Hartford Insurance Group Inc (HIG) 2005 Q2 法說會逐字稿

At this time, I would like to welcome everyone to the Hartford second-quarter 2005 conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. (OPERATOR INSTRUCTIONS).

Thank you. Ms. Kim Johnson, you may begin your conference.

Good morning, and thank you for joining us today. Please note that our earnings press release and our quarterly report on Form 10-Q were issued last night. Also, our financial supplement 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, Chairman and CEO; David Johnson, CFO; Dave Zwiener, Chief Operating Officer of our Property and Casualty 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 two, 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 statements are statements about future results of our operations. We caution investors that these forward-looking statements are not guarantees of future performance, and actual results may differ materially. Investor should consider the important risks and uncertainties that may cause actual results to differ, including those discussed in our 10-Q filed yesterday, our 10-K filed on February 28, 2005, 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 Financial performance includes financial measures and are not derived from Generally Accepted Accounting Principles. Information regarding these non-GAAP financial measures is provided in the investor financial supplement for the second quarter of 2005, which 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.

Good morning, and thank you for joining us today. Beginning on slide three, I'm going to briefly cover some highlights of the second quarter. Then, before turning to Q&A, David Johnson will provide some comments on our revised outlook and guidance for full year 2005.

Now, in the second quarter, we continued our trend of generating solid operating results. As we reach the midpoint of 2005, the year is shaping up very nicely. I'm especially satisfied with these results, given the current competitive environment.

Net income of $602 million was 39% higher than a year ago, while operating income of $613 million grew 52%. On a per-diluted-share basis, net income was $1.98, and operating income was $2.02.

Assets under management reached $303 billion or 13% higher than last year. Our ROE for the 12 months ended June 30th was more than 17%. Excluding AOCI, shareholders' equity reached $14.2 billion. And book value per share, also excluding AOCI, now stands at $47.44, up 18% over the prior year.

A diversified earnings base provides significant advantages for The Hartford. Again, this quarter, our results were driven by strong performance in both Property/Casualty and Life. We're facing many casualties in today's marketplace from a gradually softening property and casualty market to significant competitive pressures in variable annuities. Despite tougher competition, we have continued to grow profitably. Sales were very good this quarter in almost all lines.

Our long-term goals remain the same -- double-digit earnings growth at 13 to 15% ROE, and we are also pursuing profitable growth through disciplined execution. Our strategy is to drive long-term value creation by providing great products and services to our customers and producers, broadening our distribution relationships and managing our costs.

On the next slide, we will take a look at how that strategy is working so far in Property/Casualty. Our P&C operations reported strong growth in earnings this quarter. Net written premiums grew 7% and operating income was $369 million, nearly double a year ago. Operating income was driven by excellent underwriting results in ongoing operations, lower CATs in the quarter, and higher investment income. Excluding CATs and prior-year development, the combined ratio for ongoing operations was 88.5.

Competitive forces increased during the quarter. No doubt pricing is softening. However, by and large, competitors are still behaving rationally. Interest rates remain low, and reinsurers have maintained discipline. While still trending lower, the rate of price decline has slowed in some lines relative to the first quarter.

In Business Insurance, we posted very favorable underwriting results. We continue to see favorable frequency trends across most lines. Our combined ratio of 88.2, ex CAT and prior-year development, was flat with a year ago.

Middle Market written premium grew 9% in the quarter, with strong premium retention. New business, particularly in targeted industry sectors, helped to offset a decline in written pricing. While the Middle Market remains very competitive, we are still able to find good new business.

In Small Commercial, written premiums grew 11%, driven by new business generation and strong retention. We also saw modestly positive written pricing in the quarter. Competition in this segment is increasing, primarily at the upper end of small commercial, and we have added more than 200 new agencies selling small commercial in the last three quarters, and will continue to fuel growth by adding to our field presence.

Personal Lines underwriting results were very strong, with a combined ratio of 79.4, which included 10.3 points of favorable reserve development. The reserve really is related primarily to prior-year allocated loss adjustment expenses. This benefit was driven by several initiatives we undertook to reduce expenses in our claims area. Overall, personal lines written premium increased 3%. 10% written premium growth in our agency business as well as 5% growth in AARP was masked by a decrease in nonstandard auto.

