Hartford Insurance Group Inc (HIG) 2004 Q3 法說會逐字稿

Good morning. My name is Michelle and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Hartford third quarter conference call. [OPERATOR INSTRUCTIONS] Thank you. Mr. Miller, you may begin your conference.

Good morning and thank you for joining us today. Please note that our quarterly report on Form 10Q was filed with the SEC last night. Our financial supplements and a complete slide presentation for today's call are available on our website at thehartford.com. Participating in this call will be Ramani Ayer, the Chairman and CEO, David Johnson, CFO, David Zwiener, Chief Operating Officer of our P&C Company, Tom Marra, Chief Operating Officer of our Life Company, and Neal Wolin, General Counsel of The Hartford. After the presentation, we will go right into the question and answer session.

As noted on slide 2, we will make certain statements during the call that should be considered forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These include statements about our future results of operations. We caution investors that these forward-looking statements are not guarantees of future performance and actual results may differ materially. Investors should consider the important risks and uncertainties that may cause actual results to differ, included those discussed in our 10Q filed yesterday, and other publicly available documents filed with the SEC. We assume no obligation to update the forward-looking statements made during this call.

The discussion during this call of the Hartford's financial performance include financial measures that are not derived from generally accepted accounting principles. Information regarding these non-GAAP financial measures is available for review in the investor relations section of the Hartford's website at thehartford.com.

Now moving to our presentation, I would like to turn it over to Ramani Ayer.

Thank you, Hans. Good morning and thank you for joining us today.

Before we discuss the third quarter results, I want to address right upfront some of the issues raised by the current spotlight focused on our industry.

Please turn to slide three. Serious questions have been raised. They deserve answers. And for those of you that know The Hartford, you know that nothing concerns me more than a questions about our integrity. We have communicated to our employees that what we sell every day is trust. It's an integral part of our business that cannot be compromised. In response to the inquiries, we are cooperating fully with the attorneys general, and have hired outside counsel, Morrison & Foerster, to help conduct a comprehensive internal review. No one is more intent than this management team to have these issues fully addressed, and if necessary, actions taken. But given the need to get it right, you'll understand that we're placing a high premium on thoroughness. Our employees understand, and we have said publicly, any improper or illegal activity uncovered in our review will result in swift corrective and disciplinary action.

Against the back-drop of this review, many of you have asked about our agent and broker incentive program, particularly the amount of incentive compensation we pay. Although we normally don't break out these numbers, given the current environment we thought it was important to provide some context for our property casualty and group benefits businesses.

In 2003, the last year for which complete numbers are available, we wrote $10.5 billion of direct premiums and booked almost $1.2 billion of total compensation for agents and brokers. For the 2003 contract year, approximately $145 million of that total compensation, or about 12%, was incentive compensation. In 2003, our top five property and casualty agents and brokers produced $1.5 billion in direct written premiums and earned $143 million in total commissions.

For their 2003 contract year, about $26 million, or 18%, was incentive compensation.

During the same period, our group benefits business wrote $2.3 billion of direct premiums, and broker compensation for GVD was $234 million. For the 2003 contract year, less than $20 million of that compensation, or about 8%, was incentive compensation.

Going forward, we're committed to developing new compensation models that are supported by regulators and disclosed to customers. As you know, a number of big brokers are moving away from some forms of incentive compensation. We will work with them to restructure their contracts with us, and we endorse their move towards disclosing compensation to their customers. By the same token, large broker compensation models are unlikely to work with the thousands of small brokers and agents who have been a cornerstone of our industry. These agents are critical to serving small businesses across America.

Tier 2, a next step, will including working with them and regulators to develop compensation structures that reflect evolving industry standards, that are disclosed to customers, and that pay them fair compensation for helping us profitably grow our book of business. Although the spotlight is on compensation structure, placement decisions will continue to involve a complex analysis of both price and value to meet customer needs. Value is driven by a myriad of factors, including financial strength, coverage design, claims and support services, cutting edge technology, season underwriting discipline, and ease of doing business with the carrier. The Hartford has always delivered outstanding value to customers, and will continue to prosper by doing so.

Now let me address another issue upfront. Several newspapers have carried stories today based on the disclosure in our 10Q regarding the investigation by the New York Attorney General into the timing of a recent sale of some Hartford stock by Tom Marra. I want to repeat for all of you what we said in response to press inquiries on this issue. When we learned of this issue, we asked our outside counsel to investigate it. They have confirmed that Tom followed our internal trading procedures in connection with the sale, and that nothing would indicate that anything concerning the sale was inappropriate.

Finally, I want to emphasize that Tom is a man of deep principle and integrity. I have confidence in him, and he deserves our full support.

Now let me turn to this quarter's results. Beginning on slide 4, I'm going to cover the operating highlights of our quarter. Then I've asked Tom Marra to comment on the new principle first preferred writer for variable annuities that we launched earlier this week.

Finally, before we take your questions, I'll turn the call over to our CFO, David Johnson, for discussion of our guidance for 2004 and 2005, and our capital position.

The third quarter of 2004 has truly been a remarkable quarter in several ways. In addition to the hurricanes, there are several significant items reflected in our results. I'll cover each of those in detail. However, the unusual series of hurricanes and other special items this quarter, should not mask the underlying strength of our franchise.

As you will see, both property casualty , and life, executed well. We reported net income of $494 million, or $1.66 per diluted share.

Net income was up from $343 million, or $1.20 per diluted share, in the third quarter of 2003. Included in these amounts were net realized capital gains of $29 million this quarter, up from $15 million in the third quarter of 2003.

Operating income, which is a non-GAAP measure, rose 40% from $335 million, or $1.18 per diluted share in last year's third quarter, to $468 million, or $1.57 per share this year.

I mentioned several significant events in the quarter's results. Let me quickly highlight the big items. The four consecutive hurricanes pounding the Southeast were unprecedented. Including $17 million of reinstatement premiums, the total after-tax impact of all cast in the third quarter was $263 million, or $0.88 per diluted share. This includes an estimate for Hurricane Gene, of $65 million after-tax.

