Our Discontinued Operations investment portfolio includes below investment grade
securities with a fair value of:
o $1,031.4 at March 31, 2004
o $1,047.4 at December 31, 2003
During the first quarter of 2004, these securities represented 5.6% of our total
fixed maturities at fair value. The related amortized cost of the below
investment grade securities at March 31, 2004 was $913.9 compared with $939.0 at
December 31, 2003.
Our below investment grade securities had a net unrealized investment gain of
$117.4 at March 31, 2004. That gain was fully comprised of gross unrealized
investment gains as we have impaired all securities held by L&I with unrealized
losses at March 31, 2004 because we do not expect them to recover in value
before the sale of the L&I businesses is completed.
At March 31, 2004 our Discontinued Operations investment portfolio also
included:
o $231.0 of non-publicly traded fixed maturities and equity securities -
representing 1.2% of our L&I investment portfolio
o $495.5 of not-rated securities - representing 2.5% of our L&I investment
portfolio
OUR MORTGAGE LOAN PORTFOLIO
Our Discontinued Operations held $927.0 of mortgage loans at March 31, 2004.
That represents 4.7% of our L&I investment portfolio.
Our mortgage loans are on completed, income-producing commercial real estate,
primarily in the retail, industrial and office building sectors.
The majority of the properties on which we hold mortgages are in three states:
o 29% in Washington
o 24% in California
o 11% in Oregon
We hold mortgages in no other state that represents greater than 10% of the
mortgage loan balance.
Our mortgage loan policy includes these guidelines:
o No loan when issued shall exceed 75% of the property's appraised value
o Individual loans generally do not exceed $10.0
o First mortgage liens secure the loans
Less than 1% of our mortgage loans were non-performing - those loans in default
of principal or interest or both - at the end of the last two years and at March
31, 2004.
As a result, our allowance for mortgage loan losses has remained unchanged at
$10.2 at March 31, 2004 and December 31, 2003.
MORTGAGE-BACKED SECURITIES
This table summarizes our Continuing Operations holdings of mortgage-backed
securities at March 31, 2004.
CARRYING VALUE
COST OR --------------------
MARCH 31, 2004 AMORTIZED COST AMOUNT PERCENT
- -------------------------------------------------------------------------------------------------------------
RESIDENTIAL
Planned and Targeted Amortization Class and Sequential Pay CMOs $ 176.6 $ 181.9 16%
Accrual Coupon (Z-Tranche) CMOs 337.0 343.2 29
Floating Rate CMOs 22.8 23.4 2
Residential Mortgage-Backed Pass-Throughs (Non-CMOs) 7.3 7.9 1
---------------------------------------------
Total Residential 543.7 556.4 48
---------------------------------------------
SECURITIZED COMMERCIAL REAL ESTATE
Government/Agency-Backed 44.3 47.6 4
CMOs and Pass-Throughs (Non-agency) 391.1 422.6 37
---------------------------------------------
Total Securitized Commercial Real Estate 435.4 470.2 41
---------------------------------------------
Other CMOs 121.9 126.7 11
- -------------------------------------------------------------------------------------------------------------
Total $ 1,101.0 $ 1,153.3 100%
- -------------------------------------------------------------------------------------------------------------
Our Continuing Operations hold $1,153.3 in mortgage-backed securities as of
March 31, 2004. 93% were either government/agency-backed or AAA rated.
Here are the quality ratings of our Continuing Operations mortgage-backed
securities portfolio.
RATING MARCH 31, 2004
- ---------------------------------------------------------- ----------------------------------
Government/Agency Backed 45%
AAA 48
AA 6
A --
BBB 1
BB or lower --
- ---------------------------------------------------------- ----------------------------------
Total 100%
- ---------------------------------------------------------- ----------------------------------
This table summarizes our Discontinued Operations holdings of mortgage-backed
securities at March 31, 2004.
CARRYING VALUE
COST OR --------------------
MARCH 31, 2004 AMORTIZED COST AMOUNT PERCENT
- -------------------------------------------------------------------------------------------------------------
RESIDENTIAL
Planned and Targeted Amortization Class and Sequential Pay
CMOs $ 2,025.6 $ 2,099.0 47%
Accrual Coupon (Z-Tranche) CMOs 456.1 495.2 11
Floating Rate CMOs 100.0 104.4 3
Companion/Support, Principal Only, Interest Only CMOs 8.8 9.3 --
Subordinates 19.0 19.6 --
Residential Mortgage-Backed Pass-Throughs (Non-CMOs) 380.6 391.3 9
-----------------------------------------------
Total Residential 2,990.1 3,118.8 70
-----------------------------------------------
Securitized Commercial Real Estate
Government/Agency-Backed 429.1 456.3 10
CMOs and Pass-Throughs (Non-agency) 629.0 686.3 16
-----------------------------------------------
Total Securitized Commercial Real Estate 1,058.1 1,142.6 26
-----------------------------------------------
Other CMOs 157.2 164.0 4
- -------------------------------------------------------------------------------------------------------------
Total $ 4,205.4 $ 4,425.4 100%
- -------------------------------------------------------------------------------------------------------------
Quality of Our Mortgage-Backed Securities - At March 31, 2004, 95% of our
mortgage-backed securities were either government/agency-backed or AAA rated.