Now, before leaving Property and Casualty operating results, I want to quickly review three studies we completed during the quarter, which are highlighted on the next slide. The first was our annual comprehensive ground-up asbestos study. The evaluation resulted in no addition to the Company's asbestos reserves. We also reviewed reserves related to Hartford Re's assumed reinsurance business, which is now in runoff. This study resulted in an increase of $73 million to reserves. We also strengthened our allowance for uncollectible reinsurance by $20 million, primarily due to rating agency downgrades of some of our reinsurers. As a reminder, we will complete our environmental study in the third quarter.

Overall, our Property and Casualty business reported solid operating earnings. While competitive pressures continue to mount, we believe we are well-positioned with underwriting expertise, products, distribution and ease of doing business to meet this challenge head-on. In just a few minutes, I will have David Johnson provide more specific guidance on our outlook for the remainder of the year.

Now, turning to Life on slide six, Life reported 13% growth in both operating earnings and assets under management, compared to the second quarter of 2004. Life operating income of $287 million included an after-tax expense of $24 million. Now, this amount is an estimate of the termination value of a portion of an agreement with one of our mutual fund distributors. We do not anticipate that this will change our relationship with this distributor.

Total US Retail sales and deposits were $5 billion in the quarter. Variable annuity sales totaled $2.9 billion, and net flows were slightly negative. Variable annuity assets reached nearly $100 billion in the quarter. This is a major milestone for the Hartford, which should provide good earnings power in future quarters.

Now, just since the beginning of this quarter, our assets are up another $3.3 billion, due to market strength. The variable annuity environment is certainly getting tougher, as more players bring new products to market. Our goal is to sustain our tradition of strong product innovation and our leadership position. We will continue to bring a steady stream of new products to the market, as well as industry-leading sales and service capabilities.

In the near term, our regulatory focus on suitability could pressure industry sales. As such, when we look to the third quarter, variable annuity sales should be similar to this quarter, and we expect net flows to continue to be slightly negative. We believe annuities are and will continue to be an important component of retirement planning. We also believe annuities sold to advisors can be appropriate for a wide range of ages. So, over time, given good equity markets, industry sales growth in variable annuities should rebound.

Other Retail products, led by 401(k) and mutual funds, posted strong sales and deposits in the quarter of $2.1 billion. Combined, these products accounted for net flows of $664 million. Assets under management for other retail products now total $35.3 billion, 20% higher than a year ago. We are experiencing tremendous growth in our 401(k) business. In 2004, we added retirement plan specialists in many markets. Now, a year later, that investment is really paying dividends.

At the beginning of this year, we aligned 90 PLANCO wholesalers to focus exclusively on mutual funds. These reps continue to develop relationships in their markets. This is helping our current sales, and should allow us to build momentum through 2006.

Japan annuities posted sales of $2.7 billion, 70% higher than a year ago. Variable annuity sales were $2.5 billion, with $2.4 billion of net flows. Fixed annuities slowed due to lower interest rates during the quarter. Looking forward, total third-quarter annuity sales in Japan should be somewhat stronger than second quarter.

Assets under management in Japan are now at $19.7 billion, more than double last year. And on this basis, we continue to lead the market. Our market share at the end of the first quarter was 31% based on variable annuity assets under management.

Our Individual Life business had a great quarter. Life sales reached $57 million or 21% higher than a year ago, a record level for second-quarter sales. Our balanced distribution and broad product offering drove the sales growth. While we offer Life products to many distributors, banks have been our most rapidly-growing channel and have an exciting future. Particularly noteworthy is sales in the bank channel grew 49% from a year ago. Variable Life sales grew 16% and accounted for over half of all sales. Our goal certainly is to maintain our Variable Life leadership position in the industry.

Group Benefits operating income grew 33% to $64 million during the second quarter. After-tax margins improved to 6.8% in the quarter compared to 5.3% a year ago. We experienced particularly strong growth in group disability premiums during the quarter. Sales momentum is building across Group Benefits, supported by a larger field organization. Growth is coming from all markets -- small, mid and national account groups. As we look to the end of year, we expect full-year sales growth will be in the mid-teens, with mid-single-digit premium growth.

So, in summary, the Life operating environment continues to be challenging, but our diversification strategy is paying dividends. We will continue to seek new areas for profitable growth and leverage the scale that we have built in numerous lines of business.

With that, I'm now going to turn it over to David Johnson to review our revised guidance.

Thank you, Ramani. I'll start at slide seven. We've moved our guidance up to 7.55 to 7.85, an increase of $0.15 at either end of the range. Please note our guidance also incorporates a higher weighted average share count at 305 million. That's up from the 302 million assumed when we set out guidance at the end of the first quarter. Our stock price is up, and that has an impact, increasing the dilutive impact of both our employee stock options and our equity units.