Third quarter earnings also reflected a $216 million tax benefit, stemming from a favorable resolution of various tax items, primarily the dividends received deduction. This tax benefit for tax years prior to 2004, added $0.72 per diluted share.

The last item was our previously disclosed $49 million after-tax charge to reflect the results of our ground-up study of environmental reserves. This charge was reflected in P&C's other operation segment.

Overall, revenues were up 9%, total assets under management rose 18% over prior year, to almost $275 billion. Including the significant storm losses and tax benefits, we achieved an operating ROE of over 16% in the last 12-month period. Stockholders equity, exclusive of AOCI reached $12.2 billion, and book value ex-AOCI now stands at 4170, up 18% over the third quarter of 2003.

Turning to slide 5, I'll quickly cover the third quarter highlights for property and casualty. Operating income from P&C was $13 million. This, of course, reflects a significant cap losses and the environmental charge. It also includes $26 million of tax benefits from prior tax years.

The devastation caused by this hurricane season was massive, touching many families and businesses. I toured Florida shortly after the storms to talk to some customers first-hand. Many were grateful for the rapid and passionate response from our claims teams. We reached out to our customers in the affected areas, in order to expedite claim reporting. To date, our claims adjusters are handling over 46,000 claims from the hurricanes. And new claim reports are still coming in as the snow birds return to their winter homes in Florida.

Some have speculated that these losses will stabilize industry-wide pricing, but we have not seen evidence of that yet. Pricing in the region will stay disciplined. And despite excellent state pulling mechanisms, it is likely that Florida residents will again face some challenges with affordability and availability. Our plan is to carefully manage our risk exposures in Florida, and other cap grown areas.

We're also continuing to balance our spread of risk with profitable growth in other states and markets. And as you can see, we have been growing well. Written premium for ongoing property casualty was up 12% in the quarter, reflecting 16% growth in business insurance, and 9% growth in personal line. Small commercial written premium was up 21%, driven in part by our new spectrum expand product and broad acceptance of our web-based tool for new business.

Middle market written premium grew 12% over the third quarter of 2003. This growth reflects excellent retention rate and refined approach to pricing and product packaging in profitable industry sectors.

In personal lines, the continued success of our dimension auto and home products, plus our web-based tools, led to an increase of 17% in premium written through the independent agent channel. Overall, personal lines grew of written premium by 9% in the quarter, versus a year ago.

As we gain market share in these lines, we're maintaining our underwriting and expense management discipline. Ongoing operations combined ratio ex-cat was 93.3, a full 2 points lower than the prior year.

We're growing on a foundation of profitable business and will exercise underwriting discipline to protect that profitability. Cat losses for the quarter added 15.6 points for the combined ratio for ongoing operations. This compares to 3.4 points for cats in the third quarter of last year.

Spreads between earned pricing and lost costs remain favorable in most lines of business, even as pricing continued to moderate during the quarter. Ex-cats [indiscernible] loss ratios were good and P&C margins remain strong.

In small commercial and personal lines, competition is tough, but rational. Margins in these businesses remains good as we continue to benefit from low inflation and generally favorable frequency trends.

We're seeing increasing competition in middle markets. But with disciplined underwriting and a focus on retaining profitable business, we're achieving targeted returns and still reporting double digit growth in the quarter.

New business in the middle market is down from the third quarter of 2003, but our retention rates have improved.

The third quarter highlights for life are on slide 6. Third quarter life operating income of $496 million, included $190 million in tax benefits from prior years. Excluding these tax benefits and a $40 million bank core settlement expense in the third quarter of 2003, operating income was up an impressive 38%.

Assets under management reached a record $233 billion in the quarter, 21% higher than 1 year-ago.

AUM growth was fueled by net flows from the retail products group, Japan, end market depreciation.

Variable annuity sales in the U.S. were $3.3 billion in the third quarter, consistent with our prior guidance, and VA net flows were $963 million. Slower equity markets impacted sales growth across the industry, but based on preliminary data, we're still number one in VAs with over 11% market share.

In addition to variable annuities, our other asset accumulation businesses continue to build AUM. Taken together, Japan, 401(k), and mutual funds grew another $3 billion in net flows for the quarter. With excellent results with both Japan and 401(k)s. And annuity sales in Japan were $2.3 billion, and assets under management topped $11 billion, that's $6.3 million (ph) more than he had just one year ago. We estimate that positive net flows in Japan will put us over $13 billion by year-end.

401(k) sales and deposits grew 28% to $595 million. Our strategy to expand distribution and leverage Planco is clearly driving success in this market. Mutual fund sales in the quarter were up 11% year-over-year, to $1.3 billion. Growth in this line was aided by wrap funds product.

Now turning to group benefits, operating income was a record $70 million for the quarter, 84% over the third quarter of 2003. Fully insured premiums were up 55% in the same period. The integration of CNA's group operations is on track and we're beginning to see benefits of this acquisition on bottom line growth. That said, earnings for the quarter were above our expected run rate, in large part due to extremely favorable mortality.

In our individual life business, our refreshed product portfolio and marketing are generating outstanding results. Total sales up 12% and sales of variable life grew 19% over the prior year. This marks the fifth consecutive quarter of year-over-year double digit growth in individual life.

As a market leader, we continue to develop innovative products that meet customer needs. In Japan, two new fixed annuities were launched in September for Japanese investors who are seeking guaranteed terms. A new UL plan was launched in October. Just days ago, we announced a new principle first preferred writer for variable annuities. I'm going to ask Tom to give you his insights on this exciting new option. Tom?

