CNA FINANCIAL CORP - Quarter Report: 2001 September (Form 10-Q)

Quartery Report for CNA Financial Corporation

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2001 Commission File Number 1-5823

CNA FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)


Delaware (State or other jurisdiction of incorporation or organization)		36-6169860 (I.R.S. Employer Identification No.)

CNA Plaza Chicago, Illinois (Address of principal executive offices)		60685 (Zip Code)

(312) 822-5000
(Registrant’s telephone number, including area code)

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 periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes No...

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.


Class		Outstanding at November 1, 2001

Common Stock, Par value $2.50		223,596,905

TABLE OF CONTENTS


PART I. FINANCIAL INFORMATION
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS:
	CONDENSED CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, 2001 (Unaudited) AND DECEMBER 31, 2000
	CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
	CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
	NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) SEPTEMBER 30, 2001
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
	PART II OTHER INFORMATION
	ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
SIGNATURES

CNA FINANCIAL CORPORATION
INDEX


PART I. FINANCIAL INFORMATION			PAGE NO.


	CONDENSED CONSOLIDATED FINANCIAL STATEMENTS:

		CONDENSED CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, 2001 (Unaudited) AND DECEMBER 31, 2000		1

		CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000		2

		CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000		3

		NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) SEPTEMBER 30, 2001		4

	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS			32

PART II. OTHER INFORMATION

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K				74

SIGNATURES				74

CNA FINANCIAL CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS


					(Unaudited)
					September 30,			December 31,
					2001			2000

(In millions, except share data)
Assets:
	Investments:
		Fixed maturity securities available-for-sale (amortized cost of $27,949 and $26,579)			$	28,578		$	26,652
		Equity securities available-for-sale (cost of $1,358 and $1,175)				1,420			2,412
		Mortgage loans and real estate (less accumulated depreciation of $1 and $1)				22			26
		Policy loans				194			193
		Other invested assets				1,378			1,116
		Short-term investments				4,788			4,723

			Total investments			36,380			35,122
	Cash and cash equivalents					121			163
	Receivables:
		Reinsurance				13,312			9,397
		Insurance				4,162			5,026
		Less allowance for doubtful accounts				(355	)		(321	)
	Accrued investment income					394			404
	Receivable for securities sold					722			424
	Deferred acquisition costs					2,455			2,418
	Prepaid reinsurance premiums					1,350			1,445
	Federal income taxes recoverable (includes $777 and $25 due from Loews)					770			15
	Deferred income taxes					889			503
	Property and equipment at cost (less accumulated depreciation of $786 and $802)					463			716
	Intangibles					298			317
	Other assets					2,426			2,152
	Separate account business					3,730			4,287

				Total assets	$	67,117		$	62,068

Liabilities and Stockholders’ Equity:
Liabilities:
	Insurance reserves:
		Claim and claim adjustment expense			$	30,807		$	26,962
		Unearned premiums				4,766			4,821
		Future policy benefits				7,200			6,669
		Policyholders’ funds				582			602
	Collateral on loaned securities and derivatives					1,431			1,308
	Payables for securities purchased					1,422			593
	Participating policyholders’ funds					121			131
	Debt					2,084			2,729
	Reinsurance balances payable					2,684			1,381
	Other liabilities					3,441			2,721
	Separate account business					3,730			4,287

			Total liabilities			58,268			52,204

Commitments and contingencies (Note E)
Minority interest						223			217
Stockholders’ equity:
	Common stock ($2.50 par value; 500,000,000 shares authorized; 225,850,314 and 185,525,907 shares issued at September 30, 2001 and December 31, 2000; and 223,596,905 and 183,263,873 shares outstanding at September 30, 2001 and December 31, 2000)					565			464
	Additional paid-in capital					1,031			126
	Retained earnings					6,705			8,327
	Accumulated other comprehensive income					462			873
	Treasury stock, at cost					(70	)		(71	)

						8,693			9,719
	Notes receivable for the issuance of common stock					(67	)		(72	)

			Total stockholders’ equity			8,626			9,647

				Total liabilities and stockholders’ equity	$	67,117		$	62,068

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

CNA FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)


		Three Months						Nine Months

		2001			2000			2001			2000
Period ended September 30
(In millions, except per share data)
Revenues:
	Net earned premiums	$	2,529		$	2,919		$	6,663		$	8,467
	Net investment income		457			601			1,385			1,731
	Realized investment gains, net of participating policyholders’ and minority interests		1			606			940			910
	Other revenues		162			183			507			529

Total revenues			3,149			4,309			9,495			11,637

Claims, Benefits and Expenses:
	Insurance claims and policyholders’ benefits		2,440			2,465			8,846			7,156
	Amortization of deferred acquisition costs		423			456			1,297			1,381
	Other operating expenses		483			523			1,467			1,434
	Restructuring and other related charges		—			—			62			—
	Interest		37			54			121			154

Total claims, benefits and expenses			3,383			3,498			11,793			10,125

(Loss) income before income tax, minority interest and cumulative effect of a change in accounting principle			(234	)		811			(2,298	)		1,512
Income tax benefit (expense)			85			(251	)		755			(468	)
Minority interest			(6	)		(10	)		(18	)		(23	)

(Loss) income before cumulative effect of a change in accounting principle			(155	)		550			(1,561	)		1,021
Cumulative effect of a change in accounting principle, net of tax of $33			—			—			(61	)		—

Net (loss) income		$	(155	)	$	550		$	(1,622	)	$	1,021

Basic and Diluted (Loss) Earnings Per Share:
	(Loss) income before cumulative effect of a change in accounting principle	$	(0.84	)	$	3.00		$	(8.48	)	$	5.55
	Cumulative effect of a change in accounting principle, net of tax		—			—			(0.33	)		—

Basic and diluted (loss) earnings per share available to common stockholders		$	(0.84	)	$	3.00		$	(8.81	)	$	5.55

Weighted average outstanding common stock and common stock equivalents
	Basic		185.5			183.4			184.0			183.7
	Diluted		185.5			183.5			184.0			183.7

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

CNA FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)


Nine months ended September 30					2001			2000
(In millions)

Net Cash Flows used by Operating Activities:
	Net (loss) income				$	(1,622	)	$	1,021
	Adjustments to reconcile net (loss) income to net cash flows used by operating activities:
		Cumulative effect of change in accounting principle, net of tax				61			—
		Minority interest				18			23
		Deferred income tax provision				(217	)		292
		Net realized investment gains				(940	)		(910	)
		Equity method income				(52	)		(258	)
		Amortization of intangibles				15			16
		Amortization of bond discount				(208	)		(232	)
		Depreciation				99			111
		Changes in:
			Receivables, net			(3,017	)		(1,548	)
			Deferred acquisition costs			(54	)		(155	)
			Accrued investment income			10			(20	)
			Federal income taxes recoverable/payable			(721	)		422
			Prepaid reinsurance premiums			95			(40	)
			Reinsurance balances payable			1,303			333
			Insurance reserves			4,339			191
			Other, net			124			(142	)

				Total adjustments		855			(1,917	)

Net cash flows used by operating activities						(767	)		(896	)

Net Cash Flows from Investing Activities:
	Purchases of fixed maturity securities					(43,308	)		(29,061	)
	Proceeds from fixed maturity securities:
		Sales				39,847			27,003
		Maturities, calls and redemptions				2,835			3,259
	Purchases of equity securities					(1,066	)		(1,388	)
	Proceeds from sales of equity securities					1,915			2,298
	Change in short-term investments					48			(1,241	)
	Change in collateral on loaned securities and derivatives					123			539
	Change in other investments					(246	)		28
	Purchases of property and equipment					(95	)		(108	)
	Sales of property and equipment					273			—
	Other, net					82			(17	)

Net cash flows provided by investing activities						408			1,312

Net Cash Flows from Financing Activities:
	Issuance of common stock					1,006			—
	Principal payments on debt					(646	)		(112	)
	Return of policyholder account balances on investment contracts					(50	)		(113	)
	Redemption of preferred stock					—			(150	)
	Dividends paid to preferred stockholders					—			(1	)
	Purchase of treasury stock					—			(28	)
	Receipts from investment contracts credited to policyholder account balances					1			4
	Proceeds from issuance of debt					—			5
	Other					6			—

Net cash flows provided (used) by financing activities						317			(395	)

Net change in cash and cash equivalents						(42	)		21
Cash and cash equivalents, beginning of year						163			153

Cash and cash equivalents, end of period					$	121		$	174

Supplemental Disclosures of Cash Flow Information:
	Cash paid (received):
		Interest			$	99		$	106
		Federal income taxes				127			(240	)
	Non-cash transactions:
		Notes receivable for the issuance of common stock				—			(4	)

The accompanying Notes are an integral part of these Condensed Consolidated Financial Statements (Unaudited).

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

Note A. Basis of Presentation

The Condensed Consolidated Financial Statements (Unaudited) include CNA Financial Corporation (CNAF) and its controlled subsidiaries, which include property-casualty insurance companies (principally Continental Casualty Company (CCC) and The Continental Insurance Company (CIC)) and life and group insurance companies (principally Continental Assurance Company (CAC), Valley Forge Life Insurance Company (VFL) and CNA Group Life Assurance Company (CNAGLAC)), collectively CNA or the Company. As of September 30, 2001, Loews Corporation (Loews) owned approximately 89% of the outstanding common stock of CNAF.

The accompanying Condensed Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP). Certain financial information that is normally included in annual financial statements, including certain financial statement footnotes, prepared in accordance with GAAP, is not required for interim reporting purposes and has been condensed or omitted. These statements should be read in conjunction with the consolidated financial statements and notes thereto included in CNAF’s Annual Report to Shareholders for the year ended December 31, 2000 (incorporated by reference in Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2000).

The interim financial data as of September 30, 2001 and 2000 and for the three months and nine months ended September 30, 2001 and 2000 is unaudited. However, in the opinion of management, the interim data includes all adjustments, consisting of normal recurring accruals, necessary for a fair statement of the Company’s results for the interim periods. The operating results for the interim periods are not necessarily indicative of the results to be expected for the full year. All significant intercompany amounts have been eliminated.

Certain amounts applicable to prior periods have been reclassified to conform to the presentation followed in 2001.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Net investment income and realized investment gains, net of participating policyholders’ and minority interests is composed of the following.

Net Investment Income and Realized Investment Gains, Net of Participating Policyholders’ and Minority Interests


	Three Months						Nine Months

Period ended September 30	2001			2000			2001			2000
(In millions)

Fixed maturity securities	$	469		$	443		$	1,356		$	1,309
Short-term investments		34			61			113			152
Limited partnerships		20			100			52			258
Other, including interest on funds withheld and other deposits		(48	)		8			(89	)		49

Gross investment income		475			612			1,432			1,768
Investment expense		(18	)		(11	)		(47	)		(37	)

Net investment income	$	457		$	601		$	1,385		$	1,731

Realized investment gains, net of participating policyholders’ and minority interests	$	1		$	606		$	940		$	910

Note B. Accounting Pronouncements

In the first quarter of 2001, the Company adopted the Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities and the Statement of Financial Accounting Standards No. 138, Accounting for Certain Derivative Instruments and Certain Hedging Activities (collectively referred to as SFAS 133). The Company’s initial adoption of SFAS 133 did not have a significant impact on the equity of the Company; however, adoption of SFAS 133 resulted in an after-tax decrease to first quarter 2001 earnings of $61 million. Of this transition amount, approximately $58 million related to investments and investment-related derivatives. Because the Company already carried its investment and investment-related derivatives at fair value through other comprehensive income, there was an equal and offsetting favorable adjustment of $58 million to stockholders’ equity (accumulated other comprehensive income). The remainder of the transition adjustment is attributable to collateralized debt obligation products that are derivatives under SFAS 133. See Note D for a complete discussion of the Company’s adoption of these accounting pronouncements.

