Cincinnati Financial 10-Q
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark one)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934. |
For the quarterly period ended September 30, 2006.
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o |
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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 0-4604
CINCINNATI FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
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Ohio
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31-0746871 |
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(State or other jurisdiction of
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(I.R.S. Employer Identification No.) |
incorporation or organization) |
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6200 S. Gilmore Road, Fairfield, Ohio
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45014-5141 |
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(Address of principal executive offices)
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(Zip code) |
Registrants telephone number, including area code: (513) 870-2000
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.
þ Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer. See definition of accelerated filer and large
accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer þ Accelerated filer o Non-accelerated filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2
of the Exchange Act):
o Yes þ No
As of October 25, 2006, there were 173,247,863 shares of common stock outstanding.
CINCINNATI FINANCIAL CORPORATION
FORM 10-Q FOR THE THREE MONTHS AND NINE MONTHS ENDED
SEPTEMBER 30, 2006
TABLE OF CONTENTS
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Cincinnati Financial Corporation |
2
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Form 10-Q for the quarter ended September 30, 2006 |
Part I Financial Information
Item 1. Financial Statements
Cincinnati Financial Corporation And Subsidiaries
Condensed Consolidated Balance Sheets
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September 30, |
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December 31, |
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(Dollars in millions except per share data) |
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2006 |
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2005 |
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(unaudited) |
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ASSETS |
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Investments |
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Fixed maturities, at fair value (amortized cost: 2006$5,719; 2005$5,387) |
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$ |
5,790 |
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$ |
5,476 |
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Equity securities, at fair value (cost: 2006$2,574; 2005$2,128) |
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7,256 |
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7,106 |
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Short-term investments, at fair value (amortized cost: 2005$75) |
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0 |
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75 |
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Other invested assets |
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58 |
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45 |
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Cash and cash equivalents |
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239 |
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119 |
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Securities lending collateral |
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1,016 |
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0 |
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Investment income receivable |
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115 |
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117 |
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Finance receivable |
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106 |
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105 |
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Premiums receivable |
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1,166 |
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1,116 |
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Reinsurance receivable |
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701 |
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681 |
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Prepaid reinsurance premiums |
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13 |
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14 |
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Deferred policy acquisition costs |
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458 |
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429 |
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Land, building and equipment, net, for company use (accumulated depreciation: 2006$253; 2005$232) |
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185 |
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168 |
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Other assets |
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63 |
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66 |
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Separate accounts |
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505 |
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486 |
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Total assets |
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$ |
17,671 |
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$ |
16,003 |
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LIABILITIES |
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Insurance reserves |
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Loss and loss expense reserves |
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$ |
3,878 |
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$ |
3,661 |
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Life policy reserves |
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1,389 |
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1,343 |
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Unearned premiums |
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1,623 |
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1,559 |
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Securities lending payable |
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1,016 |
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0 |
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Other liabilities |
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459 |
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455 |
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Deferred income tax |
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1,497 |
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1,622 |
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Notes payable |
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49 |
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0 |
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6.125% senior notes due 2034 |
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371 |
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371 |
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6.9% senior debentures due 2028 |
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28 |
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28 |
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6.92% senior debenture due 2028 |
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392 |
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392 |
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Separate accounts |
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505 |
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486 |
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Total liabilities |
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11,207 |
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9,917 |
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SHAREHOLDERS EQUITY |
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Common stock, par value-$2 per share; authorized: 2006-500 million shares, 2005-
500 million shares; issued: 2006-195 million shares, 2005-194 million shares |
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391 |
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389 |
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Paid-in capital |
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1,005 |
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969 |
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Retained earnings |
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2,714 |
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2,088 |
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Accumulated other comprehensive income |
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3,093 |
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3,284 |
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Treasury stock at cost (200622 million shares, 200520 million shares) |
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(739 |
) |
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(644 |
) |
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Total shareholders equity |
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6,464 |
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6,086 |
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Total liabilities and shareholders equity |
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$ |
17,671 |
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$ |
16,003 |
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Accompanying notes are an integral part of this statement.
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Cincinnati Financial Corporation |
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Form 10-Q for the quarter ended September 30, 2006
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3 |
Cincinnati Financial Corporation And Subsidiaries
Condensed Consolidated Statements Of Income
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Three months ended Sept. 30, |
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Nine months ended Sept. 30, |
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(In millions except per share data) |
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2006 |
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2005 |
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2006 |
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2005 |
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(unaudited) |
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(unaudited) |
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REVENUES |
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Earned premiums |
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Property casualty |
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$ |
791 |
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$ |
765 |
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$ |
2,362 |
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$ |
2,283 |
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Life |
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28 |
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25 |
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84 |
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78 |
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Investment income, net of expenses |
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144 |
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134 |
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425 |
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390 |
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Realized investment gains and losses |
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0 |
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16 |
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671 |
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38 |
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Other income |
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4 |
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4 |
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14 |
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12 |
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Total revenues |
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967 |
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944 |
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3,556 |
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2,801 |
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BENEFITS AND EXPENSES |
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Insurance losses and policyholder benefits |
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549 |
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528 |
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1,596 |
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1,470 |
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Commissions |
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156 |
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160 |
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478 |
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476 |
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Other operating expenses |
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83 |
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74 |
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243 |
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213 |
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Taxes, licenses and fees |
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19 |
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17 |
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58 |
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52 |
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Increase in deferred policy acquisition costs |
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(5 |
) |
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(5 |
) |
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(27 |
) |
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(23 |
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Interest expense |
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13 |
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13 |
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39 |
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39 |
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Other expenses |
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4 |
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6 |
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12 |
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12 |
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Total benefits and expenses |
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819 |
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793 |
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2,399 |
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2,239 |
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INCOME BEFORE INCOME TAXES |
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148 |
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151 |
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1,157 |
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562 |
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PROVISION (BENEFIT) FOR INCOME TAXES |
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Current |
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23 |
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19 |
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363 |
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126 |
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Deferred |
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10 |
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15 |
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(6 |
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17 |
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Total provision for income taxes |
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33 |
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34 |
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357 |
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143 |
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NET INCOME |
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$ |
115 |
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$ |
117 |
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$ |
800 |
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$ |
419 |
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PER COMMON SHARE |
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Net incomebasic |
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$ |
0.67 |
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$ |
0.67 |
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$ |
4.61 |
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$ |
2.39 |
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Net incomediluted |
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$ |
0.66 |
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$ |
0.66 |
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$ |
4.56 |
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$ |
2.37 |
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Accompanying notes are an integral part of this statement.
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Cincinnati Financial Corporation |
4
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Form 10-Q for the quarter ended September 30, 2006 |
Cincinnati Financial Corporation And Subsidiaries
Condensed Consolidated Statements Of Shareholders Equity
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Nine months ended Sept. 30, |
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(In millions) |
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2006 |
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2005 |
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(unaudited) |
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COMMON STOCK NUMBER OF SHARES |
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Beginning of year |
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174 |
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|
167 |
|
5% stock dividend |
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0 |
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9 |
|
Stock options exercised |
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1 |
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0 |
|
Purchase of treasury shares |
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(2 |
) |
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(1 |
) |
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|
|
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End of period |
|
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173 |
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|
175 |
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COMMON STOCK |
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Beginning of year |
|
$ |
389 |
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$ |
370 |
|
5% stock dividend |
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|
0 |
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|
19 |
|
Stock options exercised |
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2 |
|
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|
0 |
|
|
|
|
|
|
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End of period |
|
|
391 |
|
|
|
389 |
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PAID-IN CAPITAL |
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Beginning of year |
|
|
969 |
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|
618 |
|
5% stock dividend |
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0 |
|
|
|
341 |
|
Stock options exercised |
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|
22 |
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|
6 |
|
Share-based compensation |
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|
14 |
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0 |
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End of period |
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1,005 |
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|
965 |
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RETAINED EARNINGS |
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Beginning of year |
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2,088 |
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|
|
2,057 |
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Net income |
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|
800 |
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|
|
419 |
|
5% stock dividend |
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0 |
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(360 |
) |
Dividends declared |
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(174 |
) |
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|
(158 |
) |
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End of period |
|
|
2,714 |
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|
1,958 |
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ACCUMULATED OTHER COMPREHENSIVE INCOME |
|
|
|
|
|
|
|
|
Beginning of year |
|
|
3,284 |
|
|
|
3,787 |
|
Change in accumulated other comprehensive income, net |
|
|
(191 |
) |
|
|
(458 |
) |
|
|
|
|
|
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End of period |
|
|
3,093 |
|
|
|
3,329 |
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TREASURY STOCK |
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Beginning of year |
|
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(644 |
) |
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|
(583 |
) |
Purchase |
|
|
(95 |
) |
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|
(45 |
) |
Reissued for stock options |
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|
0 |
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|
2 |
|
|
|
|
|
|
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|
End of period |
|
|
(739 |
) |
|
|
(626 |
) |
|
|
|
|
|
|
|
|
Total shareholders equity |
|
$ |
6,464 |
|
|
$ |
6,015 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
COMPREHENSIVE INCOME |
|
|
|
|
|
|
|
|
Net income |
|
$ |
800 |
|
|
$ |
419 |
|
Change in accumulated other comprehensive income, net |
|
|
(191 |
) |
|
|
(458 |
) |
|
|
|
|
|
|
|
Total comprehensive income |
|
$ |
609 |
|
|
$ |
(39 |
) |
|
|
|
|
|
|
|
Accompanying notes are an integral part of this statement.
|
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|
|
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|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
5 |
Cincinnati Financial Corporation And Subsidiaries
Condensed Consolidated Statements Of Cash Flows
|
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|
|
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|
Nine months ended Sept. 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
|
(unaudited) |
|
CASH FLOWS FROM OPERATING ACTIVITIES |
|
|
|
|
|
|
|
|
Net income |
|
$ |
800 |
|
|
$ |
419 |
|
Adjustments to reconcile net income to net cash provided by operating activities: |
|
|
|
|
|
|
|
|
Depreciation, amortization and other non-cash items |
|
|
26 |
|
|
|
22 |
|
Share-based compensation expense |
|
|
14 |
|
|
|
0 |
|
Realized (gains) on investments |
|
|
(671 |
) |
|
|
(38 |
) |
Interest credited to contract holders |
|
|
22 |
|
|
|
21 |
|
Changes in: |
|
|
|
|
|
|
|
|
Investment income receivable |
|
|
2 |
|
|
|
(7 |
) |
Premiums and reinsurance receivable |
|
|
(69 |
) |
|
|
(75 |
) |
Deferred policy acquisition costs |
|
|
(27 |
) |
|
|
(24 |
) |
Other assets |
|
|
3 |
|
|
|
(11 |
) |
Loss and loss expense reserves |
|
|
217 |
|
|
|
157 |
|
Life policy reserves |
|
|
53 |
|
|
|
83 |
|
Unearned premiums |
|
|
64 |
|
|
|
67 |
|
Other liabilities |
|
|
(12 |
) |
|
|
(20 |
) |
Deferred income tax |
|
|
(6 |
) |
|
|
17 |
|
Current income tax |
|
|
4 |
|
|
|
(46 |
) |
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
420 |
|
|
|
565 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES |
|
|
|
|
|
|
|
|
Sale of fixed maturities investments |
|
|
76 |
|
|
|
156 |
|
Call or maturity of fixed maturities investments |
|
|
225 |
|
|
|
400 |
|
Sale of equity securities investments |
|
|
850 |
|
|
|
70 |
|
Collection of finance receivables |
|
|
26 |
|
|
|
24 |
|
Purchase of fixed maturities investments |
|
|
(611 |
) |
|
|
(1,085 |
) |
Purchase of equity securities investments |
|
|
(644 |
) |
|
|
(136 |
) |
Change in short-term investments, net |
|
|
79 |
|
|
|
19 |
|
Investment in buildings and equipment, net |
|
|
(37 |
) |
|
|
(34 |
) |
Investment in finance receivables |
|
|
(30 |
) |
|
|
(29 |
) |
Change in other invested assets, net |
|
|
(10 |
) |
|
|
(7 |
) |
Change in securities lending collateral |
|
|
(1,016 |
) |
|
|
0 |
|
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(1,092 |
) |
|
|
(622 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES |
|
|
|
|
|
|
|
|
Payment of cash dividends to shareholders |
|
|
(170 |
) |
|
|
(151 |
) |
Purchase/issuance of treasury shares |
|
|
(95 |
) |
|
|
(43 |
) |
Increase in notes payable |
|
|
49 |
|
|
|
0 |
|
Proceeds from stock options exercised |
|
|
21 |
|
|
|
7 |
|
Contract holder funds deposited |
|
|
28 |
|
|
|
77 |
|
Contract holder funds withdrawn |
|
|
(57 |
) |
|
|
(41 |
) |
Change in securities lending payable |
|
|
1,016 |
|
|
|
0 |
|
Excess tax benefits on share-based compensation |
|
|
2 |
|
|
|
0 |
|
Other |
|
|
(2 |
) |
|
|
0 |
|
|
|
|
|
|
|
|
Net cash provided by (used in) financing activities |
|
|
792 |
|
|
|
(151 |
) |
|
|
|
|
|
|
|
Net increase (decrease) in cash and cash equivalents |
|
|
120 |
|
|
|
(208 |
) |
Cash and cash equivalents at beginning of period |
|
|
119 |
|
|
|
306 |
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
239 |
|
|
$ |
98 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures of cash flow information: |
|
|
|
|
|
|
|
|
Interest paid |
|
$ |
26 |
|
|
$ |
26 |
|
Income taxes paid |
|
|
360 |
|
|
|
172 |
|
Non-cash activities |
|
|
|
|
|
|
|
|
Conversion and exchanges of investment securities |
|
$ |
50 |
|
|
$ |
34 |
|
Equipment acquired with capital lease obligations |
|
|
7 |
|
|
|
0 |
|
Accompanying notes are an integral part of this statement.
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
6
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Notes To Condensed Consolidated Financial Statements (unaudited)
NOTE 1 ACCOUNTING POLICIES
The condensed consolidated financial statements include the accounts of Cincinnati
Financial Corporation and its consolidated subsidiaries, each of which is wholly owned, and
are presented in conformity with accounting principles generally accepted in the United
States of America (GAAP). All significant intercompany balances and transactions have been
eliminated in consolidation.
The preparation of financial statements in conformity with accounting principles generally
accepted in the United States of America requires us to make estimates and assumptions that
affect amounts reported in the financial statements and accompanying notes. Our actual
results could differ from those estimates. The December 31, 2005, consolidated balance
sheet amounts are derived from the audited financial statements but do not include all
disclosures required by accounting principles generally accepted in the United States of
America.
Our September 30, 2006, condensed consolidated financial statements are unaudited. We
believe that all adjustments, consisting only of normal recurring accruals, have been made
that are necessary for fair presentation. The results of operations for interim periods are
not necessarily an indication of results to be expected for the full year.
Investments
Fixed maturities (bonds and redeemable preferred stocks) and equity securities (common
and non-redeemable preferred stocks) have been classified as available for sale and are
stated at fair values at September 30, 2006, and December 31, 2005. Short-term investments
(primarily commercial paper and demand notes) are classified as available for sale and
recorded at amortized cost, which approximates fair value, at December 31, 2005. We had no
short-term investments at September 30, 2006.
At September 30, 2006, unrealized investment gains before taxes totaled $4.824 billion and
unrealized investment losses in the investment portfolio amounted to $71 million. The
unrealized gains at September 30, 2006, primarily were due to long-term gains from our
holdings of Fifth Third Bancorp (NASDAQ:FITB) common stock, which contributed 52.3 percent
of the gain, and from our other common stock holdings, including ExxonMobil Corporation
(NYSE:XOM), The Procter & Gamble Company (NYSE:PG) and PNC Financial Services Group
(NYSE:PNC), each of which contributed at least 5 percent of the gain. The change in
unrealized gains and losses on investments, net of taxes, described in the following table,
is included in shareholders equity as accumulated other comprehensive income.
The change in fixed maturities unrealized gains and losses for the three and nine months
ended September 30, 2006 and 2005, was due primarily to interest-rate driven fair value
fluctuations in the fixed-maturity portfolio.
The net change in equity securities unrealized gains for the three months ended September
30, 2006, was primarily due to gains in the market value of equity holdings since June 30,
2006. The net change in equity securities unrealized gains for the nine months ended
September 30, 2006, was primarily due to the sale of our holdings of ALLTEL Corporation
(NYSE:AT) common stock, which was completed in January 2006, partially offset by gains in
the market values of our other equity holdings. The net change in equity securities
unrealized gains and losses for the three months and nine months ended September 30, 2005,
was due primarily to the decline in Fifth Thirds market value.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended Sept. 30, |
|
|
Nine months ended Sept. 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Change in other comprehensive income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturities |
|
$ |
142 |
|
|
$ |
(93 |
) |
|
$ |
(18 |
) |
|
$ |
(146 |
) |
Equity securities |
|
|
385 |
|
|
|
(178 |
) |
|
|
(296 |
) |
|
|
(565 |
) |
Adjustment to deferred acquisition costs and life policy reserves |
|
|
(4 |
) |
|
|
3 |
|
|
|
2 |
|
|
|
4 |
|
Other |
|
|
2 |
|
|
|
(3 |
) |
|
|
3 |
|
|
|
2 |
|
Income taxes on above |
|
|
(184 |
) |
|
|
95 |
|
|
|
118 |
|
|
|
247 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
341 |
|
|
$ |
(176 |
) |
|
$ |
(191 |
) |
|
$ |
(458 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Realized gains and losses on investments are recognized in net income on a specific
identification basis. See our 2005 Annual Report on Form 10-K, Investments Segment, Page
15, for additional discussion of the investment portfolio. Other-than-temporary declines in
the fair value of investments are recognized in net income as realized investment losses at
the time when facts and circumstances indicate such write-downs are warranted. We recorded
no other-than-temporary impairment charges in the three months ended September 30, 2006,
and we recorded $1 million in other-than-temporary impairment charges in the nine months
ended September 30, 2006. We recorded $1 million in other-than-temporary impairment charges
in the three months and nine months ended September 30, 2005.
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
7 |
Reinsurance
In the accompanying condensed consolidated statements of income, property casualty
earned premiums and insurance losses consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended Sept. 30, |
|
|
Nine months ended Sept. 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Direct earned premiums |
|
$ |
826 |
|
|
$ |
810 |
|
|
$ |
2,459 |
|
|
$ |
2,398 |
|
Assumed earned premiums |
|
|
6 |
|
|
|
6 |
|
|
|
17 |
|
|
|
21 |
|
Ceded earned premiums |
|
|
(41 |
) |
|
|
(51 |
) |
|
|
(114 |
) |
|
|
(136 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earned premiums |
|
$ |
791 |
|
|
$ |
765 |
|
|
$ |
2,362 |
|
|
$ |
2,283 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct incurred loss and loss expenses |
|
$ |
533 |
|
|
$ |
522 |
|
|
$ |
1,567 |
|
|
$ |
1,469 |
|
Assumed incurred loss and loss expenses |
|
|
3 |
|
|
|
21 |
|
|
|
10 |
|
|
|
33 |
|
Ceded incurred loss and loss expenses |
|
|
(20 |
) |
|
|
(42 |
) |
|
|
(72 |
) |
|
|
(107 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net incurred loss and loss expenses |
|
$ |
516 |
|
|
$ |
501 |
|
|
$ |
1,505 |
|
|
$ |
1,395 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ceded earned premiums declined in the three and nine months ended September 30, 2006,
because of the change in our reinsurance programs. Direct losses and policyholder benefits
rose primarily because of an increase in new losses and case reserve increases greater than
$250,000 and rising loss severity in selected commercial and personal business lines in the
three and nine months ended September 30, 2006. Higher catastrophe losses also contributed
in the nine months ended September 30, 2006. Ceded incurred loss and loss expenses
decreased for the three and nine months ended September 30, 2006, as fewer losses exceeded
the higher retention on our reinsurance treaties.
Securities Lending Program
During the first quarter of 2006, we began actively participating in a securities
lending program under which certain fixed maturities from our investment portfolio are
loaned to other institutions for short periods of time. We require collateral in excess of
the market value of the loaned securities. The collateral is invested in accordance with
our guidelines in high-quality, short-duration instruments to generate additional
investment income. The market value of the loaned securities is monitored on a daily basis
and additional collateral is added or refunded as the market value of the loaned securities
changes. The securities lending collateral is recognized as an asset, and classified as
securities lending collateral, with a corresponding liability for the obligation to return
the collateral.
We maintain the right and ability to redeem the securities loaned on short notice and
continue to earn interest on the securities. We maintain effective control over the
securities that we have loaned, which are classified as invested assets on our consolidated
balance sheets. At September 30, 2006, we had fixed maturities with a market value of $996
million on loan, with collateral held of $1.016 billion. Interest income on collateral, net
of fees, was $252,000 and $528,000 in the three and nine months ended September 30, 2006.
Share-based Compensation
We grant qualified and non-qualified stock options (share-based compensation) under
our plans. These stock options are granted to associates at an exercise price that is not
less than market price at the date of grant and are exercisable over 10-year periods. Prior
to January 1, 2006, we accounted for those plans under the recognition and measurement
provisions of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related
interpretations, as permitted by the Statement of Financial Accounting Standards (SFAS) No.
123, Accounting for Stock-Based Compensation. No stock-based employee compensation cost was
recognized in
the Statement of Income for the year ended December 31, 2005, as all options granted under
those plans had an exercise price equal to the market value of the underlying common stock
on the date of grant. Effective January 1, 2006, we adopted the fair value recognition
provisions of SFAS No. 123(R), Share-Based Payment, using the
modified-prospective-transition method.
As a result of adopting SFAS No. 123(R) on January 1, 2006, our income before income taxes
for the three and nine months ended September 30, 2006, was reduced by $3 million and $14
million, respectively. Our net income (after tax) for the three and nine months ended
September 30, 2006, was reduced by $3 million and $11 million, respectively. Diluted
earnings per share for the three and nine months ended September 30, 2006, were reduced by
2 cents and 6 cents, respectively. If we had continued to account for stock-based
compensation under APB Opinion No. 25, there would have been no effect on net income. The
weighted-average grant-date fair value of options granted during 2006 and 2005 was $10.09
and $12.49, respectively. The total intrinsic value of options exercised during the periods
ended September 30, 2006 and 2005, was $18 million and $6 million, respectively. (Intrinsic
value is the market price less the exercise price.)
Under the modified-prospective-transition method, in the first nine months of 2006, we recognized:
|
|
compensation cost for all stock options granted subsequent to January 1,
2006, based on the grant-date fair value estimated in accordance with the
provisions of SFAS No. 123(R) |
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
8
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
compensation cost for all non-vested stock options granted prior to January
1, 2006, that vested during the first nine months of 2006, based on the grant
date fair value estimated in accordance with the original provisions of SFAS
No. 123 and |
|
|
compensation cost for all non-vested stock options that have nonsubstantive
vesting requirements, such as those to associates who are eligible for
retirement. |
Results for prior periods have not been retrospectively adjusted for SFAS No. 123(R). As of
September 30, 2006, we had $18 million of unrecognized total compensation cost related to
non-vested stock options. That cost will be recognized over a weighted-average period of
1.8 years. SFAS No. 123(R) also requires us to classify certain tax benefits related to
share-based compensation deductions as cash from financing activities. As of September 30,
2006, these tax benefits totaled $2 million.
In determining the share-based compensation amounts for 2006, the fair value of each option
granted in 2006 was estimated on the date of grant using the binomial option-pricing model
with the following weighted-average assumptions used for grants in the three and nine
months ended September 30, 2006: dividend yield of 3.22 percent; expected volatility
ranging from 20.25 to 27.12 percent; risk-free interest rates ranging from 4.5 to 4.61
percent; and expected lives of five to seven years.
