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HARTFORD, Conn.—The future makeup of one of the few remaining large multiline insurers was thrown into question last week when the Hartford Financial Services Group Inc.'s largest shareholder publicly called for the company to be split up.
While the immediate impact of spinning off Hartford's property/ casualty operations would be felt by shareholders, the long-term implications for the insurer's policyholders remains uncertain.
Some observers see a spinoff having little effect on risk managers, but others say it could have positive and negative ramifications.
The question of a spinoff arose during Hartford's earnings conference call last week. Hartford's net income dropped 61% to $662 million last year. The company attributed its drop in earnings in part to reserve fund strengthening, including $161 million in workers compensation reserve costs during the fourth quarter of last year.
But the question of the split centered not on Hartford's 2011 earnings but on the fact that its stock price has been in the doldrums.
During the presentation, Hartford noted that it had received inquiries on the feasibility of splitting the company, but said that doing so would present challenges to creating shareholder value. One of those was maintaining competitive rates while allocating $6.8 billion in holding company debt, according to a slide presented by Hartford.
“Life companies could assume no more than one-third of debt due to (a) combination of their currently limited capacity to generate statutory earnings and dividends and A-level interest coverage ratios,” said Hartford, while property/casualty “companies would need to assume at least two-thirds of debt, which could require potentially dilutive deleveraging actions in order to meet A-rating debt leverage ratios.”
According to Hartford, other challenges included regulatory issues, securing bondholder approval of debt allocation and other matters.
But Hartford's largest stockholder, John Alfred Paulson, president of New York-based hedge fund sponsor Paulson & Co., challenged Hartford Chairman, President and CEO Liam McGee for stressing challenges involved with a possible spinoff rather than how to overcome them.
While he agreed there were challenges, “isn't your job to really overcome those challenges to achieve the maximum value for shareholders?” said Mr. Paulson, according to a transcript of the call. “Now I would say that Hartford needs to do something drastic because the stock is the lowest valuation relative to book value of any major insurance company.”
“How long do we have to wait to hear if there's going to be a positive recommendation to separate these two businesses?” he asked.
“First of all, the analysis and the intent of the comments was to acknowledge that the challenges are significant, not to say that they could not be overcome,” said Mr. McGee, before the exchange with Mr. Paulson continued.
This was not the first time the issue of splitting up Hartford has arisen.
Rumblings about the need to split Hartford's life and property/casualty operations arose in 2009 as the insurance group awaited final approval to receive $3.4 billion from the U.S. Treasury Department's Capital Purchase Program.
In May 2009, Hartford made public an internal memo from then-chairman and CEO Ramani Ayer saying Hartford had no intention of selling either operation despite reports that it was trying to sell assets as a result of the credit crunch, which troubled its life insurance operations.
Few major commercial insurance groups continue to have large life insurance and large property/casualty operations, American International Group Inc. being a notable exception. During the late 1990s, CIGNA Corp. and Aetna Life & Casualty Co. sold their property/casualty operations to competitors in order to concentrate on health care, as well as maintaining some life insurance business. (see box).
Some Wall Street analysts agreed that Hartford might need to spin off some operations to increase shareholder value. In an equity research update issued after the earnings call, Goldman Sachs Group Inc. analyst Christopher Giovanni said Goldman continues “to believe macro issues coupled with low valuations will lead to an acceleration of strategic reviews. Within this context, we believe Hartford has several valuable assets that are underpriced in its current multiline structure but which could be worth notably more as separate entities or in a sale. As a result, we think this affords management several strategic options to unlock shareholder value.”
“It's something we've thought about in the past,” said Brian Schneider, a senior director at Fitch Ratings Inc. in Chicago. “At least two years ago, we actually split the ratings between the life companies and the property/casualty companies. We've maintained separate ratings for both. From our standpoint, there wouldn't be a ratings issue from the insurance company standpoint, but they do raise some points regarding the holding company, which is where the debt is.”
“Debt is the single biggest issue,” said Meyer Shields, director of equity research-property/casualty insurance at Stifel Nicolaus & Co. Inc. in Baltimore.
“It's usually easily resolved through some sort of capital infusion. I'm thinking of that in a two-step process. First step is loading up most of the debt on the P/C company and then raising some capital for the P/C to address that debt,” he said. “Right now, the property/casualty operations are basically subsidizing the life insurance business.”
Mr. Shields said there were “some disappointing elements of the property/casualty results, but we're sort of nibbling at the edges. To quote from Hartford's presentation, the life companies "have currently a limited capacity to generate statutory earnings.'”
Whether a split would have a direct effect on policyholders remains unclear.
“I won't have any overriding concerns,” said Wayne Salen, director of risk management at Labor Finders International Inc. in Palm Beach Gardens, Fla., who has a small part of his total insurance program placed with Hartford. “They're large enough to handle it.”
But, he added, “they're losing money like crazy on workers comp—you wonder what they're doing in other property/casualty” lines.
“We're going to keep our eye on it,” said a Midwestern risk manager who asked not to be identified. “Our understanding is, from what we hear, there would be a lot of interest in the property/casualty operations of Hartford if there's a breakup.”
“Our concern is that specialized coverage currently underwritten by Hartford would not be as attractive to a new owner,” said the risk manager.
“I think the implications for risk managers would be minimal. There may even be some positives,” said John L. Ward, CEO of Cincinnatus Partners L.L.C., in Loveland, Ohio. “The positives would be that there would be a stand-alone business dedicated to risk managers and that whole segment of the business. Over the past several years, the life business has been a real drag on the franchise, but on balance I would say it would be neutral and not of concern to risk managers.”