There is a very helpful table on page C-10 of our investor supplement, by the way, that details the sensitivity of our EPS denominator to changes in stock price. It also provides useful detail on how to model next year's conversion of our equity units.

Ramani covered our expectations for our Life business for the balance of 2005. Now, those of you who have done the math probably figured out that the market assumptions spelled out in last night's press release call for the S&P 500 to end the year at 1233. Obviously, we got Christmas in July. If sustained, this offers a few pennies of upside, but not an enormous amount.

Turning to slide eight, in P&C, I think the assumptions spelled out in the press release are quite clear, and they reflect very little change from our assumptions three months ago, with the only exception being we were slightly more negative on written premium growth in Business Insurance for the balance of the year versus where we were three months ago. As many of you pointed out at the end of our first quarter, our outlook leaves some upside potential, which depends almost entirely on loss cost trends in the second half. However, you can see that the second quarter combined ratio for our ongoing operations ex CAT and ex prior-year development is 88.5% versus 87.1% in the first quarter. I think the second-quarter result is probably a more realistic base than the truly exceptional results we got in the first quarter. But no tree grows to heaven, and we are not assuming all loss cost news is good in the second half of '05.

Another modeling note -- we are holding a placeholder amount for second-half adverse development in our runoff operations in the guidance. Our assumption is that adverse development is $25 million per quarter or $50 million for the remainder of the year. Let me stress again that the only thing I am confident of is that second-half development will be either less or more than $50 million. This is an arbitrary number, just like our assumption for catastrophe losses, but it's what is assumed in our guidance range.

I'll close with a few comments on capital management. Our goal as your management team is to maximize long-term book value per share and the distributions we pay to our shareholders. In doing so, three uses compete for our capital -- building financial strength, investing in profitable growth and returning capital to shareholders. Adequate financial strength is, of course, the foundation for the other two. Without it, we cannot compete in credit-sensitive markets. We can be forced to access the capital markets at the wrong times and at less than optimal terms. And we can miss the best strategic opportunities, which we find in our experience usually arise at attractive prices exactly at the time when industry capital is dear, not plentiful. All of these things must be avoided if we are to deliver superior book value growth to you.

Second, it will always be better to invest capital in good business if it can be had at the right price, whether in the market or through acquisition. As a multiline now global company, we do have more opportunities to invest in growth, both strategically and in operations at this moment in time, than it would a monoline P&C company. But in any line, of course, price discipline is crucial. The willingness and ability to return capital must always be available. Otherwise, sufficient discipline will not be applied in evaluating other opportunities.

For the balance of 2005, we continue to expect and devote our financial resources to our first two goals. We are, I hope, quite close to achieving our long-term objectives for financial strength, measured in both financial leverage and statutory capital strength. One of our most important projects for the balance of 2005 is to determine what our long-term level of statutory capital cushion should be. We have been working with the $500 to $600 million rule of thumb for too long. The world and our company keeps changing. The fate of TRIA is just one of the many factors we must consider. The good news is that even today, we are at levels $100 or $200 million above our previous target. My guess is that the right long-term number, which we will embed in our 2006 plans, is slightly higher than even that, but not dramatically so.

First and foremost, though, we must seek price discipline growth. Throughout this fall, we will work to identify opportunities and will communicate our outlook for 2006 at our December investor meeting. At this point, though, however, barring unforeseen losses or strategic opportunities, I think it is quite likely that those plans will include return of capital in 2006.

Operator, we are ready for questions from our investors.

(OPERATOR INSTRUCTIONS). Bob Glasspiegel, Langen McAlenney.

Two questions -- one, could you give us a little bit of the economics of this $24 million charge to terminate the relationship? What are the positives going forward for this decision?

And secondly, I was wondering if Tom could amplify on what contributed to the margins widening in annuities. I did see the amortization of debt was back to 48% of pretax, which had been running a little bit higher, but that's consistent with historic levels. What other factors were behind that?

Thank you, Robert. Let me turn it over to Tom.

Still guiding around 50 for the ROA, so I guess I'm up a little bit from last time, which was high 40's, I think -- high 40's to around 50. Not much to report on the amortization other than, as you know, there are little variations from quarter to quarter.

