-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, TGC5mgUAN0d0Zqtcr5HSICvhp0sI+kk2J7GKYQXk17ZlzbcDyh2EZXrSnyFIbJnV qvxHadZvkZjtg5cOfwef9Q== 0000086312-00-000015.txt : 20000331 0000086312-00-000015.hdr.sgml : 20000331 ACCESSION NUMBER: 0000086312-00-000015 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 11 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000330 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ST PAUL COMPANIES INC /MN/ CENTRAL INDEX KEY: 0000086312 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 410518860 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-10898 FILM NUMBER: 586766 BUSINESS ADDRESS: STREET 1: 385 WASHINGTON ST CITY: SAINT PAUL STATE: MN ZIP: 55102 BUSINESS PHONE: 6123107911 FORMER COMPANY: FORMER CONFORMED NAME: ST PAUL COMPANIES INC /MN/ DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: SAINT PAUL COMPANIES INC DATE OF NAME CHANGE: 19900730 10-K 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES - --- EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1999 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE - --- SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ------------ ----------- Commission file number 0-3021 THE ST. PAUL COMPANIES, INC. ---------------------------------------------------- (Exact name of Registrant as specified in its charter) Minnesota 41-0518860 ------------------------- ------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 385 Washington Street, Saint Paul, MN 55102 ------------------------------------- -------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, Including area code 651-310-7911 ------------ Securities registered pursuant to Section 12(b) of the Act: Common Stock (without par value) New York Stock Exchange - ------------------------------- London Stock Exchange ------------------------------ (Title of class) (Name of each exchange on which registered) Securities registered pursuant to Section 12(g) of the Act: None. Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ( ) The aggregate market value of the outstanding Common Stock held by nonaffiliates of the Registrant on March 13, 2000, was $4,785,479,797. The number of shares of the Registrant's Common Stock, without par value, outstanding at March 13, 2000, was 214,895,253. An Exhibit Index is set forth at page 38 of this report. DOCUMENTS INCORPORATED BY REFERENCE ----------------------------------- Portions of the Registrant's 1999 Annual Report to Shareholders are incorporated by reference into Parts I, II and IV of this report. Portions of the Registrant's Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000 are incorporated by reference into Parts III and IV of this report. PART I ------ Item 1. Business. - ------ -------- General Description The St. Paul Companies, Inc. (The St. Paul) is incorporated as a general business corporation under the laws of the State of Minnesota. The St. Paul and its subsidiaries constitute one of the oldest insurance organizations in the United States, dating back to 1853. The St. Paul is a management company principally engaged, through its subsidiaries, in providing commercial property- liability and life insurance, and reinsurance products and services worldwide. The St. Paul also has a presence in the asset management industry through its 79% majority ownership of The John Nuveen Company (Nuveen). As a management company, The St. Paul oversees the operations of its subsidiaries and provides them with capital, management and administrative services. At March 1, 2000, The St. Paul and its subsidiaries employed approximately 12,000 persons. Based on total revenues, The St. Paul ranked No. 171 on the 1998 Fortune 500 list of the largest companies in the United States. 1999 Developments - ----------------- Summary of Results. The following table summarizes The St. Paul's consolidated results for the last three years: Year ended December 31 1999 1998 1997 (In millions, except per ------ ------ ------ share data) Pretax income (loss): Property-liability insurance $ 971 $ 298 $1,488 Life insurance 66 21 78 Asset management 123 104 93 Parent company and other operations (143) (303) (226) ------ ------ ------ Pretax income from continuing operations 1,017 120 1,433 Income tax expense (benefit) 238 (79) 371 ------ ------ ------ Income from continuing operations before cumulative effect of accounting change 779 199 1,062 Cumulative effect of accounting change, net of taxes (30) - - ------ ------ ------ Income from continuing operations 749 199 1,062 Discontinued operations, net of taxes 85 (110) (133) ------ ------ ------ Net income $ 834 $ 89 $ 929 ====== ====== ====== Per common share (diluted) $ 3.41 $ 0.32 $ 3.69 ====== ====== ====== The improvement in pretax income from continuing operations in 1999 over 1998 was driven by The St Paul's property-liability insurance operations, reflecting efficiencies realized from the 1998 merger with USF&G Corporation (USF&G), the favorable impact of two aggregate excess-of-loss reinsurance treaties, and improvements in certain commercial insurance underwriting results. Pretax income in 1999 was reduced by a charge of $60 million related to a cost reduction program, whereas 1998 pretax income reflected the impact of a provision to strengthen loss reserves, and merger-related and other expenses. Strategic Transactions. The St. Paul took four major actions in 1999 consistent with its strategy of focusing its resources on specialty commercial and professional property-liability insurance lines. First, The St. Paul completed the sale of its standard personal insurance underwriting operations to Metropolitan Property and Casualty Insurance Company (Metropolitan). Second, The St. Paul reached a definitive agreement to sell its nonstandard auto insurance operations to Prudential Insurance Company of America (Prudential), in a transaction expected to be completed in the second quarter of 2000. The results of the operations sold and to be sold are included in discontinued operations for all periods in the preceding table. Note 14 to the consolidated financial statements on pages 66 and 67 of The St. Paul's 1999 Annual Report to Shareholders, which includes additional information regarding the sale of these operations, including the components of the respective gain and estimated loss on disposal, is incorporated herein by reference. Third, The St. Paul reached definitive agreement to purchase MMI Companies, Inc., a provider of insurance products and consulting services to the healthcare industry, in a transaction expected to be finalized in the second quarter of 2000. Fourth, The St. Paul agreed to purchase Pacific Select Insurance Company, which will increase its earthquake risk underwriting capabilities in California, in a transaction completed in the first quarter of 2000. Note 2 to the consolidated financial statements on pages 52 and 53 of The St. Paul's 1999 Annual Report to Shareholders includes additional information about these acquisitions and is incorporated herein by reference. Cost Reduction Program. In the third quarter of 1999, The St. Paul announced a cost reduction program designed to enhance the company's efficiency in the highly-competitive property-liability insurance marketplace. The St. Paul recorded a pretax charge to earnings of $60 million in 1999 related to this program, consisting of $33 million of occupancy-related expenses, $25 million of employee-related expenses related to the anticipated elimination of approximately 700 positions, and $2 million of equipment charges. Through Dec. 31, 1999, the employment of approximately 480 individuals had been terminated under this plan. Realignment of Primary Insurance Operations. In the fourth quarter of 1999, The St. Paul realigned its primary property-liability insurance operations in order to further streamline the company's organization and ease agent and broker access to its products and services. The St. Paul created a Global Specialty Practices organization, encompassing The St. Paul's Specialty Commercial and Surety business segments, which has worldwide responsibility for product development, strategic planning, pricing and risk selection for The St. Paul's specialty commercial insurance operations. USF&G Merger Update - ------------------- In April 1998, The St. Paul merged with USF&G Corporation (USF&G), a Baltimore, Maryland-based holding company for property-liability and life insurance and reinsurance operations. The St. Paul issued 66.5 million of its common shares in exchange for all of the outstanding common stock of USF&G in a business combination accounted for as a pooling of interests. The combined entity retained The St. Paul name, with headquarters in St. Paul, Minnesota. In 1999, The St. Paul substantially completed the integration of USF&G into its operations, achieving significant efficiencies through the elimination of duplicate functions throughout the combined organization, including the consolidation of corporate headquarters' functions and the elimination of approximately 2,200 employee positions. By the end of 1999, The St. Paul had realized pretax annual expense savings of approximately $260 million (as measured against the combined 1997 pre-merger expenses of The St. Paul and USF&G) as a result of the merger and the subsequent restructuring of its commercial insurance underwriting operations in late 1998. The St. Paul recorded a pretax merger-related charge to earnings of $292 million in 1998, primarily for severance and facilities exit costs. Note 15 to the consolidated financial statements, on pages 67 through 69 of The St. Paul's 1999 Annual Report to Shareholders, which includes additional information regarding the charge, including the components thereof and cash disbursements through Dec. 31, 1999, is incorporated herein by reference. The St. Paul also recorded a $215 million pretax provision to increase USF&G's loss and loss adjustment expense reserves subsequent to the merger. Note 8 to the consolidated financial statements included in The St. Paul's 1999 Annual Report to Shareholders, which includes additional information about the $215 million provision, is incorporated herein by reference. Business Segments - ----------------- The St. Paul's property-liability insurance operations, composed of five distinct underwriting business segments and an investment operations segment, accounted for 89%, 91% and 92% of consolidated revenues from continuing operations in 1999, 1998 and 1997, respectively. The St. Paul's life insurance segment, Fidelity and Guaranty Life Insurance Company and subsidiaries (F&G Life), accounted for 6% of revenues in 1999 and 5% of revenues in 1998 and 1997, with Nuveen accounting for virtually all of the remaining revenues in each year. Financial information about The St. Paul's business segments is set forth in Note 18 to the consolidated financial statements on pages 71 through 73 of The St. Paul's 1999 Annual Report to Shareholders, and is incorporated herein by reference. The following table summarizes the sources of The St. Paul's consolidated revenues from continuing operations for each of the last three years. Following the table is a narrative description of each of The St. Paul's business segments. Percentage of Consolidated Revenues 1999 1998 1997 ------ ------ ------ Property-liability insurance: Primary insurance operations U.S. Underwriting: Commercial Lines Group 25.7% 29.5% 31.5% Specialty Commercial 19.4 18.8 17.4 Surety 5.0 4.4 3.5 ------ ------ ------ Total U.S. Underwriting 50.1 52.7 52.4 International 5.2 4.3 3.4 ------ ------ ------ Total primary underwriting 55.3 57.0 55.8 Reinsurance 12.1 13.5 14.7 ------ ------ ------ Total Underwriting 67.4 70.5 70.5 Investment operations: Net investment income 16.6 16.8 15.9 Realized investment gains 3.6 2.4 4.9 ------ ------ ------ Total investment operations 20.2 19.2 20.8 Other 1.0 0.8 0.5 ------ ------ ------ Total property- liability insurance 88.6 90.5 91.8 Life insurance 6.3 5.1 4.9 Asset management 4.7 4.0 3.2 Parent company, other operations and eliminations 0.4 0.4 0.1 ------ ------ ------ Total 100.0% 100.0% 100.0% ====== ====== ====== Narrative Description of Business Property-Liability Insurance - ---------------------------- The St. Paul's property-liability insurance underwriting operations consist of three U.S.-based primary underwriting segments collectively referred to as U.S. Underwriting, an international underwriting segment (International) and a reinsurance segment (St. Paul Re). The St. Paul's U.S. Underwriting operations underwrite property and liability insurance and provide insurance-related products and services to commercial and professional customers throughout the United States. International underwrites most of The St. Paul's primary property and liability insurance coverages outside the United States. International also includes The St. Paul's operations at Lloyd's (formerly Lloyd's of London), and insurance written for non-U.S. risks of U.S.-based corporate policyholders and non-U.S.- based policyholders' exposures in the United States. St. Paul Re underwrites reinsurance for leading property-liability insurance companies worldwide. The St. Paul's property-liability operations also include an investment segment responsible for overseeing the property-liability investment portfolio. The primary sources of property-liability revenues are premiums earned from insurance policies and reinsurance contracts, income earned from the investment portfolio and gains from sales of investments. According to the most recent industry statistics published in "Best's Review" with respect to property-liability insurers doing business in the United States, The St. Paul's property-liability underwriting operations ranked 11th on the basis of 1998 written premiums. Principal Departments and Products. The "Property-Liability Underwriting Results by Segment" table included in "Management's Discussion and Analysis" on page 24 of The St. Paul's 1999 Annual Report to Shareholders, which summarizes written premiums, underwriting results and statutory combined ratios for each of its underwriting segments for the last three years, is incorporated herein by reference. The following discussion summarizes the business structure of The St. Paul's property-liability insurance underwriting operations as it existed on Dec. 31, 1999. U.S. Underwriting - ----------------- U.S. Underwriting operates through the following business segments: Commercial Lines Group. The Commercial Lines Group, in general, underwrites general liability and casualty, property, workers' compensation, commercial auto, inland marine, umbrella and excess liability, and package coverages. This segment includes the following business centers: Middle Market Commercial provides "all lines" property and casualty insurance and risk management services for midsize and large commercial enterprises. Tailored coverages and products are marketed to specific customer groups such as golf courses, museums, colleges and schools, multipurpose recreational facilities, manufacturers, wholesalers, processors, service-related industries (retailers, insurance companies, and hospitality and entertainment firms) and motor carriers. Insurance coverages are also offered for nationwide, multiple-policyholder programs generated through a single agency source. Small Commercial provides coverages to small businesses, including retailers, wholesalers, professional offices, manufacturers and contractors, and offers unique coverages for group accounts, such as franchise operations, associations and multi-location accounts. Coverages marketed specifically to small commercial customers include the Business Insurance Policy (BIP). Construction provides insurance and related services to a broad range of general contractors, highway contractors and specialty contractors. The Cat Risk business center underwrites property coverage for major U.S. corporations, including policyholders with specialty needs and high property values, with an emphasis on earthquake and hurricane catastrophe exposures. This business center also provides personal property coverages for earthquake exposures in California through GeoVera Insurance Company. The St. Paul's participation in insurance pools and associations, which provide specialized underwriting skills and risk management services for the classes of business that they write, is also included in Commercial Lines Group results. These pools and associations serve to increase the underwriting capacity of participating companies for insurance policies where the concentration of risk is so high or the amount so large that a single company could not prudently accept the entire risk. The St. Paul's participation in these pools and associations is limited. Specialty Commercial. The Specialty Commercial segment serves specific commercial customer groups, generally providing coverage for damage to the customer's property (fire, inland marine and auto), liability for bodily injury or damage to the property of others (general liability, auto liability, umbrella and excess), workers' compensation insurance, and various professional liability coverages. Product and services are offered through the following business centers: Health Services (formerly Medical Services) underwrites professional liability, property and general liability insurance throughout the health care delivery system. Products include coverages for health care professionals (physicians and surgeons, dental professionals and nurses); individual health care facilities (including hospitals, long-term care facilities and other facilities such as laboratories); and entire systems, such as hospital networks and managed care systems. Specialized claim and loss control services are vital components of Health Services' insurance products and services. The St. Paul's Health Services business center is the largest medical liability insurer in the United States, with premium volume accounting for approximately 6% of the U.S. market based on 1998 premium data published in "Best's Review." The St. Paul's acquisition of MMI Companies, Inc., expected to be completed in 2000, will create, when combined with its existing operations, a globally integrated provider of insurance and risk management services for the healthcare industry, with pro forma combined annual revenues of approximately $1 billion. Financial and Professional Services provides directors' and officers' liability and commercial fidelity coverages to public, private and nonprofit corporations, including financial services organizations. The St. Paul is endorsed by two major banking associations in the United States as the recommended insurance carrier for their members. This business center also provides professional liability coverages for lawyers, and offers errors and omissions coverage to other professionals, including insurance agents, real estate agents and appraisers. Public Sector Services markets insurance products and services, including professional liability coverages, to all local governments, Indian nations and special government districts and authorities, such as water districts, transit authorities and fire protection districts. Technology offers a comprehensive portfolio of specialty products and services to companies involved in medical technology and biotechnology, electronics, information technology, telecommunications and industrial electronics manufacturing. Excess and Surplus Lines underwrites umbrella and excess liability coverages, as well as property and liability insurance for high- risk classes of business and unique, sometimes one-of-a-kind risks that standard insurance markets generally avoid. Oil and Gas provides standard and specialty insurance coverages for customers involved in the exploration and production of oil and gas, including operators, drillers and oil servicing contractors. St. Paul Athena is a specialty underwriting facility dedicated to business generated through Swett & Crawford, a wholesale insurance brokerage subsidiary of Aon Corporation. Global Marine provides a variety of property-liability insurance related to ocean and inland waterways traffic, including cargo and hull property protection. Specialty Lines provides unsupported umbrellas, policies and self- insured retention products in the specialty admitted market. Surety. The Surety segment underwrites surety bonds, which are agreements under which one party, the surety, guarantees to another party, the owner or obligee, that a third party, the contractor or principal, will perform in accordance with contractual obligations. The Contract Surety business center specializes in providing bid, performance and payment bonds, domestically and internationally, to a broad spectrum of clients specializing in general contracting, highway and bridge construction, asphalt paving, underground and pipeline construction, manufacturing, civil and heavy engineering, and mechanical and electrical construction. Bid bonds provide financial assurance that a bid has been submitted in good faith and that the contractor intends to enter into the contract at the price bid and provide the required performance and payment bonds. Performance bonds protect the obligee from financial loss should the contractor fail to perform the contract in accordance with the terms and conditions of the contract documents. Payment bonds guarantee that the contractor will pay certain subcontractor, labor and material bills associated with a project. The Commercial Surety and Fidelity business center offers license and permit bonds, court bonds, public official bonds and other miscellaneous bonds. According to data published by the Surety Association of America, The St. Paul's domestic Surety operations were the largest in the United States based on 1998 written premiums, accounting for approximately 11% of the domestic market. The St. Paul's Surety segment also includes Afianzadora Insurgentes, the leading surety operation in Mexico. According to data published by AFIANZA, the Mexican Surety Commission, Afianzadora Insurgentes accounted for approximately 40% of the Mexican surety bond market based on written premium volume for the first nine months of 1999. International - ------------- The St. Paul's International business segment is responsible for most of The St. Paul's primary insurance written outside the United States. International has a presence through insurance companies licensed in Canada, Australia, and 12 countries in Europe, Africa and Latin America. It also includes business generated from The St. Paul's participation in Lloyd's as a provider of capital to selected underwriting syndicates and as the owner of a managing agency. International also includes insurance written for non-U.S. operations of multinational corporations based in the United States and insurance written to cover exposures in the United States for non-U.S. companies. This segment predominantly markets specialty commercial insurance in the international arena, with a particular emphasis on liability coverages. The International segment offers a broad range of products and services tailored to meet the unique needs of both its multinational customers as well as its customers in each of the domestic markets which it serves. St. Paul Re - ----------- St. Paul Re underwrites traditional treaty and facultative reinsurance for property, liability, ocean marine, surety, health and certain specialty classes of coverages, and also underwrites "non-traditional" reinsurance, which combines traditional underwriting risk with financial risk protection. St. Paul Re underwrites reinsurance for leading property, liability and other non-life insurance companies worldwide, with clients in North America, Latin America, the Caribbean, Europe, Australia and the Asia-Pacific region. Reinsurance is an agreement by which an insurance company will pay a premium to transfer, or "cede," a portion of the risk it has underwritten to a reinsurer. A large portion of reinsurance is effected automatically under general reinsurance contracts known as treaties. In some instances, reinsurance is effected by negotiation on individual risks, which is referred to as facultative reinsurance. Through Discover Re, The St. Paul's Reinsurance segment underwrites primary insurance, reinsurance and provides related services to self-insured companies and insurance pools, in addition to ceding to and reinsuring captive insurers, all within the alternative risk transfer market. Through alternative risk transfer, a company self- insures, or insures through a captive insurer, the portion of its own losses which are predictable and purchases insurance for the less predictable, high-severity losses that could have a major financial impact on the company. According to the most recent data published by the Reinsurance Association of America, St. Paul Re's written premium volume through the first nine months of 1999 ranked it as the sixth- largest reinsurer in the United States. According to data published in "Business Insurance," St. Paul Re was ranked as the 15th-largest property-liability reinsurer in the world, based on 1998 written premiums. Principal Markets and Methods of Distribution - --------------------------------------------- The St. Paul's U.S. Underwriting operations are licensed to transact business in all 50 states, the District of Columbia, Puerto Rico, Guam and the Virgin Islands. At least five percent of U.S. Underwriting's 1999 property-liability written premiums were produced in each of Illinois, California, Florida and New York. U.S. Underwriting's business is produced primarily through approximately 6,900 independent insurance agencies and insurance brokers. The needs of agents, brokers and policyholders are addressed through approximately 130 offices located throughout the United States. St. Paul Re produces reinsurance business from its New York headquarters, as well as from offices in London, Atlanta, Brussels, Chicago, Hong Kong, Miami, Morristown NJ, Munich, San Francisco, Singapore, Sydney and Tokyo. It underwrites business through brokers and, for certain types of reinsurance and in certain markets, on a direct basis. Discover Re underwrites alternative risk transfer business from its Farmington, CT headquarters, from regional U.S. offices in Atlanta, Pittsburgh, Dallas, Minneapolis and San Francisco, and from a correspondent office in London. The St. Paul's International operations are headquartered in London and underwrite insurance through domestic operations in 13 markets outside the United States (Argentina, Australia, Botswana, Canada, France, Germany, Ireland, Lesotho, Mexico, South Africa, Spain, The Netherlands and the United Kingdom). These operations distribute their products principally through independent brokers. Through its owned operations and partner companies, International's global network conducts business in more than 70 countries worldwide. Through its presence at Lloyd's, International also has access to business markets in virtually every country of the world for its specialty products including aviation, kidnap and ransom, malicious product tampering, creditor/payment protection and personal accident. The Lloyd's managing agency, operating under the name St. Paul Syndicate Management Ltd., underwrites business for eight syndicates, collectively representing approximately 4% of Lloyd's total capacity. Reserves for Losses and Loss Adjustment Expenses - ------------------------------------------------ General Information. When claims are made by or against policyholders, any amounts that The St. Paul's underwriting operations pay or expect to pay to the claimant are referred to as losses. The costs of investigating, resolving and processing these claims are referred to as loss adjustment expenses (LAE). The St. Paul establishes reserves that reflect the estimated unpaid total cost of these two items. The reserves for unpaid losses and LAE at Dec. 31, 1999 cover claims that were incurred not only in 1999 but also in prior years. They include estimates of the total cost of claims that have already been reported but not yet settled ("case" reserves), and those that have been incurred but not yet reported ("IBNR" reserves). Loss reserves are reduced for estimates of salvage and subrogation. Loss reserves for certain workers' compensation business and certain assumed reinsurance contracts are discounted to present value. Additional information about these discounted liabilities is set forth in Note 1 to the consolidated financial statements on pages 49 through 52 of The St. Paul's 1999 Annual Report to Shareholders, and is incorporated herein by reference. During 1999, $5.0 million of discount was amortized and $2.7 million of additional discount was accrued. Management continually reviews loss reserves, using a variety of statistical and actuarial techniques to analyze current claim costs, frequency and severity data, and prevailing economic, social and legal factors. Management believes that the reserves currently established for losses and LAE are adequate to cover their eventual costs. However, final claim payments may differ from these reserves, particularly when these payments may not take place for several years. Reserves established in prior years are adjusted as loss experience develops and new information becomes available. Adjustments to previously estimated reserves are reflected in results in the year in which they are made. Ten-year Development. The table on page 10 presents a development of net loss and LAE reserve liabilities and payments for the years 1989 through 1999. The top line on the table shows the estimated liability for unpaid losses and LAE, net of reinsurance recoverables, recorded at the balance sheet date for each of the years indicated. The table excludes the reserves and activity of Economy Fire and Casualty Company and its subsidiaries (Economy), which were included in the sale of The St. Paul's standard personal insurance operations to Metropolitan. The table does, however, include reserves and activity for the non-Economy standard personal insurance business that was sold to Metropolitan, since The St. Paul remains liable for claims on non-Economy standard personal insurance policies that result from losses occurring prior to Sept. 30, 1999 (the closing date of the sale). Also included in the table are the reserves and activity for The St. Paul's nonstandard auto business, which The St. Paul has agreed to sell to Prudential in a transaction expected to be completed in the second quarter of 2000. Notes 8 and 14 to the consolidated financial statements on pages 56 and 57, and pages 66 and 67, respectively, of The St. Paul's 1999 Annual Report to Shareholders, which include additional information regarding the sale of these operations and the related reserves, are incorporated herein by reference. In 1997, The St. Paul changed the method by which it assigns loss activity to a particular year for assumed reinsurance written by its U.K.-based reinsurance operation. Prior to 1997, that loss activity was assigned to the year in which the underlying reinsurance contract was written. In 1997, The St. Paul's analysis indicated that an excess amount of loss activity was being assigned to prior years because of this practice. As a result, The St. Paul implemented an improved procedure in 1997 that more accurately assigns loss activity for this business to the year in which it occurred. This change had the impact of increasing favorable development on previously established reserves by approximately $110 million in 1997. There was no net impact on total incurred losses, however, because there was a corresponding increase in the provision for current year loss activity in 1997. Development data for individual years prior to 1997 in this table were not restated to reflect this new procedure because reliable data to do so was not available. The upper portion of the table, which shows the re-estimated amounts relating to the previously recorded liabilities, is based upon experience as of the end of each succeeding year. These estimates are either increased or decreased as further information becomes known about individual claims and as changes in the trend of claim frequency and severity become apparent. The "Cumulative redundancy (deficiency)" line on the table for any given year represents the aggregate change in the estimates for all years subsequent to the year the reserves were initially established. For example, the 1991 reserve of $12,848 million developed to $12,479 million, or a $369 million redundancy, by the end of 1993. By the end of 1999, the 1991 reserve had developed a redundancy of $1,041 million. The changes in the estimate of 1991 loss reserves were reflected in operations during the past eight years. In 1993, The St. Paul adopted the provisions of SFAS No. 113, "Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts." This statement required, among other things, that reinsurance recoverables on unpaid losses and LAE be shown as an asset, instead of the prior practice of netting this amount against insurance reserves for balance sheet reporting purposes. The middle portion of the table, which includes data for only those periods impacted since the adoption of SFAS No. 113 (the years 1992 through 1999), represents a reconciliation between the net reserve liability as shown on the top line of the table and the gross reserve liability as shown on The St. Paul's balance sheet. This portion of the table also presents the gross re-estimated reserve liability as of the end of the latest re-estimation period (Dec. 31, 1999) and the related re-estimated reinsurance recoverable. The St. Paul did not restate data for years prior to 1992 in this table for presentation on a gross basis due to the impracticality of determining such gross data on a reliable basis for its foreign underwriting operations. The lower portion of the table presents the cumulative amounts paid with respect to the previously recorded liability as of the end of each succeeding year. For example, as of Dec. 31, 1999, $9,066 million of the currently estimated $11,807 million of losses and LAE that have been incurred for the years up to and including 1991 have been paid. Thus, as of Dec. 31, 1999, it is estimated that $2,741 million of incurred losses and LAE have yet to be paid for the years up to and including 1991. Caution should be exercised in evaluating the information shown on this table. It should be noted that each amount includes the effects of all changes in amounts for prior periods. For example, the portion of the development shown for year-end 1995 reserves that relates to 1989 losses is included in the cumulative redundancy (deficiency) for the years 1989 through 1995. In addition, the table presents calendar year data. It does not present accident or policy year development data, which some readers may be more accustomed to analyzing. The social, economic and legal conditions and other trends which have had an impact on the changes in the estimated liability in the past are not necessarily indicative of the future. Accordingly, readers are cautioned against extrapolating any conclusions about future results from the information presented in this table. Note 8 to the consolidated financial statements, on pages 56 and 57 of The St. Paul's 1999 Annual Report to Shareholders, includes a reconciliation of beginning and ending loss reserve liabilities for each of the last three years and is incorporated herein by reference. Additional information about The St. Paul's reserves is contained in the "Loss and Loss Adjustment Expense Reserves" and "Environmental and Asbestos Claims" sections of "Management's Discussion and Analysis" on pages 33 and 34 of The St. Paul's 1999 Annual Report to Shareholders, which are incorporated herein by reference. Analysis of Loss and Loss Adjustment Expense (LAE) Development (In millions)
Year ended December 31 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 - ---------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- Net liability for unpaid losses and LAE $11,343 11,881 12,848 13,211 12,990 13,020 13,489 14,718 14,802 14,926 14,161 ====== ====== ====== ====== ====== ====== ====== ====== ====== ====== ====== Liability re-estimated as of: One year later 11,305 12,228 12,684 12,911 12,621 12,688 13,019 13,958 14,566 14,616 Two years later 11,517 12,130 12,479 12,589 12,247 12,250 12,314 13,733 14,360 Three years later 11,480 12,058 12,280 12,384 11,949 11,792 12,165 13,632 Four years later 11,518 11,930 12,222 12,144 11,587 11,644 12,071 Five years later 11,503 11,918 12,065 11,915 11,474 11,490 Six years later 11,544 11,850 11,944 11,818 11,343 Seven years later 11,538 11,869 11,899 11,729 Eight years later 11,646 11,844 11,807 Nine years later 11,642 11,821 Ten years later 11,669 Cumulative redundancy (deficiency) $(326) 60 1,041 1,482 1,647 1,530 1,418 1,086 442 310 ====== ====== ====== ====== ====== ====== ====== ====== ====== ====== Net liability for unpaid losses and LAE 13,211 12,990 13,020 13,489 14,718 14,802 14,926 14,161 Reinsurance recoverable on unpaid losses 3,903 2,581 2,533 2,824 2,864 3,051 3,260 3,773 ------ ------ ------ ------ ------ ------ ------ ------ Gross liability 17,114 15,571 15,553 16,313 17,582 17,853 18,186 17,934 ====== ====== ====== ====== ====== ====== ====== ====== Gross re-estimated liability: One year later 16,467 15,177 15,642 15,869 17,054 17,757 17,833 Two years later 16,143 15,201 15,280 15,130 16,816 17,429 Three years later 15,998 14,988 14,689 15,009 16,511 Four years later 15,825 14,520 14,698 14,618 Five years later 15,536 14,550 14,260 Six years later 15,565 14,174 Seven years later 15,372 Gross cumulative redundancy 1,742 1,397 1,293 1,695 1,071 424 353 ====== ====== ====== ====== ====== ====== ====== Cumulative amount of net liability paid through: One year later $ 3,041 3,105 3,027 3,017 2,735 2,654 2,906 3,353 3,538 3,700 Two years later 5,004 5,107 5,027 4,970 4,523 4,510 4,848 5,682 5,955 Three years later 6,390 6,433 6,380 6,263 5,797 5,838 6,333 7,284 Four years later 7,271 7,371 7,276 7,173 6,712 6,874 7,265 Five years later 7,931 8,006 7,917 7,838 7,443 7,557 Six years later 8,388 8,470 8,424 8,329 7,960 Seven years later 8,745 8,875 8,812 8,650 Eight years later 9,077 9,196 9,066 Nine years later 9,337 9,405 Ten years later 9,514 Cumulative amount of gross liability paid through: One year later 4,072 3,328 3,255 3,422 3,719 3,962 4,184 Two years later 6,585 5,506 5,509 5,407 6,335 6,635 Three years later 8,178 7,072 6,864 7,098 8,156 Four years later 9,304 8,008 8,057 8,164 Five years later 10,009 8,851 8,852 Six years later 10,597 9,480 Seven years later 11,143
Ceded Reinsurance. Through ceded reinsurance, other insurers and reinsurers agree to share certain risks that The St. Paul's subsidiaries have underwritten. The purpose of reinsurance is to limit a ceding insurer's maximum net loss arising from large risks or catastrophes. Reinsurance also serves to increase the direct writing capacity of the ceding insurer. Amounts recoverable on ceded losses are recorded as an asset. With respect to ceded reinsurance, The St. Paul strives to protect its assets from large individual risk and occurrence losses, and provide its respective underwriting operations with the capacity necessary to write large limits on accounts. The collectibility of reinsurance is subject to the solvency of reinsurers. The St. Paul's Reinsurance Security Committee, which has established financial standards to determine qualified, financially secure reinsurers, guides the placement of ceded reinsurance. Uncollectible reinsurance recoverables have not had a material adverse impact on The St. Paul's results of operations, liquidity or financial position. In 1999, The St. Paul ceded losses and loss adjustment expenses totaling $534 million under two separate aggregate excess-of-loss reinsurance treaties. Written and earned premiums totaling $273 million were also ceded under these treaties, resulting in a $261 million benefit included in The St. Paul's 1999 pretax income. Note 16 to the consolidated financial statements on page 70 of The St. Paul's 1999 Annual Report to Shareholders, which provides a schedule of ceded reinsurance and additional information about the two 1999 reinsurance treaties, is incorporated herein by reference. Property - Liability Investment Operations - ------------------------------------------ Objectives. The St. Paul's board of directors approves the overall aggregate investment plan for the companies within The St. Paul group. Each subsidiary adopts its own specific investment policy tailored to comply with domestic laws and regulations and the overall corporate investment plan. The primary objectives of those plans are as follows: 1) to maintain a widely diversified fixed maturities portfolio structured to maximize investment income while minimizing credit risk through investments in high-quality instruments; and 2) to provide for long-term growth in the market value of the investment portfolio and enhance shareholder value through investments in certain other investment classes, such as equity securities, venture capital and real estate. The St. Paul's property-liability investment operations have had limited involvement with derivative financial instruments, primarily for purposes of hedging against fluctuations in foreign currency exchange rates and interest rates. The St. Paul's investment operations have not participated in the derivatives market for trading or speculative purposes. Fixed Maturities. Fixed maturities constituted 75% (at cost) of The St. Paul's property-liability insurance operations' investment portfolio at Dec. 31, 1999. The portfolio is primarily composed of high-quality, intermediate-term taxable U.S. government agency and corporate bonds and tax-exempt U.S. municipal bonds. The following table presents information about the fixed maturities portfolio for the last three years (dollars in millions). Weighted Weighted Amortized Estimated Pretax Net Average Average Cost at Fair Value Investment Pre-tax After-tax Year Year-end at Year-end Income Yield Yield - ---- ------ ----------- -------- ------- ------- 1999 $15,515 $15,479 $1,171 6.8% 5.1% 1998 16,198 17,177 1,204 6.8% 5.1% 1997 16,548 17,376 1,236 7.1% 5.2% The St. Paul determines the mix of its investments in taxable and tax-exempt securities based on its current and projected tax position and the relationship between taxable and tax-exempt investment yields. Taxable, intermediate-term, investment-grade securities accounted for the majority of new bond purchases in 1999. The fixed maturities portfolio is carried on The St. Paul's balance sheet at estimated fair value, with unrealized appreciation and depreciation (net of taxes) recorded in common shareholders' equity. At Dec. 31, 1999, pretax unrealized depreciation totaled $36 million, compared with appreciation of $979 million at the end of 1998. The decline in unrealized appreciation was primarily the result of an increase in market interest rates during 1999. The fixed maturities portfolio is managed conservatively to provide reasonable returns while limiting exposure to risks. Approximately 95% of the fixed maturities portfolio is rated at investment grade levels (BBB or better). The remaining 5% of the portfolio is split between nonrated and non-investment grade (high-yield) securities. The St. Paul believes the nonrated securities would be considered investment-grade in quality if rated. Equities. Equity securities comprised 5% of the property-liability operations' investments (at cost) at Dec. 31, 1999, and consist of a diversified portfolio of common stocks, which are held with the primary objective of achieving capital appreciation. Sales of equities generated $118 million of pretax realized investment gains in 1999, and dividend income totaled $16 million. The portfolio's carrying value at year-end included $516 million of pretax unrealized appreciation. The St Paul's domestic equity portfolio produced a total return of 32.6% in 1999. Real Estate and Mortgage Loans. The St. Paul's property-liability operations' real estate holdings consist of a diversified portfolio of commercial office and warehouse properties that The St. Paul owns directly or has partial interest in through joint ventures. The properties are geographically distributed throughout the United States and had an occupancy rate of 94% at Dec. 31, 1999. The St. Paul also has a portfolio of real estate mortgage investments acquired in the merger with USF&G. The real estate and mortgage loan portfolio produced $87 million of pretax investment income in 1999 and generated $18 million of pretax realized gains. Venture Capital. Securities of small- to medium-sized companies spanning a variety of industries comprise The St. Paul's venture capital holdings, which accounted for 2% of property-liability investments (at cost) at Dec. 31, 1999. These investments are in the form of limited partnership interests or direct equity investments. Venture capital investments generated pretax realized investment gains of $158 million in 1999. The carrying value of venture capital investments at Dec. 31, 1999 included $468 million of pretax unrealized appreciation. Securities Lending Collateral. This investment class, which comprised 6% of property-liability investments at Dec. 31, 1999, consists of collateral held on certain fixed-maturity securities loaned to other institutions through a lending agent for short periods of time. The collateral is maintained at 102%, marked to market daily, of the fair value of the loaned securities. The St. Paul retains full ownership of the loaned securities and is indemnified by the lending agent in the event a borrower becomes insolvent or fails to return the securities. Short-Term and Other Investments. The St. Paul's portfolio also includes short-term securities and other miscellaneous investments, which in the aggregate comprised 6% of property-liability investments at Dec. 31, 1999. Notes 1, 4, 5 and 7 to the consolidated financial statements, which are included in The St. Paul's 1999 Annual Report to Shareholders, provide additional information about The St. Paul's investment portfolio and are incorporated herein by reference. The "Investment Operations" and "Exposures to Market Risk" sections of "Management's Discussion and Analysis" in said Annual Report are also incorporated herein by reference. Life Insurance - -------------- F&G Life markets many forms of annuity and life insurance products, including single premium and flexible premium deferred annuities (such as equity-indexed annuities), tax sheltered annuities, single premium immediate annuities, structured settlement annuities and universal life, whole life and term life insurance. Most of F&G Life's annuities and life insurance products are sold primarily through independent agents and insurance brokers. Structured settlement annuities are sold predominantly to property- liability companies (primarily The St. Paul's U.S. Underwriting operations) in settlement of certain of their insurance claims. Note 8 to the consolidated financial statements, on pages 56 and 57 of The St. Paul's 1999 Annual Report to Shareholders, provides a table of F&G Life's future policy benefit reserves by type of product and is incorporated herein by reference. Life Insurance Investment Operations. F&G Life's investment portfolio totaled $4.3 billion at Dec. 31, 1999, consisting of investment grade government and corporate securities (64% of the total); asset-backed and mortgage-backed securities (18%); high- yield investments (7%); and real estate mortgage loans and other investments (11%). F&G Life uses derivative instruments in the form of over-the-counter indexed call options for the purpose of hedging interest credited on its equity-indexed annuity products. The cost of derivatives amounted to 1% of invested assets at Dec. 31, 1999. Note 7 on page 56 of The St. Paul's 1999 Annual Report to Shareholders, which includes additional information about F&G Life's involvement with derivative financial instruments, is incorporated herein by reference. Asset Management - ---------------- The John Nuveen Company (Nuveen) is The St. Paul's asset management subsidiary. The St. Paul and its largest property-liability insurance subsidiary, St. Paul Fire and Marine Insurance Company (Fire and Marine) hold a combined 79% interest in Nuveen. Nuveen's principal businesses are asset management and related research, as well as the development, marketing and distribution of investment products and services. Nuveen distributes its investment products, including mutual funds, exchange-traded funds (closed-end funds), defined portfolio products (unit trusts), and individually managed accounts through registered representatives associated with unaffiliated firms, including broker-dealers, commercial banks, affiliates of insurance providers, financial planners, accountants, consultants, and investment advisers. In 1999, Nuveen sold its investment banking business to U.S. Bancorp Piper Jaffray, enabling Nuveen to focus on its asset management business. Nuveen's primary business activities generate two principal sources of revenue: (1) ongoing advisory fees earned on assets under management, including mutual funds, exchange-traded funds, and individually managed accounts; and (2) transaction-based revenue earned upon the distribution of mutual fund, exchange-traded fund and defined portfolio products. Nuveen's operations are organized around six subsidiaries: John Nuveen & Co. Incorporated (Nuveen & Co.), a registered broker and dealer in securities under the Securities Exchange Act of 1934 and five investment advisory subsidiaries registered under the Investment Advisers Act of 1940. The five investment advisory subsidiaries are Nuveen Advisory Corp. (NAC), Nuveen Institutional Advisory Corp. (NIAC), Nuveen Asset Management Inc. (NAM), Rittenhouse Financial Services, Inc. (Rittenhouse) and Nuveen Senior Loan Asset Management, Inc. (NSLAM). Nuveen & Co. provides investment product distribution and related services for Nuveen's managed funds and defined portfolios. NAC, NIAC and NSLAM provide investment management services for and administer the business affairs of the Nuveen managed funds. Rittenhouse and NAM provide investment management services to individually managed accounts, and Rittenhouse also acts as sub-adviser and portfolio manager for a mutual fund managed by NIAC. At Dec. 31, 1999, Nuveen's assets under management totaled $59.8 billion, consisting of $26.8 billion of exchange-traded funds, $20.9 billion of managed accounts, and $12.1 billion of mutual funds. Municipal securities accounted for 66% of the underlying managed assets. In 