Here is a summary of our share-based compensation information as of September 30, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted- |
|
|
Aggregate |
|
|
|
|
|
|
|
average exercise |
|
|
intrinsic |
|
(Dollars in millions, shares in thousands) |
|
Shares |
|
|
price |
|
|
value |
|
|
2006 |
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at beginning of year |
|
|
10,589 |
|
|
$ |
33.70 |
|
|
|
|
|
Granted/reinstated |
|
|
1,372 |
|
|
|
45.26 |
|
|
|
|
|
Exercised |
|
|
(877 |
) |
|
|
23.88 |
|
|
|
|
|
Forfeited/revoked |
|
|
(167 |
) |
|
|
35.72 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at end of period |
|
|
10,917 |
|
|
|
35.91 |
|
|
$ |
133 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options exercisable at end of period |
|
|
8,220 |
|
|
$ |
33.60 |
|
|
$ |
119 |
|
Weighted-average fair value of options granted during the period |
|
|
|
|
|
|
10.09 |
|
|
|
|
|
The following table illustrates the effect on net income and earnings per share if we
had applied the fair value recognition provisions of SFAS No. 123 to options granted under
our stock option plans prior to our adoption of SFAS No. 123(R) on January 1, 2006. For
purposes of this pro forma disclosure, the fair value of each option was estimated on the
date of grant using the binomial option-pricing model with the following weighted-average
assumptions used for grants in the three and nine months ended September 30, 2005:
dividend yield of 2.70 percent; expected volatility of 25.61 percent; risk-free interest
rates 4.62 percent; and expected lives of 10 years.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended Sept. 30, |
|
|
Nine months ended Sept. 30, |
|
(In millions except per share data) |
|
|
|
2005 |
|
|
2005 |
|
|
Net income |
|
As reported |
|
$ |
117 |
|
|
$ |
419 |
|
Stock-based employee compensation expense determined
under fair value based method for all awards, net of
related tax effects |
|
|
|
|
3 |
|
|
|
10 |
|
|
|
|
|
|
|
|
|
|
|
|
Pro forma |
|
$ |
114 |
|
|
$ |
409 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per common sharebasic |
|
As reported |
|
$ |
0.67 |
|
|
$ |
2.39 |
|
|
|
Pro forma |
|
|
0.65 |
|
|
|
2.34 |
|
|
|
|
|
|
|
|
|
|
|
|
Net income per common sharediluted |
|
As reported |
|
$ |
0.66 |
|
|
$ |
2.37 |
|
|
|
Pro forma |
|
|
0.64 |
|
|
|
2.31 |
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
9 |
Options outstanding and exerciseable consisted of the following at September 30, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options outstanding |
|
|
Options exercisable |
|
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
average |
|
|
Weighted- |
|
|
|
|
|
|
Weighted- |
|
(Shares in thousands) |
|
|
|
|
|
remaining |
|
|
average exercise |
|
|
|
|
|
|
average exercise |
|
Range of excercise prices |
|
Shares |
|
|
contractual life |
|
|
price |
|
|
Shares |
|
|
price |
|
|
|
|
$17.07 to 19.34 |
|
|
5 |
|
|
|
0.27 |
yrs |
|
$ |
18.78 |
|
|
|
5 |
|
|
$ |
18.78 |
|
$20.37 to 24.14 |
|
|
188 |
|
|
|
0.53 |
yrs |
|
|
20.58 |
|
|
|
188 |
|
|
|
20.58 |
|
$26.63 to 29.92 |
|
|
1,019 |
|
|
|
3.27 |
yrs |
|
|
27.06 |
|
|
|
1,019 |
|
|
|
27.06 |
|
$30.60 to 35.00 |
|
|
4,687 |
|
|
|
4.44 |
yrs |
|
|
32.66 |
|
|
|
4,687 |
|
|
|
32.66 |
|
$36.17 to 38.87 |
|
|
1,976 |
|
|
|
5.57 |
yrs |
|
|
38.47 |
|
|
|
1,541 |
|
|
|
38.37 |
|
$41.14 to 45.62 |
|
|
3,042 |
|
|
|
8.15 |
yrs |
|
|
43.19 |
|
|
|
780 |
|
|
|
41.53 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
10,917 |
|
|
|
5.50 |
yrs |
|
|
35.91 |
|
|
|
8,220 |
|
|
|
33.60 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension Plan
The measurement date for the companys pension plan is December 31. The following
summarizes the components of net periodic pension costs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended Sept. 30, |
|
|
Nine months ended Sept. 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Service cost |
|
$ |
4 |
|
|
$ |
3 |
|
|
$ |
12 |
|
|
$ |
10 |
|
Interest cost |
|
|
4 |
|
|
|
3 |
|
|
|
10 |
|
|
|
9 |
|
Expected return on plan assets |
|
|
(3 |
) |
|
|
(3 |
) |
|
|
(9 |
) |
|
|
(9 |
) |
Amortization |
|
|
1 |
|
|
|
0 |
|
|
|
2 |
|
|
|
0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net pension expense |
|
$ |
6 |
|
|
$ |
3 |
|
|
$ |
15 |
|
|
$ |
10 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We made a $10 million contribution to the pension plan in the third quarter of 2006,
as indicated in the 2005 Annual Report on Form 10-K.
Derivative Financial Instruments
In the second quarter of 2006, CFC Investment Company, our commercial leasing and
financing subsidiary, replaced $49 million of intercompany debt with borrowings against one
of our short-term lines of credit to improve cash flow for the parent company. During the
third quarter, we entered into an interest-rate swap to manage the variability of interest
payments for certain variable-rate debt obligations ($49 million notional amount). Under
this interest-rate swap contract, we have agreed to pay a fixed rate of interest for a
three-year period. The contract is intended to be a hedge against changes in the amount of
future cash flows associated with the related interest payments. The interest-rate swap
contract is reflected at fair value in our balance sheet.
SFAS No. 133 Accounting for Derivative Financial Instruments and Hedging Activities, as
amended, requires changes in the fair value of the companys derivative financial
instruments to be recognized periodically as realized gains or losses on the consolidated
statement of income or as a component of accumulated other comprehensive income in
shareholders equity, respectively. In the three months ended September 30, 2006, we
recognized a $542,000 pretax realized investment loss due to the decline in the fair value
of the interest-rate swap.
In October, we completed the necessary requirements for the interest-rate swap to qualify
for hedge accounting treatment under SFAS No. 133. We expect that the interest-rate swap
will be a highly effective hedge and that future changes in the fair value of the
interest-rate swap will be recorded as a component of accumulated other comprehensive
income. As a result, we do not expect any significant amounts to be reclassified into
earnings in the next 12 months.
Reclassifications
Certain prior-period amounts have been reclassified to conform with the current-period
classifications.
Recent Accounting Pronouncements
SFAS No. 157, Fair Value Measurements
In September 2006, the Financial Accounting Standards Board (FASB) issued SFAS No.
157, which defines fair value, establishes a framework for measuring fair value, and
expands disclosures about fair value measurements. The provisions of SFAS No. 157 are
effective for financial statements issued for fiscal years beginning after November 15,
2007, and interim periods within those fiscal years. We currently are evaluating the timing
and impact of adopting SFAS No. 157 on our financial position.
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
10
|
|
Form 10-Q for the quarter ended September 30, 2006 |
SFAS No. 158, Employers Accounting for Defined Benefit Pension and Other
Postretirement Plans, an amendment of SFAS Nos. 87, 88, 106, and 132(R)
In September 2006, FASB issued SFAS No. 158, which requires that we recognize the
over-funded or under-funded status of our defined benefit plans as an asset or liability.
SFAS No. 158 is effective as of the fiscal year ending after December 15, 2006, with
changes in the funded status recognized through comprehensive income in the year in which
they occur.
Using December 31, 2005, data to estimate the funding status of our defined benefit plans,
adoption of SFAS No. 158 would result in an increase in liabilities of approximately $38
million on an after-tax basis with a corresponding reduction in accumulated other
comprehensive income and shareholders equity. The actual impact on 2006 results of
adopting SFAS No. 158 will depend on the fair value of plan assets at the selected
fourth-quarter 2006 measurement date.
SFAS No. 158 will not change the amount of net periodic benefit expense recognized in an
entitys results of operations. As such, the adoption is not expected to have an impact to
our results of operations in 2006.
No later than 2008, SFAS No. 158 also requires the measurement date of the funded status of
our defined benefit plans to be based on our year-end balance sheet
date. The effect of the
change in measurement date will not have a material impact on our financial position.
SAB No. 108, Considering the Effects of Prior Year Misstatements when Qualifying
Misstatements in Current Year Financial Statements
In September 2006, the SEC issued Staff Accounting Bulletin (SAB) No. 108 to address
diversity in practice in quantifying financial statement misstatements. SAB 108 requires
that we quantify misstatements based on their impact on each of our financial statements
and related disclosures. SAB 108 is effective as of the first fiscal year ending after
November 15, 2006, allowing a one-time transitional cumulative effect adjustment to
retained earnings as of January 1, 2006, for errors that were not previously deemed
material, but are material under the guidance in SAB No. 108. We currently are evaluating
the impact of adopting SAB No. 108 on our results of operations and financial position.
Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation
of SFAS No. 109
In July 2006, FASB issued Interpretation No. 48. This Interpretation clarifies the
accounting for uncertainty in income taxes recognized in an enterprises financial
statements in accordance with SFAS No. 109, Accounting for Income Taxes. This
Interpretation prescribes a recognition threshold and measurement attribute for the
financial statement recognition and measurement of a tax position taken or expected to be
taken in a tax return. This Interpretation also provides guidance on de-recognition,
classification, interest and penalties, accounting in interim periods, disclosure, and
transition. This Interpretation is effective for fiscal years beginning after December 15,
2006. We currently are assessing the impact of Interpretation No. 48 on our results of
operations and financial position.
SFAS No. 156, Accounting for Servicing of Financial Assets, an amendment of SFAS No.
140
In March 2006, FASB issued SFAS No. 156, which addresses the accounting for servicing
assets and liabilities. SFAS No. 156 is effective at the beginning of an entitys first
fiscal year beginning after September 15, 2006. We do not expect SFAS No. 156 to have a
material effect on our results of operations or financial position.
SFAS No. 155, Accounting for Certain Hybrid Financial Instruments, an amendment of
SFAS Nos. 133 and 140
In February 2006, FASB issued SFAS No. 155. This accounting standard permits fair
value re-measurement for any hybrid financial instrument containing an embedded derivative
that otherwise would require bifurcation; clarifies which interest-only strips and
principal-only strips are not subject to the requirements of SFAS No. 133; establishes a
requirement to evaluate interests in securitized financial assets to identify them as
freestanding derivatives or as hybrid financial instruments containing an embedded
derivative requiring bifurcation; clarifies that concentrations of credit risk in the form
of subordination are not embedded derivatives; and amends SFAS No. 140 to eliminate the
prohibition on a qualifying special-purpose entity from holding a derivative financial
instrument pertaining to a beneficial interest other than another derivative financial
instrument. SFAS No. 155 is effective for all financial instruments acquired or issued
after the beginning of an entitys first fiscal year beginning after September 15, 2006.
We are planning to adopt SFAS No. 155 on January 1, 2007, to permit fair value
re-measurement for our hybrid financial instruments that contain embedded derivatives that
required bifurcation under the original provisions of SFAS No. 133. We do not expect this
to have a material impact on our results of operations or financial position.
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
11 |
SOP 05-1, Accounting by Insurance Enterprises for Deferred Acquisition Costs in
Connection with Modifications or Exchanges of Insurance Contracts
In October 2005, the American Institute of Certified Public Accountants issued
Statement of Position (SOP) 05-1, which provides accounting guidance for deferred policy
acquisition costs on internal replacements of insurance and investment contracts other than
those specifically described in SFAS No. 97, Accounting and Reporting by Insurance
Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the
Sale of Investments. SOP 05-1 defines an internal replacement as a modification in product
benefits, features, rights or coverages that occurs by the exchange of a contract for a new
contract, or by amendment, endorsement or rider to a contract, or by the election of a
feature or coverage within a contract. Internal replacement contracts are those that are
substantially changed from the replaced contract and are accounted for as an extinguishment
of the replaced contract. Nonintegrated contract features are accounted for as separately
issued contracts. Modifications resulting from the election of a feature or coverage within
a contract or from an integrated contract feature generally do not result in an internal
replacement contract subject to SOP 05-1 provided certain conditions are met. The
provisions of SOP 05-1 are effective for internal replacements occurring in fiscal years
beginning after December 15, 2006. We do not expect this statement to have a material
impact on our results of operations or financial position.
Subsequent Events
In addition to catastrophe losses reported for the first nine months of 2006, a
Midwest storm in early October caused heavy hail damage in central Ohio, resulting in at
least $35 million pretax of catastrophe losses for our policyholders, which will be
included in fourth-quarter results. This
estimate does not take into account any catastrophe activity that may occur in the
remainder of the fourth quarter of 2006 or potential development from events in prior
periods.
NOTE 2 SEGMENT INFORMATION
We operate primarily in two industries, property casualty insurance and life
insurance. We regularly review four different reporting segments to make decisions about
allocating resources and assessing performance:
|
|
Commercial lines property casualty insurance |
|
|
Personal lines property casualty insurance |
We report as Other the non-investment operations of the parent company, CFC Investment
Company and CinFin Capital Management Company (excluding client investment activities), as
well as other income of our insurance subsidiary.
Revenues come primarily from unaffiliated customers:
|
|
All three insurance segments record revenues from insurance premiums earned. Life insurance segment
revenues also include separate account investment management fees. |
|
|
Our investment operations revenues are pretax net investment income plus realized investment gains
and losses. |
|
|
Other revenues are primarily finance/lease income. |
Income or loss before income taxes for each segment is reported based on the nature of that
business areas operations:
|
|
Income before income taxes for the insurance segments is defined as underwriting
income or loss. |
|
o |
|
For commercial lines and personal lines insurance segments, we calculate
underwriting income or loss by recording premiums earned minus loss and loss
expenses and underwriting expenses incurred. |
|
|
o |
|
For the life insurance segment, we calculate underwriting income or loss by
recording premiums earned and separate account investment management fees, minus
contract holder benefits and expenses incurred, plus investment interest credited
to contract holders. |
|
|
Income before income taxes for the investment operations segment
is net investment income plus realized investment gains and losses
for all fixed-maturity and equity security investments of the
entire company, minus investment interest credited to contract
holders of the life insurance segment. |
|
|
Loss before income taxes for the Other category is primarily due
to interest expense from debt of the parent company and operating
expenses of our headquarters. |
Identifiable assets are used by each segment in its operations. We do not separately report
the identifiable assets for the commercial or personal lines segments because we do not use
that measure to analyze the segments. We include
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
12
|
|
Form 10-Q for the quarter ended September 30, 2006 |
all fixed-maturity and equity security
investment assets, regardless of ownership, in the investment operations segment. We
include securities lending collateral in the Other category.
Segment information is summarized in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended Sept. 30, |
|
|
Nine months ended Sept. 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial lines insurance |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial casualty |
|
$ |
207 |
|
|
$ |
193 |
|
|
$ |
613 |
|
|
$ |
566 |
|
Commercial property |
|
|
123 |
|
|
|
113 |
|
|
|
367 |
|
|
|
347 |
|
Commercial auto |
|
|
113 |
|
|
|
115 |
|
|
|
337 |
|
|
|
340 |
|
Workers compensation |
|
|
93 |
|
|
|
82 |
|
|
|
271 |
|
|
|
244 |
|
Specialty packages |
|
|
35 |
|
|
|
34 |
|
|
|
106 |
|
|
|
103 |
|
Surety and executive risk |
|
|
24 |
|
|
|
21 |
|
|
|
69 |
|
|
|
59 |
|
Machinery and equipment |
|
|
7 |
|
|
|
6 |
|
|
|
20 |
|
|
|
19 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total commercial lines insurance |
|
|
602 |
|
|
|
564 |
|
|
|
1,783 |
|
|
|
1,678 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal lines insurance |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal auto |
|
|
95 |
|
|
|
107 |
|
|
|
294 |
|
|
|
329 |
|
Homeowner |
|
|
72 |
|
|
|
72 |
|
|
|
219 |
|
|
|
209 |
|
Other personal lines |
|
|
22 |
|
|
|
22 |
|
|
|
66 |
|
|
|
67 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total personal lines insurance |
|
|
189 |
|
|
|
201 |
|
|
|
579 |
|
|
|
605 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Life insurance |
|
|
28 |
|
|
|
26 |
|
|
|
86 |
|
|
|
81 |
|
Investment operations |
|
|
144 |
|
|
|
150 |
|
|
|
1,096 |
|
|
|
428 |
|
Other |
|
|
4 |
|
|
|
3 |
|
|
|
12 |
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
967 |
|
|
$ |
944 |
|
|
$ |
3,556 |
|
|
$ |
2,801 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance underwriting results: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial lines insurance |
|
$ |
39 |
|
|
$ |
27 |
|
|
$ |
153 |
|
|
$ |
182 |
|
Personal lines insurance |
|
|
(8 |
) |
|
|
(1 |
) |
|
|
(16 |
) |
|
|
23 |
|
Life insurance |
|
|
0 |
|
|
|
0 |
|
|
|
2 |
|
|
|
5 |
|
Investment operations |
|
|
130 |
|
|
|
137 |
|
|
|
1,056 |
|
|
|
390 |
|
Other |
|
|
(13 |
) |
|
|
(12 |
) |
|
|
(38 |
) |
|
|
(38 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
148 |
|
|
$ |
151 |
|
|
$ |
1,157 |
|
|
$ |
562 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
|
Identifiable assets: |
|
|
|
|
|
|
|
|
Property casualty insurance |
|
$ |
2,309 |
|
|
$ |
2,167 |
|
Life insurance |
|
|
856 |
|
|
|
845 |
|
Investment operations |
|
|
13,161 |
|
|
|
12,774 |
|
Other |
|
|
1,345 |
|
|
|
217 |
|
|
|
|
|
|
|
|
Total |
|
$ |
17,671 |
|
|
$ |
16,003 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
13 |
|
|
|
Item 2. |
|
Managements Discussion and Analysis of Financial Condition and Results of Operations |
The following discussion highlights significant factors influencing the consolidated
results of operations and financial position of Cincinnati Financial Corporation (CFC). It
should be read in conjunction with the consolidated financial statements and related notes
included in our 2005 Annual Report on Form 10-K. Unless otherwise noted, A.M. Best Co., a
leading insurance industry statistical, analytical and financial strength rating
organization, is the source of industry data. Data from A.M. Best is presented on a
statutory basis. When we provide our results on a comparable statutory basis, we label it
as such; all other company data is presented on a GAAP basis.
We present per share data on a diluted basis unless otherwise noted, adjusting those
amounts for all stock splits and dividends. Dollar amounts are rounded to millions;
calculations of percent changes are based on whole dollar amounts or dollar amounts rounded
to the nearest thousand.
Safe Harbor Statement
This is our Safe Harbor statement under the Private Securities Litigation Reform Act
of 1995. 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. Some of those risks and uncertainties are discussed in our 2005 Annual Report on
Form 10-K, Item 1A, Risk Factors, Page 21. Although we often review or update our
forward-looking statements when events warrant, we caution our readers that we undertake no
obligation to do so.
Factors that could cause or contribute to such differences include, but are not limited to:
|
|
Unusually high levels of catastrophe losses due to risk concentrations, changes in weather patterns,
environmental events, terrorism incidents or other causes |
|
|
Increased frequency and/or severity of claims |
|
|
Inaccurate estimates or assumptions used for critical accounting estimates |
|
|
Events or actions, including unauthorized intentional circumvention of controls, that reduce the
companys future ability to maintain effective internal control over financial reporting under the
Sarbanes-Oxley Act of 2002 |
|
|
Events or conditions that could weaken or harm the companys relationships with its independent agencies
and hamper opportunities to add new agencies, resulting in limitations on the companys opportunities
for growth, such as: |
|
o |
|
Downgrade of the companys financial strength ratings, |
|
|
o |
|
Concerns that doing business with the company is too difficult |
|
|
o |
|
Perceptions that the companys level of service, particularly claims service,
is no longer a distinguishing characteristic in the marketplace or |
|
|
o |
|
Regulations or laws that change industry or company practices for our agents. |
|
|
Delays or inadequacies in the development, implementation, performance and benefits of technology projects and
enhancements |
|
|
Ability to obtain adequate reinsurance on acceptable terms, amount of reinsurance purchased, financial strength of
reinsurers and the potential for non-payment or delay in payment by reinsurers |
|
|
Increased competition that could result in a significant reduction in the companys premium growth rate |
|
|
Underwriting and pricing methods adopted by competitors that could allow them to identify and flexibly price risks,
which could decrease our competitive advantages |
|
|
Actions of insurance departments, state attorneys general or other regulatory agencies that: |
|
o |
|
Place the insurance industry under greater regulatory scrutiny or result in new
statutes, rules and regulations |
|
|
o |
|
Increase our expenses |
|
|
o |
|
Add assessments for guaranty funds, other insurance related assessments or
mandatory reinsurance arrangements; or that impair our ability to recover such
assessments through future surcharges or other rate changes |
|
|
o |
|
Limit our ability to set fair, adequate and reasonable rates |
|
|
o |
|
Place us at a disadvantage in the marketplace or |
|
|
o |
|
Restrict our ability to execute our business model, including the way we compensate agents |
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
14
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
Sustained decline in overall stock market values negatively affecting the companys equity portfolio and book value; in
particular a sustained decline in the market value of Fifth Third Bancorp (NASDAQ:FITB) shares, a significant equity
holding |
|
|
Recession or other economic conditions or regulatory, accounting or tax changes resulting in lower demand for insurance
products |
|
|
Events that lead to a significant decline in the value of a particular security and impairment of the asset |
|
|
Prolonged medium- and long-term low interest rate environment or other factors that limit the companys ability to
generate growth in investment income |
|
|
Adverse outcomes from litigation or administrative proceedings |
|
|
Investment activities or market value fluctuations that trigger restrictions applicable to the parent company under the
Investment Company Act of 1940 |
|
|
Events, such as an avian flu epidemic, natural catastrophe or construction delays, that could hamper our ability to
assemble our workforce at our headquarters location |
Further, the companys insurance businesses are subject to the effects of changing social,
economic and regulatory environments. Public and regulatory initiatives have included
efforts to adversely influence and restrict premium rates, restrict the ability to cancel
policies, impose underwriting standards and expand overall regulation. The company also is
subject to public and regulatory initiatives that can affect the market value for its
common stock, such as recent measures affecting corporate financial reporting and
governance. The ultimate changes and eventual effects, if any, of these initiatives are
uncertain.
Introduction
Corporate Financial Highlights
Income Statement and Per Share Data
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
Nine months ended September 30, |
(Dollars in millions except share data) |
|
2006 |
|
2005 |
|
Change % |
|
2006 |
|
2005 |
|
Change % |
|
Income statement data |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums |
|
$ |
819 |
|
|
$ |
790 |
|
|
|
3.6 |
|
|
$ |
2,446 |
|
|
$ |
2,361 |
|
|
|
3.6 |
|
Investment income, net of expenses |
|
|
144 |
|
|
|
134 |
|
|
|
7.5 |
|
|
|
425 |
|
|
|
390 |
|
|
|
9.0 |
|
Net realized gains and losses (pretax) |
|
|
0 |
|
|
|
16 |
|
|
nm |
|
|
671 |
|
|
|
38 |
|
|
nm |
Total revenues |
|
|
967 |
|
|
|
944 |
|
|
|
2.4 |
|
|
|
3,556 |
|
|
|
2,801 |
|
|
|
27.0 |
|
Net income |
|
|
115 |
|
|
|
117 |
|
|
|
(1.6 |
) |
|
|
800 |
|
|
|
419 |
|
|
|
90.7 |
|
Per share data (diluted) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
|
0.66 |
|
|
|
0.66 |
|
|
|
0.0 |
|
|
|
4.56 |
|
|
|
2.37 |
|
|
|
92.4 |
|
Cash dividends declared |
|
|
0.335 |
|
|
|
0.305 |
|
|
|
9.8 |
|
|
|
1.005 |
|
|
|
0.90 |
|
|
|
11.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding |
|
|
175,260,063 |
|
|
|
176,806,267 |
|
|
|
(0.9 |
) |
|
|
175,542,616 |
|
|
|
177,212,677 |
|
|
|
(0.9 |
) |
For the three and nine months ended September 30, 2006, consolidated property casualty
earned premium growth was in line with our expectations. Pretax investment income growth
accelerated over the 2005 level. The increase in revenue in the nine months ended September
30, 2006, largely was due to $647 million of realized investment gains from the previously
announced sale of our holdings of ALLTEL Corporation (NYSE:AT) common stock.