On the 24 million, first, I want to really underscore this is not a termination of a relationship. The sales relationship is just fine, but it's a potential termination of a provision that we have the right to terminate, as do they, and based on some preliminary discussions we posted this liability. Essentially, this is a discounted value of payments we are obligated to make under this provision. And, of course, should we ultimately terminate and buy out of this provision, then the payments would stop accordingly, and of course the payments are going against earnings. So potentially, future earnings in the mutual fund business would be benefited if we do, in fact, go forward with terminating the relationship.

But is there some economic positives to other retail earnings, from what you have done to date?

No. I view this sort of as an economic neutral, where we are essentially recognizing a liability for payments we're obligated to make in the future. If we terminate, we won't make the payments, and of course the liability -- the actual purchase or termination value -- will flow through and the estimate would -- depending on how it tracks relative to the estimate.

Okay, you lost me. I'll follow up with Kim later.

Brian Meredith, Banc of America Securities.

Tamara Kravec is here also. I think she has got one question first, and then we are going to -- I'll have a question.

Just to kind of focus in on the PLANCO wholesalers, and if you could give us a little more color on how that realignment is going, and how long it takes them to really get up to speed with what their new focus is?

And then, my second question is on the Principal First Preferred, how that is coming along this quarter?

The Principal First Preferred made another gain in the quarter, although it is clearly not leading the market. So, while we continue to have strength in our conviction that this is a great product for the consumer, it's increasing but not ruling the day. I will announce that we are planning to come out with a new VA product in the fourth quarter that we think will be responsive to some of the competitive forces we see right now. But at the same time, it's going to continue to stress value. We believe that the overall equation calls for these protection features, but that we're not going to compromise value to the customer. Also, obviously, it goes without saying that risk management will be key.

On the PLANCO wholesalers, first of all, strategically we couldn't be more pleased with the decision we have made to align a team dedicated exclusively to mutual funds, as well as our now two variable annuity team leaders and the new Director M product. It's the exact right thing to do. There is an adjustment period. Most of our people or a good number of our people are in new territories, so it takes some time for them to get acclimated to those and learn their routes. But it is the right thing, and I think in the future we'll see dividends. We are very pleased with the alignment.

Just one question. Ramani, I wonder if you could talk a little bit -- so far this quarter, we have heard some companies talk about a "soft landing" for the commercial lines pricing, and some companies kind of mentioned that there's some signs of some rate stabilization out there, where others are talking about things getting increasingly more competitive. I'm just curious what you are seeing in the marketplace and what your view is going forward.

I'm going to have David Zwiener take a shot at that.

Let me characterize the second quarter, and I will give you a view going forward. I think in the second quarter, from a pricing perspective, there really weren't many surprises, in terms of what we had expected, and that is consistent with the soft landing scenario. But I think we gave some, I think, very good color in the 10-Q, and I just want to highlight it. Within business insurance, as we call it, there really is a disparity or difference between the pricing we're seeing in the Small Commercial or Select versus the Midmarket. And specifically, we saw pricing increases in the quarter and the first half of about 3% in the Small Commercial versus decreases in the Midmarket of about 4%. So I think that when you look at the total BI, flat or down 1%, it really is a story of two different businesses there.

And so I think, going forward, we continue to subscribe to the soft landing thesis. We continue, though, to emphasize the fact that this is an attractive market for us. I think that we've got some real good opportunities to grow in the Small Business area. Retentions, which, again -- when you look at the supplement, you see one number for BI. But if you split that apart, retentions are up about a point year over year in the Small Commercial and down a couple of points in Midmarket, which, again, I think speaks to the differences in those markets. So David guided a little bit lower on the BI top line for the rest of this year, and I think that that really is a function of an appropriately cautious view of the Midmarket business, but we are still very optimistic that we're going to be able to grow double digit in the Small Commercial for the balance of the year.

What about the specialty markets?

Well, specialty, I think, varies by line. I think we continue to see some price weaknesses, as others have reported in the property area, some firming in the casualty, I think some stabilization in various parts of (indiscernible), especially where we play more skewed toward the private and midmarket companies. So I think it's a mixed story, and I think there we pick our spots, and where we can get our price and write the business, we do; and where we don't, I think you're seeing the declines in business.

Nigel Dally, Morgan Stanley.

Variable annuity phase (ph) -- Tom, can you provide some additional data out of the new products you expect to introduce in the fourth quarter? It seems like it's going to focus on value of a gain (ph), but the market clearly seems to be heading in the other direction. So first, if I could get some clarity on that.