Thanks, Ramani. I'll be on page 7. I am, and in fact the whole team, is very excited about the introduction of the new preferred writer, we launched just this week, November 1. [inaudible - microphone inaccessible] Therefore, that will give customers a choice of principle section benefits at a different price. Looking at what we've observed, you all know we've had a lot of success with principle first when it was first introduced in August of '02. We've seen competitors adopt or modify our design, and my observation just over the last 12 months or so [inaudible - microphone inaccessible] the prices seems to go higher and higher. That's precisely why we designed principle first preferred. Because we truly believe there's a great market opportunity for us now, but providing basic principle protection at a low cost. You know, the essence of principal first preferred is going to allow 5% premium withdrawal. There will be no preset provisions, but it will be revokable after five years if the customer feels it's no longer needed. So at 20 basis points, we really believe this will be very well received in the market and enhance our overall position. Just a word of caution, that with any product launch, it's going to take some time for us to gain sales. Having said that, we've been very encouraged, but I go back to the caution again [indiscernible - microphone inaccessible]. We still believe it won't be until 2005 before we see significant positive traction in our overall sales.

So quick summary, we believe this product is going to be a good one for us, because frankly, I think it's the right answer for customers, for many customers, and that should help our sales overall. Obviously, the benefit design also positions us well for capital risk management, and as always, these writers are attached to our VAs which are priced to return our target return on equity. But we're definitely excited about its prospects and really hope that it does great things for the market. So with that, I'll turn it over to David Johnson.

Thanks, Tom. I'll turn first to slide 8, our but for page. This reconciles the operating income we've discussed today with our net income. The only unusual item adjusted is the $216 million tax benefits for pre-2004 tax reserves released in the quarter. Hurricanes, the environmental charge, they're all in the operating number.

On page 9, we reiterate the earnings guidance we provided in our press release. Couple of key points on the guidance for '04. This guidance includes our second quarter reinsurance recoverable charge, and our third quarter environmental charge. The only things from our first nine months that are not in the guidance are the $216 million tax benefit, realized gains and losses, and the first quarter catchup for the new accounting [indiscernible].

Our 2005 guidance is obviously preliminary. We haven't completed our budget process, and a number of key drivers, like the equity market drop is not in our control. Let me outline a few key assumptions that are embedded in the guidance.

In our guidance, we assume general VA industry sales weakness, and a very gradual ramp up benefit, as Tom said, to sales from principal first preferred. That probably means a $3 billion a quarter sales pace in fourth quarter '04, with hopes for upside from that pace into '05 as PF preferred kicks in.

Individual life has a very tough comparison in '05. Earnings will continue to be hindered by the lower sales in '02 and '03, and in addition, '04 earnings benefited from mortality and some other unpredictable items. So you should expect single digit operating earnings growth in '05 for individual life.

Group benefits is pushing for double digit operating earnings growth through '05, and that is our goal. This guidance assumes they either get there or they're very close.

The P&C industry, as Ramani told you, is in a period of flux. Clearly the pricing cycle has turned, and leading indicator lines in our speciality business has seen price decreases for quite some time. All lines are now affected, some of course more than others. At the same time, lost cost trends have been favorable, and we and others have benefited from better than expected loss frequency, excluding hurricanes, of course, in 2004.

For 2005, our guidance assumes that incurred frequency does not continue to deviate favorably, and that earned pricing either paces lost costs personal line, or fall slightly behind business insurance, producing flat or slightly worse combined ratios. In either case, our guidance assumes we achieve spreads that allow us to write profitable business at our targeted return.

Accordingly, we believe we can grow written premium in '05 in high singling digits in personal line, driven by our dimensions product, and low double digits in business insurance, driven by small commercial. Our specialty segment will show negative written premium growth in '05, but this is partially due to our exit from a couple of lines of business, including agriculture crop, that will probably contribute roughly $340 million of premiums, with little associated profit to the 2004 numbers. That premium largely disappears from the '05 estimate.

Our capital position remains solid. Despite the major catastrophe losses we suffered in third quarter, we still expect to end '04 with $500-$600 million capital cushion in place. It is fair to say, however, that these losses decrease the chance that we'll execute a material share repurchase in '05. Our leverage is measured by debt as a percentage of total capitalization continues to decline in the quarter.

We're quite pleased with our progress. Ramani?

Thank you, David. Now I'd like to open up the floor for your questions. Operator?

[OPERATOR INSTRUCTIONS]

Operator, did we lose you?

One moment, please, for your first question. Your first questions comes from the line of Nigel Dally with Morgan Stanley.

Good morning. First [indiscernible - highly accented language] annuities. Some of your competitors have introduced what seemed to be pretty aggressive product features like an annual refit of the withdrawal guarantee. Just wondering whether [indiscernible - highly accented language] withdrawal benefit market is perhaps getting irrational. Then I just have a follow-up as well.

Let me turn it over to Tom Nigel for that answer.

[indiscernible - microphone inaccessible] They said it seems like there has been really a ramp up as benefits get richer and richer and the complexities are going up. I guess our idea with principal first preferred, think about what the people really care about. At the core, you've got a bunch of investors who have been through a rough period and they just don't want to lose money. And we think principal first preferred is a great response to that, because it gives them the most basic protection at the most basic cost. So I think we're [indiscernible - microphone inaccessible]

It's a great thing, isn't it, from a price value spectrum standpoint, we're in a continuum now. We have different value attributes in our different products so we've got to continue price value inflation here, so this is great. Nigel, thank you.

Great. Just follow-up on the regulatory investigations. Just wondering whether you have [indiscernible - highly accented language] requests for information surrounding your group benefits or potentially [indiscernible -highly accented language].

Sorry, Nigel, could you repeat that question?

Sure. With the regulatory investigations, have you received any requests for information in your group benefits area or sales practices for variable annuities or is it just purely on the [indiscernible - highly accented language].

Let me turn it over to Neal for that answer.

Nigel, thanks. We have, as we disclosed, received request for information across a range of our lines, including group benefits.

And as you know, on, what do you call it, annuities, mutual funds, we have been supplying information to the SEC for a long time, so that's still underway.

But that's predominantly just market timing issues, not just sales practice issues, or is it [indiscernible - highly accented language].

That's right, that's right Nigel. Although as we have disclosed for a number of quarters now, they have inquiries with respect to revenue sharing issues, for example, and director brokerage issues as we understand across the industry. But that's really, you know, nothing's changed from what we disclosed previously on those topics.