Net income and net income per share for the three months ended September 30, 2006,
reflected rising loss severity, particularly an increase in the number of losses greater
than $1 million. Net income and net income per share for the nine months ended September
30, 2006, reflected rising severity and higher catastrophe losses this year.
Due to the gain from the sale of our ALLTEL holding, net income and net income per share
for the nine months ended September 30, 2006, were at a level that we do not anticipate
achieving in future quarters. Realized investment gains and losses are integral to our
financial results over the long term, but we have substantial discretion in the timing of
investment sales and, therefore, the gains or losses that will be recognized in any period.
That discretion generally is independent of the insurance underwriting process. Also,
applicable accounting standards require us to recognize gains and losses from certain
changes in fair values of securities and embedded derivatives without actual realization of
those gains and losses.
|
|
2006 Realized investment gains were immaterial in the three months ended
September 30, 2006. Realized investment gains in the nine months ended September 30,
2006, raised net income by $426 million, or $2.43 per share, after applicable income
taxes. The sale of our ALLTEL holding contributed $412 million, or $2.34 per share, of
the gain in the nine-month period. |
|
|
2005 Realized investment gains in the three months ended September 30, 2005,
raised net income by $10 million, or 5 cents per share, after applicable income taxes.
Realized investment gains in the nine months |
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
15 |
ended September 30, 2005, raised net
income by $24 million, or 14 cents per share, after applicable income taxes.
The quarter and nine-month change in consolidated property casualty underwriting profits
also contributed to the change in net income and net income per share. Underwriting profits
for the three months ended September 30, 2006, rose as lower catastrophe losses offset an
increase in loss severity. Underwriting profits for the nine months ended September 30,
2006, declined primarily due to rising loss severity, increased catastrophe losses and
higher underwriting expenses.
One of the factors in the rise in expenses was the adoption of Statement of Financial
Accounting Standards (SFAS) No. 123(R) Share-Based Payments, which requires expensing the
cost of associate options on our income statement. On an after-tax basis, stock option
expense was $3 million, or 2 cents per share, in the three months ended September 30, 2006,
and $11 million, or 6 cents per share, in the nine months ended September 30, 2006. Prior
to January 1, 2006, we were not required to include stock option expense on our income
statement and disclosed the estimated impact of stock options on net income and earnings
per share in Note 1 to the Financial Statements. For the three and nine months ended
September 30, 2005, net income per share would have been reduced by approximately 2 cents
and 6 cents, if option expense had been included as an expense.
Net income per share for the three and nine months ended September 30, 2006, benefited from
a decline in diluted weighted average shares outstanding from year-end 2005. Weighted
average shares outstanding may fluctuate from period to period because we regularly
repurchase shares under board authorizations, and we issue shares when associates exercise
stock options.
The board of directors is committed to steadily increasing cash dividends and periodically
authorizing stock dividends and splits. Cash dividends declared per share rose 9.8 percent
and 11.7 percent in the three and nine months ended September 30, 2006, including an
adjustment for the 5 percent stock dividend paid in 2005. The board also is committed to
share repurchase. We purchased 142,566 shares at a total cost of $7 million in the three
months ended September 30, 2006, and 2,142,566 shares at a total cost of $95 million in the
nine months ended September 30, 2006.
Balance Sheet Data and Performance Measures
|
|
|
|
|
|
|
|
|
|
|
At September 30, |
|
At December 31, |
(Dollars in millions except share data) |
|
2006 |
|
2005 |
|
Balance sheet data |
|
|
|
|
|
|
|
|
Invested assets |
|
$ |
13,104 |
|
|
$ |
12,702 |
|
Total assets |
|
|
17,671 |
|
|
|
16,003 |
|
Short-term debt |
|
|
49 |
|
|
|
0 |
|
Long-term debt |
|
|
791 |
|
|
|
791 |
|
Shareholders equity |
|
|
6,464 |
|
|
|
6,086 |
|
Book value per share |
|
|
37.32 |
|
|
|
34.88 |
|
Debt-to-capital ratio |
|
|
11.5 |
% |
|
|
11.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended Sept. 30, |
|
Nine months ended Sept. 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
|
Performance measures |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income (loss) |
|
$ |
455 |
|
|
$ |
(59 |
) |
|
$ |
609 |
|
|
$ |
(39 |
) |
Return on equity, annualized |
|
|
7.4 |
% |
|
|
7.7 |
% |
|
|
17.0 |
% |
|
|
9.1 |
% |
Return on equity, annualized,
based on comprehensive income |
|
|
29.1 |
|
|
|
(3.9 |
) |
|
|
12.9 |
|
|
|
(0.8 |
) |
Invested assets rose because of new investments, interest-rate driven improvement in
bond values and appreciation of our equity portfolio. Total assets rose over the year-end
2005 levels in part because of the new securities lending collateral asset of $1.016
billion. Shareholders equity was up 6.2 percent at September 30, 2006, reflecting the
appreciation of invested assets. Book value rose by $2.44 to $37.32.
Comprehensive income is net income plus the change in net other accumulated comprehensive
income. The change in net other accumulated comprehensive income is the difference in
unrealized gains on investments between the end of a quarter and the prior period-end. In
the three months ended September 30, 2006, comprehensive income rose because of the
increase in unrealized gains on investments. In the nine months ended September 30, 2006,
comprehensive income rose because of the increase in net income and the increase in
unrealized gains on investments.
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
16
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Property Casualty Highlights
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
Nine months ended September 30, |
(Dollars in millions except share data) |
|
2006 |
|
2005 |
|
Change % |
|
2006 |
|
2005 |
|
Change % |
|
Property casualty highlights |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
780 |
|
|
$ |
761 |
|
|
|
2.4 |
|
|
$ |
2,423 |
|
|
$ |
2,349 |
|
|
|
3.2 |
|
Earned premiums |
|
|
791 |
|
|
|
765 |
|
|
|
3.4 |
|
|
|
2,362 |
|
|
|
2,283 |
|
|
|
3.5 |
|
Underwriting profit |
|
|
31 |
|
|
|
26 |
|
|
|
19.0 |
|
|
|
137 |
|
|
|
205 |
|
|
|
(33.4 |
) |
GAAP combined ratio |
|
|
96.1 |
|
|
|
96.6 |
|
|
|
|
|
|
|
94.2 |
|
|
|
91.0 |
|
|
|
|
|
Statutory combined ratio |
|
|
96.4 |
|
|
|
96.6 |
|
|
|
|
|
|
|
93.2 |
|
|
|
90.1 |
|
|
|
|
|
The trend in overall written and earned premium growth rates continued to reflect the
market factors and competitive strategies discussed in our 2005 Annual Report on Form 10-K,
Item 1, Commercial Lines and Personal Lines Property Casualty Insurance Segments, Page 10
and Page 11.
Our consolidated property casualty insurance underwriting profit rose slightly for the
three months ended September 30, 2006, while declining for the nine months ended September
30, 2006, as discussed above. Our combined ratio reflected these changes. (The combined
ratio is the percentage of each premium dollar incurred for claims plus all expenses the
lower the ratio, the better the performance.)
Measuring Our Success in 2006 And Beyond
We use a variety of metrics to measure the success of our strategies:
|
|
Maintaining our strong relationships with our established agencies, writing a significant
portion of each agencys business and attracting new agencies In 2006, we expect to
continue to rank No. 1 or No. 2 by premium volume in at least 74 percent or more of the
agency locations that have marketed our products for more than five years. We are
targeting 55 to 60 new agency appointments. In the first nine months of 2006, we made 49
agency appointments. These new appointments and other changes in agency structures
brought total reporting agency locations to 1,286, a net increase of 34 since year-end
2005. |
|
|
|
In 2006, we expect to make further progress in our efforts to improve service to and
communication with our agencies. Among other actions, we subdivided two field marketing
territories in the first nine months of the year and staffed a third territory in
October, giving our field marketing representatives more time to spend in each agency.
We also continued to enhance our expanding portfolio of software. We discussed our
technology plans for 2006 in
our 2005 Annual Report on Form 10-K, Item 1, Technology Solutions, Page 4. In the nine
months ended September 30, 2006, we made progress toward the technology objectives we
established for the year: |
|
|
|
Three commercial lines and one personal lines system form the core of our quoting and
policy processing systems. Agencies access our quoting and policy processing systems via
CinciLink®, our secure agency-only Web site. |
|
o |
|
WinCPP® is an online commercial lines rating and quoting system for
businessowner, commercial package, commercial auto and workers compensation
policies. We are on track to achieve our 2006 objective of rolling out quoting for
specialty programs for metalworkers and garage owners. We now expect to add data
sharing capabilities with agency systems in early 2007. |
|
|
o |
|
e-CLAS is a commercial lines policy processing system. Businessowner Policy
(BOP) and Dentists Package Policy (DBOP) processing now is available through
e-CLAS in Arkansas, Indiana, Michigan, Ohio and Pennsylvania. We are moving forward
with development of commercial auto and commercial package policy processing
capabilities. |
|
|
o |
|
CinciBond is an automated system to process license and permit surety bonds.
CinciBond now is deployed in Indiana, Illinois, North Carolina, Ohio and Tennessee,
with Georgia, Minnesota, Missouri, Utah and Vermont scheduled for later in 2006. |
|
|
o |
|
Diamond is our personal lines policy processing system. In the first nine
months of 2006, $424 million of our $570 million of personal lines written premium
was issued through Diamond. In 2006, agents in Georgia, Kentucky, Minnesota,
Missouri, Tennessee and Wisconsin have begun using Diamond. As a result, Diamond is
in use in states that represent approximately 90 percent of our personal lines
premium volume. Our plans for 2007 include the introduction of Diamond in
Pennsylvania and Virginia and other low personal lines volume states. |
Many systems automate our internal processes so our associates can spend more time
serving agents and policyholders. These systems are accessed through CFCNet®, our secure
intranet. Enhancement activities for two newer systems continue:
|
o |
|
CMS is a claims file management system. We continue to refine the system to
add capabilities to make our associates more effective. During the first nine
months of 2006, we issued tablet computers to our field claims representatives.
These units allow our claims representatives to view and enter information into |
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
17 |
|
|
|
CMS from any location, including an insureds home or agents office, and to print
claims checks using wireless printers. Agent access to selected CMS information is
planned for 2007. |
|
|
o |
|
i-View is a commercial lines policy imaging and workflow system now in use by
all of our commercial lines underwriting teams. During the remainder of the year,
we expect to begin providing field and other headquarters associates with access to
these electronic files. |
|
|
We also continue to work to give independent agents enhanced access to Cincinnatis
systems and client data quickly and easily through their agency systems. In 2006 and
2007, we plan to advance our use of industry integration products, TransactNOW® and
Transformation Station®. |
|
|
|
Achieving above-industry-average growth in property casualty statutory net written
premiums and maintaining industry-leading profitability by leveraging our regional
franchise and proven agency-centered business strategy We now expect consolidated
property casualty written premium growth of at least 2 percent in 2006 compared with
the 2.6 percent increase in 2005. We anticipate continued above-average growth in
commercial lines written premiums. We may not achieve our objective of
above-industry-average growth in total in 2006 because of the rate-driven declines we
anticipate in personal lines written premiums. |
|
|
|
We now anticipate a combined ratio for 2006 in the range of 94 percent to 95 percent (93
percent to 94 percent on a statutory basis), primarily due to the level of catastrophe
losses through the first nine months of 2006 and preliminary estimates of catastrophe
losses in October 2006. Previously, our combined ratio estimate for 2006 was 92 percent
to 94 percent on a GAAP basis compared with 89.2 percent on a GAAP basis in 2005.
Considerations include: |
|
o |
|
Catastrophe losses of at least 5.0 percentage points on combined ratio We
originally allowed for full year catastrophe losses, net of reinsurance, of
approximately $125 million to $145 million, contributing in the range of 4.0 to 4.5
percentage points to the full-year 2006 combined ratio. We had raised our estimate
from the historical range of 3.0 to 3.5 percentage points to account for the
potential of severe weather, such as weve seen in the past two years and for the higher
retention on our 2006 catastrophe reinsurance treaty. |
|
|
|
|
Catastrophe losses in the third quarter of 2006 totaled $27 million, reflecting $19
million from events during the period and $8 million of net unfavorable development
from prior period catastrophes, compared with $66 million in the third quarter of
2005. The development of prior period catastrophe losses primarily relates to the
April 13-15 wind and hailstorm in the Midwest. Policyholders in the Indianapolis
market continue to report hail damage that has caused our estimate of total losses
from this event to rise by approximately $10 million from the second-quarter 2006
level. |
|
|
|
|
Catastrophe losses for the first nine months of 2006 totaled $130 million,
contributing 5.5 percentage points to the nine-month combined ratio, compared with
$83 million, contributing 3.6 percentage points, in the first nine months of 2005. |
|
|
|
|
In addition to catastrophe losses reported for the first nine months of 2006, a
Midwest storm in early October caused heavy hail damage in central Ohio, resulting
in at least $35 million of losses for our policyholders, which will be included in
fourth-quarter results. That estimate does not take into account any catastrophe
activity that may occur in the remainder of the fourth quarter of 2006 or potential
development from events in prior periods. |
|
|
o |
|
Rising loss severity, including an increase in the number of losses greater
than $1 million, resulted in higher loss and loss expense ratios excluding
catastrophe losses for the first nine months of 2006. Our initial analysis has
turned up no new trend in the sources of these losses no geographic
concentration, no policy age concentration, no cause of loss concentration and
different influences on each of the three most affected business lines commercial
auto, workers compensation and homeowners. |
|
|
|
|
We believe commercial auto results reflected the increasing competition in the
commercial lines marketplace. Workers compensation reflected a review we made of
established case reserves. Homeowner results appeared to reflect industrywide trends
of higher material costs and insured property values as well as rising deductibles.
Underwriting results remained healthy for our other business areas, including our
two largest commercial business lines commercial property and commercial casualty
and our largest personal business line personal auto. |
|
|
o |
|
Lower level of savings from loss reserve development We continue to believe
that savings from favorable loss reserve development from prior accident years is
likely to reduce the 2006 combined ratio in line with historical levels of 2 to 3
percentage points. Higher-than-normal savings, particularly for liability
coverages, reduced the 2005 combined ratio by 5.2 percentage points and the 2004
combined ratio by 6.7 percentage points. Net savings for the nine months ended
September 30, 2006, was 1.5 percent points. In the first nine months of 2005,
savings lowered the loss and loss expense ratio by 3.5 percentage points. |
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
18
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Trends in both the loss and loss expense ratio and underwriting expense ratio also could
affect the full-year 2006 combined ratios for our commercial lines and personal lines
segments:
|
o |
|
The degree of price softening in the commercial lines marketplace will affect
the 2006 loss and loss expense ratio for that business segment. That ratio may move
up slightly as pricing becomes more competitive. |
|
|
o |
|
We believe we have taken actions to improve competitiveness for personal lines
by adjusting pricing. These changes could lead to a full year loss and loss expense
ratio above the improved level we had achieved in 2005. The ratio may increase
further, if premiums continue to decline. |
|
|
o |
|
For both commercial lines and personal lines, lower growth rates could lead to
further unfavorable year-over-year comparisons in the ratios of deferred
acquisition costs and
other underwriting expenses to earned premiums. Continued investment in technology
also may contribute to an increase in other underwriting expenses. |
|
|
Pursuing a total return investment strategy that generates both strong investment
income growth and capital appreciation For full-year 2006, we now are estimating
that pretax investment income growth could be in the range of 8.0 percent to 8.5
percent. This outlook is based on strong cash flows from insurance operations, a
higher-than-historical allocation of new cash flow to fixed-maturity securities over
the last two years and an increase in the general level of interest rates. |
|
|
|
We do not establish annual capital appreciation targets. Over the long term, our target
is to have the equity portfolio outperform the Standard & Poors 500 Index, a common
benchmark of market performance. In the first nine months of 2006, our equity
portfolios total return of 7.9 percent was below the 8.5 percent return for the Index.
Over the five years ended September 30, 2006, our compound annual equity portfolio
return was 0.9 percent compared with a compound annual total return of 7.0 percent for
the Index. Our equity portfolio performance reflected the decline in the market value of
our holdings of Fifth Third common stock, which generated a negative annualized return
of 6.7 percent for the five-year period ended September 30, 2006. |
|
|
|
Increasing the total return to shareholders through a combination of higher
earnings per share, growth in book value and increasing dividends We do not announce
annual targets for earnings per share or book value. Earnings results in 2006 are
being tempered by the adoption of SFAS No. 123(R), which requires expensing the cost
of associate stock options on our income statement. We continue to anticipate that
stock option expense will reduce full-year earnings per share by approximately 8
cents. |
|
|
|
Over the long term, we look for our earnings per share growth to outpace that of a peer
group of national and regional property casualty insurance companies. Long-term book
value growth should approximate that of our equity portfolio. The board of directors is
committed to steadily increasing cash dividends and periodically authorizing stock
dividends and splits. In February 2006, the board increased the indicated annual
dividend rate for the 46th consecutive year, a record we believe is matched
by only 11 other U.S. publicly traded corporations. |
|
|
|
Over the long-term, we also seek to increase earnings per share, book value and
dividends at a rate that would allow long-term total return to our shareholders to
exceed that of the Standard & Poors Composite 1500 Property Casualty Insurance Index.
As provided in our 2006 Proxy Statement, over the five years ended December 31, 2005,
our total return to shareholders of 40.9 percent matched the return on that Index. |
|
|
|
Maintaining financial strength by keeping the ratio of debt to capital below 15
percent and purchasing reinsurance to provide investment flexibility - Based on our
present capital requirements, we do not anticipate a material increase in debt levels
during the remainder of 2006. Our consolidated debt-to-capital ratio was 11.5 percent
at September 30, 2006 and December 31, 2005. |
|
|
|
Our property casualty reinsurance program for 2006 maintains the balance between the
cost of the program and the level of risk we retain. We now anticipate that under the
new program, our 2006 reinsurance premiums should be $11 million to $12 million lower
than 2005, without taking into account the reinstatement premium we incurred in 2005.
For more details on our reinsurance programs, please see our 2005 Annual Report on Form
10-K, Item 7, 2006 Reinsurance Programs, Page 68. |
|
|
|
Our property casualty and life operations are awarded insurer financial strength
ratings. These ratings assess an insurers ability to meet its financial obligations to
policyholders and do not necessarily address matters that may be important to
shareholders. |
|
|
|
On September 15, 2006, Fitch Ratings affirmed the AA- issuer default rating and A+
senior debt ratings of Cincinnati Financial Corporation. Further, it affirmed the AA
insurer financial strength ratings of our three property casualty companies and The
Cincinnati Life Insurance Company. The AA rating is at the fourth highest level of
Fitchs 21 rating levels. Fitch said the ratings are based on the strong financial
condition of our operating subsidiaries, excellent financial flexibility and successful
total return investment strategy. The ratings |
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
19 |
consider the property casualty groups
investment concentration in a small number of common stocks and geographic concentration
in Ohio and Midwestern states.
As reported in our 10-Q for the quarter ended June 30, 2006, on July 25, 2006, Standard
& Poors Ratings Services affirmed its A (Strong) counterparty credit rating on
Cincinnati Financial Corporation and its AA- (Very Strong) financial strength and
counterparty credit ratings on the property casualty group and The Cincinnati Life
Insurance Company. The AA- is at the fourth highest level of Standard & Poors 21 rating
levels.
At the same time, Standard & Poors revised its outlook on the company, our property
casualty operating companies and Cincinnati Life to stable from negative. Standard &
Poors said the revised outlook reflected the improved results on our homeowner book of
business, as well as its view of our ability to benefit from corrective actions we have
effected over recent years. Standard & Poors said they believe our unique approach to
agency relationships should drive profitable growth even in a softer pricing
environment.
As reported in our 10-Q for the quarter ended March 31, 2006, on April 28, 2006, A.M.
Best affirmed the financial strength rating (FSR) of A++ (Superior) for our property
casualty group. The A++ FSR is the highest possible rating of Bests 16 rating levels.
A.M. Best also affirmed the senior debt ratings and issuer credit rating (ICR) of aa- of
Cincinnati Financial Corporation. Additionally, A.M. Best affirmed the FSR of A+
(Superior) and the ICR of aa- of The Cincinnati Life Insurance Company. The A+ FSR is
the second highest of Bests 16 rating levels. Concurrently, A.M. Best downgraded the
ICRs to aa+ from aaa for our property casualty insurance companies, reflecting the
companys investment and geographic risk concentrations at current rating levels. The
outlook for all ratings is stable.
As of November 1, 2006, our financial strength ratings were unchanged from those we
reported in our 2005 Annual Report on Form 10-K. The outlook from Standard & Poors has
changed to stable from negative.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent Company |
|
|
Property Casualty |
|
|
|
|
|
|
Senior Debt |
|
|
Insurance |
|
Life Insurance |
|
|
|
|
Rating |
|
|
Subsidiaries |
|
Subsidiary |
|
Outlook |
|
|
|
|
|
Financial Strength Ratings: |
|
|
A. M. Best Co.
|
|
aa-
|
|
|
A++
|
|
Superior
|
|
A+
|
|
Superior
|
|
Stable |
Fitch Ratings
|
|
A+
|
|
|
AA
|
|
Very Strong
|
|
AA
|
|
Very Strong
|
|
Stable |
Moodys Investors Services
|
|
A2
|
|
|
Aa3
|
|
Excellent
|
|
-
|
|
-
|
|
Stable |
Standard & Poors Ratings Services
|
|
A
|
|
|
AA-
|
|
Very Strong
|
|
AA-
|
|
Very Strong
|
|
Stable |
Property casualty statutory surplus was $4.616 billion at September 30, 2006, with
the ratio of property casualty common stock to statutory surplus at 92.6 percent. At
year-end 2005, property casualty statutory surplus was $4.194 billion, with the ratio of
common stock to surplus at 97.0 percent. Life statutory surplus
was $461 million at
September 30, 2006, with the ratio of life common stock to statutory adjusted capital
and surplus at 85.8 percent. At year-end 2005, life statutory surplus was $451 million,
with the ratio of common stock to statutory adjusted capital and surplus at 83.5
percent.
We believe that our strong surplus position and superior insurer financial strength
ratings are clear, competitive advantages in the segment of the insurance marketplace
that our agents serve. Our financial strength supports the consistent, predictable
performance that our policyholders, agents, associates and shareholders have always
expected and received, and it must be able to withstand significant challenges. The most
important way we seek to ensure that our performance remains consistent and predictable
is to align agents interests with those of the company, giving agents outstanding
service and compensation to earn their best business and enhance their ability to serve
the businesses and individuals in their communities.
We continue to review the risk management and capital requirement changes that have been
proposed by the rating agencies. Additionally, we began a formal implementation of
enterprise risk management in 2005. Detailed and summary risk assessments, operational
audits, strategic plans and departmental business plans are reported as appropriate to
executives, directors and board committees.
We believe that our property catastrophe reinsurance program provides adequate
protection for large loss events. Our strong capital position would allow the payment of
claims if an event exceeded our reinsurance program. Swiss Reinsurance America
Corporation and GE Insurance Solutions, two of the four participants in our 2006
property
and casualty per-occurrence reinsurance programs, recently merged. All four of the
participants (including Munich Reinsurance America Inc. and Partner Reinsurance Company
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
20
|
|
Form 10-Q for the quarter ended September 30, 2006 |
of the U.S.) currently have A.M. Best insurer financial strength ratings of A
(Excellent) or A+ (Superior). In 2007 and beyond, we anticipate reallocating
participation on our reinsurance treaties.