Effective January 1, 2001, the Company adopted the Codification of Statutory Accounting Principles (Codification) for preparing its statutory-basis financial statements. Codification is intended to standardize regulatory accounting and reporting to state insurance departments. However, statutory accounting principles will continue to be established by individual state laws and permitted practices. The states in which CNAF’s insurance subsidiaries conduct business required adoption of Codification (with certain modifications). The Company’s adoption of Codification, as modified, resulted in an increase in statutory capital and surplus of $24 million, which primarily relates to deferred tax assets, partially offset by insurance-related assessments and pension-related liabilities.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

the recording of written premiums. The effect of this change was to reduce net written premiums by $87 million for the nine months ended September 30, 2001. This change has no impact on net earned premiums or net income.

On April 1, 2001 the Company adopted Emerging Issues Task Force (EITF) Issue No. 99-20, Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets (EITF 99-20). EITF 99-20 establishes how a transferor that retains an interest in securitized financial assets or an enterprise that purchases a beneficial interest in securitized financial assets should account for interest income and impairment. This issue did not have a significant impact on the results of operations or equity of the Company.

In June 2001, the FASB issued Statement of Financial Accounting Standards No. 141, Business Combinations (SFAS 141). SFAS 141 requires companies to use the purchase method of accounting for business combinations initiated after June 30, 2001 and prohibits the use of the pooling-of-interests method of accounting. CNA will adopt this standard for any future business combinations.

In June 2001, the FASB issued Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (SFAS 142). SFAS 142 changes the accounting for goodwill and indefinite-lived intangible assets from an amortization method to an impairment-only approach. Amortization of goodwill and indefinite-lived intangible assets, including goodwill recorded in past business combinations, will cease upon adoption of SFAS 142, which for CNA will be January 1, 2002. The Company is in the process of quantifying the impact this new standard will have on its operations and intangible assets. Amortization of goodwill and intangible assets amounted to $4 million and $15 million for the three months and nine months ended September 30, 2001 and $6 million and $16 million for the three months and nine months ended September 30, 2000.

In October 2001, the FASB issued Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS 144). SFAS 144 addresses accounting and reporting for the impairment or disposal of long-lived assets. This statement supersedes FASB Statement of Financial Accounting Standards No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of. The provisions of this statement are effective for CNA beginning January 1, 2002. The Company is in the process of quantifying the impact this new standard will have on its operations and financial position.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Note C. (Loss) Earnings Per Share

(Loss) earnings per share applicable to common stock is based on weighted average outstanding shares, retroactively adjusted for all stock splits. The computation of (loss) earnings per share was as follows.

(Loss) Earnings Per Share


	Three Months					Nine Months

	2001			2000		2001			2000
Period Ended September 30
(In millions, except per share amounts)
Net (loss) income	$	(155	)	$	550	$	(1,622	)	$	1,021
Less preferred dividends		—			—		—			(1	)

Net (loss) income applicable to common stock	$	(155	)	$	550	$	(1,622	)	$	1,020

Weighted average outstanding common stock and common stock equivalents		185.5			183.4		184.0			183.7
Effect of dilutive securities, employee stock options		—			0.1		—			—

Adjusted weighted average outstanding common stock and common stock equivalents assuming conversions		185.5			183.5		184.0			183.7

Basic and diluted (loss) earnings per share available to common stockholders	$	(0.84	)	$	3.00	$	(8.81	)	$	5.55

Note D. Derivative Financial Instruments

As discussed in Note B, effective in 2001, the Company accounts for derivatives and hedging in accordance with SFAS 133. A derivative is typically defined as an instrument whose value is “derived” from an underlying instrument, index or rate, has a notional amount, and can be net settled. Derivatives include, but are not limited to, the following types of investments: interest rate swaps, interest rate caps and floors, put and call options, warrants, futures, forwards and commitments to purchase securities and combinations of the foregoing. Derivatives embedded within non-derivative instruments (such as call options embedded in convertible bonds) must be split from the host instrument and accounted for under SFAS 133 when the embedded derivative is not clearly and closely related to the host instrument. In addition, non-investment instruments, including certain types of insurance contracts that have historically not been considered derivatives can be derivatives or contain embedded derivatives under SFAS 133.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

SFAS 133 requires that all derivatives be recorded in the balance sheet at fair value. If certain conditions are met, a derivative may be specifically designated as a hedge of exposures to changes in fair value, cash flows or foreign currency exchange rates. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the nature of any hedge designation thereon. The Company’s accounting for changes in the fair value of general account derivatives is as follows.


Nature of Hedge Designation		Derivative’s Change in Fair Value Reflected In:

No hedge designation		Realized investment gains or losses.

Fair value		Realized investment gains or losses, along with the change in fair value of the hedged asset or liability.

Cash flow		Other comprehensive income, with subsequent reclassification to earnings when the hedged transaction, asset or liability impacts earnings.

Foreign currency		Consistent with fair value or cash flow above, depending on the nature of the hedging relationship.

Changes in the fair value of derivatives held in the separate accounts are reflected in separate account earnings. Because separate account investments are generally carried at fair value with changes therein reflected in separate account earnings, hedge accounting is generally not applicable to separate account derivatives.

Use of Derivatives

CNA uses investment derivatives in the normal course of business, primarily to reduce its exposure to market risk (principally interest rate risk, equity stock price risk and foreign currency risk) stemming from various assets and liabilities. The Company’s principal objective under such market risk strategies is to achieve the desired reduction in economic risk, even if the position will not receive hedge accounting treatment. The Company may also use derivatives for purposes of income enhancement, primarily via the sale of covered call options.

The Company’s use of derivatives is limited by statutes and regulations promulgated by the various regulatory bodies to which it is subject, and by its own derivative policy. The derivative policy limits which personnel are authorized to initiate derivative transactions. The policy prohibits the use of derivatives with a maturity greater than eighteen months, unless the derivative is matched with assets or liabilities having a longer maturity. The policy prohibits the use of derivatives containing greater than one-to-one leverage with respect to changes in the underlying price, rate or index. Also, the policy prohibits the use of borrowed funds, including funds obtained through repurchase transactions, to engage in derivative transactions.

Credit exposure associated with non-performance by the counterparties to derivative instruments is generally limited to the gross fair value of the asset related to the instruments recognized in the condensed consolidated balance sheets. The Company mitigates the risk of non-performance by using multiple counterparties and by monitoring their creditworthiness. The Company generally requires collateral from its derivative investment counterparties depending on the amount of the exposure and the credit rating of the counterparty.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Risk Management Strategies Regarding Market Risk

The Company has exposure to economic losses due to interest rate risk arising from changes in the level of, or volatility of, interest rates. The Company attempts to mitigate its exposure to interest rate risk through active portfolio management, which includes rebalancing its existing portfolios or assets and liabilities, as well as changing the characteristics of investments to be purchased or sold in the future. In addition, various derivative financial instruments are used to modify the interest rate risk exposures of certain assets and liabilities. These strategies include the use of interest rate swaps, interest rate caps and floors, options, futures, forwards, and commitments to purchase securities. These instruments are generally used to lock in interest rates or unrealized gains, to shorten or lengthen durations of fixed maturity securities or investment contracts, or to hedge (on an economic basis) interest rate risks associated with investments, variable rate debt and life insurance liabilities. Historically, the Company has used these types of instruments as hedges against specific assets or liabilities on an infrequent basis.

The Company is exposed to equity price risk as a result of its investment in equity securities and equity derivatives. Equity price risk results from changes in the level or volatility of equity prices, which affect the value of equity securities, or instruments which derive their value from such securities. CNA attempts to mitigate its exposure to such risks by limiting its investment in any one security or index. The Company may also manage this risk by utilizing instruments such as options, swaps, futures and collars to protect appreciation in securities held. CNA uses derivatives in one of its separate accounts to mitigate equity price risk associated with its indexed group annuity contracts by purchasing Standard & Poor’s 500® (S&P 500®) index futures contracts in a notional amount equal to the contractholder liability, which is calculated using the S&P 500® rate of return.

Foreign exchange rate risk arises from the possibility that changes in foreign currency exchange rates will impact the value of financial instruments denominated in a foreign currency. The Company’s foreign transactions are primarily denominated in Canadian Dollars, British Pounds and Euros. The Company manages this risk via asset/liability matching and through the use of foreign currency futures and/or forwards. Historically, the Company has infrequently designated these types of instruments as hedges against specific assets or liabilities.

Derivative Holdings

The contractual or notional amounts for derivatives are used to calculate the exchange of contractual payments under the agreements and are not representative of the potential for gain or loss on these instruments. Interest rates, equity prices and foreign currency exchange rates affect the fair value of derivatives. The fair values generally represent the estimated amounts that CNA would expect to receive or pay upon termination of the contracts at the reporting date. Dealer quotes are available for substantially all of CNA’s derivatives. For derivative instruments not actively traded, fair values are estimated using values obtained from independent pricing services, costs to settle or quoted market prices of comparable instruments.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

A summary of the aggregate contractual or notional amounts and estimated fair values related to derivative financial instruments follows.

Derivative Financial Instruments


		Contractual		Fair Value
		Notional
September 30, 2001		Amount		Asset		(Liability)
(In millions)
General Account:
	Swaps	$	54	$	—	$	(1	)
	Interest rate caps		500		1		—
	Futures sold, not yet purchased		14		—		—
	Forwards		187		—		(3	)
	Equity warrants		15		—		—
	Collateralized debt obligation liabilities		170		—		(16	)
	Options purchased		24		1		—
	Options written		1		—		(1	)
	Options embedded in convertible debt securities		867		114		—

Total		$	1,832	$	116	$	(21	)

Separate Accounts:
	Futures purchased	$	756	$	15	$	—
	Futures sold, not yet purchased		10		—		—
	Commitments to purchase government and municipal securities		15		—		—
	Options purchased		67		—		—
	Options written		68		—		(1	)

Total		$	916	$	15	$	(1	)

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Immediately following adoption of SFAS 133 on January 1, 2001, the Company’s derivative holdings were as follows.

Derivative Financial Instruments


		Contractual		Fair Value
		Notional
January 1, 2001		Amount		Asset		(Liability)
(In millions)

General Account:
	Swaps	$	5	$	—	$	—
	Interest rate caps		500		1		—
	Futures sold, not yet purchased		80		—		—
	Forwards		13		—		—
	Equity warrants		10		4		—
	Collateralized debt obligation liabilities		170		—		(18	)
	Options purchased		18		1		—
	Options embedded in convertible debt securities		845		231		—
	Options purchased – Global Crossing		1,000		664		—
	Options written – Global Crossing		1,256		—		(1	)

Total		$	3,897	$	901	$	(19	)

Separate Accounts:
	Futures purchased	$	996	$	—	$	(13	)
	Futures sold, not yet purchased		76		—		—
	Commitments to purchase government and municipal securities		111		1		—
	Options purchased		110		—		—
	Options written		118		—		(1	)

Total		$	1,411	$	1	$	(14	)

Collateralized debt obligations represent a credit enhancement product that is typically structured in the form of a swap. The Company has determined that this product is a derivative under SFAS 133. The Company is no longer writing this product. Options embedded in convertible debt securities are classified as fixed maturity securities in the Condensed Consolidated Balance Sheets, consistent with the host instruments.