That's great. Thank you. Thank you, Nigel.

Your next question comes from the line of Jimmy Bhullar with J.P. Morgan.

Hi. Good morning. Just to have a couple of questions. First, on your [indiscernible - highly accented language] annuity business, sales have been declining a lot, although they were at the high end of your guidance. Why is it they're not stabilizing sooner than some time in 2005? Because I think you blamed partly in the past you have said that other companies have introduced the GMWB and you have lost some of the advantage that you have. But that's been going on for a few quarters. And now everyone -- almost everyone who was going to introduce has introduced that feature. Is it just that you increased the cost on the feature or are there other things that are causing sales to be weaker for a lot longer time period that we originally thought?

Good question, Jimmy. Let me have Thomas address that.

Thank you.

Jimmy, we've certainly been talking for some time going back to this time last year, we saw what competitors were doing, they're good competitors, our [indiscernible - microphone inaccessible] range was going to dwindle a little bit. We stayed strong, stayed number 1. That's exactly what happened. One area estimate [indiscernible - microphone inaccessible] we think we'll be solidly in the 11% range. Obviously we are excited about preferred and even though we're looking at probably a $3 billion quarter in the fourth quarter here as David Johnson said, we're look for that to take hold and get us moving upward. I think we've done well given what we had to deal with [indiscernible - microphone inaccessible] to respond to our leadership.

Just on preferred, the fees on those, I think you said 20 basis points. They're lower than the fees on the original principal. Have you looked at what the chances would be that preferred would cannibalize sales of principal first?

Well, the principal first and preferred are going to be offered side by side. I think many customers [indiscernible - microphone inaccessible] going to prefer the preferred at the lower cost, still gives them protection. So I think we'll get some kind of [indiscernible - microphone inaccessible] between the two. In total they're making a choice to make the decision to buy it in the first place. [indiscernible - microphone inaccessible] do I buy the product and then I decide do I want the 50 basis points principal first or do I want the preferred at 20 basis points?

And Jimmy, remember, that's all factored into David Johnson's overall [inaudible - multiple speakers] of 2005. That's how we think about it

The last question I had. You've been getting obviously a lot of press about Tom Marra's sales, maybe unfairly. How is it that you get subpoened by Spitzer who is pretty well known now a days and a major executive in the business has no knowledge of it, in your 10Q you said that based on your internal investigation, Tom was not aware of the subpoenas?

You know, I got to make it clear based on the review of the matter, as I told you, we hired outside counsel and we looked at . Tom fully complied with our internal trading procedures. And nothing, nothing causes us to believe that he acted inappropriately. I feel Tom is a man of deep principle and integrity. I have complete confidence in him.

Okay. Were the sales timed or were just -- were they timed before they actually occurred or not?

Sorry, again?

Were the sales pretime sales, were they prescheduled, the sales of stock?

I think, the way I would answer it, Jimmy, as I mentioned to you, we did a very thorough review and based on our review, I feel very, very comfortable saying that he conformed to our internal procedures. Nothing causes us to believe he acted inappropriately.

Thank you.

Thank you.

Your next question comes from the line of Eric Burke with Lehman Brothers.

Thank you. I'm still trying to understand why the institutional solutions business in the face of strong asset growth and strong sales is not really showing significant earnings growth. I certainly understand that you have run off leverage business, but in the end, the balance sheet is growing, the assets are growing, why aren't the earnings?

Let me give it to Tom.

Eric, it's Tom. Well, you know the leverage [inaudible - microphone inaccessible] is running off. That's point.1.

Certainly the other issue that we're dealing with is the governmental business has been a takeover business, so margins are still at a good return business, but the margins over the years have certainly gone down. Finally, we've got a blossoming business in what I call institutional investment products, [indiscernible - microphone inaccessible] in our new investor notes program. Overall we're look to get that growth going. [inaudible - microphone inaccessible] the composition of the businesses together, that's what's happening in the overall earnings growth. [indiscernible - microphone inaccessible] the institutional business grows a little bit, I think you'll see more earnings growth as well. So --

Where does the business come, I didn't hear you. You're a little bit away from the microphone. What is the business that is a takeover business?

The governmental business, the 457 -- section 457 business. Go out to bid every so often. And as a result, the issues become one of, you know, is a very competitive bid process. So every time margins in that business have actually eroded. As I said, returns are still strong.

Thank you very much.

Thank you.

Your next question comes from the line of Bob Glasspiegel with Langen Mcalenney.

Good morning. Your Japan commentary seemed a little bit more muted, Ramani. You merged it in with 401(k) mutual funds after what appears to be a record quarter. I assume that the pickup in other sequentially was primarily the Japan getting to a profitable level, and is it true that you are profitable? And perhaps FSA commentary in the queue is behind your more muted commentary or am I reading something into it?

No, not at all. I invite Tom to comment on this, too. But we're feeling good about Japan. As I mentioned to you, we have actually launched fixed products now in Japan, we have a full portfolio now of variable annuity and fixed products in there. So we're feeling good about Japan. If I sounded muted, it was not intentional. Hey, Bob, are we coming through clearly? I want to be sure.

You are. Tom's mic has not been well understood. He's been off and on throughout the call.

Okay, I'm standing literally on top of my mic right now. I apologize for that. But the we're doing great in Japan. We're profitable as we speak.

Next year we will be giving more information, because I know it's important and good for us to show the success. We're looking at somewhere between 45 and 50 basis points return on that. We're profitable right now. But that's the kind of thing we're looking at. We're obviously pleased with the 2.3 billion in third quarter sales. Remember, that was the end of the fiscal half. So it might it might be a little fall-off into the fourth quarter, but everything stays strong and we're up and running and profitable, the structure is coming together nicely. On your other question, on the capital, why don't I ask Dave Johnson to address that issue?

Your mic is on, David.

Yeah. I think, Bob, there's nothing in our commentary on Japan and the outlook that reflects any muteness because of the discussions we're having with the FSA. I think it's we so many interesting things to talk about in Ramani's speech that got a little crowded down.