Factors supporting our outlook for 2006 are discussed below in the Results of Operations
for each of the four business segments.
Results of Operations
The consolidated results of operations reflect the operating results of each of our
four segments along with the parent company and other non-insurance activities. The four
segments are:
|
|
Commercial lines property casualty insurance |
|
|
Personal lines property casualty insurance |
We measure profit or loss for our property casualty and life segments based upon
underwriting results. Insurance underwriting results (profit or loss) represent net earned
premiums less loss and loss expenses and underwriting expenses on a pretax basis. We also
measure aspects of the performance of our commercial lines and personal lines segments on a
combined property casualty insurance operations basis. Underwriting results and segment
pretax operating income are not a substitute for net income determined in accordance with
GAAP. Life insurance segment revenues also include separate account investment management
fees, and life insurance segment expenses include contract holder benefits and expenses
incurred, less investment interest credited to contract holders.
For the combined property casualty insurance operations as well as the commercial lines and
personal lines segments, statutory accounting data and ratios are key performance
indicators that we use to assess business trends and to make comparisons to industry
results, since GAAP-based industry data generally is not readily available. We also use
statutory accounting data and ratios as key performance indicators for our life insurance
operations. We do not believe that inflation has had a material effect on consolidated
results of operations, except to the extent that inflation may affect interest rates. We
continue to monitor market trends in construction costs that could affect claim payments
and headquarters construction costs.
Investments held by the parent company and the investment portfolios for the property
casualty and life insurance subsidiaries are managed and reported as the investments
segment, separate from the underwriting businesses. Net investment income and net realized
investment gains and losses for our investment portfolios are discussed in the Investments
Results of Operations.
The calculations of segment data are described in more detail in Item 1, Note 2 of the
Consolidated Financial Statements, Page 12. The following sections review results of
operations for each of the four segments. Commercial Lines Insurance Results of Operations
begins on Page 23, Personal Lines Insurance Results of Operations begins on Page 29, Life
Insurance Results of Operations begins on Page 33, and Investments Results of Operations
begins on Page 34. We begin with an overview of our consolidated property casualty
operations, which is the total of our commercial lines and personal lines segments.
|
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Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
21 |
Consolidated Property Casualty Insurance Results of Operations
|
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Three months ended September 30, |
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|
Nine months ended September 30, |
|
(Dollars in millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Written premiums |
|
$ |
780 |
|
|
$ |
761 |
|
|
|
2.4 |
|
|
$ |
2,423 |
|
|
$ |
2,349 |
|
|
|
3.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Earned premiums |
|
$ |
791 |
|
|
$ |
765 |
|
|
|
3.4 |
|
|
$ |
2,362 |
|
|
$ |
2,283 |
|
|
|
3.5 |
|
Loss and loss expenses excluding catastrophes |
|
|
489 |
|
|
|
435 |
|
|
|
12.2 |
|
|
|
1,375 |
|
|
|
1,312 |
|
|
|
4.8 |
|
Catastrophe loss and loss expenses |
|
|
27 |
|
|
|
66 |
|
|
|
(58.2 |
) |
|
|
130 |
|
|
|
83 |
|
|
|
57.2 |
|
Commission expenses |
|
|
147 |
|
|
|
151 |
|
|
|
(2.6 |
) |
|
|
452 |
|
|
|
451 |
|
|
|
0.4 |
|
Underwriting expenses |
|
|
94 |
|
|
|
84 |
|
|
|
11.4 |
|
|
|
256 |
|
|
|
225 |
|
|
|
13.7 |
|
Policyholder dividends |
|
|
3 |
|
|
|
3 |
|
|
|
39.4 |
|
|
|
12 |
|
|
|
7 |
|
|
|
56.5 |
|
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|
|
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|
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|
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|
|
|
|
|
|
|
|
|
Underwriting profit |
|
$ |
31 |
|
|
$ |
26 |
|
|
|
19.0 |
|
|
$ |
137 |
|
|
$ |
205 |
|
|
|
(33.4 |
) |
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Ratios as a percent of earned premiums: |
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Loss and loss expenses excluding catastrophes |
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|
61.7 |
% |
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|
56.9 |
% |
|
|
|
|
|
|
58.3 |
% |
|
|
57.5 |
% |
|
|
|
|
Catastrophe loss and loss expenses |
|
|
3.5 |
|
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8.6 |
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5.5 |
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3.6 |
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Loss and loss expenses |
|
|
65.2 |
|
|
|
65.5 |
|
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|
|
|
|
|
63.8 |
|
|
|
61.1 |
|
|
|
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|
Commission expenses |
|
|
18.7 |
|
|
|
19.8 |
|
|
|
|
|
|
|
19.1 |
|
|
|
19.7 |
|
|
|
|
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Underwriting expenses |
|
|
11.8 |
|
|
|
11.0 |
|
|
|
|
|
|
|
10.8 |
|
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|
9.9 |
|
|
|
|
|
Policyholder dividends |
|
|
0.4 |
|
|
|
0.3 |
|
|
|
|
|
|
|
0.5 |
|
|
|
0.3 |
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Combined ratio |
|
|
96.1 |
% |
|
|
96.6 |
% |
|
|
|
|
|
|
94.2 |
% |
|
|
91.0 |
% |
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Factors that affected consolidated property casualty insurance results included:
|
|
Premium growth Commercial lines net written premiums reached a record level for
the nine months ended September 30, 2006. That growth more than offset the expected
decline in personal lines written premiums. The net effect of reinsurance
reinstatement premiums and assumed pool adjustments in the third quarter of 2005 |
|
|
increased the net written premium growth rate by 0.5 and 0.1 percentage points,
respectively, for the three and nine months ended September 30, 2006. |
|
|
|
Total new business written directly by agencies was $98 million and $79 million in the
third quarters of 2006 and 2005, respectively, and $268 million and $231 million in the
nine months ended September 30, 2006 and 2005. A record level of new commercial lines
business in the first nine months of 2006 more than offset a decline in new personal
lines business. In the third quarter, new business grew for both commercial lines and
personal lines. |
|
|
|
Change in loss and loss expense ratio excluding catastrophes For the three months
ended September 30, 2006, the consolidated property casualty combined ratio improved
from the year-ago period due to a lower level of commercial lines catastrophe losses,
which offset a rise in loss severity in selected commercial and personal business
lines and a lower level of savings from favorable development on prior period
reserves. For the nine months ended September 30, 2006, the ratio increased due to
increasingly competitive pricing, rising loss severity, increased catastrophe losses,
a lower level of savings from favorable development on prior period reserves and
higher underwriting expenses. The loss and loss expense ratio for the nine months
ended September 30, 2005, also included 1.1 percentage points from a single large loss
that was insufficiently covered by our facultative reinsurance. |
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|
|
For the three months ended September 30, 2006, net savings from favorable development on
prior period reserves lowered the loss and loss expense ratio by 4.9 percentage points
compared with 6.5 percentage points in last years third quarter. Net development for
the nine months ended September 30, 2006, lowered the loss and loss expense ratio by 1.5
percentage points. In the first nine months of 2005, net development lowered the loss
and loss expense ratio by 3.5 percentage points. The year-over-year differences largely
related to development on commercial casualty losses, which can fluctuate due to the
nature and size of liability policies and limits, such as those on commercial umbrella
policies. |
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|
Cincinnati Financial Corporation |
22
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
Higher catastrophe losses Catastrophe losses for the three and nine months ended
September 30, 2006, were $27 million and $130 million, contributing 3.5 and 5.5
percentage points to the combined ratio. In the three and nine months ended September
30, 2005, catastrophe losses were $66 million and $83 million, contributing 8.6 and
3.6 percentage points to the combined ratio. |
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Reported |
|
|
Loss Estimate |
|
|
|
|
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|
Claims |
|
|
(pretax, net |
|
|
|
|
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(as of |
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|
of reinsurance, |
|
Nine-month 2006 Events |
|
Dates |
|
States Primarily Affected |
|
October 27) |
|
|
as of September 30) |
|
|
Midwest tornadoes and |
|
Mar. 11-13 |
|
Arkansas, Illinois, Indiana, Kansas, |
|
|
|
|
|
|
|
|
severe weather |
|
|
|
Missouri, Oklahoma |
|
|
1,629 |
|
|
$38 million |
Midwest wind and hail |
|
Apr. 2-3 |
|
Arkansas, Illinois, Indiana, Kentucky, |
|
|
1,227 |
|
|
$18 million |
|
|
|
|
Missouri, Tennessee |
|
|
|
|
|
|
|
|
Midwest wind and hail |
|
Apr. 6-8 |
|
Alabama, Georgia, Indiana, Kansas, |
|
|
976 |
|
|
$10 million |
|
|
|
|
Kentucky, Nebraska, Ohio, Tennessee |
|
|
|
|
|
|
|
|
Midwest wind and hail |
|
Apr. 13-15 |
|
Illinois, Indiana, Iowa, Wisconsin |
|
|
3,360 |
|
|
$38 million |
Midwest wind, hail and flood |
|
Jun. 18-22 |
|
Indiana, Ohio, Wisconsin |
|
|
535 |
|
|
$5 million |
Midwest wind, hail and flood |
|
Jul. 19-21 |
|
Illinois, Kentucky, Missouri, |
|
|
472 |
|
|
$6 million |
|
|
|
|
Tennessee and Wisconsin |
|
|
|
|
|
|
|
|
Midwest wind, hail and flood |
|
Aug. 23-25 |
|
Illinois, Indiana, Minnesota, Wisconsin |
|
|
337 |
|
|
$8 million |
|
|
Change in commission, underwriting and
policyholder dividend expense ratio
For the three months ended September
30, 2006, the total commission and
underwriting expense ratio declined
0.2 percentage points, as lower
commission accruals offset higher
underwriting expenses. For the nine
months ended September 30, 2006, the
ratio rose by 0.5 percentage points as
higher underwriting expenses more than
offset lower commission accruals. The
adoption of stock option expensing
contributed 0.4 and 0.5 percentage
points to the ratio in the three and
nine months ended September 30, 2006. |
Commercial Lines Insurance Results of Operations
Overview
Performance highlights for the commercial lines segment include:
|
|
Premiums Commercial lines written
and earned premiums rose in the three
and nine months ended September 30,
2006, due to our strong agency
relationships, which promoted healthy
new business growth and policyholder
retention. The effect of reinsurance
reinstatement premiums in the third
quarter of 2005 increased the
commercial lines net written premium
growth rate by 1.0 and 0.3 percentage
points, respectively, for the three
and nine months ended September 30,
2006. |
|
|
|
The competitive pricing environment continues, but we continue to select quality risks
and to underwrite and price them case by case. On an ongoing basis, we monitor loss
patterns and structure our products and our pricing accordingly. We also continued to
see a shift in our customer base to slightly larger accounts as our policy count
remained relatively stable. |
|
|
|
We believe that our written premium growth rate continues to exceed the average for the
overall commercial lines industry. A.M. Best estimates that overall commercial lines
industry net written premium growth was 1.9 percent for the first six months of 2006.
New commercial lines business written directly by agencies in the three months ended
September 30, 2006, grew by 25.1 percent to a record $89 million from $71 million in the
comparable 2005 period.
New commercial lines business in the nine months ended September 30, 2006, rose 18.5
percent to $244 million from $206 million in the comparable 2005 period. |
|
|
|
Combined ratio Our commercial lines combined ratios exceeded our targeted levels
in the three and nine months ended September 30, 2006, largely because of rising loss
severity including an increase in the number of losses greater than $1 million.
Commercial auto results reflected the increasing competition in the commercial lines
marketplace and workers compensation results reflected a review we conducted of
established case reserves. |
|
|
|
Our commercial lines combined ratio for the three months ended September 30, 2006, was
lower than the year earlier period, largely due to the significantly lower level of
catastrophe losses this year, which offset the higher loss and loss expense ratio
excluding catastrophe losses. Our commercial lines combined ratio for the nine months
ended September 30, 2006, was higher than the year earlier period due to the higher
level of catastrophe losses this year and the increase in the loss and loss expense
ratio excluding catastrophe losses. |
|
|
|
As discussed below, other factors affecting the comparisons included a lower level of
savings from favorable development on prior period reserves, changes in commission and
underwriting expenses as well as the adoption of stock option expensing and a single
large loss in last years first quarter. |
|
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|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
23 |
|
|
|
The commercial lines statutory combined ratio was 94.1 percent and 89.0 percent for the
three and nine months ended September 30, 2006, compared with 95.6 percent and 88.1
percent for the comparable prior periods. Under statutory accounting principles, stock
options expense is not included in the calculation of statutory income. |
Commercial Lines Results
|
|
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
|
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|
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|
|
Three months ended September 30, |
|
|
Nine months ended September 30, |
|
(Dollars in millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Written premiums |
|
$ |
582 |
|
|
$ |
546 |
|
|
|
6.5 |
|
|
$ |
1,853 |
|
|
$ |
1,741 |
|
|
|
6.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums |
|
$ |
602 |
|
|
$ |
564 |
|
|
|
6.7 |
|
|
$ |
1,783 |
|
|
$ |
1,678 |
|
|
|
6.3 |
|
Loss and loss expenses excluding catastrophes |
|
|
363 |
|
|
|
307 |
|
|
|
18.1 |
|
|
|
1,020 |
|
|
|
942 |
|
|
|
8.4 |
|
Catastrophe loss and loss expenses |
|
|
14 |
|
|
|
53 |
|
|
|
(73.4 |
) |
|
|
77 |
|
|
|
62 |
|
|
|
24.4 |
|
Commission expenses |
|
|
109 |
|
|
|
110 |
|
|
|
(0.5 |
) |
|
|
331 |
|
|
|
325 |
|
|
|
2.1 |
|
Underwriting expenses |
|
|
74 |
|
|
|
64 |
|
|
|
14.2 |
|
|
|
190 |
|
|
|
160 |
|
|
|
18.5 |
|
Policyholder dividends |
|
|
3 |
|
|
|
3 |
|
|
|
39.4 |
|
|
|
12 |
|
|
|
7 |
|
|
|
56.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriting profit |
|
$ |
39 |
|
|
$ |
27 |
|
|
|
44.9 |
|
|
$ |
153 |
|
|
$ |
182 |
|
|
|
(16.0 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratios as a percent of earned premiums: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss and loss expenses excluding catastrophes |
|
|
60.2 |
% |
|
|
54.4 |
% |
|
|
|
|
|
|
57.3 |
% |
|
|
56.1 |
% |
|
|
|
|
Catastrophe loss and loss expenses |
|
|
2.3 |
|
|
|
9.5 |
|
|
|
|
|
|
|
4.3 |
|
|
|
3.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss and loss expenses |
|
|
62.5 |
|
|
|
63.9 |
|
|
|
|
|
|
|
61.6 |
|
|
|
59.8 |
|
|
|
|
|
Commission expenses |
|
|
18.2 |
|
|
|
19.5 |
|
|
|
|
|
|
|
18.6 |
|
|
|
19.4 |
|
|
|
|
|
Underwriting expenses |
|
|
12.2 |
|
|
|
11.4 |
|
|
|
|
|
|
|
10.6 |
|
|
|
9.5 |
|
|
|
|
|
Policyholder dividends |
|
|
0.5 |
|
|
|
0.4 |
|
|
|
|
|
|
|
0.6 |
|
|
|
0.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Combined ratio |
|
|
93.4 |
% |
|
|
95.2 |
% |
|
|
|
|
|
|
91.4 |
% |
|
|
89.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss and Loss Expenses (excluding catastrophe losses)
Loss and loss expenses include both net paid losses and reserve additions for unpaid
losses as well as the associated loss expenses. The primary factor in the 5.8 percentage
point rise in the loss and loss expense ratio excluding catastrophe losses for the
three-month period was rising loss severity. In particular, we saw an increase in the
contribution of new losses and case reserve increases greater than $250,000 in our
commercial auto and workers compensation business lines.
The primary factor in the 1.2 percentage point rise in the loss and loss expense ratio
excluding catastrophes for the nine-month period was a lower level of savings from
favorable development on prior period reserves and this quarters rise in loss severity. A
single large loss in
the first three months of 2005, which was insufficiently covered by facultative
reinsurance, increased the commercial lines loss and loss expenses in the first nine months
of 2005 by $24 million, net of reinsurance, or 1.3 percentage points.
We monitor incurred losses by size of loss, business line, risk category, geographic
region, agency and field marketing territory, addressing concentrations or trends as
needed. Our analysis for the three and nine months ended September 30, 2006, indicated no
unexpected concentrations.
For the three months ended September 30, 2006, net savings from favorable development on
prior period reserves lowered the loss and loss expense ratio by 5.6 percentage points
compared with 8.4 percentage points in last years third quarter. Net development for the
nine months ended September 30, 2006, lowered the loss and loss expense ratio by 2.0
percentage points. In the first nine months of 2005, net development lowered the loss and
loss expense ratio by 5.4 percentage points. The year-over-year differences largely related
to development of commercial casualty losses, which can fluctuate due to the nature and
size of commercial liability policies and limits, such as those on commercial umbrella
policies.
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
24
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Commercial Lines Losses by Size
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
|
Nine months ended September 30, |
|
(Dollars in millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Losses $1 million or more |
|
$ |
51 |
|
|
|
24 |
|
|
|
111.6 |
|
|
$ |
121 |
|
|
|
93 |
|
|
|
30.4 |
|
Losses $250 thousand to $1 million |
|
|
36 |
|
|
|
27 |
|
|
|
38.0 |
|
|
|
104 |
|
|
|
77 |
|
|
|
34.4 |
|
Development and case reserve increases of $250
thousand or more |
|
|
46 |
|
|
|
35 |
|
|
|
28.9 |
|
|
|
135 |
|
|
|
103 |
|
|
|
31.7 |
|
Other losses excluding catastrophes |
|
|
163 |
|
|
|
156 |
|
|
|
4.5 |
|
|
|
464 |
|
|
|
478 |
|
|
|
(3.0 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total losses incurred excluding catastrophe losses |
|
|
296 |
|
|
|
242 |
|
|
|
22.4 |
|
|
|
824 |
|
|
|
751 |
|
|
|
9.7 |
|
Catastrophe losses |
|
|
14 |
|
|
|
53 |
|
|
|
(73.4 |
) |
|
|
77 |
|
|
|
62 |
|
|
|
24.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total losses incurred |
|
$ |
310 |
|
|
|
295 |
|
|
|
5.1 |
|
|
$ |
901 |
|
|
|
813 |
|
|
|
10.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratios as a percent of earned premiums: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Losses $1 million or more |
|
|
8.5 |
% |
|
|
4.3 |
% |
|
|
|
|
|
|
6.8 |
% |
|
|
5.5 |
% |
|
|
|
|
Losses $250 thousand to $1 million |
|
|
6.1 |
|
|
|
4.7 |
|
|
|
|
|
|
|
5.8 |
|
|
|
4.6 |
|
|
|
|
|
Development and case reserve increases of $250
thousand or more |
|
|
7.5 |
|
|
|
6.3 |
|
|
|
|
|
|
|
7.6 |
|
|
|
6.1 |
|
|
|
|
|
Other losses excluding catastrophes |
|
|
27.1 |
|
|
|
27.6 |
|
|
|
|
|
|
|
26.0 |
|
|
|
28.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss ratio excluding catastrophe losses |
|
|
49.2 |
|
|
|
42.9 |
|
|
|
|
|
|
|
46.2 |
|
|
|
44.7 |
|
|
|
|
|
Catastrophe losses |
|
|
2.3 |
|
|
|
9.5 |
|
|
|
|
|
|
|
4.3 |
|
|
|
3.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loss ratio |
|
|
51.5 |
% |
|
|
52.4 |
% |
|
|
|
|
|
|
50.5 |
% |
|
|
48.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commission Expenses
In the three and nine months ended September 30, 2006, commercial lines commission
expense as a percent of earned premium declined 1.3 and 0.8 percentage points from the
comparable 2005 periods, primarily due to a lower profit-sharing commission accrual
resulting from lower overall underwriting profits.
Profit-sharing, or contingent, commissions are calculated on the profitability of an
agencys aggregate book of business, taking into account longer-term profit, with a
percentage for prompt payment of premiums and other criteria. These profit-based
commissions reward our agents efforts, generally fluctuating with our loss and loss
expenses. A refinement and subsequent release of a contingent commission over-accrual from
2004 lowered the ratio for the first nine months of 2005 by 0.4 percentage points. Our 2006
contingent commission accrual reflects our estimate of the profit-sharing commissions to be
paid to our agencies in early 2007.
Underwriting Expenses
In the three months ended September 30, 2006, commercial lines noncommission
underwriting expenses (excluding policyholder dividends) as a percent of earned premium
rose
0.8 percentage points from the comparable 2005 period. The adoption of stock option
expensing contributed 0.4 percentage points to the increase. The remainder of the increase
in the ratio largely was due to higher technology and staffing expenses.
In the nine months ended September 30, 2006, the ratio rose 1.1 percentage points, largely
due to higher technology and staffing expenses. Stock option expensing contributed 0.5
percentage points to the nine-month increase.