Fair Value Hedges

As of the adoption date of SFAS 133, the Company’s collar position related to its investment in Global Crossing Ltd. (Global Crossing) common stock was the only derivative position that has been designated as a hedge for accounting purposes. The nature of the transition adjustment related to this hedge was such that the $962 million unrealized gain that existed on the Global Crossing common stock when the hedge was established was preserved in accumulated other comprehensive income. During the second quarter, the Company’s collar position related to Global Crossing common stock was terminated and the related stock was sold. See Note I for further discussion of this transaction.

The effectiveness of this hedge was measured based on changes in the intrinsic value of the collar in relation to changes in the fair value of the Global Crossing common stock. Changes in the time value component of the collar’s fair value were excluded from the hedge designation and measurement of effectiveness. Up to the date of the sale, the Global Crossing hedge was 100% effective. The change in the time value component of the collar was a pretax gain of

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

$33 million for the nine months ended September 30, 2001, and has been recorded as a realized investment gain in the Condensed Consolidated Statements of Operations.

During the third quarter 2001, the Company closed one fair value hedge and maintained another that under SFAS 133 meet the criteria for hedge accounting treatment. First, the Company closed the hedge related to a portion of its 10-year Treasury Note position. Second, as a hedge against currency risk related to its Canary Wharf plc common stock position, the Company renewed £125 million currency forward contracts. The ineffective portion of the currency hedging activity was $.03 million for the three months and nine months ended September 30, 2001.

Note E. Legal Proceedings and Contingent Liabilities

Tobacco Litigation

Four insurance subsidiaries of CNAF are defendants in a lawsuit arising out of policies allegedly issued to Liggett Group, Inc. (Liggett). The lawsuit was filed by Liggett and its current parent, Brooke Group Holding Inc., in the Delaware Superior Court, New Castle County, on January 26, 2000. The lawsuit, which involves numerous insurers, concerns coverage issues relating to over one thousand tobacco-related claims asserted against Liggett over the past 20 years. However, Liggett only began submitting claims for coverage under the policies in January 2000. The trial court granted the CNA insurance subsidiaries’ summary judgment motions that they have no duty to defend or to indemnify as to a number of representative lawsuits. The Delaware Supreme Court has accepted an appeal to these rulings. CNA believes its coverage defenses are strong; and therefore, based on facts and circumstances currently known, management believes that the ultimate outcome of the pending litigation should not materially affect the financial condition, results of operations or cash flows of CNA.

IGI Contingency

In 1997, CNA Reinsurance Company Limited (CNA Re Ltd.) entered into an arrangement with IOA Global, Ltd. (IOA), an independent managing general agent based in Philadelphia, Pennsylvania, to develop and manage a book of accident and health coverages. Pursuant to this arrangement, IGI Underwriting Agencies, Ltd. (IGI), a personal accident reinsurance managing general underwriter, was appointed to underwrite and market the book under the supervision of IOA. Between April 1, 1997 and December 1, 1999, IGI underwrote a number of reinsurance arrangements with respect to personal accident insurance worldwide (the IGI Program). Under various arrangements, CNA Re Ltd. both assumed risks as a reinsurer and also ceded a substantial portion of those risks to other companies, including other CNA insurance subsidiaries and ultimately to a group of reinsurers participating in a reinsurance pool known as the Associated Accident and Health Reinsurance Underwriters (AAHRU) Facility. CNA’s Group Operations business unit participated as a pool member in the AAHRU Facility in varying percentages between 1997 and 1999.

CNA has undertaken a review of the IGI Program and, among other things, has determined that a small portion of the premiums assumed under the IGI Program related to United States workers’ compensation “carve-out” business. CNA is aware that a number of reinsurers with workers’ compensation carve-out insurance exposure have disavowed their obligations under

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

various legal theories. If one or more such companies are successful in avoiding or reducing their liabilities, then it is likely that CNA’s liability will also be reduced. Moreover, based on information known at this time, CNA reasonably believes it has strong grounds for avoiding a substantial portion of its United States workers’ compensation carve-out exposure through legal action.

As noted, CNA arranged substantial reinsurance protection to manage its exposures under the IGI Program. CNA believes it has valid and enforceable reinsurance contracts with the AAHRU Facility and other reinsurers with respect to the IGI Program, including the United States workers’ compensation carve-out business. It is likely that certain reinsurers will dispute their liabilities to CNA; however, the Company is unable to predict the extent of such potential disputes at this time. Legal actions could result, and the resolution of any such actions could take years.

Based on the Company’s review of the entire IGI Program, CNA has established reserves for its estimated exposure under the program and an estimate for recoverables from retrocessionaires.

The Company is pursuing a number of loss mitigation strategies. Although the results of these various actions to date support the recorded reserves, the estimate of ultimate losses is subject to considerable uncertainty. As a result of these uncertainties, the results of operations in future years may be adversely affected by potentially significant reserve additions.

Other Litigation

CNAF and its subsidiaries are also parties to other litigation arising in the ordinary course of business. The outcome of such other litigation will not, in the opinion of management, materially affect the financial position or results of operations of CNA.

Note F. Claim and Claim Adjustment Expense Reserves

CNA’s property-casualty insurance claim and claim adjustment expense reserves represent the estimated amounts necessary to settle all outstanding claims, including claims that are incurred but not reported, as of the reporting date. The Company’s reserve projections are based primarily on detailed analysis of the facts in each case, CNA’s experience with similar cases and various historical development patterns. Consideration is given to such historical patterns as field reserving trends, loss payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions and public attitudes. All of these factors can affect the estimation of reserves.

Establishing loss reserves, including catastrophe loss reserves, is an estimation process. Many factors can ultimately affect the final settlement of a claim and, therefore, the reserve that is needed. Changes in the law, results of litigation, medical costs, the cost of repair materials and labor rates can all affect ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably estimable than long-tail claims, such as general liability and professional liability claims. Adjustments to prior

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

year reserve estimates, if necessary, are reflected in the operating income in the period that the need for such adjustments is determined.

Catastrophes are an inherent risk of the property-casualty insurance business, which have contributed to material period-to-period fluctuations in the Company’s results of operations and financial position. The level of catastrophe losses experienced in any period cannot be predicted and can be material to the results of operations and financial position.

During the third quarter of 2001, the Company experienced a severe catastrophe loss estimated at $468 million pretax net of reinsurance related to the September 11, 2001 World Trade Center disaster and related events (WTC). The loss estimate is based on a total industry loss of $50 billion and includes all lines of insurance. The current estimate takes into account CNA’s substantial reinsurance agreements, including its catastrophe reinsurance program and corporate reinsurance program. These loss estimates are also subject to considerable uncertainty. Subsequent developments on claims arising out of the WTC catastrophe could result in an increase in the total estimated loss, which could be material to the results of operations.

The following table provides management’s estimate of pretax losses related to this catastrophe on a gross basis (before reinsurance) and a net basis (after reinsurance) by line of business.


		Gross		Net
Three and nine months ended September 30, 2001		Basis		Basis

(In millions)

Property-casualty reinsurance		$	662	$	465
Property			282		159
Workers compensation			112		25
Airline hull			194		6
Commercial auto			1		1

	Total property-casualty		1,251		656

Group			322		60
Life			75		22

	Total group and life		397		82

Total loss before corporate aggregate reinsurance and reinstatement and additional premiums and other		$	1,648		738

Reinstatement and additional premiums and other					(11	)
Corporate aggregate reinsurance					(259	)

Total				$	468

Environmental Pollution and Other Mass Tort and Asbestos Reserves

CNA’s property-casualty insurance companies have potential exposures related to environmental pollution and other mass tort and asbestos claims. In the second quarter of 2001, CNA recorded $1.2 billion pretax in reserve strengthening relating to asbestos, environmental pollution and other mass tort exposures. This reserve strengthening for asbestos, environmental pollution and other mass tort claims was based on a management review of developments with respect to these exposures conducted in the second quarter, as well as a review of the results of CNA’s annual analysis of these claims.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Environmental pollution cleanup is the subject of both federal and state regulation. By some estimates, there are thousands of potential waste sites subject to cleanup. The insurance industry is involved in extensive litigation regarding coverage issues. Judicial interpretations in many cases have expanded the scope of coverage and liability beyond the original intent of the policies. The Comprehensive Environmental Response Compensation and Liability Act of 1980 (Superfund) and comparable state statutes (mini-Superfunds) govern the cleanup and restoration of toxic waste sites and formalize the concept of legal liability for cleanup and restoration by “Potentially Responsible Parties” (PRPs). Superfund and the mini-Superfunds establish mechanisms to pay for cleanup of waste sites if PRPs fail to do so, and to assign liability to PRPs. The extent of liability to be allocated to a PRP is dependent upon a variety of factors. Further, the number of waste sites subject to cleanup is unknown. To date, approximately 1,500 cleanup sites have been identified by the Environmental Protection Agency (EPA) on its National Priorities List (NPL). State authorities have designated many cleanup sites as well.

Many policyholders have made claims against various CNA insurance subsidiaries for defense costs and indemnification in connection with environmental pollution matters. These claims relate to accident years 1989 and prior, which coincides with CNA’s adoption of the Simplified Commercial General Liability coverage form, which includes what is referred to in the industry as an “absolute pollution exclusion”. CNA and the insurance industry are disputing coverage for many such claims. Key coverage issues include whether cleanup costs are considered damages under the policies, trigger of coverage, allocation of liability among triggered policies, applicability of pollution exclusions and owned property exclusions, the potential for joint and several liability and the definition of an occurrence. To date, courts have been inconsistent in their rulings on these issues.

A number of proposals to reform Superfund have been made by various parties. However, no reforms were enacted by Congress during 2000 or the first nine months of 2001, and it is unclear what positions Congress or the administration and what legislation, if any, will result in the future. If there is legislation, and in some circumstances even if there is no legislation, the federal role in environmental cleanup may be significantly reduced in favor of state action. Substantial changes in the federal statute or the activity of the EPA may cause states to reconsider their environmental cleanup statutes and regulations. There can be no meaningful prediction of the pattern of regulation that would result or the effect upon CNA’s results of operations and/or financial position.

Due to the inherent uncertainties described above, including the inconsistency of court decisions, the number of waste sites subject to cleanup, and the standards for cleanup and liability, the ultimate liability of CNA for environmental pollution claims may vary substantially from the amount currently recorded.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

environmental pollution and other mass tort net claim and claim adjustment expense reserve development for the nine months ended September 30, 2001 and 2000 amounted to $453 million and $36 million. The Company made environmental pollution-related claim payments and other mass tort-related claim payments of $135 million and $153 million in calendar year 2000 and the nine months ended September 30, 2001 respectively, net of reinsurance.

CNA’s property-casualty insurance subsidiaries also have exposure to asbestos claims. Estimation of asbestos claim and claim adjustment expense reserves involves many of the same limitations discussed above for environmental pollution claims, such as inconsistency of court decisions, specific policy provisions, allocation of liability among insurers and insureds, and additional factors such as missing policies and proof of coverage. Furthermore, estimation of asbestos claims is difficult due to, among other reasons, the proliferation of bankruptcy proceedings and attendant uncertainties, the targeting of a broader range of businesses and entities as defendants, the uncertainty as to which other insureds may be targeted in the future, and the uncertainties inherent in predicting the number of future claims.

As of September 30, 2001 and December 31, 2000, CNA carried approximately $1,233 million and $603 million of net claim and claim adjustment expense reserves, net of reinsurance recoverables, for reported and unreported asbestos-related claims. There was no asbestos net claim and claim adjustment expense reserve development for the three months ended September 30, 2001. Unfavorable asbestos net claim and claim adjustment expense reserve development for the three months ended September 30, 2000 amounted to $12 million. Unfavorable asbestos net claim and claim adjustment expense reserve development for the nine months ended September 30, 2001 and 2000 amounted to $769 million and $43 million. The Company made asbestos-related claim payments of $126 million and $78 million in calendar year 2000 and the nine months ended September 30, 2001 respectively, net of reinsurance, excluding payments made in connection with the 1993 settlement of litigation related to Fibreboard Corporation. CNA has attempted to manage its asbestos exposures by aggressively resolving old accounts.