We have pretty extensive disclosure on the FSA developments in the queue as you've seen, and I'd say we're in the middle of a process there. There's two alternative approaches to capital regulation that are in discussion. You know, both will be employed. One, we're beginning to get some definition on, would have, you know, some marginal impact on capital flexibility, but quite manageable. The other one we put in place if our proposals and those of the U.S. and European, Canadian insurance industry are adopted would be very much like phase 2 C3 regime that's coming in the U.S., and we're very well prepared for that. So we're very bullish on Japan, still.

Operator, I would like any of the questioners to let us know if we're not coming through. I have Tom literally standing against the mic now instead of sitting.

That was much better.

Thank you.

One quick follow-up, Tom, are you revising guidance on margins for annuities in light of the lower tax rate going forward? Or are you going to spend it?

Yeah, we'll probably [inaudible - microphone inaccessible] 40 is still good, Bob.

Thank you.

Your next question comes from the line of Liz Werner with Sandler O'Neill.

Good morning. Thank you. I have a couple of questions first on product I wanted to know a little bit more about the new universal product--universal life product that you're rolling out and how it compares both to your competitors and to your existing product set. And then I had a quick follow-up.

Thank you, Liz. Let me have Tom go through it.

Liz, [inaudible - microphone inaccessible] we needed to get more into the game. This was put at the top of the pack, but it puts us solidly in the upper 50%. We had lagged and obviously, while VL is a slight majority of our overall sales, I think at our core VLs is our strength. We know we need to be in that market, and this new product puts us right there. Puts us -- I think the place I want to be. Not the top, but certainly solidly competitive.

Okay. Great. And then on capital, I just wanted to know what capital this year and next year would be, if any, would be dividend from the insurance subsidiaries to the holding company?

David, do you want to take that?

We would probably, I would think, absent other uses, the only dividends we would be making would be to meet our common dividend requirements and our interest coverage requirements at the holding company, and common dividend increase a little bit in interest, so it would probably be largely comparable to last year for '04, because we have slightly decreased interest requirements and slightly increased dividend requirements.

So is the capital building in the insurance subsidiaries right now?

I'm sorry?

Are your capital levels building in your insurance subsidiaries right now?

Yes, but of course our business is building in our insurance subsidiaries now. So I would say the level of general adequacy is consistent with our needs for double life plus the $500-$600 million capital cushion.

Okay. So you don't have estimated RVC ratios for quarter or anything, do you?

No, not for the quarter.

Okay. Thanks.

Your next question comes from the line of Alain Karaoglan with Deutsche Bank.

Good morning, I have a couple of questions and then Vanessa will have a couple as well. Ramani, the Florida home owners insurance market is obviously in great turmoil. Can you tell us how you view that market in terms of sure business? You obviously must have been surprised by the frequency of all these hurricanes. Is that causing you to think about your reinsurance coverage, both in Florida and in other either wind-prone areas or catastrophe prone areas in terms of frequency of [indiscernible] that are happening?

And the second question is regarding the expand product. It seeming to going well. Can you tell us a little bit more about that and how is that going?

Let me have Dave Zwiener answer it

I can't hear you.

Can you hear me now?

No.

How about now? Can you hear me now?

Yeah.

Outstanding. Terrific. Let me take the second question first on the expand. Couple of questions we received I think relate to growth rate in business insurance, and obviously the number we showed for the quarter, the 16% growth was driven by the 21% growth that we saw in small commercial. Expand is an important part of that, but there's also growth going on in what we would call more traditional select. But we're very pleased with the kind of growth that we're seeing in the expand product and we're continuing to roll that.

On the Florida home owners, I guess the way we would think about it is first of all, I think there have been a lot of important changes in Florida since '92 that I think have really allowed us to manage our risk much better. But you're right, I think this is sort of an unprecedented series of events. I don't think the total loss is unprecented. I think that might be a 1 in 20. But I think it might be a 1 in 100, the fact that you had four event of this intensity hit one state within that time period. Obviously we're going to continue to refine our model down there. We're going to continue to push for the kind of rate we would need in structure and I think that we're going to get that, as will the industry. But I don't see any need at this point in time to change our reinsurance strategy or structure based on what we saw happen in Florida.

The additional point that I would make, Alain, is, you know, for a company our size to buy any aggregate cap reinsurance would be very, very prohibitive from a shareholder perspective. Doesn't make any sense. Vanessa?

Your next question comes from the line of Dan Johnson with Citadel.

Great, thank you very much. Just a quick question on Florida and mold. Can you talk about what sort of exclusions you've got in both commercial and personal lines policies for mold in Florida? Thank you very much.

We have sub limited mold coverage in Florida.

Sub limited to what level?

I can't remember the exact policy limits on it, but both home and commercial have sub limits on mold exposure.

Great. Thank you very much.

Thank you.

Your next question comes from Michael Lewis with UBS.

Good morning. I'm going to follow up on Alain's questions and maybe Dave can go into a little bit more detail on the tremendous differences you've seen between your production and your cross town rival. What do you think is the Asian proposition that's growing him to your small and mid size commercial businesses? And also, can you give us a little more detail on new business rates versus renewal business rates, are there a tremendous difference there? And can you define a little better the competitive environment difference between the middle market and the small markets. Thank you.

One thing I want to resist, Michael, is making comments about our competitors. We have enormous respect for our cross town rival. But let me have David address more directly the questions of performance with respect to the points you raised.

Yeah, that wording was probably for me.

Go ahead, you can go right above it.

Let me answer what I think is going on and specifically to our business, you've asked about retention rates. Retention both small and middle continue to be right about where we've seen them throughout the year in the mid '80s, so I those have been very strong. The new business side, I think you're seeing less of it in the mid market, but very strong new business in the small commercial, new business for the quarter was up about 15% in total for BI.