Line of Business Analysis
Approximately 95 percent of our commercial lines premiums are written to provide
accounts with coverages from more than one of our business lines. As a result, we believe
that commercial lines is best measured and evaluated on a segment basis. However, we
provide the line of business data to summarize growth and profitability trends separately
for our business lines. The seven commercial business lines are:
|
|
Commercial casualty Commercial casualty insurance provides
coverage to businesses against third-party liability from
accidents occurring on their premises or arising out of their
operations, including coverage for injuries sustained from
products sold as well as coverage for professional services, such
as dental care. Specialized casualty policies may include coverage
for employment practices liability (EPLI), which protects
businesses against claims by employees that their legal rights as
employees of the company have been violated, and other acts or
failures to act under specified circumstances as well as excess
insurance and umbrella liability, including personal umbrella
written as an endorsement to commercial umbrella coverages. The
commercial casualty business line includes liability coverage
written on both a discounted and nondiscounted basis as part of
commercial package policies. Our ceded participation in USAIG, a
joint underwriting association, from 2003 and prior now is
included in the commercial casualty business line. |
|
|
Commercial property Commercial property insurance provides
coverage for loss or damage to buildings, inventory and equipment
caused by fire, wind, hail, water, theft and vandalism as well as
business interruption resulting from a covered loss. Commercial
property also includes crime insurance, which provides coverage
for losses due to embezzlement or misappropriation of funds by an
employee, and inland marine insurance, which provides coverage for
a variety of mobile equipment, such as builders risk, |
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
25 |
|
|
contractors equipment, cargo and electronic data processing
equipment. Various property coverages can be written as
stand-alone policies or can be added to a package policy. The
commercial property business line includes property coverage
written on both a nondiscounted and discounted basis as part of
commercial package policies. |
|
|
Commercial auto Commercial auto coverages protect businesses
against liability to others for both bodily injury and property
damage, medical payments to insureds and occupants of their
vehicles, physical damage to an insureds own vehicle from
collision and various other perils, and damages caused by
uninsured motorists. |
|
|
Workers compensation Workers compensation coverage protects
employers against specified benefits payable under state or
federal law for workplace injuries to employees. We write workers
compensation coverage in all of our active states except North
Dakota, Ohio and West Virginia, where coverage is provided solely
by the state instead of by private insurers. |
|
|
Specialty packages Specialty packages include coverages for
property, liability and business interruption tailored to meet the
needs of specific industry classes, such as artisan contractors,
dentists, garage operators, financial institutions, metalworkers,
printers, religious institutions, or smaller, main street
businesses. Businessowner policies, which combine property,
liability and business interruption coverages for small
businesses, are included in specialty packages. |
|
|
Surety and executive risk This business line includes: |
|
|
|
Contract and commercial surety bonds, which guarantee a payment or
reimbursement for financial losses resulting from dishonesty, failure to perform
and other acts. |
|
|
|
|
Fidelity bonds, which cover losses that policyholders incur as a result of
fraudulent acts by specified individuals or dishonest acts by employees. |
|
|
|
|
Directors and officers liability insurance, which covers liability for alleged
errors in judgment, breaches of duty and wrongful acts related to activities of
for-profit or nonprofit organizations. Our directors and officers liability policy
can optionally include EPLI coverage. |
|
|
Machinery and equipment Specialized machinery and equipment coverage can provide protection for loss or damage to
boilers and machinery, including production and computer equipment, from mechanical breakdown, steam explosion, or
artificially generated electrical current. |
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
26
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
The table below provides data for the three- and nine-month periods for the commercial business lines: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
Nine months ended September 30, |
(Dollars in millions) |
|
2006 |
|
2005 |
|
Change % |
|
2006 |
|
2005 |
|
Change % |
|
Commercial casualty: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
196 |
|
|
$ |
183 |
|
|
|
9.3 |
|
|
$ |
634 |
|
|
$ |
593 |
|
|
|
7.6 |
|
Earned premiums |
|
|
207 |
|
|
|
193 |
|
|
|
9.3 |
|
|
|
613 |
|
|
|
566 |
|
|
|
8.5 |
|
Loss and loss expenses incurred |
|
|
103 |
|
|
|
92 |
|
|
|
9.7 |
|
|
|
311 |
|
|
|
290 |
|
|
|
6.6 |
|
Loss and loss expense ratio |
|
|
49.4 |
% |
|
|
49.3 |
% |
|
|
|
|
|
|
50.8 |
% |
|
|
51.8 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
49.4 |
|
|
|
49.3 |
|
|
|
|
|
|
|
50.8 |
|
|
|
51.8 |
|
|
|
|
|
Commercial property: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
126 |
|
|
$ |
113 |
|
|
|
11.2 |
|
|
$ |
381 |
|
|
$ |
361 |
|
|
|
5.5 |
|
Earned premiums |
|
|
123 |
|
|
|
113 |
|
|
|
8.8 |
|
|
|
367 |
|
|
|
347 |
|
|
|
5.8 |
|
Loss and loss expenses incurred |
|
|
68 |
|
|
|
107 |
|
|
|
(36.7 |
) |
|
|
224 |
|
|
|
236 |
|
|
|
(5.2 |
) |
Loss and loss expense ratio |
|
|
54.9 |
% |
|
|
94.3 |
% |
|
|
|
|
|
|
61.0 |
% |
|
|
68.2 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
45.0 |
|
|
|
50.2 |
|
|
|
|
|
|
|
44.9 |
|
|
|
52.1 |
|
|
|
|
|
Commercial auto: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
105 |
|
|
$ |
108 |
|
|
|
(2.4 |
) |
|
$ |
345 |
|
|
$ |
341 |
|
|
|
1.2 |
|
Earned premiums |
|
|
113 |
|
|
|
115 |
|
|
|
(1.5 |
) |
|
|
337 |
|
|
|
340 |
|
|
|
(0.8 |
) |
Loss and loss expenses incurred |
|
|
82 |
|
|
|
69 |
|
|
|
18.4 |
|
|
|
211 |
|
|
|
203 |
|
|
|
4.2 |
|
Loss and loss expense ratio |
|
|
72.8 |
% |
|
|
60.6 |
% |
|
|
|
|
|
|
62.5 |
% |
|
|
59.6 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
73.3 |
|
|
|
60.4 |
|
|
|
|
|
|
|
61.5 |
|
|
|
59.4 |
|
|
|
|
|
Workers compensation: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
85 |
|
|
$ |
75 |
|
|
|
13.0 |
|
|
$ |
288 |
|
|
$ |
258 |
|
|
|
11.6 |
|
Earned premiums |
|
|
93 |
|
|
|
82 |
|
|
|
13.1 |
|
|
|
271 |
|
|
|
244 |
|
|
|
11.4 |
|
Loss and loss expenses incurred |
|
|
84 |
|
|
|
61 |
|
|
|
38.0 |
|
|
|
228 |
|
|
|
185 |
|
|
|
23.5 |
|
Loss and loss expense ratio |
|
|
90.3 |
% |
|
|
74.0 |
% |
|
|
|
|
|
|
84.1 |
% |
|
|
75.9 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
90.3 |
|
|
|
74.0 |
|
|
|
|
|
|
|
84.1 |
|
|
|
75.9 |
|
|
|
|
|
Specialty packages: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
35 |
|
|
$ |
35 |
|
|
|
0.2 |
|
|
$ |
109 |
|
|
$ |
105 |
|
|
|
3.0 |
|
Earned premiums |
|
|
35 |
|
|
|
34 |
|
|
|
1.2 |
|
|
|
106 |
|
|
|
103 |
|
|
|
3.0 |
|
Loss and loss expenses incurred |
|
|
26 |
|
|
|
24 |
|
|
|
7.5 |
|
|
|
78 |
|
|
|
73 |
|
|
|
5.8 |
|
Loss and loss expense ratio |
|
|
74.2 |
% |
|
|
69.9 |
% |
|
|
|
|
|
|
73.5 |
% |
|
|
71.5 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
67.1 |
|
|
|
60.0 |
|
|
|
|
|
|
|
60.2 |
|
|
|
66.2 |
|
|
|
|
|
Surety and executive risk: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
28 |
|
|
$ |
25 |
|
|
|
10.9 |
|
|
$ |
74 |
|
|
$ |
63 |
|
|
|
16.7 |
|
Earned premiums |
|
|
24 |
|
|
|
21 |
|
|
|
17.4 |
|
|
|
69 |
|
|
|
59 |
|
|
|
16.9 |
|
Loss and loss expenses incurred |
|
|
11 |
|
|
|
6 |
|
|
|
76.4 |
|
|
|
38 |
|
|
|
13 |
|
|
|
195.4 |
|
Loss and loss expense ratio |
|
|
47.3 |
% |
|
|
31.5 |
% |
|
|
|
|
|
|
55.6 |
% |
|
|
22.0 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
47.3 |
|
|
|
31.5 |
|
|
|
|
|
|
|
55.6 |
|
|
|
22.0 |
|
|
|
|
|
Machinery and equipment: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
7 |
|
|
$ |
7 |
|
|
|
(9.5 |
) |
|
$ |
22 |
|
|
$ |
20 |
|
|
|
5.0 |
|
Earned premiums |
|
|
7 |
|
|
|
6 |
|
|
|
4.2 |
|
|
|
20 |
|
|
|
19 |
|
|
|
4.5 |
|
Loss and loss expenses incurred |
|
|
3 |
|
|
|
1 |
|
|
|
119.3 |
|
|
|
7 |
|
|
|
4 |
|
|
|
88.7 |
|
Loss and loss expense ratio |
|
|
45.2 |
% |
|
|
21.5 |
% |
|
|
|
|
|
|
34.8 |
% |
|
|
19.3 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
43.1 |
|
|
|
21.3 |
|
|
|
|
|
|
|
34.0 |
|
|
|
19.3 |
|
|
|
|
|
Commercial Casualty
Commercial casualty written premiums rose 7.6 percent in the first nine months of
2006. We believe our commercial casualty premiums have benefited from the healthy business
economy and business growth, as well as higher exposures. Casualty pricing continues to
become more competitive.
The commercial casualty loss and loss expense ratio for the three-month period remained
essentially unchanged from the year-ago level, remaining within the range we consider
appropriate. The nine-month ratio improved from the year-ago level.
Commercial Property
Commercial property written premiums rose 5.5 percent in the first nine months of
2006. Commercial property premiums for the third quarter of 2005 were reduced by $5 million
of reinsurance reinstatement premiums, which added 5.0 and 1.5 percentage points to the
2006 three- and nine-month growth rates. Commercial property results reflect the more
competitive pricing environment in non-coastal markets. We continue to work to ensure we
receive adequate premiums for covered risks. This ongoing effort helps offset more
competitive market conditions.
The commercial property loss and loss expense ratios for the three and nine months were
improved from the year-ago levels, remaining within the range we consider appropriate in light of
the increasing competition in this market. For the three months, commercial property
catastrophe losses were substantially below the year-ago level, while nine-month
catastrophe losses were essentially even with the year-ago level. Excluding catastrophes,
the improvement in the ratio for the three- and nine-month periods reflected the more
favorable
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
27 |
level of development of prior period reserves this year. As noted above, a single
large loss contributed 6.9 percentage points to the ratio for the nine months ended
September 30, 2005.
Commercial Auto
Commercial auto written premiums rose 1.2 percent in the first nine months of 2006,
with a 2.4 percent decline in three-month written premiums due to pricing levels on new and
renewal business.
The commercial auto loss and loss expense ratios for the three and nine months of 2006
increased from the year-ago levels, partially reflecting higher loss severity with a modest
increase in the contribution from $1 million plus losses in the third quarter. Further,
favorable reserve development for commercial auto has continued but was below last years
unusually high level. Also, we are beginning to see the impact of the downward pressure on
pricing on underwriting results. Commercial auto is one of the business lines that we renew
and price annually, so market trends may be reflected here more quickly than in other
lines. Commercial auto also is generally one of the larger components of the typical
package.
We remain focused on commercial auto underwriting and rate levels, making certain that
vehicle use is properly classified and driver suitability is monitored. Those actions and a
declining industrywide frequency trend should help mitigate projected increases in
industrywide severity.
Workers Compensation
Workers compensation written premiums rose 11.6 percent in the first nine months of
2006. Workers compensation premiums are benefiting from the healthy business economy and
related payroll growth. Premiums also may be benefiting from initiatives to modestly expand
our workers compensation business in selected states. In Ohio, our largest state on a
consolidated basis, we cannot offer workers compensation coverage because it is a state
monopoly, provided solely by the state instead of private insurers.
We pay a lower commission rate on workers compensation business, which means this line has
a higher loss and loss expense breakeven point than our other commercial business lines.
The workers compensation loss and loss expense ratios for the three and nine months of
2006 were above the year-ago levels.
Results for the quarter included four losses greater than $1 million, totaling over $11
million. They added approximately 12 percentage points to the workers compensation loss
and loss expense ratio. Our philosophy is to establish initial case reserves to reflect
estimated ultimate payouts. The
higher initial reserves established in the third quarter for newly reported claims
demonstrate our commitment to applying our claims reserving philosophy to this business
line.
Over recent months, we have reviewed each of our established workers compensation case
reserves above $100,000, in light of current trends in medical cost inflation and estimated
payout periods. The review led to the allocation of approximately $60 million to case
reserves held for specific claims from accident years going back as much as 20 years.
Reductions to IBNR offset approximately $44 million of those reserve increases. We had
raised workers compensation IBNR in the fourth quarter of last year, in light of the
trends identified in the workers compensation market. In total, net workers compensation
reserves increased 4.2 percent to $689 million at
September 30, 2006, from $661 million at
June 30, 2006. However, small shifts in our current estimates of medical cost inflation and
estimated payout periods could have a significant effect on our potential future liability
compared with our current projections.
Specialty Packages
Specialty packages written premiums rose 3.0 percent in the first nine months of 2006.
The rollout we have begun of our commercial lines policy processing system should help us
to meet changing agency needs and address the pricing, technology and service systems other
carriers have introduced for similar products in recent years.
The specialty packages loss and loss expense ratios for the three and nine-months increased
over the year-ago levels. Excluding catastrophes, the three-month ratio rose from the
year-ago levels, while the nine-month ratio improved.
Surety and Executive Risk
Surety and executive risk written premiums rose 16.7 percent in the first nine months
of 2006. The loss and loss expense ratios for the three- and nine-months were above the
year-ago levels. The increase for the nine months was primarily due to several new losses
and case reserve increases greater than $250,000, primarily related to directors and
officers liability coverages in the second quarter. Surety and executive risk losses can
fluctuate significantly, and we do not believe that the increase in the third-quarter or
nine-month ratios is indicative of any new trend or risk.
Machinery and Equipment
Machinery and equipment written premiums rose 5.0 percent in the first nine months of
2006, and the loss and loss expense ratio was 34.8 percent.
|
|
|
|
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|
|
Cincinnati Financial Corporation |
28
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Commercial Lines Insurance Outlook
At year-end 2005, A.M. Best anticipated industrywide commercial lines written premiums
would rise approximately 2.3 percent in 2006. Through the first six months of 2006,
industry commercial lines written premiums are estimated to have risen 1.9 percent. For the
first nine months of 2006, our commercial lines written premiums rose 6.4 percent. We
expect our commercial lines segment written premium growth to exceed the industry for
full-year 2006.
During the third quarter of 2006, agents continued to report that renewal pricing pressure
was rising and that new business was requiring more pricing flexibility and more careful
risk selection. We continue to need to use credits more frequently to retain renewals of
quality business the larger the account, the higher the credits, with variations by
geographic region and class of business. Renewal rates on most coverages are flat to
modestly down, exclusive of any changes in an accounts exposure.
We intend to continue to market our products to a broad range of business classes, price
our products adequately and take a package approach. We also plan to maintain our
underwriting selectivity and carefully manage our rate levels, as well as our programs that
seek to accurately match exposures with appropriate premiums. We will continue to evaluate
each risk individually and to make decisions regarding rates, the use of three-year
commercial policies and other policy terms on a case-by-case basis, even in lines and
classes of business that are under competitive pressure. New marketing territories staffed
over the past several years and new agency appointments are contributing to commercial
lines growth.
Since the 2005 hurricane season, commercial lines pricing has grown more competitive in
non-coastal markets. We believe that so far, the effect of those hurricanes on pricing
largely has been limited to coastal markets and business lines directly affected by the
storms. However,
most of our regional competitors are financially strong and reporting high profitability.
Further, the potential remains for accelerated competition if carriers that choose to exit
coastal markets look to replace market share in our core Midwest markets. We believe that
no area is immune to catastrophes as this years storms show but our local knowledge
and strong agency relationships are advantages that help us underwrite successfully and
grow profitably over the long term. As a result, we continue to look for commercial lines
growth above the industry average.
We believe our approach should allow us to maintain most of the positive underlying
improvements in profitability that have occurred over the past several years, but we are
carefully monitoring industry conditions, including the potential for higher construction
costs that could affect commercial property claims severity. We do not believe favorable
reserve development will contribute to underwriting profits as much in 2006 as in 2005 and
2004. In addition, underwriting expenses are rising. We discuss our overall outlook for the
property casualty insurance operations in Measuring Our Success in 2006 and Beyond, Page
17.
Personal Lines Insurance Results Of Operations
Overview
Performance highlights for the personal lines segment include:
|
|
Premiums As discussed in our 2005
Annual Report on Form 10-K, a variety
of market- and company-specific factors
have caused personal lines written
premiums to decline on a year-over-year
basis for the past five quarters, and
earned premiums now are reflecting the
written premium trend. The net effect
of reinsurance reinstatement premiums
and assumed pool adjustments in the
third quarter of 2005 reduced the
decline in net written premiums by 0.8
and 0.3 percentage points,
respectively, for the three and nine
months ended September 30, 2006. |
|
|
|
The same market- and company-specific factors had an impact on new personal lines
business through the first half of 2006. Below we discuss rate changes made effective
July 1, 2006, that have better positioned our personal lines products in certain
markets. As a result of those changes, new personal lines business written directly by
agencies was $9 million for the three months ended September 30, 2006, up 14.4 percent
from $8 million in the comparable prior period. For the nine months ended September 30,
2006, new personal lines business was $24 million compared with $25 million in the year
ago period. |
|
|
|
Combined ratio Our personal lines combined ratio in the three and nine months
ended September 30, 2006, rose over the year ago periods, primarily because of higher
catastrophe losses. As discussed below, other factors affecting the comparisons
included rising loss severity and higher losses greater than $1 million in the
homeowner business line and changes in commission and underwriting expenses as well as
the adoption of stock option expensing. |
|
|
|
Our personal lines statutory combined ratio was 104.0 percent and 102.3 percent in the
three and nine months ended September 30, 2006, compared with 99.9 percent and 95.7
percent in the comparable prior periods. Under statutory accounting principles, stock
options expense is not included in the calculation of statutory income. |
|
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|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
29 |
Personal Lines Results
|
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|
|
|
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|
|
|
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|
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|
|
|
|
Three months ended September 30, |
|
|
Nine months ended September 30, |
|
(Dollars in millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Written premiums |
|
$ |
198 |
|
|
$ |
215 |
|
|
|
(8.0) |
|
|
$ |
570 |
|
|
$ |
608 |
|
|
|
(6.1 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums |
|
$ |
189 |
|
|
$ |
201 |
|
|
|
(5.9) |
|
|
$ |
579 |
|
|
$ |
605 |
|
|
|
(4.4 |
) |
Loss and loss expenses excluding catastrophes |
|
|
126 |
|
|
|
128 |
|
|
|
(1.9 |
) |
|
|
355 |
|
|
|
370 |
|
|
|
(4.2 |
) |
Catastrophe loss and loss expenses |
|
|
13 |
|
|
|
13 |
|
|
|
6.4 |
|
|
|
53 |
|
|
|
21 |
|
|
|
153.9 |
|
Commission expenses |
|
|
38 |
|
|
|
41 |
|
|
|
(8.0 |
) |
|
|
121 |
|
|
|
126 |
|
|
|
(4.1 |
) |
Underwriting expenses |
|
|
20 |
|
|
|
20 |
|
|
|
2.3 |
|
|
|
66 |
|
|
|
65 |
|
|
|
1.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriting profit (loss) |
|
$ |
(8 |
) |
|
$ |
(1 |
) |
|
|
(670.2 |
) |
|
$ |
(16 |
) |
|
$ |
23 |
|
|
|
(169.2 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratios as a percent of earned premiums: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss and loss expenses excluding |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
catastrophes |
|
|
66.6 |
% |
|
|
63.9 |
% |
|
|
|
|
|
|
61.3 |
% |
|
|
61.1 |
% |
|
|
|
|
Catastrophe loss and loss expenses |
|
|
7.1 |
|
|
|
6.3 |
|
|
|
|
|
|
|
9.2 |
|
|
|
3.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss and loss expenses |
|
|
73.7 |
|
|
|
70.2 |
|
|
|
|
|
|
|
70.5 |
% |
|
|
64.6 |
|
|
|
|
|
Commission expenses |
|
|
20.1 |
|
|
|
20.5 |
|
|
|
|
|
|
|
20.8 |
|
|
|
20.8 |
|
|
|
|
|
Underwriting expenses |
|
|
10.6 |
|
|
|
9.8 |
|
|
|
|
|
|
|
11.5 |
|
|
|
10.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Combined ratio |
|
|
104.4 |
% |
|
|
100.5 |
% |
|
|
|
|
|
|
102.8 |
% |
|
|
96.1 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss and Loss Expenses (excluding catastrophe losses)
Loss and loss expenses include both net paid losses and reserve additions for unpaid
losses as well as the associated loss expenses. The increase in the loss and loss expense
ratio excluding catastrophes for the three months ended September 30, 2006, was largely due
to rising loss severity, including an increase in losses greater than $1 million in the
homeowner business line. The ratio for the nine months ended September 30, 2006, was
essentially unchanged from a year ago. We discuss trends separately by personal lines of
business beginning on Page 31.
For the three months ended September 30, 2006, net savings from favorable development on
prior period reserves lowered the loss and loss expense ratio by 2.5 percentage points
compared with 0.9 percentage points in last years third quarter. Net development for the
nine months ended September 30, 2006, lowered the loss and loss expense ratio by 0.2
percentage points. In the first nine months of 2005, net development raised the loss and
loss expense ratio by 1.7 percentage points.
We monitor incurred losses by size of loss, business line, risk category, geographic
region, agency and field marketing territory, addressing concentrations or trends as
needed. Our analysis for the first nine months of 2006 indicated no unexpected
concentrations.
Personal Lines Losses by Size
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
|
Nine months ended September 30, |
|
(Dollars in millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Losses $1 million or more |
|
$ |
9 |
|
|
$ |
3 |
|
|
|
202.7 |
|
|
$ |
19 |
|
|
$ |
5 |
|
|
|
242.0 |
|
Losses $250 thousand to $1 million |
|
|
12 |
|
|
|
9 |
|
|
|
39.9 |
|
|
|
31 |
|
|
|
27 |
|
|
|
16.9 |
|
Development and case reserve increases of $250
thousand or more |
|
|
4 |
|
|
|
3 |
|
|
|
19.2 |
|
|
|
16 |
|
|
|
12 |
|
|
|
34.2 |
|
Other losses excluding catastrophes |
|
|
85 |
|
|
|
97 |
|
|
|
(13.4 |
) |
|
|
242 |
|
|
|
280 |
|
|
|
(13.6 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total losses incurred excluding catastrophe losses |
|
|
110 |
|
|
|
112 |
|
|
|
(2.3 |
) |
|
|
308 |
|
|
|
324 |
|
|
|
(5.1 |
) |
Catastrophe losses |
|
|
13 |
|
|
|
13 |
|
|
|
6.4 |
|
|
|
53 |
|
|
|
21 |
|
|
|
153.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total losses incurred |
|
$ |
123 |
|
|
$ |
125 |
|
|
|
(1.4 |
) |
|
$ |
361 |
|
|
$ |
345 |
|
|
|
4.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratios as a percent of earned premiums: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Losses $1 million or more |
|
|
5.0 |
% |
|
|
1.6 |
% |
|
|
|
|
|
|
3.2 |
% |
|
|
0.9 |
% |
|
|
|
|
Losses $250 thousand to $1 million |
|
|
6.4 |
|
|
|
4.3 |
|
|
|
|
|
|
|
5.4 |
|
|
|
4.4 |
|
|
|
|
|
Development and case reserve increases of $250
thousand or more |
|
|
2.1 |
|
|
|
1.7 |
|
|
|
|
|
|
|
2.8 |
|
|
|
2.0 |
|
|
|
|
|
Other losses excluding catastrophes |
|
|
44.5 |
|
|
|
48.3 |
|
|
|
|
|
|
|
41.8 |
|
|
|
46.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss ratio excluding catastrophe losses |
|
|
58.0 |
|
|
|
55.9 |
|
|
|
|
|
|
|
53.2 |
|
|
|
53.5 |
|
|
|
|
|
Catastrophe losses |
|
|
7.1 |
|
|
|
6.3 |
|
|
|
|
|
|
|
9.2 |
|
|
|
3.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loss ratio |
|
|
65.1 |
% |
|
|
62.2 |
% |
|
|
|
|
|
|
62.4 |
% |
|
|
57.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commission Expenses
In the three months ended September 30, 2006, personal lines commission expense as a
percent of earned premium declined 0.4 percentage points from the comparable 2005 period,
due to a lower profit-sharing commission accrual resulting from lower underwriting profit
that offset higher agency commissions. In the nine months ended September 30, 2006,
personal lines commission expense as a percent of earned premium was unchanged from the
comparable 2005 period.
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
30
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Profit-sharing, or contingent, commissions are calculated on the profitability of an
agencys aggregate book of business, taking into account longer-term profit, with a
percentage for prompt payment of premiums and other criteria. These profit-based
commissions reward our agents efforts, generally fluctuating with our loss and loss
expenses. A refinement and subsequent release of a contingent commission over-accrual from
2004 lowered the ratio for the first nine months of 2005 by 0.2 percentage points. Our 2006
contingent commission accrual reflects our estimate of the profit-sharing commissions to be
paid to our agencies in early 2007.
Underwriting Expenses
In the three months ended September 30, 2006, personal lines noncommission
underwriting expenses as a percent of earned premium rose 0.8 percentage points from the
comparable 2005 period, including 0.4 percentage points due to the adoption of stock option
expensing. The remainder of the increase in the ratio largely was due to higher technology
and staffing expenses.
In the nine months ended September 30, 2006, the ratio rose 0.8 percentage points, largely
due to higher technology and staffing expenses. The adoption of stock option expensing
contributed 0.5 percentage points to the increase.
Line of Business Analysis
We prefer to write personal lines coverage on an account basis that includes both auto
and homeowner coverages as well as coverages from the other personal business line. As a
result, we believe that personal lines is best measured and evaluated on a segment basis.