1999, Nuveen repurchased 914,100 of its outstanding common shares for a total cost of $36 million. In 1998, Nuveen repurchased 732,700 of its outstanding common shares for a total cost of $27 million. The repurchases in both years were solely from minority shareholders, which served to increase The St. Paul's ownership percentage from 77% at Dec. 31, 1997 to 79% at Dec. 31, 1999. Competition and Regulation - -------------------------- Property-Liability Insurance. The St. Paul's domestic and international underwriting subsidiaries compete with a large number of other insurers and reinsurers. In addition, many large commercial customers self-insure their risks or utilize large deductibles on purchased insurance. The St. Paul's subsidiaries compete principally by attempting to offer a combination of superior products, underwriting expertise and services at a competitive, yet profitable, price. The combination of products, services, pricing and other methods of competition varies by line of insurance and by coverage within each line of insurance. The St. Paul and its underwriting subsidiaries are subject to regulation by certain states as an insurance holding company system. Such regulation generally provides that transactions between companies within the holding company system must be fair and equitable. Transfers of assets among such affiliated companies, certain dividend payments from underwriting subsidiaries and certain material transactions between companies within the system may be subject to prior notice to, or prior approval by, state regulatory authorities. During 1999, The St. Paul received $294 million of cash dividends from its U.S. Underwriting operations. In 2000, up to $484 million in cash dividends can be paid by the U.S. Underwriting operations to The St. Paul without regulatory approval. In addition, any change of control (generally presumed by the holding company laws to occur with the acquisition of 10% or more of an insurance holding company's voting securities) of The St. Paul and its underwriting subsidiaries is subject to prior approval. The underwriting subsidiaries are subject to licensing and supervision by government regulatory agencies in the jurisdictions in which they do business. The nature and extent of such regulation vary but generally have their source in statutes which delegate regulatory, supervisory and administrative powers to insurance regulators, which in the U.S. are state authorities. Such regulation, supervision and administration of the underwriting subsidiaries may relate, among other things, to the standards of solvency which must be met and maintained; the licensing of insurers and their agents; the nature of and limitations on investments; restrictions on the size of risk which may be insured under a single policy; deposits of securities for the benefit of policyholders; regulation of policy forms and premium rates; periodic examination of the affairs of insurance companies; annual and other reports required to be filed on the financial condition of insurers or for other purposes; requirements regarding reserves for unearned premiums, losses and other matters; the nature of and limitations on dividends to policyholders and shareholders; the nature and extent of required participation in insurance guaranty funds; and the involuntary assumption of hard-to-place or high-risk insurance business, primarily in workers' compensation insurance lines. Loss ratio trends in property-liability insurance underwriting experience may be improved by, among other things, changing the kinds of coverages provided by policies, providing loss prevention and risk management services, increasing premium rates or by a combination of these. The ability of The St. Paul's insurance underwriting subsidiaries to meet emerging adverse underwriting trends may be delayed, from time to time, by the effects of laws which require prior approval by insurance regulatory authorities of changes in policy forms and premium rates. The St. Paul's U.S. Underwriting operations do business in all 50 states and the District of Columbia, Puerto Rico, Guam and the U.S. Virgin Islands. Many of these jurisdictions require prior approval of most or all premium rates. The St. Paul's insurance underwriting business in the United Kingdom is regulated by the Financial Services Authority (FSA). The FSA's principal objectives are to ensure that insurance companies are responsibly managed, that they have adequate funds to meet liabilities to policyholders and that they maintain required levels of solvency. In Canada, the conduct of insurance business is regulated under provisions of the Insurance Companies Act of 1992, which requires insurance companies to maintain certain levels of capital depending on the type and amount of insurance policies in force. The Lloyd's operation is currently regulated by the Council of Lloyd's, a self-regulatory organization, but will in due course be regulated by the FSA. The St. Paul is also subject to regulations in the other countries and jurisdictions in which it underwrites insurance business. Life Insurance. The St. Paul's life insurance subsidiaries operate in a competitive environment, with approximately 1,400 companies nationwide in the industry including stock and mutual companies. F&G Life ranked 168th based on 1998 statutory net premiums written, 142nd based on 1998 statutory assets, and 170th based on 1998 statutory capital and surplus. In the life insurance industry, interest crediting rates, underwriting philosophy, policy features, financial stability and service quality are important competitive factors. F&G Life's products compete not only with those offered by other life insurance companies, but also with other income accumulation- oriented products offered by other financial services companies. The life insurance industry has experienced considerable competitive pressure in recent periods as a result of fluctuating interest rates. F&G Life is subject to licensing and supervision by government regulatory agencies in the jurisdictions in which it does business. The nature and extent of regulation vary but generally have their source in statutes which delegate regulatory, supervisory and administrative powers to state insurance commissioners. Such regulation and supervision of F&G Life may relate, among other things, to the standards of solvency which must be met and maintained; the licensing of insurers and agents; the nature of and limitations on investments; deposits of securities for the benefit of policyholders; regulation of policy forms; periodic examination of the affairs of the company; annual and other reports required to be filed; requirements regarding reserves for policyholder benefits; fixing maximum interest rates on life insurance policy loans and minimum rates for accumulation of surrender values; the nature of and limitations on dividends to policyholders and shareholders; and the nature and extent of required participation in insurance guaranty funds. Asset Management. Nuveen is subject to substantial competition in all aspects of its business. Investment products are sold to the public by broker-dealers, banks, insurance companies and others. Nuveen competes with these other providers of products primarily on the basis of the range of products offered, the investment performance of such products, quality of service, fees charged, the level and type of broker compensation, the manner in which such products are marketed and distributed, and the services provided to investors. Nuveen is a publicly-traded company registered under the Securities Exchange Act of 1934 and listed on the New York Stock Exchange. One of its subsidiaries, Nuveen & Co., is a broker and dealer registered under the Securities Exchange Act of 1934, and is subject to regulation by the Securities and Exchange Commission, the National Association of Securities Dealers, Inc. and other federal and state agencies and self-regulatory organizations. It is also subject to net capital requirements that restrict its ability to pay dividends. Nuveen's other five subsidiaries are investment advisers registered under the Investment Advisers Act of 1940. As such, they are subject to regulation by the Securities and Exchange Commission. Year 2000 Readiness Disclosure - ------------------------------ The St. Paul experienced no major disruptions in its information technology systems at the turn of the century. The "Year 2000 Readiness Disclosure" section of "Management's Discussion and Analysis" on page 41 of The St. Paul's 1999 Annual Report to Shareholders is incorporated herein by reference. Forward-Looking Statement Disclosure - ------------------------------------ This report contains certain forward-looking statements within the meaning of the Private Litigation Reform Act of 1995. Forward- looking statements are statements other than historical information or statements of current condition. Words such as expects, anticipates, intends, plans, believes, seeks or estimates, or variations of such words, and similar expressions are also intended to identify forward-looking statements. Examples of these forward- looking statements include statements concerning: market and other conditions and their effect on future premiums, revenues, earnings, cash flow and investment income; expense savings resulting from the USF&G merger and the restructuring actions announced in 1998 and 1999; expected closing dates for acquisitions and dispositions; and Year 2000 issues and The St. Paul's efforts to address them. In light of the risks and uncertainties inherent in future projections, many of which are beyond The St. Paul's control, actual results could differ materially from those in forward- looking statements. These statements should not be regarded as a representation that anticipated events will occur or that expected objectives will be achieved. Risks and uncertainties include, but are not limited to, the following: general economic conditions including changes in interest rates and the performance of financial markets; changes in domestic and foreign laws, regulations and taxes; changes in the demand for, pricing of, or supply of reinsurance or insurance; catastrophic events of unanticipated frequency or severity; loss of significant customers; judicial decisions and rulings; the pace and effectiveness of the transfer of the standard personal insurance business to Metropolitan; the pace and effectiveness of the transfer of the nonstandard auto operations to Prudential; the pace and effectiveness of our acquisition of MMI Companies, Inc.; and various other matters, including the effects of the merger with USF&G. Actual results and experience relating to Year 2000 issues could differ materially from anticipated results or other expectations as a result of a variety of risks and uncertainties, including unanticipated judicial interpretations of the scope of the insurance or reinsurance coverage provided by The St. Paul's policies. The St. Paul undertakes no obligation to release publicly the results of any future revisions it may make to forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Item 2. Properties. - ------ ---------- Fire and Marine owns The St. Paul's corporate headquarters buildings, located at 385 Washington Street and 130 West Sixth Street, St. Paul, MN. These buildings are adjacent to one another and consist of approximately 1.1 million square feet of gross floor space. Fire and Marine also owns property in Woodbury, MN where its Administrative Services Building and off-site computer processing operations are located. The St. Paul also owns the former USF&G headquarters campus known as Mount Washington Center, located in Baltimore, MD. The campus currently houses offices for certain executives of The St. Paul, as well as offices for certain underwriting, legal and claim personnel. A training and development center also resides on the Mount Washington campus. The St. Paul has leased a substantial portion of one of the buildings on the campus to an outside party. St. Paul International Insurance Company Ltd. owns a building in London, England, which houses a portion of its operations. The St. Paul retained ownership of another building in London subsequent to the sale of Minet to Aon in 1997, which is leased to an outside party. Fire and Marine and its subsidiary, St. Paul Properties, Inc., own a portfolio of income-producing properties in various locations across the United States that they have purchased for investment. The St. Paul's operating subsidiaries rent or lease office space in most cities in which they operate. Management considers the currently owned and leased office facilities of The St. Paul and its subsidiaries adequate for the current and anticipated future level of operations. Item 3. Legal Proceedings. - ------ ----------------- The information set forth in the "Legal Matters" section of Note 13 to the consolidated financial statements, and the "Environmental and Asbestos Claims" section of "Management's Discussion and Analysis," which are included in The St. Paul's 1999 Annual Report to Shareholders on pages 65 and 34, respectively, are incorporated herein by reference. In 1990, at the direction of the UK Department of Trade and Industry (DTI), five insurance underwriting subsidiaries of London United Investments PLC (LUI) suspended underwriting new insurance business. At the same time, four of those subsidiaries, being insolvent, suspended payment of claims and have since been placed in provisional liquidation. The fifth subsidiary, Walbrook Insurance Company, continued paying claims until May of 1992 but has now also been placed in provisional insolvent liquidation. Weavers Underwriting Agency (Weavers), an LUI subsidiary, managed these insurers. Minet, a former insurance brokerage subsidiary of The St. Paul, had brokered business to and from Weavers for many years. From 1973 through 1980, The St. Paul's UK-based underwriting operations, now called St. Paul International Insurance Company Ltd. (SPI), had accepted business from Weavers. A portion of that business was ceded by SPI to reinsurers. Certain of those reinsurers have challenged the validity of certain reinsurance contracts relating to the Weavers pool, of which SPI was a member, in an attempt to avoid liability under those contracts. SPI and other members of the Weavers pool are seeking enforcement of the reinsurance contracts. Minet may also become the subject of legal proceedings arising from its role as one of the major brokers for Weavers. When The St. Paul sold Minet in May 1997, it agreed to indemnify the purchaser for most of Minet's preclosing liabilities, including liabilities relating to the Weavers matter. Any proceedings relating to the Weavers matter will be vigorously contested by The St. Paul and it recognizes that the final outcome of these proceedings, if adverse to The St. Paul, may materially impact the results of operations in the period in which that outcome occurs, but believes it will not have a materially adverse effect on its liquidity or overall financial position. Item 4. Submission of Matters to a Vote of Security Holders. - ------ --------------------------------------------------- No matter was submitted to a vote of security holders during the quarter ended Dec. 31, 1999. Executive Officers Of The Registrant - ------------------------------------ All of the following persons are regarded as executive officers of The St. Paul Companies, Inc. because of their responsibilities and duties as elected officers of The St. Paul, Fire and Marine, St. Paul International Underwriting or St. Paul Re. There are no family relationships between any of The St. Paul's executive officers and directors, and there are no arrangements or understandings between any of these officers and any other person pursuant to which the officer was selected as an officer. The officers listed in the chart below, except Thomas A. Bradley, James E. Gustafson, Robert J. Lamendola, Stephen W. Lilienthal, Paul J. Liska, John A. MacColl and David R. Nachbar, have held positions with The St. Paul or one or more of its subsidiaries for more than five years, and have been employees of The St. Paul or a subsidiary for more than five years. Messrs. Thomas A. Bradley, Stephen W. Lilienthal, John A. MacColl and Robert J. Lamendola held positions and were employees of USF&G Corporation or one of its subsidiaries for five or more years prior to its merger with The St. Paul in April of 1998. James E. Gustafson joined the company on Jan. 30, 1999. He had been an employee of General Re Corporation since 1969 where he held various executive positions until being named President and Chief Operating Officer of General Re Corporation in 1995. Paul J. Liska joined The St. Paul in January of 1997. For three years prior to that date, Mr. Liska held various management positions with Specialty Foods Corporation, including the position of president and chief executive officer from January 1996 to January 1997. David R. Nachbar joined The St. Paul in August 1998. For two years prior to that date, Mr. Nachbar was employed as vice president, human resources and chief of staff-Asia for Citibank. From 1995 to 1996 he was the area human resources director for Frito-Lay, a PepsiCo unit. From 1989 through 1995, Mr. Nachbar was employed in various capacities in the human resources area by the Pizza Hut division of PepsiCo. Positions Presently Term of Office and Name Age Held Period of Service - ------------- --- ------------------- ------------------ Douglas W. 63 Chairman and Chief Serving at the Leatherdale Executive Officer pleasure of the (The St. Paul Board from 5-90 Companies, Inc.) James E. Gustafson 53 President and Chief Serving at the Operating Officer pleasure of the (The St. Paul Board from 1-99 Companies, Inc.) Paul J. Liska 44 Executive Vice Serving at the President and Chief pleasure of the Financial Officer Board from 1-97 (The St. Paul Companies, Inc.) James F. Duffy 56 Chairman, President Serving at the and Chief Executive pleasure of the Officer (St. Paul Board from 9-93 Re) John A. MacColl 51 Executive Vice Serving at the President and pleasure of the General Counsel Board from 5-99 (The St. Paul Companies, Inc.) Positions Presently Term of Office and Name Age Held Period of Service - -------------- --- ------------------- ------------------ Mark L. Pabst 53 President and Chief Serving at the Operating Officer pleasure of the (St. Paul Board from 2-95 International) Michael J. Conroy 58 Executive Vice Serving at the President and Chief pleasure of the Administrative Board from 8-95 Officer (Fire and Marine ) Stephen W. 50 Executive Vice Serving at the Lilienthal President (Fire and pleasure of the Marine) Board from 4-98 Robert J. 55 President - Surety Serving at the Lamendola and pleasure of the Senior Vice Board from 10-99 President - Global Specialty Practices (Fire and Marine) T. Michael Miller 41 Senior Vice Serving at the President - Global pleasure of the Specialty Practices Board from 10-99 (Fire and Marine) Kent D. Urness 50 Senior Vice Serving at the President - Global pleasure of the Specialty Practices Board from 10-99 (Fire and Marine) Bruce A. Backberg 51 Senior Vice Serving at the President - Legal pleasure of the Services Board from 11-97 (The St. Paul Companies, Inc.) Janet R. Nelson 50 Special Assistant Serving at the to the President pleasure of the (Fire and Marine) Board from 10-99 Thomas A. Bradley 42 Senior Vice Serving at the President - Finance pleasure of the (The St. Paul Board from 5-98 Companies, Inc.) Karen L. Himle 44 Senior Vice Serving at the President - pleasure of the Corporate Affairs Board from 11-97 (The St. Paul Companies, Inc.) David R. Nachbar 37 Senior Vice Serving at the President - Human pleasure of the Resources Board from 8-98 (The St. Paul Companies, Inc.) Laura C. Gagnon 38 Vice President - Serving at the Finance and pleasure of the Investor Relations Board from 7-99 (The St. Paul Companies, Inc.) Sandra Ulsaker 40 Assistant Vice Serving at the Wiese President and pleasure of the Corporate Secretary Board from 5-99 (The St. Paul Companies, Inc.) Part II ------- Item 5. Market for the Registrant's Common Equity and - ------ Related Stockholder Matters. ---------------------------- The St. Paul's common stock is traded on the New York Stock Exchange, where it is assigned the symbol SPC. The stock is also listed on the London Stock Exchange under the symbol SPA. The number of holders of record, including individual owners, of The St. Paul's common stock was 22,603 as of March 1, 2000. The "Stock Trading" and "Stock Price and Dividend Rate" portions of the "Shareholder Information" section on page 80 of The St. Paul's 1999 Annual Report to Shareholders are incorporated herein by reference. Item 6. Selected Financial Data. - ------ ----------------------- The "Six-Year Summary of Selected Financial Data" on page 43 of The St. Paul's 1999 Annual Report to Shareholders is incorporated herein by reference. Item 7. Management's Discussion and Analysis of Financial - ------ Condition and Results of Operations. ----------------------------------- The "Management's Discussion and Analysis" on pages 18 through 42 of The St. Paul's 1999 Annual Report to Shareholders is incorporated herein by reference. Item 7A. Quantitative and Qualitative Disclosures About Market Risk. - -------- ---------------------------------------------------------- The "Exposures to Market Risk" section of "Management's Discussion and Analysis" on pages 40 and 41 of The St. Paul's 1999 Annual Report to Shareholders is incorporated herein by reference. Item 8. Financial Statements and Supplementary Data. - ------ ------------------------------------------- The "Independent Auditors' Report," "Management's Responsibility for Financial Statements," Consolidated Balance Sheets, Consolidated Statements of Income, Comprehensive Income, Shareholders' Equity and Cash Flows, and Notes to Consolidated Financial Statements on pages 44 through 74 of The St. Paul's 1999 Annual Report to Shareholders are incorporated herein by reference. Item 9. Changes in and Disagreements With Accountants on - ------ Accounting and Financial Disclosure. ----------------------------------- None. Part III -------- Item 10. Directors and Executive Officers of the Registrant. - ------- -------------------------------------------------- The "Election of Directors - Nominees for Directors" section, which provides information regarding The St. Paul's directors, on pages 4 to 6 of The St. Paul's Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000, is incorporated herein by reference. Michael R. Bonsignore, 58, is currently a director of The St. Paul, but is not standing for re-election at the 2000 Annual Meeting of Shareholders. The "Section 16(a) Beneficial Ownership Reporting Compliance" section on pages 40 and 41 of The St. Paul's Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000, is incorporated herein by reference. Item 11. Executive Compensation. - ------- ---------------------- The "Executive Compensation" section on pages 21 to 36 and the "Election of Directors - Board of Directors Compensation" section on pages 7 to 9 of the Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000, are incorporated herein by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management. - ------- -------------------------------------------------------------- The "Security Ownership of Certain Beneficial Owners and Management" section on pages 38 to 40 of the Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000, is incorporated herein by reference. Item 13. Certain Relationships and Related Transactions. - ------- ---------------------------------------------- The "Indebtedness of Management" section on page 37 of the Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000, is incorporated herein by reference. Part IV ------- Item 14. Exhibits, Financial Statements, Financial Statement - ------- Schedules and Reports on Form 8-K. --------------------------------- (a) Filed documents. The following documents are filed as part of this report: 1. Financial Statements. Incorporated by reference into Part II of this report: The St. Paul Companies, Inc. and Subsidiaries: Consolidated Statements of Income - Years Ended December 31, 1999, 1998 and 1997 Consolidated Statements of Comprehensive Income - Years Ended December 31, 1999, 1998 and 1997 Consolidated Balance Sheets - December 31, 1999 and 1998 Consolidated Statements of Shareholders' Equity - Years Ended December 31, 1999, 1998 and 1997 Consolidated Statements of Cash Flows - Years Ended December 31, 1999, 1998 and 1997 Notes to Consolidated Financial Statements Independent Auditors' Report The foregoing documents are incorporated by reference to The St. Paul's 1999 Annual Report to Shareholders. 2. Financial Statement Schedules. The St. Paul Companies, Inc. and Subsidiaries: Independent Auditors' Report on Financial Statement Schedules I. Summary of Investments - Other than Investments in Related Parties II. Condensed Financial Information of Registrant III. Supplementary Insurance Information IV. Reinsurance V. Valuation and Qualifying Accounts VII. Predecessor Auditors' Reports on Consolidated Financial Statements and Financial Statement Schedules All other schedules are omitted because they are not applicable, not required, or the information is included elsewhere in the Consolidated Financial Statements or Notes thereto. 3. Exhibits. An Exhibit Index is set forth at page 38 of this report. (3) (a) The current articles of incorporation of The St. Paul are incorporated by reference to Form 10-K for the year ended December 31, 1998. (b) The current bylaws of The St. Paul are incorporated herein by reference to Form 10-Q for the quarter ended March 31, 1994. (4) (a) A specimen certificate of The St. Paul's common stock is incorporated by reference to Form 10-K for the year ended December 31, 1998. There are no long-term debt instruments in which the total amount of securities authorized exceeds 10% of the total assets of The St. Paul and its subsidiaries on a consolidated basis. The St. Paul agrees to furnish a copy of any of its long-term debt instruments to the Securities and Exchange Commission upon request. (10) (a) Amended and Restated Letter Agreement between The St. Paul and Mr. Stephen W. Lilienthal dated as of August 5, 1999 related to terms of his employment is filed herewith. (b) Amendment to The St. Paul's Directors Charitable Award Program is filed herewith. (c) The Employment Agreement between The St. Paul and Mr. James E. Gustafson dated as of January 6, 1999 is incorporated by reference to Form 10-K for the year ended December 31, 1998. (d) The Restricted Stock Award Plan, as amended, is incorporated by reference to Form 10-K for the year ended December 31, 1998. (e) The 1988 Stock Option Plan as in effect for options granted prior to June 1994, as amended, is incorporated by reference to Form 10-K for the year ended December 31, 1998. (f) The Non-Employee Director Stock Retainer Plan is incorporated by reference to Form 10-K for the year ended December 31, 1998. (g) The Amended and Restated Special Severance Policy is incorporated by reference to Form 10-K for the year ended December 31, 1998. (h) The Annual Incentive Plan is incorporated by reference to the Proxy Statement relating to the 1999 Annual Meeting of Shareholders that was held on May 4, 1999. (i) The Amended and Restated 1994 Stock Incentive Plan, as amended, is incorporated by reference to the Proxy Statement relating to the 2000 Annual Meeting of Shareholders to be held on May 2, 2000. (j) The Deferred Management Incentive Awards Plan is incorporated by reference to Form 10-K for the year ended December 31, 1997. (k) The Directors' Deferred Compensation Plan is incorporated by reference to Form 10-K for the year ended December 31, 1997. (l) The Relocation Loan Payback Agreement with Mr. James F. Duffy is incorporated by reference to Form 10-K for the year ended December 31, 1997. (m) The Benefit Equalization Plan - 1995 Revision is incorporated by reference to Form 10-K for the year ended December 31, 1997. (n) First Amendment to Benefit Equalization Plan - 1995 Revision is incorporated by reference to Form 10-K for the year ended December 31, 1997. (o) Executive Post-Retirement Life Insurance Plan - Summary Plan Description is incorporated by reference to Form 10-K for the year ended December 31, 1997. (p) Executive Long-Term Disability Plan - Summary Plan Description is incorporated by reference to Form 10-K for the year ended December 31, 1997. (q) The St. Paul Re Long-Term Incentive Plan is incorporated by reference to the Form S-8 Registration Statement filed March 17, 1998 (Commission File No. 333-48121). (r) Letter Agreement between The St. Paul and Mr. Paul J. Liska dated May 8, 1997 relating to the terms of his employment is incorporated by reference to Form 10-Q for the quarter ended March 31, 1997. (s) Letter Agreement, agreed to January 20, 1997 between The St. Paul and Mr. Paul J. Liska relating to severance benefits is incorporated by reference to Form 10-Q for the quarter ended March 31, 1997. (t) The Special Leveraged Stock Purchase Plan is incorporated by reference to Form 10-Q for the quarter ended March 31, 1997. (u) The Directors' Charitable Award Program is incorporated by reference to the Form 10-K for the year ended December 31, 1994. (v) The summary description of the Outside Directors' Retirement Plan is incorporated by reference to the Proxy Statement relating to the Annual Meeting of Shareholders to be held May 2, 2000. (w) The summary description of the Key Executive Special Incentive Arrangement is incorporated by reference to Form 10-Q for the quarter ended September 30, 1999. (11) A statement regarding the computation of per share earnings is filed herewith. (12) A statement regarding the computation of the ratio of earnings to fixed charges and the ratio of earnings to combined fixed charges and preferred stock dividends is filed herewith. (13) The St. Paul's 1999 Annual Report to Shareholders is furnished to the Commission in paper format pursuant to Rule 14a-3(c). The following portions of such annual report, representing those portions expressly incorporated by reference in this report on Form 10-K, are filed as an exhibit to this report: Location of Portions of Annual Report Information for the Year Ended Incorporated December 31, 1999 by Reference ------------------------- ------------ Consolidated Financial Statements Item 8 Notes to Consolidated Financial Statements Item 1,8 Independent Auditors' Report Item 8 Management's Discussion and Analysis Item 1,3,7 Six-Year Summary of Selected Financial Data Item 6 Shareholder Information Item 5 (21) List of subsidiaries of The St. Paul Companies, Inc. is filed herewith. (23) Consents of independent auditors to incorporation by reference of certain reports into Registration Statements on Form S-8 (SEC File No. 33-15392, No. 33-23446 No. 33-23948, No. 33-24220, No. 33-24575, No. 33-26923, No. 33-49273, No. 33-56987, No. 333-01065, No. 333-22329, No. 333- 25203, No. 333-28915, No. 333-48121, No. 333-50935, No. 333-50937 No. 333-50941, No. 333-50943 and No. 333-67983) and Form S-3 (SEC File No. 333-06465 and No. 333-67139) are filed herewith. (24) Power of attorney is filed herewith. (27) Financial data schedule is filed herewith. (b) Reports on Form 8-K. A Form 8-K Current Report dated January 27, 2000 was filed relating to the announcement of The St. Paul's financial results for the quarter and year ended December 31, 1999. Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, The St. Paul Companies, Inc. has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. THE ST. PAUL COMPANIES, INC. --------------------------- (Registrant) Date: March 29, 2000 By /s/ Sandra Ulsaker Wiese -------------- ------------------------ Sandra Ulsaker Wiese Assistant Vice President and Corporate Secretary Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of The St. Paul Companies, Inc. and in the capacities and on the dates indicated. Date: March 29, 2000 By /s/ Douglas W. Leatherdale -------------- -------------------------- Douglas W. Leatherdale, Director, Chairman of the Board and Chief Executive Officer Date: March 29, 2000 By /s/ James E. Gustafson -------------- ---------------------- James E. Gustafson, Director, President and Chief Operating Officer Date: March 29, 2000 By /s/ Paul J. Liska -------------- ----------------- Paul J. Liska, Executive Vice President and Chief Financial Officer Date: March 29, 2000 By /s/ Thomas A. Bradley -------------- --------------------- Thomas A. Bradley, Senior Vice President - Finance and Chief Accounting Officer Date: March 29, 2000 By /s/ H. Furlong Baldwin -------------- ---------------------- H. Furlong Baldwin*, Director Date: March 29, 2000 By /s/ Michael R. Bonsignore -------------- ------------------------- Michael R. Bonsignore*, Director Date: March 29, 2000 By /s/ John H. Dasburg -------------- ------------------- John H. Dasburg*, Director Date: March 29, 2000 By /s/ W. John Driscoll -------------- -------------------- W. John Driscoll*, Director Date: March 29, 2000 By /s/ Kenneth M. Duberstein -------------- ------------------------- Kenneth M. Duberstein*, Director Date: March 29, 2000 By /s/ Pierson M. Grieve -------------- --------------------- Pierson M. Grieve*, Director Date: March 29, 2000 By /s/ Thomas R. Hodgson -------------- --------------------- Thomas R. Hodgson*, Director Date: March 29, 2000 By /s/ David G. John -------------- ----------------- David G. John*, Director Date: March 29, 2000 By /s/ William H. Kling -------------- -------------------- William H. Kling*, Director Date: March 29, 2000 By /s/ Bruce K. MacLaury -------------- --------------------- Bruce K. MacLaury*, Director Date: March 29, 2000 By /s/ Glen D. Nelson, M.D. -------------- ----------------------- Glen D. Nelson, M.D.*, Director Date: March 29, 2000 By /s/ Anita M. Pampusch -------------- --------------------- Anita M. Pampusch*, Director Date: March 29, 2000 By /s/ Gordon M. Sprenger -------------- ---------------------- Gordon M. Sprenger*, Director Date: March 29, 2000 *By /s/ Sandra Ulsaker Wiese -------------- ------------------------ Sandra Ulsaker Wiese, Attorney-in-fact INDEPENDENT AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULES The Board of Directors and Shareholders The St. Paul Companies, Inc.: Under date of February 16, 2000, we reported on the consolidated balance sheets of The St. Paul Companies, Inc. and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, shareholders' equity, comprehensive income and cash flows for each of the years in the three-year period ended December 31, 1999, as contained in the 1999 annual report to shareholders. These consolidated financial statements and our report thereon are incorporated by reference in the annual report on Form 10-K for the year 1999. In connection with our audits of the aforementioned consolidated financial statements we also have audited the related financial statement schedules I through V, as listed in the index in Item 14(a)2. of said Form 10-K. These financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statement schedules based on our audits. The consolidated financial statements and financial statement schedules for the year ended December 31, 1997 have been restated to reflect the pooling of interests with USF&G Corporation. We did not audit the consolidated financial statements or financial statement schedules of USF&G Corporation for the year ended December 31, 1997, which statements reflect total revenues constituting 34 percent for the year ended December 31, 1997 of the related consolidated total. Those statements and financial statement schedules were audited by other auditors whose reports have been furnished to us, and our opinion, insofar as it relates to the amounts included for USF&G Corporation, for the year ended December 31, 1997, is based solely on the reports of the other auditors. In our opinion, based on our audits and the reports of the other auditors, such financial statement schedules I through V, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein. Minneapolis, Minnesota /s/ KPMG LLP February 16, 2000 ------------ KPMG LLP THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE I - SUMMARY OF INVESTMENTS OTHER THAN INVESTMENTS IN RELATED PARTIES December 31, 1999 (In millions) 1999 ----------------------------------- Amount at which shown in the Cost* Value* balance sheet Type of investment: ------- ------- ------------- Fixed maturities: - ---------------- United States Government and government agencies and authorities $ 2,174 $ 2,187 $ 2,187 States, municipalities and political subdivisions 5,336 5,419 5,419 Foreign governments 912 934 934 Corporate securities 7,999 7,737 7,737 Asset-backed securities 669 650 650 Mortgage-backed securities 2,452 2,402 2,402 ------- ------- ------- Total fixed maturities 19,542 19,329 19,329 ------- ------- ------- Equity securities: - ----------------- Common stocks: Public utilities 8 8 8 Banks, trusts and insurance companies 154 185 185 Industrial, miscellaneous and all other 916 1,425 1,425 ------- ------- ------- Total equity securities 1,078 1,618 1,618 ------- ------- ------- Venture capital 399 866 866 ------- ------- ------- Real estate and mortgage loans 1,511** 1,504 Securities lending collateral 1,216 1,216 Other investments 301 301 Short-term investments 1,373 1,373 ------- ------- Total investments $ 25,420 $ 26,207 ======= ======= * See Notes 1, 4, 5 and 7 to the consolidated financial statements included in The St. Paul's 1999 Annual Report to Shareholders. ** The cost of real estate represents the cost of properties before valuation provisions. (See Schedule V on page 35). THE ST. PAUL COMPANIES, INC. (Parent Only) SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT CONDENSED BALANCE SHEET INFORMATION December 31, 1999 and 1998 (In millions) Assets 1999 1998 - ------ ------- ------- Investment in subsidiaries $ 8,116 $ 7,207 Investments: Fixed maturities 109 125 Equity securities 78 70 Short-term investments 33 12 Cash 4 9 Deferred income taxes 301 359 Refundable income taxes 152 42 Other assets 233 384 ------- ------- Total assets $ 9,026 $ 8,208 ======= ======= Liabilities: - ----------- Debt $2,060 $1,406 Dividends payable to shareholders 58 58 Other liabilities 436 108 ------- ------- Total liabilities 2,554 1,572 ------- ------- Shareholders' Equity: Preferred: Convertible preferred stock 129 134 Guaranteed obligation - PSOP (105) (119) ------- ------- Total preferred shareholders' equity 24 15 ------- ------- Common: Common stock, authorized 480 shares; issued 225 shares (234 in 1998) 2,079 2,128 Retained earnings 3,827 3,480 Accumulated other comprehensive income: Unrealized appreciation of investments 568 1,027 Unrealized loss on foreign currency translation (26) (14) ------- ------- Total accumulated other comprehensive income 542 1,013 ------- ------- Total common shareholders' equity 6,448 6,621 ------- ------- Total shareholders' equity 6,472 6,636 ------- ------- Total liabilities and shareholders' equity $ 9,026 $ 8,208 ======= ======= See accompanying notes to condensed financial information. THE ST. PAUL COMPANIES, INC. (Parent Only) SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT CONDENSED STATEMENT OF INCOME INFORMATION Years Ended December 31, 1999, 1998 and 1997 (In millions) 1999 1998 1997 ------- ------- ------- Revenues: Net investment income $ 17 $ 18 $ 18 Realized investment gains 10 6 7 ------- ------- ------- Total revenues 27 24 25 ------- ------- ------- Expenses: Interest expense 145 67 67 Administrative and other expenses 51 66 52 ------- ------- ------- Total expenses 196 133 119 ------- ------- ------- Loss before income tax benefit (169) (109) (94) Income tax benefit (59) (80) (113) ------- ------- ------- Income (loss) from continuing operations - parent company only (110) (29) 19 Equity in net income of subsidiaries 889 228 1,043 ------- ------- ------- Income from continuing operations before cumulative effect of accounting change 779 199 1,062 Cumulative effect of accounting change (30) - - ------- ------- ------- Income from continuing operations 749 199 1,062 Gain (loss) from discontinued operations 85 (110) (133) ------- ------- ------- Consolidated net income $ 834 $ 89 $ 929 ======= ======= ======= See accompanying notes to condensed financial information. THE ST. PAUL COMPANIES, INC. (Parent Only) SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT CONDENSED STATEMENT OF CASH FLOWS INFORMATION Years Ended December 31, 1999, 1998 and 1997 (In millions) 1999 1998 1997 ------- ------- ------- Operating Activities: Net income (loss) - parent only $ (110) $ (29) $ 19 Cash dividends from subsidiaries 320 223 216 Tax payments from subsidiaries 69 71 166 Net federal income tax refund (payments) (71) 54 (61) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Deferred tax expense (benefit) - operations 38 (78) (60) Pretax realized investment gains (10) (6) (7) Other (38) (4) (19) ------- ------- ------- Cash provided by operating activities 198 231 254 ------- ------- ------- Investing Activities: Purchases of investments (155) (47) (56) Proceeds from sales and maturities of investments 153 81 76 Capital contributions and loans to subsidiaries (4) (178) (107) Proceeds from repayment of intercompany loans 294 - - Discontinued operations (10) (20) (54) Other 6 10 (3) ------- ------- ------- Cash provided (used) by investing activities 284 (154) (144) ------- ------- ------- Financing Activities: Dividends paid to shareholders (246) (210) (166) Proceeds from issuance of debt 204 239 118 Repayment of debt and capital securities (121) (25) (100) Repurchase of common shares (356) (135) (27) Proceeds from Nuveen stock repurchase - - 41 Stock options exercised and other 32 63 24 ------- ------- ------- Cash used in financing activities (487) (68) (110) ------- ------- ------- Change in cash (5) 9 - Cash at beginning of year 9 - - ------- ------- ------- Cash at end of year $ 4 $ 9 $ - ======= ======= ======= See accompanying notes to condensed financial information. THE ST. PAUL COMPANIES, INC. (Parent Only) SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT NOTES TO CONDENSED FINANCIAL INFORMATION 1. The accompanying condensed financial information should be read in conjunction with the consolidated financial statements and notes included in The St. Paul's 1999 Annual Report to Shareholders. The Annual Report includes The St. Paul's Consolidated Statements of Shareholders' Equity and Comprehensive Income. Some data in the accompanying condensed financial information for the years 1998 and 1997 were reclassified to conform with the 1999 presentation. 2. Debt of the parent company consists of the following (in millions): December 31, ------------------- 1999 1998 ------ ------ External: -------- Medium-term notes $ 617 $ 637 Commercial paper 400 257 8-3/8% senior notes 150 - Zero coupon convertible notes 94 111 7-1/8% senior notes 80 - Variable rate borrowings 64 - ------ ------ Total external debt 1,405 1,005 ------ ------ Intercompany (1): ------------ Convertible subordinated debentures 262 262 Subordinated debentures 230 - Guaranteed PSOP debt 105 119 Notes payable to subsidiaries 58 20 ------ ------ Total intercompany debt 655 401 ------ ------ Total debt $2,060 $1,406 ====== ====== (1) Eliminated in consolidation. See Note 10 to the consolidated financial statements included in the 1999 Annual Report to Shareholders for further information on debt outstanding at Dec. 31, 1999. The amount of debt, other than commercial paper and debt eliminated in consolidation, that becomes due during each of the next five years (including the debt discussed in Note 3 below) is as follows: $0 in 2000; 2001, $195 million; 2002, $49 million; 2003, $67 million; and 2004, $55 million. 3. The St. Paul Companies, Inc. merged with USF&G Corporation on April 24, 1998 in a business combination accounted for as a pooling of interests. (See Note 2, "Acquisitions," to the consolidated financial statements included in The St. Paul's 1999 Annual Report to Shareholders). Effective Jan. 1, 1999, the former holding company for USF&G Corporation was merged into St. Paul Fire and Marine Insurance Company, and the holding company was dissolved. Prior to that merger, the debt obligations of USF&G's holding company were assumed by The St. Paul Companies, Inc. THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION (In millions) At December 31, ---------------------------------------------- Other Gross loss, policy Deferred loss adjustment claims policy expense reserves Gross and acquisition and policy unearned benefits expenses benefits premiums payable ----------- --------------- --------- -------- 1999 - ---- Property-Liability Insurance: Commercial Lines Group $ 149 $ 8,268 $ 822 $ - Specialty Commercial 131 3,872 807 - Surety 88 289 304 - ------- ------- ------- ------- Total U. S. Underwriting 368 12,429 1,933 - International 37 1,083 361 - ------- ------- ------- ------- Total Primary Underwriting 405 13,512 2,294 - Reinsurance 98 3,925 436 - ------- ------- ------- ------- Total Property-Liability Insurance 503 17,437 2,730 - Life Insurance 439 4,885 - 122 ------- ------- ------- ------- Total from continuing operations 942 22,322 2,730 122 Discontinued operations 17 497 388 - ------- ------- ------- ------- Total $ 959 $22,819 $ 3,118 $ 122 ======= ======= ======= ======= 1998 - ---- Property-Liability Insurance: Commercial Lines Group $ 215 $ 8,671 $ 958 $ - Specialty Commercial 146 3,660 811 - Surety 100 294 287 - ------- ------- ------- ------- Total U. S. Underwriting 461 12,625 2,056 - International 20 1,280 163 - ------- ------- ------- ------- Total Primary Underwriting 481 13,905 2,219 - Reinsurance 84 3,476 450 - ------- ------- ------- ------- Total Property-Liability Insurance 565 17,381 2,669 - Life Insurance 201 4,142 - 76 ------- ------- ------- ------- Total from continuing operations 766 21,523 2,669 76 Discontinued operations 112 805 423 - ------- ------- ------- ------- Total $ 878 $22,328 $ 3,092 $ 76 ======= ======= ======= ======= THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION (In millions) Insurance losses loss adjustment expenses Amortization Net and of policy Other Premiums investment policy acquisition operating Premiums 1999 earned income benefits expenses expenses written - ---- -------- --------- ---------- ----------- -------- -------- Property-Liability Insurance: Commmercial Lines Group $ 1,944 $ - $ 1,490 $ 598 $ 117 $ 1,883 Specialty Commercial 1,465 - 1,242 300 119 1,375 Surety 379 - 121 123 97 409 ------- ------- ------- ------- ------- ------- Total U. S. Underwriting 3,788 - 2,853 1,021 333 3,667 International 396 - 336 83 62 480 ------- ------- ------- ------- ------- ------- Total Primary Underwriting 4,184 - 3,189 1,104 395 4,147 Reinsurance 919 - 531 217 92 965 Net investment income - 1,256 - - - - Other - - - - 207 - ------- ------- ------- ------- ------- ------- Total Property- Liability Insurance 5,103 1,256 3,720 1,321 694 5,112 Life Insurance 187 298 367 4 39 - ------- ------- ------- ------- ------- ------- Total $ 5,290 $ 1,554 $ 4,087 $ 1,325 $ 733 $ 5,112 ======= ======= ======= ======= ======= ======= 1998 - ---- Property-Liability Insurance: Commercial Lines Group $ 2,275 $ - $ 2,247 $ 733 $ 43 $ 2,117 Specialty Commercial 1,447 - 1,176 289 128 1,348 Surety 340 - 81 114 73 376 ------- ------- ------- ------- ------- ------- Total U. S. Underwriting 4,062 - 3,504 1,136 244 3,841 International 333 - 277 69 54 378 ------- ------- ------- ------- ------- ------- Total Primary Underwriting 4,395 - 3,781 1,205 298 4,219 Reinsurance 1,039 - 684 226 121 1,057 Net investment income - 1,293 - - - - Other - - - - 366 - ------- ------- ------- ------- ------- ------- Total Property- Liability Insurance 5,434 1,293 4,465 1,431 785 5,276 Life Insurance 119 276 273 56 43 - ------- ------- ------- ------- ------- ------- Total $ 5,553 $ 1,569 $ 4,738 $ 1,487 $ 828 $ 5,276 ======= ======= ======= ======= ======= ======= 1997 - ---- Property-Liability Insurance: Commercial Lines Group $ 2,616 $ - $ 1,930 $ 748 $ 110 $ 2,469 Specialty Commercial 1,442 - 1,012 257 154 1,401 Surety 296 - 75 101 57 319 ------- ------- ------- ------- ------- ------- Total U. S. Underwriting 4,354 - 3,017 1,106 321 4,189 International 278 - 232 50 49 293 ------- ------- ------- ------- ------- ------- Total Primary Underwriting 4,632 - 3,249 1,156 370 4,482 Reinsurance 1,227 - 840 319 64 1,200 Net investment income - 1,319 - - - - Other - - - - 144 - ------- ------- ------- ------- ------- ------- Total Property- Liability Insurance 5,859 1,319 4,089 1,475 578 5,682 Life Insurance 137 253 277 12 37 - ------- ------- ------- ------- ------- ------- Total $ 5,996 $ 1,572 $ 4,366 $ 1,487 $ 615 $ 5,682 ======= ======= ======= ======= ======= ======= THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE IV - REINSURANCE Years Ended December 31, 1999, 1998 and 1997 (In millions) Percentage Ceded to Assumed of amount Gross other from other Net assumed to amount companies companies amount net -------- --------- --------- --------- ---------- 1999 - ---- Life insurance in force $12,284 $ 4,452 $ 114 $ 7,946 1.4% ======= ======= ======= ======= ======= Premiums earned: Life insurance 202 16 1 187 0.5% Property- liability insurance 4,621 1,055 1,537 5,103 30.1% ------- ------- ------- ------- Total premiums $ 4,823 $ 1,071 $ 1,538 $ 5,290 29.1% ======= ======= ======= ======= ======= 1998 - ----- Life insurance inforce $10,637 $ 2,305 $ 137 $ 8,469 1.6% ======= ======= ======= ======= ======= Premiums earned: Life insurance 131 13 1 119 1.2% Property- liability insurance 4,796 734 1,372 5,434 25.2% ------- ------- ------- ------- Total premiums $ 4,927 $ 747 $ 1,373 $ 5,553 24.7% ======= ======= ======= ======= ======= 1997 - ---- Life insurance inforce $10,613 $ 1,785 $ 135 $ 8,963 1.5% ======= ======= ======= ======= ======= Premiums earned: Life insurance 143 8 2 137 1.1% Property- liability insurance 5,153 817 1,523 5,859 26.0% ------- ------- ------- ------- Total premiums $ 5,296 $ 825 $ 1,525 $ 5,996 25.4% ======= ======= ======= ======= ======= THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE V - VALUATION AND QUALIFYING ACCOUNTS Years Ended December 31, 1999, 1998 and 1997 (In millions) Additions ---------------------- Balance at Charged to Charged to Balance beginning costs and other Deduc- at end Description of year expenses accounts tions(1) of year - ----------- --------- -------- ---------- --------- ------- 1999 - ---- Real estate valuation adjustment $ 16 - - 9 $ 7 ====== ====== ====== ====== ====== Allowance for uncollectible: Agency loans $ 3 2 - - $ 5 ====== ====== ====== ====== ====== Premiums receivable from underwriting activities $ 42 8 - 5 $ 45 ====== ====== ====== ====== ====== Reinsurance $ 28 1 - 1 $ 28 ====== ====== ====== ====== ====== Uncollectible deductibles $ 23 - - - $ 23 ====== ====== ====== ====== ====== 1998 - ---- Real estate valuation adjustment $ 12 4 - - $ 16 ====== ====== ====== ====== ====== Allowance for uncollectible: Agency loans $ 2 1 - - $ 3 ====== ====== ====== ====== ====== Premiums receivable from underwriting activities $ 41 8 - 7 $ 42 ====== ====== ====== ====== ====== Reinsurance $ 30 - - 2 $ 28 ====== ====== ====== ====== ====== Uncollectible deductibles $ 19 8 - 4 $ 23 ====== ====== ====== ====== ====== 1997 - ---- Real estate valuation adjustment $ 19 2 - 9 $ 12 ====== ====== ====== ====== ====== Allowance for uncollectible: Agency loans $ 2 - - - $ 2 ====== ====== ====== ====== ====== Premiums receivable from underwriting activities $ 29 19 - 7 $ 41 ====== ====== ====== ====== ====== Reinsurance $ 26 6 - 2 $ 30 ====== ====== ====== ====== ====== Uncollectible deductibles $ 16 3 - - $ 19 ====== ====== ====== ====== ====== (1) Deductions include write-offs of amounts determined to be uncollectible, unrealized foreign exchange gains and losses and, for certain properties in real estate, a reduction in the valuation allowance for properties sold during the year. THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE VII - PREDECESSOR AUDITORS' REPORT ON CONSOLIDATED FINANCIAL STATEMENTS Report of Independent Auditors Board of Directors USF&G Corporation We have audited the consolidated statement of financial position of USF&G Corporation as of December 31, 1997, and the related consolidated statements of operations, cash flows and shareholders' equity for the year then ended (not presented separately herein). These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of USF&G Corporation at December 31, 1997, and the consolidated results of its operations and its cash flows for the year then ended, in conformity with generally accepted accounting principles. /s/ Ernst & Young LLP --------------------- Ernst & Young LLP Baltimore, Maryland February 20, 1998 THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES SCHEDULE VII - PREDECESSOR AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULES CONSENT OF INDEPENDENT AUDITORS We consent to the use of our report dated February 20, 1998, with respect to the consolidated financial statements of USF&G Corporation for the year ended December 31, 1997 (not included separately herein) included as Schedule VII in The St. Paul Companies, Inc.'s Annual Report (Form 10-K) for the year ended December 31, 1999, filed with the Securities and Exchange Commission. Our audit also included the financial statement schedules of USF&G Corporation listed in Item 14(a) of USF&G Corporation's Annual Report (Form 10-K) for the year ended December 31, 1997 (not included separately herein). These schedules are the responsibility of management. Our responsibility is to express an opinion based on our audit. In our opinion, the financial statement schedules referred to above, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein. We also consent to the incorporation by reference in the Registration Statements on Form S-8 (SEC File No. 33-15392, No. 33-23446, No. 33-23948, No. 33-24220, No. 33-24575, No. 33- 26923, No. 33-49273, No. 33-56987, No. 333-01065, No. 333-22329, No. 333-25203, No. 333-28915, No. 333-48121, No. 333-50935, No. 333-50937, No. 333-50941, No. 333-50943 and No. 333-67983), and Form S-3 (SEC File No. 333-06465 and No. 333-67139), of The St. Paul Companies, Inc., of our report dated February 20, 1998, with respect to the consolidated financial statements and schedules of USF&G Corporation (these financial statements and schedules are not presented herein) included as Schedule VII in The St. Paul Companies, Inc. Annual Report on Form 10-K filed with the Securities and Exchange Commission. /s/ Ernst & Young LLP --------------------- Ernst & Young LLP Baltimore, Maryland March 29, 2000 EXHIBIT INDEX* ------------- Exhibit - ------- (2) Plan of acquisition, reorganization, arrangement, liquidation, or succession**...................................................... (3) Articles of incorporation and by-laws (a) Articles of Incorporation***...................................... (b) By-laws***........................................................ (4) Instruments defining the rights of security holders, including indentures (a) Specimen Common Stock Certificate***.............................. (9) Voting trust agreements**............................................. (10) Material contracts (a) Amended and Restated Letter Agreement dated as of August 5, 1999 between The St. Paul and Mr. Steven W. Lilienthal related to the terms of his employment............................(1) (b) Amendment to The St. Paul's Directors Charitable Award Program...........................................................(1) (c) Employment Agreement between The St. Paul and Mr. James E. Gustafson dated as of Jan. 6, 1999***............................. (d) Restricted Stock Award Plan, as amended***........................ (e) 1988 Stock Option Plan***......................................... (f) Non-Employee Director Stock Retainer Plan***...................... (g) The Amended and Restated Special Severance Policy***.............. (h) The Annual Incentive Plan***...................................... (i) The Amended and Restated 1994 Stock Incentive Plan***............. (j) The Deferred Management Incentive Awards Plan***.................. (k) The Directors' Deferred Compensation Plan***...................... (l) Relocation Loan Payback Agreement with Mr. James F. Duffy***...... (m) Benefit Equalization Plan - 1995 Revision***...................... (n) First Amendment to Benefit Equalization Plan - 1995 Revision***....................................................... (o) Executive Post-Retirement Life Insurance Plan - Summary Plan Description***............................................... (p) Executive Long-Term Disability Plan - Summary Plan Description***.................................................... (q) The St. Paul Re Long-Term Incentive Plan***....................... (r) Letter Agreement dated May 8, 1997 between The St. Paul and Mr. Paul J. Liska related to the terms of his employment***..................................................... (s) Letter Agreement, agreed to January 20, 1997 between The St. Paul and Mr. Paul J. Liska related to severance benefits***....................................................... (t) The Special Leveraged Stock Purchase Plan***...................... (u) The Directors' Charitable Award Program***........................ (v) Outside Directors' Retirement Plan -Summary Description***........ (w) Key Executive Special Incentive Arrangement***.................... (11) Statements re computation of per share earnings.......................(1) (12) Statements re computation of ratios...................................(1) (13) Annual report to security holders.....................................(1) (16) Letter re change in certifying accountant**........................... (18) Letter re change in accounting principles**........................... (21) Subsidiaries of The St. Paul..........................................(1) (22) Published report regarding matters submitted to vote of security holders**................................................ (23) Consents of experts and counsel (a) Consent of KPMG LLP...............................................(1) (b) Consent of Ernst & Young LLP......................................(1) (24) Power of attorney.....................................................(1) (27) Financial data schedule...............................................(1) (99) Additional exhibits**................................................. * The exhibits are included only with the copies of this report that are filed with the Securities and Exchange Commission. However, copies of the exhibits may be obtained from The St. Paul for a reasonable fee by writing to the Corporate Secretary, The St. Paul Companies, Inc., 385 Washington Street, St. Paul, Minnesota 55102. ** These items are not applicable. *** These items are incorporated by reference as described in Item 14(a)(3) of this report. (1) Filed herewith. EX-10 2 EXHIBIT 10(A) EXHIBIT 10(a) May 4, 1998 Amended and Restated, August 5, 1999 Stephen W. Lilienthal St. Paul Fire and Marine Insurance Company 385 Washington Street St. Paul, MN 55102 Dear Steve: The purpose of this letter agreement ("Letter Agreement") is to confirm our respective understandings and agreements regarding: i) your employment, remuneration and obligations as of April 24, 1998, the effective time ("Effective Time") of the merger ("Merger") detailed in the Agreement and Plan of Merger among USF&G Corporation, The St. Paul Companies, Inc. and SP Merger Corporation dated as of January 19, 1998 (as amended through April 24, 1998) ("Merger Agreement"), ii) your rights and St. Paul's rights under the Executive Severance Agreement you signed on October 16, 1997 (the "Severance Agreement") with respect to the USF&G Senior Executive Severance Plan dated as of February 27, 1997 (the "Severance Plan"), and iii) your remuneration after August 5, 1999. I. EMPLOYMENT TERMS ---------------- On or about June 12, 1998, The St. Paul Companies, Inc. and its affiliates ("St. Paul") paid to you (i) all cash severance payments pursuant to Sections 3.2.2, 3.2.3 and 3.2.4 of the Severance Plan (the "Cash Severance Payments"), and (ii) certain excise tax protection payments pursuant to Section 3.4 of the Severance Plan [the combination of (i) and (ii) referred to as the "Severance Benefits"] as provided in the Severance Agreement and Severance Plan. For purposes of this Letter Agreement and the Severance Agreement and Severance Plan, it is agreed that (a) the approval of the Merger by the shareholders of USF&G constituted a Change in Control for purposes of the Severance Plan, and (b) you were entitled to, and have received, payment of the Severance Benefits as if you had terminated your employment with USF&G for Good Reason (as defined in the Severance Plan) and signed a Waiver (as defined in the Severance Plan) as of the Effective Time. St. Paul will continue to provide the excise tax protection pursuant to Section 3.4 of the Severance Plan. The St. Paul Companies, Inc. and/or any of its affiliated companies, including USF&G, will employ you for a period of three (3) years beginning on the Effective Time (the "Term"). Your title will be that of Executive Vice President - Commercial Lines Group, and you will report to James Gustafson. Your principal job responsibilities will be the management of St. Paul's commercial lines group. The compensation and benefits listed below will not be reduced, except as provided below with respect to company-wide changes in a compensation or benefit plan which similarly impact all or most other employees at your level in the organization. During the Term, St. Paul will provide you or has provided you with the following compensation and benefits in performance of the duties outlined above: - For the period commencing August 5, 1999, through the remainder of the Term, St. Paul will provide you with an annual base salary of $450,000, with annual upward adjustments considered based on actual performance. - Participation in St. Paul's annual incentive plan, wherein you will have a target bonus opportunity of forty- five percent (45%) of your annualized base salary and a maximum bonus opportunity of sixty-seven and one-half percent (67.5%) of your annualized base salary, measured on St. Paul's corporate performance and your personal performance, subject to company-wide changes in the plan which similarly impact all or most other employees at your level in the organization. - Participation in St. Paul's Stock Option Plan with an annual target of forty eight thousand (48,000) shares (after the stock split effected on May 5, 1998), subject to company- wide changes in the plan which similarly impact all of most other employees at your level in the organization. - A hiring bonus ("Hiring Bonus") equal to sixteen thousand eighty (16,080) shares of St. Paul restricted stock granted in May 1998, and nine thousand (9,000) shares of St. Paul restricted stock granted in November 1998. The restricted stock Hiring Bonus shall be fully vested and freely transferable at the end of the Term, and you will be entitled to receive all dividends on the shares and vote the shares during the Term. Payment of the Hiring Bonus is conditioned upon you remaining in your current position, or a subsequent position to which St. Paul were to assign you within St. Paul's various business entities, on a full-time basis through the end of the Term, subject to the provisions of Section II regarding termination by St. Paul without Cause (as defined in Section II) and your voluntary termination for Good Reason (as defined in Section II). - A lump sum cash hiring bonus in the amount of Twenty Five Thousand Two Hundred Dollars ($25,200.). This amount was paid to make you whole relative to the automobile allowance you received as a member of USF&G management that you will not receive as a member of St. Paul management. The amount referenced above was computed by multiplying your current monthly allowance of Seven Hundred Dollars ($700.), by the thirty six (36) month term of this Letter Agreement. This payment was made to you within ten (10) days of your becoming a St. Paul employee, and was subject to federal and state income and employment tax withholding. - You will be covered by St. Paul's "Homeowners Plan 1" Relocation Policy relative to your move to the Minneapolis- St. Paul metropolitan area. The "Homeowners Plan 1" has a $15,000 "loss on sale" protection provision. This provision will be upgraded by St. Paul in your case to provide for full reimbursement of those financial losses described in Plan 1 that relate to the sale of your current, primary, principal place of residence in the Baltimore area. For purposes of this bullet, full reimbursement of financial losses shall mean the sum of (i) the difference (if any) between (a) the sum of the purchase price for such residence and the cost of all capital improvements thereon, and (b) the proceeds received upon the sale, net of all sales expenses and commissions, and (ii) an amount which will be sufficient on an after-tax basis to compensate you for all federal and state income and employment taxes incurred with respect to payments made to you hereunder in connection with the sale of such residence. - You will be eligible to participate in those St. Paul savings and retirement plans generally available to employees at your level, including financial and tax planning services; the St. Paul Companies, Inc. Retirement, Executive Retirement, Savings Plus and Executive Savings Plus Plans; as well as those welfare plans which provide employees with medical, dental, life insurance (and AD&D), short-term disability, long-term disability, and medical/day care reserve accounts. - On August 2, 1999, you will be granted 15,000 shares of restricted stock under the 1994 Amended and Restated Stock Incentive Plan, with the restrictions to lapse in 5,000 share annual increments on August 2, of 2000, 2001, and 2002. II. EMPLOYMENT SEPARATION --------------------- Should your employment with St. Paul terminate prior to the end of the Term, The St. Paul will provide you with severance payments as follows: - If you terminate your employment without Good Reason (as defined below) or if your employment is terminated by St. Paul for Cause (as defined below), you will receive no further payments, compensation or benefits under this Letter Agreement, including no portion of the Hiring Bonus, except you will be eligible to receive payments that were due and payable prior to the date of your termination and such compensation or benefits that have been earned and will become payable without regard to future services. - If you terminate your employment with Good Reason or you are involuntarily terminated by The St. Paul without Cause, upon the signing of St. Paul's standard release form in use at that time for employees at your salary level, (i) the Hiring Bonus will vest and become transferable at the later of one year from the date the shares were granted or the effective date of such termination, and (ii) you will receive all other compensation and benefits outlined in Section I of this Letter Agreement, including incentive bonuses paid at the target forty-five percent (45%) of annualized base salary level, prorated with respect to any partial bonus period, for the period commencing on the date of such termination and ending on the later of (x) the last day of the Term, or (y) the date which is twelve (12) months following such termination (such period referred to herein as the "Severance Period"). St. Paul may, at its election, prepay any amounts due to you during the Severance Period in a lump sum payment at the beginning of the Severance Period. However, if such termination occurs within twelve (12) months of the last day of the Term, you may elect to receive severance benefits under the severance plan applicable to senior executive officers of St. Paul as in effect on the date your employment terminates (the "St. Paul Executive Severance Plan) in lieu of the benefits described in clause (ii) of this bullet. If you receive benefits under the St. Paul Executive Severance Plan in lieu of the benefits described in clause (ii), then the confidentiality and nonsolicitation provisions of Section III of this Letter Agreement shall not apply and you will be subject to the terms and conditions of the St. Paul Executive Severance Plan with regard to such confidentiality, non-solicitation and other related restrictions. If prior to April 25, 2000 your employment is involuntarily terminated by St. Paul without Cause (as defined in the Severance Plan) or you voluntarily terminate your employment for Good Reason (as defined in the Severance Plan), you will receive the welfare benefit continuation described in Section 3.2.5 of the Severance Plan, provided you comply with the provisions of Section III of this Letter Agreement, and provided you sign a release form in use at that time for St. Paul employees at your level. For purposes of benefit payments that might be due you pursuant to this subsection, St. Paul shall have the option of providing you a cash equivalency or equivalent alternative coverage outside of St. Paul's existing qualified or non- qualified benefit plans. For purposes of this Letter Agreement, "Cause" means (i) your conviction of any felony involving intentional misconduct; (ii) your conviction of any lesser crime or offense involving the illegal use or conversion of St. Paul property; (iii) your willful misconduct in connection with the performance of your duties with St. Paul (which shall not be deemed to include any action taken by you in good faith in the interest of St. Paul) provided, however, that St. Paul will not terminate you for willful misconduct without giving you written notice of, and the opportunity to promptly remedy, the specific misconduct; or (iv) your taking illegal actions in your business or personal life which materially and demonstrably harm the reputation or damage the good name of St. Paul. For purposes of clauses (iii) and (iv), Cause shall be determined by a majority vote of the Board of Directors of The St. Paul Companies, Inc. after at least 10 days notice to you. For purposes of the Letter Agreement, "Good Reason" means (i) a substantial diminution in your title, position, duties, or responsibilities; (ii) assignment of duties that are inconsistent in any material respect with the scope of duties and responsibilities associated with your position as of the effective date of this amended and restated Letter Agreement; (iii) relocation of your principal workplace to a location that is more than thirty (30) miles from your current location; or (iv) a material reduction of or failure to pay the compensation required under Section I of this Letter Agreement. For purpose of clauses (i), (ii), and (iv), an isolated, insubstantial and inadvertent action not taken in bad faith and which is remedied by St. Paul promptly after receipt of notice thereof shall be excluded. - If termination of your employment occurs after a Change in Control of St. Paul (as defined below), and during the Term, (i) the Hiring Bonus will immediately vest and become transferable, and (ii) you will be entitled to all other amounts payable, if any, under St. Paul's Special Severance Policy ("Special Severance Policy") as in force as of the date of the Change in Control of St. Paul (as defined below). "Change in Control of St. Paul" means a change in control that would cause St. Paul to file a Form 8-K with the SEC; St. Paul's incumbent board of directors ceases to be a majority; or fifty (50) percent of St. Paul's common stock is acquired by a "person" within the meaning of Section 14(d) of the Securities Exchange Act of 1934. Under the Special Severance Policy, you are eligible for these benefits once you've been employed for three months with St. Paul. You have been designated as a "Tier I Executive" under the Special Severance Policy, as in effect on the date this amended and restated Letter Agreement is executed. To the extent provided in the Special Severance Policy, St. Paul's Board may amend, modify or revoke the Special Severance Policy as it applies to senior executives of St. Paul as a group, at any time prior to a Change in Control of St. Paul without employees' consent. (There are restrictions on amendments to, and the termination of, the policy after a Change in Control of St. Paul has occurred.) If, after a Change of Control of St. Paul, you decide to resign voluntarily without "Good Reason", you will be able to do so without restrictions on your ability to solicit St. Paul agents, customers or employees. Should you make such an election, this Letter Agreement will immediately terminate and you will be entitled to receive only those payments described in Section I of this Letter Agreement which have already been earned and are payable as of your termination date, and such compensation or benefits which have been earned and will become payable without regard to future services, and you will be entitled to no severance or other payments pursuant to St. Paul's Special Severance Policy or any other St. Paul severance or compensation plan. - In the event your employment terminates on account of death or your becoming "disabled" [within the meaning of section 72(m)(7) of the Internal Revenue Code as in effect as of the date hereof] more than one year after the Effective Time, you, or, in the event of your death, your estate, will receive a pro rata portion of the Hiring Bonus based on a fraction, the numerator of which is the number of whole and partial calendar months from the Effective Time to the date of death or total disability, as applicable, and the denominator of which is 36. Should St. Paul decide not to continue your employment at or after the end of the Term, you will be entitled to those severance benefits described in the St. Paul Executive Severance Plan, subject to the terms and conditions thereof. III. CONFIDENTIALITY AND NON-SOLICITATION ------------------------------------ In exchange for the remuneration outlined above, in addition to providing service to St. Paul as set forth in this Letter Agreement, you agree to the following covenants: - You shall keep confidential any trade secrets and confidential or proprietary information of St. Paul or USF&G which are now known to you or which hereafter may become known to you as a result of your employment or association with St. Paul or USF&G and shall not at any time directly or indirectly disclose any such information to any person, firm or corporation, or use the same in any way other than in connection with the business of St. Paul during, and at all times after, the termination of your employment. For purposes of this Letter Agreement, "trade secrets and confidential or proprietary information" means information unique to St. Paul or USF&G which has a significant business purpose and is not known or generally available from sources outside St. Paul or USF&G or typical of industry practice. - You further covenant that if your employment terminates before the end of the Term, you will not, during the "Restriction Period", directly or indirectly (for example, through agents), (i) solicit any person who, at the time of the termination of your employment with St. Paul, was a client, customer or account of St. Paul or any of our affiliates, including USF&G, to discontinue business, in whole or in part, with St. Paul that was in effect at the time of such termination, or (ii) hire or cause to be hired, without the express written consent of St. Paul, any employee of St. Paul and any of our affiliates, including USF&G, by a successor entity or employer with whom you may ultimately become associated. The term "Restriction Period" means the period commencing on May 4, 1998, and ending twelve (12) months after termination of your employment for any reason. IV. GENERAL WAIVER AND RELEASE -------------------------- The provisions of this Article IV were agreed to by you (on May 5, 1998) and by St. Paul (on May 6, 1998) in the original Letter Agreement dated May 4, 1998. No further waiver and release is provided as a result of the amendment and restatement of this revised Letter Agreement first effective August 24, 1998 and now subsequently effective as further revised as of August 5, 1999. The waiver and release, as agreed to in the original Letter Agreement, dated May 4, 1998, is as follows: - As a material inducement to St. Paul to enter into this Letter Agreement, and in consideration of St. Paul's promise to make the payments set forth in the first paragraph of Section I of this Letter Agreement, you hereby knowingly and voluntarily release and forever discharge St. Paul, and all of its Affiliates, parents, subsidiaries and related entities, and all of its past, present and future respective agents, officers, directors, shareholders, employees, attorneys and assigns from any federal, state or local charges, claims, demands, actions, liabilities, suits, or causes of action, at law or equity or otherwise and any and all rights to or claims for continued employment after the Separation Date, attorneys fees or damages (including contract, compensatory, punitive or liquidated damages) or equitable relief, which you may ever have had, have now or may ever have or which your heirs, executors or assigns can or shall have, against any or all of them, whether known or unknown, on account of or arising out of your employment with St. Paul (including USF&G) prior to the execution of this Letter Agreement, except for claims which may arise under this Letter Agreement or in connection with future performance under Sections 3.2.5 and 3.4 of the Severance Plan. - This release includes, but is not limited to rights and claims arising under the Age Discrimination in Employment Act of 1967, as amended by the Older Workers Benefit Protection Act of 1990, Title VII of the Civil Rights Act of 1964, as amended, the Americans with Disabilities Act, the Fair Labor Standards Act, any state or local human rights statute or ordinance, any claims or rights of action relating to breach of contract, public policy, personal or emotional injury, defamation, additional compensation, or fringe benefits. You specifically waive the benefit of any statute or rule of law which, if applied to this Letter Agreement, would otherwise exclude from its binding effect any claims not now known by you to exist. This release does not purport to waive claims arising under these laws after the date of this Letter Agreement. - This Letter Agreement was presented to you on or before April 24, 1998. You acknowledge that you have reviewed the information about the offer described above and given to you as part of this Letter Agreement. You acknowledge that you were granted at least forty-five (45) days within which to consider this Letter Agreement. You further acknowledge that by virtue of being presented with this Letter Agreement, you have been advised in writing to consult with legal counsel prior to executing this Letter Agreement. You acknowledge that if you execute this Letter Agreement prior to the expiration of forty-five (45) days, or choose to forgo the advice of legal counsel, you do so freely and knowingly, and waive any and all future claims that such action or actions would affect the validity of this Letter Agreement. - You understand that you may cancel this Letter Agreement at any time on or before the fifteenth (15th) day following the date on which you sign this Letter Agreement. To be effective, the decision to cancel must be in writing and delivered to St. Paul, personally or by certified mail, to the attention of: Senior Vice President - Human Resources St. Paul Fire and Marine Insurance Company 385 Washington Street, Mail Code 516A St. Paul, Minnesota 55102-1396 on or before the fifteenth (15th) day after you sign the Letter Agreement. No payments pursuant to the first paragraph of Section I above will be issued until sixteen (16) days have elapsed after you have signed this Letter Agreement and St. Paul has received this Letter Agreement. Thereafter, all Cash Severance Payments will be made no later than the twentieth (20th) day after St. Paul has received your signature on this Agreement. V. MISCELLANEOUS PROVISIONS ------------------------ This Letter Agreement may not be further amended or terminated without the prior written consent of you and St. Paul. This Letter Agreement may be executed in any number of counterparts which together shall constitute but one agreement. The rights and obligations described in this Letter Agreement may not be assigned by either party without the prior written consent of the other party, except that St. Paul may assign its rights or delegate its obligations to any direct or indirect wholly owned subsidiary of The St. Paul Companies, Inc., without your consent. This Letter Agreement shall be binding on and inure to the benefit of our respective successors and, in your case, your heirs and other legal representatives. Any controversy or claim between St. Paul and you arising out of this Letter Agreement will be resolved by binding arbitration in the State of Minnesota using the Laws of the State of Minnesota in accordance with the Commercial Arbitration Rules of the American Arbitration Association. Any judgment on the award rendered by the arbitration(s) may be entered in any court having jurisdiction over such matters. If you are in agreement with the terms of this letter, please indicate that acceptance by signing below. Keep one original for your files and return the other to me. To the extent that the content of this letter conflicts in any way with previous written or oral communication between you and any other representatives of The St. Paul Companies, Inc., the content of this letter will control and take precedence over such previous communication. STEPHEN W. LILIENTHAL THE ST. PAUL COMPANIES, INC. /s/ Stephen W. Lilienthal By /s/ James E. Gustafson - -------------------------- ---------------------------- Date: As of August 5, 1999 Its: President and -------------------- Chief Operating Officer ------------------------------ Date: As of August 5, 1999 --------------------------- EX-10 3 EXHIBIT 10(B) EXHIBIT 10(b) AMENDMENT TO THE ST. PAUL COMPANIES, INC. DIRECTORS CHARITABLE AWARD PROGRAM The first paragraph of Section 6 of the Directors Charitable Award Program is amended, effective August 3, 1999, to read as follows: 6. VESTING The amount of the donation made on a Director's behalf will be determined based on the Director's months of Board service, in accordance with the following vesting schedule: VESTING DATE DONATION AMOUNT ------------ --------------- Upon first anniversary of date first elected a director by shareholders (Election Date) $200,000 Upon second anniversary of Election Date $400,000 Upon third anniversary of Election Date $600,000 Upon fourth anniversary of Election Date $800,000 Upon fifth anniversary of Election Date $1,000,000 EX-11 4 EXHIBIT 11 EXHIBIT 11 THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES Computation of Earnings per Common Share (In millions, except per share amounts) Twelve Months Ended December 31, ---------------------------- 1999 1998 1997 ------- ------- ------- EARNINGS: Basic: Net income as reported $ 834 $ 89 $ 929 Preferred stock dividends, net of taxes (8) (9) (10) Premium on preferred shares redeemed (4) (3) (4) ----- ----- ----- Net income available to common shareholders 822 77 915 ===== ===== ===== Diluted: Net income available to common shareholders 822 77 915 Effect of dilutive securities: Convertible preferred stock 6 - 6 Zero coupon convertible notes 3 - 3 Convertible monthly income preferred securities 8 - 8 ----- ----- ----- Net income available to common shareholders $ 839 $ 77 $ 932 ===== ===== ===== COMMON SHARES: Basic: Weighted average common shares outstanding 228 235 230 ===== ===== ===== Diluted: Weighted average common shares outstanding 228 235 230 Effect of dilutive securities: Stock options 2 4 4 Convertible preferred stock 7 - 8 Zero coupon convertible notes 2 - 3 Convertible monthly income preferred securities 7 - 7 ----- ----- ----- Weighted average, as adjusted 246 239 252 ===== ===== ===== EARNINGS PER COMMON SHARE: Basic $3.61 $0.33 $3.97 Diluted $3.41 $0.32 $3.69 The assumed conversion of preferred stock, zero coupon notes and monthly income preferred securities were each anti-dilutive to The St. Paul's net income for the year ended Dec. 31, 1998. As a result, the potentially dilutive effect of those securities is not considered in the calculation of EPS amounts. EX-12 5 EXHIBIT 12 EXHIBIT 12 THE ST. PAUL COMPANIES, INC. AND SUBSIDIARIES Computation of Ratios (In millions, except ratios) Twelve Months Ended December 31, ---------------------------------------------------- 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- EARNINGS: Income from continuing operations before income taxes and cumulative effect of accounting change $1,017 $ 120 $1,433 $1,323 $1,020 Add: fixed charges 175 154 150 139 137 ------ ------ ------ ------ ------ Income as adjusted $1,192 $ 274 $1,583 $1,462 $1,157 ====== ====== ====== ====== ====== FIXED CHARGES AND PREFERRED DIVIDENDS: Fixed charges: Interest expense and amortization $ 99 $ 75 $ 86 $ 87 $ 91 Dividend on redeemable preferred securities 36 38 33 13 7 Rental expense (1) 40 41 31 39 39 ------ ------ ------ ------ ------ Total fixed charges 175 154 150 139 137 Preferred stock dividend requirements 17 13 20 38 47 ------ ------ ------ ------ ------ Total fixed charges and preferred stock dividend requirements $192 $167 $170 $177 $184 ====== ====== ====== ====== ====== Ratio of earnings to fixed charges 6.80 1.78 10.56 10.51 8.42 ====== ====== ====== ====== ====== Ratio of earnings to combined fixed charges and preferred stock dividend requirements 6.22 1.64 9.33 8.25 6.30 ====== ====== ====== ====== ====== (1) Interest portion deemed implicit in total rent expense. Amount for 1999 includes an $11 million provision representative of interest included in charge for future lease buy-outs recorded as a result of The St. Paul's cost reduction program. Amount for 1998 includes an $11 million provision representative of interest included in charge for future lease buy-outs recorded as a result of The St. Paul's merger with USF&G Corporation. EX-13 6 EXHIBIT 13 THE ST. PAUL COMPANIES, INC. ANNUAL REPORT TO SHAREHOLDERS 1999 MANAGEMENT'S DISCUSSION AND ANALYSIS Consolidated Overview - --------------------- EARNINGS REBOUND IN A YEAR OF STRATEGIC CHANGE The St. Paul took a number of strategic actions in 1999 aimed at transforming the 147-year old company into a commercial property- liability insurer with a specialty focus and global presence, poised to succeed in a persistently competitive marketplace. At the same time, we made great strides in improving the quality of our business, exceeded ambitious expense-reduction goals in completing our post-merger integration with USF&G, and made it easier for agents and brokers to do business with us. The following table summarizes our results for each of the last three years: Year ended December 31 (In millions, except per share data) 1999 1998 1997 - ----------------------------------- ---- ---- ---- Pretax income (loss): Property-liability insurance $ 971 $ 298 $1,488 Life insurance 66 21 78 Asset management 123 104 93 Parent company and other operations (143) (303) (226) ----- ----- ----- Pretax income continuing operations 1,017 120 1,433 Income tax expense (benefit) 238 (79) 371 ----- ----- ----- Income from continuing operations before cumulative effect of accounting change 779 199 1,062 Cumulative effect of accounting change, net of taxes (30) - - ----- ----- ----- Income from continuing operations 749 199 1,062 Discontinued operations, net of taxes 85 (110) (133) ----- ----- ----- Net income $ 834 $ 89 $ 929 ===== ===== ===== Per share (diluted) $ 3.41 $ 0.32 $ 3.69 ===== ===== ===== The nearly $900 million improvement in pretax income from continuing operations in 1999 was concentrated in our property- liability operations, reflecting efficiencies realized from the 1998 merger with USF&G Corporation, the favorable impact of two aggregate excess-of-loss reinsurance treaties, and improvement in certain commercial underwriting results. Property-liability pretax income in 1999 was reduced by a charge of $60 million related to a cost reduction program, whereas 1998 pretax income from these operations reflected the impact of a provision to strengthen loss reserves, and merger-related and other expenses. Our life insurance operation, F&G Life, posted strong operating results and product sales of $1 billion in 1999, and our asset management operation, The John Nuveen Company, capitalizing on the success of expanded product offerings for affluent investors, achieved a fifth consecutive year of record earnings. The decline in the "parent company and other operations" pretax loss in 1999 was due to expense reductions and the absence of earnings charges that impacted this category in 1998. Consolidated pretax income from continuing operations in 1998 was reduced by earnings charges totaling $582 million, which we believe warrant separate mention, consisting of the following components: - $292 million of charges related to our merger with USF&G Corporation ("USF&G"); - a $215 million provision to strengthen loss reserves; - a $41 million writedown of F&G Life's deferred acquisition cost asset; and - $34 million of expenses related to the restructuring of our commercial insurance operations. These charges were recorded in our 1998 results as follows: $406 million in property-liability insurance operations; $50 million in our life insurance segment; and $126 million in "parent company and other operations." 1999 STRATEGIC TRANSACTIONS - --------------------------- We took four major steps in 1999 consistent with our strategy of focusing our resources on specialty commercial and professional property-liability insurance lines. In separate transactions, we sold our standard personal insurance operations and reached a definitive agreement to sell our nonstandard auto operations, as discussed in more detail in the "Discontinued Operations" section that follows. We also reached a definitive agreement to purchase MMI Companies, Inc., a provider of insurance products and consulting services to the healthcare industry, for $200 million in cash plus the assumption of $120 million of MMI capital securities. That transaction is expected to be finalized in the second quarter of 2000 and will create, when combined with our existing operations, a globally integrated provider of insurance and risk management services for the healthcare industry, with pro forma combined annual revenues of approximately $1 billion. In another transaction, expected to be finalized in the first quarter of 2000, we agreed to purchase Pacific Select Insurance Company, which will increase our earthquake risk underwriting capabilities in California, for a total cost of approximately $37 million. USF&G MERGER UPDATE - ------------------- In April 1998, we merged with USF&G, a Baltimore, MD-based insurance holding company in a tax-free exchange of stock accounted for as a pooling of interests, valued at approximately $3.7 billion. In 1999, we substantially completed the integration of USF&G into our operations. We achieved significant efficiencies in 1999 as a result of our integration efforts, primarily resulting from the elimination of duplicate functions throughout the combined organization, including the consolidation of corporate headquarters' functions, and the elimination of approximately 2,200 positions. By the end of 1999, we had realized pretax annual expense savings of approximately $260 million (as measured against the combined 1997 pre-merger expenses of The St. Paul and USF&G) as a result of the merger and the subsequent restructuring of our commercial insurance underwriting segments in late 1998. The $292 million of merger-related charges recorded in 1998 resulted from management's comprehensive review of the two companies as part of formulating an integration plan to merge their respective operations. The review identified redundant job functions, staffing levels, geographical locations, leased space and technology platforms. In connection with our plan of integration, we recorded the merger-related charge, which consisted of the following components: - $141 million of severance and other employee-related expenses. We estimated that approximately 2,000 positions would be eliminated due to the combination of the two organizations, affecting all levels of employees from senior management to technical staff. Through Dec. 31, 1999, approximately 2,200 positions had been eliminated, and $135 million in severance and other employee-related costs had been paid. - $70 million of facilities exit costs, consisting of a $36 million writedown in the carrying value of a former USF&G headquarters building in Baltimore, and $34 million of expenses related to the consolidation of redundant branch office locations. Through Dec. 31, 1999, we had paid $10 million of branch lease exit costs. - $81 million of other costs, including $30 million of transaction costs; a $23 million writedown in the carrying value of several USF&G real estate investments; $10 million of accelerated depreciation expense on redundant software; $10 million of expense for writedowns and lease buy-outs of redundant computer equipment; and an $8 million writedown in the carrying value of excess furniture and equipment. The transaction costs were paid in full by the end of 1998. CUMULATIVE EFFECT OF ACCOUNTING CHANGE - -------------------------------------- Our net income in 1999 included a pretax expense of $46 million ($30 million after-tax), representing the cumulative effect of adopting the AICPA's Statement of Position (SOP) 97-3, "Accounting by Insurance and Other Enterprises for Insurance-Related Assessments." The SOP provides guidance for recognizing and measuring liabilities for guaranty and other insurance-related assessments. In the third quarter of 1999, the State of New York enacted a law which changed its assessment method from a loss- based assessment method to a written premium-based method. As a result, we reduced our previously recorded pretax accrual by $12 million, which was recorded in income from continuing operations. The accrual is expected to be disbursed as assessed during a period of up to 30 years. DISCONTINUED OPERATIONS - ----------------------- We completed the sale of our standard personal insurance operations to Metropolitan Property and Casualty Insurance Company (Metropolitan) in 1999. We also announced a definitive agreement to sell our nonstandard auto operations to Prudential Insurance Company of America (Prudential) in early 2000, a transaction that is expected to be completed in the second quarter. In 1997, we completed the sale of our insurance brokerage operation, Minet. The results of the operations sold or committed to be sold are reflected as discontinued operations for all periods presented in this report. The following table presents the components of discontinued operations reported in our consolidated statement of income for each of the last three years. Year ended December 31 (In millions) 1999 1998 1997 ----- ----- ----- STANDARD PERSONAL INSURANCE: Operating loss, net of taxes $ (22) $(120) $ (64) Gain on disposal, net of taxes 177 - - ----- ----- ----- Total standard personal insurance 155 (120) (64) ----- ----- ----- NONSTANDARD AUTO INSURANCE: Operating income (loss), net of taxes 13 10 (1) Estimated loss on disposal, net of taxes (83) - - ----- ----- ----- Total nonstandard auto insurance (70) 10 (1) ----- ----- ----- INSURANCE BROKERAGE: Loss on disposal, net of taxes - - (68) ----- ----- ----- Total insurance brokerage - - (68) ----- ----- ----- Total discontinued operations $ 85 $(110) $(133) ===== ===== ===== Standard Personal Insurance. On Sept. 30, 1999, Metropolitan purchased Economy Fire & Casualty Company and its subsidiaries ("Economy"), as well as the rights and interests in those policies constituting our remaining standard personal insurance operations. Those rights and interests were transferred to Metropolitan by way of a reinsurance and facility agreement pursuant to which we transferred assets of approximately $325 million to Metropolitan, representing the estimated unearned premium on the policies in force. The transfer of those assets, combined with our gross cash proceeds of $576 million received upon closing of the sale, resulted in net proceeds to The St. Paul of $251 million in 1999. Written premiums for The St. Paul's standard personal insurance operations totaled $815 million for the nine months ended Sept. 30, 1999 and $1.17 billion in each of the years ended Dec. 31, 1998 and 1997. We recorded a pretax gain of $258 million on the sale, consisting of the following components: a gain on proceeds of $136 million; a pension and postretirement curtailment gain of $26 million; disposition costs of $32 million; and $128 million of income from discontinued operations subsequent to the measurement date of June 30, 1999, which included a $145 million reduction in insurance loss and loss adjustment expense reserves. This third quarter 1999 adjustment was caused by a number of factors which led us to determine that a reserve reduction was necessary. During 1999 we began to see the favorable impact of certain corrective actions, taken during 1998 in our standard personal insurance operations. The loss reserving process and evaluation in 1999 was also influenced by the integration of The St. Paul and USF&G claim operations and practices as well as the related consolidation of loss reserve data, systems, and actuarial staff. Additionally, considering the pending sale and its economic consequences, these reserves were evaluated at a more detailed level during the third quarter of 1999. All of these factors entered into our conclusion to change our best estimate of required reserves at Sept. 30, 1999. We guaranteed the adequacy of Economy's reserves, and will share in any redundancies that develop by Sept. 30, 2002. We remain liable for claims on non-Economy policies that result from losses occurring prior to closing. By agreement, Metropolitan will adjust those claims and share in redundancies that may develop. The $32 million of disposition costs represents those costs directly associated with the decision to dispose of this business, and included $14 million of employee-related costs associated with the termination of approximately 385 employees resulting from the sale of these operations. These employees are separate from the 1,600 standard personal insurance employees who effectively transferred to Metropolitan on Oct. 1, 1999. The magnitude of 1998's standard personal insurance operating loss was driven by catastrophe losses and a $35 million provision to strengthen loss reserves subsequent to the USF&G merger. Nonstandard Auto Insurance. Prudential has agreed to purchase the nonstandard auto insurance business marketed under the Victoria Financial and Titan Auto brands, and operating under the "St. Paul Specialty Auto" name, for $200 million. Nonstandard auto coverages are marketed to individuals who are unable to obtain standard coverage due to their inability to meet certain underwriting criteria. The sale includes all of the outstanding common stock of the companies in the Victoria and Titan Groups, which became a part of The St. Paul in the 1998 merger with USF&G. We recorded an estimated pretax loss of $74 million on the sale in 1999, representing the estimated excess of carrying value of these entities at closing date over proceeds to be received from the sale, plus estimated income through the disposal date. The excess primarily consisted of goodwill associated with USF&G's purchase of Titan Auto in 1997. Written premiums for The St. Paul's nonstandard auto operations totaled $236 million in 1999, $245 million in 1998 and $76 million in 1997. Insurance Brokerage. In 1997, we completed the sale of our insurance brokerage operation, Minet, to Aon Corporation. Proceeds from the sale were $107 million. We recorded a pretax loss of $103 million, primarily to recognize our commitment to Aon for certain severance, employee benefits, lease commitments and other costs. CONSOLIDATED REVENUES - --------------------- The following table summarizes the sources of our consolidated revenues from continuing operations for the last three years: Year ended December 31 (In millions) 1999 1998 1997 ----- ----- ----- Revenues: Insurance premiums earned: Property-liability $ 5,103 $ 5,434 $ 5,859 Life 187 119 137 Net investment income 1,557 1,571 1,573 Realized investment gains 277 201 423 Asset management 340 302 262 Other 105 81 54 ----- ----- ----- Total revenues $ 7,569 $ 7,708 $ 8,308 ===== ===== ===== Change from prior year (2)% (7)% ===== ===== The 2% reduction in revenues in 1999 was primarily the result of a $331 million decline in property-liability insurance premiums earned. Over 80% of that decline was due to premiums payable under two reinsurance treaties, as discussed on page 22 of this report. The remainder reflects the impact of corrective underwriting initiatives, primarily in our Commercial Lines Group segment, which resulted in a reduction in business volume in 1999. The slight reduction in net investment income in 1999 was driven by a 3% decline in our property-liability operations, which was substantially offset by an 8% increase in our life insurance segment. The growth in realized investment gains in 1999 resulted from strong returns generated by our venture capital and equity portfolios. 