I think, you asked about the proposition, and I think that's a fair question. I think that we have as you know, over the last several years, been trying to build on the success of our small commercial platform. I think trying to drive much more segmentation and granularity into the underwriting, which allows us to be much more responsive to changes in markets, and I think we're continuing to refine that, and I think that makes it easier to deal with from an agent perspective.

I think, too, the automation that allows us to link up with the agents both in terms of the underwriting and the service side of it is also an advantage that has allowed us to continue to push. Finally, the expand product, I think that for us as I've said in the past, that's still a bit of a gap for us in the small and mid markets. So we've got pretty much a seamless coverage of the standard commercial markets from small all the way up to mid. So I think that the strategy we laid out is working. We're getting growth that we're comfortable with.

I just -- a couple of challenges we may have gotten about, well gee, is that too much growth. Something we watch carefully is the hit ratios that we have in both lines of business and they have not changed. So we're very comfortable that we're continuing to maintain the discipline by growth in both those lines. As David Johnson said earlier, I think we're confidential for the guidance in '05. You're going to see top line growth in business insurance in the low double digit range in '05.

Okay, and then the only thing you failed to answer, is there any major difference between the pricing on new business versus renewal business in either the small or mid size commercial markets?

No.

Thank you so much.

You bet.

Your necessary question comes from the line of Tom Gallagher with Credit Suisse First Boston.

Good morning. I have a question and then Charlie is going to have one on the P&T side. I guess for Tom, just related to the 20 basis points charge on the new GMWB writer, can you just give a little more elaboration on whether or not it's truly easier to hedge than your old product, is it truly 60% less expensive, or is there 60% less risk in this product? Maybe you or somebody else on your team could give a little bit more elaboration behind sort of the risk management there.

[inaudible - microphone inaccessible]

We feel very comfortable with the 20 basis points. Again, one of the biggest differences is the step up. In addition to that, the 5% withdrawal is definitely a benefit. And we've looked the same kind of modeling that we did with principal first, and we feel comfortable that on a risk adjusted basis, it's very similar.

Could you hear Liz's answer? I want to be sure.

Yes, I could hear Liz. And then Liz, just as a follow-up to that, is it fair to say if you were to shorten the step up period, that's where the hedging would become cost prohibitive?

Clearly when you have an ability to step up frequently, it is definitely more expensive.

Okay. But I'm just wondering from an order f magnitude standpoint, is that sort of the most sensitive part of the hedge or is that not the right way to look at it?

Yes, that is the most sensitive part.

Great. I think Charlie has one on the P&T side.

Charlie usually has two.

You're right, sir. Maybe you're the analyst. Hey, my first question, if you look at page PC13, which shows the rate increases for business insurance and how they were 9% in the fourth quarter of '03, 1% -- excuse me, third quarter of '03 -- 1% in the third quarter of '04. How do you see that evolving for the balance of '04 into '05?

I think, this is Dave Zwiener, Charlie, can you hear me all right?

Yes, sir, perfectly.

I think our view, and this is incorporated in the guidance that Dave Johnson gave you earlier. I think the trend has been done obviously throughout this year. I think we see that sort of flattening both in terms of fourth quarter this year and in to next year. So I think we'll see very little price movement. Perhaps in the mid market line, some negative price movement. But I think we'll still be able to get flat to slight up ticks in the small commercial.

Why do you think it's flattening?

Why do I think it's flattening?

Yes, sir, could you elaborate on that?

You're asking me to comment on why I believe the prices have been falling in the standard commercial --

And if that erosion has stopped. That was the question. I'm sorry if it wasn't more clear.

No, no, that's all right. I think --well obviously there's been a fair amount of competition, but I think underlying it is the fact that the performance of the business has been very, very good based upon the loss cost experience. So I think that we and some of the more disciplined players have been able to meet or achieve their targeted returns, or exceed their targeted returns, and so I think that what we're seeing is that competition playing through.

But I do believe and I think I've been a little bit of an outlier here, I do believe that the disciplined players will remained disciplined in these lines, particularly in the small commercial area. I think that you've seen that play out over many, many years for us and a couple of others where the combined ratios have been not terribly volatile. I think there's been an ability to quickly respond to changes in lost cost and market changes. And again, my view is that you're seeing a lot more of this sort of segmentation and granular underwriting capabilities that have been commonplace in personal lines working their way into the small commercial area which allows, I think, certainly us to manage those margins much more carefully.

The only other question I have is you have both [indiscernible] and St. Paul travelers and now I'm seeing basically ground up reviews of the reserves for asbestos environmental liability. I think they took their action about 6 months before you, the last time around. How do you assess or when would you think you might elect to do another ground up review of those liabilities?

Charlie, you know from everything Johnson and I have communicated to the Street, you know, we do this annually now, and we refresh our studies annually, we'll do asbestos in the second quarter and environment in the third quarter. That's really a discipline that we want to get into. As you know, we just did it this year. We just did the asbestos in the second quarter and we just did the environmental in the third quarter. So I feel comfortable that we're doing this very rigorously and often enough to assure investors that we're on top of this.

Next question comes from Alain Karaoglan with Deutsche Bank.

Thank you, it's Vanessa Wilson. Tom --

I thought I lost you there, Vanessa, for a second.

I'm trying so hard not to interrupt anybody, I wasn't quick enough. Tom Marra, on -- I have two questions for you -- one on your new product. You're going to a low priced product. It has been my impression when you moved your price on the GMW up from 35 to 50 basis points earlier this year, that were taking advantage of the lack of price sensitivity in the market. And now you're telling us that the market does have a price sensitive segment. Are you confident that there really is a price segment in the market?

Good question, Vanessa. I really do at that price point think there's an advantage. I think what happened from 35 to 50, remember, we stayed strong, but then our sales started to dwindle. And I'm not going to attribute that all to the price price differentiation, because you're right, when we first changed, we did okay. I think on a 20 basis point--price point it's going to turn some heads. So that's why we're doing it. By the way, can you hear me? I'm on my third microphone.