Second, just on redemptions, if you can discuss whether you have any plans in place to improve your retention of assets coming out of surrender protection, any new conservation efforts or anything else (indiscernible) the redemption rates?

Actually, I'll start with the surrenders. Clearly, we're still within pricing. We are not happy with the pick-up. I can report, though, that in July we saw the surrender rate tick back down a little bit, so this is not a runaway train. In terms of what we do, it's what we always do in terms of providing value and great service and great deal support. And so I just want to make sure it's clear that our customers are getting the value that I think has enabled us to enjoy great persistency over the years. So we do not see that as a runaway train by any reasons.

In terms of the product, I'm not going to get into the specifics. Value, I think, is important; but yet, we need to be responsive to some of the things that are working in the marketplace. But we will not be copy-catting what is out there. We have a track record of innovating, and we think we can come up with an innovative play that is still going to provide value but is going to be real attractive to both producer and consumer.

Alain Karaoglan, Deutsche Bank.

Good morning. And I'm going to have Vanessa Wilson go first and ask her question on the Life side, and then I'll come back.

I just have one question. Strategically, would you rather sell $1 of annuities in the US or $1 of annuities in Japan?

I'm sorry, Vanessa; we are only getting half of what you're asking.

Yes. Would you prefer to sell $1 of annuities in the US or $1 of annuities in Japan?

Got it.

The ROA's are about the same now, so I like the diversity. I'd love to be selling a few dollars in the UK, as well. So, I'm not going to choose one child over the other, I guess. We're happy to be in both places.

You have about 110 billion of assets in the US and just under 20 in Japan. Should we start to think of this as the annuity business globally?

Sure.

I think you should. Clearly, the net flows in the US are something we want to turn around. But to have the whopping results in Japan, where, of the 2.9 billion gross, almost all of that is also net; I think the net was 2.7. So it's great to have that growth engine while we have got the mature business here in the US.

I have two questions. The first one relates to, David, maybe if you could talk about loss cost trends that you're seeing, anything that's out there that's concerning you, or is it still very mild, both on frequency and severity?

And the second question relates to the expense ratio. Is it as good as it's going to get, or do you think there is still room to improve that expense ratio in the next couple of years?

Let me talk about expense ratio. And the way we have framed that discussion has been really to talk about the expense ratio in Business Insurance, what we're targeting and what we're targeting in Personal Lines. On the Business Insurance, when you look at the expense ratio for the quarter at about 28.5, our target for the full year was to get it below 30, so we're clearly on track to do that. And it would be my hope for the full year that we're going to be at least about a point below the 30 target. So that's what we are shooting for, and I think that we're on track to make progress there.

On Personal Lines, it's a little bit of a different story, and I think it's a conversation we've been having with you and others over the last six months, where we really have started to think about the expense ratio on the direct versus the agency side, although we stated an expense target for total Personal Lines; we want to be at 22 by the end of this calendar year. We are not going to be there. I think it's probably going to be something closer to 23. But within that, on the direct side AARP, we are clearly at a best-in-class high teens kind of an expense ratio, but on the agency Personal Lines, it's a scale issue that I think is really going to take some time to overcome, to drive the combined expense ratio down to that 22 level.

So I think that's how I frame the expense conversation. I think we're making very good progress on both of those areas. I would say, too, we're opportunistically driving some what I call marketing dollars into the Personal Lines area, particularly some of the direct opportunities we have with AARP. And so I think that you're going to see a little bit of that in the second half, but still keep us within the direction that I just gave you and then hopefully start to see some benefit of that on the topline.

On loss cost, I don't know as I would have anything to add to what I know you've heard from others. Clearly, if we were surprised in the quarter again, it has been a continuation of the favorable frequency that we have seen in all of our businesses, and that did continue. And I would say that the severity numbers that we're seeing, both in Personal and BR, are well within our expectations, to this point in the year. So I think that continues to be a good story for us.

Ron Frank, Smith Barney.

A couple of things, if I could. First, I was surprised -- this follows up on David Zwiener's comments. I was a little surprised to see the growth in Middle Market accelerate versus first quarter, and that of Small Commercial decelerate, especially in the context of your comments about the relative competitive conditions, which did not surprise me. And I was wondering if you could give us a little color there.

Also, for Tom, you have spoken to me also about the positive risk management externalities of Principal First Preferred versus its predecessors. And I was wondering if those dynamics would change any with the new offerings you are contemplating?

