A.M. Best Affirms FSR of Travelers

January 15, 2003

A.M. Best Co. has affirmed the financial strength rating of A++ (Superior) of Travelers Property Casualty Pool (Hartford, Conn.).

The rating applies to the 20-member pool, led by Travelers Indemnity Company, and two reinsured affiliates. The rating also applies to Travelers Casualty and Surety Company of America and Travelers Casualty and Surety Company of Canada, which A.M. Best considers to be core and integral members of the Travelers Property Casualty Group. Concurrently, A.M. Best has affirmed the “aa-” senior debt and “a+” subordinated debt ratings of Travelers Property Casualty Corp. and the “a+” rating of the trust preferred securities issued by Travelers P&C Capital I and II. The outlook for the ratings is stable.

The rating actions follow Travelers Property Casualty Corp.’s announcement that it has completed its asbestos reserve study and that it will strengthen reserves for asbestos liabilities in the fourth-quarter of 2002 by $2.55 billion after reinsurance. Net of tax benefits and payments to be received under its indemnification agreement with its former parent, Citigroup, Travelers’ after tax asbestos charge is $1.3 billion. The net asbestos reserve charge taken in the fourth quarter was based upon an internal ground-up study of Travelers’ ongoing asbestos exposures. The study involved an extensive assessment of Travelers’ asbestos liability exposures, taking into account a review of all active policyholders, changes in litigation and potential exposure arising from non-product exposure. Methodology used by Travelers was also opined upon by a prominent independent consultant. During the fourth quarter, Travelers also reallocated $100 million of non-asbestos and environmental (A&E) net reserves to environmental reserves.

The current ratings take into consideration the impact from this significant reserve charge and A.M. Best’s view of capitalization, which had already contemplated an A&E reserve deficiency greater than the asbestos reserve strengthening in the fourth quarter. A.M. Best has met with management regarding Travelers’ asbestos study and is significantly more comfortable with the adequacy of Travelers’ A&E reserves. A.M. Best views this A&E reserve strengthening as positive in that it should lessen future A&E earnings drag as well as help to narrow the gap between the company’s carried A&E reserves and A.M. Best’s view of A&E reserves.

While consolidated statutory policyholders’ surplus of Travelers PC Pool was adversely impacted by this reserve charge, the actual decline in surplus was largely moderated by a $900 million capital contribution from the parent, operating earnings and realized capital gains in the fourth quarter.

Despite this significant reserve charge, A.M. Best continues to view Travelers’ consolidated statutory capitalization of the Pool as strong and supportive of its current rating. Prospectively, A.M. Best estimates Travelers PC Pool’s earnings will be strong over the next several years and should continue to benefit from the current market conditions given its lead position in the property/casualty insurance marketplace, in both commercial and personal lines. Combined with an expectation of lower dividend payouts to the parent, A.M. Best anticipates the group’s capitalization will continue to be enhanced.

Travelers Property Casualty Corp’s financial leverage – at 26 percent -is elevated for its rating due to the $750 million of short-term debt incurred to partially finance the company’s $900 million capital contribution to the Travelers PC Pool. A.M. Best expects financial leverage to decline to around 20 percent by year-end 2003, a level more in line with its debt ratings. More important is the holding company’s cash flow and liquidity, which is just adequate for 2003. The subsidiaries are expected to generate earnings this year that will more than allow for repayment of the $750 million as well as debt service; however, re-building holding company liquidity will take the company well into 2004.

Management expects the dividends to the parent to be less than half of the insurance subsidiaries’ projected earnings, leaving sufficient capital to support growth. Additionally, the capital structure has been well managed with almost two-thirds of debt obligations in the form of convertible notes and trust preferred securities. A.M. Best believes the insurance subsidiaries’ earnings, cash generating ability and significant financial flexibility support the interim leverage and liquidity levels.

The ratings also consider Travelers’ prospective earnings power and balance sheet strength as well as the group’s dominant market profile and conservative management approach, which focuses on profitability, emphasizing both underwriting and financial discipline. The success of this approach is exemplified by the group’s exceptionally strong earnings performance in recent years with returns on both revenue and equity surpassing industry norms by a wide margin.

These ratios underscore Travelers’ effective expense management, catastrophe mitigation strategies and adherence to strict underwriting and reserving discipline. Aiding Travelers’ superior operating performance relative to its peers has been its higher level of investment income in comparison with premiums earned, which is largely derived from a strong capital base as well as long-tail reserves. These favorable considerations are tempered by the group’s exposure to potential terrorist-related losses as a result of its large commercial lines book of business.

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