You're on a great microphone. The second question I have Tom, is now that President Bush is in a second term and moving Social Security reform is one of his top items on his agenda, could you talk a little bit about whether that's a threat or an opportunity for your annuity business? Remember a year-ago you talked a lot about the LSAs and RSAs that have been proposed and what you thought of those. Could you give us a little taste where your thinking is?

I'll just give you a quick run down. I don't think changes in Social Security will make much difference. If they go privatized accounts, that's not something we would have a lot of interest in, because it will be puny.

I do think he's going to try to move the repeal of the state tax to permanent again. I think he'll have an uphill climb, because it's a big price tag. I also think you can expect him to look at the whole LSA issue again. Again, I don't think that one will go very far, because frankly, remember, that's the one where you can put in money and take it out any time without tax for any reason. I think that's bad tax policy and is not going to survive on that basis.

Finally, relative to what we want, which is the annuity taxation benefits, you know, I think there are a lot of Republican members that are starting to see this aging issue and the need to preserve people's retirement income. And so we're going to be pushing hard for that. That has not yet been scored in terms of its cost, because obviously everything is in a backdrop of a tough budgetary situation. But that's kind of how I read the whole landscape at this point.

Thanks so much, Tom.

Next question comes from Ron Frank with Smith Barney.

Good morning. A couple of things, if I could. Some of which I guess are follow-ups to what's been asked.

I was wondering first if Dave could comment in a more specific way on the pricing and loss cost trends in the small commercial business, because that's also where some of the frankly fairly strikingly divergence in views in the market seems to be hinging on right now. You made the comment that you think you can maintain margins even those lines cross a bit negatively next year. That implies we're near the push point. I was wondering if we could get just a little more detail perhaps even quantitative on how you're seeing those now.

Second one for Tom, you mentioned risk management last in terms of the reasons for the new product, but I was wondering if you could elaborate on that aspect and specifically let us know if there was even a hint of anything in the current withdrawal experience that might have led you to introduce this product as sort of the way of managing the overall risk profile down.

And finally, perhaps for Ramani, taking it on faith that Tom acted within your compliance guidelines on the trade, why didn't compliance shut the trade down 4 days after the subpoenas came in? I would have thought the gates would have come crashing down on trades when something like that occurred?

Let me start with Dave Zwiener on the small business.

Let me give you a little more detail. On small commercial, as we see it, pricing in the third quarter was sort of in the low to -- call it low single digits. And loss costs have been reported by us and others continue to be favorable driven largely by the frequency.

Favorable meaning negative?

Favorable meaning negative, yes sir, on the frequency side. I think when you couple that with the low single digit severity, put that whole equation together, what you're seeing for us and I suspect a couple of others is a fairly wide margin and very attractive returns.

And I would just -- and I just want to re-emphasize, I think this is a line that we and maybe a couple of others had the ability to react very quickly to changes on a very local level and on a specific segment level. So right now, I think what we see is an opportunity to get that margin does compress, I expect it will be driven by the loss cost becoming less favorable as we have indicated in our assumption going forward, prices may come down a bit more though, not much, I suspect, that we're still going to be generating very attractive returns in that business and that will allow us to continue to grow. That's our assumption going forward.

But underlying that is again, this ability that I think we've developed increasingly over the last couple of years to respond very quickly to those changes. I think that's really our prime strength in this particular segment.

And David, your comment that the hit ratios are stable, that would imply that the new business is coming-- getting more than your share of submissions, is that a fair comment?

It's a fair comment and it's something we do track, it's really something we would call true growth. If you strip out price increases, and really the proxy [indiscernible] share gate, if you will, that's been very strong in our small commercial areas. So you're right.

Before I turn over to Tom on the second question, let me just say, hey, Ron, I think this bears repeating even if I have to repeat this several times, I just want to make this very clear that we did a review. Tom complied with our procedures. Nothing causes us to believe that he acted inappropriately. I feel very strongly about that and I think that what I need to keep repeating on this whole issue.

Let me turn to over to Tom.

Ramani, if I may, I appreciate that and I frankly believe you, my question is did the episode lead you to reconsider whether the procedures themselves needed to be altered in any way?

I'd have to think about that question as you raised it.

Okay, thanks. And then the question for Tom?

Yes. Your second question had to do with, are we going to the 20 basis points because--or do we have concerns on what's happening with the existing principal first either in, I think you mentioned withdrawal rates or all asset allocations, and no, we're not seeing anything that concerns us in the withdrawal rates or asset allocation. That program and the hedging behind it continues to to perform well. We're very pleased with it.

Frankly, we see a market opportunity and I'd say that's the primary impetus for this product. I think the risk management aspects are always a consideration and this 20 basis points preferred product is obviously more favorable on both risk and capital management. But really the primary motive is we're trying to score the market.

So the risk in capital aspects are really more incidental to this than anything else?

Yes, they help, but we believe this product is going to help us to boost our sales.

Okay. Thanks very much.

Your next question comes from the line of Jeff Schuman with KBW.

Hi. It's actually Jeff Thompson. I wanted to focus out a little on the favorable trends, loss trends in commercial lines. Can you detail as to what's driving that, and specifically in small commercial, if your pricing and selectivity is better, are you engineering that with better risk selection, you know, the lower frequency, or is this more of a sort of a national trend or an industry trend?

This is Dave Zwiener. And I think it's really a combination of both. Obviously, we're trying very hard through our underwriting and segmentation to find the classes of business that we have the high degree of confidence that we can [indiscernible] the right profit. But I think the negative frequency that you've seen has been an industry issue in large part the standard commercial and personal lines. I think it's been moderating, though I think it's still been negative in many cases. I think the assumption we have and many other folks do as well, is that's probably not sustainable for full year '05.

What's your theory on the commercial line side as to why it's negative [indiscernible]?

Jeff, hard to say, but if you want a theory, and theory is exactly that. It's a theory. I believe that as we move more and more out of a manufacturing type economy to a service economy, frequency trends usually in service type establishments are lower, and you know, we have seen this frequency trend. It's legitimate. There is no uncertainty in measuring it. Claim counts develop very quickly. So we feel confident that we're making the right call on that.