The reserve strengthening in the second quarter of 2001 for asbestos-related claims was based on a management review of developments with respect to these exposures conducted in the second quarter, as well as a review of the results of CNA’s annual analysis of these claims. This analysis indicated a significant increase in claim counts for asbestos-related claims. The factors that have led to the deterioration in claim counts include, among other things, intensive advertising campaigns by lawyers for asbestos claimants and the addition of new defendants such as the distributors and installers of asbestos containing products. New claim filings increased significantly in 2000 over 1999 and that trend continues thus far in 2001. The volume of new claims has caused the bankruptcies of numerous asbestos defendants. Those bankruptcies also may result in increased liability for remaining defendants under principles of joint and several liability.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

so-called “non-products” liability coverage contained within their policies rather than products liability coverage, and that the claimed “non-products” coverage is not subject to any aggregate limit. It is difficult to predict the ultimate size of any of the claims for coverage not subject to aggregate limits or predict to what extent, if any, the attempts to assert “non-products” claims outside the products liability aggregate will succeed.

Due to the uncertainties created by volatility in claim numbers and settlement demands, the effect of bankruptcies, the extent to which non-impaired claimants can be precluded from making claims and the efforts by insureds to obtain coverage not subject to aggregate limits, the ultimate liability of CNA for asbestos claims may vary substantially from the amount currently recorded. Other variables that will influence CNA’s ultimate exposure to asbestos claims will be medical inflation trends, jury attitudes, the strategies of plaintiff attorneys to broaden the scope of defendants, the mix of asbestos-related diseases presented and the possibility of legislative reform. Adverse developments with respect to such matters discussed in this paragraph could have a material adverse effect on CNA’s results of operations and/or financial condition.

The results of operations and financial condition of CNA in future years may continue to be adversely affected by environmental pollution and other mass tort and asbestos claim and claim adjustment expenses. Management will continue to review and monitor these liabilities and make further adjustments, including further reserve strengthening as warranted.

The following table provides data related to CNA’s environmental pollution and other mass tort and asbestos claim and claim adjustment expense reserves.


Environmental Pollution and Other Mass Tort and Asbestos

	September 30, 2001						December 31, 2000

	Environmental						Environmental
	Pollution and						Pollution and Other
	Other Mass Tort			Asbestos			Mass Tort			Asbestos

(In millions)

Gross reserves	$	879		$	1,586		$	493		$	848
Ceded reserves		(230	)		(353	)		(146	)		(245	)

Net reserves	$	649		$	1,233		$	347		$	603

Second Quarter 2001 Prior Year Reserve Strengthening

During the second quarter of 2001, the Company noted the continued emergence of adverse loss experience across several lines of business related to prior years, which are discussed in further detail below. The Company completed a number of reserve studies during the second quarter of 2001 for many of its lines of business, including those in which these adverse trends were noted. In the area of asbestos and environmental pollution, the Company reviewed internal claims data as well as studies generated by external parties, including a significant industry analysis on asbestos, environmental pollution and other mass tort claims (APMT) published by an international rating agency. As a result of these various reviews, management concluded that ultimate losses, including losses for APMT, will be higher in the range of possible outcomes than previously estimated. The Company recorded $2.6 billion of pretax reserve strengthening associated with a change in estimate of prior year net loss and allocated loss adjustment expense reserves (“loss reserves”), including $1.2 billion pretax related to APMT. Concurrent with the Company’s review of loss reserves, the Company completed comprehensive studies of estimated premium receivable accruals on retrospectively rated

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

insurance policies and involuntary market facilities. As a result, the Company recorded a $0.6 billion pretax charge related to retrospective premium and other premium accruals (“premium accruals”). The studies included the review of all such retrospective insurance policies and the current estimate of ultimate losses.

The net prior year loss reserve strengthening and related items comprising the amounts noted above are detailed in the following table.


Net Prior Year Loss Reserve Strengthening
					Total

(In millions)

Net reserve strengthening excluding the impact of the corporate aggregate reinsurance treaty:
		APMT			$	1,197
		Non-APMT				1,594

			Total			2,791
Pretax benefit from corporate aggregate reinsurance treaty on accident year 1999**						(223	)
Accrual for insurance-related assessments						48

				Net reserve strengthening and related accruals		2,616

Change in estimate of premium accruals						616
Reduction of related commission accruals						(50	)

	Net premium and related accrual reductions					566

Total second quarter 2001 reserve strengthening and related accruals					$	3,182

** $500 million of ceded losses reduced by $230 million of ceded premiums and $47 million of interest charges

The adverse loss development excluding asbestos, environmental pollution and other mass tort (“non-APMT”) was the result of recent analyses of several businesses. The non-APMT reserve strengthening principally related to commercial insurance coverages including automobile liability and commercial multiple-peril, assumed reinsurance and healthcare related coverages. A brief summary of these lines of business and the associated reserve development is discussed below.

Approximately $600 million, excluding the impact of the corporate aggregate reinsurance treaty, of the adverse loss development is a result of analyses of several coverages provided to commercial entities written by various segments of CNA. These analyses showed unexpected increases in the size of claims for several lines, including commercial automobile liability, general liability and the liability portion of commercial multiple-peril coverages. In addition, the number of commercial automobile liability claims was higher than expected. Finally, several state-specific factors resulted in higher than anticipated losses, including developments associated with commercial automobile liability coverage in Ohio and general liability coverage provided to contractors in New York.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

An analysis of CNA Re’s assumed reinsurance business showed that the paid and reported losses for recent accident years were higher than expectations and resulted in an increase of net reserves of approximately $560 million, excluding the impact of the corporate aggregate reinsurance treaty. The estimated ultimate loss ratios for these recent accident years have been revised to reflect the paid and reported losses.

Approximately $320 million, excluding the impact of the corporate aggregate reinsurance treaty, of adverse loss development occurred in Specialty Operations and was caused by coverages provided to healthcare related entities. The level of paid and reported losses associated with coverages provided to national long-term care facilities were higher than expected. In addition, the average size of claims resulting from coverages provided to physicians and institutions providing healthcare related services increased more than expected.

Note G. Reinsurance

CNA assumes and cedes reinsurance with other insurers and reinsurers and members of various reinsurance pools and associations. CNA utilizes reinsurance arrangements to limit its maximum loss, provide greater diversification of risk, minimize exposures on larger risks and to exit certain lines of business. Reinsurance coverages are tailored to the specific risk characteristics of each product line and CNA’s retained amount varies by type of coverage. Generally, property risks are reinsured on an excess of loss, per risk basis. Liability coverages are generally reinsured on a quota share basis in excess of CNA’s retained risk. CNA’s life reinsurance includes coinsurance, yearly renewable term and facultative programs.

The ceding of insurance does not discharge the primary liability of the Company. Therefore, a credit exposure exists with respect to property-casualty and life reinsurance ceded to the extent that any reinsurer is unable to meet the obligations assumed under reinsurance agreements.

Reinsurance receivables have increased $3.9 billion from December 31, 2000 through September 30, 2001 primarily due to $1.4 billion related to corporate aggregate reinsurance treaties, $0.7 billion related to the second quarter of 2001 reserve adjustment (excluding corporate aggregate reinsurance) and $0.9 billion related to the estimated loss reserves related to the WTC catastrophe (excluding corporate aggregate reinsurance).

The effects of reinsurance on earned premiums are shown in the following table.


Components of Earned Premiums

Nine months ended September 30		Direct		Assumed		Ceded		Net

(In millions)

2001
	Property-casualty	$	6,188	$	937	$	3,781	$	3,344
	Accident and health		2,729		443		426		2,746
	Life		928		155		510		573

Total earned premiums		$	9,845	$	1,535	$	4,717	$	6,663

2000
	Property-casualty	$	6,261	$	1,426	$	2,601	$	5,086
	Accident and health		2,708		406		431		2,683
	Life		896		173		371		698

Total earned premiums		$	9,865	$	2,005	$	3,403	$	8,467

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

In 1999, the Company entered into an aggregate reinsurance treaty related to the 1999 through 2001 accident years covering substantially all of the Company’s property-casualty lines of business (the “Aggregate Cover”). The Company has two sections of coverage under the terms of the Aggregate Cover. These coverages attach at defined loss and allocated loss adjustment expense (collectively, “losses”) ratios for each accident year. Coverage under the first section of the Aggregate Cover, which is available for all accident years covered by the contract, has annual limits of $500 million of losses with an aggregate limit of $1 billion of losses for the three year period. The ceded premiums are a percentage of ceded losses and for each full $500 million of limit the premium is $230 million. The second section of the Aggregate Cover, which is available for accident year 2001 only, provides additional coverage of up to $510 million of losses for a maximum premium of $310 million. Under the Aggregate Cover, interest expense on the funds withheld accrues at 8% per annum. If the aggregate loss ratio for the three-year period exceeds certain thresholds, additional premiums may be payable and the rate at which interest expense is accrued would increase to 8.25% per annum.

In the first quarter of 2001, the Company triggered the coverage under the second section of the Aggregate Cover for the 2001 accident year. The Company has ceded losses and the related ceded premium to this section in all quarters of 2001. In the third quarter, as a result of losses related to the WTC catastrophe, the limit under this section has been exhausted. In the second quarter of 2001, the significant reserve additions fully utilized the limit on the 1999 accident year under the first section. No losses have been ceded to the remaining $500 million of limit on accident years 2000 and 2001 under the first section.

The impact of the Aggregate Cover on pretax operating results was as follows.


Impact of Aggregate Cover on Pretax Operating Results

	Three		Nine
Period ended September 30, 2001	Months		Months

(In millions)

Ceded earned premium	$	83	$	543
Ceded claim and claim adjustment expense		288		1,010
Interest charges		11		70

Pretax benefit on operating results	$	194	$	397

In 2001, the Company entered into a one-year aggregate reinsurance treaty related to the 2001 accident year covering substantially all property-casualty lines of business in the Continental Casualty Company pool (the “CCC Cover”). The loss protection provided by the CCC Cover has an aggregate limit of $750 million to $825 million of losses depending on CCC’s 2001 actual premium volume. The CCC Cover provides continuous coverage in excess of the second section of the Aggregate Cover discussed above. Under the CCC Cover, interest expense on the funds withheld generally accrues at 8% per annum. The interest rate increases to 10% per annum if the aggregate loss ratio exceeds certain thresholds. In the third quarter, as a result of significant losses related to the WTC catastrophe, significant recoveries were recorded under this treaty.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

The impact of the CCC Cover on pretax operating results was as follows.


Impact of CCC Cover on Pretax Operating Results

	Three		Nine
For the period ended September 30, 2001	Months		Months

(In millions)

Ceded earned premiums	$	232	$	234
Ceded claim and claim adjustment expense		427		427
Interest charges		15		15

Pretax benefit on operating results	$	180	$	178

The pretax benefit from the Aggregate Cover and the CCC Cover by operating segment on estimated losses related to the WTC catastrophe and all other losses (Core) for the three months ended September 30, 2001, was as follows.