1998 vs. 1997 - ------------- The sharp decline in property-liability insurance pretax income from continuing operations in 1998 reflects the impact of catastrophes and an increase in other insurance losses, and $406 million of earnings charges. F&G Life recorded a solid year of operating results in 1998, reduced by $50 million of charges recorded after the merger. The tax benefit recorded in 1998 was disproportionately large compared with our pretax loss from continuing operations, due to the substantial income tax benefit generated by our tax-exempt, fixed-maturity investments. The 7% decline in revenues in 1998 compared with 1997 resulted from a reduction in premiums earned in our Commercial Lines Group segment and a $222 million decline in realized investment gains. The following pages include a detailed discussion of the 1999 results produced by the five distinct business segments that underwrite property-liability insurance and provide related services for particular market sectors. We also review the performance of our property-liability underwriting operations' investment segment. After the property-liability discussion, we discuss the results of our life insurance segment, F&G Life, and our asset management segment, The John Nuveen Company. Property-Liability Insurance Overview - ------------------------------------- RESULTS IMPROVE DESPITE SIGNIFICANT CATATASTROPHE LOSSES; MERGER- RELATED EFFICIENCIES PUSH EXPENSES DOWN SHARPLY Although the property-liability insurance marketplace showed preliminary signs of price stabilization in 1999, the operating environment remained intensely competitive. The benefits of our extensive efforts to re-underwrite our book of commercial business, reduce expenses and sharpen our specialty focus, although muted by catastrophe losses in excess of $250 million, were nonetheless evident in our 1999 results. In addition to these efforts, our Commercial Lines Group and Reinsurance segments benefited from the impact of an all-lines, aggregate excess-of-loss reinsurance treaty that we entered into effective Jan. 1, 1999 (the "corporate treaty"). Coverage under the treaty was triggered when our insurance losses and loss adjustment expenses spanning all lines of our business reached a certain level as prescribed by the terms of the treaty. The corporate treaty impacted our 1999 results as follows: we transferred, or "ceded," insurance losses and loss adjustment expenses totaling $384 million, and ceded written and earned insurance premiums of $211 million, resulting in a net benefit of $173 million to our pretax income from continuing operations. Our Reinsurance segment results also benefited from cessions made under a separate aggregate excess-of-loss reinsurance treaty, unrelated to the corporate treaty. Under this treaty, we ceded insurance losses and loss adjustment expenses of $150 million, and written and earned premiums of $62 million, for a net pretax benefit of $88 million. Underwriting expenses were not impacted by the treaties. The combined impact of the two treaties, collectively referred to hereafter as the "reinsurance treaties," impacted our 1999 segment results as follows: Ceded Ceded Pretax (In millions) Losses Premiums Benefit ------ -------- ------- Commercial Lines Group $ 217 $ 119 $ 98 Reinsurance 317 154 163 ----- ----- ----- Total $ 534 $ 273 $ 261 ===== ===== ===== PREMIUMS - -------- Our consolidated written premiums from continuing operations totaled $5.11 billion in 1999, down 3% from the 1998 total of $5.28 billion as a result of the premiums ceded under the aforementioned reinsurance treaties. Excluding the impact of those cessions, premium volume for the year of $5.38 billion grew 2% over 1998, primarily due to new business in our International and Surety segments, which offset premium declines in our Commercial Lines Group. UNDERWRITING RESULT - ------------------- Our consolidated GAAP underwriting loss (premiums earned less losses incurred and underwriting expenses) was $425 million in 1999, compared with a loss of $881 million in 1998. The 1999 result includes the $261 million benefit of the reinsurance treaties, whereas the 1998 loss includes a $215 million provision to strengthen loss reserves, reflecting the application of our loss reserving policies to USF&G's loss and loss adjustment expense reserves subsequent to the merger. Excluding the benefit of the reinsurance treaties in 1999 and the reserve provision in 1998, the 1999 underwriting loss of $686 million was slightly worse than the 1998 loss of $666 million. Catastrophe losses, which were a major factor in triggering coverage under the reinsurance treaties, totaled $257 million in 1999, compared with $267 million in 1998. Major events contributing to 1999 catastrophe losses included Hurricane Floyd, earthquakes in Taiwan and Turkey, severe windstorms in Europe, a variety of storms and floods across the United States, and additional loss development from Hurricane Georges, which occurred in 1998. Catastrophe experience in 1998 was dominated by an unusually high number of low-severity storms across the United States, including several which struck our home state of Minnesota, where we have a heavy concentration of business. The "combined ratio," representing the sum of the loss ratio and expense ratio, is a common measurement of a property-liability insurer's underwriting performance. The loss ratio measures insurance losses and loss adjustment expenses incurred as a percentage of earned premiums. The expense ratio measures underwriting expenses as a percentage of premiums written. The lower the ratio, the better the result. Our consolidated combined ratio of 107.9 in 1999 was 9.5 points better than the 1998 ratio of 117.4; however, the previously discussed factors influencing our GAAP underwriting results in both years distorted the comparability of our reported ratios. The 1999 loss ratio of 72.9 reflects a 6.2 point benefit from the reinsurance treaties. The 1998 loss ratio of 82.2 includes 4.0 points attributable to the provision to strengthen loss reserves subsequent to the USF&G merger. Excluding these factors from both years, the 1999 loss ratio of 79.1 was almost one point worse than the equivalent 1998 ratio of 78.2, driven by deterioration in our Specialty Commercial segment results. Our reported expense ratio in 1999 was 35.0, a slight improvement over the 1998 ratio of 35.2. The 1999 ratio, however, included a 1.7 point negative impact caused by premium cessions made under the reinsurance treaties. Our adjusted expense ratio of 33.3 was nearly two points better than the 1998 ratio, reflecting cost efficiencies realized subsequent to the USF&G merger, and additional savings resulting from the late-1998 restructuring of our Commercial Lines Group and Specialty Commercial segments. 1999 COST REDUCTION PROGRAM - --------------------------- In the third quarter of 1999, we announced a cost reduction program designed to enhance our efficiency in the highly competitive property-liability marketplace. We recorded a pretax charge to earnings of $60 million related to this program, consisting of $33 million of occupancy-related expenses, $25 million of employee-related expenses related to the expected elimination of approximately 700 positions, and $2 million of equipment charges. Through Dec. 31, 1999, approximately 480 employees had been terminated under this plan and $11 million of severance and other employee-related expenses were paid. We also paid $2 million of occupancy-related expenses. 1998 RESTRUCTURING CHARGE - ------------------------- In the fourth quarter of 1998, we recorded a pretax charge to earnings of $34 million related to the restructuring of our Commercial Lines Group and Specialty Commercial segments. The majority of the charge ($26 million) related to the anticipated elimination of approximately 520 positions, with the remainder representing the estimated costs to exit lease contracts as part of our plan to streamline field office operations. Through Dec. 31, 1999, approximately 500 employees had been terminated and the cost of termination benefits paid was $18 million. We reduced the remaining severance reserve by $5 million in 1999 due to a number of voluntary terminations, which reduced our estimate of future severance and out-placement payments. These positions are separate from those additional positions to be eliminated as a result of the 1999 program. Less than $1 million had been paid related to lease buy-outs as of year-end 1999, and we reduced the lease accrual by $6 million for subleases that have been entered into on the vacated space. 1998 vs. 1997 - ------------- Written premiums from continuing operations of $5.28 billion in 1998 declined 7% from 1997 premium volume of $5.68 billion, reflecting the loss of business in certain markets following the USF&G merger, the impact of corrective pricing and underwriting initiatives in our commercial insurance operations, and the soft pricing environment throughout global insurance markets. The 1998 GAAP underwriting loss of $881 million was significantly worse than the comparable 1997 loss of $139 million, primarily due to deterioration in commercial underwriting results, catastrophe losses of $267 million and the $215 million provision to strengthen loss reserves after the USF&G merger. The loss reserve provision, discussed in more detail on page 33 of this report, was allocated to our Commercial Lines Group segment ($197 million) and the Specialty Commercial segment ($18 million). In addition, we recorded a $35 million provision in our Personal Insurance operations, which were sold in 1999. That provision is included in our reported results from discontinued operations for 1998. 2000 OUTLOOK - ------------ We anticipate further improvement in our underwriting results in 2000. We will continue efforts to remove unprofitable business from our operations, while implementing further price increases. We are prepared to sacrifice additional premium volume as a consequence of our underwriting and pricing actions. As part of our overall ceded reinsurance program, we will continue to enter into aggregate excess-of-loss reinsurance contracts as deemed appropriate. PROPERTY-LIABILITY UNDERWRITING RESULTS BY SEGMENT - -------------------------------------------------- The following table summarizes written premiums, underwriting results and combined ratios for each of our property- liability underwriting business segments for the last three years. In the fourth quarter of 1999, we realigned our primary insurance underwriting operations in an effort to further streamline our organization and ease agent/broker access to our products and services in the United States. The realignment resulted in the reclassification of certain business centers between reportable segments, but did not change the structure of our segment reporting format. All data for 1998 and 1997 were reclassified to conform to the new 1999 presentation. Following the table, we take a closer look at 1999 results for each segment and look ahead to 2000. Year ended December 31 % of 1999 (Dollars in millions) Written Premiums 1999 1998 1997 ---------------- ----- ----- ----- PRIMARY INSURANCE OPERATIONS: U.S. Underwriting COMMERCIAL LINES GROUP Written premiums 37% $ 1,883 $ 2,117 $ 2,469 Underwriting result $ (261) $ (747) $ (171) Combined ratio 112.6 134.7 108.3 Adjusted 1999 combined ratio* 116.5 - - SPECIALTY COMMERCIAL Written premiums 27% $ 1,375 $ 1,348 $ 1,401 Underwriting result $ (196) $ (147) $ 18 Combined ratio 114.9 111.8 99.6 SURETY Written premiums 8% $ 409 $ 376 $ 319 Underwriting result $ 37 $ 73 $ 63 Combined ratio 83.6 79.0 78.9 --- ------- ------- ------- Total U.S. Underwriting Written premiums 72% $ 3,667 $ 3,841 $ 4,189 Underwriting result $ (420) $ (821) $ (90) Combined ratio 110.8 122.3 103.6 Adjusted 1999 combined ratio* 113.0 - - INTERNATIONAL Written premiums 9% $ 480 $ 378 $ 293 Underwriting result $ (84) $ (67) $ (53) Combined ratio 117.9 116.7 118.1 --- ------- ------- ------- Total PRIMARY INSURANCE Written premiums 81% $ 4,147 $ 4,219 $ 4,482 Underwriting result $ (504) $ (888) $ (143) Combined ratio 111.4 121.7 104.4 Adjusted 1999 combined ratio* 113.4 - - REINSURANCE Written premiums 19% $ 965 $ 1,057 $ 1,200 Underwriting result $ 79 $ 7 $ 4 Combined ratio 92.0 98.7 99.0 Adjusted 1999 combined ratio* 108.5 - - --- ------- ------- ------- TOTAL PROPERTY-LIABILITY INSURANCE Written premiums 100% $ 5,112 $ 5,276 $ 5,682 Underwriting result $ (425) $ (881) $ (139) Combined ratio: Loss and loss expense ratio 72.9 82.2 69.8 Underwriting expense ratio 35.0 35.2 33.5 ------- ------- ------- Combined ratio 107.9 117.4 103.3 ======= ======= ======= Adjusted 1999 combined ratio* 112.4 - - ======= ======= ======= * Adjusted 1999 combined ratios exclude the benefit of the two reinsurance treaties described on page 22 of this report. PROPERTY-LIABILITY INSURANCE Primary Insurance Operations - ---------------------------- Our primary insurance underwriting operations consist of three U.S.-based business segments and an International segment, which underwrite property-liability insurance and provide insurance- related products and services to commercial and professional customers. We utilize a network of independent insurance agents and brokers to distribute our insurance products. Based on 1998 premium volume, The St. Paul ranked as the 11th-largest U.S. property-liability underwriter. U.S. Underwriting COMMERCIAL LINES GROUP - ---------------------- The Commercial Lines Group segment includes our Middle Market Commercial and Small Commercial business centers, which serve small and mid-sized customers in the general commercial market; our Construction business center, which provides insurance products and services to a broad range of contractors; and our CAT Risk operation, which underwrites property insurance focused on catastrophe exposures for large commercial customers, and earthquake coverage for California homeowners. The results of our limited participation in insurance Pools are also included in this segment. The corporate treaty affected the Commercial Lines Group results as follows: written and earned premiums totaling $119 million were ceded, along with insurance losses and loss adjustment expenses of $217 million, resulting in a net pretax benefit of $98 million. The treaty impact was not allocated to individual business centers within the segment; therefore, all references to respective 1999 business center results in the following discussion exclude any impact of the corporate treaty. PREMIUMS - -------- Written premiums of $1.88 billion for the segment as a whole in 1999 were $234 million, or 11%, below 1998 premiums of $2.12 billion. Excluding the premium cessions under the corporate treaty, 1999 premium volume of $2.0 billion was still down 5% compared with 1998. The reduction was centered in our Middle Market operation and was consistent with our decision in late 1998 to selectively reduce our exposures in this market sector due to continuing deterioration in the pricing environment. Middle Market written premiums of $991 million were $200 million, or 17%, below the comparable 1998 total. The pricing situation in this market sector showed signs of improvement as the year progressed. Price increases on our Middle Market business accelerated during the second half of 1999 and averaged 4% for the year in total. Our Middle Market business retention levels in 1999 remained steady at approximately 70%. Small Commercial premium volume of $460 million in 1999 was 7% higher than the 1998 total of $429 million, reflecting new business and price increases averaging 3% for the year. Premium volume in the Construction business center totaled $433 million in 1999, an increase of 7% over 1998 which resulted from a strong construction industry and price increases averaging 5%. UNDERWRITING RESULT - ------------------- The Commercial Lines Group combined ratio of 112.6, which included a 3.9 point benefit from the corporate treaty, was a significant improvement from the 1998 ratio of 134.7, which included an 8.6 point impact of the $197 million provision to strengthen loss reserves subsequent to the USF&G merger. Excluding those factors in each year, the 1999 combined ratio of 116.5 was nearly ten points better than the 1998 ratio of 126.1, reflecting the underwriting and expense reduction initiatives implemented in 1999. The loss ratio for the Commercial Lines Group suffered early in the year from large property losses across several business centers, a problem that was addressed through several corrective actions by the end of the year, including price increases and extensive re-underwriting efforts. Results in the Construction business center improved markedly during 1999, primarily due to favorable development on prior years' workers' compensation business. The Middle Market Commercial 1999 loss ratio of 92.2 was slightly worse than the 1998 ratio of 89.8 (as adjusted to exclude the impact of the provision to strengthen loss reserves), but results improved in the second half of the year, particularly on business written in 1999. Small Commercial results also improved in 1999 due to favorable prior year loss development. Catastrophe losses in the Commercial Lines Group segment totaled $72 million in 1999, compared with $138 million in 1998. The 1999 segment expense ratio, as adjusted for the impact of the corporate treaty, was 33.8, over two points better than the 1998 ratio of 36.0. The improvement reflected the impact of merger- related efficiencies and cost reduction initiatives. Total underwriting expenses were down $86 million, or 11%, from 1998 levels, decreasing at a significantly faster rate than the 5% decline in premium volume. 1998 vs. 1997 - ------------- Premium volume of $2.12 billion in 1998 was over $300 million less than 1997 written premiums of $2.47 billion. The decline was centered in the Middle Market and Construction business centers, reflecting our efforts to reduce business volume generated from these market sectors due to continuing price erosion and accelerating loss costs. In addition, our exit from the unprofitable Trucking line of business negatively impacted year-to- year premium comparisons with 1997. Small Commercial premiums declined 3% in 1998. Excluding the 8.6 point impact of the $197 million reserve provision, the 1998 combined ratio of 126.1 was still significantly worse than the 1997 ratio of 108.3. Adverse loss development on reserves established in prior years, primarily for Middle Market and Construction business, was the primary factor in the deterioration from 1997. In addition, catastrophe losses of $138 million in 1998 were more than double the 1997 total of $62 million. The expense ratio in 1998 was 1.5 points higher than 1997, reflecting higher commission expenses incurred as the result of efforts to retain certain business subsequent to the USF&G merger. 2000 OUTLOOK - ------------ We are optimistic about prospects for sustaining the positive momentum generated in this segment during the latter half of 1999. We expect to achieve further price increases in 2000. Price competition for desirable new business will remain intense across all market sectors served by the Commercial Lines Group. We continue to emphasize underwriting discipline regarding risk selection and pricing, while continuing our aggressive efforts to streamline our field structure and facilitate agent/broker access to our products. We intend to expand access to automated underwriting tools and develop additional e-commerce capabilities, such as internet agent quoting, to create a competitive advantage in the commercial marketplace. U.S. Underwriting SPECIALTY COMMERCIAL - -------------------- The Specialty Commercial segment is one component of our Global Specialty Practices organization and is composed of the following business centers that serve specific commercial customer groups: Financial and Professional Services provides property, liability, professional liability and management liability coverages for corporations, nonprofit organizations, financial services organizations, and a variety of professionals such as lawyers, insurance agents and real estate agents. Public Sector Services markets insurance products and services to all levels of government entities. Health Services (formerly Medical Services) provides a wide range of insurance products and services throughout the entire health care delivery system. Technology offers a comprehensive portfolio of specialty products and services to companies involved in telecommunications, information technology, medical and biotechnology, and electronics manufacturing. Excess and Surplus Lines underwrites liability insurance, umbrella and excess liability coverages, and coverages for unique risks. Oil and Gas provides specialized property and casualty products for customers involved in the exploration and production of oil and gas. Global Marine provides insurance related to ocean and inland waterways traffic. The Specialty Commercial segment was not affected by the corporate reinsurance treaty. PREMIUMS - -------- Specialty Commercial premium volume of $1.38 billion in 1999 grew 2% over 1998 premiums of $1.35 billion. Financial and Professional Services' written premiums of $249 million in 1999 fell 4% short of 1998 levels, due to a slight decline in business retention levels in a highly competitive marketplace. Premiums in Public Sector Services declined 3% in 1999, reflecting a reduction in new business and lower retention levels due to price increases. Health Services' premiums of $513 million were 5% higher than the 1998 total of $490 million, primarily the result of a one-time policy transaction written during the year which generated a premium of $37 million. Professional liability price increases in Health Services averaged 7% in 1999, with business retention levels remaining steady. Our Technology operation experienced strong growth in 1999, driven by new product introductions, renewal retentions of approximately 85%, and a stable pricing environment. Technology premiums totaled $212 million in 1999, 19% higher than 1998 volume of $178 million. Excess and Surplus Lines' written premiums were virtually level with 1998. Global Marine premiums of $97 million in 1999 were down 16% from 1998, due to a weak ship- building market and the nonrenewal of inadequately priced business. UNDERWRITING RESULT - ------------------- The Specialty Commercial combined ratio of 114.9 was over three points worse than the 1998 ratio of 111.8. The deterioration was centered in three business centers, all of which implemented corrective measures prior to the end of the year to improve future profitability. Global Marine posted a 157.2 combined ratio in 1999, driven by poor results generated by Midwest river transportation business, which we ceased writing in late 1999 by selling renewal rights to that book of business. The Global Marine combined ratio excluding this class of business was 116.7. In our Excess and Surplus Lines operation, we implemented several initiatives aimed at improving on 1999's combined ratio of 135.0, including exiting unprofitable market sectors and significantly reducing business volume in other sectors. Our Public Sector Services operation was plagued early in the year by several large property losses, contributing to a combined ratio of 125.3 for the year. We implemented corrective measures, including price increases averaging 4%, prior to the end of 1999. Our remaining Specialty Commercial operations performed well amid intensely competitive pressures. Health Services' combined ratio of 113.5 for the year improved by ten points compared with 1998, primarily due to price increases and moderating loss trends. The 1999 Health Services combined ratio also benefited from certain changes in premium accrual estimates. Our Technology business center recorded a solid combined ratio of 100.6 for the year, and Financial and Professional Services posted a profitable combined ratio of 91.4. 1998 vs. 1997 - ------------- Written premiums in 1998 fell 4% short of the 1997 total of $1.40 billion, primarily due to competitive pricing pressures in the Health Services business center and excess capacity in general throughout primary insurance markets, which negatively impacted premium volume in our Excess and Surplus Lines operation. The combined ratio of 111.8 in 1998 was 12.2 points worse than the 1997 ratio, driven by marked deterioration in the Health Services business center resulting from a sharp increase in the severity of claims during the year and adverse loss development on prior year business. The magnitude of Health Services' losses more than offset improvement in Financial and Professional Services' results and strong profitability in the Technology business center. Catastrophe losses of $38 million in 1998 were $17 million higher than comparable 1997 losses. 2000 OUTLOOK - ------------ We expect modest improvement in the Specialty Commercial pricing environment in 2000. We are optimistic that the corrective actions implemented in those business centers with poor results in 1999 will provide the basis for improvement in this segment's 2000 performance. We will focus on maintaining underwriting discipline while pursuing profitable growth, capitalizing on our prominence in several markets and further strengthening our agent/broker relationships. We expect our Technology operation to face intensifying competitive pressures in 2000 as other carriers renew pursuit of market share as "Year 2000" fears fade. In our Global Marine business center, we will focus on achieving better results in what we expect to be gradually improving market conditions during 2000. The acquisition of MMI Companies, Inc. will complement our existing Health Services operation, creating an integrated global provider of insurance-related products to the healthcare industry. U.S. Underwriting SURETY - ------ The Surety segment, also a component of our Global Specialty Practices organization, underwrites surety bonds, which guarantee that third parties will be indemnified against the nonperformance of contractual obligations. Our Surety operation is the largest surety insurer in the United States based on 1998 premium volume, accounting for approximately 11% of the domestic market. In addition, this segment includes Afianzadora Insurgentes, the largest surety bond underwriter in Mexico, with a market share of over 40%. PREMIUMS - -------- Written premiums of $409 million in 1999 grew 9% over the comparable 1998 total of $376 million. In both the United States and Mexico, the continuing economic expansion in 1999 fueled growth in the construction industry, resulting in a significant increase in the demand for contract surety coverages. In addition, 1999 premium volume reflected the successful retention of targeted key accounts in an increasingly competitive marketplace. UNDERWRITING RESULT - ------------------- The 1999 combined ratio was a profitable 83.6, reflecting the quality of our book of surety business. The combined ratio of 79.0 in 1998 included the impact of reductions in reserves established in prior years, which did not occur to the same extent in 1999. The expense ratio of 51.5 in 1999 was almost four points better than the 1998 ratio of 55.3, primarily due to the efficiencies realized in the post-merger organization. 1998 vs. 1997 - ------------- Premium volume in 1998 grew 18% over 1997, largely due to new business initiatives and aggressive efforts to retain business subsequent to the USF&G merger. The profitable combined ratios in both years resulted from the absence of significant losses, and also include the impact of reductions in previously established reserves. 2000 OUTLOOK - ------------ Virtually all market indicators point to an economy that will continue to prosper into the near future, enhancing the prospects for further growth in the demand for surety products. We intend to build on our domestic market leadership position, leveraging our underwriting and marketing expertise on a global basis. We expect technology initiatives to play an increasingly important role in shaping our agent/broker relations, with the goal of positioning our Surety operations as the market of choice. Primary Insurance Operations INTERNATIONAL - ------------- Our International segment underwrites primary insurance outside of the United States, and includes business generated from our participation in Lloyd's of London as a provider of capital to eight underwriting syndicates and as the owner of a managing agency. We have built a local market presence in 14 key countries that account for over 80% of the world's insurance market. In addition to Canada, we underwrite insurance in Europe, Africa, Australia and Latin America. This segment also provides coverage for the non-U.S. risks of U.S. corporate policyholders and non- U.S.-based policyholders' exposures in the United States. Our International operations have a specialty commercial focus with particular emphasis on liability coverages. At Lloyd's, we have been a consolidator of specialty businesses which complement our existing operations. The International segment was not impacted by the corporate reinsurance treaty. PREMIUMS - -------- Virtually all of our International operations experienced growth during 1999. Written premiums of $480 million were 27% higher than the 1998 total of $378 million. Premiums generated through our Lloyd's of London operations of $201 million increased by $78 million, or 63%, over the 1998 total of $123 million, reflecting the significant expansion of our underwriting capacity in the Lloyd's market. The eight underwriting syndicates we manage account for approximately 4% of Lloyd's total capacity. In markets where we have mature businesses (at least four years of operations), premiums of $243 million were slightly below the 1998 total of $250 million, primarily due to the sale of our personal insurance business in the United Kingdom in early 1998. Our investment in operations established within the last four years, particularly those in Europe and Latin America, experienced strong growth in premium volume in 1999, as we continued to expand our specialty product offerings. UNDERWRITING RESULT - ------------------- The 1999 combined ratio of 117.9 in the International segment was slightly worse than the 1998 ratio of 116.7, largely due to deterioration in three of our syndicates at Lloyd's, particularly one syndicate underwriting aviation coverage. In addition, the collision of two commuter trains in London, both insured by our International operations, accounted for a loss of $6 million (net of reinsurance recoveries) in the fourth quarter of the year, adding 1.5 points to the 1999 loss ratio. Our operations in Canada rebounded to post a combined ratio of 108.9 in 1999, much improved over the 1998 ratio of 149.3 that was heavily impacted by severe ice storms. Our operations in Africa achieved a combined ratio of 103.8 in 1999, slightly worse than the 1998 ratio of 98.9. 1998 vs. 1997 - ------------- Premium volume of $378 million in 1998 grew 29% over 1997 premiums of $293 million, primarily due to increased capacity at Lloyd's of London, and new business in Africa and Latin America. Premiums generated by our commercial underwriting operations in the United Kingdom also contributed to the increase over 1997. The 1998 combined ratio of 116.7 was slightly better than the 1997 ratio of 118.1, primarily due to an improvement in the expense ratio. Significant losses incurred in Canada in early 1998 due to a severe ice storm offset an improvement in loss experience across almost all of our other International operations. 2000 OUTLOOK - ------------ We expect significant additional premium growth and improved results in 2000 as our International operations continue to mature. At Lloyd's, we will continue to consolidate the capacity we manage, adding specialized underwriting teams as opportunities for business expansion arise. Our mature operations are expected to grow through the introduction and expansion of customer-focused liability products linked with our specialized risk management capabilities. Our appointment in late 1999 by the Law Society of England and Wales as its joint venture partner, effective Sept. 1, 2000, should provide opportunities for significant professional indemnity premium growth in this segment going forward. Reinsurance ST. PAUL RE - ----------- Our Reinsurance segment, St. Paul Re, underwrites traditional treaty and facultative reinsurance for property, liability, ocean marine, surety and certain specialty classes of coverage and also underwrites "non-traditional" reinsurance, which combines traditional underwriting risk with financial risk protection. St. Paul Re underwrites reinsurance for leading property liability insurance companies worldwide. Through Discover Re, our Reinsurance segment also underwrites primary insurance and reinsurance and provides related insurance products and services to self-insured companies and insurance pools, in addition to ceding to and reinsuring captive insurers, all within the alternative risk transfer market. Based on 1998 written premium volume, our reinsurance operations ranked as the 15th-largest reinsurer in the world. PREMIUMS - -------- St. Paul Re's written premiums of $965 million in 1999 were 9% below the 1998 total of $1.06 billion. Premium volume in 1999 was reduced by cessions of $92 million under our corporate reinsurance treaty and $62 million under the separate aggregate stop-loss treaty exclusive to the Reinsurance segment. These reductions were partially offset by a $61 million increase in 1999 written premiums that resulted from a change in the process we use to estimate reinsurance premiums that have been earned, but not reported (EBNR), by ceding insurers. Excluding these factors, 1999 written premiums were level with 1998. A difficult operating environment, characterized by excess capacity and inadequate pricing levels on traditional reinsurance products, continued to plague the global reinsurance marketplace in 1999. St. Paul Re capitalized on new business opportunities in non-traditional reinsurance, offsetting the decline in traditional reinsurance premium volume. UNDERWRITING RESULT - ------------------- The 1999 combined ratio of 92.0 in our Reinsurance segment was driven by favorable development on business written in prior years, as well as benefits realized from the aggregate stop-loss treaties. We ceded insurance losses and loss adjustment expenses totaling $317 million under the two treaties which, when reduced by the $154 million in related premiums ceded, resulted in a net pretax benefit of $163 million to our Reinsurance segment in 1999. Excluding the impact of these treaties, the combined ratio in this segment was 108.5, nearly ten points worse than the 1998 ratio of 98.7. The change in the process we use to estimate EBNR, discussed previously, resulted in increases to earned premiums of $47 million, losses and loss adjustment expenses of $47 million and other expenses of $9 million, for a net pretax loss of approximately $9 million. Catastrophe losses of $143 million in 1999 played a large role in the deterioration from 1998, as well as unfavorable current year noncatastrophe loss experience on property coverages. Catastrophes in 1999 included the highly unusual windstorm that swept across Europe late in the year, earthquakes in Taiwan and Turkey, and Hurricane Floyd. Catastrophe losses in 1998 totaled $86 million, largely resulting from Hurricane Georges. 1998 vs. 1997 - ------------- Premium volume in 1998 fell 12% below the 1997 total, primarily due to adverse conditions in worldwide reinsurance markets, including continued rate erosion and competition from capital markets. Our property reinsurance volume was down sharply from 1997, reflecting a deliberate reduction in exposures caused by inadequate pricing. The 1998 combined ratio of 98.7 was slightly improved over the 1997 ratio. Favorable development on prior years' business offset a significant increase in catastrophe losses in 1998, which largely resulted from Hurricane Georges. 2000 OUTLOOK - ------------ We expect modest improvement in reinsurance markets in 2000, having achieved some progress on pricing for business renewing in January 2000. Conditions will remain challenging, however, requiring innovative approaches to developing new business while maintaining underwriting discipline. In the current marketplace, ceding companies appear to be receptive to expanding nontraditional insurance arrangements, which should provide new opportunities for that portion of our operations. We intend to expand our alternative risk transfer business, and explore business expansion in China and Japan. Property-Liability Insurance INVESTMENT OPERATIONS We maintain a high-quality portfolio with the primary objective of maximizing investment returns and generating sufficient liquidity to fund our cash requirements. The majority of our funds available for investment are deployed in a widely diversified portfolio of predominantly investment-grade fixed maturities. We also invest lesser amounts in equity securities, venture capital and real estate with the goal of producing long-term growth in the value of our invested asset base and ultimately enhancing shareholder value. The latter investment classes have the potential for higher returns but also involve a greater degree of risk, including less stable rates of return and less liquidity. Funds to be invested are generated by underwriting cash flows, consisting of the excess of premiums collected over losses and expenses paid, and investment cash flows, which consist of income received on existing investments and proceeds from sales and maturities of investments. Our property-liability investment segment generated pretax investment income of $1.26 billion in 1999, down 3% from income of $1.29 billion in 1998. Pretax investment income in 1997 totaled $1.32 billion. Negative underwriting cash flows over the last two years, combined with merger-related and restructuring payments over the same period, resulted in a net reduction in our investment portfolio (excluding the effects of unrealized appreciation) in both 1999 and 1998. The following table summarizes the composition and carrying value of our property-liability investment segment's portfolio at the end of the last two years. More information on each of our investment classes follows the table. December 31 (In millions) 1999 1998 - -------------- ------ ------ CARRYING VALUE: Fixed maturities $ 15,479 $ 17,178 Equities 1,537 1,193 Real estate and mortgage loans 1,268 1,151 Venture capital 866 571 Securities lending collateral 1,216 1,368 Short-term investments 1,192 842 Other investments 110 286 ------ ------ Total investments $ 21,668 $ 22,589 ====== ====== FIXED MATURITIES - ---------------- Our fixed maturities portfolio is composed of high-quality, intermediate-term taxable U.S. government, corporate and mortgage- backed bonds, and tax-exempt U.S. municipal bonds. We manage our bond portfolio conservatively, investing almost exclusively in investment-grade (BBB or better) securities. Approximately 95% of our portfolio at the end of 1999 was rated investment grade, with the remaining 5% split between high yield and nonrated securities, most of which we believe would be considered investment-grade if rated. Taxable securities accounted for the majority of our new bond purchases in 1999 and comprised 67% of our long-term portfolio at the end of the year. The decision whether to purchase taxable or tax-exempt bonds is driven by our consolidated tax position and the relationship between taxable and tax-exempt yields. The average yield on taxable bond purchases in 1999 was 7.2%, compared with 6.4% in 1998, reflecting the upward movement of interest rates during the year. Our bond portfolio in total carried a weighted average pretax yield of 6.8% at Dec. 31, 1999, unchanged from year-end 1998. These investments produced pretax investment income of $1.17 billion in 1999, compared with $1.20 billion and $1.24 billion in 1998 and 1997, respectively. The amortized cost of our bond portfolio at the end of 1999 was $15.52 billion, compared with $16.20 billion at the end of 1998. The decline was primarily due to the net sale of bonds in 1999 to fund our cash flow requirements. As part of the sale of our standard personal insurance operations in 1999, we transferred bonds having an amortized cost of $499 million at Sept. 30, 1999 to Metropolitan. In connection with that sale, bonds having an amortized cost of $563 million were reclassified to net assets of discontinued operations (included in "other assets") as of Dec. 31, 1998. We carry bonds on our balance sheet at market value, with the corresponding appreciation or depreciation recorded in shareholders' equity, net of taxes. The market values of our bonds fluctuate with changes in market interest rates. Anticipated future trends in market yields can also significantly impact the market value of our bonds. At the end of 1999, the pretax unrealized depreciation on our bond portfolio was $36 million, compared with appreciation of $979 million at the end of 1998. Although a portion of the change was due to the net decline in our bond holdings in 1999, the vast majority of the erosion in market value was attributable to the upward trend in market interest rates during 1999. The Federal Reserve Board raised short-term interest rates on three occasions in 1999 for a combined total of 0.75%. That increase offset interest rate reductions of the same amount in 1998 that had driven unrealized appreciation on our bond portfolio near the $1 billion mark. EQUITIES - -------- Our equity holdings consist of a diversified portfolio of common stocks which accounted for 5% of total investments (at cost) at Dec. 31, 1999. Equity markets in the United States experienced another year of substantial appreciation, driven by a significant increase in the value of internet-related technology firms. Our domestic equity portfolio produced a total return of 32.6% in 1999, outperforming the 21.1% return generated by the Standard & Poor's 500 equity index. The pretax unrealized appreciation included in the $1.54 billion carrying value of our equity portfolio totaled $516 million at the end of 1999, compared with $300 million at the end of 1998. REAL ESTATE AND MORTGAGE LOANS - ------------------------------ Real estate ($876 million) and mortgage loans ($392 million) comprised 6% of our total investments at the end of 1999. Our real estate holdings primarily consist of commercial office and warehouse properties that we own directly or in which we have a partial interest through joint ventures. Our properties are geographically distributed throughout the United States and had an occupancy rate of 94% at year-end 1999. These investments produced pretax income of $57 million in 1999 and generated cash flows totaling $84 million. Gross new real estate investments totaled $137 million in 1999. We acquired the portfolio of mortgage loans in the USF&G merger. The loans, which are collateralized by income-producing real estate, produced investment income of $30 million in 1999. We did not originate any new loans during the year. VENTURE CAPITAL - --------------- Venture capital comprised 2% of our invested assets (at cost) at the end of 1999. These private investments span a variety of industries but are concentrated in information technology, health care and consumer products. In 1999, we invested $237 million in this asset class, a 65% increase over 1998. Our portfolio produced a total pretax return of over $440 million in 1999, consisting of realized gains and the increase in unrealized appreciation. The carrying value of the venture capital portfolio at year-end 1999 and 1998 included unrealized appreciation of $468 million and $182 million, respectively. SECURITIES LENDING COLLATERAL - ----------------------------- These investments are collateral for our securities lending operations. Through our lending agent, we loan certain securities from our fixed-maturity portfolio to other approved institutions. We receive a fee from the borrower in return. We require collateral from the borrower equal to 102% of the fair value of the loaned securities. We retain full ownership of the securities loaned, and are indemnified by the lending agent in the event a borrower becomes insolvent or fails to return securities. We record securities lending collateral as an asset, with a corresponding liability for the same amount. REALIZED INVESTMENT GAINS AND LOSSES - ------------------------------------ The following table summarizes our property-liability operations' realized gains and losses by investment class for each of the last three years. Year ended December 31 (In millions) 1999 1998 1997 - ---------------------- ----- ----- ----- Pretax Realized Investment Gains (Losses): Fixed maturities $ (19) $ 1 $ (18) Equities 118 158 155 Real estate and mortgage loans 18 8 53 Venture capital 158 25 213 Other investments (1) (4) 9 ----- ----- ----- Total $ 274 $ 188 $ 412 ===== ===== ===== Venture capital gains in 1999 were driven by sales of investments in technology-related companies. Venture capital gains in 1997 included a $129 million gain on the sale of the stock of Advanced Fibre Communications, Inc., one of our direct investments. 2000 INVESTMENT OUTLOOK - ----------------------- We expect interest rates to increase in the first half of 2000 as the Federal Reserve continues its efforts to keep inflationary pressures in check in an expanding economy. We remain committed to maintaining the quality of our diversified investment portfolio. We will continue to invest the majority of funds available in investment-grade fixed-maturities, with additional funds allocated to our other asset classes as market conditions warrant. Our equity portfolio activities will be responsive to the opportunities that develop in the market. We believe our venture capital investments have the potential to once again generate sizeable realized gains in 2000. Our acquisition of MMI Companies, Inc. is expected to add a high-quality, $1.0 billion fixed- maturity portfolio to our operations in the second quarter of 2000. The sale of our nonstandard auto operations is expected to result in the transfer of approximately $290 million of investments to Prudential in the second quarter of 2000. Property-Liability Insurance LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES - ----------------------------------------- Our loss reserves reflect estimates of total losses and loss adjustment expenses we will ultimately have to pay under insurance and reinsurance policies. These include losses that have been reported but not settled and losses that have been incurred but not reported to us (IBNR). Loss reserves for certain workers' compensation business and certain assumed reinsurance contracts are discounted to present value. We reduce our loss reserves for estimates of salvage and subrogation. For reported losses, we establish reserves on a "case" basis within the parameters of coverage provided in the insurance policy or reinsurance agreement. For IBNR losses, we estimate reserves using established actuarial methods. Our case and IBNR reserve estimates consider such variables as past loss experience, changes in legislative conditions, changes in judicial interpretation of legal liability and policy coverages, and inflation. We consider not only monetary increases in the cost of what we insure, but also changes in societal factors that influence jury verdicts and case law and, in turn, claim costs. Because many of the coverages we offer involve claims that may not ultimately be settled for many years after they are incurred, subjective judgments as to our ultimate exposure to losses are an integral and necessary component of our loss reserving process. We record our reserves by considering a range of estimates bounded by a high and low point. Within that range, we record our best estimate. We continually review our reserves, using a variety of statistical and actuarial techniques to analyze current claim costs, frequency and severity data, and prevailing economic, social and legal factors. We adjust reserves established in prior years as loss experience develops and new information becomes available. Adjustments to previously estimated reserves are reflected in our financial results in the periods in which they are made. After the consummation of our merger with USF&G in April 1998, we recorded a $250 million loss provision to reflect the application of The St. Paul's reserving policies to USF&G's loss reserves. Our actuaries reviewed the raw data underlying, and documentation supporting, USF&G's year-end 1997 reserve analysis, and concurred with the reasonableness of USF&G's range of estimates for those reserves. However, applying their judgment and interpretation to the range, The St. Paul's actuaries, who would be responsible for setting reserve amounts for the merged entity, concluded that strengthening of the reserves would be appropriate, resulting in the $250 million adjustment. Of that provision, $35 million was allocated to the standard personal insurance operations that were sold in 1999, and that amount is included in discontinued operations for 1998. Note 8 to the financial statements, on page 56 of this report, includes a reconciliation of our beginning and ending loss and loss adjustment expense reserves for each of the years 1999, 1998 and 1997. That reconciliation shows that we have recorded reductions in the loss provision from continuing operations for claims incurred in prior years totaling $208 million, $217 million and $716 million in 1999, 1998 and 1997, respectively. The reductions in prior year losses recorded in 1999 and 1998 were lower than those recorded in the preceding several years. In 1999, favorable prior year loss development in several lines of business, including workers' compensation and assumed reinsurance, was reduced by adverse development in our Global Marine operation and certain commercial business centers. In 1998, the reduction in prior year losses was impacted by the provision to strengthen loss reserves subsequent to our merger with USF&G. The favorable prior year development recorded on workers' compensation coverages in recent years reflected the impact of legal and regulatory reforms throughout the country in the early 1990's that caused us to reduce our estimate of ultimate loss costs on those coverages. In 1999 and 1998, there were no significant additional changes in our estimate of those ultimate loss costs; as a result, while we still recorded a reduction in prior year losses, it was not of the same magnitude as those in preceding years. In our Health Services operation, the magnitude of favorable adjustments to prior year losses significantly declined in 1999 and 1998. Loss activity in those years indicated an increase in the severity of claims incurred in the years 1995 through 1997; accordingly, we adopted a more cautious view of ultimate loss provisions for those years, resulting in a much smaller reduction in prior year loss provisions during 1999 and 1998 than those recorded in recent years. Favorable prior year development on assumed reinsurance also contributed to the reduction in prior year loss provisions in 1998 and 1997. The reduction in 1997 was also impacted by a change in the way we assign loss activity to a particular year for a portion of our reinsurance business. We implemented an improved procedure in 1997 that more accurately assigns loss activity for this business to the year in which it occurred. This change had the effect of increasing favorable development on previously established reserves by approximately $110 million in 1997. There was no net impact on total incurred losses, however, because there was a corresponding increase in the provision for current year loss activity in 1997. Property-Liability Insurance ENVIRONMENTAL AND ASBESTOS CLAIMS - --------------------------------- We continue to receive claims alleging injury or damage from environmental pollution or seeking payment for the cost to clean up polluted sites. We also receive asbestos injury claims arising out of product liability coverages under general liability policies. The vast majority of these claims arise from policies written many years ago. Our alleged liability for both environmental and asbestos claims is complicated by significant legal issues, primarily pertaining to the scope of coverage. In our opinion, court decisions in certain jurisdictions have tended to broaden insurance coverage beyond the intent of original insurance policies. Our ultimate liability for environmental claims is difficult to estimate because of these legal issues. Insured parties have submitted claims for losses not covered in their respective insurance policies, and the ultimate resolution of these claims may be subject to lengthy litigation, making it difficult to estimate our potential liability. In addition, variables, such as the length of time necessary to clean up a polluted site and controversies surrounding the identity of the responsible party and the degree of remediation deemed necessary, make it difficult to estimate the total cost of an environmental claim. Estimating our ultimate liability for asbestos claims is equally difficult. The primary factors influencing our estimate of the total cost of these claims are case law and a history of prior claim development, both of which are still developing. The following table represents a reconciliation of total gross and net environmental reserve development for each of the years in the three-year period ended Dec. 31, 1999. Amounts in the "net" column are reduced by reinsurance recoverables. 