Okay. And then more of an observation in personal lines. If we get to what I think is the [indiscernible] away environmental and cats and prior year reserves, it looks like the personal lines combined ratio jumped a little from the second quarter from 8076 to 8094. That correct and is there anything to read into that? I would have expected that number to be more flattish.

Sequentially you're looking from second to third quarter this year?

Yeah.

Yeah, that's a bit of seasonality. I think it's probably a better comparison to go back to third quarter last year, do the year-over-year change. I think what you'll see there, is if you strip out obviously the cat [indiscernible] a little bit of prior period, it's actually an improvement.

Okay, thanks.

Your next question comes from the line of Jay Cohen with Merrill Lynch.

Good morning. It's Ed Spehar. I had a couple of questions. I was wondering on the comments about capital and lack of a share buy- back assumption next year, if you have the capital cushion that you had targeted, and I know you mentioned the cats, but you also have the $200+ million tax benefit, and you look at the earnings you're producing, it would seem like somebody could crunch some numbers and say that you might be generating theoretically $400-$500 million of excess capital next year beyond the common dividend. So, I'm wondering is there something here, not talking about a share repo, is it just too early, we don't want to get unrealistic expectations, or does it reflect some of these emerging developments on capital, for example in Japan or also on the variable annuity business in the U.S.?

Okay. That's a multifaceted question. First off, the tax benefit we got this year was good for GAAP and okay for stats, so you can't put that 100% through on your calculus of where we stand. But it's true we hope to have surplus generation next year that will provide resources that can be used for a number of things. We start out from a lower spot than we would have otherwise, if it weren't for the losses that we suffered in the third quarter. So it's not as much that we are more worried about '05 than we were before, just we start from a lower base. Albeit one that's still consistent with our 5 to 600 target for year-end '04.

We had hoped to end the year materially ahead of 500-600 cushion target. So I don't want to indicate that, you know, share repurchase is dead, dead, dead for '05, but all things being equal, we start without the head start that we had hoped to have and so that decreases the chance.

You are right, that Japan is a minor capital, you know, contingent use for next year, and I think we size that in the 10Q disclosure in terms of impact on our capital flexibility in the U.S. is a range of 100 to 275, if the standard methodology is the only methodology applicable there, so that could be of marginal use, and there could be growth opportunities or we could decide we de-leverage some more. I think you should draw into my conclusion that it is less likely than it was before because we start out at a lower spot because of the losses that we had in the third quarter.

One other thing, too, David, you and I have been telling the Street that we do intend to de-leverage and get down to the low 20s. That's an important consideration.

Yes, in fact, I was reflecting on an answer I gave to an earlier question, talking about dividends from the operating companies. We had dividends from the operating companies to pay off I think about 250 million of debt last year and we would probably be having a similar retirement of debt dividend in '05, so that's what makes it comparable. But that's a dividend beyond interest. Obviously there's always dividends and contributions up and down associated with pension and tax payment, et cetera, those are from ordinary course.

Operator, we're rudely interrupting another company's calls. I'm going to take one last question and I'm afraid I'm going to have to then bring the call to a close. If you will, if you could tee up one last question.

Your final question comes from Chris Wynans [ph] with Lehman Brothers.

Thanks. I wanted to ask you, how, if at all, does the election result alter the outlook for meaningful federal assesses reform, class action tort reform and federal insurance regulations? And I know you're pretty involved with the efforts and I wondered what your take on the election impact was.

First of all, these reforms, I mean, these elections are important indication of what might be the climate of next year. We are definitely going to push for TRIA reenactment. That to me, is absolutely key. We have been pitching very hard on TRIA reenactment. And I believe that that's an important issue.

Hey, one thing since you raised the question, I do want to point out, Chris, there are several state elections, too, that have been very positive for us. You know, the Ohio Supreme Court has to be, I mean, will decide on the constitutionality of the recently enacted asbestos and silica, so that's going to be positive I'm hoping with the changes. Same thing, we had some judicial changes in Illinois, too. So there's state things that investors should be aware of that is actually a positive sign for us.

On asbestos it's still early. I can't tell you as to which way this wind is going to blow, going into next year, because there were huge divides between labor and industry and whether that closes or not is hard to say at this point. We are doing analysis on all of that, and by the end of the year, we should be able to communicate all that to investors.

One detail question, on the small business application tool, what is the total now that has that in terms of the agencies and how are expecting that to grow?

Small business, what, the application tool?

Yeah.

I think, David, I think we have something over 3,000 agents on it, and The Hartford has somewhere, please don't hold me to this number, but somewhere between 5,000 and 6,000 agents that we continue to deploy. Both small and middle, there's a lot of technology innovations that are being implemented as we speak which is going to enhance agents' ability to do business with The Hartford which goes into our overall value equation.

You had a number in your press release some 2860 agency locations signed up during the quarter. I'm just trying to get how, what's the growth rate that that represents and what is it likely to be going forward?

As I say, you know, we are deploying it as we speak rapidly. The small business area we're hoping to deploy virtually all of it will by the end of the year. But it's going to take us a little time as we continue to do both small and middle market business.

By the end of '04?

Yeah.

Thanks.

You know, first of all, I want to think everybody for joining us today. We have covered a lot of ground on this call. And I hope you have gotten a good view of our performance, our market position, and the outlook, and our guidance for '04 and '05 should show you my confidence in our ability to continue to profitably grow this enterprise. I also wanted to let investors know this will be Hans Miller's last conference call. I want to really thank Hans for being a great asset and a great contributor to facilitating communication between The Hartford and investors, both in the buy and sale side. Replacing Hans will be Kim Johnson. I look forward to Kim working with all of you to be able to tell the Hartford story very well. Thank you again for joining us today and thank you for your patience as our electronics system, I'm just bragging about our technology implementation with the agents. We will make sure this technology is working the next quarter, too. Thank you.

Ladies and gentlemen, this concludes today's Hartford third quarter conference call. You may now disconnect.