I'll go first. No, we're going to keep the same discipline, but a little innovation within solid risk management, I think, can yield excellent results. So that's what we're hoping for. The Preferred experiment, if you will, has been healthy for us. Clearly, I think there is a value play to be had out there, and we have to keep innovating. It didn't take off quite like we had thought, and to go back to the product development machine, to be able to provide product that gives consumers the benefits they seem to be looking for, but at an overall expense level that doesn't choke out good performance is the direction we went to head in.

On your question with regard to the growth rates in Midmarket and Small Commercial, I think -- it was a terrific quarter, but I would probably direct you more to the six-month numbers to get a better direction on where we're going to end the year, and that is a double-digit growth rate in Small Commercial and probably a low to mid single-digit growth rate on Midmarket. The Midmarket number, up 9%, is a little bit of an aberration. The guys had a great quarter there, but if you look back to the second quarter of '04, you'll see it was unusually low, and so you get that unusual delta of 9%. But I think, as you go through the rest of the year, you're going to see it drift back down to what I've indicated as our best guidance for the year.

And one last one for Dave Johnson, if I could. I was wondering if you could drill down a little bit on the capital comments, in terms of where you are currently, in terms of liquidity at the parent, the dividend pay capacity of the subs, and also whether your comments are partly -- in terms of maybe raising the commission requirements, partly related to the new no-lapse-term reserve requirements, among other things.

Well, on your last point, not at all. On the second point, about dividend capacity, I think we have got some -- it's kind of technical, because it goes from -- we have a lot of different subs and a lot of different pieces, and it's spelled out fairly in detail on our -- in our Q, but I think right now, we have about 800 million of capacity without regulatory approval, in terms of dividends for the balance of this year, which is more than enough to meet all of our needs.

Our parent liquidity, obviously, comes from both dividend capacity and from borrowing capacity, which is excellent and largely undrawn at the parent company. So I do not look at dividend capacity out of the Company as being in any way a driver of our capital management decisions at this point. It's solely going to be given by our view of the appropriate financial strength and appropriate leverage that we pick for our operating companies and our holding companies.

So the no-lapse term requirements are in your calculus, but that didn't represent a change from maybe a few months ago or what have you?

No.

Ron, we are so small in that business, it's not going to really have a big impact.

Tom Gallagher, CSFB.

I guess, just to start out, a follow-up on the capital question. Did I understand you correctly? Is the new capital cushion range going to be 700 to 800 million, or are we talking about $1 billion in 2006?

The answer is we haven't figured it out yet. Right now, we're probably at about a 600 to $800 million capital cushion level in place in terms of capital, not target. And we are trying to figure out what the right long-term number is to bake into our '06 plans; that will be part of our budgeting (indiscernible). And just where I indicated it's not going to -- the right long-term number is not going to be 600 to 800 million; it will be a little bit north of that, but not that much more.

Then a follow-up on Japan and the ROA question again. I guess, as you look at the US Variable Annuity business versus Japan, and they both running at the same ROA, Japan is about one-fifth the size. I guess my question is, should we assume that that is a scalable business in its own right and that, as it grows in size, the ROA is going to move up materially, as the US VA business did? Or is there any kind of subsidization that goes on between those businesses where you shouldn't expect to see the ROA expand meaningfully over time?

I would go with the 50 for now. I think $20 billion is pretty big, so scalability diminishes once you get into that territory. And keep in mind, in the US, the tax rate has come down steadily, and we don't expect the same to happen in Japan. So I would have you stick with the 50.

And then, just one last follow-up. Can you just elaborate on the current competitive environment in Japan, whether you're seeing a lot of new players or more aggressive players, and where you see that going?

More players, and it's going to be a little bit of a take-share gain. But I think, more importantly, the market is still so young there that I expect that the overall market is going to continue to grow. So obviously, our success and a few others have attracted others to want to enter the market. But we see this as a $500 billion business, and --

Industry.

Business. (Multiple speakers). But the industry will be, in the not too distant future, that big. And we have such a strong head start and we like the prospects.

Jay Cohen, Merrill Lynch.

A lot of my questions have been answered, but just one maybe little bit bigger-picture question. On the Property/Casualty side, one of the ways you're growing is obviously through new agencies. Are you able to track the loss ratio that you see from a new agency versus one that you have had an established relationship with?

Yes.

And what would the difference be?