Impact of Aggregate Cover and CCC Cover on Pretax Operating Results

For the three months ended September 30, 2001	WTC		Core		Total

(In millions)

Agency Market Operations	$	40	$	39	$	79
Specialty Operations		7		15		22
CNA Re		139		2		141
Global Operations		5		5		10
Risk Management		68		54		122

Pretax benefit on operating results	$	259	$	115	$	374

The pretax benefit from the Aggregate Cover and the CCC Cover by operating segment on estimated losses related to the second quarter of 2001 reserve adjustment, the WTC catastrophe and Core for the nine months ended September 30, 2001 was as follows.


Impact of Aggregate Cover and CCC Cover on Pretax Operating Results
	Second
	Quarter
	2001 Reserve
For the nine months ended September 30, 2001	Adjustment		WTC		Core		Total

(In millions)

Agency Market Operations	$	150	$	40	$	26	$	216
Specialty Operations		—		7		12		19
CNA Re		26		139		1		166
Global Operations		—		5		2		7
Risk Management		47		68		52		167

Pretax benefit on operating results	$	223	$	259	$	93	$	575

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Note H. Debt

Debt is composed of the following obligations.


Debt
		September 30,		December 31,
		2001		2000

(In millions)

Variable rate debt:
	Commercial Paper	$	17	$	627
	Credit facility – CNA Surety		75		100
Senior notes:
	7.250%, due March 1, 2003		133		133
	6.250%, due November 15, 2003		250		249
	6.500%, due April 15, 2005		491		491
	6.750%, due November 15, 2006		249		249
	6.450%, due January 15, 2008		149		149
	6.600%, due December 15, 2008		199		199
	8.375%, due August 15, 2012		68		68
	6.950%, due January 15, 2018		148		148
Debenture, 7.250%, due November 15, 2023			240		240
Capital leases, 8.000%-19.980%, due through December 31, 2011			38		40
Other debt, 1.000%-8.500%, due through 2019			27		36

Total debt		$	2,084	$	2,729

The Company pays a facility fee, which varies based on the long-term debt ratings of the Company, to the lenders of the New Facility for having funds available for loans under both components of the New Facility. On October 10, 2001, S&P lowered the Company’s long-term debt rating from BBB to BBB-. As a result of this action, the facility fee on the 364-day component increased from 12.5 basis points to 15 basis points, and the facility fee on the 3-year component increased from 15 basis points to 17.5 basis points.

In addition to the facility fees, the Company pays interest on any outstanding loans under the New Facility based on a rate determined using the long-term debt ratings of the Company. Subsequent to the S&P action on October 10, 2001, that interest rate is equal to the London Interbank Offering Rate (LIBOR) plus 60 basis points for the 364-day component and LIBOR plus 57.5 basis points for the 3-year component. Further, if the Company has outstanding loans equaling more than 50% of the amounts available under the New Facility, the Company also will pay a utilization fee of 12.5 basis points on such loans.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Note I. Comprehensive Income

Comprehensive income is composed of all changes to stockholders’ equity, except those changes resulting from transactions with stockholders in their capacity as stockholders. The components of comprehensive income (loss) are shown below.


Comprehensive Income (Loss)
			Three Months						Nine Months

Period ended September 30			2001			2000			2001			2000

(In millions)

Net (loss) income			$	(155	)	$	550		$	(1,622	)	$	1,021

Other comprehensive income (loss):
	Change in unrealized gains/losses on general account investments:
		Holding gains arising during the period		285			441			421			250
		Less: unrealized gains at beginning of period included in realized gains during the period		16			503			1,139			958

		Net change in unrealized gains/losses on general account investments		269			(62	)		(718	)		(708	)
		Net change in unrealized gains/losses on separate accounts and other		31			31			28			28
		Foreign currency translation adjustment		(11	)		(25	)		(16	)		(28	)
		Allocation to participating policyholders and minority interest		(9	)		(10	)		(12	)		(15	)

Other comprehensive income (loss), before tax and cumulative effect of a change in accounting principle				280			(66	)		(718	)		(723	)
Deferred income tax (expense) benefit related to other comprehensive income (loss)				(104	)		14			249			255

Other comprehensive income (loss), before cumulative effect of a change in accounting principle				176			(52	)		(469	)		(468	)
Cumulative effect of a change in accounting principle, net of tax				—			—			58			—

Other comprehensive income (loss), net of tax and cumulative effect of a change in accounting principle				176			(52	)		(411	)		(468	)

Total comprehensive income (loss)			$	21		$	498		$	(2,033	)	$	553

During the second quarter of 2001, the Company sold its remaining Global Crossing common stock and the related hedge resulting in a pretax realized gain of $962 million, which was previously reflected as an unrealized gain in accumulated other comprehensive income.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Note J. Business Segments

The Company’s reportable segments are strategic businesses that offer different types of products and services. The Company has seven operating segments: Agency Market Operations, Specialty Operations, CNA Re, Global Operations, Risk Management, Group Operations and Life Operations. In addition to these seven operating segments, certain other activities are reported in the Corporate and Other segment.

Corporate and Other segment results consist of interest expense on corporate borrowings, eBusiness expenses, certain run-off insurance operations, asbestos claims related to Fibreboard Corporation, financial guarantee insurance contracts and certain non-insurance operations. All significant intersegment income and expense have been eliminated.

Risk Management’s other revenues and expenses for 2001 and 2000 include revenues for services provided by RSKCo^SM to other units within the Risk Management segment that are eliminated at the consolidated level. Such intrasegment revenue and expenses eliminated at the consolidated level were $39 million and $39 million for the three months ended September 30, 2001 and 2000 and $116 million and $119 million for the nine months ended September 30, 2001 and 2000.

In the following four tables, the caption “net operating income (loss)” is used by the Company as an operating measure of segment performance. Net operating income is calculated by deducting net investment realized gains or losses (investment gains or losses after deduction of related income taxes and minority interests) and the cumulative effect of a change in accounting principle, net of tax and minority interest, from net income. Net realized investment gains or losses are excluded from net operating income because investment gains or losses related to the Company’s available-for-sale investment portfolio are largely discretionary, are generally driven by economic factors that are not necessarily consistent with key drivers of underwriting performance, and are therefore not an indication of trends in operations.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)


		Agency
Three months ended		Market			Specialty						Global			Risk
September 30, 2001		Operations			Operations			CNA Re			Operations			Management

(In millions)

Net earned premiums		$	695		$	167		$	149		$	308		$	48
Claims, benefits and expenses			782			167			419			322			78

	Underwriting (loss) gain		(87	)		—			(270	)		(14	)		(30	)
Net investment income			106			43			40			35			29
Other revenues			40			3			3			33			82
Other expenses			32			2			—			29			76

	Pretax operating income (loss)		27			44			(227	)		25			5
Income tax (expense) benefit			(2	)		(14	)		81			(8	)		—
Minority interest			—			—			—			(6	)		—

Net operating income (loss), excluding realized investment gains			25			30			(146	)		11			5
Realized investment (losses) gains, net of tax, participating policyholders’ and minority interests			(9	)		(3	)		(4	)		1			(3	)

Net income (loss)		$	16		$	27		$	(150	)	$	12		$	2

[Additional columns below]

[Continued from above table, first column(s) repeated]


Three months ended		Group			Life			Corporate
September 30, 2001		Operations			Operations			and Other			Eliminations			Total

(In millions)

Net earned premiums		$	931		$	248		$	(1	)	$	(16	)	$	2,529
Claims, benefits and expenses			1,032			403			(15	)		(16	)		3,172

	Underwriting (loss) gain		(101	)		(155	)		14			—			(643	)
Net investment income			45			152			7			—			457
Other revenues			4			38			2			(43	)		162
Other expenses			3			28			84			(43	)		211

	Pretax operating income (loss)		(55	)		7			(61	)		—			(235	)
Income tax (expense) benefit			20			(3	)		12			—			86
Minority interest			—			—			—			—			(6	)

Net operating income (loss), excluding realized investment gains			(35	)		4			(49	)		—			(155	)
Realized investment (losses) gains, net of tax, participating policyholders’ and minority interests			9			8			1			—			—

Net income (loss)		$	(26	)	$	12		$	(48	)	$	—		$	(155	)

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)


		Agency
Three months ended		Market			Specialty						Global			Risk
September 30, 2000		Operations			Operations			CNA Re			Operations			Management

(In millions)

Net earned premiums		$	807		$	234		$	289		$	271		$	142
Claims, benefits and expenses			939			244			312			283			177

	Underwriting loss		(132	)		(10	)		(23	)		(12	)		(35	)
Net investment income			185			67			49			39			45
Other revenues			39			6			1			37			80
Other expenses			37			4			—			31			70

	Pretax operating income (loss)		55			59			27			33			20
Income tax (expense) benefit			(11	)		(17	)		(5	)		(8	)		(5	)
Minority interest			—			—			—			(6	)		—

Net operating income (loss), excluding realized investment gains			44			42			22			19			15
Realized investment gains (losses), net of tax, participating policyholders’ and minority interests			164			59			36			51			41

Net income (loss)		$	208		$	101		$	58		$	70		$	56

[Additional columns below]

[Continued from above table, first column(s) repeated]


Three months ended		Group			Life			Corporate
September 30, 2000		Operations			Operations			and Other			Eliminations			Total

(In millions)

Net earned premiums		$	947		$	236		$	5		$	(12	)	$	2,919
Claims, benefits and expenses			975			341			35			(12	)		3,294

	Underwriting loss		(28	)		(105	)		(30	)		—			(375	)
Net investment income			44			157			15			—			601
Other revenues			12			49			1			(42	)		183
Other expenses			9			27			68			(42	)		204

	Pretax operating income (loss)		19			74			(82	)		—			205
Income tax (expense) benefit			(5	)		(25	)		37			—			(39	)
Minority interest			—			—			(4	)		—			(10	)

Net operating income (loss), excluding realized investment gains			14			49			(49	)		—			156
Realized investment gains (losses), net of tax, participating policyholders’ and minority interests			28			17			(2	)		—			394

Net income (loss)		$	42		$	66		$	(51	)	$	—		$	550

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)


		Agency
Nine months ended		Market			Specialty						Global			Risk
September 30, 2001		Operations			Operations			CNA Re			Operations			Management

(In millions)

Net earned premiums		$	1,639		$	523		$	452		$	866		$	(94	)
Claims, benefits and expenses			3,079			925			1,356			1,087			855
Restructuring and other related charges			4			1			—			1			1

	Underwriting loss		(1,444	)		(403	)		(904	)		(222	)		(950	)
Net investment income			317			143			128			105			89
Other revenues			122			16			4			68			244
Other expenses			109			5			—			86			229
Non-insurance restructuring and other related charges			—			—			—			—			1

	Pretax operating (loss) income		(1,114	)		(249	)		(772	)		(135	)		(847	)
Income tax benefit (expense)			409			95			275			39			302
Minority interest			—			—			—			(18	)		—

Net operating (loss) income, excluding realized investment gains			(705	)		(154	)		(497	)		(114	)		(545	)
Realized investment gains (losses), net of tax, participating policyholders’ and minority interests			312			127			(216	)		27			105
Cumulative effect of a change in accounting principle, net of tax			(25	)		(12	)		(5	)		(3	)		(8	)

Net (loss) income		$	(418	)	$	(39	)	$	(718	)	$	(90	)	$	(448	)

Receivables, net		$	5,297		$	1,296		$	2,497		$	1,161		$	3,664

Insurance reserves		$	13,165		$	3,953		$	5,196		$	2,850		$	5,197

[Additional columns below]

[Continued from above table, first column(s) repeated]


Nine months ended		Group			Life			Corporate
September 30, 2001		Operations			Operations			and Other			Eliminations			Total

(In millions)

Net earned premiums		$	2,579		$	740		$	1		$	(43	)	$	6,663
Claims, benefits and expenses			2,729			1,131			22			(43	)		11,141
Restructuring and other related charges			—			17			37			—			61