1999 1998 1997 ------------ ------------ ------------ (In millions) Gross Net Gross Net Gross Net ----- ---- ----- ---- ----- ---- ENVIRONMENTAL Beginning reserves $783 $645 $867 $677 $889 $676 Incurred losses (33) 1 (16) 26 44 58 Paid losses (52) (47) (68) (58) (66) (57) ----- ---- ----- ---- ----- ---- Ending reserves $698 $599 $783 $645 $867 $677 ===== ==== ===== ==== ===== ==== The following table represents a reconciliation of total gross and net reserve development for asbestos claims for each of the years in the three-year period ended Dec. 31, 1999. 1999 1998 1997 ------------ ------------ ------------ (In millions) Gross Net Gross Net Gross Net ----- ---- ----- ---- ----- ---- ASBESTOS Beginning reserves $402 $277 $397 $279 $413 $304 Incurred losses 28 51 44 13 22 (5) Paid losses (32) (30) (39) (15) (38) (20) ----- ---- ----- ---- ----- ---- Ending reserves $398 $298 $402 $277 $397 $279 ===== ==== ===== ==== ===== ==== Our reserves for environmental and asbestos losses at Dec. 31, 1999 represent our best estimate of our ultimate liability for such losses, based on all information currently available to us. Because of the inherent difficulty in estimating such losses, however, we cannot give assurances that our ultimate liability for environmental and asbestos losses will, in fact, match our current reserves. We continue to evaluate new information and developing loss patterns, but we believe any future additional loss provisions for environmental and asbestos claims will not materially impact the results of our operations, liquidity or financial position. Total gross environmental and asbestos reserves at Dec. 31, 1999, of $1.10 billion represented approximately 6% of gross consolidated reserves of $17.93 billion. SALES REACH $1 BILLION IN 1999 ON STRENGTH OF POPULAR EQUITY- INDEXED PRODUCTS Life Insurance F&G LIFE - -------- Our life insurance segment consists of Fidelity and Guaranty Life Insurance Company and subsidiaries ("F&G Life"). F&G Life's primary products are deferred annuities (including tax sheltered annuities and equity-indexed annuities), structured settlement annuities, and immediate annuities. F&G Life also underwrites traditional and universal life insurance products. F&G Life's products are sold throughout the United States through independent agents, managing general agents and specialty brokerage firms. Highlights of F&G Life's financial performance for the last three years were as follows: Year ended December 31 (In millions) 1999 1998 1997 ----- ----- ----- Sales (premiums and deposits) $ 1,000 $ 501 $ 446 Premiums and policy charges 187 119 137 Policy surrenders 217 207 171 Net investment income 298 276 253 Pretax earnings 66 21 78 Life insurance in force $ 12,398 $ 10,774 $ 10,748 F&G Life's increase in pretax earnings in 1999 was due to growth in assets under management, driven by strong product sales and improved operating cash flows, offset by increased product development and distribution channel expansion expenses, and realized investment losses of $9 million. In addition, an increase in interest rates had a favorable impact on our investment spreads which, combined with greater estimated future gross profits, resulted in lower amortization of deferred policy acquisition costs (DPAC). Pretax earnings in 1998 were reduced by a $41 million writedown of DPAC and $9 million of charges related to The St. Paul's merger with USF&G. Excluding realized investment gains and losses in both years and the writedown and other charges in 1998, pretax earnings of $75 million in 1999 were virtually level with 1998. After-tax earnings on a similar basis, however, increased in 1999, reflecting the impact of F&G Life's implementation of a strategy to allocate 1% of its investment portfolio to tax-favored securities. These investments, while typically contributing little or no operating earnings, generate tax credits that lowered F&G Life's effective tax rate from 34% in 1998 to 29% in 1999. The following table shows life insurance and annuity sales (premiums and deposits) by product type and distribution system. Year ended December 31 (In millions) 1999 1998 1997 ----- ----- ----- Product Type: Equity-indexed annuities $ 686 $ 209 $ - Structured settlement annuities 95 49 74 Single premium deferred annuities 78 134 248 Tax sheltered annuities 49 64 84 Single premium immediate and other annuities 70 30 23 Life insurance 22 15 17 ----- ----- ----- Total $ 1,000 $ 501 $ 446 ===== ===== ===== Distribution System: Brokerage $ 822 $ 367 $ 268 Structured settlement brokers 113 55 74 Tax-sheltered annuity wholesalers 49 68 91 Other 16 11 13 ----- ----- ----- Total $ 1,000 $ 501 $ 446 ===== ===== ===== Sales volume doubled in 1999, primarily due to the success of equity-indexed annuity (EIA) products first introduced in mid- 1998. Credited interest rates on the EIA products are tied to the performance of a leading market index. EIA sales in 1999 were $477 million higher than 1998, and accounted for 69% of total product sales for the year. Sales of fixed interest rate annuities in 1999 were below 1998 levels due to the negative impact of comparatively low market interest rate levels on our fixed interest rate products. The demand for annuity products is affected by fluctuating interest rates and the relative attractiveness of alternative products, particularly equity-based products. Traditional life insurance sales increased 47% in 1999, reflecting the successful launch during the second quarter of a new term life product line targeted at the mortgage protection market. Premiums and policy charges increased 57% in 1999, resulting from growth in the sale of structured settlement annuities and life- contingent single premium immediate annuities (SPIA). Structured settlement annuities are sold primarily to property-liability insurers to fund the settlement of insurance claims. The expansion of the structured settlement program into The St. Paul's property- liability claim organization accounted for the increase in 1999 sales volume. The growth in SPIA sales resulted from an increased emphasis on this product in 1999. Sales of structured settlement annuities, annuities with life contingencies and term life insurance are recognized as premiums earned under GAAP. Investment-type contracts, however, such as our equity-indexed, deferred and tax sheltered annuities, and our universal life-type contracts, are recorded directly to our balance sheet on a deposit accounting basis and are not recognized as premium revenue under GAAP. Deferred annuities and universal life products are subject to surrender by policyholders. Nearly all of our surrenderable annuity policies allow a refund of the cash value balance less a surrender charge. Surrender activity increased modestly in 1999, primarily due to an increase in tax-sheltered annuity surrenders, which was largely offset by a decline in single premium deferred annuity surrenders. Net investment income grew 8% in 1999 as a result of an increasing asset base generated by positive cash flow. Pretax realized investment losses of $18 million in the fixed-maturity portfolio were partially offset by gains of $9 million generated from real estate and mortgage loan investments. Total life insurance in force grew 15% in 1999 to $12.4 billion, due to the success of the new term life product line introduced in 1999. 1998 vs. 1997 - ------------- Pretax earnings of $21 million in 1998 were well below comparable 1997 earnings of $78 million, primarily reflecting the $41 million DPAC writedown and $9 million of merger-related charges recorded in 1998. The DPAC writedown consisted of the following components: $19 million of accelerated amortization resulting from a reduction in the estimated future profits on certain universal life insurance business; a $16 million charge to reflect the impact of assumption changes as to the future "spread" on certain interest sensitive products; and a $6 million charge resulting from a change in annuitization assumptions for certain tax-sheltered annuity products. The $9 million merger-related charge was primarily related to severance and facilities exit costs. Sales volume of $501 million in 1998 grew 12% over the 1997 total of $446 million, due to the mid-year launch of our new equity-indexed annuity product. 2000 OUTLOOK - ------------ We expect that our sales momentum will carry into 2000, based on strong fourth quarter 1999 sales generated by all distribution channels. In mid-1999, we announced plans to provide our products to banks and broker-dealers that specialize in offering annuities and life insurance directly to consumers. This entry into the institutional marketplace is scheduled to be launched in the third quarter of 2000, and as a result, we expect to distribute our products in markets where we previously had limited access. In addition, we anticipate expanding our e-commerce platform, making it a more effective sales tool for our producers. STRATEGIC INITIATIVES EVIDENT IN RECORD SALES, EARNINGS Asset Management The John Nuveen Company - ----------------------- We hold a 79% interest in The John Nuveen Company (Nuveen), which comprises our asset management segment. Nuveen's core businesses are asset management and the development, marketing and distribution of investment products and services. Nuveen provides customized individual accounts, mutual funds, exchange-traded funds and defined portfolios (unit investment trusts) to help financial advisers serve their affluent and high net worth clients. During 1999, Nuveen completed the sale of its investment banking division to U.S. Bancorp Piper Jaffray, enabling the company to fully focus its resources on its asset management business. Nuveen is listed on the New York Stock Exchange, trading under the symbol "JNC." The following table summarizes Nuveen's key financial data for the last three years: Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Revenues $ 353 $ 308 $ 269 Expenses 193 171 146 ------ ------ ------ Pretax income 160 137 123 Minority interest (37) (33) (30) ------ ------ ------ The St. Paul's share of pretax income $ 123 $ 104 $ 93 ====== ====== ====== Assets under management $ 59,784 $ 55,267 $ 49,594 ====== ====== ====== Nuveen's principal sources of revenue are ongoing advisory fees earned on assets under management, and transaction-based revenue earned upon the distribution of defined portfolio and fund products. These revenues totaled $329 million in 1999, an increase of 16% over the same 1998 revenues of $284 million. An increase in average assets under management and significant growth in defined portfolio sales during the year accounted for the increase in 1999 advisory fee and distribution revenues. The increase in expenses over 1998 corresponds to the significant increase in business volume, as well as an increase in advertising expenses associated with strategic efforts to promote the Nuveen brand. Gross product sales of $14.1 billion in 1999 were 81% higher than 1998 sales of $7.8 billion, driven by significant additions to managed accounts and strong growth in equity defined portfolio sales. Nuveen introduced 17 new defined portfolios in 1999, and also raised over $2.7 billion of new assets in its exchange-traded funds. Nuveen has strategically diversified its product offerings in recent years, introducing a variety of equity-based products to complement its traditional fixed-income investment vehicles. The diversification strategy played a crucial role in Nuveen's record results in 1999, with equity-based products accounting for 60% of gross product sales in a year during which fixed-income investments suffered substantial declines in value. Nuveen's net flows (equal to the sum of sales, reinvestments and exchanges less redemptions) totaled $9.6 billion in 1999, compared with $5.7 billion in 1998. At the end of 1999, managed assets consisted of $26.8 billion of exchange-traded funds, $20.9 billion of managed accounts, and $12.1 billion of mutual funds. The $4.5 billion increase in managed assets since the end of 1998 resulted from 1999 net flows in funds and accounts, reduced by a $2.3 billion decline in the unrealized appreciation of underlying fund investments (primarily fixed-income). Municipal securities accounted for 66% of managed assets at the end of 1999, compared with 71% at the end 1998. Including defined portfolios, Nuveen managed or oversaw approximately $71 billion in assets at year-end 1999. Nuveen repurchased 914,100 and 732,700 common shares from minority shareholders in 1999 and 1998, respectively, for a total cost of $36 million and $27 million. Nuveen also made significant share repurchases in 1997, proportioned between our holdings and minority shareholders to maintain our ownership percentage in Nuveen at the time of the repurchases. Our proceeds from the share repurchase in 1997 were $41 million. 1998 vs. 1997 - ------------- In 1998, Nuveen's revenues grew 14% over 1997 on the strength of a significant increase in average assets under management for the year. In mid-1997, Nuveen acquired Rittenhouse Financial Services, Inc., an equity and balanced account management firm serving affluent investors, which added over $9 billion to Nuveen's managed assets. Gross product sales of $7.8 billion in 1998 were more than double 1997 sales of $3.0 billion, largely due to a full year of Rittenhouse managed account sales and a $600 million increase in mutual fund sales. 2000 OUTLOOK - ------------ Nuveen's increased emphasis on brand development is expected to attract more financial advisers and investors to its investment products. New defined portfolios, mutual funds and exchange-traded funds are expected to be introduced in 2000 as Nuveen focuses on family wealth management strategies. The St. Paul Companies CAPITAL RESOURCES Our capital resources consist of shareholders' equity, debt and capital securities, representing funds deployed or available to be deployed to support our business operations. The following table summarizes our capital resources at the end of the last three years: December 31 (In millions) 1999 1998 1997 ------ ------ ------ Shareholders' equity: Common equity: Common stock and retained earnings $ 5,906 $ 5,608 $ 5,777 Unrealized appreciation of investments and other 542 1,013 814 ------ ------ ------ Total common shareholders' equity 6,448 6,621 6,591 Preferred shareholders' equity 24 15 17 ------ ------ ------ Total shareholders' equity 6,472 6,636 6,608 Debt 1,466 1,260 1,304 Capital securities 425 503 503 ------ ------ ------ Total capitalization $ 8,363 $ 8,399 $ 8,415 ====== ====== ====== Ratio of debt to total capitalization 18% 15% 15% ====== ====== ====== EQUITY - ------ Common shareholders' equity at the end of 1999 was 3% below the year-end 1998 total despite our strong net income of $834 million for the year. The increase in market interest rates during 1999 led to an $884 million decline in the after-tax unrealized appreciation of our bond portfolio since the end of 1998. This decline was partially offset by a $425 million increase in the after-tax unrealized appreciation on our equity and venture capital investment portfolios. Our common equity was also reduced in 1999 by common share repurchases totaling $356 million and common dividends declared of $235 million. Common equity at the end of 1998 was virtually level with year-end 1997, as a decline in our retained earnings resulting from common share repurchases and dividends was offset by an increase in the net unrealized appreciation of our investment portfolio. Our book value per common share at Dec. 31, 1999 was $28.68, compared with a per share book value of $28.32 at the end of 1998. Our preferred shareholders' equity at the end of the last three years consisted of the par value of Series B preferred shares we issued to our Stock Ownership Plan (SOP) Trust, less the remaining principal balance of the SOP Trust debt. DEBT - ---- Consolidated debt outstanding of $1.47 billion at the end of 1999 increased by $206 million over the year-end 1998 total of $1.26 billion. The increase was primarily due to the issuance of additional commercial paper throughout the year, which brought the year-end 1999 outstanding balance to $400 million, compared with $257 million at Dec. 31, 1998. In addition, several of our real estate investment entities entered into variable rate borrowings in June 1999 totaling $64 million. The interest rate on these borrowings was 5.65% at the end of 1999. Also in 1999, a special purpose offshore entity we created to provide reinsurance to one of our subsidiaries issued $46 million of floating rate notes, which are included in The St. Paul's consolidated debt. At year- end 1999, the interest rate on those notes was 11.36%. Medium-term notes, bearing a weighted average interest rate of 6.9%, comprised 42%, or $617 million, of our consolidated debt at Dec. 31, 1999. In March 1999, we purchased $34 million (principal amount) of our zero coupon convertible notes from note holders for a total cash consideration of $21 million, representing the original issue price plus the original issue discount accrued to the date of purchase. We purchased these notes at the option of the note holders. The zero coupon note repurchases, along with several medium-term note maturities totaling $20 million during the first half of the year, were primarily funded by commercial paper borrowings. Consolidated debt at year-end 1998 was $44 million less than a year earlier, largely the result of a $75 million reduction in Nuveen's debt. We issued $150 million of medium-term notes in 1998, with proceeds primarily used to fund our 1998 common share repurchases. The maturity of our $145 million, 7% senior notes in May 1998, as well as several medium-term note maturities throughout the year totaling $25 million, were funded through a combination of commercial paper issuances and internally generated funds. Commercial paper outstanding at the end of 1998 increased $89 million over year-end 1997. CAPITAL SECURITIES - ------------------ These securities consist of company-obligated mandatorily redeemable preferred securities issued by four business trusts wholly-owned by The St. Paul. One of the trusts issued $207 million of preferred securities bearing a dividend rate of 6% which are convertible into our common stock. The three remaining trusts each issued $100 million of preferred securities bearing dividend rates of 8.5%, 8.47% and 8.312%, respectively. During 1999, we repurchased and retired securities from the latter three trusts with an aggregate principal value of $79 million, comprised of the following components: $27 million at 8.5%; $22 million at 8.47%; and $30 million at 8.312%. The repurchases were made in open market transactions and were primarily funded by commercial paper borrowings. CAPITAL TRANSACTIONS - -------------------- We completed the sale of our standard personal insurance operations to Metropolitan in September 1999. Net proceeds of $251 million received at closing are being used for general corporate purposes, including strategic acquisitions of existing businesses, expansion of our commercial insurance business, and additional common share repurchases. In 1999, we repurchased 11.1 million of our common shares for a total cost of $356 million, or an average of $32 per share. We repurchased 3.8 million common shares for a total cost of $135 million in 1998, largely funded through the issuance of medium- term notes. We also repurchased 3.4 million shares in 1997 for a total cost of $128 million. Our common and preferred dividend payments totaled $246 million in 1999, $226 million in 1998 and $198 million in 1997. In February 2000, The St. Paul's board of directors increased our quarterly dividend rate to $0.27 per share, a 4% increase over the 1999 quarterly rate of $0.26 per share. Our merger with USF&G in 1998 was a tax-free exchange accounted for as a pooling-of-interests. The St. Paul issued 66.5 million of its common shares for all of the outstanding shares of USF&G. The transaction was valued at $3.7 billion, which included the assumption of USF&G's debt and capital securities. We made no major capital improvements during any of the last three years. In December 1999, we announced a definitive agreement to acquire MMI Companies, Inc. for approximately $200 million in cash plus the assumption of approximately $120 million of MMI capital securities, in a transaction expected to be finalized in the second quarter of 2000. Also in December, we announced a definitive agreement to purchase Pacific Select Insurance Holdings, Inc., which underwrites earthquake risk insurance in California, for approximately $37 million. This transaction is expected to be completed in the first quarter of 2000. In January 2000, we announced a definitive agreement to sell our nonstandard auto business to Prudential Insurance Company of America for $200 million in cash, in a transaction expected to be finalized in the second quarter of 2000. We do not anticipate substantial changes in our capital structure as a result of these transactions. We have no current plans for other major capital expenditures in 2000, but if any were to occur, they would likely involve acquisitions consistent with our specialty commercial focus, and further common share repurchases. As of Dec. 31, 1999, we had the capacity to make up to $409 million in additional share repurchases under a $500 million repurchase program authorized by our board of directors in November 1999. The St. Paul Companies LIQUIDITY - --------- Liquidity is a measure of our ability to generate sufficient cash flows to meet the short- and long-term cash requirements of our business operations. Our underwriting operations' short-term cash needs primarily consist of paying insurance loss and loss adjustment expenses and day-to-day operating expenses. Those needs are met through cash receipts from operations, which consist primarily of insurance premiums collected and investment income. Our investment portfolio is also a source of additional liquidity, through the sale of readily marketable fixed maturities, equity securities and short-term investments, as well as longer-term investments which have appreciated in value. Cash flows from these underwriting and investment activities are used to build the investment portfolio and thereby increase future investment income. Cash outflows from continuing operations were $41 million in 1999, compared with cash inflows of $169 million in 1998 and $837 million in 1997. Our cash flows in 1999 and 1998 were negatively impacted by the reductions in written premium volume and investment receipts in our property-liability operations, as well as cash disbursements associated with our merger with USF&G and the restructuring of our commercial insurance operations. Underwriting cash flows have trended downward over the last several years due to difficult market conditions in our property- liability operations, where loss and loss expense payments have exceeded premium revenues by a significant margin. The sale of fixed-maturity investments to fund operational cash flow requirements has also resulted in a reduction in investment cash flows during the last three years. On a long-term basis, we believe our operational cash flows will benefit from the corrective pricing and underwriting actions underway in our property-liability operations to improve the quality of our business. In addition, we expect our long-term liquidity position to improve as a result of the restructuring and expense reduction initiatives implemented in the last two years. Our financial strength and conservative level of debt provide us with the flexibility and capacity to obtain funds externally through debt or equity financings on both a short-term and long- term basis. We are not aware of any current recommendations by regulatory authorities that, if implemented, might have a material impact on our liquidity, capital resources or operations. The St. Paul Companies EXPOSURES TO MARKET RISK - ------------------------ INTEREST RATE RISK - ------------------ Our exposure to market risk for changes in interest rates is concentrated in our investment portfolio, and to a lesser extent, our debt obligations. However, changes in investment values attributable to interest rate changes are mitigated by corresponding and partially-offsetting changes in the economic value of our insurance reserves and debt obligations. We monitor this exposure through periodic reviews of our asset and liability positions. Our estimates of cash flows, as well as the impact of interest rate fluctuations relating to our investment portfolio and insurance reserves, are modeled and reviewed quarterly. The following table provides principal runoff estimates by year for our Dec. 31, 1999 inventory of interest-sensitive financial instrument assets. Also provided are the weighted-average interest rates associated with each year's runoff. Principal runoff projections for collateralized mortgage obligations were prepared using third-party prepayment analyses. Runoff estimates for mortgage passthroughs were prepared using average prepayment rates for the prior three months. Principal runoff estimates for callable bonds are either to maturity or to the next call date depending on whether the call was projected to be "in-the-money" assuming no change in interest rates. No projection of the impact of reinvesting the estimated cash flow runoff is included in the table, regardless of whether the runoff source is a short-term or long-term fixed income security. We have assumed that our "available-for-sale" securities are similar enough to aggregate those securities for purposes of this disclosure. December 31, 1999 Principal Weighted Average (In millions) Cash Flows Interest Rate ---------- ---------------- Fixed Maturities, Short-Term Investments and Mortgage Loans 2000 $ 3,875 5.1% 2001 2,069 7.1% 2002 2,012 7.2% 2003 1,743 7.5% 2004 1,444 7.8% Thereafter 11,316 6.7% ------- Total $ 22,459 ======= Market Value at Dec. 31, 1999 $ 21,284 ======= The following table provides principal runoff estimates by year for our Dec. 31, 1999 inventory of interest-sensitive debt obligations and related weighted average interest rates by stated maturity dates. December 31, 1999 Principal Weighted Average (In millions) Cash Flows Interest Rate ---------- ---------------- Medium-Term Notes, Zero Coupon Notes and Senior Notes 2000 $ - - 2001 195 8.1% 2002 49 7.5% 2003 67 6.5% 2004 55 7.1% Thereafter 622 6.3% ------ Total $ 988 ====== Fair Value at Dec. 31, 1999 $ 922 ====== FOREIGN CURRENCY EXPOSURE - ------------------------- Our exposure to market risk for changes in foreign exchange rates is concentrated in our invested assets denominated in foreign currencies. Cash flows from our foreign operations are the primary source of funds for our purchase of these investments. We purchase these investments primarily to hedge insurance reserves and other liabilities denominated in the same currency, effectively reducing our foreign currency exchange rate exposure. At Dec. 31, 1999, approximately 6.5% of our invested assets were denominated in foreign currencies, with no individual currency accounting for more than 4% of that total. OTHER MARKET RISK - ----------------- Equity Price Risk - Our portfolio of marketable equity securities, which we carry on our balance sheet at market value, has exposure to price risk. This risk is defined as the potential loss in market value resulting from an adverse change in prices. Our objective is to earn competitive relative returns by investing in a diverse portfolio of high-quality, liquid securities. Portfolio characteristics are analyzed regularly and market risk is actively managed through a variety of modeling techniques. Our holdings are diversified across industries, and concentrations in any one company or industry are limited by parameters established by senior management. Our portfolio of venture capital investments also has exposure to market risks, primarily relating to the viability of the various entities in which we have invested. These investments by their nature involve more risk than other investments, and we actively manage our market risk in a variety of ways. First, we allocate a comparatively small amount of funds to venture capital. At the end of 1999, the cost of these investments accounted for only 2% of total invested assets. Second, the investments are diversified to avoid concentration of risk in a particular industry. Third, we perform extensive research prior to investing in a new venture to gauge prospects for success. Fourth, we regularly monitor the operational results of the entities in which we have invested. Finally, we generally sell our holdings in these firms soon after they become publicly traded, thereby reducing exposure to further market risk. At Dec. 31, 1999, our marketable equity securities and venture capital investments were recorded at their fair value of $2.48 billion. A hypothetical 10% decline in each stock's price would have resulted in a $248 million impact on fair value. Equity-Indexed Annuity Products - Our Life operation's equity- indexed annuity products are tied to the performance of a leading market index. Interest is credited to the equity portion of these annuities annually based on an average change in the index during the policy period (one or two years). We hedge our exposure by purchasing options with similar terms as the index component to provide us with the same return as we guarantee to the annuity contract holder, subject to minimums guaranteed in the annuity contract. At Dec. 31, 1999, we held options with a notional amount of $906 million, with a market value of $44 million. The weighted average strike price on these options at Dec. 31, 1999 was 1,361.50. The St. Paul Companies YEAR 2000 READINESS DISCLOSURE - ------------------------------ The "Year 2000" issue refers to computer programming limitations that may have caused many information technology systems throughout the world to recognize the two-digit year code of "00" as the year 1900, instead of 2000, at the turn of the century. STATUS OF OPERATIONS - -------------------- For many years, beginning in the late 1980s, we evaluated our computer systems to determine the potential impact of the Year 2000 issue on our operations. We established a Review Board in the third quarter of 1997 to review the remediation and testing methodology applied to the hundreds of internally developed and externally sourced systems used in our corporate headquarters in Saint Paul, MN. The Year 2000 program developed by USF&G's Y2K Action Committee was integrated into our overall Year 2000 efforts subsequent to USF&G's merger with The St. Paul in April 1998. In 1998, we created the Year 2000 Project Office, which is responsible for the oversight, coordination and monitoring of all Year 2000 efforts including, among other things, monitoring the compliance status of information systems in all operating units and subsidiaries, both foreign and domestic, throughout the Year 2000 transition period. The Year 2000 Project Office's definition of our transition period encompassed the period beginning Oct. 1, 1999 and ending March 31, 2000. The Year 2000 Project Office established detailed transition event plans, focusing particularly on the eight-day period from Dec. 31, 1999 through Jan. 7, 2000. To date, our transition to the Year 2000 has been notably uneventful and successful. Specific monitoring will continue through March 31, 2000, as originally planned, but we do not anticipate experiencing any Year 2000 disruptions. Through Dec. 31, 1999, the cost of our Year 2000 remediation measures incurred, including costs incurred by USF&G prior to the merger, totaled approximately $27 million. We do not expect to incur significant additional costs related to the Year 2000 issue. INSURANCE COVERAGE - ------------------ We have received some Year 2000-related claims and we face additional potential Year 2000 claims under coverages provided by insurance or reinsurance policies sold to insured parties who have incurred or may incur, or have taken or may take action claimed to prevent losses as a result of the failure of such parties, or the customers or vendors of such parties to be Year 2000 compliant. For example, like other property-liability insurers, we have received claims for reimbursement of expenses incurred by policyholders in connection with their Year 2000 compliance efforts. Because coverage determinations depend on unique factual situations, specific policy language and other variables, it is not possible to determine at this time whether and to what extent insured parties have incurred or will incur losses, the amount of the losses or whether any such losses will be covered under our insurance or reinsurance policies. With respect to Year 2000 claims in general, in some instances, coverage is not provided under the insurance or reinsurance policies, while in other instances coverage may be provided under certain circumstances. Our standard property and inland marine policies require, among other things, direct physical loss or damage from a covered cause of loss as a condition of coverage. In addition, it is a fundamental principle of all insurance that a loss must be fortuitous to be considered potentially covered. Given the fact that Year 2000-related losses are not unforeseen, and that we expect that such losses will not, in most if not all cases, cause direct physical loss or damage, we have concluded that our property and inland marine policies do not generally provide coverage for losses relating to Year 2000 issues. To reinforce our view on coverage afforded by such policies, we have developed and continue to implement a specific Year 2000 exclusion endorsement. We may also face claims from the beneficiaries of our surety bonds resulting from Year 2000-related performance failures by the purchasers of the bonds. As with insurance policies in general, because surety claims depend on particular factual situations, specific bond language and other variables, it is not possible to determine at this time whether and to what extent Year 2000- related claims have arisen or will arise under surety bonds we issued, the amount of any such claims or whether any such claims will be payable under surety bonds we issued. We have taken and continue to take a number of actions to address our exposure to insurance claims arising from our liability coverages, including the use of exclusions in certain types of policies. We do not believe that Year 2000-related insurance or reinsurance coverage claims will have a material adverse effect on our earnings, cash flows or financial position. However, the uncertainties of litigation are such that unexpected policy interpretations could compel claim payments substantially beyond our coverage intentions, possibly resulting in a material adverse effect on our results of operations and/or cash flows and a material adverse effect on our consolidated financial position. The St. Paul Companies IMPACT OF ACCOUNTING PRONOUNCEMENTS TO BE ADOPTED IN THE FUTURE - --------------------------------------------------------------- In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which establishes accounting and reporting standards for derivative instruments and hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet, and measure those instruments at fair value. In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133." SFAS No. 133 is now effective for all quarters of fiscal years beginning after June 15, 2000, and prohibits retroactive application to financial statements of prior periods. We intend to implement the provisions of SFAS No. 133 in the first quarter of the year 2001. Our property-liability operations currently have limited involvement with derivative instruments, primarily for purposes of hedging against fluctuations in interest rates. Our life insurance operation purchases options to hedge its obligation to pay credited rates on equity-indexed annuity products. We cannot at this time reasonably estimate the potential impact of this adoption on our financial position or results of operations for future periods. In October 1998, the AICPA issued SOP No. 98-7, "Deposit Accounting: Accounting for Insurance and Reinsurance Contracts That Do Not Transfer Insurance Risk," which provides guidance for accounting for such contracts. The SOP specifies that insurance and reinsurance contracts for which the deposit method of accounting is appropriate should be classified in one of four categories, and further specifies the accounting treatment for each of these categories. The SOP is effective for fiscal years beginning after June 15, 1999. We currently intend to implement the provisions of the SOP in the first quarter of the year 2000. We expect the impact of this adoption to be immaterial to our financial position and results of operations for future periods. FORWARD-LOOKING STATEMENT DISCLOSURE - ------------------------------------ This discussion contains certain forward-looking statements within the meaning of the Private Litigation Reform Act of 1995. Forward- looking statements are statements other than historical information or statements of current condition. Words such as expects, anticipates, intends, plans, believes, seeks or estimates, or variations of such words, and similar expressions are also intended to identify forward-looking statements. Examples of these forward-looking statements include statements concerning: market and other conditions and their effect on future premiums, revenues, earnings, cash flow and investment income; expense savings resulting from the USF&G merger and the restructuring actions announced in 1998 and 1999; expected closing dates for acquisitions and dispositions; and Year 2000 issues and our efforts to address them. In light of the risks and uncertainties inherent in future projections, many of which are beyond our control, actual results could differ materially from those in forward-looking statements. These statements should not be regarded as a representation that anticipated events will occur or that expected objectives will be achieved. Risks and uncertainties include, but are not limited to, the following: general economic conditions including changes in interest rates and the performance of financial markets; changes in domestic and foreign laws, regulations and taxes; changes in the demand for, pricing of, or supply of insurance or reinsurance; catastrophic events of unanticipated frequency or severity; loss of significant customers; judicial decisions and rulings; the pace and effectiveness of the transfer of the standard personal insurance business to Metropolitan; the pace and effectiveness of the transfer of the nonstandard auto operations to Prudential; the pace and effectiveness of our acquisition of MMI Companies, Inc.; and various other matters, including the effects of the merger with USF&G Corporation. Actual results and experience relating to Year 2000 issues could differ materially from anticipated results or other expectations as a result of a variety of risks and uncertainties, including unanticipated judicial interpretations of the scope of the insurance or reinsurance coverage provided by our policies. We undertake no obligation to release publicly the results of any future revisions we may make to forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Six-Year Summary of Selected Financial Data The St. Paul Companies (Dollars in millions, except per share data) 1999 1998 1997 1996 1995 1994 ----- ----- ----- ----- ----- ----- CONSOLIDATED Revenues from continuing operations $7,569 $7,708 $8,308 $7,893 $7,273 $6,481 Income from continuing operations after cumulative effect of accounting change 749 199 1,062 1,323 1,020 677 INVESTMENT ACTIVITY Net investment income 1,557 1,571 1,573 1,509 1,471 1,419 Pretax realized investment gains 277 201 423 262 91 47 OTHER SELECTED FINANCIAL DATA (as of December 31) Total assets 38,873 37,864 36,887 34,667 32,798 29,745 Debt 1,466 1,260 1,304 1,171 1,304 1,244 Capital securities 425 503 503 307 207 - Common shareholders' equity 6,448 6,621 6,591 5,631 5,342 3,675 Common shares outstanding 224.8 233.7 233.1 230.9 235.4 227.5 PER COMMON SHARE DATA Income from continuing operations after cumulative effect of accounting change 3.07 0.78 4.22 5.22 3.92 2.65 Book value 28.68 28.32 28.27 24.39 22.69 16.15 Year-end market price 33.69 34.81 41.03 29.31 27.81 22.38 Cash dividends declared 1.04 1.00 0.94 0.88 0.80 0.75 PROPERTY-LIABILITY INSURANCE Written premiums 5,112 5,276 5,682 5,683 5,561 4,812 Pretax operating earnings 697 111 1,076 995 949 861 GAAP underwriting result (425) (881) (139) (35) (127) (179) Statutory combined ratio: Loss and loss expense ratio 72.9 82.2 69.8 68.9 71.5 72.6 Underwriting expense ratio 35.0 35.2 33.5 31.9 30.6 35.2 ----- ----- ----- ----- ----- ----- Combined ratio 107.9 117.4 103.3 100.8 102.1 107.8 ===== ===== ===== ===== ===== ===== LIFE INSURANCE Product sales 1,000 501 446 427 348 286 Premium income 187 119 137 145 174 152 Net income (loss) 44 13 51 (5) 19 12 Independent Auditors' Report The Board of Directors and Shareholders The St. Paul Companies, Inc.: We have audited the accompanying consolidated balance sheets of The St. Paul Companies, Inc. and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, shareholders' equity, comprehensive income and cash flows for each of the years in the three-year period ended December 31, 1999. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We did not audit the consolidated financial statements of USF&G Corporation, a wholly-owned subsidiary, for the year ended December 31, 1997, which statements reflect total revenues constituting 34 percent for the year ended December 31, 1997, of the related consolidated total. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for USF&G Corporation, is based solely on the report of the other auditors. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of the other auditors, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of The St. Paul Companies, Inc. and subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1999, in conformity with generally accepted accounting principles. As discussed in Note 1 to the consolidated financial statements, in 1999 the Company changed its method of accounting for insurance- related assessments. /s/ KPMG LLP - ------------ KPMG LLP Minneapolis, Minnesota February 16, 2000 Management's Responsibility for Financial Statements Scope of Responsibility - Management prepares the accompanying financial statements and related information and is responsible for their integrity and objectivity. The statements were prepared in conformity with generally accepted accounting principles. These financial statements include amounts that are based on management's estimates and judgments, particularly our reserves for losses and loss adjustment expenses. We believe that these statements present fairly the company's financial position and results of operations and that the other information contained in the annual report is consistent with the financial statements. Internal Controls - We maintain and rely on systems of internal accounting controls designed to provide reasonable assurance that assets are safeguarded and transactions are properly authorized and recorded. We continually monitor these internal accounting controls, modifying and improving them as business conditions and operations change. Our internal audit department also independently reviews and evaluates these controls. We recognize the inherent limitations in all internal control systems and believe that our systems provide an appropriate balance between the costs and benefits desired. We believe our systems of internal accounting controls provide reasonable assurance that errors or irregularities that would be material to the financial statements are prevented or detected in the normal course of business. Independent Auditors - Our independent auditors, KPMG LLP, have audited the consolidated financial statements. Their audit was conducted in accordance with generally accepted auditing standards, which includes the consideration of our internal controls to the extent necessary to form an independent opinion on the consolidated financial statements prepared by management. Audit Committee - The audit committee of the board of directors, composed solely of outside directors, oversees management's discharge of its financial reporting responsibilities. The committee meets periodically with management, our internal auditors and representatives of KPMG LLP to discuss auditing, financial reporting and internal control matters. Both internal audit and KPMG LLP have access to the audit committee without management's presence. Code of Conduct - We recognize our responsibility for maintaining a strong ethical climate. This responsibility is addressed in the company's written code of conduct. /s/ Douglas W. Leatherdale /s/ Paul J. Liska - -------------------------- ----------------- Douglas W. Leatherdale Paul J. Liska Chairman and Executive Vice President and Chief Executive Officer Chief Financial Officer Consolidated Statements of Income The St. Paul Companies Year ended December 31 (In millions, except per share data) 1999 1998 1997 ------ ------ ----- REVENUES Premiums earned $ 5,290 $ 5,553 $ 5,996 Net investment income 1,557 1,571 1,573 Asset management 340 302 262 Realized investment gains 277 201 423 Other 105 81 54 ------ ------ ------ Total revenues 7,569 7,708 8,308 ------ ------ ------ EXPENSES Insurance losses and loss adjustment expenses 3,720 4,465 4,089 Life policy benefits 367 273 277 Policy acquisition expenses 1,325 1,487 1,487 Operating and administrative expenses 1,140 1,363 1,022 ------ ------ ------ Total expenses 6,552 7,588 6,875 ------ ------ ------ Income from continuing operations before income taxes 1,017 120 1,433 Income tax expense (benefit) 238 (79) 371 ------ ------ ------ Income from continuing operations before cumulative effect of accounting change 779 199 1,062 Cumulative effect of accounting change, net of taxes (30) - - ------ ------ ------ INCOME FROM CONTINUING OPERATIONS 749 199 1,062 ------ ------ ------ Discontinued operations: Operating loss, net of taxes (9) (110) (65) Gain (loss) on disposal, net of taxes 94 - (68) ------ ------ ------ Gain (loss) from discontinued operations 85 (110) (133) ------ ------ ------ NET INCOME $ 834 $ 89 $ 929 ====== ====== ====== BASIC EARNINGS PER COMMON SHARE Income from continuing operations before cumulative effect $ 3.37 $ 0.79 $ 4.55 Cumulative effect of accounting change, net of taxes (0.13) - - Gain (loss) from discontinued operations, net of taxes 0.37 (0.46) (0.58) ------ ------ ------ NET INCOME $ 3.61 $ 0.33 $ 3.97 ====== ====== ====== DILUTED EARNINGS PER COMMON SHARE Income from continuing operations before cumulative effect $ 3.19 $ 0.78 $ 4.22 Cumulative effect of accounting change, net of taxes (0.12) - - Gain (loss) from discontinued operations, net of taxes 0.34 (0.46) (0.53) ------ ------ ------ NET INCOME $ 3.41 $ 0.32 $ 3.69 ====== ====== ====== See notes to consolidated financial statements. Consolidated Balance Sheets The St. Paul Companies December 31 (In millions) 1999 1998 ------- ------- ASSETS Investments: Fixed maturities $ 19,329 $ 20,444 Equities 1,618 1,259 Real estate and mortgage loans 1,504 1,507 Venture capital 866 571 Other investments 301 384 Securities lending 1,216 1,368 Short-term investments 1,373 965 ------- ------- Total investments 26,207 26,498 Cash 165 146 Asset management securities held for sale 45 107 Reinsurance recoverables: Unpaid losses 4,426 3,974 Paid losses 195 157 Ceded unearned premiums 641 288 Receivables: Underwriting premiums 2,334 2,085 Interest and dividends 358 354 Other 230 52 Deferred policy acquisition costs 959 878 Deferred income taxes 1,271 1,193 Office properties and equipment 507 510 Goodwill 509 592 Other assets 1,026 1,030 ------- ------- TOTAL ASSETS $ 38,873 $ 37,864 ======= ======= LIABILITIES Insurance reserves: Losses and loss adjustment expenses $ 17,934 $ 18,186 Future policy benefits 4,885 4,142 Unearned premiums 3,118 3,092 ------- ------- Total insurance reserves 25,937 25,420 Debt 1,466 1,260 Payables: Reinsurance premiums 654 291 Income taxes 319 221 Accrued expenses and other 1,156 1,225 Securities lending 1,216 1,368 Other liabilities 1,228 940 ------- ------- TOTAL LIABILITIES 31,976 30,725 ------- ------- Company-obligated mandatorily redeemable preferred securities of subsidiaries or trusts holding solely convertible subordinated debentures of the Company 425 503 SHAREHOLDERS' EQUITY Preferred: SOP convertible preferred stock 129 134 Guaranteed obligation - SOP (105) (119) ------- ------- TOTAL PREFERRED SHAREHOLDERS' EQUITY 24 15 ------- ------- Common: Common stock 2,079 2,128 Retained earnings 3,827 3,480 Accumulated other comprehensive income, net of taxes: Unrealized appreciation 568 1,027 Unrealized loss on foreign currency translation (26) (14) ------- ------- Total accumulated other comprehensive income 542 1,013 ------- ------- TOTAL COMMON SHAREHOLDERS' EQUITY 6,448 6,621 ------- ------- TOTAL SHAREHOLDERS' EQUITY 6,472 6,636 ------- ------- TOTAL LIABILITIES, REDEEMABLE PREFERRED SECURITIES OF SUBSIDIARIES OR TRUSTS AND AND SHAREHOLDERS' EQUITY $ 38,873 $ 37,864 ======= ======= See notes to consolidated financial statements. Consolidated Statements of Shareholders' Equity The St. Paul Companies Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ PREFERRED SHAREHOLDERS' EQUITY SOP convertible preferred stock: Beginning of year $ 134 $ 138 $ 142 Redemptions during the year (5) (4) (4) ------ ------ ------ End of year 129 134 138 ------ ------ ------ Guaranteed obligation - SOP: Beginning of year (119) (121) (126) Principal payments 14 2 5 ------ ------ ------ End of year (105) (119) (121) ------ ------ ------ Convertible preferred stock: Beginning of year - - 200 Redemptions during the year - - (200) ------ ------ ------ End of year - - - ------ ------ ------ TOTAL PREFERRED SHAREHOLDERS' EQUITY 24 15 17 ------ ------ ------ COMMON SHAREHOLDERS' EQUITY Common stock: Beginning of year 2,128 2,057 1,896 Stock issued under stock incentive plans 37 70 32 Stock issued for preferred shares redeemed 9 8 9 Stock issued for acquisitions - - 113 Reacquired common shares (102) (35) (14) Other 7 28 21 ------ ------ ------ End of year 2,079 2,128 2,057 ------ ------ ------ Retained earnings: Beginning of year 3,480 3,720 3,097 Net income 834 89 929 Dividends declared on common stock (235) (223) (186) Dividends declared on preferred stock, net of taxes (8) (9) (10) Reacquired common shares (254) (100) (114) Tax benefit on employee stock options, and other changes 14 6 8 Premium on preferred shares converted or redeemed (4) (3) (4) ------ ------ ------ End of year 3,827 3,480 3,720 ------ ------ ------ Guaranteed obligation - SOP: Beginning of year - (8) (20) Principal payments - 8 12 ------ ------ ------ End of year - - (8) ------ ------ ------ Unrealized appreciation, net of taxes: Beginning of year 1,027 846 679 Change for the year (459) 181 167 ------ ------ ------ End of year 568 1,027 846 ------ ------ ------ Unrealized loss on foreign currency translation, net of taxes: Beginning of year (14) (24) (21) Currency translation adjustments (12) 10 (3) ------ ------ ------ End of year (26) (14) (24) ------ ------ ------ TOTAL COMMON SHAREHOLDERS' EQUITY 6,448 6,621 6,591 ------ ------ ------ TOTAL SHAREHOLDERS' EQUITY $6,472 $6,636 $6,608 ====== ====== ====== Consolidated Statements of Comprehensive Income Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Net income $ 834 $ 89 $ 929 Other comprehensive income (loss), net of taxes: Change in unrealized appreciation (459) 181 167 Change in unrealized (loss) gain on foreign currency translation (12) 10 (3) ------ ------ ------ Other comprehensive income (loss) (471) 191 164 ------ ------ ------ COMPREHENSIVE INCOME $ 363 $ 280 $1,093 ====== ====== ====== See notes to consolidated financial statements. Consolidated Statements of Cash Flows The St. Paul Companies Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ OPERATING ACTIVITIES Net income $ 834 $ 89 $ 929 Adjustments: Loss (income) from discontinued operations (85) 110 133 Change in property-liability insurance reserves (142) (146) (159) Change in reinsurance balances (536) 25 14 Change in premiums receivable (286) 53 12 Change in accounts payable and accrued expenses 153 50 (15) Provision for deferred tax expense (benefit) 120 (114) 39 Change in asset management balances 31 (32) 154 Depreciation and amortization 130 133 108 Realized investment gains (277) (201) (423) Cumulative effect of accounting change 30 - - Other (13) 202 45 ------ ------ ------ NET CASH PROVIDED (USED) BY CONTINUING OPERATIONS (41) 169 837 NET CASH PROVIDED (USED) BY DISCONTINUED OPERATIONS (9) (100) 10 ------ ------ ------ NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES (50) 69 847 ------ ------ ------ INVESTING ACTIVITIES Purchases of investments (6,271) (4,901) (5,356) Proceeds from sales and maturities of investments 6,239 4,828 5,153 Purchases of short-term investments (546) (22) (181) Net proceeds from sale of standard personal insurance operations 251 - - Change in open security transactions 23 (8) 23 Venture capital distributions 63 50 30 Purchases of office property and equipment (176) (87) (142) Sales of office property and equipment 70 2 2 Acquisitions - (98) (236) Other 65 87 (27) ------ ------ ------ NET CASH USED BY CONTINUING OPERATIONS (282) (149) (734) NET CASH PROVIDED (USED) BY DISCONTINUED OPERATIONS (10) 80 (64) ------ ------ ------ NET CASH USED BY INVESTING ACTIVITIES (292) (69) (798) ------ ------ ------ FINANCING ACTIVITIES Deposits on universal life and investment contracts 934 518 460 Withdrawals on universal life and investment contracts (101) (186) (210) Dividends paid on common and preferred stock (246) (226) (199) Proceeds from issuance of debt 250 239 198 Repayment of debt (52) (225) (161) Repurchase of common shares (356) (135) (128) Issuance (retirement) of company-obligated mandatorily redeemable preferred securities of subsidiaries or trusts (79) - 196 Redemption of preferred shares - - (199) Stock options exercised and other 11 25 24 ------ ------ ------ NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES 361 10 (19) ------ ------ ------ INCREASE IN CASH 19 10 30 Cash at beginning of year 146 136 106 ------ ------ ------ CASH AT END OF YEAR $ 165 $ 146 $ 136 ====== ====== ====== See notes to consolidated financial statements. Notes to Consolidated Financial Statements The St. Paul Companies 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Accounting Principles - We prepare our financial statements in accordance with generally accepted accounting principles (GAAP). We follow the accounting standards established by the Financial Accounting Standards Board (FASB) and the American Institute of Certified Public Accountants. Consolidation - We combine our financial statements with those of our subsidiaries and present them on a consolidated basis. The consolidated financial statements do not include the results of material transactions between our parent company and our subsidiaries or among our subsidiaries. Our foreign underwriting operations' results are recorded on a one-month to one-quarter lag due to time constraints in obtaining and analyzing such results for inclusion in our consolidated financial statements on a current basis. In the event that significant events occur in the subsequent period, the impact is included in the current period results. Discontinued Operations - In 1999, we sold our standard personal insurance business. In December 1999, we decided to sell our nonstandard auto business. In 1997, we sold our insurance brokerage operations, Minet. Accordingly, the results of operations for all years presented reflect standard personal insurance results, nonstandard auto results and insurance brokerage results as discontinued operations. Reclassifications - We reclassified certain figures in our 1998 and 1997 financial statements and notes to conform with the 1999 presentation. These reclassifications had no effect on net income, or common or preferred shareholders' equity, as previously reported for those years. Use of Estimates - We make estimates and assumptions that have an effect on the amounts that we report in our financial statements. Our most significant estimates are those relating to our reserves for property-liability losses and loss adjustment expenses and life policy benefits. We continually review our estimates and make adjustments as necessary, but actual results could turn out significantly different than what we envisioned when we made these estimates. Stock Split - In May 1998, we declared a 2-for-1 stock split. All references in these financial statements and related notes to per- share amounts and to the number of shares of common stock reflect the effect of this stock split on all periods presented unless otherwise noted. ACCOUNTING FOR OUR PROPERTY-LIABILITY UNDERWRITING OPERATIONS Premiums Earned - Premiums on insurance policies are our largest source of revenue. We recognize the premiums as revenues evenly over the policy terms using the daily pro rata method or, in the case of our Lloyd's business, the one-eighths method. We record the premiums that we have not yet recognized as revenues as unearned premiums on our balance sheet. Assumed reinsurance premiums are recognized as revenues proportionately over the contract period. Premiums earned are recorded in our statement of income, net of our cost to purchase reinsurance. Insurance Losses and Loss Adjustment Expenses - Losses represent the amounts we paid or expect to pay to claimants for events that have occurred. The costs of investigating, resolving and processing these claims are known as loss adjustment expenses ("LAE"). We record these items on our statement of income net of reinsurance, meaning that we reduce our gross losses and loss adjustment expenses incurred by the amounts we have recovered or expect to recover under reinsurance contracts. We establish reserves for the estimated total unpaid cost of losses and LAE, which cover events that occurred in 1999 and prior years. These reserves reflect our estimates of the total cost of claims that were reported to us, but not yet paid, and the cost of claims incurred but not yet reported to us (IBNR). Our estimates consider such variables as past loss experience, current claim trends and the prevailing social, economic and legal environments. We reduce our loss reserves for estimated amounts of salvage and subrogation recoveries. Estimated amounts recoverable from reinsurers on unpaid losses and LAE are reflected as assets. We believe that the reserves we have established are adequate to cover the ultimate costs of losses and LAE. Final claim payments, however, may differ from the established reserves, particularly when these payments may not occur for several years. Any adjustments we make to reserves are reflected in the results for the year during which the adjustments are made. We participate in Lloyd's of London as an investor in underwriting syndicates and as the owner of a managing agency. We record our pro rata share of syndicate assets, liabilities, revenues and expenses, after making adjustments to convert Lloyd's accounting to U.S. GAAP. The most significant U.S. GAAP adjustments relate to income recognition. Lloyd's syndicates determine underwriting results by year of account at the end of three years. We record adjustments to recognize underwriting results as incurred, including the expected ultimate cost of losses incurred. These adjustments to losses are based on actuarial analysis of syndicate accounts, including forecasts of expected ultimate losses provided by the syndicates. Financial information is available on a timely basis for the syndicates controlled by the managing agency that we own, which make up the majority of the company's investment in Lloyd's syndicates. Syndicate results are recorded on a one-quarter lag due to time constraints in obtaining and analyzing such results for inclusion in our consolidated financial statements on a current basis. Our liabilities for unpaid losses and LAE related to tabular workers' compensation and certain assumed reinsurance coverage are discounted to the present value of estimated future payments. Prior to discounting, these liabilities totaled $820 million and $866 million at Dec. 31, 1999 and 1998, respectively. The total discounted liability reflected on our balance sheet was $608 million and $669 million at Dec. 31, 1999 and 1998, respectively. The liability for workers' compensation was discounted using rates of up to 3.5%, based on state-prescribed rates. The liability for certain assumed reinsurance coverage was discounted using rates up to 8.0%, based on our return on invested assets or, in many cases, on yields contractually guaranteed to us on funds held by the ceding company. Policy Acquisition Expenses - The costs directly related to writing an insurance policy are referred to as policy acquisition expenses and consist of commissions, state premium taxes and other direct underwriting expenses. Although these expenses arise when we issue a policy, we defer and amortize them over the same period as the corresponding premiums are recorded as revenues. On a regular basis, we perform an analysis of the deferred policy acquisition costs in relation to the expected recognition of revenues, including anticipated investment income, and reflect adjustments, if any, as period costs. ACCOUNTING CHANGE - GUARANTEE FUND AND OTHER INSURANCE-RELATED ASSESSMENTS Effective Jan. 1, 1999, we adopted the provisions of the American Institute of Certified Public Accountants (AICPA) Statement of Position (SOP) 97-3, "Accounting by Insurance and Other Enterprises for Insurance-Related Assessments." The SOP provides guidance for recognizing and measuring liabilities for guaranty fund and other insurance-related assessments. We recorded a pretax expense of $46 million ($30 million after-tax) in the first quarter of 1999 representing the cumulative effect of adopting the provisions of the SOP, with the majority related to our property-liability insurance business. The accrual is expected to be disbursed as assessed during a period of up to 30 years. ACCOUNTING FOR OUR LIFE INSURANCE OPERATIONS Premiums - Premiums on life insurance policies with fixed and guaranteed premiums and benefits, premiums on annuities with significant life contingencies and premiums on structured settlement annuities are recognized when due. Premiums received on universal life policies and investment-type annuity contracts are not recorded as revenues; instead, they are recognized as deposits on our balance sheet. Policy charges and surrender penalties are recorded as revenues. Policy Benefits - Ordinary life insurance reserves are computed under the net level premium method, which makes no allowance for higher first-year expenses. A uniform portion of each year's premium is used for calculating the reserve. The reserves also reflect assumptions we make for future investment yields, mortality and withdrawal rates. These assumptions reflect our experience, modified to reflect anticipated trends, and provide for possible adverse deviation. Reserve interest rate assumptions are graded and range from 2.5% to 6.0%. Universal life and deferred annuity reserves are computed on the retrospective deposit method, which produces reserves equal to the cash value of the contracts. Such reserves are not reduced for charges that would be deducted from the cash value of policies surrendered. Reserves on immediate annuities with guaranteed payments are computed on the prospective deposit method, which produces reserves equal to the present value of future benefit payments. Policy Acquisition Expenses - We consider anticipated policy benefits, remaining costs of servicing the policies and anticipated investment income in determining the recoverability of deferred acquisition costs for interest-sensitive life and annuity products. Deferred policy acquisition costs (DPAC) on ordinary life business are amortized over their assumed premium paying periods based on assumptions consistent with those used for computing policy benefit reserves. Universal life and investment annuity acquisition costs are amortized in proportion to the present value of their estimated gross profits over the products' assumed durations, which we regularly evaluate and adjust as appropriate. Equity-Indexed Annuities - Interest on our equity-indexed annuities is credited to the equity portion of these annuities annually based on an average change in a leading market index during the policy period, which is one or two years. The interest credited is subject to minimums guaranteed in the annuity contract. We hedge our exposure by purchasing one- and two-year options with similar terms as the index component to provide us with the same return as we guarantee to the annuity contract holder, subject to minimums guaranteed in the annuity contract. We carry a reserve on these annuities at an amount equal to the premium deposited, plus the change in the market value of the option purchased, subject to minimums guaranteed in the annuity contract, plus the amortization of the original purchase price of the option. The options are included in other investments at market value, with changes in unrealized gains or losses reflected in our statement of income. ACCOUNTING FOR OUR ASSET MANAGEMENT OPERATIONS The John Nuveen Company comprises our asset management segment. We held a 79% and 78% interest in Nuveen on Dec. 31, 1999 and 1998, respectively. Nuveen sponsors and markets open-end and closed-end (exchange-traded) managed funds, defined portfolios (unit investment trusts) and individual managed accounts. Nuveen regularly purchases and holds for resale municipal securities and defined portfolio units. The level of inventory maintained by Nuveen will fluctuate daily and is dependent upon the need to support on-going sales. These inventory securities are carried at market value. Prior to the sale of their investment banking operation in the third quarter of 1999, they also underwrote and traded municipal bonds. Nuveen's on-going revenues include investment advisory fees, revenues from the distribution of defined portfolios and managed fund investment products, interest income, gains and losses from the sale of inventory securities, and gains and losses from changes in the market value of investment products and securities held temporarily. We consolidate 100% of Nuveen's assets, liabilities, revenues and expenses, with reductions on the balance sheet and statement of income for the minority shareholders' proportionate interest in Nuveen's equity and earnings. Minority interest of $74 million and $67 million was recorded in other liabilities at the end of 1999 and 1998, respectively. Nuveen repurchased and retired 0.9 million and 0.7 million of its common shares in 1999 and 1998, respectively, for a total cost of $36 million in 1999 and $27 million in 1998. ACCOUNTING FOR OUR INVESTMENTS Fixed Maturities - Our entire fixed maturity investment portfolio is classified as available-for-sale. Accordingly, we carry that portfolio on our balance sheet at estimated fair value. Fair values are based on quoted market prices, where available, from a third- party pricing service. If quoted market prices are not available, fair values are estimated using values obtained from independent pricing services or a cash flow estimate is used. Equities - Our equity securities are also classified as available-for- sale and carried at estimated fair value. Fair values are based on quoted market prices obtained from a third-party pricing service. Real Estate and Mortgage Loans - Our real estate investments include apartments and office buildings and other commercial land and properties that we own directly or in which we have a partial interest through joint ventures with other investors. Our mortgage loan investments consist of fixed-rate loans collateralized by apartment, warehouse and office properties. For direct real estate investments, we carry land at cost and buildings at cost less accumulated depreciation and valuation adjustments. We depreciate real estate assets on a straight-line basis over 40 years. Tenant improvements are amortized over the term of the corresponding lease. The accumulated depreciation of our real estate investments was $125 million and $108 million at Dec. 31, 1999 and 1998, respectively. We use the equity method of accounting for our real estate joint ventures, which means we carry these investments at cost, adjusted for our share of earnings or losses, and reduced by cash distributions from the joint ventures and valuation adjustments. We carry our mortgage loans at the unpaid principal balances less any valuation adjustments, which approximates fair value. Valuation allowances are recognized for loans with deterioration in collateral performance that are deemed other than temporary. The estimated fair value of mortgage loans at Dec. 31, 1999 was $582 million. Venture Capital - We invest in small- to medium-sized companies. These investments are in the form of limited partnerships or direct ownership. The limited partnerships are carried at our equity in the estimated market value of the investments held by these limited partnerships. The investments we own directly are carried at estimated fair value. Fair values are based on quoted market prices obtained from a third-party pricing service for publicly-traded stock, or an estimate of value as determined by an internal management committee for privately-held stock. Restricted publicly- traded stock may be carried at a discount of 10-35% of the quoted market prices. Securities Lending - We participate in a securities lending program whereby certain securities from our portfolio are loaned to other institutions for short periods of time. We receive a fee from the borrower in return. Our policy is to require collateral equal to 102 percent of the fair value of the loaned securities. We maintain full ownership rights to the securities loaned. In addition, we have the ability to sell the securities while they are on loan. We have an indemnification agreement with the lending agents in the event a borrower becomes insolvent or fails to return securities. Realized Investment Gains and Losses - We record the cost of each individual investment so that when we sell any of them, we are able to identify and record the gain or loss on that transaction on our statement of income. We continually monitor the difference between the cost and estimated fair value of our investments. If any of our investments experience a decline in value that we believe is other than temporary, we establish a valuation allowance for the decline and record a realized loss on the statement of income. Unrealized Appreciation or Depreciation - For investments we carry at estimated fair value, we record the difference between cost and fair value, net of deferred taxes, as a part of common shareholders' equity. This difference is referred to as unrealized appreciation or depreciation. In our life insurance operations, deferred policy acquisition costs and certain reserves are adjusted for the impact on estimated gross margins as if the net unrealized gains and losses on securities had actually been realized. The change in unrealized appreciation or depreciation during the year is a component of comprehensive income. CASH RESTRICTIONS We have entered into reinsurance contracts with third parties which restrict cash in the amount of $31 million and $29 million at Dec. 31, 1999 and 1998, respectively. GOODWILL Goodwill is the excess of the amount we paid to acquire a company over the fair value of its net assets, reduced by amortization and any subsequent valuation adjustments. We amortize goodwill over periods of up to 40 years. The accumulated amortization of goodwill was $180 million and $137 million at Dec. 31, 1999 and 1998, respectively. IMPAIRMENT OF LONG-LIVED ASSETS AND INTANGIBLES We monitor the value of our long-lived assets to be held and used for recoverability based on our estimate of the future cash flows (undiscounted and without interest charges) expected to result from the use of the asset and its eventual disposition considering any events or changes in circumstances which indicate that the carrying value of an asset may not be recoverable. We monitor the value of our goodwill based on our estimates of discounted future earnings. If either estimate is less than the carrying amount of the asset, we reduce the carrying value to fair value with a corresponding charge to expenses. We monitor the value of our longed-lived assets, and certain identifiable intangibles, to be disposed of and report them at the lower of carrying value or fair value less our estimated cost to sell. OFFICE PROPERTIES AND EQUIPMENT We carry office properties and equipment at depreciated cost. We depreciate these assets on a straight-line basis over the estimated useful lives of the assets. The accumulated depreciation for office properties and equipment was $443 million and $390 million at the end of 1999 and 1998, respectively. ACCOUNTING CHANGE - INTERNALLY DEVELOPED SOFTWARE COSTS Effective Jan. 1, 1999, we adopted SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use," issued by the AICPA. This SOP provides guidance for determining when computer software developed or obtained for internal use should be capitalized. It also provides guidance on the amortization of capitalized costs and the recognition of impairment. At Dec. 31, 1999, we had $25 million in unamortized internally developed computer software costs and charged to income during 1999 $2 million of amortization expense. FOREIGN CURRENCY TRANSLATION We assign functional currencies to our foreign operations, which are generally the currencies of the local operating environment. Foreign currency amounts are remeasured to the functional currency, and the resulting foreign exchange gains or losses are reflected in the statement of income. Functional currency amounts are then translated into U.S. dollars. The unrealized gain or loss from this translation, net of tax, is recorded as a part of common shareholders' equity. The change in unrealized foreign currency translation gain or loss during the year, net of tax, is a component of comprehensive income. Both the remeasurement and translation are calculated using current exchange rates for the balance sheets and average exchange rates for the statements of income. FOREIGN CURRENCY HEDGE ACCOUNTING We may use forward contracts to hedge our exposure to net investments in our foreign operations from adverse movements in foreign currency exchange rates. The effects of movements in foreign currency exchange rates on the hedging instrument are recorded as unrealized gains or losses, net of tax, as part of common shareholders' equity. If unrealized gains or losses on the foreign currency hedge exceed the offsetting currency translation gain or loss on the investments in the foreign operations, they are included in the statements of income. SUPPLEMENTAL CASH FLOW INFORMATION Interest and Income Taxes Paid - We paid interest of $90 million in 1999, $71 million in 1998 and $81 million in 1997. We paid federal income taxes of $73 million in 1999, $68 million in 1998 and $99 million in 1997. Noncash Financing Activities - The John Nuveen Company issued $45 million of preferred stock in 1997 to fund a portion of its purchase of Flagship Resources, Inc. In December 1997, we issued $112 million of common stock in consideration for our acquisition of TITAN Holdings, Inc. Cash provided from operating activities in 1997 does not include a $104 million portion of a coinsurance contract purchased to cede certain structured settlement annuity obligations (see Note 16 "Reinsurance"). 2. ACQUISITIONS In December 1999, we announced that we had entered into a definitive agreement to acquire MMI Companies, Inc. (MMI), a Deerfield, IL-based provider of medical services-related insurance products and consulting services, in a purchase transaction. Under the terms of the merger agreement, MMI shareholders will have the right to receive $10 in cash for each common share. The total value of the transaction is expected to approximate $320 million, which includes the assumption of $120 million of MMI capital securities. The transaction is expected to close in the second quarter of 2000, subject to regulatory approvals. Also in December 1999, we announced that we had entered into a definitive agreement to acquire Pacific Select Insurance Holdings Inc., and its wholly-owned subsidiary Pacific Select Property Insurance Co., a Walnut Creek, CA insurer that sells earthquake coverage to California homeowners, in a purchase transaction. The purchase price is $37 million, subject to certain adjustments. The transaction is expected to close in the first quarter of 2000, subject to regulatory approvals. On April 24, 1998, we issued 66.5 million of its common shares in a tax-free exchange for all of the outstanding common stock of USF&G Corporation (USF&G), a holding company for property-liability and life insurance operations. This business combination was accounted for as a pooling of interests; accordingly, the consolidated financial statements for all periods prior to the combination were restated to include the accounts and results of operations of USF&G. There were no material intercompany transactions between The St. Paul and USF&G prior to the merger. Prior to the merger, USF&G discounted all of its workers' compensation reserves to present value, whereas The St. Paul did not discount any of its loss reserves. Subsequent to the merger, The St. Paul and USF&G on a combined basis discounted tabular workers' compensation reserves using an interest rate of up to 3.5%. An adjustment was made, which represented the net reduction in insurance losses and loss adjustment expenses, to conform the discounting policies of the two companies with regard to these reserves. In 1997, we acquired TITAN Holdings, Inc. (Titan), a property- liability insurance company located in San Antonio, Texas, for $259 million including assumed debt. Titan specializes in the non-standard automobile and government entities insurance markets. The transaction resulted in goodwill of approximately $151 million, which is being amortized over 40 years. The consideration paid included shares of our common stock, valued at approximately $112 million. See Note 14 for a discussion of the pending sale of this company. In 1997, The John Nuveen Company (Nuveen), our asset management segment, acquired Flagship Resources, Inc. (Flagship), a firm that manages the assets of both its sponsored and marketed family of mostly tax-free mutual funds and its private investment accounts, for a total cost of approximately $72 million, plus additional payments of as much as $20 million contingent upon meeting growth targets during the years 1997 through 2000. Actual contingent consideration through 1999 amounted to approximately $6 million. Nuveen also acquired Rittenhouse Financial Services, Inc. (Rittenhouse), an equity and balanced fund investment management firm, in 1997 for a total cost of approximately $147 million. The cost of these acquisitions was largely composed of goodwill of $213 million which is being amortized over 30 years. The Titan, Flagship and Rittenhouse acquisitions were accounted for as purchases. As a result, the acquired companies' results were included in our consolidated results from the date of purchase. 3. EARNINGS PER COMMON SHARE Earnings per common share (EPS) amounts are calculated based on the provisions of SFAS No. 128, "Earning Per Share." Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ BASIC Net income, as reported $ 834 $ 89 $ 929 Preferred stock dividends, net of taxes (8) (9) (10) Premium on preferred shares redeemed (4) (3) (4) ------ ------ ------ Net income available to common shareholders $ 822 $ 77 $ 915 ====== ====== ====== DILUTED Net income available to common shareholders $ 822 $ 77 $ 915 Effect of dilutive securities: Convertible preferred stock 6 - 6 Zero coupon convertible notes 3 - 3 Convertible monthly income preferred securities 8 - 8 ------ ------ ------ Net income available to common shareholders $ 839 $ 77 $ 932 ====== ====== ====== COMMON SHARES BASIC Weighted average common shares outstanding 228 235 230 ====== ====== ====== DILUTED Weighted average common shares outstanding 228 235 230 Effects of dilutive securities: Stock options 2 4 4 Convertible preferred stock 7 - 8 Zero coupon convertible notes 2 - 3 Convertible monthly income preferred securities 7 - 7 ------ ------ ------ Total 246 239 252 ====== ====== ====== The assumed conversion of preferred stock, zero coupon notes and monthly income preferred securities were each anti-dilutive to our net income per share for the year ended Dec. 31, 1998, and therefore not included in the EPS calculation. 4. INVESTMENTS Valuation of Investments - The following presents the cost, gross unrealized appreciation and depreciation, and estimated fair value of our investments in fixed maturities, equities and venture capital. Gross Gross December 31, 1999 Unrealized Unrealized Estimated (In millions) Cost Appreciation Depreciation Fair Value ------- ------------ ------------ ---------- Fixed maturities: U.S. government $ 2,174 $ 29 $ (16) $ 2,187 States and political subdivisions 5,336 145 (62) 5,419 Foreign governments 912 28 (6) 934 Corporate securities 7,999 45 (307) 7,737 Asset-backed securities 669 2 (21) 650 Mortgage-backed securities 2,452 14 (64) 2,402 ------- ------- ------- ------- Total fixed maturities 19,542 263 (476) 19,329 Equities 1,078 600 (60) 1,618 Venture capital 399 529 (62) 866 ------- ------- ------- ------- Total $21,019 $ 1,392 $ (598) $21,813 ======= ======= ======= ======= Gross Gross December 31, 1998 Unrealized Unrealized Estimated (In millions) Cost Appreciation Depreciation Fair Value ------- ------------ ------------ ---------- Fixed maturities: U.S. government $ 2,440 $ 188 $ - $ 2,628 States and political subdivisions 5,979 437 - 6,416 Foreign governments 900 70 (2) 968 Corporate securities 6,689 371 (26) 7,034 Asset-backed securities 661 26 (3) 684 Mortgage-backed securities 2,652 63 (1) 2,714 ------- ------- ------- ------- Total fixed maturities 19,321 1,155 (32) 20,444 Equities 942 361 (44) 1,259 Venture capital 389 201 (19) 571 ------- ------- ------- ------- Total $20,652 $ 1,717 $ (95) $22,274 ======= ======= ======= ======= Statutory Deposits - At Dec. 31, 1999, our property-liability and life insurance operations had investments in fixed maturities with an estimated fair value of $659 million on deposit with regulatory authorities as required by law. Fixed Maturities by Maturity Date - The following table presents the breakdown of our fixed maturities by years to maturity. Actual maturities may differ from those stated as a result of calls and prepayments. December 31, 1999 Amortized Estimated (In millions) Cost Fair Value --------- ---------- One year or less $ 1,044 $ 1,052 Over one year through five years 5,661 5,712 Over five years through 10 years 5,325 5,219 Over 10 years 4,391 4,294 Asset-backed securities with various maturities 669 650 Mortgage-backed securities with various maturities 2,452 2,402 --------- -------- Total $19,542 $19,329 ========= ======== 5. INVESTMENT TRANSACTIONS Investment Activity - Following is a summary of our investment purchases, sales and maturities. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ PURCHASES Fixed maturities $ 4,405 $ 3,187 $ 3,345 Equities 1,403 1,250 1,510 Real estate and mortgage loans 171 211 380 Venture capital 218 153 97 Other investments 74 100 24 ------ ------ ------ Total purchases 6,271 4,901 5,356 ====== ====== ====== PROCEEDS FROM SALES AND MATURITIES Fixed maturities: Sales 2,251 967 1,630 Maturities and redemptions 2,026 2,012 1,322 Equities 1,438 1,341 1,479 Real estate and mortgage loans 182 339 468 Venture capital 283 64 250 Other investments 59 105 4 ------ ------ ------ Total sales and maturities 6,239 4,828 5,153 ------ ------ ------ Net purchases $ 32 $ 73 $ 203 ====== ====== ====== Net Investment Income - Following is a summary of our net investment income. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Fixed maturities $ 1,375 $ 1,365 $ 1,400 Equities 17 16 17 Real estate and mortgage loans 108 121 113 Venture capital (1) - - Securities lending 2 1 1 Other investments 12 20 10 Short-term investments 71 75 58 ------ ------ ------ Total 1,584 1,598 1,599 Investment expenses (27) (27) (26) ------ ------ ------ Net investment income $ 1,557 $ 1,571 $ 1,573 ====== ====== ====== Realized and Unrealized Investment Gains (Losses) - The following summarizes our pretax realized investment gains and losses, and the change in unrealized appreciation of investments recorded in common shareholders' equity and in comprehensive income. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ PRETAX REALIZED INVESTMENT GAINS (LOSSES) Fixed maturities: Gross realized gains $ 13 $ 9 $ 36 Gross realized losses (50) (21) (43) ------ ------ ------ Total fixed maturities (37) (12) (7) ------ ------ ------ Equities: Gross realized gains 224 241 209 Gross realized losses (97) (77) (46) ------ ------ ------ Total equities 127 164 163 ------ ------ ------ Real estate and mortgage loans 27 14 45 Venture capital 158 25 213 Other investments 2 10 9 ------ ------ ------ Total pretax realized investment gains $ 277 $ 201 $ 423 ====== ====== ====== CHANGE IN UNREALIZED APPRECIATION Fixed maturities $(1,336) $ 203 $ 400 Equities 223 69 62 Venture capital net of minority interest 255 45 (155) Life deferred policy acquisition costs and policy benefits 122 (1) (21) Single premium immediate annuity reserves 44 (17) (27) Other (13) (17) (2) ------ ------ ------ Total change in pretax unrealized appreciation (705) 282 257 Change in deferred taxes 246 (101) (90) ------ ------ ------ Total change in unrealized appreciation, net of taxes $ (459) $ 181 $ 167 ====== ====== ====== 6. DEFERRED POLICY ACQUISITION COSTS The following table presents the amortization of deferred policy acquisition costs for our property-liability operations and our life operation for each of the last three years. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Property-liability $ 1,321 $ 1,431 $ 1,475 Life 4 56 12 ------ ------ ------ Total $ 1,325 $ 1,487 $ 1,487 ====== ====== ====== Included in the 1998 life insurance amortization is a $41 million charge to reduce the carrying value of deferred policy acquisition costs (DPAC), related to three components. First, the persistency of certain in-force business, particularly universal life and flexible premium annuities, sold through some USF&G distribution channels, had begun to deteriorate after the USF&G merger announcement. To mitigate this, management decided, in the second quarter of 1998, to increase credited rates on certain universal life business. This change lowered the estimated future profits on this business, which triggered $19 million in accelerated DPAC amortization. Second, the low interest rate environment during the first half of 1998 led to assumption changes as to the future "spread" on certain interest sensitive products, lowering gross profit expectations and triggering a $16 million DPAC charge. The remaining $6 million of the charge resulted from a change in annuitization assumptions for certain tax-sheltered annuity products. 7. DERIVATIVE FINANCIAL INSTRUMENTS Derivative financial instruments are defined as futures, forward, swap or option contracts and other financial instruments with similar characteristics. We have had limited involvement with these instruments for purposes of hedging against fluctuations in foreign currency exchange rates and interest rates. During 1999, we significantly increased our involvement with option contracts to hedge market indices, related to our Life operation's equity-indexed annuity product. All investments, including derivative instruments, have some degree of market and credit risk associated with them. However, the market risk on our derivatives substantially offsets the market risk associated with fluctuations in interest rates, foreign currency exchange rates and market indices. We seek to reduce our credit risk exposure by conducting derivative transactions only with reputable, investment-grade counterparties. Additionally, with respect to the options hedging our equity-indexed annuity product, we establish limits on options purchased from each counterparty. We enter into interest rate swap agreements for the purpose of managing the effect of interest rate fluctuations on some of our debt and investments. We purchase foreign exchange forward contracts to minimize the impact of fluctuating foreign currencies on our results of operations. Individually, and in the aggregate, the impact of these transactions on our financial position and results of operations is not material. We hedge our obligation to pay credited rates on equity-indexed annuity products by purchasing one- and two-year options tied to a leading market index. At Dec. 31, 1999, we held options with a notional amount of $906 million and a market value of $44 million, which had gross unrealized appreciation of $6 million and gross unrealized depreciation of $12 million. 8. RESERVES FOR LOSSES, LOSS ADJUSTMENT EXPENSES AND LIFE POLICY BENEFITS Reconciliation of Loss Reserves - The following table represents a reconciliation of beginning and ending consolidated property-liability insurance loss and loss adjustment expense (LAE) reserves for each of the last three years. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Loss and LAE reserves at beginning of year, as reported $ 18,186 $ 17,853 $ 17,582 Less reinsurance recoverables on unpaid losses at beginning of year (3,260) (3,051) (2,864) ------ ------ ------ Net loss and LAE reserves at beginning of year 14,926 14,802 14,718 Activity on reserves of discontinued operations: Losses incurred 438 822 672 Losses paid (626) (767) (734) ------ ------ ------ Net activity (188) 55 (62) ------ ------ ------ Net reserves of acquired companies - - 141 ------ ------ ------ Provision for losses and LAE for claims incurred on continuing operations: Current year 3,928 4,682 4,805 Prior years (208) (217) (716) ------ ------ ------ Total incurred 3,720 4,465 4,089 ------ ------ ------ Losses and LAE payments for claims incurred on continuing operations: Current year (959) (1,136) (1,065) Prior years (3,411) (3,245) (3,025) ------ ------ ------ Total paid (4,370) (4,381) (4,090) ------ ------ ------ Unrealized foreign exchange loss (gain) 73 (15) 6 ------ ------ ------ Net loss and LAE reserves at end of year 14,161 14,926 14,802 Plus reinsurance recoverables on unpaid losses at end of year 3,773 3,260 3,051 ------ ------ ------ Loss and LAE reserves at end of year, as reported $ 17,934 $ 18,186 $ 17,853 ====== ====== ====== The table above presents separately "activity on reserves of discontinued operations." These amounts represent incurred and paid losses for our nonstandard auto business, which is expected to be sold by the second quarter of 2000, and for certain activity related to the sale of our standard personal insurance business. These reserve balances are included in the above total reserves, but the related incurred losses are excluded from continuing operations in our statements of income for all periods presented. In 1998, we recorded pretax loss and LAE of $215 million to reflect the application of our loss reserving policies to USF&G's loss and LAE reserves subsequent to the merger. In the above table $50 million of the charge is reflected in the provision for current year losses and LAE, and the remaining $165 million is reflected in the provision for prior year losses and LAE. An additional charge of $35 million related to our standard personal insurance business is now reflected in 1998 discontinued operations. Prior to the merger, both companies, in accordance with generally accepted accounting principles, recorded their best estimate of reserves within a range of estimates bounded by a high point and a low point. Subsequent to the consummation of the merger in April 1998, we obtained the raw data underlying, and documentation supporting, USF&G's Dec. 31, 1997 reserve analysis. Our actuaries reviewed such information and concurred with the reasonableness of USF&G's range of estimates for their reserves. However, applying their judgment and interpretation to the range, our actuaries, who would be responsible for setting reserve amounts for the combined entity, concluded that strengthening the reserves would be appropriate, resulting in the $215 million adjustment. The adjustment was allocated to the following business segments: Commercial Lines Group ($197 million); and Specialty Commercial ($18 million). In 1996, we acquired Northbrook Holdings, Inc. and its three insurance subsidiaries (Northbrook) from Allstate Insurance Company. In the Northbrook purchase agreement, we agreed to pay Allstate additional consideration of up to $50 million in the event a redundancy develops on the acquired Northbrook reserves between the purchase date and July 31, 2000. Included in "Other liabilities" on our Dec. 31, 1999 balance sheet is an accrual for $50 million under this agreement. Life Benefit Reserves - The following table shows our life insurance operation's future policy benefit reserves by type. December 31 (In millions) 1999 1998 ------ ------ Single premium annuities: Deferred $ 2,041 $ 1,366 Immediate 1,173 1,119 Other annuities 1,052 1,032 Universal/term/group life 619 625 ------ ------ Gross balance 4,885 4,142 Less reinsurance recoverables 653 714 ------ ------ Total net reserves $ 4,232 $ 3,428 ====== ====== Environmental and Asbestos Reserves - Our underwriting operations continue to receive claims under policies written many years ago alleging injury or damage from environmental pollution or seeking payment for the cost to clean up polluted sites. We have also received asbestos injury claims arising out of product liability coverages under general liability policies. The following table summarizes the environmental and asbestos reserves reflected in our consolidated balance sheet at Dec. 31, 1999 and 1998. Amounts in the "net" column are reduced by reinsurance. December 31 1999 1998 (In millions) Gross Net Gross Net ----- ----- ----- ----- Environmental $ 698 $ 599 $ 783 $ 645 Asbestos 398 298 402 277 ----- ----- ----- ----- Total environmental and asbestos reserves $1,096 $ 897 $1,185 $ 922 ===== ===== ===== ===== 9. INCOME TAXES Method for Computing Income Tax Expense (Benefit) - We are required to compute our income tax expense under the liability method. This means deferred income taxes reflect what we estimate we will pay or receive in future years. A current tax liability is recognized for the estimated taxes payable for the current year. Income Tax Expense (Benefit) - Income tax expense or benefits are recorded in various places in our financial statements. A summary of the amounts and places follows: Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ STATEMENTS OF INCOME Expense (benefit) on continuing operations $ 238 $ (79) $ 371 Benefit on operating loss of discontinued operations (4) (57) (32) Expense (benefit) on gain or loss on disposal 90 - (36) ------ ------ ------ Total income tax expense (benefit) included in statements of income 324 (136) 303 ------ ------ ------ COMMON SHAREHOLDERS' EQUITY Expense (benefit) relating to stock-based compensation and the change in unrealized appreciation and unrealized foreign exchange (253) 87 78 ------ ------ ------ Total income tax expense (benefit) included in financial statements $ 71 $ (49) $ 381 ====== ====== ====== Components of Income Tax Expense (Benefit) - The components of income tax expense (benefit) on continuing operations are as follows: Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Federal current tax expense $ 105 $ 13 $ 298 Federal deferred tax expense (benefit) 120 (114) 39 ------ ------ ------ Total federal income tax expense (benefit) 225 (101) 337 Foreign income taxes 2 14 19 State income taxes 11 8 15 ------ ------ ------ Total income tax expense (benefit) on continuing operations $ 238 $ (79) $ 371 ====== ====== ====== Our Tax Rate is Different from the Statutory Rate - Our total income tax expense on income from continuing operations differs from the statutory rate of 35% of income from continuing operations before income taxes as shown in the following table: Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Federal income tax expense at statutory rate $ 356 $ 42 $ 502 Increase (decrease) attributable to: Nontaxable investment income (103) (112) (112) Valuation allowance 2 (35) (32) Nondeductible merger expense - 31 - Other (17) (5) 13 ------ ------ ------ Total income tax expense (benefit) on continuing operations $ 238 $ (79) $ 371 ====== ====== ====== Major Components of Deferred Income Taxes on Our Balance Sheet - Differences between the tax basis of assets and liabilities and their reported amounts in the financial statements that will result in taxable or deductible amounts in future years are called temporary differences. The tax effects of temporary differences that give rise to the deferred tax assets and deferred tax liabilities are presented in the following table: December 31 (In millions) 1999 1998 ------ ------ DEFERRED TAX ASSETS Loss reserves $ 1,036 $ 1,048 Unearned premium reserves 152 181 Alternative minimum tax credit carryforwards 168 117 Net operating loss carryforwards 232 460 Deferred compensation 115 118 Other 548 505 ------ ------ Total gross deferred tax assets 2,251 2,429 Less valuation allowance (8) (6) ------ ------ Net deferred tax assets 2,243 2,423 ------ ------ DEFERRED TAX LIABILITIES Unrealized appreciation of investments 294 536 Deferred acquisition costs 286 278 Real estate 135 115 Prepaid compensation 73 56 Other 184 245 ------ ------ Total gross deferred tax liabilities 972 1,230 ------ ------ Deferred income taxes $ 1,271 $ 1,193 ====== ====== If we believe that all of our deferred tax assets will not result in future tax benefits, we must establish a "valuation allowance" for the portion of these assets that we think will not be realized. The net change in the valuation allowance for deferred tax assets was an increase of $2 million in 1999, and a decrease of $35 million in 1998, relating to our foreign underwriting operations and our provision for loss on disposal of insurance brokerage operations. Based upon a review of our anticipated future earnings and all other available evidence, both positive and negative, we have concluded it is "more likely than not" that our net deferred tax assets will be realized. Net Operating Loss (NOL) and Foreign Tax Credit (FTC) Carryforwards - For tax return purposes, as of Dec. 31, 1999, we have NOL carryforwards that expire, if unused, in 2004-2019 and FTC carryforwards that expire, if unused, in 2001-2003. The amount and timing of realizing the benefits of NOL and FTC carryforwards depends on future taxable income and limitations imposed by tax laws. The approximate amounts of those NOLs on a regular tax basis and an alternative minimum tax (AMT) basis were $662 million and $342 million, respectively. The approximate amounts of the FTCs on a regular tax basis and an AMT basis were $61 million and $54 million, respectively. The benefits of the NOL and FTC carryforwards have been recognized in our financial statements. Undistributed Earnings of Subsidiaries - U.S. income taxes have not been provided on $58 million of our foreign operations' undistributed earnings as of Dec. 31, 1999, as such earnings are intended to be permanently reinvested in those operations. Furthermore, any taxes paid to foreign governments on these earnings may be used as credits against the U.S. tax on any dividend distributions from such earnings. We have not provided taxes on approximately $240 million of undistributed earnings related to our majority ownership of The John Nuveen Company as of Dec. 31, 1999, because we currently do not expect those earnings to become taxable to us. IRS Examinations - The IRS is currently examining USF&G's pre-merger consolidated returns for the years 1992 through 1997. The IRS has examined The St. Paul's pre-merger consolidated returns through 1994 and is currently examining the years 1995 through 1997. We believe that any additional taxes assessed as a result of these examinations would not materially affect our overall financial position, results of operations or liquidity. 