However, we provide the line of business data to summarize growth and profitability trends
separately for the three business lines.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
Nine months ended September 30, |
(Dollars in millions) |
|
2006 |
|
2005 |
|
Change % |
|
2006 |
|
2005 |
|
Change % |
|
Personal auto: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
96 |
|
|
$ |
112 |
|
|
|
(14.5 |
) |
|
$ |
279 |
|
|
$ |
321 |
|
|
|
(12.8 |
) |
Earned premiums |
|
|
95 |
|
|
|
107 |
|
|
|
(11.7 |
) |
|
|
294 |
|
|
|
329 |
|
|
|
(10.7 |
) |
Loss and loss expenses incurred |
|
|
57 |
|
|
|
70 |
|
|
|
(17.8 |
) |
|
|
183 |
|
|
|
203 |
|
|
|
(10.1 |
) |
Loss and loss expense ratio |
|
|
60.6 |
% |
|
|
65.0 |
% |
|
|
|
|
|
|
62.2 |
% |
|
|
61.7 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
59.2 |
|
|
|
64.6 |
|
|
|
|
|
|
|
60.2 |
|
|
|
61.2 |
|
|
|
|
|
Homeowner: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
79 |
|
|
$ |
80 |
|
|
|
(1.6 |
) |
|
$ |
224 |
|
|
$ |
219 |
|
|
|
1.4 |
|
Earned premiums |
|
|
72 |
|
|
|
72 |
|
|
|
0.9 |
|
|
|
219 |
|
|
|
209 |
|
|
|
3.4 |
|
Loss and loss expenses incurred |
|
|
68 |
|
|
|
56 |
|
|
|
21.4 |
|
|
|
183 |
|
|
|
154 |
|
|
|
18.8 |
|
Loss and loss expense ratio |
|
|
93.9 |
% |
|
|
78.0 |
% |
|
|
|
|
|
|
83.7 |
% |
|
|
72.9 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
78.9 |
|
|
|
62.8 |
|
|
|
|
|
|
|
63.9 |
|
|
|
64.9 |
|
|
|
|
|
Other personal: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Written premiums |
|
$ |
23 |
|
|
$ |
23 |
|
|
|
(2.1 |
) |
|
$ |
67 |
|
|
$ |
68 |
|
|
|
(2.3 |
) |
Earned premiums |
|
|
22 |
|
|
|
22 |
|
|
|
(2.3 |
) |
|
|
66 |
|
|
|
67 |
|
|
|
(0.8 |
) |
Loss and loss expenses incurred |
|
|
14 |
|
|
|
15 |
|
|
|
6.5 |
|
|
|
42 |
|
|
|
34 |
|
|
|
34.4 |
|
Loss and loss expense ratio |
|
|
63.3 |
% |
|
|
58.0 |
% |
|
|
|
|
|
|
63.9 |
% |
|
|
47.1 |
% |
|
|
|
|
Loss and loss expense ratio
excluding catastrophes |
|
|
58.1 |
|
|
|
53.0 |
|
|
|
|
|
|
|
57.3 |
|
|
|
43.8 |
|
|
|
|
|
Personal Auto
Personal auto written and earned premiums continued to decline in the third quarter
and first nine months of 2006. As noted above, the decline primarily was due to price
competition in some states and territories. Effective July 1, we introduced a limited
program of policy credits that incorporated insurance scores into the pricing of our
personal auto policies in most of the states in which our Diamond system is in use. These
changes lowered premiums for some current policyholders, and appear to have contributed to
higher levels of new business by making our rates more competitive for our agents better
customers. For the third quarter, new personal auto business premium rose approximately 12
percent, with new policy counts rising in some of
our higher volume personal lines states. Nine-month new business was down approximately 11
percent.
The personal auto loss and loss expense ratios for the third quarter and first nine months
of 2006 remained healthy. Excluding catastrophe losses, they were slightly improved from the
year-ago levels.
Homeowner
Earned premiums for the homeowner line rose 0.9 percent in the third quarter and 3.4
percent in the first nine months of 2006. Written premium rose for the nine months, but
declined in the three months ended September 30, 2006, as higher business levels and rates were insufficient to offset lower retention. Homeowner premiums
for the third quarter of 2005 were increased by $2 million by the net effect of reinsurance
reinstatement premiums and assumed pool adjustments. Modifications to selected rates and
credits in the third quarter to improve our competitive position appear to have reversed
the trend of declines in homeowner new business. For the third quarter, new homeowner
business premium rose approximately
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
31 |
17 percent, with new policy counts rising in some of
our higher volume personal lines states. Nine-month new business was essentially flat.
At September 30, 2006, approximately 78 percent of all homeowner policies had been
converted to one-year terms, up from approximately 56 percent at year-end 2005. In Ohio,
which represented 37.4 percent of homeowner premium volume in 2005, approximately 88
percent of homeowner policies had been converted to one-year terms. We are continuing to
renew homeowner policies for three-year terms in seven of our lower premium volume states
until preparation for the Diamond rollout begins in each of those states. Renewal rates on
three-year policies reflect all rate changes enacted over the previous three years. This
can cause those policies to renew at significantly higher prices, affecting retention, even
when the new prices are competitive.
The loss and loss expense ratio excluding catastrophe losses for the third quarter rose
16.1 percentage points from the year-ago level, reflecting four losses greater than $1
million for a total over $8 million. Those four losses added approximately 11 percentage
points to the loss and loss expense ratio. There were no homeowner losses greater than $1
million in last years third quarter. We believe that overall severity of homeowner claims
is climbing industrywide because of higher material and labor costs. In addition,
homeowners may not be filing smaller claims. They also continue to raise their deductibles,
often to offset the rising cost of insurance on higher insured property values.
The loss and loss expense ratio excluding catastrophe losses for the first nine months of
2006 declined 1.0 percentage points from the year-ago level, primarily due to the benefit
of rate actions taken over the past several years.
In the three and nine months ended September 30, 2006, catastrophe losses contributed 15.0
and 19.8 percentage points to the loss and loss expense ratio. In the three and nine months
ended September 30, 2005, catastrophe losses contributed 15.2 and 8.0 percentage points.
We continue to seek to improve homeowner results so that this line achieves profitability.
We believe the full benefit of our pricing and underwriting actions will not be reflected
in homeowner underwriting performance until late 2007. Other factors that could affect our
ability to achieve our objective include:
|
|
Continued decline in written premiums We are working on a number
of initiatives to make our rates competitive. Effective July 1,
2006, we introduced a limited program of policy credits that
incorporated insurance scores into the pricing of our homeowner
policies in most of the states in which our Diamond system is in
use. These changes lowered premiums for some current
policyholders. We believe these changes can contribute to higher
levels of new business and improved policyholder retention by
making our rates more competitive for our agents better
customers. |
|
|
Higher-than-historical level of catastrophe losses Our
performance target projects catastrophe losses as a percent of
homeowner earned premium would be approximately 17 percent. From
2003 to 2005, catastrophe losses averaged approximately 21 percent
of homeowner earned premiums due to higher-than-historical storm
activity. |
|
|
Higher-than-anticipated commission and underwriting expenses We
generally do not allocate noncommission expenses to individual
business lines. To measure homeowner profitability, our target
assumes that total commission and underwriting expenses would
contribute approximately 31 percentage points to a homeowner
combined ratio, including option expense. If written premium
growth slows further, this ratio may be greater than 31 percent
because some of our costs are relatively fixed, such as our
planned investments in technology. |
Other Personal
Other personal written premiums were unchanged for the third quarter. The premiums
decreased slightly for the first nine months of 2006 because of the lower retention and new
business for homeowner and personal auto during the first half of the year, since most of
our other personal coverages are endorsed to homeowner or auto policies.
The loss and loss expense ratio for other personal rose for the three months. The loss and
loss expense ratio for other personal rose for the nine months due to higher personal
umbrella and dwelling fire losses in the second quarter. Personal umbrella losses can
fluctuate significantly, and we do not believe that the increase was indicative of any new
trend or risk.
Personal Lines Insurance Outlook
At year-end 2005, A.M. Best anticipated industrywide personal lines written premiums
would rise approximately 2.9 percent in 2006, with personal auto premiums expected to rise
about 2.5 percent and homeowner premiums expected to rise 4.2 percent. Through the first
six months of 2006, industry personal lines written premiums are estimated to have risen
2.3 percent. We anticipate the full-year 2006 decline in personal lines segment written
premiums will be similar to the nine-month decrease.
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
32
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Factors that affect personal lines premiums include:
|
|
Competitive rates We are implementing rate
changes to make our personal auto and homeowner
rates competitive. While these pricing
refinements will lower premiums for some
policyholders, we believe they present an
opportunity to work with our agents to market
the advantages of our personal lines products
to their preferred clients, which could help us
resume growing in this business segment. |
|
|
Diamond introduction The Diamond system now
is in use by agencies writing approximately 90
percent of personal lines premium volume. We
believe the system makes it easier for agents
to place homeowner, personal auto and other
personal lines business with us, while
providing direct-bill capabilities and greatly
increasing policy-issuance and policy-renewal
efficiencies. Diamond provides other
advantages, including the ability to make rate
changes more quickly. |
|
|
Products enhancements We continue to work to
introduce enhancements, including replacement
cost coverage for new automobiles and identity
theft expense mitigation, which will help agents market
our products to their personal lines customers. |
|
|
New agencies We are working to increase the
number of agencies that offer our personal
lines products, which also could contribute to
personal lines growth. Our personal lines team
is working closely with our field associates to
introduce the benefits of our personal lines
products to newly appointed agencies and to
selected agencies that currently offer only our
commercial lines products. |
In addition to the premium trends we anticipate, several other factors may affect the
personal lines combined ratio in 2006 and beyond. Personal lines underwriters continue to
focus on insurance-to-value initiatives to verify that policyholders are buying the correct
level of coverage for the value of the insured risk, and we are carefully maintaining
underwriting standards. However, if premiums continue to decline, the 2006 personal lines
expense ratio will be higher than the 2005 ratio because some of our costs are relatively
fixed. We discuss our overall outlook for the property casualty insurance operations in
Measuring Our Success in 2006 and Beyond, Page 17.
Life Insurance Results Of Operations
Overview
Performance highlights for the life insurance segment include:
|
|
Revenues Earned premiums reflected
continued growth of gross in-force
policy face amounts to $55.691 billion
at September 30, 2006, up from $51.493
billion at year-end 2005. Our life
insurance subsidiary reported total
statutory net written premiums of $40
million and $121 million in the three
and nine months ended September 30,
2006, compared with $56 million and
$163 million in the comparable 2005
periods. The change primarily was due
to: |
|
|
|
Statutory written premiums for term and other life insurance products rose 14.8
percent to $32 million for the three months ended September 30, 2006, and rose 13.2
percent to $94 million for the nine months ended September 30, 2006. |
|
|
|
|
Statutory written annuity premiums declined to $7 million and $24 million in
the three and nine months ended September 30, 2006, from $27 million and $77
million in the comparable 2005 periods. Since late 2005, we have de-emphasized
annuities because of an unfavorable interest rate environment. |
|
|
Total statutory written premiums for life insurance operations for all periods include
life insurance, annuity and accident and health premiums. |
|
|
|
Profitability The life insurance segment reports a small GAAP profit because
investment income is included in investment segment results, except investment income
credited to contract holders (interest assumed in life insurance policy reserve
calculations). The segment operating profit declined in the three and nine months
ended September 30, 2006, due to: |
|
|
|
Higher mortality expenses compared with the year-earlier periods, however,
mortality experience remained within pricing guidelines. |
|
|
|
|
Adoption of stock option expensing, which added approximately $300,000 and $1
million, respectively, to other operating expenses. |
|
|
At the same time, we recognize that assets under management, capital appreciation and
investment income are integral to evaluation of the success of the life insurance
segment because of the long duration of life products. For that reason, we also evaluate
GAAP data including all investment activities on life insurance-related assets. |
|
|
|
GAAP net income on that basis was $9 million in the three months ended September 30,
2006, compared with $8 million in the three months ended September 30, 2005. GAAP net
income rose to $54 million in the nine months ended September 30, 2006, compared with
$31 million in the nine months ended |
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
33 |
September 30, 2005, reflecting a $23 million
increase in after-tax realized gains on investments. The sale of the portion of our
ALLTEL common stock held by the life insurance company contributed $40 million to the
pretax realized investment gain in the first nine months of 2006.
Life Insurance Results
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
|
Nine months ended September 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Written premiums |
|
$ |
40 |
|
|
$ |
56 |
|
|
|
(28.7 |
) |
|
$ |
121 |
|
|
$ |
163 |
|
|
|
(25.6 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums |
|
$ |
28 |
|
|
$ |
25 |
|
|
|
9.4 |
|
|
$ |
84 |
|
|
$ |
78 |
|
|
|
6.9 |
|
Separate account investment
management fees |
|
|
0 |
|
|
|
1 |
|
|
|
(20.6 |
) |
|
|
2 |
|
|
|
3 |
|
|
|
0.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
28 |
|
|
|
26 |
|
|
|
8.4 |
|
|
|
86 |
|
|
|
81 |
|
|
|
6.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract holders benefits incurred |
|
|
33 |
|
|
|
27 |
|
|
|
21.2 |
|
|
|
92 |
|
|
|
77 |
|
|
|
19.2 |
|
Investment interest credited to
contract holders |
|
|
(14 |
) |
|
|
(13 |
) |
|
|
3.4 |
|
|
|
(40 |
) |
|
|
(38 |
) |
|
|
6.0 |
|
Expenses incurred |
|
|
9 |
|
|
|
12 |
|
|
|
(19.8 |
) |
|
|
32 |
|
|
|
37 |
|
|
|
(9.9 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
28 |
|
|
|
26 |
|
|
|
12.0 |
|
|
|
84 |
|
|
|
76 |
|
|
|
11.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Life insurance segment profit |
|
$ |
0 |
|
|
$ |
0 |
|
|
nm |
|
$ |
2 |
|
|
$ |
5 |
|
|
|
(66.3 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Life Insurance Outlook
As the life insurance company seeks to improve penetration of our property casualty
agencies, our objective is to increase premiums and contain expenses. Term insurance is our
largest life insurance product line. We continue to introduce new term products with
features our agents indicate are important. In addition, we introduced new universal life
products including cash value accumulation products for adults and children.
Marketplace and regulatory changes in recent years have affected the cost and availability
of reinsurance for term life insurance. We are addressing this situation by retaining no
more than a $500,000 exposure, ceding the balance using excess over retention mortality
coverage and retaining the policy reserve.
Because of the conservative nature of statutory reserving principles, retaining the policy
reserve requires a large commitment of capital and reduces statutory earnings. However, we
believe the long-term profitability of term life insurance serves to enhance GAAP results.
Ohio insurance regulators currently are considering various proposals such as the use of
preferred mortality rates that, if adopted, would partially reduce the impact of redundant
statutory reserves. Also, although the exact timing and details are uncertain, the NAIC
continues to make progress toward comprehensive reforms of statutory accounting principles.
We continue to emphasize the cross-serving opportunities afforded by worksite marketing of
life insurance products. This year, we have explored additional programs to simplify the
worksite marketing sales process, including electronic enrollment software, to be
implemented in 2007. We also intend to enhance our worksite product portfolio to make it
more attractive to agents. We believe these strategies will allow us to continue to
increase our worksite marketing business.
Investments Results of Operations
Overview
The investment segment contributes investment income and realized gains and losses to
results of operations. Investments provide our primary source of pretax and after-tax
profits.
|
|
Investment income Consolidated pretax investment income rose 7.5 percent and 9.0
percent in the three and nine months ended September 30, 2006. The growth in
investment income reflected new investments, higher interest income from the growing
fixed-maturity portfolio and increased dividend income from the common stock
portfolio. In addition, proceeds from the sale of the ALLTEL holding that were used to
make the applicable tax payments in June 2006 were invested in short-term instruments
that generated approximately $5 million in interest income in the nine months ended
September 30, 2006. |
|
|
|
While increasing, dividend income has slightly declined as a percent of total investment
income primarily due to the allocation of a larger portion of cash flow for
fixed-maturity investments over the past two years. Fifth Third, our largest equity
holding, contributed 43.4 percent and 44.2 percent of total dividend income in the three
and nine months ended September 30, 2006. We discuss our Fifth Third investment in Item
3, Quantitative and Qualitative Disclosures About Market Risk, Page 40. |
|
|
|
We have begun participating in a securities lending program under which certain fixed
maturity securities from our investment portfolio are loaned to other institutions for
short periods of time. We require collateral equal to 102 percent of the market value of
the loaned securities. The lending agent invests the collateral in accordance with our
guidelines. In the three and nine months ended September 30, 2006, the program generated
net investment income, net of applicable fees, of $252,000 and
$528,000. |
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
34
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
Based on terms
of the agreement, we have the right to sell or re-pledge the collateral in the event of
a default by the borrower. At September 30, 2006, the amount of collateral held was
$1.016 billion. |
|
|
Net realized gains and losses Pretax realized gains were immaterial for the three
months ended September 30, 2006 and we reported a pretax realized gain of $671 million
for the nine months ended September 30, 2006. Fair value changes due to the
application of SFAS No. 133 offset realized losses from investment sales for the
three-month period. Included in realized investment gains and losses for the three
months ended September 30, 2006, was
a $542,000 recorded loss due to the decline in the fair value of an interest-rate swap
initiated during the period. |
|
|
The previously announced sale of our holdings of ALLTEL common stock accounted for $647
million of the realized gain in the nine-month period. The effect of
other-than-temporary impairment charges was insignificant in both periods. We reported a
net realized gain in the three and nine months ended September 30, 2005, primarily due
to realized gains from investment sales.
|
Investment Results
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, |
|
|
Nine months ended September 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
2006 |
|
|
2005 |
|
|
Change % |
|
|
Investment income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
$ |
74 |
|
|
$ |
70 |
|
|
|
6.1 |
|
|
$ |
225 |
|
|
$ |
208 |
|
|
|
8.2 |
|
Dividends |
|
|
67 |
|
|
|
64 |
|
|
|
5.2 |
|
|
|
194 |
|
|
|
180 |
|
|
|
7.5 |
|
Other |
|
|
4 |
|
|
|
2 |
|
|
|
130.0 |
|
|
|
11 |
|
|
|
6 |
|
|
|
78.8 |
|
Investment expenses |
|
|
(1 |
) |
|
|
(2 |
) |
|
|
9.9 |
|
|
|
(5 |
) |
|
|
(4 |
) |
|
|
(14.4 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net investment income |
|
|
144 |
|
|
|
134 |
|
|
|
7.5 |
|
|
|
425 |
|
|
|
390 |
|
|
|
9.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment interest credited to contract
holders |
|
|
(14 |
) |
|
|
(13 |
) |
|
|
(3.4 |
) |
|
|
(40 |
) |
|
|
(38 |
) |
|
|
(6.0 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains and losses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Realized investment gains and losses |
|
|
(2 |
) |
|
|
12 |
|
|
|
(117.3 |
) |
|
|
667 |
|
|
|
41 |
|
|
|
1,519.9 |
|
Change in valuation of embedded
derivatives |
|
|
2 |
|
|
|
5 |
|
|
|
(56.0 |
) |
|
|
5 |
|
|
|
(2 |
) |
|
|
353.6 |
|
Other-than-temporary impairment charges |
|
|
0 |
|
|
|
(1 |
) |
|
nm |
|
|
|
(1 |
) |
|
|
(1 |
) |
|
|
41.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains (losses) |
|
|
0 |
|
|
|
16 |
|
|
nm |
|
|
671 |
|
|
|
38 |
|
|
|
1,683.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment operations income |
|
$ |
130 |
|
|
$ |
137 |
|
|
|
(4.8 |
) |
|
$ |
1,056 |
|
|
$ |
390 |
|
|
|
171.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments Outlook
We believe investment income growth for 2006 could be in the range of 8.0 percent to
8.5 percent. Our outlook is based on the anticipated level of dividend income, the strong
cash flow from insurance operations and the higher-than-normal allocation of new cash flow
to fixed-maturity securities over the past two years. Dividend increases within the last 12
months by Fifth Third and another 37 of the 49 common stock holdings in the equity
portfolio should add $15 million to annualized investment income.
In the first nine months of 2006, our investment department used available cash flow from
operations and the $558 million in total after-tax proceeds from the ALLTEL common stock
sale to buy both equity and fixed-maturity investments. We anticipate dividends from the
common equities purchased in the first nine months of 2006 will replace $16 million of the
$20 million in ALLTEL dividend income received in full-year 2005.
We believe impairments in 2006 should be limited to securities that have been identified
for sale, have experienced a sharp decline in fair value or that experience prolonged
pressure due to poor economic or market conditions. All securities in the portfolio were
trading at or above 70 percent of book value at September 30, 2006. Our asset impairment
committee continues to monitor the investment portfolio. Our asset impairment policy is
discussed in our 2005 Annual Report on Form 10-K, Item 7, Critical Accounting Estimates,
Asset Impairment, Page 37.
Other
Other revenues of the insurance subsidiaries, parent company operations and
non-investment operations of CFC Investment Company and CinFin Capital Management Company
were $4 million and $3 million in the three months ended September 30, 2006 and 2005.
Revenues were $12 million and $9 million in the nine months ended September 30, 2006 and
2005. Losses before income taxes of $13 million and $12 million in the three months ended
September 30, 2006 and 2005, were primarily due to $13 million each year in interest
expense from debt of the parent company. Losses before income taxes of $38 million in the
nine months ended September 30, 2006 and 2005, were due to $38 million each year in
interest expense from debt of the parent company.
Taxes
Income tax expense was $33 million and $357 in the three and nine months ended
September 30, 2006, compared with $34 million and $143 million in the
comparable prior period. The effective tax rate for the three
|
|
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|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
35 |
and nine months ended
September 30, 2006, was 21.9 percent and 30.9 percent compared with 22.6 percent
and 25.4 percent in the comparable prior periods.
Growth in the tax-exempt municipal bond portfolio, higher investment income from dividends
and lower operating earnings contributed to the change in the effective tax rate for the
three months ended September 30, 2006. The sale of our ALLTEL common
stock holdings in the first three months of 2006, which generated a $647 million
pretax gain, was the primary reason for the change in effective tax rate for the nine
months.
We pursue a strategy of investing some portion of cash flow in tax-advantaged
fixed-maturity and equity securities to minimize our overall tax liability and maximize
after-tax earnings. Tax-advantaged fixed-maturity investments generally are exempt from
federal tax calculations. The dividend received deduction generally exempts 70 percent of
qualified dividends from common and preferred stocks from federal tax calculations. Details
regarding our effective tax rate are found in our 2005 Annual Report on Form 10-K, Item 8,
Note 10 to the Consolidated Financial Statements, Page 93.
Liquidity and Capital Resources
We had shareholders equity of $6.464 billion at September 30, 2006, compared with
$6.086 billion at year-end 2005. Total debt was $840 million, up from $791 million at
year-end 2005.
Sources Of Liquidity
Subsidiary Dividends
Our insurance subsidiary declared dividends to the parent company of $125 million in
the first nine months of both 2006 and 2005. State of Ohio regulatory requirements restrict
the dividends insurance subsidiaries can pay. During 2006, total dividends that our lead
insurance subsidiary can pay to our parent company without regulatory approval are
approximately $517 million.
Insurance Underwriting
Our property casualty and life insurance operations provide liquidity because premiums
generally are received before losses are paid under the policies purchased with those
premiums. After satisfying our cash requirements, excess cash flows are used for
investment, increasing future investment income.