	Underwriting loss		(150	)		(408	)		(58	)		—			(4,539	)
Net investment income			129			446			28			—			1,385
Other revenues			14			157			8			(126	)		507
Other expenses			6			83			198			(126	)		590
Non-insurance restructuring and other related charges			—			—			—			—			1

	Pretax operating (loss) income		(13	)		112			(220	)		—			(3,238	)
Income tax benefit (expense)			9			(39	)		55			—			1,145
Minority interest			—			—			—			—			(18	)

Net operating (loss) income, excluding realized investment gains			(4	)		73			(165	)		—			(2,111	)
Realized investment gains (losses), net of tax, participating policyholders’ and minority interests			24			101			70			—			550
Cumulative effect of a change in accounting principle, net of tax			(1	)		(3	)		(4	)		—			(61	)

Net (loss) income		$	19		$	171		$	(99	)	$	—		$	(1,622	)

Receivables, net		$	1,360		$	834		$	1,010		$	—		$	17,119

Insurance reserves		$	3,032		$	8,251		$	1,711		$	—		$	43,355

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)


		Agency
Nine months ended		Market			Specialty						Global			Risk
September 30, 2000		Operations			Operations			CNA Re			Operations			Management

(In millions)

Net earned premiums		$	2,477		$	578		$	802		$	811		$	448
Claims, benefits and expenses			2,818			595			868			854			554

	Underwriting loss		(341	)		(17	)		(66	)		(43	)		(106	)
Net investment income			542			192			157			114			131
Other revenues			109			19			4			90			239
Other expenses			104			10			2			87			221

	Pretax operating income (loss)		206			184			93			74			43
Income tax (expense) benefit			(52	)		(58	)		(27	)		(20	)		(9	)
Minority interest			—			—			—			(19	)		—

Net operating income (loss), excluding realized investment gains			154			126			66			35			34
Realized investment gains (losses), net of tax, participating policyholders’ and minority interests			267			97			57			63			66

Net income (loss)		$	421		$	223		$	123		$	98		$	100

Receivables, net		$	4,522		$	1,207		$	2,092		$	918		$	2,545

Insurance reserves		$	11,789		$	4,052		$	4,455		$	2,599		$	4,189

[Additional columns below]

[Continued from above table, first column(s) repeated]


Nine months ended		Group			Life			Corporate
September 30, 2000		Operations			Operations			and Other			Eliminations			Total

(In millions)

Net earned premiums		$	2,708		$	674		$	1		$	(32	)	$	8,467
Claims, benefits and expenses			2,772			990			89			(32	)		9,508

	Underwriting loss		(64	)		(316	)		(88	)		—			(1,041	)
Net investment income			121			456			18			—			1,731
Other revenues			36			149			13			(130	)		529
Other expenses			36			77			210			(130	)		617

	Pretax operating income (loss)		57			212			(267	)		—			602
Income tax (expense) benefit			(17	)		(72	)		106			—			(149	)
Minority interest			—			—			(4	)		—			(23	)

Net operating income (loss), excluding realized investment gains			40			140			(165	)		—			430
Realized investment gains (losses), net of tax, participating policyholders’ and minority interests			41			5			(5	)		—			591

Net income (loss)		$	81		$	145		$	(170	)	$	—		$	1,021

Receivables, net		$	1,034		$	545		$	893		$	—		$	13,756

Insurance reserves		$	2,678		$	7,572		$	1,912		$	—		$	39,246

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Note K. Restructuring and Other Related Charges

In the second quarter of 2001, the Company finalized and approved a restructuring plan related to its Information Technology operations (the IT Plan). The overall goal of the IT Plan was to improve technology for the underwriting function and throughout the Company, and to eliminate inefficiencies in the deployment of IT resources. The changes facilitate a strong focus on enterprise-wide system initiatives. The IT Plan had two main components: 1) the reorganization of IT resources into the Technology Solutions Group with a structure based on centralized, functional roles; and 2) the implementation of an integrated technology roadmap that includes common architecture and platform standards that directly support the Company’s strategies.

In connection with the IT Plan, the Company incurred $62 million, pretax, of restructuring and other related charges, primarily related to planned reductions in the workforce of approximately 260 positions (gross and net), and software and hardware asset write-offs for the nine months ended September 30, 2001. There were no such charges recorded in the third quarter of 2001. The Company does not expect to incur significant amounts of additional charges with respect to the IT Plan in any single future quarter and, as a result, does not intend to separately classify such expenses as restructuring and related charges when they occur.

The $62 million charge included approximately: $32 million of asset write-offs (primarily software and hardware), $29 million related to workforce reductions, and $1 million of other costs.

Approximately $37 million of restructuring and other related charges were incurred in the Corporate and Other segment. These costs included $14 million of asset write-offs, $22 million related to workforce reductions, and $1 million of other costs.

Approximately $17 million of restructuring and other related charges were incurred in Life Operations. These costs represent the write-off of software abandoned pursuant to the technology roadmap.

Agency Market Operations incurred approximately $4 million of restructuring and other related charges. These costs related almost entirely to the workforce reduction stemming from the centralization of IT resources.

Risk Management incurred approximately $2 million of restructuring and other related charges. Approximately $1 million of these costs related to the workforce reduction stemming from the centralization of IT resources, with the remaining $1 million primarily attributable to the write-off of hardware.

The remainder of the Company’s segments incurred restructuring and other related charges of $1 million or less. These costs related to workforce reductions stemming from the centralization of IT resources and from hardware write-offs.

Upon adoption of the IT Plan during the second quarter of 2001, an accrual of $30 million was established related to $29 million of workforce reductions and the $1 million of other costs. Approximately $17 million of this accrual has been paid through September 30, 2001, resulting in an ending accrual of $13 million.

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

Additionally, at December 31, 2000, an accrual of $7 million of lease termination costs remained related to the August 1998 restructuring. Approximately $5 million of these costs were paid during the nine months ended September 30, 2001, resulting in a remaining accrual of $2 million at September 30, 2001.

Note L. Significant Transactions

Planned Dispositions of Certain Subsidiaries

The Company is attempting to sell certain subsidiaries and expects the sales to be completed in early 2002. The assets being held for disposition include the United Kingdom subsidiaries of CNA Re and certain other subsidiaries. The Company anticipates that it will realize losses in connection with those sales. In determining the anticipated loss from these sales, the Company estimated sales proceeds, transactional costs, lease termination costs, employee related costs and the cost of certain reinsurance transactions. The sale of the United Kingdom insurance subsidiary will be subject to regulatory approval. During the second quarter of 2001, an estimated after-tax realized loss of $320 million was recorded in connection with these planned dispositions.

Individual Life Reinsurance Transaction

Effective December 31, 2000, CNA completed a transaction with Munich American Reassurance Company (MARC), whereby MARC acquired CNA’s individual life reinsurance business (CNA Life Re) via an indemnity reinsurance agreement. CNA will continue to accept and retrocede business on existing CNA Life Re contracts until such time that CNA and MARC are able to execute novations of each of CNA Life Re’s assumed and retroceded reinsurance contracts.

MARC assumed approximately $294 million of liabilities (primarily future policy benefits and claim reserves) and approximately $209 million in assets (primarily uncollected premiums and deferred policy acquisition costs). The net gain from the reinsurance transaction, which is subject to certain post-closing adjustments, has been recorded as deferred revenue and will be recognized in income over the next 6 months as CNA Life Re’s assumed contracts are novated to MARC.

The CNA Life Re business contributed net earned premiums of $66 million and $172 million and pretax operating income of $7 million and $23 million for the three months and nine months ended September 30, 2000.

Note M. Related Party Transactions

CNA reimburses Loews, or pays directly to Loews employees, approximately $14 million annually for management fees, travel and related expenses, and expenses of investment facilities and services provided to CNA.

CNA and its eligible subsidiaries are included in the consolidated Federal income tax return of Loews and its eligible subsidiaries. During the first nine months of 2001 CNA paid Loews

CNA FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, Continued
(UNAUDITED)

$111 million for income taxes. During the first nine months of 2000, CNA received a tax refund of $282 million from Loews.

CNA writes, at standard rates, a limited amount of insurance for Loews and its affiliates. Total premiums from Loews and its affiliates are less than $6 million on an annual basis.

CNA assumes the risk for a limited amount of insurance from R.V.I. Guaranty Company, Inc., a 50% owned affiliate. Written premiums assumed are less than $13 million on an annual basis.

CNA sponsors a stock ownership plan whereby the Company finances the purchase of Company stock by certain executive officers.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Consolidated Operations

The following discussion highlights significant factors influencing the consolidated operations and financial condition of CNA. CNA is one of the largest insurance organizations in the United States and based on 2000 net written premiums, is the ninth largest property-casualty company and the 40th largest life insurance company.

Loews Corporation (Loews) owns approximately 89% of the outstanding common stock of CNA Financial Corporation (CNAF). The following discussion should be read in conjunction with the Condensed Consolidated Financial Statements and related Notes found on pages 1 to 31 and with CNAF’s Annual Report to Shareholders for the year ended December 31, 2000.

CNA conducts its operations through seven operating segments. In addition to the seven operating segments, certain other activities are reported in the Corporate and Other segment. These operating segments reflect the way in which CNA distributes its products to the marketplace and the way in which it manages operations and makes business decisions. Agency Market Operations, Specialty Operations, CNA Re, Global Operations and Risk Management comprise the property-casualty segments.

The following discussion of operating results focuses on “net operating income.” Net operating income is calculated by deducting net investment realized gains or losses (investment gains or losses after deduction of related income taxes and minority interests) and the cumulative effect of a change in accounting principle, net of tax and minority interest, from net income. Net operating income, as defined above, is used in management’s discussion of the results of operations due to the significance of the amount of net investment gains or losses. Likewise, net realized investment gains are excluded from this operating measure because investment gains or losses related to the Company’s available-for-sale investment portfolio are largely discretionary, are generally driven by economic factors that are not necessarily consistent with key drivers of underwriting performance, and are therefore not an indication of trends in operations.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Operating Results

The following table summarizes key components of operating results for the three months and nine months ended September 30, 2001 and 2000.

Consolidated Operations


		Three Months						Nine Months

Period ended September 30		2001			2000			2001			2000

(In millions, except per share data)
Operating revenues:
	Net earned premiums	$	2,529		$	2,919		$	6,663		$	8,467
	Net investment income		457			601			1,385			1,731
	Other revenues		162			183			507			529

Total operating revenues			3,148			3,703			8,555			10,727
Claims, benefits and expenses			3,383			3,498			11,793			10,125

Operating (loss) income before income tax and minority interest			(235	)		205			(3,238	)		602
Income tax benefit (expense)			86			(39	)		1,145			(149	)
Minority interest			(6	)		(10	)		(18	)		(23	)

Net operating (loss) income			(155	)		156			(2,111	)		430
Net realized investment gains, net of tax and minority interest			—			394			550			591
Cumulative effect of a change in accounting principle, net of tax			—			—			(61	)		—

Net (loss) income		$	(155	)	$	550		$	(1,622	)	$	1,021

Basic and diluted (loss) earnings per share:
	Net operating (loss) income	$	(0.84	)	$	0.85		$	(11.47	)	$	2.34
	Net realized investment gains, net of tax and minority interest		—			2.15			2.99			3.21
	Cumulative effect of a change in accounting principle, net of tax		—			—			(0.33	)		—

Basic and diluted (loss) earnings per share available to common stockholders		$	(0.84	)	$	3.00		$	(8.81	)	$	5.55

Weighted average outstanding common stock and common stock equivalents
	Basic		185.5			183.4			184.0			183.7
	Diluted		185.5			183.5			184.0			183.7

The following table summarizes net operating (loss) income by segment for the three and nine months ended September 30, 2001 and 2000.

