CNA Financial Corporation (CNA)

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CNA Financial Corp. (CNA)

Q3 2009 Earnings Call

November 2, 2009; 10:00 am ET


Tom Motamed - Chairman & Chief Executive Officer

Craig Mense - Chief Financial Officer

Richard Scott - Chief Investment Officer

Nancy Bufalino - Investor Relations


Jay Cohen - Banc of America/Merrill Lynch

Robert Glasspiegel - Langen McAlenney

Dan Johnson - Citadel



[Technical Difficulties - Audio Starts Abruptly]

At the same time, standard line premiums are being pressured by declining exposures, due to depressed payrolls and revenues, as well as premium audits that are generating return premiums.

Standard lines policy count was essentially flat during the quarter. Although we are not satisfied with our top line in Standard Lines, we are pleased with our new business production. Our ratio of new to lost business was 1.1 to 1 this quarter, a slight improvement over last year’s third quarter. In Standard Lines, 81% of new business is coming from the industry segments that we outlined to you earlier this year. We continue to drive more of our business from segments that we believe have greater profit potential.

Renewal rates were essentially flat in the third quarter. In the third quarter of 2008, the average rate decrease was 5%. Third quarter retention came in at 80% compared with 81% in third quarter of 2008. We are prepared to see a decline in our retention as we push for more rates to improve profitability.

Market conditions in Standard Lines remain very competitive for new business. We continue to see aggressive pricing on accounts of all types and sizes, including catastrophe exposed locations, high value property, large casualty accounts, and small business.

Our property and casualty operations expense ratio for the quarter was 33.3% compared with 31.5% in last year’s third quarter. The increase came from lower net earned premiums as a result of negative premium growth and return premiums, as well as higher underwriting expenses and the previously mentioned assessments. Craig.

Craig Mense

Thanks, Tom. Good morning, everyone. I would like to spend the next few minutes, discussing our performance against the financial priorities that we laid out at the beginning of the year. The quarter’s highlights include net operating income of $331 million and operating return on equity of 12.2%, which approaches our target range and a very substantial improvement in CNA’s balance sheet and capital position.

The recovery in the market value of our investment portfolio, together with the third quarter net income of $263 million, increased book value to $35.38 per share, a 29% improvement from the end of the second quarter and a 69% improvement from year end 2008.

At the end of the quarter, all of our capital metrics were at or better than 2007 year end levels. We also continued to make significant progress in our efforts to reposition our investment portfolio, to reduce risk in volatility and drive more consistent performance in the future. The operating income results were fueled by strong net investment income, primarily from limited partnerships, as well as a $61 million after tax gain from the previously disclosed settlement with Willis.

Third quarter net investment income totaled $660 million, a 50% increase over the prior year period. Our fixed income results continue to reflect historically low short term rates, as well as a high level of our holdings in cash and short term investments. We benefited from another quarter of very strong performance from our limited partnership investments. Income from these investments was $145 million in the third quarter, a rate of return of approximately 8%. Year-to-date, these investments have returned 14%.

You will recall from previous discussions on these calls that we invest in LPs as an alternative to equities. We expect that overtime, our portfolio of limited partnership investments will bring us higher accumulative returns than equities with less volatility. While they represent only 5% of our total invested assets, they remain an important part of our ongoing investment strategy.

I would like to remind you of two important characteristics of our LP investments. First, they overwhelmingly represent investment in marketable securities, with the valuations driven by the fair value of the LPs’ underlying securities holdings. Only 6% of our LP holdings by value are in private equity and less than 2% in real estate. Second, approximately 90% of our LP holdings, as measured by reported values, report results on a one month lag or less. Consequently, our quarterly earnings reflect current market valuations.

Net income for the quarter was $263 million, and included after tax other than temporary impairments, recognizing earnings of $96 million, as compared to after tax OTTI losses of $380 million in the prior year period. The OTTI credit losses in the quarter were centered primarily in residential mortgage backed securities. These impairment decisions were driven by our assessment of the likely future performance of these securities, as well as intent to sell decisions consistent with our ongoing management of risk and volatility in the portfolio.

Our realized investment results for the quarter do not include the effect of the sale of 100% of our common stock holdings of Verisk Analytics, formally known as ISO. We sold these holdings in the Verisk IPO in the first week of October. As a result, we increased the fair value of our position to $370 million at third quarter end, which is reflected as an unrealized gain in our balance sheet.

During the fourth quarter, the after-tax sales proceeds of $240 million will be reported as a realized gain. As of September 30, our investment portfolio had a pretax net unrealized gain of $176 million. This compares to a $2.7 billion pretax net unrealized loss at the end of the second quarter, and a $5.4 billion pretax net unrealized loss at year end 2008.

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