The more established agents, we do in fact have a lower loss ratio. But having said that, I think we have learned a lot, and have applied a fair amount of science to why that is, and how to select the new agents to try and close that gap more quickly. And so, I'll answer a question you didn't ask, is are we seeing that gap close? And the answer is yes, as well. So I think that we're trying to get a lot more scientific in terms of selection of agents, both in terms of the kind of flow they can generate, the markets they penetrate and the classes of business, but also the expected loss ratio on those businesses.

One thing I would add to David's comment there is it's a broader question on new versus renewal loss ratio and the science David and the team have on that kind of thing, new versus renewal loss ratios, much more advanced today than we ever had in our history.

I guess related to this, we hear from St. Paul Travelers they are building out their field force, as well; it sounds like they are just trying to get closer to the agent. Are you getting the kind of return you are expecting from the investments you are making in your field force, given that others are trying to do similar things?

Yes, and we have been in motion on this strategy for some time now. And I think that, as you know, we have doubled the number of offices just over the last few years; we are up to 30. And I think the key for us, in terms of your question about the economics of these decisions and this expansion, has been our ability to really get the leverage and efficiency out of some of the technology we have been building over the last few years. So the offices or branches that we can open can now be a handful or a dozen people, as against maybe the 50 to 100 people we would have put in place in years gone by. So I think you can get immediate penetration, immediate lift with a nominal investment.

And frankly, the biggest constraint that we have is not economics, it's people. And that is finding and training the people to get them into these areas, or attracting them from other companies in these areas to set up the presence as quickly as possible. So it's worked very well for us, I think we are getting better at it, and it's something that is going to be part of our strategy going forward.

(OPERATOR INSTRUCTIONS). Eric Berg, Lehman Brothers.

Tom, I guess I'm still trying to understand why the variable annuity business has seen its cash flows come down as fast and as dramatically as they have. And certainly, I'm aware of the fact -- you said it's obviously the marketplace, that you have this big sort of head start and the market all to yourself with your GMWB, and that this product has now been copied many times. But I'm struck by the fact that there are lots of other companies -- Manulife, Prudential, Lincoln -- certainly, Lincoln and Manulife -- that are very, very solidly cash flow positive. What are they doing that either you are not doing or you choose not to do? Why are they moving forward and you're in neutral?

Well, let me point out a couple of things there. First, we have the biggest installed base; we have over 100 billion out there as the products age. We have been number one since 1993, so there's a natural surrender rate that comes with this business. As we say, even though we are not happy with the pickup in surrenders, we are still within our pricing. So some of that is to be expected.

On the gross sales side, we're working hard to get back to places we have been in the past. We were working new product like we always do. We are very happy with the Director M launch, and especially they are going to have a dedicated team. Leaders continues to be the number-one product in the industry. So I like our prospects. It's not going to happen right away. As Ramani guided in his opening remarks, we are still probably not going to be under 3 billion for the third quarter. But, as Director M hits and as we bring new products to the market, we're fighting to get back to places much higher than we are now. And I think the story for us is going to be more gross sales. I'm encouraged by the surrender rate tick-down in July. I don't know whether that will maintain itself.

But I think the story for us is going to be more gross than net. We have got to get things in place so that we can get well over 3 billion, which right now is actually a number above what we are guiding for the third quarter. So we have work to do, but I think we're up to it.

I think you are, too, and I wish you good luck on that. My second and final question is, in the Group Insurance area, I tend to look more at the earned premium growth. I tend to view that as sort of a summary statistic for the growth of the Company -- not the sales but what is running through your GAAP income statement. And I guess my question is, it's currently running in the mid single digits, consistent with your guidance. Can you make that business grow more quickly? Can that be a double-digit growth story? Again, there are other companies that are doing it.

Yes. We are guiding 4 to 6% for this year. We think we can do better than that next year. You are right to look at it. You are right to look at premium, because that's where it's at. That is the proper way to look at it, and sales are part of that equation. Persistency is the other piece. We have been pleased with our persistency. 4 to 6% is okay for this year, but we want to do better than that next year, and we are well-positioned. You have to keep in mind, we added a whole half our company when CNA came on last January. So now we have to grow not only of what we had but what they had. And so far, that has resulted in mid single digits. We certainly want to do better. In the meantime, as you can see from the earnings, everything else within that operation is performing very nicely, with the solid underwriting and claims management yielding very good returns and growth in earnings.

One way to consider the math on that, to describe what Tom's talking about -- if you just take the normal lapse rate on that business, it takes an enormous amount of new business to really move that to double digit. So that is really just -- the installed base is substantial.