Net Operating (Loss) Income by Segment


	Three Months						Nine Months

Period ended September 30	2001			2000			2001			2000

(In millions)
Agency Market Operations	$	25		$	44		$	(705	)	$	154
Specialty Operations		30			42			(154	)		126
CNA Re		(146	)		22			(497	)		66
Global Operations		11			19			(114	)		35
Risk Management		5			15			(545	)		34
Group Operations		(35	)		14			(4	)		40
Life Operations		4			49			73			140
Corporate and Other		(49	)		(49	)		(165	)		(165	)

Net operating (loss) income	$	(155	)	$	156		$	(2,111	)	$	430

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The net operating loss was $155 million, or a loss of $0.84 per share, for the third quarter of 2001 as compared with net operating income of $156 million, or $0.85 per share, for the same period in 2000. The decline in net operating results was primarily due to estimated losses related to the September 11, 2001 World Trade Center and related events (WTC) catastrophe of $304 million after-tax, net of the related corporate aggregate reinsurance treaty benefit, recorded in the third quarter of 2001. In addition, net operating income for the third quarter decreased $53 million after-tax due to a decline in limited partnership income. These declines were partially offset by a $75 million after-tax benefit related to corporate aggregate reinsurance treaties for core operations.

Net earned premiums decreased $390 million for the third quarter of 2001 as compared with the same period in 2000 primarily as a result of ceded premiums of $315 million for corporate aggregate reinsurance treaties.

Net operating loss was $2,111 million, or a loss of $11.47 per share, for the nine month period ended September 30, 2001 as compared with net operating income of $430 million, or $2.34 per share, for the same period in 2000. The decline in net operating results was principally due to prior year reserve strengthening of $2.1 billion after-tax recorded in the second quarter of 2001 related to a change in estimate of prior year net loss and allocated loss adjustment expense reserves and retrospective premium accruals; restructuring and other related charges of $40 million after-tax; and declines for the third quarter described above primarily related to the estimated WTC catastrophe. In addition, net operating income for the nine months ended September 30, 2001 decreased by $134 million after-tax due to a decline in limited partnership income. These declines were partially offset by a $61 million after-tax benefit related to corporate aggregate reinsurance treaties for core operations.

Net earned premiums decreased $1,804 million for the nine month period ended September 30, 2001 as compared with the same period in 2000 mainly as a result of increased ceded premiums related to corporate aggregate reinsurance treaties, the change in estimate for retrospective premium accruals recorded in the second quarter of 2001, and a decline in net earned premiums in Group Operations, related to the sale of Life Reinsurance, CNA’s individual life reinsurance business, sold via an indemnity reinsurance agreement on December 31, 2000 (See Note L to the Condensed Consolidated Financial Statements for a discussion of this transaction).

The year-to-date net operating loss includes the following, which are described in more detail on the following pages.

•		The third quarter of 2001 estimated impact of the WTC catastrophe totaled $727 million pretax, or $472 million after-tax. Including the benefit of the corporate aggregate reinsurance treaties related to the WTC catastrophe, the pretax estimated impact was $468 million, or $304 million after-tax. Further details of the WTC catastrophe are provided below and also in the individual segment discussions of operations.

•		The Company recorded an after-tax charge of $2.1 billion ($3.2 billion pretax) in the second quarter of 2001, related to a change in estimate of prior year net loss and allocated loss adjustment expense reserves and retrospective premium accruals. This amount includes the impact of net reserve strengthening, the related increase in the accrual for insurance-related assessments and the ceded premiums and interest cost of the aggregate reinsurance treaty that attached due to the reserve strengthening. Further details related to the reserve

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

		strengthening are discussed below and also in the individual segment discussions of operations.

•		In the third quarter of 2001, the Company continued to record ceded premium, ceded losses and interest related to corporate aggregate reinsurance treaties in place for the 2001 accident year. The significant reserve additions noted above fully utilized the limit on the corporate aggregate reinsurance treaty for the 1999 accident year therefore ceded premium, ceded losses and interest were recorded related to this treaty during the second quarter of 2001. Further details regarding the corporate aggregate reinsurance treaties are discussed below. The discussion in the Corporate Aggregate Reinsurance Treaties section below includes the amounts related to the 1999 accident year to provide an overview of the full impact of the aggregate reinsurance treaties. However, the amounts related to the 1999 accident year for the second quarter of 2001 are included as part of the Second Quarter 2001 Reserve Strengthening section which is discussed in more detail below.

•		During the nine months ended September 30, 2001, the Company recorded after-tax restructuring and other related charges of $40 million related to workforce reductions and asset write-offs resulting from changes in the Company’s information technology organization, which is discussed in more detail below. There were no such charges recorded in the third quarter of 2001.

Based upon the significance of the corporate aggregate reinsurance treaties and the WTC catastrophe, when the Company discusses its underwriting results and ratios for its property-casualty segments in comparison with prior periods, the impact of these items is excluded to provide a more meaningful analysis of the current underlying business results for the quarterly analysis. In addition, the second quarter of 2001 charges related to reserve strengthening, restructuring and other related charges, the WTC catastrophe and the corporate aggregate reinsurance treaties are excluded from the discussion of underwriting results for the year to date underwriting analysis. The following table provides the details by segment of underwriting results as reported and also as adjusted.

For the Quarter Ended September 30, 2001


	Agency												Risk			Property-
	Market			Specialty						Global			Manage-			Casualty
	Operations			Operations			CNA Re			Operations			ment			Segments

(In millions)
Underwriting loss	$	(87	)	$	—		$	(270	)	$	(14	)	$	(30	)	$	(401	)
Underwriting impact of WTC catastrophe including related corporate reinsurance treaties		13			8			263			10			55			349
Underwriting benefit from Core corporate aggregate reinsurance treaties		(43	)		(16	)		(3	)		(5	)		(57	)		(124	)

Adjusted underwriting loss	$	(117	)	$	(8	)	$	(10	)	$	(9	)	$	(32	)	$	(176	)

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

For the Nine Months Ended September 30, 2001


	Agency												Risk			Property-
	Market			Specialty						Global			Manage-			Casualty
(In millions)	Operations			Operations			CNA Re			Operations			ment			Segments

Underwriting loss	$	(1,444	)	$	(403	)	$	(904	)	$	(222	)	$	(950	)	$	(3,923	)
Underwriting impact of WTC catastrophe including related corporate reinsurance treaties		13			8			263			10			55			349
Underwriting impact of second quarter of 2001 reserve adjustment including corporate reinsurance treaties		1,207			365			587			118			873			3,150
Underwriting benefit from Core corporate aggregate reinsurance treaties		(38	)		(14	)		(3	)		(4	)		(55	)		(114	)
Restructuring and other related charges		4			1			—			1			1			7

Adjusted underwriting loss	$	(258	)	$	(43	)	$	(57	)	$	(97	)	$	(76	)	$	(531	)

World Trade Center Catastrophe

During the third quarter of 2001, the Company experienced a severe catastrophe loss estimated at $468 million pretax net of reinsurance related to the WTC catastrophe. The loss estimate is based on a total industry loss of $50 billion and includes all lines of insurance. The current estimate takes into account CNA’s substantial reinsurance agreements, including its catastrophe reinsurance program and corporate reinsurance program. Loss estimates are subject to considerable uncertainty. Subsequent developments on claims arising out of the WTC catastrophe could result in an increase in the total estimated loss, which could be material to the results of operations.

The following table provides management’s estimate of losses related to this catastrophe on a gross basis (before reinsurance) and a net basis (after reinsurance) on the Company’s operating segments.

For the Quarter Ended September 30, 2001


								After-tax Corp.
				(1)				Agg.
				Pre-tax Net		After-tax		Reinsurance		Total After-tax
(In millions)		Gross Losses		Impact		Impact		Benefit		impact

Agency Market Operations		$	85	$	57	$	37	$	26	$	11
Specialty Operations			15		15		10		5		5
CNA Re			662		410		266		90		176
Global Operations			199		15		10		3		7
Risk Management			290		128		83		44		39
Group Operations			322		80		52		—		52
Life Operations			75		22		14		—		14
Corporate and Other			—		—		—		—		—

	Total	$	1,648	$	727	$	472	$	168	$	304

(1)Pretax impact of the WTC catastrophe before the corporate aggregate reinsurance treaties. The net impact includes $85 million of reinstatement and additional premiums.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Second Quarter 2001 Prior Year Reserve Strengthening

During the second quarter of 2001, the Company noted the continued emergence of adverse loss experience across several lines of business related to prior years that are discussed in further detail below. The Company completed a number of reserve studies during the second quarter of 2001 for many of its lines of business, including those in which these adverse trends were noted. In the area of asbestos, environmental pollution and other mass tort claims (“APMT”), the Company reviewed internal claims data as well as studies generated by external parties, including a significant industry analysis of asbestos and environmental pollution exposures by an international rating agency. As a result of these various reviews, management concluded that ultimate losses, including losses for APMT, will be higher in the range of possible outcomes than previously estimated. The Company recorded $2.6 billion pretax to strengthen reserves ($1.7 billion after-tax) associated with a change in estimate of prior year net loss and allocated loss adjustment expense reserves (“loss reserves”), including $1.2 billion pretax ($0.8 billion after-tax) related to APMT.

The second quarter of 2001 net reserve strengthening and related items comprising the amounts noted above are detailed by segment in the following table.


			Agency
			Market			Specialty					Global			Risk			Corporate and
(In millions)			Operations			Operations		CNA Re			Operations			Management			Other			Total

Net reserve strengthening excluding the impact of the corporate aggregate reinsurance treaty
	APMT		$	606		$	—	$	57		$	38		$	496		$	—		$	1,197
	Non-APMT			456			354		574			88			137			(15	)		1,594

		Total		1,062			354		631			126			633			(15	)		2,791
Pretax benefit from corporate aggregate reinsurance treaty on accident year 1999				(150	)		—		(26	)		—			(47	)		—			(223	)**
Accrual for insurance-related assessments				36			—		—			—			12			—			48

	Net reserve strengthening and related accruals			948			354		605			126			598			(15	)		2,616
Change in estimate of premium accruals				333			12		(13	)		(9	)		293			—			616
Reduction of related commission accruals				(43	)		—		—			—			(7	)		—			(50	)

	Net premium and related accrual reductions			290			12		(13	)		(9	)		286			—			566
	Total pretax second quarter 2001 reserve strengthening and other related accruals		$	1,238		$	366	$	592		$	117		$	884		$	(15	)	$	3,182

	Total after-tax second quarter 2001 reserve strengthening and other related accruals		$	805		$	238	$	384		$	87		$	575		$	(10	)	$	2,079

** $500 million of ceded losses reduced by $230 million of ceded premiums and $47 million of interest charges

The non-APMT adverse loss development was the result of recent analyses of several businesses. The non-APMT reserve principally related to commercial insurance coverages including automobile liability and commercial multiple-peril, assumed reinsurance and healthcare related coverages. A brief summary of these lines of business and the associated reserve development is discussed below and in more detail in the discussion of the Company’s segments. The amount of reserve strengthening related to APMT is disclosed in each segment’s discussion on the following pages.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Approximately $600 million, excluding the impact of the corporate aggregate reinsurance treaty, of the adverse loss development is a result of analyses of several coverages provided to commercial entities written by various segments of CNA. These analyses showed unexpected increases in the size of claims for several lines, including commercial automobile liability, general liability and the liability portion of commercial multiple-peril. In addition, the number of commercial automobile liability claims was higher than expected. Finally, several state-specific factors resulted in higher than anticipated losses, including developments associated with commercial automobile liability coverage in Ohio and general liability coverage provided to contractors in New York.