10. CAPITAL STRUCTURE The following summarizes our capital structure: December 31 (In millions) 1999 1998 ------ ------ Debt $ 1,466 $ 1,260 Company-obligated mandatorily redeemable preferred securities of subsidiaries or trusts holding solely convertible subordinated debentures of the Company 425 503 Preferred shareholders' equity 24 15 Common shareholders' equity 6,448 6,621 ------ ------ Total capital $ 8,363 $ 8,399 ====== ====== Ratio of debt to total capital 18% 15% ====== ====== DEBT Debt consists of the following: 1999 1998 December 31 Book Fair Book Fair (In millions) Value Value Value Value ------ ------ ------ ------ Medium-term notes $ 617 $ 598 $ 637 $ 675 Commercial paper 400 400 257 257 8-3/8% senior notes 150 153 150 160 Zero coupon convertible notes 94 93 111 118 7-1/8% senior notes 80 78 80 86 Variable rate borrowings 64 64 - - Floating rate notes 46 46 - - Real estate mortgages 15 15 15 16 Nuveen short-term borrowings - - 10 10 ------ ------ ------ ------ Total debt $ 1,466 $ 1,447 $ 1,260 $ 1,322 ====== ====== ====== ====== Fair Value - The fair values of our commercial paper and short-term borrowings approximate their book values because of their short-term nature. The fair values of our variable rate borrowings and floating rate notes approximate their book values due to the floating interest rates of these instruments. For our other debt, which has longer terms and fixed interest rates, our fair value estimate is based on current interest rates available on debt securities in the market that have terms similar to ours. Medium-Term Notes - The medium-term notes bear interest rates ranging from 5.9% to 8.3%, with a weighted average rate of 6.9%. Maturities range from five to 15 years after the issuance date. During 1998, we issued $150 million of medium-term notes bearing a weighted average interest rate of 6.4%. Commercial Paper - Our commercial paper is supported by a $400 million credit agreement that expires in 2002. The credit agreement requires us to meet certain provisions. We were in compliance with all provisions of the agreement as of Dec. 31, 1999 and 1998. Interest rates on commercial paper issued in 1999 ranged from 4.6% to 6.6%; in 1998 the range was 4.5% to 6.3%; and in 1997 the range was 5.2% to 6.8%. 8-3/8% Senior Notes - The 8-3/8% senior notes mature in 2001. Zero Coupon Convertible Notes - The zero coupon convertible notes are redeemable beginning in 1999 for an amount equal to the original issue price plus accreted original issue discount. In addition, on March 3, 1999 and March 3, 2004, the holders of the zero coupon convertible notes had/have the right to require us to purchase their notes for the price of $640.82 and $800.51, respectively, per $1,000 of principal amount due at maturity. In 1999, we repurchased approximately $34 million face amount of the zero coupon convertible notes, for a total cash consideration of $21 million. These notes mature in 2009. 7-1/8% Senior Notes - The 7-1/8% senior notes mature in 2005. Variable Rate Borrowings - A number of The St. Paul's real estate entities are parties to variable rate loan agreements aggregating $64 million. The borrowings mature in the year 2030, with principal paydowns starting in the year 2006. The interest rate is set weekly by a third party, and was 5.65% at Dec. 31, 1999. Floating Rate Notes - A special purpose offshore subsidiary of The St. Paul is a party to a reinsurance agreement under which it issued $46 million of floating rate notes and certificates due Feb. 18, 2000. The proceeds from this issuance were used to purchase investments in accordance with underlying agreements. The sale of these investments prior to Feb. 18, 2000 is restricted by the reinsurance agreement. The weighted average interest rate on the notes and certificates was 11.36% at Dec. 31, 1999. Real Estate Mortgages - The real estate mortgages represent a portion of the purchase price of two of our investments. One $13 million mortgage bears a fixed interest rate of 6.7% and matures in November 2000. A second $2 million mortgage bears a fixed rate of 8.1% and matures in February 2002. Nuveen Short-Term Borrowings - Short-term borrowings at the end of 1998 were obligations of our asset management segment that were collateralized by some of its inventory securities. These borrowings bore a weighted average interest rate of 6.3% at Dec. 31, 1998. Interest Expense - Our interest expense was $96 million in 1999, $75 million in 1998 and $86 million in 1997. Maturities - The amount of debt, other than commercial paper, that becomes due in each of the next five years is as follows: 2000, $59 million; 2001, $195 million; 2002, $51 million; 2003, $67 million; and 2004, $55 million. COMPANY-OBLIGATED MANDATORILY REDEEMABLE PREFERRED SECURITIES OF SUBSIDIARIES OR TRUSTS HOLDING SOLELY CONVERTIBLE SUBORDINATED DEBENTURES OF THE COMPANY In 1995, we issued, through St. Paul Capital L.L.C. (SPCLLC), 4,140,000 company-obligated mandatorily redeemable preferred securities, generating proceeds of $207 million. These securities are also known as convertible monthly income preferred securities (MIPS). The MIPS pay a monthly dividend at an annual rate of 6% of the liquidation preference of $50 per security. We directly or indirectly own all of the common securities of SPCLLC, a special purpose limited liability company which was formed for the sole purpose of issuing the MIPS. We have effectively fully and unconditionally guaranteed SPCLLC's obligations under the MIPS. The MIPS are convertible into 1.6950 shares of our common stock (equivalent to a conversion price of $29.50 per share). The MIPS were redeemable after May 31, 1999, at the option of SPCLLC. In 1997 and 1996, USF&G issued three series of capital securities. After consummation of the merger with USF&G in 1998, The St. Paul assumed all obligations relating to these capital securities. These Series A, Series B and Series C Capital Securities were issued through separate wholly-owned business trusts (USF&G Capital I, USF&G Capital II and UF&G Capital III, respectively) formed for the sole purpose of issuing the securities. We have effectively fully and unconditionally guaranteed all obligations of the three business trusts. In December 1996, USF&G Capital I issued 100,000 shares of 8.5% Series A Capital Securities, generating proceeds of $100 million. The proceeds were used to purchase $100 million of USF&G Corporation 8.5% Series A subordinated debentures, which mature on Dec. 15, 2045. The debentures are redeemable under certain circumstances related to tax events at a price of $1,000 per debenture. The proceeds of such redemptions will be used to redeem a like amount of the Series A Capital Securities. In January 1997, USF&G Capital II issued 100,000 shares of 8.47% Series B Capital Securities, generating proceeds of $100 million. The proceeds were used to purchase $100 million of USF&G Corporation 8.47% Series B subordinated debentures, which mature on Jan. 10, 2027. The debentures are redeemable at our option at any time beginning in January 2007 at scheduled redemption prices ranging from $1,042 to $1,000 per debenture. The debentures are also redeemable prior to January 2007 under certain circumstances related to tax and other special events. The proceeds of such redemptions will be used to redeem a like amount of the Series B Capital Securities. In July 1997, USF&G Capital III issued 100,000 shares of 8.312% Series C Capital Securities, generating proceeds of $100 million. The proceeds were used to purchase $100 million of USF&G Corporation 8.312% Series C subordinated debentures, which mature on July 1, 2046. The debentures are redeemable under certain circumstances related to tax events at a price of $1,000 per debenture. The proceeds of such redemptions will be used to redeem a like amount of the Series C Capital Securities. Under certain circumstances related to tax events, we have the right to shorten the maturity dates of the Series A, Series B and Series C debentures to no earlier than June 24, 2016, July 10, 2016 and April 8, 2012, respectively, in which case the stated maturities of the related Capital Securities will likewise be shortened. During 1999, The St. Paul repurchased and retired approximately $79 million (principal amount) of its company-obligated mandatorily redeemable preferred securities of subsidiaries in open market transactions. The amount retired included $27 million of 8.5% Series A, $22 million of 8.47% Series B, and $30 million of 8.312% Series C securities. PREFERRED SHAREHOLDERS' EQUITY The preferred shareholders' equity on our balance sheet represents the par value of preferred shares outstanding that we issued to our Stock Ownership Plan (SOP) Trust, less the remaining principal balance on the SOP Trust debt. The SOP Trust borrowed funds from a U.S. underwriting subsidiary to finance the purchase of the preferred shares, and we guaranteed the SOP debt. The SOP Trust may at any time convert any or all of the preferred shares into shares of our common stock at a rate of eight shares of common stock for each preferred share. Our board of directors has reserved a sufficient number of our authorized common shares to satisfy the conversion of all preferred shares issued to the SOP Trust and the redemption of preferred shares to meet employee distribution requirements. Upon the redemption of preferred shares, we issue shares of our common stock to the trust to fulfill the redemption obligations. During the first half of 1997, we redeemed all of the remaining outstanding shares of USF&G's Series A Preferred Stock for $200 million cash. COMMON SHAREHOLDERS' EQUITY Common Stock and Reacquired Shares - We are governed by the Minnesota Business Corporation Act. All authorized shares of voting common stock have no par value. Shares of common stock reacquired are considered unissued shares. The number of authorized shares of the company is 480 million. Our cost for reacquired shares in 1999, 1998 and 1997 was $356 million, $135 million and $128 million, respectively. We reduced our capital stock account and retained earnings for the cost of these repurchases. In December 1997, we issued approximately 2.9 million shares of common stock valued at $112 million as partial consideration for our acquisition of Titan. Also in 1997, we issued 40,976 shares of our common stock valued at $1.7 million, as partial consideration for our acquisition of a Lloyd's of London managing agency. A summary of our common stock activity for the last three years is as follows: Year ended December 31 (Shares) 1999 1998 1997 ------ ------ ------ Outstanding at beginning of year 233,749,778 233,129,721 230,851,306 Shares issued: Stock incentive plans 1,896,229 4,243,354 1,501,532 Conversion of preferred stock 287,951 204,765 1,223,571 Acquisition 27,936 - 2,918,396 Reacquired shares (11,131,000) (3,828,062) (3,365,084) ------------ ----------- ----------- Outstanding at end of year 224,830,894 233,749,778 233,129,721 ============ =========== =========== Undesignated Shares - Our articles of incorporation allow us to issue five million undesignated shares. The board of directors may designate the type of shares and set the terms thereof. The board designated 1,450,000 shares as Series B Convertible Preferred Stock in connection with the formation of our Preferred Stock Ownership Plan. Shareholder Protection Rights Plan - Our Shareholder Protection Rights Plan, entered into on Dec. 19, 1989, was designed to protect the interests of our shareholders in the event of unsolicited and unfair or coercive attempts to acquire control of the company. Our shareholders owned one right for each common share owned, which enabled them to initiate specified actions to protect their interests. The agreement governing the Rights expired on Dec. 19, 1999. Dividend Restrictions - We primarily depend on dividends from our subsidiaries to pay dividends to our shareholders, service our debt and pay expenses. Various state laws and regulations limit the amount of dividends we may receive from our U.S. property-liability underwriting subsidiaries and our life insurance subsidiary. In 2000, $484 million will be available for dividends free from such restrictions. During 1999, we received cash dividends of $294 million from our U.S. underwriting subsidiaries. 11. RETIREMENT PLANS Pension Plans - We maintain funded defined benefit pension plans for most of our employees. Benefits are based on years of service and the employee's compensation while employed by the company. Pension benefits generally vest after five years of service. Our pension plans are noncontributory. This means that employees do not pay anything into the plans. Our funding policy is to contribute amounts sufficient to meet the minimum funding requirements of the Employee Retirement Income Security Act and any additional amounts that may be necessary. This may result in no contribution being made in a particular year. Plan assets are invested primarily in equities and fixed maturities, and included 804,035 shares of our common stock with a market value of $27 million and $28 million at Dec. 31, 1999 and 1998, respectively. We maintain non-contributory, unfunded pension plans to provide certain company employees with pension benefits in excess of limits imposed by federal tax law. Postretirement Benefits Other Than Pension - We provide certain health care and life insurance benefits for retired employees and their eligible dependents. We currently anticipate that most of our employees will become eligible for these benefits if they retire while working for us. The cost of these benefits is shared with the retiree. The benefits are generally provided through our employee benefits trust, to which periodic contributions are made to cover benefits paid during the year. We accrue postretirement benefits expense during the period of the employee's service. A health care inflation rate of 6.25% was assumed to change to 5.82% in 2000, decrease annually to 5.00% in 2002 and then remain at that level. A one-percentage-point change in assumed health care cost trend rates would have the following effects: 1-Percentage 1-Percentage (In millions) Point Increase Point Decrease -------------- -------------- Effect on total of service and interest cost components $ 4 $ (3) Effect on postretirement benefit obligation 24 (20) The following tables provide a reconciliation of the changes in the plans' benefit obligations and fair value of assets over the two-year period ended Dec. 31, 1999, and a statement of the funded status as of Dec. 31, of 1999 and 1998. For the year ended Dec. 31, 1999, the plans' benefit obligations include the impact of curtailment gains related to employee terminations under the third quarter 1999 cost reduction action and the sale of standard personal insurance. Pension Benefits Postretirement Benefits (In millions) 1999 1998 1999 1998 ------ ------ ------ ------ Change in benefit obligation: Benefit obligation at beginning of year $ 1,006 $ 846 $ 214 $ 192 Service cost 38 31 8 6 Interest cost 60 58 14 13 Plan amendment - - 16 - Actuarial (gain) loss (197) 113 (37) 15 Benefits paid (100) (42) (9) (12) Curtailment gain (30) - (17) - ------ ------ ------ ------ Benefit obligation at end of year $ 777 $ 1,006 $ 189 $ 214 ------ ------ ------ ------ Change in plan assets: Fair value of plan assets at beginning of year $ 1,135 $ 953 $ 22 $ 19 Actual return on plan assets 187 176 (2) 3 Employer contribution 4 48 9 12 Benefits paid (100) (42) (9) (12) ------ ------ ------ ------ Fair value of plan assets at end of year $ 1,226 $ 1,135 $ 20 $ 22 ------ ------ ------ ------ Funded status $ 449 $ 129 $ (169) $ (192) Unrecognized transition asset (3) (5) - - Unrecognized prior service cost (7) (13) 10 (4) Unrecognized net actuarial (gain) loss (208) 65 (22) 12 ------ ------ ------ ------ Prepaid (accrued) benefit cost $ 231 $ 176 $ (181) $ (184) ====== ====== ====== ====== Pension Benefits Postretirement Benefits 1999 1998 1999 1998 ------ ------ ------ ------ Weighted average assumptions as of December 31: Discount rate 7.25% 6.25% 7.50% 6.50% Expectred return on plan assets 10.00% 10.00% 8.00% 8.00% Rate of compensation increase 4.00% 4.00% 4.00% 4.00% The following table provides the components of our net periodic benefit cost for the years ended Dec. 31, 1999, 1998 and 1997: Pension Benefits Postretirement Benefits (In millions) 1999 1998 1997 1999 1998 1997 ----- ----- ----- ----- ----- ----- Components of net periodic benefit cost: Service cost $ 38 $ 31 $ 28 $ 8 $ 6 $ 6 Interest cost 60 58 57 14 13 13 Expected return on plan assets (114) (98) (71) (2) (2) (2) Amortization of transition asset (1) (2) (2) - - - Amortization of prior service cost (4) (4) (4) 1 - - Recognized net actuarial loss (gain) - 6 7 - - - ----- ----- ----- ----- ----- ----- Net periodic benefit cost (income) (21) (9) 15 21 17 17 Curtailment gain (32) - (8) (15) - (6) ----- ----- ----- ----- ----- ----- Net periodic benefit cost (income) after curtailment $ (53) $ (9) $ 7 $ 6 $ 17 $ 11 ===== ===== ===== ===== ===== ===== STOCK OWNERSHIP PLAN As of Jan. 1, 1998, the Preferred Stock Ownership Plan (PSOP) and the Employee Stock Ownership Plan (ESOP) were merged into The St. Paul Companies, Inc. Stock Ownership Plan (SOP). The plan allocates preferred shares semiannually to those employees participating in our Savings Plus Plan. Under the former PSOP, the match was 60% of employees' contributions up to a maximum of 6% of their salary. This match has been enhanced to 100% of employees' contributions up to a maximum of 4% of their salary plus shares equal to the value of dividends on previously allocated shares. Additionally, this plan now provides an annual allocation to qualified U.S. employees based on company performance. To finance the preferred stock purchase for future allocation to qualified employees, the SOP (formerly the PSOP) borrowed $150 million at 9.4% from our U.S. underwriting subsidiary. As the principal and interest of the trust's loan is paid, a pro rata amount of our preferred stock is released for allocation to participating employees. Each share pays a dividend of $11.72 annually and is currently convertible into eight shares of common stock. Preferred stock dividends on all shares held by the trust are used to pay this SOP obligation. In addition to dividends paid to the trust, we make additional cash contributions to the SOP as necessary in order to meet the SOP's debt obligation. The SOP (formerly the ESOP) borrowed funds to finance the purchase of common stock for future allocation to qualified participating U.S. employees. The final principal payment on the trust's loan was made in the first quarter of 1998. As the principal of the trust loan was paid, a pro rata amount of our common stock was released for allocation to eligible participants. The final allocation was made as of Dec. 31, 1997. Common stock dividends on all shares held by the trust were used to pay this SOP obligation. In addition to dividends paid to the trust, we made additional cash contributions as necessary in order to meet the SOP's debt obligation. Starting in the second quarter of 1998 common stock dividends on shares allocated under the former ESOP are paid directly to participants. All common shares and the common stock equivalent of all preferred shares held by the SOP are considered outstanding for diluted EPS computations and dividends paid on all shares are charged to retained earnings. Our SOP expense was reduced by the dividends we paid to the SOP trust that were used to pay the SOP debt obligations. We follow the provisions of Statement of Position 76-3, "Accounting Practices for Certain Employee Stock Ownership Plans," and related interpretations in accounting for this plan. We recorded expense of $26 million, $8 million and $17 million for the years 1999, 1998 and 1997, respectively. The following table details the shares held in the SOP: December 31 1999 1998 (Shares) Common Preferred Common Preferred -------- ---------- -------- ---------- Allocated 6,578,570 370,122 7,250,535 324,938 Committed to be released - 130,896 - 27,809 Unallocated - 393,248 - 577,132 --------- -------- --------- -------- Total 6,578,570 894,266 7,250,535 929,879 ========= ======== ========= ======== The SOP allocated 183,884 preferred shares in 1999, 53,949 preferred shares in 1998 and 41,810 preferred shares in 1997. The remaining unallocated preferred shares at Dec. 31, 1999, will be released for allocation annually through Jan. 31, 2005. The SOP (formerly ESOP) made its final allocation in 1997 totaling 1,207,254 common shares. 12. STOCK INCENTIVE PLANS We have made fixed stock option grants to certain U.S.-based company management and outside directors. We also have made separate fixed option grants to certain employees of our non-U.S. operations. These plans are referred to as "fixed plans" because the measurement date for determining compensation costs is fixed on the date of grant. In 1999 and 1997, we also made variable stock option grants to certain company executives. These were considered "variable" grants because the measurement date is contingent upon future increases in the market price of our common stock. At the end of 1999, approximately 3,400,000 shares remained available for grant under our stock incentive plan. We follow the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations in accounting for our stock option plans. We also follow the disclosure provisions of SFAS No. 123, "Accounting for Stock-Based Compensation" for our option plans. SFAS No. 123 requires pro forma net income and earnings per share information, which is calculated assuming we had accounted for our stock option plans under the "fair value" method described in that Statement. Since the exercise price of our fixed options equals the market price of our stock on the day the options are granted there is no related compensation cost. We have recorded compensation cost associated with our variable options and restricted stock awards, and the former USF&G's Long-Term Incentive Program, of $8 million, $10 million and $18 million in 1999, 1998 and 1997, respectively. In connection with the USF&G merger, The St. Paul assumed USF&G's obligations under four stock option plans and its Long-Term Incentive Plan. Exercise prices were based on the fair market value of USF&G's common stock on the date of grant. As a result of the merger, all outstanding options under the stock option plans were vested and converted into options to acquire The St. Paul's common stock. FIXED OPTION GRANTS U.S.-Based Plans - Our fixed option grants for certain U.S.-based company management and outside directors give these individuals the right to buy our stock at the market price on the day the options were granted. Fixed stock options granted under the stock incentive plan adopted by our shareholders in May 1994 become exercisable no less than one year after the date of grant and may be exercised up to ten years after grant date. Options granted under our option plan in effect prior to May 1994 may be exercised at any time up to 10 years after the grant date. Non-U.S. Plans - We also have separate stock option plans for certain employees of our non-U.S. operations. The options granted under these plans were priced at the market price of our common stock on the grant date. Generally, they can be exercised from three to 10 years after the grant date. Approximately 142,000 option shares remained available at Dec. 31, 1999 for future grants under our non-U.S. plans. The following table summarizes the activity for our fixed option plans for the last three years. All grants were made at fair value on the date of grant. Weighted Average Option Shares Exercise Price -------------- ---------------- Outstanding Jan. 1, 1997 11,880,795 $ 22.60 Granted 3,353,133 34.38 Exercised (2,133,788) 20.07 Canceled (557,329) 31.77 ----------- ------- Outstanding Dec. 31, 1997 12,542,811 25.76 Granted 3,693,511 42.65 Exercised (3,663,620) 23.04 Canceled (1,428,810) 37.23 ----------- ------- Outstanding Dec. 31, 1998 11,143,892 30.78 Granted 3,531,418 30.16 Exercised (1,578,903) 22.63 Canceled (1,033,435) 39.07 ----------- ------- 12,062,972 $ 30.96 =========== ======= The following table summarizes the options exercisable at the end of the last three years and the weighted average fair value of options granted during those years. The fair value of options is estimated on the date of grant using the Black-Scholes option-pricing model, with the following weighted-average assumptions used for grants in 1999, 1998 and 1997, respectively: dividend yield of 2.8%, 3.0% and 2.1%; expected volatility of 23.8%, 18.9% and 20.1%; risk-free interest rates of 5.3%, 5.6% and 6.5%; and an expected life of 6.5 years, 5.9 years and 5.4 years. 1999 1998 1997 ------ ------ ------ Options exercisable at year-end 7,940,793 8,078,734 8,174,128 Weighted average fair value of options granted during the year $ 7.59 $ 8.91 $ 8.88 The following tables summarize the status of fixed stock options outstanding and exercisable at Dec. 31, 1999: Options Outstanding - -------------------------------------------------------------------------- Weighted Average Range of Number of Remaining Weighted Average Exercise Prices Options Contractual Life Exercise Price - --------------- --------- ---------------- ---------------- $11.13-24.28 2,303,610 3.2 years $ 19.73 24.38-29.00 2,251,819 5.6 years 25.98 29.19-30.19 3,053,116 9.2 years 29.93 30.48-42.94 2,175,688 7.6 years 35.76 43.13-50.76 2,278,739 8.1 years 44.02 - ------------ ---------- ---------- -------- $11.13-50.76 12,062,972 6.9 years $ 30.96 ============ ========== ========== ======== Options Exercisable - -------------------------------------------------------------------------- Range of Weighted Average Exercise Prices Option Shares Exercise Price - --------------- ------------- ---------------- $11.13-24.28 2,303,610 $ 19.73 24.38-29.00 2,251,819 25.98 29.19-30.19 3,666 29.81 30.48-42.94 1,631,188 35.85 43.13-50.76 1,750,510 43.73 - ------------ ---------- ------ $11.13-50.76 7,940,793 $ 30.11 ============ ========== ====== VARIABLE STOCK OPTION GRANT In 1999 and 1997, we made variable option grants of 375,000 and 316,200 shares, respectively, from our 1994 stock incentive plan to certain of our key executives. One-half of the options will vest when the market price of our stock reaches a 20-consecutive-day average of $50 per share. The remaining options will vest when our stock price reaches a 20-consecutive-day average of $55 per share. The exercise price of each option is equal to the market price of our stock on the grant date. These options may be exercised during the twelve months preceding the Dec. 1, 2001, expiration date provided the stock price targets are achieved. The following table summarizes the activity for our variable option grants for the last three years. Weighted Average Option Shares Exercise Price -------------- ---------------- Outstanding Jan. 1, 1997 1,650,600 $ 29.38 Granted 316,200 33.56 ----------- ------- Outstanding Dec. 31, 1997 1,966,800 30.05 Canceled (468,600) 29.38 ----------- ------- Outstanding Dec. 31, 1998 1,498,200 30.26 Granted 375,000 29.63 Canceled (152,400) 29.38 ----------- ------- Outstanding Dec. 31, 1999 1,720,800 $ 30.20 =========== ======= The weighted average fair value of options granted during 1999 and 1997 was $2.66 and $5.46 per option, respectively. The fair value of the variable options was estimated on the date of grant using a variable option-pricing model with the following weighted average assumptions in 1999 and 1997, respectively: dividend yield of 2.8% for both years; expected volatility of 22.9% and 20%; risk-free interest rate of 4.7% and 6.1%; and an expected life of 2.8 years and 4.6 years. RESTRICTED STOCK AND DEFERRED STOCK AWARDS Up to 20% of the 14.4 million shares available under our 1994 stock incentive plan may be granted as restricted stock awards. The stock is restricted because recipients receive the stock only upon completing a specified objective or period of employment, generally one to five years. The shares are considered issued when awarded, but the recipient does not own and cannot sell the shares during the restriction period. Up to 2,200,000 shares remain available for restricted stock awards at Dec. 31, 1999. We also have a Deferred Stock Award Plan for stock awards to non-U.S. employees. Deferred stock awards are the same as restricted stock awards, except that shares granted under the deferred plan are not issued until the vesting conditions specified in the award are fulfilled. Up to 19,000 shares remain available for deferred stock awards at Dec. 31, 1999. PRO FORMA INFORMATION Had we calculated compensation expense on a combined basis for our stock option grants based on the "fair value" method described in SFAS No. 123, our net income and earnings per share would have been reduced to the pro forma amounts as indicated. Year ended December 31 (In millions, except per share data) 1999 1998 1997 ----- ----- ----- NET INCOME As reported $ 834 $ 89 $ 929 Pro forma 825 76 915 BASIC EARNINGS PER SHARE As reported 3.61 0.33 3.97 Pro forma 3.57 0.27 3.91 DILUTED EARNINGS PER SHARE As reported 3.41 0.32 3.69 Pro forma 3.38 0.27 3.63 13. COMMITMENTS AND CONTINGENCIES Investment Commitments - We have long-term commitments to fund venture capital and other investments totaling $101 million as of Dec. 31, 1999. We estimate these commitments will be paid as follows: $34 million in 2000; $36 million in 2001; $23 million in 2002 and $8 million in 2003. Financial Guarantees - We are contingently liable for financial guarantee exposures ceded through reinsurance agreements with a company in which we formerly had a minority ownership interest totaling approximately $67 million as of Dec. 31, 1999. Lease Commitments - A portion of our business activities is carried on in rented premises. We also enter into leases for equipment, such as office machines and computers. Our total rental expense was $82 million in 1999, $88 million in 1998 and $92 million in 1997. Certain leases are noncancelable, and we would remain responsible for payment even if we stopped using the space or equipment. On Dec. 31, 1999, the minimum annual rents for which we would be liable under these types of leases are as follows: $108 million in 2000, $97 million in 2001, $77 million in 2002, $61 million in 2003, $52 million in 2004 and $223 million thereafter. We are also the lessor under various subleases on our office facilities. The minimum rentals to be received in the future under noncancelable subleases is $107 million at Dec. 31, 1999. Legal Matters - In the ordinary course of conducting business, we and some of our subsidiaries have been named as defendants in various lawsuits. Some of these lawsuits attempt to establish liability under insurance contracts issued by our underwriting operations. Plaintiffs in these lawsuits are asking for money damages or to have the court direct the activities of our operations in certain ways. In connection with our sale of Minet to Aon Corporation in 1997, we agreed to indemnify Aon against any future professional liability claims for events that occurred prior to the sale. Included in our 1997 provision for loss on disposal of Minet was the cost of purchasing insurance to cover a portion of our exposure to such claims (see Note 14 "Discontinued Operations"). It is possible that the settlement of these lawsuits or payments for Minet-related liability claims may be material to our results of operations and liquidity in the period in which they occur. However, we believe the total amounts that we and our subsidiaries will ultimately have to pay in all of these matters will have no material effect on our overall financial position. 14. DISCONTINUED OPERATIONS Standard Personal Insurance Business - In June 1999, we decided to sell our standard personal insurance business. On July 12, 1999 an agreement was reached to sell this business to Metropolitan Property and Casualty Insurance Company (Metropolitan). As a result, the standard personal insurance operations were accounted for as a discontinued operation through the first six months of 1999. Subsequent period operating results of the standard personal insurance operations were included in the gain on sale of discontinued operations. The nonstandard auto line of business, which was previously combined with standard personal insurance to form our Personal Insurance segment for reporting purposes, was not included in this sale. We completed our disposition of the standard personal insurance business through the stock sale of Economy Fire & Casualty Company and its wholly-owned subsidiaries (Economy) on Sept. 30, 1999, and the sale of our rights and interests in those policies constituting the remaining portion of our standard personal insurance operations and certain related assets. This remaining portion was transferred to Metropolitan by way of a reinsurance and facility agreement effective Oct. 1, 1999, pursuant to which we transferred assets, representing the estimated unearned premium on the in force policies, of approximately $325 million to Metropolitan. During the third quarter, we received gross proceeds on the sale of $576 million, less the payment of the reinsurance premium of $325 million, for net proceeds of $251 million. Additional proceeds to be received approximate $21 million and relate to post-closing adjustments. As a result of the sale, approximately 1,600 standard personal insurance employees of The St. Paul effectively transferred to Metropolitan, on Oct. 1, 1999. We recognized a pretax gain on proceeds of $130 million, after adjusting for a $26 million pension and postretirement curtailment gain and disposition costs of $32 million. The gain on proceeds was combined with the $128 million pretax income from discontinued operations (subsequent to the decision to sell), resulting in a total pretax gain of $258 million. These discontinued operations included a $145 million reduction in loss and loss adjustment expense reserves. In the third quarter of 1999, based on favorable trends noted in the standard personal insurance reserve analysis, and considering the pending sale and its economic consequences, we concluded that this reserve reduction was appropriate. We guaranteed the adequacy of Economy's reserves, and will share in any redundancies that develop by Sept. 30, 2002. We remain liable for claims on non-Economy policies that result from losses occurring prior to closing. By agreement, Metropolitan will adjust those claims and share in redundancies that may develop. The $26 million pretax curtailment gain represents the impact of a reduced number of employees in the pension and post-retirement plans due to the sale of the standard personal insurance business. The $32 million pretax disposition costs netted against the gain represent costs directly associated with the decision to dispose of the standard personal insurance segment and include $14 million of employee-related costs, $8 million of occupancy-related costs, $7 million of transaction costs, $2 million of record separation costs and $1 million of equipment charges. The employee-related costs relate to the expected termination of 385 employees due to the sale of the standard personal insurance business. The consolidated statements of operations for all periods presented exclude the results of standard personal insurance operations from income from continuing operations. The consolidated Dec. 31, 1998 balance sheet has been reclassified to present the net assets of Economy in other assets. Nonstandard Auto Business - In December 1999, we decided to sell our nonstandard auto business. On Jan. 4, 2000, we announced an agreement to sell this business to The Prudential Insurance Company of America (Prudential) for $200 million in cash, subject to certain balance sheet adjustments at closing. As a result, the nonstandard auto business results of operations were accounted for as discontinued operations for the year ended Dec. 31, 1999. Included in "Discontinued operations - gain on disposal, net of tax" in our 1999 statement of income is an estimated loss on the sale of approximately $83 million, which includes the estimated results of operations through the disposal date. All prior period results of nonstandard auto have been reclassified to discontinued operations. Under the terms of the agreement, Prudential will purchase the nonstandard auto insurance business marketed under the Victoria Financial and Titan Auto brands. Their combined net book value at Dec. 31, 1999 approximated $274 million, including investments and other assets, goodwill (of approximately $111 million), loss reserves, unearned premium and other liabilities. At Dec. 31, 1999, these balance sheet amounts are included in the applicable line items of our consolidated balance sheet. We anticipate that this transaction will close in the second quarter of 2000, subject to regulatory approval. Minet - In December 1996, we decided to sell our insurance brokerage, Minet, and in May 1997, we completed the sale to Aon Corporation. Proceeds from the sale of Minet to Aon were $107 million. In 1997, we recorded a pretax loss on disposal of $103 million (with a corresponding tax benefit of $35 million), which resulted primarily from our agreement to be responsible for certain severance, employee benefits, future lease commitments and other costs related to Minet. We agreed to indemnify Aon against any future professional liability claims for events that occurred prior to the sale. Since this indemnification relates to claims that had not yet been discovered or reported, it is not possible to estimate a range of the potential liability. The company monitors its exposure under these claims on a regular basis. We believe reserves for reported claims are adequate, but the company still does not have information on unreported claims to estimate a range of additional liability. The company purchased insurance to cover a portion of its exposure to such claims. The insurance covers claims reported three years from the date of the sale, with the option to renew the contract for an additional three years. The policy provides $125 million maximum coverage with a $25 million aggregate deductible. The following table summarizes our discontinued operations, including our standard personal insurance business, nonstandard auto business and Minet, for the three-year period ended Dec. 31, 1999: Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ Operating loss, before income taxes $ (13) $ (167) $ (98) Income tax benefit (4) (57) (33) ------ ------ ------ Operating loss, net of taxes (9) (110) (65) ------ ------ ------ Gain (loss) on disposal, before income taxes 184 - (103) Income tax expense (benefit) 90 - (35) ------ ------ ------ Gain (loss) on disposal net of taxes 94 - (68) ------ ------ ------ Gain (loss) from discontinued operations $ 85 $ (110) $ (133) ====== ====== ====== 15. RESTRUCTURING AND OTHER CHARGES Third Quarter 1999 Charge - In August 1999, we announced a cost reduction program designed to enhance our efficiency and effectiveness in a highly competitive environment. In the third quarter of 1999, we recorded a pretax charge of $60 million related to this program, including $25 million in employee-related charges, $33 million in occupancy-related charges and $2 million in equipment charges. The charge was included in "Operating and administrative expenses" in the 1999 statement of income and in "Property-liability insurance - Other" in the table titled "Income (Loss) from Continuing Operations Before Income Taxes and Cumulative Effect of Accounting Change" in Note 18. The employee-related charge represents severance and related benefits such as outplacement counseling, vacation buy-out and medical coverage to be paid to terminated employees. The charge relates to the anticipated termination of approximately 700 employees at all levels throughout the Company. As of Dec. 31, 1999, approximately 480 employees had been terminated under this action. The occupancy-related charge represents excess space created by the cost reduction action. The charge was calculated by determining the percentage of anticipated excess space, by location, and the current lease costs over the remaining lease period. The amounts payable under the existing leases were not discounted, and sublease income was included in the calculation only for those locations where sublease agreements were in place. The equipment charges represent the elimination of personal computers directly related to the number of employees being severed under this cost reduction action and the elimination of network servers and other equipment resulting from this action. The amount was calculated as the net book value of this equipment less estimated sale proceeds. All actions to be taken under this plan are expected to be completed in 2000. The following presents a rollforward of 1999 activity related to this charge: Pretax Reserve at (In millions) Charge Payments Dec. 31,1999 -------- --------- ------------- Charges to earnings: Employee-related $ 25 $ (11) $ 14 Occupancy-related 33 (2) 31 Equipment charges 2 N/A N/A ------ ------ ------ Total $ 60 $ 45 ====== ====== Fourth Quarter 1998 Charge - Late in the fourth quarter of 1998, we recorded a pretax restructuring charge of $34 million. The majority of the charge, $26 million, related to the anticipated termination of approximately 520 employees in the following operations: Claims, Commercial Lines Group, Information Systems, Health Services and Professional Markets. The remaining charge of $8 million related to costs to be incurred to exit lease obligations. The charge was reflected in "Operating and administrative expenses" in the 1998 statement of income and in "Property-liability insurance - Other" in the table titled "Income (Loss) from Continuing Operations Before Income Taxes and Cumulative Effect of Accounting Change" in Note 18. As of Dec. 31, 1999, approximately 500 employees had been terminated under the restructuring plan. Termination actions taking place under this plan were substantially completed by the end of 1999. The table on the next page provides information about the components of the charge taken in the fourth quarter of 1998, the balance of accrued amounts at Dec. 31, 1999 and 1998, and payment activity during the year ended Dec. 31, 1999. The table also reflects adjustments made to the reserve during 1999. We reduced the severance reserve by $5 million due to a number of voluntary terminations, which reduced the expected severance and outplacement payments to be made. We also reduced the occupancy-related reserve by $6 million for subleases that we have since entered into on the vacated space. Original Reserve Reserve Pretax at Dec. 31, Adjust- at Dec. 31, (In millions) Charge 1998 Payments ments 1999 - ------------- -------- ---------- -------- -------- ---------- Charges to earnings: Severance $ 26 $ 26 $ (18) $ (5) $ 3 Occupancy-related 8 8 - (6) 2 ----- ----- ----- ----- ----- Total $ 34 $ 34 $ (18) $ (11) $ 5 ===== ===== ===== ===== ===== Second Quarter 1998 Charge - Related to our merger with USF&G (as discussed in Note 2), we recorded a pretax charge to earnings of $292 million in 1998, primarily consisting of severance and other employee- related costs, facilities exit costs, asset impairments and transaction costs. We estimated that approximately 2,000 positions would be eliminated due to the combination of the two organizations, resulting from efficiencies to be realized by the larger organization and the elimination of redundant functions. All levels of employees, from technical staff to senior management, were affected by the reductions. The original number of positions expected to be reduced by function included approximately 950 in our property-liability underwriting operation, 350 in claims and 700 in finance and other administrative positions, throughout the United States. Through Dec. 31, 1999, approximately 2,200 positions had been eliminated, and the cost of termination benefits paid was $135 million. Termination actions taking place under this plan have been completed, however payments are still being made to terminated employees. The following table provides information about the components of the charge taken in the second quarter of 1998, the balance of accrued amounts at Dec. 31, 1999 and 1998, and payment activity during the year ended Dec. 31, 1999. The table also reflects a $2 million adjustment to the executive severance reserve related to voluntary terminations, which reduced the expected severance and outplacement payments to be made. Original Pretax (in millions) Charge -------- Charges to earnings: USF&G Corp. headquarters $ 36 Long-lived assets 23 Acceleration of software depreciation 10 Computer leases and equipment 10 Other equipment and furniture 8 ----- Subtotal $ 87 ----- Original Reserve Reserve Pretax at Dec. 31, Adjust- at Dec. 31, Charge 1998 Payments ments 1999 -------- ---------- -------- ------- ---------- Accrued charges subject to roll- forward: Executive severance $ 89 $ 37 $ (32) $ (2) $ 3 Other severance 52 26 (25) - 1 Branch lease exit costs 34 34 (10) - 24 Transaction costs 30 - - - - ----- ----- ----- ----- ----- Subtotal 205 97 (67) (2) 28 ----- ----- ----- ----- ----- Total $ 292 $ 97 $ (67) $(2) $ 28 ===== ===== ===== ===== ===== On our 1998 Statement of Income, $269 million of the charge was recorded in the "Operating and administrative" expense caption and $23 million was recorded in the "Realized investment gains" revenue caption. The charge was recorded in the following captions in the table titled "Income (Loss) from Continuing Operations Before Income Taxes and Cumulative Effect of Accounting Change" in Note 18: $143 million in Property-liability insurance - Other; $14 million in Property-liability - Realized investment gains; $9 million in Life insurance; and $126 million in Parent company, other operations and consolidating eliminations. The following discussion provides more information regarding the rationale for, and calculation of, each component of the 1998 merger- related charge: USF&G Corporate Headquarters - The Founders Building had been one of USF&G's headquarters buildings in Baltimore, MD. Upon consummation of the merger, it was determined that the headquarters for the combined entity would reside in St. Paul, MN, and that a significant number of personnel working in Baltimore would be terminated, thus vacating a substantial portion of the Founders Building. We developed a plan to lease that space to outside parties and thus categorized it as an "asset to be held or used" as defined in SFAS No. 121 for purposes of evaluating the potential impairment of its $64 million carrying value. That evaluation, based on the anticipated undiscounted future cash flows from potential lessees, indicated that an impairment in the carrying value had occurred, and the building was written down by $36 million to its fair value of $28 million. The writedown was reflected in our 1998 "Parent and other" segment results. We continue to depreciate this building over its estimated remaining life. Long-Lived Assets - Upon consummation of the merger, we determined that several of USF&G's real estate investments were not consistent with our real estate investment strategy. A plan was developed to sell a number of apartment buildings and various other miscellaneous holdings, with an expected disposal date in 1999. In applying the provisions of SFAS No. 121 we determined that four of these miscellaneous investments should be written down to fair value, based on our plan to sell them. Fair value was determined based on a discounted cash flow analysis, or based on market prices for similar assets. The impairment writedown was reflected in our 1998 