Terry Hsu (ph), JP Morgan.

I don't meant to keep on hitting on the VA question, but I think part of it -- as you pointed out, Ramani -- is just the larger installed base, the growth that you need from the topline gross sales to move the needle. I'd like to understand a little better about the product differentials. I think you alluded to the fact that you are trying to come up with new products that offer value to consumers. What is selling out there, your products versus others? Are there certain nuances that your product is not as appealing? Are there some of the competitors with new withdrawal features that somehow are more appealing? Is it some of that, or are there pricing pressures and you are holding the line? Can you explain that a little bit?

Before I turn it over to Tom, one thing I mentioned in my opening comments -- given the size of the annuity assets under management, market moves increase assets dramatically. And at 50 bips (ph), that creates a reasonable earnings power. So I just want to be sure you're noticing that. Just since the close of the quarter, we are up 3.3 billion. But let me turn it over to Tom.

Yes, yes, I do recognize that. And I agree with you. It's just that you had such a huge installed base; it just takes more.

Right. Let me turn it over to Tom.

But I'm more interested in the product issue. Is there something about what your current product offerings compare to competitors? Is it more or less appealing? And you alluded to the fact that you still want to offer more value to consumers. Are there products out in the market that offer less?

Clearly, we feel a conviction to the value part of the game, but that doesn't mean we won't have benefits that work for the consumer. I think when you look at us vis-a-vis competitors, some of the GMWB designs that are high-priced are making an impact. They are getting a share. We felt that. At the same time --

What do you mean, the high-priced? What are the features that are appealing, that people like that are the hot sellers now?

Some have more frequent step-ups. They may have bonuses that are guaranteeing 100% of premium, maybe they are guaranteeing 105. But they come at a higher price. So what we are working on is innovation where we can keep the price reasonable, but provide some of the benefits that people are looking at.

At the same time, you can't ignore -- this is something I always go back to, the feature, the withdrawal benefit or income benefit, is only one among many features in the variable annuity. And the core investment options are, I think, equally if not more important. We have done a lot of work there, particularly on the Director side, where we have made it truly multi-manager and added some of the best fund families there are, and getting both the wholesaling teams up to speed and ready to go into the second half of the year. So we continue to feel, while third quarter may continue a little slower by our standards, that we are well-positioned for the future.

And if I could just ask another question on Japan, as far as VA versus fixed annuities in the Japanese market now, what is now more popular? And as far as competition, is it all the foreign players as well as the domestic players? And I gather there are several foreign players now in the market. If you can describe the market a little bit, VA versus fixed, different types of players? And is it the distribution that counts, your having had a lead with the arrangements with the banks and such?

You know, the banks are great contributors for us. What is ruling the day now is variable annuities. Japan interest rates, which tend to be low in general, actually did tick down in the first half of this year and the fixed annuity business has shrunk accordingly. So most of what we're selling right now is VA.

In terms of competition, global players -- essentially, a lot of the same players we compete against here in the US -- relative to the Japan domestics, they are more active on the fixed side than the variable side, although I think they are starting to gain a bigger presence on VA, as well.

The fixed annuities is mostly dollar-denominated; right?

Not in our case. We are selling through banks, and most of what we sell is yen-based.

Operator, we have time for one last question.

Al Copersino, Columbia Management.

It's interesting to see the asbestos studies showing no need for an increase. I'm wondering if you wouldn't mind sharing with us what the midpoint of that study was? Did it suggest, perhaps, you're over-reserved?

Can I turn this over to Neal? Neal Wolin is our General Counsel, responsible for all our runoff operations. One thing that I would like to say is, as we have always stressed, when we do these studies it's a true ground-up evaluation, as far as the kind of study that we conducted in the second quarter. Do you have that? Did we release --?

Our range is 2.1 to 3.2, so the midpoint is 2.7. We are slightly above the midpoint.

That, by the way, included -- didn't that include both A&E? That included A&E, which means asbestos and environmental.

So let me bring this call to a close. As we reach the halfway point this year, really looking forward to a very good year. As I mentioned, and as you can hear from my colleagues, we're certainly facing an increasingly competitive environment, but I really believe that you can count on The Hartford for disciplined execution. We are pursuing sales and growth where it makes sense, and we're focusing on growing our book value per share, as Johnson mentioned in has comments. And I really want to thank you for participating on today's call.

This concludes today's Hartford second-quarter 2005 conference call. You may now disconnect.