This table shows a summary of cash flow of the insurance subsidiary (direct method):
|
|
|
|
|
|
|
|
|
|
|
Nine months ended Sept. 30, |
|
(In millions) |
|
2006 |
|
|
2005 |
|
|
Premiums collected |
|
$ |
2,459 |
|
|
$ |
2,383 |
|
Loss and loss expenses paid |
|
|
(1,378 |
) |
|
|
(1,279 |
) |
Commissions and other underwriting expenses paid |
|
|
(789 |
) |
|
|
(776 |
) |
|
|
|
|
|
|
|
Insurance subsidiary cash flow from
underwriting |
|
|
292 |
|
|
|
328 |
|
Investment income received |
|
|
355 |
|
|
|
318 |
|
|
|
|
|
|
|
|
Insurance subsidiary operating cash flow |
|
$ |
647 |
|
|
$ |
646 |
|
|
|
|
|
|
|
|
Consolidated collected premiums declined as growth in property casualty written
premiums was offset by lower annuity premiums from our life insurance segment. After paying
higher claims and operating expenses, cash flows from insurance underwriting for the nine
months ended September 30, 2006, were down approximately 11 percent from the comparable
2005 periods. Total insurance subsidiary operating cash flows was up slightly for the nine
months as growth in cash flows from investment income offset the lower cash flows from
underwriting. We discuss our future obligations for claims payments in our 2005 Annual
Report on Form 10-K, Contractual
Obligations, Page 59, and our future obligations for underwriting expenses in Commissions
and Other Underwriting Expenses, Page 35. Based on our outlook for commercial lines,
personal lines and life insurance, we believe that cash flows from underwriting could
decline for full-year 2006. A lower level of cash flow available for investment could lead
to reduced potential for increases in future investment income and capital gains.
Investing Activities
Investment income is a primary source of liquidity for both the parent company and
insurance subsidiary. Realized gains also can provide liquidity, although we follow a
buy-and-hold investment philosophy, seeking to compound cash flows over the long-term.
During the nine months ended September 30, 2006, we disposed of investments as follows:
|
|
Fixed maturities Including calls, maturities and sales,
fixed-maturity dispositions were approximately $301 million
compared with last years unusually high level of $556 million. |
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
36
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
Equity securities Total equity security sales were $850 million.
We sold the remaining 12,700,164 shares of our ALLTEL common stock
holding, generating proceeds of $764 million, in the first quarter
of 2006. (We sold 475,000 shares of our ALLTEL holding in the
fourth quarter of 2005.) |
We generally have substantial discretion in the timing of investment sales and, therefore,
the resulting gains or losses that are recognized in any period. That discretion generally
is independent of the insurance underwriting process. In 2006, we expect to continue to
limit the disposition of investments to those that no longer meet our investment parameters
or those that reach maturity or are called by the issuer. The sale of equity investments
that no longer meet our investment criteria can provide cash for investment in common
stocks that we perceive to have greater potential for capital appreciation and income
growth.
Capital Resources
At September 30, 2006, our debt-to-capital ratio was 11.5 percent. We had $791 million
of long-term debt and $49 million in borrowings on our short-term lines of credit. We
generally have minimized our reliance on debt financing although we may utilize lines of
credit to fund short-term cash needs. At September 30, 2006, we had two lines of credit
totaling $125 million with $49 million outstanding.
We provide details of our three long-term notes in our 2005 Annual Report on Form 10-K,
Item 8, Note 7 of the Consolidated Financial Statements, Page 91. None of the notes are
encumbered by rating triggers. As of November 1, 2006, our senior debt issues were rated
aa- by A.M. Best, A+ by Fitch, A2 by Moodys and A by Standard & Poors.
During the third quarter, we entered into an interest-rate swap as an economic cash flow
hedge of variable interest payments for certain variable-rate debt obligations ($49 million
notional amount). Under this interest-rate swap contract, we have agreed to pay a fixed
rate of interest for a three-year period. The contract is intended to be a hedge against
changes in the amount of future cash flows associated with the related interest payments.
The interest-rate swap contract is reflected at fair value in our balance sheet. SFAS No.
133 Accounting for Derivative Financial Instruments and Hedging Activities, as amended,
requires changes in the fair value of the companys derivative financial instruments to be
recognized periodically as realized gains or losses on the consolidated statement of income
or as a component of accumulated other comprehensive income in shareholders equity,
respectively. In the three months ended September 30, 2006, we recorded a $542,000
investment loss due to the decline in the fair value of the interest-rate swap.
In October, we completed the necessary requirements for the interest-rate swap to qualify
for hedge accounting treatment under SFAS No. 133. We expect that the interest-rate swap
will be a highly effective hedge and that future changes in the fair value of the
interest-rate swap will be recorded as a component of accumulated other comprehensive
income. As a result, we do not expect any significant amounts to be reclassified into
earnings in the next 12 months.
Off-balance Sheet Arrangements
We do not utilize any special-purpose financing vehicles or have any undisclosed
off-balance sheet arrangements (as that term is defined in applicable SEC rules) that are
reasonably likely to
have a current or future material effect on the companys financial condition, results of
operation, liquidity, capital expenditures or capital resources. Similarly, the company
holds no fair-value contracts for which a lack of marketplace quotations would necessitate
the use of fair-value techniques.
Uses of Liquidity
Our parent company and insurance subsidiary have contractual and other obligations. In
addition, one of our primary uses of cash is to enhance shareholder return.
Contractual Obligations
In our 2005 Annual Report on Form 10-K, Item 7, Contractual Obligations, Page 59, we
estimated our future contractual obligations as of December 31, 2005. During the first nine
months of 2006, our contractual obligations were increased by the $49 million borrowed
against one of our short-term lines of credit. We also have acquired $7 million of
equipment with capital lease obligations. There were no material changes to the other
estimates.
Commissions and Other Underwriting Expenses
In addition to our contractual obligations, our insurance operations use cash for
commission and other underwriting expenses.
As discussed above, commissions and other underwriting expenses paid rose in the first nine
months of 2006, reflecting the operating expense trends we discuss in the Commercial Lines
and Personal Lines Insurance Results of Operations, Page 23 and Page 29. Commission
payments also include contingent, or profit-sharing, commissions, which are paid to
agencies using a formula that takes into account agency profitability and other factors,
such as prompt monthly payment of amounts due to the company. Commission payments generally
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
37 |
track with written premiums. Contingent commission payments for 2006, which will be made in
early 2007, will be partially influenced by the excellent underwriting profitability
generated in 2005 and 2004.
Many of our operating expenses are not contractual obligations, but reflect the ongoing
expenses of our business. Staffing is the largest component of our operating expenses and
is expected to rise again in 2006, reflecting the 4.3 percent average annual growth in our
associate base over the past three years. Our associate base has grown as we focus on
enhancing service to our agencies, processing higher volumes of business and staffing
additional field territories. Other expenses should rise in line with our growth.
Investing Activities
Excess cash flows from underwriting, investment and other corporate activities are
invested in fixed-maturity and equity securities on an ongoing basis to help achieve our
portfolio objectives. See our 2005 Annual Report on Form 10-K, Item 1, Investments Segment,
Page 15, for a discussion of our investment strategy, portfolio allocation and quality.
We have long favored investing in equity securities, along with a proper balance of fixed
maturity investments, to achieve growth in both investment income and book value. We seek
to maintain equity investment consistent with both this approach and various regulatory
parameters.
In the first nine months of 2006, our investment department allocated a portion of
available cash flow from operations and the $558 million in total after-tax proceeds from
the ALLTEL common stock sale to common stock investments. We also purchased a variety of
fixed maturity investments, including preferred securities.
Uses of Capital
Uses of cash to enhance shareholder return include:
|
|
Dividends to shareholders In February 2006,
the board of directors authorized a 9.8
percent increase in the regular quarterly
cash dividend to an indicated annual rate of
$1.34 per share. During the first nine months
of 2006, $170 million was used for dividends
to shareholders. |
|
|
|
Common stock repurchase program During the first
nine months of 2006, we used $95 million to
repurchase 2.143 million shares of our common
stock at an average price of $44.28. The
details of the 2006 repurchase activity are described in Part II, Item 2, Unregistered
Sales of Equity Securities and Use of Proceeds, Page 45. |
|
|
|
In 2005, the board authorized a 10 million share repurchase program to replace a program
authorized in 1999. At September 30, 2006, 7.323 million shares remained authorized for
repurchase under the 2005 program. We do not adjust number of shares repurchased and
average price per repurchased share for stock dividends. |
Property Casualty Insurance Reserves
Commercial Lines Insurance Segment Reserves
For the business lines in the commercial lines insurance segment, the following table
shows the breakout of gross reserves among case, IBNR and loss expense reserves. Total
gross reserves were up from year-end 2005 primarily because of factors discussed in
Commercial Lines Results of Operations, Page 23, including changes in workers compensation
reserves, higher new large losses and growth of exposures.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss reserves |
|
|
Loss |
|
|
Total |
|
|
|
|
|
|
Case |
|
|
IBNR |
|
|
expense |
|
|
gross |
|
|
Percent |
|
(In millions) |
|
reserves |
|
|
reserves |
|
|
reserves |
|
|
reserves |
|
|
of total |
|
|
At September 30, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial casualty |
|
$ |
909 |
|
|
$ |
473 |
|
|
$ |
441 |
|
|
|
1,823 |
|
|
|
53.7 |
% |
Commercial property |
|
|
137 |
|
|
|
31 |
|
|
|
38 |
|
|
|
206 |
|
|
|
6.1 |
|
Commercial auto |
|
|
273 |
|
|
|
59 |
|
|
|
67 |
|
|
|
399 |
|
|
|
11.7 |
|
Workers compensation |
|
|
395 |
|
|
|
287 |
|
|
|
87 |
|
|
|
769 |
|
|
|
22.7 |
|
Specialty packages |
|
|
77 |
|
|
|
2 |
|
|
|
11 |
|
|
|
90 |
|
|
|
2.7 |
|
Surety and executive risk |
|
|
63 |
|
|
|
0 |
|
|
|
36 |
|
|
|
99 |
|
|
|
2.9 |
|
Machinery and equipment |
|
|
3 |
|
|
|
3 |
|
|
|
0 |
|
|
|
6 |
|
|
|
0.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
1,857 |
|
|
$ |
855 |
|
|
$ |
680 |
|
|
$ |
3,392 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial casualty |
|
$ |
859 |
|
|
$ |
451 |
|
|
$ |
423 |
|
|
$ |
1,733 |
|
|
|
54.6 |
% |
Commercial property |
|
|
135 |
|
|
|
40 |
|
|
|
36 |
|
|
|
211 |
|
|
|
6.6 |
|
Commercial auto |
|
|
268 |
|
|
|
55 |
|
|
|
65 |
|
|
|
388 |
|
|
|
12.2 |
|
Workers compensation |
|
|
283 |
|
|
|
333 |
|
|
|
79 |
|
|
|
695 |
|
|
|
21.9 |
|
Specialty packages |
|
|
63 |
|
|
|
0 |
|
|
|
12 |
|
|
|
75 |
|
|
|
2.4 |
|
Surety and executive risk |
|
|
36 |
|
|
|
0 |
|
|
|
32 |
|
|
|
68 |
|
|
|
2.1 |
|
Machinery and equipment |
|
|
3 |
|
|
|
3 |
|
|
|
0 |
|
|
|
6 |
|
|
|
0.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
1,647 |
|
|
$ |
882 |
|
|
$ |
647 |
|
|
$ |
3,176 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
38
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Personal Lines Insurance Segment Reserves
For the business lines in the personal lines insurance segment, the following table
shows the breakout of gross reserves among case, IBNR and loss expense reserves. Total
gross reserves were essentially unchanged from year-end 2005 as new large losses and
homeowner loss cost inflation offset the effect of declining personal lines policy count on
reserves.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss reserves |
|
|
Loss |
|
|
Total |
|
|
|
|
|
|
Case |
|
|
IBNR |
|
|
expense |
|
|
gross |
|
|
Percent |
|
(In millions) |
|
reserves |
|
|
reserves |
|
|
reserves |
|
|
reserves |
|
|
of total |
|
|
At September 30, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal auto |
|
$ |
163 |
|
|
$ |
7 |
|
|
$ |
35 |
|
|
$ |
205 |
|
|
|
45.4 |
% |
Homeowners |
|
|
75 |
|
|
|
17 |
|
|
|
18 |
|
|
|
110 |
|
|
|
24.2 |
|
Other personal |
|
|
55 |
|
|
|
70 |
|
|
|
12 |
|
|
|
137 |
|
|
|
30.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
293 |
|
|
$ |
94 |
|
|
$ |
65 |
|
|
$ |
452 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2005 |
Personal auto |
|
$ |
175 |
|
|
$ |
4 |
|
|
$ |
34 |
|
|
$ |
213 |
|
|
|
47.1 |
% |
Homeowners |
|
|
70 |
|
|
|
21 |
|
|
|
18 |
|
|
|
109 |
|
|
|
24.0 |
|
Other personal |
|
|
52 |
|
|
|
67 |
|
|
|
12 |
|
|
|
131 |
|
|
|
28.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
297 |
|
|
$ |
92 |
|
|
$ |
64 |
|
|
$ |
453 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Life Insurance Reserves
Gross life policy reserves were $1.389 billion at September 30, 2006, compared with
$1.343 billion at year-end 2005. We establish reserves for traditional life insurance
policies based on expected expenses, mortality, morbidity, withdrawal rates and investment
yields, including a provision for uncertainty. Once these assumptions are established, they
generally are maintained throughout the lives of the contracts. We use both our own
experience and industry experience adjusted for historical trends in arriving at our
assumptions for expected mortality, morbidity and withdrawal rates. We use our own
experience and historical trends for setting our assumptions for expected expenses. We base
our assumptions for expected investment income on our own experience adjusted for current
economic conditions.
We establish reserves for our universal life, deferred annuity and investment contracts
equal to the cumulative account balances, which include premium deposits plus credited
interest less charges and withdrawals.
We regularly review our life insurance business to ensure that any deferred acquisition
cost associated with the business is recoverable and that our actuarial liabilities (life
insurance segment reserves) make sufficient provision for future benefits and related
expenses.
As previously indicated, in late July 2006, Scottish Re Group Limited announced that its
president and chief executive officer had resigned, that it expected to report a net
operating loss for the second quarter and that its third- and fourth-quarter earnings would
likely be below previous expectations. Following that announcement, Scottish Res financial
strength ratings were downgraded by A.M. Best Co., Fitch Ratings, Moodys Investors Service
and Standard & Poors Ratings Service and the company announced an auction process for the
possible sale of the company.
Subsequent to the August 2, 2006, filing of our Form 10-Q for the quarter ended June 30,
2006, we were able to determine that The Cincinnati Life Insurance Company does not have
any reinsurance treaties with Scottish Re although it has reinsurance placed with Pacific
Life Insurance Company and Security Life of Denver Insurance Company that is administered
by Scottish Re. At September 30, 2006, The Cincinnati Life Insurance Company had
approximately $8 million in reinsurance receivables with Pacific Life and $20 million in
reinsurance receivables with Security Life of Denver, which we believe will be recovered.
Other Matters
Significant Accounting Policies
Our significant accounting policies are discussed in Note 1 to the Consolidated
Financial Statements in the companys 2005 Annual Report on Form 10-K and updated in Note 1
to the Condensed Consolidated Financial Statements beginning on Page 7.
In conjunction with those discussions, in the Managements Discussion and Analysis in the
2005 Annual Report on Form 10-K, management reviewed the estimates and assumptions used to
develop reported amounts related to the most significant policies. Management discussed the
development and selection of those accounting estimates with the audit committee of the
board of directors.
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
39 |
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market risk is the potential for a decrease in value resulting from broad yet
uncontrollable forces such as inflation, economic growth, interest rates, world political
conditions or other widespread unpredictable events. It is comprised of many individual
risks that, when combined, create a macroeconomic impact. Our view of potential risks and
its sensitivity to such risks is discussed in the 2005 Annual Report on Form 10-K.
The fair value (market value) of our investment portfolio was $13.046 billion and $12.657
billion at September 30, 2006, and December 31, 2005, respectively.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At Sept. 30, 2006 |
|
|
At December 31, 2005 |
|
(In millions) |
|
Book value |
|
|
Fair value |
|
|
Book value |
|
|
Fair value |
|
|
Taxable fixed maturities |
|
$ |
3,410 |
|
|
$ |
3,441 |
|
|
$ |
3,304 |
|
|
$ |
3,359 |
|
Tax-exempt fixed
maturities |
|
|
2,309 |
|
|
|
2,349 |
|
|
|
2,083 |
|
|
|
2,117 |
|
Common equities |
|
|
2,358 |
|
|
|
7,032 |
|
|
|
1,961 |
|
|
|
6,936 |
|
Preferred equities |
|
|
216 |
|
|
|
224 |
|
|
|
167 |
|
|
|
170 |
|
Short-term investments |
|
|
0 |
|
|
|
0 |
|
|
|
75 |
|
|
|
75 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
8,293 |
|
|
$ |
13,046 |
|
|
$ |
7,590 |
|
|
$ |
12,657 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The ratio of investment assets to total assets for the parent company was 30.9 percent
at September 30, 2006, compared with 33.9 percent at year-end 2005.
Fixed-Maturity Investments
By allocating a significant portion of investment cash flows to the fixed income
portfolio over the longer-term, we believe we enhance portfolio stability and diversity.
Compared with common stocks, fixed-income investments generally are less volatile and
provide a more consistent income stream. Overall credit risk is reduced by diversifying the
fixed-income portfolio among approximately 1,850 securities.
Interest Rate Sensitivity Analysis
Because of our strong surplus, long-term investment horizon and ability to hold most
fixed-maturity investments until maturity, we believe the company is well positioned if
interest rates should rise. A higher rate environment could provide the opportunity to
invest cash flow in higher-yielding securities, while reducing the likelihood of calls of
the higher-coupon fixed-maturity investments currently held in the portfolio. While higher
interest rates would be expected to continue to increase the number of fixed-maturity
holdings trading below 100 percent of book value, we believe lower fixed-maturity security
values due solely to interest rate changes would not signal a decline in credit quality.
A dynamic financial planning model developed during 2002 uses analytical tools to assess
market risks. As part of this model, the modified duration of the fixed-maturity portfolio
is continually monitored by our investment department to evaluate the theoretical impact of
interest rate movements.
We measure modified duration and duration to worst. The table below summarizes the effect
of hypothetical changes in interest rates on the fixed-maturity portfolio under both
duration scenarios:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value |
|
Modified duration |
|
Duration to worst |
|
|
of fixed |
|
100 basis |
|
100 basis |
|
100 basis |
|
100 basis |
|
|
maturity |
|
point spread |
|
point spread |
|
point spread |
|
point spread |
(In millions) |
|
portfolio |
|
decrease |
|
increase |
|
decrease |
|
increase |
|
At September 30, 2006 |
|
$ |
5,790 |
|
|
$ |
6,190 |
|
|
$ |
5,389 |
|
|
$ |
6,138 |
|
|
$ |
5,441 |
|
At December 31, 2005 |
|
|
5,476 |
|
|
|
5,868 |
|
|
|
5,084 |
|
|
|
5,779 |
|
|
|
5,173 |
|
The modified duration of our bond portfolio currently is 6.8 years and the modified
duration of the redeemable preferred portfolio currently is 12.5 years. A 100 basis-point
movement in interest rates would result in an approximately 6.9 percent change in the
market value of the combined portfolios. Generally speaking, the higher a bonds rating,
the more directly correlated movements in its market value will be to changes in the
general level of interest rates. Therefore, the municipal bond portfolio is more likely to
respond to a changing interest rate scenario. Our
U.S. agency paper portfolio, because it generally has very little call protection, has a
low duration and would not be expected to be as responsive to rate movements. Lower
investment grade and high-yield corporate bond values are driven by credit spreads, as well
as their durations, in response to interest rate movements.
In the dynamic financial planning model, the selected interest rate change of 100 basis
points represents our views of a shift in rates that is quite possible over a one-year
period. The rates modeled should not be considered a prediction of future events as
interest rates may be much more volatile in the future. The analysis
|
|
|
|
|
Cincinnati Financial Corporation |
40
|
|
Form 10-Q for the quarter ended September 30, 2006 |
is not intended to
provide a precise forecast of the effect of changes in rates on our results or financial
condition, nor does it take into account any actions that we might take to reduce exposure
to such risks.
Short-Term Investments
Our short-term investments present minimal risk as we generally purchase the highest
quality commercial paper. We make short-term investments primarily with funds to be used to
make upcoming cash payments, such as taxes. At September 30, 2006, we had no short-term
investments compared with $75 million at year-end 2005. Funds to make the tax payments
related to the sale of our ALLTEL holding were held in short-term investments pending that
payment in June 2006.
Equity Investments
We believe our equity investment style centered on companies that pay and increase
dividends to shareholders is an appropriate long-term strategy. While our long-term
financial position would be affected by prolonged changes in the market valuation of our
investments, we believe our strong surplus position and cash flow provide a cushion against
short-term fluctuations in valuation. The continued payment of cash dividends by the
issuers of the common equities we hold also should provide support to their valuation.
At September 30, 2006, we held 13 individual equity positions valued at approximately $100
million or above. These equity positions accounted for 92.8 percent of the unrealized
appreciation of the entire portfolio.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of and for the quarter ended September 30, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned |
|
|
|
Actual |
|
|
Fair |
|
|
Percent of |
|
|
dividend |
|
(Dollars in millions) |
|
cost |
|
|
value |
|
|
fair value |
|
|
income |
|
|
Fifth Third Bagncorp |
|
$ |
283 |
|
|
$ |
2,771 |
|
|
|
39.5 |
% |
|
$ |
86 |
|
ExxonMobil Corporation |
|
|
134 |
|
|
|
601 |
|
|
|
8.6 |
|
|
|
9 |
|
The Procter & Gamble Company |
|
|
192 |
|
|
|
452 |
|
|
|
6.4 |
|
|
|
6 |
|
National City Corporation |
|
|
172 |
|
|
|
359 |
|
|
|
5.1 |
|
|
|
11 |
|
PNC Financial Services Group, Inc. |
|
|
62 |
|
|
|
341 |
|
|
|
4.8 |
|
|
|
7 |
|
Johnson & Johnson |
|
|
194 |
|
|
|
234 |
|
|
|
3.3 |
|
|
|
4 |
|
AllianceBernstein Holding L.P. |
|
|
60 |
|
|
|
228 |
|
|
|
3.2 |
|
|
|
9 |
|
Wyeth |
|
|
62 |
|
|
|
225 |
|
|
|
3.2 |
|
|
|
3 |
|
U.S. Bancorp |
|
|
140 |
|
|
|
222 |
|
|
|
3.2 |
|
|
|
7 |
|
Wells Fargo & Company |
|
|
96 |
|
|
|
196 |
|
|
|
2.8 |
|
|
|
4 |
|
Piedmont Natural Gas Company, Inc. |
|
|
64 |
|
|
|
143 |
|
|
|
2.0 |
|
|
|
4 |
|
FirstMerit Corporation |
|
|
54 |
|
|
|
124 |
|
|
|
1.8 |
|
|
|
4 |
|
Sky Financial Group, Inc. |
|
|
91 |
|
|
|
116 |
|
|
|
1.6 |
|
|
|
3 |
|
All other common stock holdings |
|
|
754 |
|
|
|
1,020 |
|
|
|
14.5 |
|
|
|
22 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
2,358 |
|
|
$ |
7,032 |
|
|
|
100.0 |
% |
|
$ |
179 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our investments are heavily weighted toward the financials sector, which represented
67.1 percent of the total fair value of the common stock portfolio at September 30, 2006.
Financials sector investments typically underperform the overall market during periods when
interest rates are expected to rise. We historically have seen these types of short-term
fluctuations in market value of its holdings as potential buying opportunities but are
cognizant that a prolonged downturn in this sector could create a long-term negative effect
on the portfolio.
Over the longer term, our objective is for the performance of our equity portfolio to
exceed that of the broader market. Over the five years ended September 30, 2006, our
compound annual equity portfolio return was a 0.9 percent compared with a compound annual
total return of 7.0 percent for the Standard & Poors 500 Index, a common benchmark of
market performance. Our equity portfolio performance reflected the decline in the market
value of our holdings of Fifth Third common stock, which generated a negative annualized
return of 6.7 percent for that five-year period. In the first nine months of 2006, our
equity portfolios total return of 7.9 percent compared with the Indexs total return of
8.5 percent.