Statement of Income in "Realized investment gains." The investments are as follows: Description of investment: Percentage rents retained after sale of a portfolio of stores to a third party. Carrying amount: $22 million prior to writedown of $17 million, for current amount of $5 million, with $4 million held in our property- liability investment segment and $1 million held in our life insurance segment. We expect to dispose of this asset by the end of 2000. Description of investment: 138-acre land parcel in New Jersey, with farm buildings being rented out. Carrying amount: $5 million prior to writedown of $2 million; sold in 1999 with a pretax realized loss of $1 million. Description of investment: Receivable representing cash flow guarantee payments related to real estate partnerships. Carrying amount: $5 million prior to writedown of $2 million; sold in 1999 with no further gain or loss. Description of investment: Limited partnership interests in three citrus groves. Carrying amount: $5 million prior to writedown of $2 million; two of the partnership interests have been exchanged for an investment in a new partnership, with one of the original citrus grove partnership interests remaining. This partnership is carried at a current balance of less than $1 million, held in parent company and other operations. These investment writedowns are reflected in the following 1998 segment results in the table titled "Income (Loss) from Continuing Operations Before Income Taxes and Cumulative Effect of Accounting Change" in Note 18: $14 million in Property-liability Investment; $6 million in Parent company and other; and $3 million in Life. Acceleration of Software Depreciation - We conducted an extensive technology study upon consummation of the merger as part of the business plan to integrate our two companies. The resulting strategy to standardize technology throughout the combined entity and maintain one data center in St. Paul, MN, resulted in the identification of duplicate software applications. As a result, the estimated useful life for that software was shortened, resulting in an additional charge to earnings. Computer Leases and Equipment - The technology study also identified redundant computer hardware, resulting in lease buy-out transactions and disposals of computer equipment. Other Equipment and Furniture - The decision to combine all corporate headquarters in St. Paul, MN created excess equipment and furniture in Baltimore, MD. The charge was calculated based on the book value of assets at that location. Executive Severance - Represents the obligations The St. Paul was required to pay in accordance with the USF&G Senior Executive Severance Plan in place at the time of the merger. The plan provides for payments to participants in the event the participant is terminated without cause by the company or for good reason by the participant within two years of the effective date of a transaction covered by the plan. Other Severance - Represents severance and related benefits such as outplacement counseling, vacation buy-out and medical coverage to be paid to terminated employees not covered under the USF&G Senior Executive Severance Plan. Branch Lease Exit Costs - As a result of the merger, excess space was created in several locations due to the anticipated staff reduction in the combined organization. The charge for branch lease exit costs was calculated by determining the percentage of anticipated excess space at each site and the current lease costs over the remaining lease period. In certain locations, the lease was expected to be terminated. For leases not expected to be terminated, the amount of expenses included in the charge was calculated as the percentage of excess space (20% to 100%) times the net of: remaining rental payments plus capitalized leasehold improvements less actual sub-lease income. No amounts were discounted to present value in the calculation. Transaction Costs - This amount consists of registration fees, costs of furnishing information to stockholders, consultant fees, investment banker fees, and legal and accounting fees. 16. REINSURANCE Our financial statements reflect the effects of assumed and ceded reinsurance transactions. Assumed reinsurance refers to our acceptance of certain insurance risks that other insurance companies have underwritten. Ceded reinsurance means other insurance companies agree to share certain risks with us. The primary purpose of our ceded reinsurance program, including the aggregate excess-of-loss coverages discussed below, is to protect us from potential losses in excess of what we are prepared to accept. We report balances pertaining to reinsurance transactions "gross" on the balance sheet, meaning that reinsurance recoverables on unpaid losses and ceded unearned premiums are not deducted from insurance reserves but are recorded as assets. We expect the companies to which we have ceded reinsurance to honor their obligations. In the event these companies are unable to honor their obligations to us, we will pay these amounts. We have established allowances for possible nonpayment of amounts due to us. The largest concentration (approximately 15%) of our total reinsurance recoverables and ceded unearned premiums at Dec. 31, 1999 was with General Reinsurance Corporation. That company is rated "A++" by A.M. Best, "Aaa" by Moody's and "AAA" by Standard & Poor's for its property- liability insurance claims-paying ability. During 1999, we entered into two aggregate excess-of-loss reinsurance treaties. One of these treaties is corporate- wide, with coverage triggered when our insurance losses and LAE across all lines of business reach a certain level, as prescribed by terms of the treaty (the "corporate treaty"). The impact of the corporate treaty on our 1999 results was as follows: we ceded insurance losses and LAE totaling $384 million, and ceded written and earned insurance premiums of $211 million, for a net pretax benefit of $173 million to income from continuing operations. Additionally, our Reinsurance segment benefited from cessions made under a separate treaty unrelated to the corporate treaty. Under this treaty, the Reinsurance segment ceded insurance losses and LAE totaling $150 million, and ceded written and earned insurance premiums of $62 million, for a net pretax benefit of $88 million. The impact of both of these treaties is included in the table that follows. In December 1997, our life insurance subsidiary entered into a coinsurance agreement with an unaffiliated life reinsurance company to cede a significant portion of a block of single premium deferred annuities. As part of the transaction, our life insurance subsidiary transferred approximately $144 million of investments and other assets to the reinsurer and recorded a reinsurance recoverable of $131 million. The difference between the assets transferred for the reinsurance contract and the amount of the reinsurance recoverable was considered part of the net cost of reinsurance, and is recognized over the remaining life of the underlying reinsured contracts. The reinsurance costs of the coinsurance transaction (net of related deferred policy acquisition cost amortization) were deferred at the inception of the contracts and are being amortized into expense over the remaining term of the underlying reinsured contracts. This transaction had no material effect on our 1997 net income. The effect of assumed and ceded reinsurance on premiums written, premiums earned and insurance losses, LAE and life policy benefits is as follows: Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ PREMIUMS WRITTEN Direct $ 4,622 $ 4,569 $ 4,972 Assumed 1,645 1,380 1,496 Ceded (1,155) (673) (786) ------ ------ ------ Net premiums written $ 5,112 $ 5,276 $ 5,682 ====== ====== ====== PREMIUMS EARNED Direct $ 4,621 $ 4,796 $ 5,153 Assumed 1,537 1,372 1,523 Ceded (1,055) (734) (817) ------ ------ ------ Net premiums earned 5,103 5,434 5,859 Life 187 119 137 ------ ------ ------ Total premiums earned $ 5,290 $ 5,553 $ 5,996 ====== ====== ====== INSURANCE LOSSES, LOSS ADJUSTMENT EXPENSES AND POLICY BENEFITS Direct $ 3,532 $ 4,095 $ 3,691 Assumed 1,124 910 1,004 Ceded (936) (540) (606) ------ ------ ------ Net insurance losses and loss adjustment expenses 3,720 4,465 4,089 Life policy benefits 367 273 277 ------ ------ ------ Total net insurance losses, loss adjustment and policy benefits $ 4,087 $ 4,738 $ 4,366 ====== ====== ====== 17. STATUTORY ACCOUNTING PRACTICES Our underwriting operations are required to file financial statements with state and foreign regulatory authorities. The accounting principles used to prepare these statutory financial statements follow prescribed or permitted accounting principles, which differ from GAAP. Prescribed statutory accounting practices include state laws, regulations and general administrative rules issued by the state of domicile as well as a variety of publications and manuals of the National Association of Insurance Commissioners. Permitted statutory accounting practices encompass all accounting practices not so prescribed, but allowed by the state of domicile. At Dec. 31, 1999 and 1998, permitted property-liability transactions related to the disposal of certain real property acquired as security increased statutory surplus by $2 million and $12 million, respectively, over what it would have been had prescribed accounting practices been followed. At Dec. 31, 1999 and 1998, permitted property- liability transactions related to the discounting of certain assumed reinsurance contracts increased statutory surplus by $25 million and $34 million, respectively. At Dec. 31, 1999 and 1998, permitted life insurance transactions related to the release of capital gains related to a coinsurance contract, net of the related establishment of a voluntary investment reserve, increased statutory surplus by $17 million and $18 million, respectively. On a statutory accounting basis, our property-liability underwriting operations reported net income of $945 million in 1999, $196 million in 1998 and $1.15 billion in 1997. Our life insurance operations reported statutory net income (loss) of $(28) million, $24 million and $21 million in 1999, 1998 and 1997, respectively. Statutory surplus (shareholder's equity) of our property-liability underwriting operations was $5.5 billion and $4.7 billion as of Dec. 31, 1999 and 1998, respectively. Statutory surplus of our life insurance operation was $206 million and $201 million as of Dec. 31, 1999 and 1998, respectively. 18. SEGMENT INFORMATION We have seven reportable segments in our insurance operations, which consist of Commercial Lines Group, Specialty Commercial, Surety, International, Reinsurance, Property-Liability Investment Operations, and Life Insurance. The insurance operations are managed separately because each targets different customers and requires different marketing strategies. We also have an Asset Management segment, consisting of our majority ownership in The John Nuveen Company. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. We evaluate performance based on underwriting results for our property- liability insurance segments, investment income and realized gains for our investment operations, and on pretax operating results for the life insurance and asset management segments. Property-liability underwriting assets are reviewed in total by management for purposes of decision making. We do not allocate assets to these specific underwriting segments. Assets are specifically identified for our life insurance and asset management segments. Geographic Areas - The following summary presents financial data of our continuing operations based on their location. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ REVENUES U.S. $ 6,735 $ 6,914 $ 7,505 Non-U.S. 834 794 803 ------ ------ ------ Total revenues $ 7,569 $ 7,708 $ 8,308 ====== ====== ====== Segment Information - The summary on the next page presents revenues and pretax income from continuing operations for our reportable segments. In the first quarter of 1999, we revised our segment reporting structure to separately disclose our Surety underwriting operation as a business segment, which differed from its prior classification as a component of the Commercial Lines Group. This revision reflected the distinct nature of the operation, which provides surety bond coverage (primarily for construction contractors). The Surety operation is managed and evaluated separately from other components of the Commercial Lines Group. All periods presented have been revised to reflect this reclassification. In 1999, we announced an agreement to sell our standard personal insurance business, which was sold Sept. 30, 1999. In December 1999, we decided to sell our nonstandard auto business. For 1998, as originally reported, these two operations were combined and reported as the Personal Insurance segment. Both of these operations have been accounted for as discontinued operations for all periods presented and are not included in our segment data. Also in 1999, we reclassified our Global Marine business center from our International segment to our Specialty Commercial segment to reflect how that business center is now managed. Additionally, we reclassified certain pools from our International segment to our Commercial segment to reflect the change in management of those pools. Amounts for 1998 and 1997 were reclassified to be consistent with the 1999 presentation. The revenues of our life insurance and asset management segments include their respective investment income and realized investment gains. The table also presents identifiable assets for our property- liability underwriting operation in total, and our life insurance and asset management segments. Included in the table amounts are life insurance segment revenues of $92 million, $47 million and $65 million for the years ended Dec. 31, 1999, 1998 and 1997, respectively, related to structured settlement annuities sold primarily to our Commercial Lines Group segment. Year ended December 31 (In millions) 1999 1998 1997 ------ ------ ------ REVENUES FROM CONTINUING OPERATIONS Underwriting: Commercial Lines Group $ 1,944 $ 2,275 $ 2,616 Specialty Commercial 1,465 1,447 1,442 Surety 379 340 296 ------ ------ ------ Total U. S. underwriting 3,788 4,062 4,354 International 396 333 278 ------ ------ ------ Total primary underwriting 4,184 4,395 4,632 Reinsurance 919 1,039 1,227 ------ ------ ------ Total underwriting 5,103 5,434 5,859 Investment operations: Net investment income 1,256 1,293 1,319 Realized investment gains 274 187 412 ------ ------ ------ Total investment operations 1,530 1,480 1,731 Other 73 65 40 ------ ------ ------ Total property- liability insurance 6,706 6,979 7,630 Life insurance 476 393 404 Asset management 353 308 269 ------ ------ ------ Total reportable segments 7,535 7,680 8,303 Parent company, other operations and consolidating eliminations 34 28 5 ------ ------ ------ Total revenues $ 7,569 $ 7,708 $ 8,308 ====== ====== ====== INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE INCOME TAXES AND CUMULATIVE EFFECT OF ACCOUNTING CHANGE Underwriting: Commercial Lines Group $ (261) $ (747) $ (171) Specialty Commercial (196) (147) 18 Surety 37 73 63 ------ ------ ------ Total U. S. underwriting (420) (821) (90) International (84) (67) (53) ------ ------ ------ Total primary underwriting (504) (888) (143) Reinsurance 79 7 4 ------ ------ ------ Total GAAP underwriting result (425) (881) (139) Investment operations: Net investment income 1,256 1,293 1,319 Realized investment gains 274 187 412 ------ ------ ------ Total investment operations 1,530 1,480 1,731 Other (134) (301) (104) ------ ------ ------ Total property- liability insurance 971 298 1,488 Life insurance 66 21 78 Asset management 123 104 93 ------ ------ ------ Total reportable segments 1,160 423 1,659 Parent company, other operations and consolidating eliminations (143) (303) (226) ------ ------ ------ Total income from continuing operations before income taxes and cumulative effect of accounting change $ 1,017 $ 120 $ 1,433 ====== ====== ====== December 31 (In millions) 1999 1998 ------ ------ IDENTIFIABLE ASSETS Property-liability insurance $ 32,140 $ 31,882 Life insurance 5,624 4,789 Asset management 591 505 ------ ------ Total reportable segments 38,355 37,176 Parent company, other operations, consolidating eliminations and discontinued operations 518 688 ------ ------ Total assets $ 38,873 $ 37,864 ====== ====== Note 15, "Restructuring and Other Charges," describes charges taken by The St. Paul during 1999 and 1998, and where they are included in the preceding tables. The $215 million 1998 provision to strengthen loss reserves is recorded as follows: $197 million in Commercial Lines Group and $18 million in Specialty Commercial. Also included in the 1998 life insurance caption is a $41 million charge to reduce the carrying value of deferred policy acquisition costs, as discussed in more detail in Note 6 "Deferred Policy Acquisition Costs." 19. COMPREHENSIVE INCOME Comprehensive income is defined as any change in our equity from transactions and other events originating from nonowner sources. In our case, those changes are comprised of our reported net income, changes in unrealized appreciation and changes in unrealized foreign currency translation adjustments. The following summaries present the components of our comprehensive income, other than net income, for the last three years. Year ended December 31, 1999 Income Tax (In millions) Pretax Effect After-tax ------ ---------- ---------- Unrealized depreciation arising during period $ (457) $ (159) $ (298) Less: reclassification adjustment for realized gains included in net income 248 87 161 ------ ------ ------ Net change in unrealized appreciation (705) (246) (459) ------ ------ ------ Net change in unrealized loss on foreign currency translation (10) 2 (12) ------ ------ ------ Total other comprehensive loss $ (715) $ (244) $ (471) ====== ====== ====== Year ended December 31, 1998 Income Tax (In millions) Pretax Effect After-tax ------ ----------- --------- Unrealized appreciation arising during period $ 459 $ 163 $ 296 Less: reclassification adjustment for realized gains included in net income 177 62 115 ------ ------ ------ Net change in unrealized appreciation 282 101 181 ------ ------ ------ Net change in unrealized gain (loss) on foreign currency translation 8 (2) 10 ------ ------ ------ Total other comprehensive income $ 290 $ 99 $ 191 ====== ====== ====== Year ended December 31, 1997 Income Tax (In millions) Pretax Effect After-tax ------ ---------- --------- Unrealized appreciation arising during period $ 626 $ 219 $ 407 Less: reclassification adjustment for realized gains included in net income 369 129 240 ------ ------ ------ Net change in unrealized appreciation 257 90 167 ------ ------ ------ Net change in unrealized loss on foreign currency translation (4) (1) (3) ------ ------ ------ Total other comprehensive income $ 253 $ 89 $ 164 ====== ====== ====== 20. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following is an unaudited summary of our quarterly results for the last two years. 1999 (In millions, except First Second Third Fourth per share data) Quarter Quarter Quarter Quarter - -------------------- ------- ------- ------- ------- Revenues $ 1,909 $ 1,933 $ 1,785 $ 1,942 Income from continuing operations after effect of accounting change 167 219 137 226 Discontinued operations (2) (15) 190 (88) Net income 165 204 327 138 Earnings per common share: Basic: Income from continuing operations after effect of accounting change 0.71 0.96 0.59 0.98 Discontinued operations (0.01) (0.07) 0.84 (0.38) Net income 0.70 0.89 1.43 0.60 Diluted: Income from continuing operations after effect of accounting change 0.68 0.90 0.56 0.93 Discontinued operations (0.01) (0.06) 0.78 (0.36) Net income 0.67 0.84 1.34 0.57 1998 (In millions, except First Second Third Fourth per share data) Quarter Quarter Quarter Quarter - -------------------- ------- ------- ------- ------- Revenues $ 1,980 $ 2,030 $ 1,856 $ 1,842 Income (loss) from continuing operations 201 (198) 100 96 Discontinued operations (7) (76) (32) 5 Net income (loss) 194 (274) 68 101 Earnings per common share: Basic: Income (loss) from continuing operations 0.85 (0.86) 0.41 0.39 Discontinued operations (0.03) (0.32) (0.14) 0.02 Net income (loss) 0.82 (1.18) 0.27 0.41 Diluted: Income (loss) from continuing operations 0.78 (0.85) 0.40 0.38 Discontinued operations (0.02) (0.33) (0.13) 0.02 Net income (loss) 0.76 (1.18) 0.27 0.40 SHAREHOLDER INFORMATION CORPORATE PROFILE The St. Paul is a group of companies providing commercial property- liability and life insurance and nonlife reinsurance products and services worldwide. YOUR DIVIDENDS A quarterly dividend of $0.27 per share was declared on Feb. 1, 2000, payable April 17, 2000, to shareholders of record as of March 31, 2000. Dividends have been paid every year since 1872. During those 128 years of uninterrupted dividend payments, total payments have been increased in 68 years. The chart at the lower right contains dividend information for 1999 and 1998. AUTOMATIC DIVIDEND REINVESTMENT PROGRAM This program provides a convenient way for shareholders to increase their holding of company stock. Approximately 48 percent of shareholders of record participate. An explanatory brochure and enrollment card may be obtained by calling our stock transfer agent-Norwest Bank Minnesota, N.A. at 888.326.5102, or contact them at the address below. STOCK TRANSFER AGENT AND REGISTRAR For address changes, dividend checks, direct deposits of dividends, account consolidations, registration changes, lost stock certificates, stock holdings and the Dividend Reinvestment Program, please contact: Norwest Bank Minnesota, N.A. Shareowner Services Department P.O. Box 64854 Saint Paul, MN 55164-0854 Tel: 888.326.5102 stocktransfer@norwest.com STOCK TRADING The company's stock is traded nationally on the New York Stock Exchange, where it is assigned the symbol SPC. The stock is also listed on the London Stock Exchange under the symbol SPA. The number of holders of record, including individual owners, of our common stock was 22,603 as of February 4, 2000. Options on the company's stock trade on the Chicago Board Options Exchange under the symbol SPQ. ANNUAL SHAREHOLDERS' MEETING The annual shareholders meeting will be at 2:00 p.m. CDT, Tuesday, May 2, 2000, at the corporate headquarters, 385 Washington Street, Saint Paul, Minn. A proxy statement will be sent around March 27 to each shareholder of record on March 13, 2000. FORM 10-K AVAILABLE The Form 10-K report filed with the Securities and Exchange Commission is available without charge to shareholders upon request. Write to our corporate secretary: Sandra Ulsaker Wiese, The St. Paul Companies, 385 Washington Street, Saint Paul, MN 55102. ADDITIONAL INFORMATION For additional investor relations information, shareholders may contact Laura Gagnon, vice president-investor relations at 651.310.7696. Or, general information about the company is available on our website (www.stpaul.com). STOCK PRICE AND DIVIDEND RATE The table below sets forth the amount of cash dividends declared per share and the high and low sales prices of company stock for each quarter during the past two years. Cash Dividend 1999 High Low Declared - ---- -------- ------ ---------- 1st Quarter $36 1/8 $28 1/2 $0.26 2nd Quarter 37 1/16 28 1/2 0.26 3rd Quarter 35 5/16 27 0.26 4th Quarter 36 1/4 25 3/8 0.26 Cash dividend paid in 1999 was $1.03. Cash Dividend 1998 High Low Declared - ---- -------- ------ ---------- 1st Quarter $47 3/16 $39 5/16 $0.25 2nd Quarter 45 3/8 39 15/16 0.25 3rd Quarter 43 5/8 28 1/16 0.25 4th Quarter 37 1/2 29 9/16 0.25 Cash dividend paid in 1998 was $0.985. BOARD OF DIRECTORS* H. Furlong Baldwin, 67 DIRECTOR SINCE 1998. Chairman and CEO of Mercantile Bankshares Corporation, a general banking business with offices in Maryland, Delaware and Virginia, and provider of mortgage banking and trust services. Joined Mercantile-Safe Deposit & Trust Company in 1956. In 1970 was named president of Mercantile-Safe Deposit & Trust and president of Mercantile Bankshares Corporation. Was elected to present position in 1976. Michael R. Bonsignore, 58 DIRECTOR SINCE 1991. CEO of Honeywell, Inc., a manufacturer of automation and control systems for homes, buildings, industry and aerospace. Joined Honeywell in 1969 and held marketing and operations management positions until being named chairman and CEO in 1993. Was named to current position in December 1999 following Honeywell's merger with AlliedSignal, Inc. John H. Dasburg, 56 DIRECTOR SINCE 1994. President and CEO, Northwest Airlines, Inc., since 1990. Joined Northwest as executive vice president in 1989. Before joining the airline, employed by Marriott Corp., where posts included president of the lodging group, chief financial officer and chief real estate officer. W. John Driscoll, 70 DIRECTOR SINCE 1970. President and CEO (retired 1994), Rock Island Company, a private investment company. Joined Rock Island in 1964 as general manager and became president and CEO in 1973. Kenneth M. Duberstein, 55 DIRECTOR SINCE 1998. Chairman and CEO, The Duberstein Group, an independent strategic planning and consulting company. Previously served as chief of staff to President Ronald Reagan, 1988-89; also served in the White House as deputy chief of staff in 1987, and assistant and deputy assistant to the president for legislative affairs from 1981 to 1983. Pierson M. Grieve, 72 DIRECTOR SINCE 1985. Chairman and CEO (retired 1995), Ecolab, Inc., a worldwide developer and marketer of cleaning and sanitizing products, systems and services. Joined Ecolab in 1983 as chairman and CEO. Previously served in executive management positions with several major U.S. businesses. Currently serves as a partner of Palladium Equity Partners, LLC, a New York private investment firm. James E. Gustafson, 53 DIRECTOR SINCE January 1999. President and Chief Operating Officer, The St. Paul Companies. Previously served as president and chief operating officer of General Re Corporation, a Stamford, Conn., international reinsurance company. Joined General Re in 1969 as an underwriter. Was named executive vice president in 1991 and president and chief operating officer in 1995. Thomas R. Hodgson, 58 DIRECTOR SINCE 1997. Served as President and Chief Operating Officer, Abbott Laboratories, a global diversified health care company devoted to the discovery, development and manufacture and marketing of pharmaceutical, diagnostics, nutritional and hospital products from 1990 through 1998. Joined Abbott in 1972 and served as president of Abbott International from 1983 to 1990. Served on Abbott board for 14 years. David G. John, 61 DIRECTOR SINCE 1996. Chairman, The BOC Group, a U.K.-based manufacturer of industrial gases and related products, and high vacuum technology. Joined BOC as non-executive director in 1993; named chairman in 1996. Has served as non-executive chairman of Premier Oil since March 1998. Previously served 15 years in executive positions with Inchcape plc. William H. Kling, 57 DIRECTOR SINCE 1989. President, Minnesota Public Radio and President, Minnesota Communications Group. Founded Minnesota Public Radio in 1966 and has served as president since then. Was founding president of American Public Radio (now Public Radio International) in 1983 and served as vice chairman until 1993. Has served as president of Greenspring Company, a diversified media and catalog marketing company, since 1987. Douglas W. Leatherdale, 63 DIRECTOR SINCE 1981. Chairman and CEO, The St. Paul Companies and Chairman, St. Paul Fire and Marine. Joined the company's investments department in 1972. Named to present position in 1990 after serving as vice president- investments, senior vice president- finance, executive vice president and chief financial officer. Bruce K. MacLaury, 68 DIRECTOR SINCE 1987. President Emeritus (since 1995), The Brookings Institution, a Washington, D.C., public policy research and education institution. Prior to appointment as president of Brookings in 1977, served with the Federal Reserve Bank of New York and as president of the Minneapolis Federal Reserve Bank. Also served as a deputy undersecretary of the U.S. Treasury. Glen D. Nelson, M.D., 62 DIRECTOR SINCE 1992. Vice Chairman, Medtronic, Inc., the world's leading medical technology company. Served Medtronic as an outside director from 1980, then joined the company in 1986 as executive vice president. Previously served as CEO of two health care corporations and practiced as a surgeon in a multispecialty group for 17 years. Serves as a clinical professor at the University of Minnesota. Anita M. Pampusch, 61 DIRECTOR SINCE 1985. President, The Bush Foundation, Saint Paul, Minn., since 1997. Previously served as president, The College of St. Catherine, from 1984 to 1997. Joined the college as a philosophy instructor in 1970, became associate professor three years later and was named vice president and academic dean in 1980. Served one year as acting president of St. Catherine's before being named president. Gordon M. Sprenger, 62 DIRECTOR SINCE 1995. President and CEO, Allina Health System, a not-for-profit integrated health care system. Assumed current position in 1993 when HealthSpan Health Systems Corporation, of which he was executive officer, merged with Medica. Previously served in executive positions with Abbott-Northwestern Hospital and as president and CEO of LifeSpan, Inc. * As of January 1, 2000 MANAGEMENT THE ST. PAUL COMPANIES, INC. Douglas W. Leatherdale, 63 CHAIRMAN AND CHIEF EXECUTIVE OFFICER SINCE 1990. Joined company's investments department in 1972. Served as vice president- investments, senior vice president-finance, executive vice president and chief financial officer before being named to current position. Fifteen years investment experience, including 11 years as an officer of Great West Life Assurance Company and five years as associate executive secretary for the Lutheran Church in America's Board of Pensions, prior to joining The St. Paul. Reporting to Leatherdale are U.S. Underwriting, International Underwriting, St. Paul Re, Nuveen, Finance and Investments, Legal Services, Human Resources and Corporate Affairs. James E. Gustafson, 53 PRESIDENT AND CHIEF OPERATING OFFICER SINCE JANUARY 1999. Board member since January 1999. Previously served as president and chief operating officer of General Re Corporation, and chairman and CEO of General Reinsurance Corporation. Joined General Re in 1969 and served in several underwriting positions before being named vice president of the treaty underwriting division in 1978. Named senior vice president and chief underwriting officer in 1982; president and chief executive officer of the General Reinsurance Services Corporation in 1987; executive vice president in 1991; and president and chief operating officer in 1995. Reporting to Gustafson are the U.S. Insurance Operations. Paul J. Liska, 44 EXECUTIVE VICE PRESIDENT AND CHIEF FINANCIAL OFFICER SINCE 1997. Joined The St. Paul in 1997. Twenty-two years prior corporate executive and financial management experience with companies such as Specialty Foods Corporation and Kraft General Foods. Reporting to Liska are Financial Controls, Financial Planning and Analysis, Investments, Corporate Audit, Corporate Actuarial, Corporate Treasury, Strategic Planning and Development, Corporate Risk Management, Information Systems, Ceded Reinsurance and F&G Life. John A. MacColl, 51 EXECUTIVE VICE PRESIDENT AND GENERAL COUNSEL SINCE MAY 1999. Joined The St. Paul in the merger with USF&G in 1998. Previously served as USF&G Corporation's executive vice president-human resources and general counsel. Before joining USF&G in 1989, was a partner with the law firm of Piper & Marbury in Baltimore and served as federal prosecutor in the U.S. Attorney's Office in Maryland. Thomas A. Bradley, 42 SENIOR VICE PRESIDENT-FINANCE SINCE 1998. Joined The St. Paul when it merged with USF&G in 1998 as senior vice president and corporate controller. Was added the responsibility for Strategic Planning and Development in September 1999. Began career in 1980 at Ernst & Young in Baltimore. In 1984, joined Maryland Casualty Company, a subsidiary of Zurich Insurance Group, as controller and later served as vice president and chief financial officer of its Commercial Insurance Division. Joined USF&G in 1993 as vice president-property-liability finance and added the responsibility of corporate controller in 1996. Karen L. Himle, 44 SENIOR VICE PRESIDENT-CORPORATE AFFAIRS SINCE 1997. Joined company's government affairs department in 1985. Named senior government affairs officer in 1989 and vice president-corporate communications in 1991. Six years prior government relations and legislative experience. Wayne L. Hoeschen, 52 SENIOR VICE PRESIDENT-INFORMATION SYSTEMS SINCE 1992. Joined company's information systems department in 1972. Named vice president-information systems in 1990. David R. Nachbar, 37 SENIOR VICE PRESIDENT-HUMAN RESOURCES SINCE 1998. Joined The St. Paul in 1998. Previously vice president-human resources and chief of staff-Asia for Citicorp. Fifteen years prior human resources experience with the American Broadcasting Companies, Time Warner, PepsiCo and Citibank. Janet R. Nelson, 50 SPECIAL ASSISTANT TO THE PRESIDENT SINCE OCTOBER 1999. Started with the company's actuarial department in 1973 and joined specialty underwriting in 1982. Named vice president in 1982 and senior vice president in 1984. Served as president of specialty underwriting operation from 1989 to 1993, and president of Custom Markets from 1993 to 1999. Bruce A. Backberg, 51 SENIOR VICE PRESIDENT-LEGAL SERVICES SINCE 1997. Started with company's legal services department in 1972. Named vice president in 1992 and senior vice president in 1997. Laura C. Gagnon, 38 VICE PRESIDENT-FINANCE AND INVESTOR RELATIONS SINCE JULY 1999. Joined company's investments department in 1986 as associate investment analyst. Served as charter member of the corporate planning and development department upon its inception in 1995. Named vice president-corporate planning and development in March 1999. Thomas E. Bergmann, 33 VICE PRESIDENT AND TREASURER SINCE FEBRUARY 1999. Joined The St. Paul's corporate treasury department earlier in 1999. Twelve years prior experience in treasury positions with Johnson & Johnson and Honeywell, Inc. Sandra Ulsaker Wiese, 40 ASSISTANT VICE PRESIDENT SINCE MAY 1999 AND CORPORATE SECRETARY SINCE 1998. Joined company's legal services department in 1991 and named officer in 1995. Served as chief of staff of the U.S. Small Business Administration in Washington, D.C. U.S. INSURANCE OPERATIONS Stephen W. Lilienthal, 50 EXECUTIVE VICE PRESIDENT OF ST. PAUL FIRE AND MARINE AND OF U.S. INSURANCE OPERATIONS SINCE 1998. Joined The St. Paul in the merger with USF&G in 1998. Previously served as executive vice president and chief underwriting officer, and president of USF&G Corporation's Commercial Insurance Group. Joined USF&G in 1993 as senior vice president and chief commercial lines underwriting officer. Twenty-one years prior insurance experience at Travelers Insurance. Michael J. Conroy, 58 EXECUTIVE VICE PRESIDENT AND CHIEF ADMINISTRATIVE OFFICER SINCE 1995. Joined company in 1994 as senior vice president-claim. Twenty-five years prior insurance experience with the Chubb Corporation and five years with The Home Insurance Company as executive vice president and chief administrative officer. James R. Lewis, 51 SENIOR VICE PRESIDENT-COMMERCIAL LINES GROUP SINCE OCTOBER 1999. Joined The St. Paul in the merger with USF&G in 1998. Previously served as senior vice president of USF&G Corporation's Personal Lines and Family and Business Insurance Group. Twenty-eight years prior insurance experience with Aetna Life and Casualty Company and CIGNA Corporation. Kevin M. Nish, 45 SENIOR VICE PRESIDENT-CATASTROPHE RISK SINCE 1998. Joined The St. Paul in the merger with USF&G in 1998. Joined USF&G in 1993. Previously served as vice president and as chief executive officer of GeoVera Insurance. Twenty-one years prior insurance experience with Fireman's Fund Insurance Company and Kemper Insurance. Marita Zuraitis, 39 SENIOR VICE PRESIDENT-COMMERCIAL LINES GROUP SINCE 1998. Joined The St. Paul in the merger with USF&G in 1998. Joined USF&G in 1993. Previously served as senior vice president of USF&G Corporation's commercial insurance group. Also served as vice president-ceded reinsurance, branch vice president and regional vice president. Seventeen years insurance experience. GLOBAL SPECIALTY PRACTICES Robert J. Lamendola, 55 PRESIDENT-SURETY SINCE 1998 AND SENIOR VICE PRESIDENT-GLOBAL SPECIALTY PRACTICES SINCE OCTOBER 1999. Joined The St. Paul in the merger with USF&G in 1998. Joined USF&G in 1992 as senior vice president-fidelity and surety. Served as president of USF&G Corporation's Surety Group. Prior to joining USF&G, served as a managing director of Marsh & McLennan, Inc. Reporting to Lamendola are Surety and Construction. T. Michael Miller, 41 SENIOR VICE PRESIDENT-GLOBAL SPECIALTY PRACTICES SINCE OCTOBER 1999. Joined company in 1995 as vice president-professional liability. Fourteen years prior insurance experience with the Chubb Corporation, finally as senior vice president before joining company. Reporting to Miller are Financial and Professional Services, Public Sector Services and Excess and Surplus Lines. Kent D. Urness, 51 SENIOR VICE PRESIDENT-GLOBAL SPECIALTY PRACTICES SINCE OCTOBER 1999. Joined company in 1971 and worked in various underwriting and marketing positions. Named vice president-commercial insurance in 1985 and senior vice president-agency broker services in 1991. Appointed president and chief executive officer of St. Paul International Insurance Company Ltd. in 1993. Reporting to Urness are Health Services, Technology and Global Marine. INTERNATIONAL INSURANCE OPERATIONS ST. PAUL INTERNATIONAL UNDERWRITING Mark L. Pabst, 53 PRESIDENT AND CHIEF OPERATING OFFICER-ST. PAUL INTERNATIONAL UNDERWRITING SINCE 1995. Joined The St. Paul as senior vice president-human resources in 1988. Named executive vice president for Minet in 1992. Sixteen years experience in human resources in banking, and five years as naval intelligence officer. REINSURANCE ST. PAUL RE James F. Duffy, 56 PRESIDENT-ST. PAUL RE SINCE 1993. Joined The St. Paul in 1980 as president of surplus lines and specialty underwriting operations. Named senior vice president in 1984 and executive vice president in 1988. Prior to joining company, 13 years insurance and reinsurance experience, including eight with First State Insurance Company and New England Reinsurance Corporation. LIFE INSURANCE FIDELITY AND GUARANTY LIFE Harry N. Stout, 47 PRESIDENT-FIDELITY AND GUARANTY LIFE INSURANCE SINCE 1994. Joined The St. Paul in the merger with USF&G in 1998. Joined F&G Life in 1993 as head of product development. Previously was with Reliance Insurance Companies and served as chief marketing officer for United Pacific Life. Also served in various management roles with KPMG LLP. ASSET MANAGEMENT THE JOHN NUVEEN COMPANY Timothy R. Schwertfeger, 50 CHAIRMAN AND CHIEF EXECUTIVE OFFICER-THE JOHN NUVEEN COMPANY SINCE 1996. Joined investment banking department of Nuveen in 1977. Named executive vice president and member of Nuveen's board of directors in 1989. Subsequently appointed chairman of the board of directors of the Nuveen Mutual Funds and Exchange-traded Funds. EX-21 7 EXHIBIT 21 EXHIBIT 21 Subsidiaries of The St. Paul Companies, Inc. State or - -------------------------------------------- Other Jurisdiction of Name Incorporation - ---- ------------- (1) St. Paul Fire and Marine Insurance Company Minnesota Subsidiaries: (i) St. Paul Mercury Insurance Co. Minnesota (ii) St. Paul Guardian Insurance Co. Minnesota (iii) The St. Paul Insurance Co. Texas (iv) The St. Paul Insurance Co. of Illinois Illinois (v) St. Paul Fire and Casualty Insurance Co. Wisconsin (vi) St. Paul Indemnity Insurance Co. Indiana (vii) St. Paul Property and Casualty Insurance Co. Nebraska (viii) St. Paul Lloyds Holdings, Inc. Texas (ix) St. Paul Management Services, Inc. Minnesota (x) Seaboard Surety Company New York Subsidiaries: (a) Northern Indemnity, Inc. Canada (xi) St. Paul Insurance Co. of North Dakota North Dakota (xii) St. Paul Specialty Underwriting, Inc. Delaware Subsidiaries: (a) St. Paul Surplus Lines Insurance Co. Delaware (b) Athena Assurance Co. Minnesota (c) St. Paul Medical Liability Insurance Co. Minnesota (d) St. Paul Risk Services, Inc. Minnesota (xiii) Northbrook Holdings, Inc. Delaware Subsidiaries: (a) Discover Property & Casualty Insurance Co. Illinois (b) Northbrook Property and Casualty Insurance Co. Illinois (xiv) St. Paul Venture Capital IV, L.L.C. Delaware (xv) St. Paul Venture Capital V, L.L.C. Delaware (xvi) St. Paul Properties, Inc. Delaware Subsidiaries: (a) St. Paul Interchange, Inc. Minnesota (b) 350 Market Street, Inc. Minnesota (xvii) United States Fidelity and Guaranty Co. Maryland Subsidiaries: (a) Fidelity and Guaranty Insurance Underwriters, Inc. Wisconsin (b) Fidelity and Guaranty Insurance Co. Iowa (c) USF&G Insurance Company of Mississippi Mississippi (d) USF&G Insurance Company of Wisconsin Wisconsin (e) Discover Specialty Insurance Company Illinois (f) USF&G Specialty Insurance Co. Maryland (g) USF&G Business Insurance Co. Maryland (h) USF&G Family Insurance Co. Maryland (i) GeoVera Insurance Co. Maryland (j) Inner Harbor Reinsurance, Inc. Maryland (k) The Del Mar Co. Delaware (l) USF&G Small Business Insurance Co. Maryland (m) USF&G Pacific Insurance Co. Maryland (n) USF&G West Insurance Co. Maryland (o) USF&G Founder's Insurance Co. Maryland (p) Charter House Underwriters, Inc. Maryland (q) Afianzadora Insurgentes, S.A. De C.V. Mexico (r) F&G Specialty Insurance Services, Inc. California (s) IMG Holding Company, Inc. Maryland Subsidiary: (i) USF&G Realty Advisors, Inc. Delaware (t) Discover Re Managers, Inc. Delaware Subsidiary: (i) Discovery Reinsurance Co. Indiana (ii) Discovery Managers, Ltd. Indiana (u) THI Holdings (Delaware), Inc. Delaware Subsidiaries: (i) Titan Holdings Service Corp. Texas (ii) Titan Indemnity Company Texas (iii) Victoria Financial Corp. Delaware (xviii) Fidelity and Guaranty Life Insurance Co. Maryland Subsidiary: (a) Thomas Jefferson Life Insurance Co. New York (xix) USF&G Realty, Inc. Delaware (2) The John Nuveen Company* Delaware Subsidiaries: (i) John Nuveen & Co. Incorporated Delaware Subsidiaries: (a) Nuveen Advisory Corp. Delaware (b) Nuveen Institutional Advisory Corp. Delaware (ii) Nuveen Asset Management, Inc. Delaware (iii) Rittenhouse Financial Services, Inc. Delaware (iv) Nuveen Senior Loan Asset Management, Inc. Delaware (3) St. Paul Re, Inc. New York (4) Camperdown Corporation Delaware (5) St. Paul Capital L.L.C. Delaware (6) St. Paul Venture Capital, Inc. Delaware (7) St. Paul London Properties, Inc. Minnesota (8) St. Paul London Investments, Inc. Minnesota (9) St. Paul Multinational Holdings, Inc. Delaware Subsidiaries: (i) St. Paul Insurance Company (S.A.) Limited South Africa (ii) Seguros St. Paul de Mexico, S.A. de C.V. Mexico (iii) Botswana Insurance Company Limited Botswana (iv) St. Paul Argentina Compania De Seguros S.A. Argentina (10) St. Paul Bermuda Holdings, Inc. Delaware Subsidiaries: (i) St. Paul (Bermuda), Ltd. Bermuda (ii) St. Paul Re (Bermuda), Ltd. Bermuda (iii) F&G International Insurance, Ltd. Bermuda (iv) Bosworth Insurance Co., Ltd. Bermuda (11) St. Paul Holdings Limited United Kingdom Subsidiaries: (i) St. Paul Reinsurance Company Limited United Kingdom (ii) St. Paul International Insurance Company Limited United Kingdom (iii) St. Paul Insurance Espana Seguros Y Reaseguros, S.A. Spain (iv) Camperdown UK Limited United Kingdom (v) New World Insurance Company Ltd. Guernsey (vi) Lesotho National Insurance Holdings Limited Lesotho (vii) St. Paul Syndicate Holdings, Ltd. United Kingdom Subsidiary: (i) F&G Overseas, Ltd. Cayman Islands (12) USF&G Financial Services Corporation. Maryland (13) St. George Reinsurance, Ltd. B.W. Indies (14) Mountain Ridge Insurance Co. Vermont (15) Captiva, Ltd. Bermuda *The John Nuveen Company is a majority-owned subsidiary jointly owned by The St. Paul, which holds a 66% interest, and Fire and Marine, which holds a 13% interest. The remaining 21% is publicly held. EX-23 8 EXHIBIT 23(A) EXHIBIT 23A CONSENT OF INDEPENDENT AUDITORS The Board of Directors The St. Paul Companies, Inc.: We consent to incorporation by reference in the Registration Statements on Form S-8 (SEC File No. 33-15392, No. 33-23446, No. 33- 23948, No. 33-24220, No. 33-24575, No. 33-26923, No. 33-49273, No. 33- 56987, No. 333-01065, No. 333-22329, No. 333-25203, No. 333-28915, No. 333-48121, No. 333-50935, No. 333-50937, No. 333-50941, No. 333- 50943 and No. 333-67983), and Form S-3 (SEC File No. 333-06465 and No. 333-67139) of The St. Paul Companies, Inc., of our reports dated February 16, 2000, relating to the consolidated balance sheets of The St. Paul Companies, Inc. and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, shareholders' equity, comprehensive income and cash flows for each of the years in the three-year period ended December 31, 1999, and related schedules I through V, which reports appear or are incorporated by reference in the December 31, 1999 annual report on Form 10-K of The St. Paul Companies, Inc. The consolidated financial statements and financial statement schedules for the year ended December 31, 1997 have been restated to reflect the pooling of interests with USF&G Corporation. Our reports state the consolidated financial statements and financial statement schedules of USF&G Corporation, which statements reflect total revenues constituting 34 percent for the year ended December 31, 1997 of the related consolidated total, were audited by other auditors whose reports have been furnished to us, and our opinions, insofar as they relate to the amounts included for USF&G Corporation, for the year ended December 31, 1997 are based solely on the reports of such other auditors. Minneapolis, Minnesota /s/ KPMG LLP March 29, 2000 ------------ KPMG LLP EX-23 9 EXHIBIT 23(B) EXHIBIT 23B CONSENT OF INDEPENDENT AUDITORS We consent to the use of our report dated February 20, 1998, with respect to the consolidated financial statements of USF&G Corporation for the year ended December 31, 1997 (not included separately herein) included as Schedule VII in The St. Paul Companies, Inc.'s Annual Report (Form 10-K) for the year ended December 31, 1999, filed with the Securities and Exchange Commission. Our audit also included the financial statement schedules of USF&G Corporation listed in Item 14(a) of USF&G Corporation's Annual Report (Form 10-K) for the year ended December 31, 1997 (not included separately herein). These schedules are the responsibility of management. Our responsibility is to express an opinion based on our audit. In our opinion, the financial statement schedules referred to above, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein. We also consent to the incorporation by reference in the Registration Statements on Form S-8 (SEC File No. 33-15392, No. 33-23446, No. 33- 23948, No. 33-24220, No. 33-24575, No. 33-26923, No. 33-49273, No. 33- 56987, No. 333-01065, No. 333-22329, No. 333-25203, No. 333-28915, No. 333-48121, No. 333-50935, No. 333-50937, No. 333-50941, No. 333- 50943 and No. 333-67983), and Form S-3 (SEC File No. 333-06465 and No. 333-67139), of The St. Paul Companies, Inc., of our report dated February 20, 1998, with respect to the consolidated financial statements and schedules of USF&G Corporation (these financial statements and schedules are not presented herein) included as Schedule VII in The St. Paul Companies, Inc. Annual Report on Form 10-K filed with the Securities and Exchange Commission. /s/ Ernst & Young LLP ------------------- Ernst & Young LLP Baltimore, Maryland March 29, 2000 EX-24 10 EXHIBIT 24 EXHIBIT 24 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, That I, the undersigned, a director of The St. Paul Companies, Inc., a Minnesota corporation ("The St. Paul"), do hereby make, nominate and appoint Sandra Ulsaker Wiese and Bruce A. Backberg, or either of them, to be my attorney-in-fact, with full power and authority to sign on my behalf a Form 10-K for the year ended December 31, 1999, to be filed by The St. Paul with the Securities and Exchange Commission, and any amendments thereto, and shall have the same force and effect as though I had manually signed the Form 10-K or amendments. Dated: February 1, 2000 Signature: /s/ H. Furlong Baldwin ---------------------- Name: H. Furlong Baldwin Dated: February 1, 2000 Signature: /s/ Michael R. Bonsignore ------------------------- Name: Michael R. Bonsignore Dated: February 1, 2000 Signature: /s/ John H. Dasburg ------------------- Name: John H. Dasburg Dated: February 1, 2000 Signature: /s/ W. John Driscoll -------------------- Name: W. John Driscoll Dated: February 1, 2000 Signature: /s/ Kenneth M. Duberstein ------------------------- Name: Kenneth M. Duberstein Dated: February 1, 2000 Signature: /s/ Pierson M. Grieve --------------------- Name: Pierson M. Grieve Dated: February 1, 2000 Signature: /s/ Thomas R. Hodgson --------------------- Name: Thomas R. Hodgson Dated: February 1, 2000 Signature: /s/ David G. John ----------------- Name: David G. John Dated: February 1, 2000 Signature: /s/ William H. Kling -------------------- Name: William H. Kling Dated: February 1, 2000 Signature: /s/ Bruce K. MacLaury --------------------- Name: Bruce K. MacLaury Dated: February 1, 2000 Signature: /s/ Glen D. Nelson ------------------ Name: Glen D. Nelson Dated: February 1, 2000 Signature: /s/ Anita M. Pampusch --------------------- Name: Anita M. Pampusch Dated: February 1, 2000 Signature: /s/ Gordon M. Sprenger ---------------------- Name: Gordon M. Sprenger EX-27 11 EXHIBIT 27
7 1,000,000 YEAR YEAR YEAR DEC-31-1999 DEC-31-1998 DEC-31-1997 DEC-31-1999 DEC-31-1998 DEC-31-1997 19,329 20,444 20,252 0 0 0 0 0 0 1,618 1,259 1,052 582 629 641 922 878 985 26,207 26,498 25,252 165 146 136 195 157 128 959 878 845 38,873 37,864 36,887 22,819 22,328 21,669 3,118 3,092 3,374 0 0 0 0 0 0 1,466 1,260 1,304 425 503 503 24 15 17 2,079 2,128 2,057 4,369 4,493 4,534 38,873 37,864 36,887 5,290 5,553 5,996 1,557 1,571 1,573 277 201 423 445 383 316 4,087 4,738 4,366 1,325 1,487 1,487 1,140 1,363 1,022 1,017 120 1,433 238 (79) 371 779 199 1,062 85 (110) (133) 0 0 0 (30) 0 0 834 89 929 3.61 0.33 3.97 3.41 0.32 3.69 18,186 17,853 17,582 3,928 4,682 4,805 (208) (217) (716) 959 1,136 1,065 3,411 3,245 3,025 17,934 18,186 17,853 0 353 424
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