We've limited our investment in riskier, more volatile CMOs and CMBSs to $28.9.
That amount represents 0.7% of our total mortgage-backed securities.
Here are the quality ratings of our Discontinued Operations mortgage-backed
securities portfolio.
RATING MARCH 31, 2004
- ---------------------------------------------------------------- --------------------------------
Government/Agency Backed 74%
AAA 21
AA 3
A 1
BBB 1
BB or lower --
- ---------------------------------------------------------------- --------------------------------
Total 100%
- ---------------------------------------------------------------- --------------------------------
ITEM 4 - CONTROLS AND PROCEDURES
We have evaluated the effectiveness of the design and operation of our
disclosure controls and procedures under the supervision and with the
participation of management, including our Chief Executive Officer, Chief
Financial Officer and our disclosure committee.
Based on that evaluation, our Chief Executive Officer and Chief Financial
Officer have concluded that our disclosure controls and procedures were
effective as of March 31, 2004 to ensure that information required to be
disclosed by us in reports that we file or submit under the Securities Exchange
Act of 1934 is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission rules and forms.
There have been no changes in our internal controls over financial reporting
during the first quarter that materially affected, or are reasonably likely to
materially affect, our controls over financial reporting.
Safeco Corporation and Subsidiaries
- -------------------------------------------------------------------------------
PART II - OTHER INFORMATION
- --------------------------------------------------------------------------------
Item 1 - LEGAL PROCEEDINGS
Because of the nature of our businesses, we are subject to legal actions filed
or threatened in the ordinary course of our operations. Generally, our
involvement in legal action involves defending third-party claims brought
against our insureds (in our role as liability insurer) and defending policy
coverage claims brought against us.
We do not believe that such litigation will materially and adversely affect our
financial condition, future operating results or liquidity.
Our property and casualty insurance subsidiaries are parties to a number of
lawsuits for liability coverages related to environmental claims. Estimation of
reserves for environmental claims is difficult. However, we do not expect these
lawsuits to materially affect our financial condition.
Our P&C companies are being sued in the U.S. District Court of Connecticut
pursuant to a suit filed on January 14, 2003 and in California state court
pursuant to a suit filed in August 10, 2001 by plaintiffs who seek back overtime
pay for claims adjusters who they claim should have been considered non-exempt
employees under the labor laws. In each of these suits, we have denied any
suggestion of wrongdoing, and are actively defending against these allegations.
Summary judgment in our favor was entered in the California case in January
2004.
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(A)(3) - EXHIBITS
10.1 Separation Agreement between Safeco Corporation and Bruce Allenbaugh dated January 31, 2004.
31.1 Certification of Chief Executive Officer of Safeco Corporation, dated May 7, 2004, in
accordance with Securities Exchange Act Rule 13a-14(a)/15d-14(a) as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer of Safeco Corporation, dated May 7, 2004, in
accordance with Securities Exchange Act Rule 13a-14(a)/15d-14(a) as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer of Safeco Corporation, dated May 7, 2004, in
accordance with 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer of Safeco Corporation, dated May 7, 2004, in
accordance with 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(B) - REPORTS ON FORM 8-K
The registrant filed the following reports on Form 8-K during the quarter ended March 31, 2004 and for the period
up to the filing date of this Form 10-Q.
FILING DATED UNDER FILING RELATED TO:
-------------------------------------------------------------------------------------------------
January 26, 2004 Item 12 (Results Earnings Release for Quarter ended December 31, 2003.
of Operations and
Financial
Condition)
March 15, 2004 Item 5 Agreement to sell Life & Investments operations to
(Other Events) investor group led by White Mountains and Berkshire
Hathaway. Agreement to sell Talbot Financial Corp.
to Senior Management Group.
April 20, 2004 Item 12 (Results of Earnings Release for Quarter ended March 31, 2004.
Operations and
Financial
Condition)
-------------------------------------------------------------------------------------------------
Safeco Corporation and Subsidiaries
- -------------------------------------------------------------------------------
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 on May 7, 2004.
Safeco Corporation
-------------------------
Registrant
/s/ MAURICE S. HEBERT
-------------------------
Maurice S. Hebert
Vice President, Controller