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
41 |
Fifth Third Bancorp Holding
The after-tax unrealized gain on our Fifth Third common stock holding accounted for
25.0 percent of our shareholders equity at September 30, 2006, and dividends earned from
our Fifth Third investment were 20.2 percent of our net investment income in the first nine
months of 2006.
|
|
|
|
|
|
|
|
|
|
|
Nine months ended September 30, |
(In millions except market price data) |
|
2006 |
|
2005 |
|
Fifth Third Bancorp common stock holding: |
|
|
|
|
|
|
|
|
Dividends earned |
|
$ |
86 |
|
|
$ |
79 |
|
Percent of total net investment income |
|
|
20.2 |
% |
|
|
20.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
At September 30, |
|
At December 31, |
|
|
2006 |
|
2005 |
|
Shares held |
|
|
73 |
|
|
|
73 |
|
|
|
|
|
|
|
|
|
|
Closing market price of Fifth Third |
|
$ |
38.08 |
|
|
$ |
37.72 |
|
Book value of holding |
|
|
283 |
|
|
|
283 |
|
Fair value of holding |
|
|
2,771 |
|
|
|
2,745 |
|
After-tax unrealized gain |
|
|
1,617 |
|
|
|
1,600 |
|
|
|
|
|
|
|
|
|
|
Market value as a percent of total equity investments |
|
|
38.2 |
% |
|
|
38.6 |
% |
Market value as a percent of invested assets |
|
|
21.2 |
|
|
|
21.6 |
|
Market value as a percent of total shareholders equity |
|
|
42.9 |
|
|
|
45.1 |
|
After-tax unrealized gain as a percent of total
shareholders equity |
|
|
25.0 |
|
|
|
26.3 |
|
Based on the number of shares of Fifth Third that we owned at September 30, 2006, a 10
percent change in its currently stated quarterly dividend on an annual basis would result
in a $12 million change in our annualized pretax investment income.
Every $1.00 change in the market price of Fifth Thirds common stock has approximately a 27
cent impact on our book value per share. A 20 percent change in the market price of Fifth
Thirds common stock from its September 30, 2006, closing price would result in a $554
million change in assets and a $360 million change in after-tax unrealized gains.
Unrealized Investment Gains and Losses
At September 30, 2006, unrealized investment gains before taxes totaled $4.824 billion
and unrealized investment losses in the investment portfolio amounted to $71 million.
Unrealized Investment Gains
The unrealized gains at September 30, 2006, were due to long-term gains from our
holdings of Fifth Third common stock, which contributed 52.3 percent of the gain, and from
our other common stock holdings, including ExxonMobil Corporation, The Procter & Gamble
Company and PNC Financial Services Group, which each contributed at least 5 percent of the
gain.
Reflecting our long-term investment philosophy, of the 1,304 securities trading at or above
book value at September 30, 2006, 663 or 50.8 percent, have shown unrealized gains for more
than 24 months.
Unrealized Investment Losses Potential Other-than-temporary Impairments
At September 30, 2006, 633 of the 1,937 securities we owned were trading below 100
percent of book value compared with 732 of the 1,814 securities we owned at December 31,
2005. We deem the risk related to securities trading between 70 percent and 100 percent of
book value to be relatively minor and at least partially offset by the investment income
potential of these investments.
|
|
623 of these holdings were trading between 90 percent and 100 percent of book
value. The value of these securities fluctuates primarily because of changes in
interest rates. The fair value of these 623 securities was $2.660 billion at September
30, 2006, and they accounted for $58 million in unrealized losses. |
|
|
|
10 of these holdings were trading between 70 percent and 90 percent of book value
at September 30, 2006. The fair value of these holdings was $91 million, and they
accounted for the remaining $13 million in unrealized losses. These holdings are being
monitored for credit- and industry-related risk factors, but we believe the changes in
value primarily are due to normal fluctuations and economic factors. |
|
|
|
Of these securities, one is a common stock and one is a convertible preferred stock with
market values between 87 percent and 90 percent of book value at September 30, 2006. The
fair value of these two securities was $62 million and they accounted for $8 million of
unrealized losses, primarily related to the common stock holding. The remaining eight
are fixed-maturity securities with a total fair value of
|
|
|
|
|
|
Cincinnati Financial Corporation |
42
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
$29 million. All of these holdings were trading between 82 percent and 90 percent of book value at September 30,
2006, and no single industry accounted for more than two of the holdings. |
|
|
|
No holdings were trading below 70 percent of book value at September 30, 2006. |
The following table summarizes the investment portfolio by period of time:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
|
Number |
|
|
|
|
|
|
|
|
|
|
unrealized |
|
|
investment |
|
(Dollars in millions) |
|
of issues |
|
|
Book value |
|
|
Fair value |
|
|
gain/loss |
|
|
income |
|
|
At September 30, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Portfolio summary: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
0 |
|
|
$ |
0 |
|
|
$ |
0 |
|
|
$ |
0 |
|
|
$ |
0 |
|
Trading at 70% to less than 100% of
book value |
|
|
633 |
|
|
|
2,822 |
|
|
|
2,751 |
|
|
|
(71 |
) |
|
|
100 |
|
Trading at 100% and above of book value |
|
|
1,304 |
|
|
|
5,471 |
|
|
|
10,295 |
|
|
|
4,824 |
|
|
|
308 |
|
Securities sold in current year |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
12 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
1,937 |
|
|
$ |
8,293 |
|
|
$ |
13,046 |
|
|
$ |
4,753 |
|
|
$ |
420 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Portfolio summary: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
2 |
|
|
$ |
12 |
|
|
$ |
8 |
|
|
$ |
(4 |
) |
|
$ |
1 |
|
Trading at 70% to less than 100% of
book value |
|
|
730 |
|
|
|
2,894 |
|
|
|
2,820 |
|
|
|
(74 |
) |
|
|
118 |
|
Trading at 100% and above of book value |
|
|
1,082 |
|
|
|
4,684 |
|
|
|
9,829 |
|
|
|
5,145 |
|
|
|
387 |
|
Securities sold in current year |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
18 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
1,814 |
|
|
$ |
7,590 |
|
|
$ |
12,657 |
|
|
$ |
5,067 |
|
|
$ |
524 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table summarizes the investment portfolio:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6 Months or less |
|
|
> 6 - 12 Months |
|
|
> 12 - 24 Months |
|
|
> 24 - 36 Months |
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
Gross |
|
|
|
Number |
|
|
unrealized |
|
|
Number |
|
|
unrealized |
|
|
Number |
|
|
unrealized |
|
|
Number |
|
|
unrealized |
|
(Dollars in millions) |
|
of issues |
|
|
gain/loss |
|
|
of issues |
|
|
gain/loss |
|
|
of issues |
|
|
gain/loss |
|
|
of issues |
|
|
gain/loss |
|
|
Taxable fixed maturities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
0 |
|
|
$ |
0 |
|
|
|
0 |
|
|
$ |
0 |
|
|
|
0 |
|
|
$ |
0 |
|
|
|
0 |
|
|
$ |
0 |
|
Trading at 70% to less than 100% of
book value |
|
|
32 |
|
|
|
(1 |
) |
|
|
91 |
|
|
|
(9 |
) |
|
|
179 |
|
|
|
(32 |
) |
|
|
34 |
|
|
|
(12 |
) |
Trading at 100% and above of book value |
|
|
119 |
|
|
|
8 |
|
|
|
10 |
|
|
|
1 |
|
|
|
5 |
|
|
|
2 |
|
|
|
276 |
|
|
|
74 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
151 |
|
|
|
7 |
|
|
|
101 |
|
|
|
(8 |
) |
|
|
184 |
|
|
|
(30 |
) |
|
|
310 |
|
|
|
62 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tax-exempt fixed maturities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Trading at 70% to less than 100% of
book value |
|
|
6 |
|
|
|
0 |
|
|
|
21 |
|
|
|
0 |
|
|
|
234 |
|
|
|
(4 |
) |
|
|
23 |
|
|
|
(2 |
) |
Trading at 100% and above of book value |
|
|
468 |
|
|
|
12 |
|
|
|
2 |
|
|
|
0 |
|
|
|
2 |
|
|
|
0 |
|
|
|
352 |
|
|
|
34 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
474 |
|
|
|
12 |
|
|
|
23 |
|
|
|
0 |
|
|
|
236 |
|
|
|
(4 |
) |
|
|
375 |
|
|
|
32 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common equities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Trading at 70% to less than 100% of
book value |
|
|
2 |
|
|
|
(2 |
) |
|
|
2 |
|
|
|
(8 |
) |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Trading at 100% and above of book value |
|
|
8 |
|
|
|
63 |
|
|
|
2 |
|
|
|
168 |
|
|
|
4 |
|
|
|
12 |
|
|
|
31 |
|
|
|
4,441 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
10 |
|
|
|
61 |
|
|
|
4 |
|
|
|
160 |
|
|
|
4 |
|
|
|
12 |
|
|
|
31 |
|
|
|
4,441 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Preferred equities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Trading at 70% to less than 100% of
book value |
|
|
5 |
|
|
|
0 |
|
|
|
1 |
|
|
|
0 |
|
|
|
2 |
|
|
|
0 |
|
|
|
1 |
|
|
|
(1 |
) |
Trading at 100% and above of book value |
|
|
19 |
|
|
|
3 |
|
|
|
1 |
|
|
|
0 |
|
|
|
1 |
|
|
|
0 |
|
|
|
4 |
|
|
|
6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
24 |
|
|
|
3 |
|
|
|
2 |
|
|
|
0 |
|
|
|
3 |
|
|
|
0 |
|
|
|
5 |
|
|
|
5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Summary: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading below 70% of book value |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Trading at 70% to less than 100% of
book value |
|
|
45 |
|
|
|
(3 |
) |
|
|
115 |
|
|
|
(17 |
) |
|
|
415 |
|
|
|
(36 |
) |
|
|
58 |
|
|
|
(15 |
) |
Trading at 100% and above of book value |
|
|
614 |
|
|
|
86 |
|
|
|
15 |
|
|
|
169 |
|
|
|
12 |
|
|
|
14 |
|
|
|
663 |
|
|
|
4,555 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
659 |
|
|
$ |
83 |
|
|
|
130 |
|
|
$ |
152 |
|
|
|
427 |
|
|
$ |
(22 |
) |
|
|
721 |
|
|
$ |
4,540 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
43 |
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures The company maintains disclosure
controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934, as amended (Exchange Act)).
Any controls and procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives. The companys management,
with the participation of the companys chief executive officer and chief financial
officer, has evaluated the effectiveness of the design and operation of the companys
disclosure controls and procedures as of September 30, 2006. Based upon that evaluation,
the companys chief executive officer and chief financial officer concluded that the design
and operation of the companys disclosure controls and procedures provided reasonable
assurance that the disclosure controls and procedures are effective to ensure:
|
|
that information required to be disclosed in the companys reports
under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the Securities and
Exchange Commissions rules and forms, and |
|
|
that such information is accumulated and communicated to the
companys management, including its chief executive officer and
chief financial officer, as appropriate, to allow timely decisions
regarding required disclosures. |
Changes in Internal Control over Financial Reporting During the three months ended
September 30, 2006, there were no changes in our internal controls over financial reporting
that have materially affected, or are reasonably likely to materially affect, our internal
control over financial reporting.
Part II Other Information
Item 1. Legal Proceedings
Neither the company nor any of our subsidiaries is involved in any material litigation
other than ordinary, routine litigation incidental to the nature of its business.
Rochlin v. The Cincinnati Insurance Company, Case No. IP 00-1898-C, Federal District Court
for the Southern District of Indiana, filed December 8, 2000: On October 11, 2006, the
court issued a final order dismissing all claims with prejudice pursuant to a settlement
agreement. Under the terms of the settlement agreement, 46 plaintiffs will share the
settlement sum of $50,000 less applicable tax withholding, and the plaintiffs lawyers will
receive a payment of $487,500 attorney fees and litigation and related expenditures.
Management believes these payment amounts are immaterial and do not affect the companys
financial condition or results of operations.
Item 1A. Risk Factors
There have been no material changes to our risk factors since our 2005 Annual Report
on Form 10-K was filed on March 10, 2006.
|
|
|
|
|
Cincinnati Financial Corporation |
44
|
|
Form 10-Q for the quarter ended September 30, 2006 |
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The board of directors has authorized share repurchase programs (see the 2005 Annual
Report on Form 10-K, Cash Flow, for information on the historical programs). In the first
nine months of 2006, repurchases were made as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total number of shares |
|
Maximum number of |
|
|
|
|
|
|
|
|
purchased as part of |
|
shares that may yet be |
|
|
Total number of |
|
Average price |
|
publicly announced |
|
purchased under the |
Month |
|
shares purchased(1) |
|
paid per share |
|
plans or programs(2) |
|
plans or programs |
|
January 1-31, 2006 |
|
|
0 |
|
|
$ |
0.00 |
|
|
|
0 |
|
|
|
9,466,035 |
|
February 1-28, 2006 |
|
|
537,322 |
|
|
|
44.12 |
|
|
|
537,322 |
|
|
|
8,928,713 |
|
March 1-31, 2006 |
|
|
1,316,978 |
|
|
|
43.97 |
|
|
|
1,312,678 |
|
|
|
7,616,035 |
|
April 1-30, 2006 |
|
|
0 |
|
|
|
0.00 |
|
|
|
0 |
|
|
|
7,616,035 |
|
May 1-31, 2006 |
|
|
0 |
|
|
|
0.00 |
|
|
|
0 |
|
|
|
7,616,035 |
|
June 1-30, 2006 |
|
|
150,000 |
|
|
|
45.89 |
|
|
|
150,000 |
|
|
|
7,466,035 |
|
July 1-31, 2006 |
|
|
0 |
|
|
|
0.00 |
|
|
|
0 |
|
|
|
7,466,035 |
|
August 1-31, 2006 |
|
|
31,666 |
|
|
|
45.98 |
|
|
|
31,666 |
|
|
|
7,434,369 |
|
September 1-30, 2006 |
|
|
113,598 |
|
|
|
46.23 |
|
|
|
110,900 |
|
|
|
7,323,469 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Totals |
|
|
2,149,564 |
|
|
|
44.29 |
|
|
|
2,142,566 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares and share prices on this table are not adjusted for stock dividends.
|
|
|
|
|
1. |
|
Includes 4,300 and 2,987 shares acquired in March and
September, 2006, respectively, in satisfaction of withholding taxes
due upon exercise of stock options. |
|
2. |
|
The current repurchase program was announced on August 19, 2005, and became
effective on September 1, 2005. It replaced a program which had been in effect
since 1999. |
|
3. |
|
The share amount approved for repurchase in 1999 was 17 million shares. |
|
4. |
|
The repurchase program has no expiration date. |
|
5. |
|
No repurchase program has expired during the period covered by the above table,
but the 1999 program was superseded by the 2005 program and no further repurchases
will occur under the 1999 program. |
|
6. |
|
The share amount approved for repurchase under the 2005 program is 10 million
shares. At the time the 1999 program was replaced by the 2005 program, it had
2,739,942 shares remaining. All of the repurchases reported in the table above were
repurchased under the 2005 program. |
Item 3. Defaults upon Senior Securities
We have not defaulted on any interest or principal payment, and no arrearage in the
payment of dividends has occurred.
Item 4. Submission of Matters to a Vote of Security Holders
None.
Item 5. Other Information
None.
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
45 |
Item 6. Exhibits
|
|
|
Exhibit No. |
|
Exhibit Description |
3.1A
|
|
Amended Articles of Incorporation of Cincinnati Financial Corporation (1) |
|
|
|
3.1B
|
|
Amendment to Article Fourth of Amended Articles of Incorporation of Cincinnati Financial Corporation (2) |
|
|
|
3.2
|
|
Regulations of Cincinnati Financial Corporation (3) |
|
|
|
4.1
|
|
Indenture with The Bank of New York Trust Company (4) |
|
|
|
4.2
|
|
Supplemental Indenture with The Bank of New York Trust Company (4) |
|
|
|
4.3
|
|
Second Supplemental Indenture with The Bank of New York Trust Company (5) |
|
|
|
4.4
|
|
Form of 6.125% Exchange Note Due 2034 (included in Exhibit 4.2) |
|
|
|
4.5
|
|
Form of 6.92% Debentures Due 2028 (included in Exhibit 4.3) |
|
|
|
4.6
|
|
Indenture with the First National Bank of Chicago (subsequently assigned to The Bank of New York Trust Company) (6) |
|
|
|
4.7
|
|
Form of 6.90% Debentures Due 2028 (included in Exhibit 4.6) |
|
|
|
10.1
|
|
Agreement with Messer Construction (7) |
|
|
|
10.2
|
|
Stock Repurchase Agreement dated November 12, 2004 with Robert C. Schiff, Trustee, Robert C. Schiff Revocable Trust
(7) |
|
|
|
10.3
|
|
Purchase Agreement with J.P. Morgan Securities Inc. and UBS Securities LLC (8) |
|
|
|
10.4
|
|
2003 Non-Employee Directors Stock Plan (9) |
|
|
|
10.5
|
|
Cincinnati Financial Corporation Stock Option Plan No. VI (10) |
|
|
|
10.6
|
|
Cincinnati Financial Corporation Stock Option Plan No. VII (11) |
|
|
|
10.7
|
|
Standard Form of Nonqualified and Incentive Option Agreements for Stock Option Plan No. VI (7) |
|
|
|
10.8
|
|
Registration Rights Agreement with J.P. Morgan Securities Inc. and UBS Securities LLC (4) |
|
|
|
10.9
|
|
Form of Dealer Manager Agreement between Cincinnati Financial and UBS Securities LLC (12) |
|
|
|
10.10
|
|
Cincinnati Financial Corporation Incentive Compensation Plan (13) |
|
|
|
10.11
|
|
Cincinnati Financial Corporation 2006 Stock Compensation Plan (13) |
|
|
|
10.12
|
|
Standard Form of Combined Incentive/Nonqualified Stock Option for Stock Option Plan VI (14) |
|
|
|
10.13
|
|
364-Day Credit Agreement by and among Cincinnati Financial Corporation and CFC Investment Company, as Borrowers, and Fifth
Third Bank, as Lender (15) |
|
|
|
10.14
|
|
Director and Named Executive Officer Compensation Summary (13) |
|
|
|
10.15
|
|
Executive Compensation Plan (16) |
|
|
|
10.16
|
|
Amendment No. 1 to Credit Agreement by and among Cincinnati Financial Corporation and CFC investment Company, as Borrower,
and Fifth Third Bank, as lender. (17) |
|
|
|
(1) |
|
Incorporated by reference to the companys
1999 Annual Report on Form 10-K dated March 23, 2000 (File No. 000-04604). |
|
(2) |
|
Incorporated by reference to Exhibit 3(i)
filed with the companys Current Report on Form 8-K dated July 15, 2005. |
|
(3) |
|
Incorporated by reference to the companys
Definitive Proxy Statement dated March 2, 1992, Exhibit 2 (File No. 000-04604). |
|
(4) |
|
Incorporated by reference to the companys
Current Report on Form 8-K dated November 2, 2004, filed with respect to the
issuance of the companys 6.125% Senior Notes due November 1, 2034. |
|
(5) |
|
Incorporated by reference to the companys
Current Report on Form 8-K dated May 9, 2005, filed with respect to the
completion of the companys exchange offer and rescission offer for its 6.90%
senior debentures due 2028. |
|
(6) |
|
Incorporated by reference to the companys
registration statement on Form S-3 effective May 22, 1998 (File No. 333-51677). |
|
(7) |
|
Incorporated by reference to the companys
2004 Annual Report on Form 10-K dated March 11, 2005. |
|
(8) |
|
Incorporated by reference to the companys
Current Report on Form 8-K dated November 1, 2004, filed with respect to the
issuance of the companys 6.125% Senior Notes due November 1, 2034. |
|
(9) |
|
Incorporated by reference to the companys
Definitive Proxy Statement dated March 21, 2005. |
|
(10) |
|
Incorporated by reference to the companys Definitive Proxy
Statement dated March 1, 1999 |
|
(11) |
|
Incorporated by reference to the companys Definitive Proxy
Statement dated March 8, 2002. |
|
(12) |
|
Incorporated by reference to the companys Registration
Statement on Form S-4 filed March 21, 2005 (File No. 333-123471). |
|
(13) |
|
Incorporated by reference to the companys Definitive Proxy
Statement dated March 30, 2006. |
|
(14) |
|
Incorporated by reference to Exhibit 10.3 filed with the
companys Current Report on Form 8-K dated July 15, 2005. |
|
(15) |
|
Incorporated by reference to Exhibit 10.1 filed with the
companys Current Report on Form 8-K dated May 31, 2005. |
|
|
(16) |
|
Incorporated by reference to Exhibit 10.2 filed with the
companys Current Report on Form 8-K dated November 23, 2005. |
|
(17) |
|
Incorporated by reference to Exhibit 10.01 filed
with the companys Current Report on Form 8-K dated May 26, 2006. |
|
|
|
|
|
Cincinnati Financial Corporation |
46
|
|
Form 10-Q for the quarter ended September 30, 2006 |
|
|
|
10.17
|
|
Cincinnati Financial Corporation Supplemental Retirement Plan |
|
|
|
10.18
|
|
Standard Form of Incentive Stock Option Agreement for Stock Option Plan VII (18) |
|
|
|
10.19
|
|
Standard Form of Nonqualified Stock Option Agreement for Stock Option Plan VII (19) |
|
|
|
10.20
|
|
Standard Form of Incentive Stock Option Agreement for the 2006 Stock Compensation Plan (20) |
|
|
|
10.21
|
|
Standard Form of Nonqualified Stock Option Agreement for the 2006 Stock Compensation Plan (21) |
|
|
|
11
|
|
Statement re: Computation of per
share earnings for the three months ended September 30, 2006 and 2005, contained in Exhibit
11 of this report, Page 49 |
|
|
|
14
|
|
Cincinnati Financial Corporation Code of Ethics for Senior Financial Officers (22) |
|
|
|
21
|
|
Cincinnati Financial Corporation Subsidiaries contained in the 2005 Annual Report on Form 10-K, Part I, Item 1, Page 1 |
|
|
|
31.1
|
|
Certification pursuant to
Section 302 of the Sarbanes Oxley Act of 2002 Chief
Executive Officer, Page 50 |
|
|
|
31.2
|
|
Certification pursuant to
Section 302 of the Sarbanes Oxley Act of 2002 Chief
Financial Officer, Page 51 |
|
|
|
32
|
|
Certification pursuant to
Section 906 of the Sarbanes Oxley Act of 2002, Page 52 |
|
|
|
|
|
|
(18) |
|
Incorporated by reference to Exhibit 10.1 filed with the companys Current Report
on Form 8-K dated October 20, 2006. |
|
(19) |
|
Incorporated by reference to Exhibit 10.2 filed with the companys Current Report
on Form 8-K dated October 20, 2006. |
|
(20) |
|
Incorporated by reference to Exhibit 10.3 filed with the companys Current Report
on Form 8-K dated October 20, 2006. |
|
(21) |
|
Incorporated by reference to Exhibit 10.4 filed with the companys Current Report
on Form 8-K dated October 20, 2006. |
|
(22) |
|
Incorporated by reference to the companys Definitive Proxy Statement dated March
18, 2004. |
|
|
|
Cincinnati Financial Corporation |
|
|
Form 10-Q for the quarter ended September 30, 2006
|
|
47 |
Signature
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.
|
|
|
CINCINNATI FINANCIAL CORPORATION |
|
|
|
|
|
Date: November 1, 2006 |
|
|
|
|
|
/S/ Kenneth W. Stecher |
|
|
|
|
|
Kenneth W. Stecher |
|
|
Chief
Financial Officer, Executive Vice President, Secretary and Treasurer |
|
|
(Principal Accounting Officer) |
|
|
|
|
|
|
|
Cincinnati Financial Corporation |
48
|
|
Form 10-Q for the quarter ended September 30, 2006 |