Approximately $320 million, excluding the impact of the corporate aggregate reinsurance treaty, of adverse loss development occurred in Specialty Operations and was caused by coverages provided to healthcare related entities. The level of paid and reported losses associated with coverages provided to national long-term care facilities was higher than expected. In addition, the average size of claims resulting from coverages provided to physicians and institutions providing healthcare related services increased more than expected.

Concurrent with the Company’s review of loss reserves, the Company completed comprehensive studies of estimated premium receivable accruals on retrospectively rated insurance policies and involuntary market facilities. As a result, the Company recorded a $0.6 billion pretax ($0.4 billion after-tax) charge related to retrospective premium and other premium accruals (“premium accruals”). The studies included the review of all such retrospectively rated insurance policies and the current estimate of ultimate losses.

As a result of this review and changes in premiums associated with the change in estimates for loss reserves, the Company recorded a pretax reduction in premium accruals of $566 million. The effect on net earned premiums was $616 million offset by a reduction of accrued commissions of $50 million. Approximately $188 million of this amount resulted from a change in estimate in premiums related to involuntary market facilities, which had an offsetting impact on net losses, and therefore had no impact on the net operating results for the quarter. Accruals for ceded premiums related to other reinsurance treaties increased $83 million due to the reserve strengthening. The remainder of the decrease in premium accruals relates to the change in estimate of the amount of retrospective premium receivables as discussed above.

Corporate Aggregate Reinsurance Treaties

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

of limit the premium is $230 million. The second section of the Aggregate Cover, which is available for accident year 2001 only, provides additional coverage of up to $510 million of losses for ceded premiums of $310 million. Under the Aggregate Cover, interest expense on the funds withheld accrues at 8% per annum. If the aggregate loss ratio for the three-year period exceeds certain thresholds, additional premiums may be payable and the rate at which interest expense is accrued would increase to 8.25% per annum.

In the first quarter of 2001, the Company triggered the coverage under the second section of the Aggregate Cover for the 2001 accident year. The Company has ceded losses and the related ceded premium to this section in all quarters of 2001. In the third quarter, as a result of losses related to the WTC catastrophe the limit under this section has been exhausted. In the second quarter of 2001, the significant reserve additions fully utilized the limit on the 1999 accident year under the first section. No losses have been ceded to the remaining $500 million of limit on accident years 2000 and 2001 under the first section. The impact of the Aggregate Cover on pretax operating results was as follows:

Impact of Aggregate Cover on Pretax Operating Results


For the period ended September 30, 2001	Three		Nine
(In millions)	Months		Months


Ceded earned premiums	$	83	$	543
Ceded claim and claim adjustment expense		288		1,010
Interest charges		11		70

Pretax benefit on operating results	$	194	$	397

In 2001, the Company entered into a one-year aggregate reinsurance treaty related to the 2001 accident year covering substantially all property-casualty lines of business in the Continental Casualty Company pool (the “CCC Cover”). The loss protection provided by the CCC Cover has an aggregate limit of $750 million to $825 million of losses depending on CCC’s 2001 actual premium volume. The CCC Cover provides continuous coverage in excess of the second section of the Aggregate Covers discussed above. Under the CCC Cover, interest expense on the funds withheld generally accrues at 8% per annum. The interest rate increases to 10% per annum if the aggregate loss ratio exceeds certain thresholds. In the third quarter, as a result of significant losses related to the WTC catastrophe, significant recoveries were recorded under this treaty.

The impact of the CCC Cover on pretax operating results was as follows:

Impact of CCC Cover on Pretax Operating Results


For the period ended September 30, 2001	Three		Nine
(In millions)	Months		Months


Ceded earned premiums	$	232	$	234
Ceded claim and claim adjustment expense		427		427
Interest charges		15		15

Pretax benefit on operating results	$	180	$	178

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Impact of Aggregate Cover and CCC Cover on Pretax Operating Results

For the quarter ended September 30, 2001


(In millions)	WTC		Core		Total

Agency Market Operations	$	40	$	39	$	79
Specialty Operations		7		15		22
CNA Re		139		2		141
Global Operations		5		5		10
Risk Management		68		54		122

Pretax benefit on operating results	$	259	$	115	$	374

Impact of Aggregate Cover and CCC Cover on Pretax Operating Results


For the nine months ended September 30, 2001	Second
	Quarter 2001
	Reserve
(In millions)	Adjustment		WTC		Core		Total

Agency Market Operations	$	150	$	40	$	26	$	216
Specialty Operations		—		7		12		19
CNA Re		26		139		1		166
Global Operations		—		5		2		7
Risk Management		47		68		52		167

Pretax benefit on operating results	$	223	$	259	$	93	$	575

2001 Restructuring

In connection with the IT Plan, the Company incurred $62 million, pretax, of restructuring and other related charges, primarily related to planned reductions in the workforce of approximately 260 positions (gross and net), and software and hardware asset write-offs for the nine months ended September 30, 2001. There were no charges recorded in the third quarter of 2001. See Note K of Notes to Condensed Consolidated Financial Statements for further details regarding this restructuring.

The IT Plan is not expected to result in decreased operating expense in the foreseeable future. This is because savings from the workforce reduction will be used to fund new technology-related initiatives.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

As of September 30, 2001, an accrual of approximately $13 million exists related to the IT Plan. Approximately $12 million of the accrual relates to workforce reductions with the remainder relating to other costs. Approximately $8 million of this accrual is expected to be paid out during the remainder of 2001.

The following table summarizes the pretax effect of these costs on the Company’s operating segments. Because future savings from the restructuring will be used to fund corporate information technology initiatives, the majority of these costs were borne by the Corporate and Other segment.


For the period ended September 30, 2001	Nine
In millions		Months


Agency Market Operations	$	4
Specialty Operations		1
Risk Management		2
Global Operations		1
Life Operations		17
Corporate and Other		37

Total	$	62

In connection with the Company’s efforts to reduce its expense structure to better align expenses with expected premium volume, the Company is in the process of undertaking a restructuring initiative. The Company is currently evaluating the impact of this restructuring initiative and expects to finalize a plan in the fourth quarter. In connection with this plan, the Company expects to take a restructuring charge before the end of the year. Since the plan has not been finalized, the amount of the restructuring charge or whether the Company will realize the expected benefit of any restructuring activities is unknown. Any restructuring charge may be material and may have an adverse material effect on results of operations.

Written Premium Adjustment

The CNA property-casualty companies implemented a change, effective January 1, 2001, in the timing of recording written premiums for policies with future effective dates. This change was made in conjunction with statutorily required changes in recording written premiums. The change in timing of recording written premiums has no impact on net earned premiums or net income.

The following table presents the effect of the adjustments made to written premiums for the three and nine months ending September 30, 2001 for each of the Company’s segments.

Adjustments to Net Written Premiums


	Three			Nine
For the period ended September 30, 2001	Months			Months

(In millions)
Agency Market Operations	$	(18	)	$	66
Specialty Operations		(3	)		15
Global Operations		(3	)		6
Risk Management		(7	)		—

Total (increase) decrease	$	(31	)	$	87

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Discussion of the results of operations for the Company’s segments follow. Based upon the significance of the corporate aggregate reinsurance treaties and the WTC catastrophe, when the Company discusses its underwriting results and ratios for its segments in comparison with prior periods, the impact of these items is excluded to provide a more meaningful analysis of the current underlying business results for the quarter. In addition, the second quarter of 2001 charges related to reserve strengthening, restructuring and other related charges, the corporate aggregate reinsurance treaties, and the WTC catastrophe are excluded from the discussion of underwriting results for the year-to-date underwriting analysis.

Agency Market Operations

Operating Results


			Three Months						Nine Months

Period ended September 30			2001			2000			2001			2000
(In millions)

Net written premiums			$	719		$	755		$	1,786		$	2,403
Net earned premiums				695			807			1,639			2,477
Underwriting loss				(87	)		(132	)		(1,444	)		(341	)
Net operating (loss) income				25			44			(705	)		154
Net operating (loss) income excluding restructuring and other related charges				25			44			(702	)		154
Ratios:
	Loss and loss adjustment expense			72.0	%		80.5	%		138.6	%		80.4	%
	Expense			37.1			33.3			45.5			31.0
	Dividend			3.3			2.5			4.0			2.4

		Combined		112.4	%		116.3	%		188.1	%		113.8	%

Adjusted underwriting loss			$	(117	)				$	(258	)

2001 adjusted ratios excluding the WTC catastrophe, corporate covers, reserve adjustment and restructuring and other related charges:
		Loss and loss adjustment expense		78.3	%					75.7	%
		Expense		34.0						32.5
		Dividend		3.0						2.8

		Combined		115.3	%					111.0	%

Third quarter net operating income for 2001 declined by $19 million as compared with the same period in the prior year. The after-tax estimated impact, net of the related corporate aggregate reinsurance treaty benefit, of the WTC catastrophe recorded in the third quarter of 2001 was $11 million. Net operating income for the third quarter of 2001 as compared with the same period in 2000 also decreased $20 million due to a decline in limited partnership income, $15 million due to a decreased benefit from the use of finite reinsurance, and $17 million primarily due to non-recurring income in 2000 related to Personal Insurance, which was transferred to Allstate in 1999. Partially offsetting these declines was a $25 million after-tax benefit from the corporate aggregate reinsurance treaties related to core operating results and improved core underwriting results across most commercial lines except for workers’ compensation.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The adjusted combined ratio decreased 1.0 points to 115.3% for the three months ended September 30, 2001 as compared with 2000, and the adjusted underwriting results improved $15 million. The change in the adjusted underwriting results and the adjusted combined ratio was driven principally by a decrease in the loss ratio, partially offset by increases in the adjusted expense and dividend ratios. The adjusted loss ratio decrease of 2.2 points reflects improved underwriting results across most commercial lines, except for workers’ compensation. Despite a decrease in operating expenses, the adjusted expense ratio increased as a result of a reduced net earned premium base. The adjusted dividend ratio increased 0.8 points due to adverse development in dividend reserves in Commercial Insurance.

Net written premiums for Agency Market Operations in the third quarter of 2001 decreased $36 million over the prior year principally as a result of $64 million of ceded premiums related to the corporate aggregate reinsurance treaties, partially offset by growth in gross written premiums for workers’ compensation and business owner’s auto policy lines. Net written premiums benefited $18 million as a result of the adjustment in net written premiums (as discussed on page 41 of the Management’s Discussion and Analysis of Financial Conditions and Results of Operations (MD&A)). Net earned premiums decreased $112 million in the third quarter of 2001 as compared with the same period in 2000. This decline is attributable to the declines noted above in net written premiums as related to the corporate aggregate treaties as well as declines in earned premiums, particularly in the commercial workers’ compensation and packages lines of business, and increased ceded premiums from other than the corporate aggregate reinsurance treaties.

Net operating income decreased $859 million for the nine months ended September 30, 2001 as compared with the same period in 2000. The after-tax impact, net of the related corporate aggregate reinsurance treaty benefit, of the second quarter of 2001 reserve strengthening on Agency Market Operations was $805 million, including $394 million for asbestos, environmental pollution and other mass tort claims. The remaining reserve strengthening related primarily to commercial multiple-peril, general liability and commercial automobile liability coverages. The strengthening was based upon detailed claim reviews, assessments of legal developments affecting these coverages and actuarial analyses completed in the second quarter of 2001. In response to the adverse trends indicated by the reviews, changes were made to more closely involve legal counsel on claims affected by the legal developments and to discontinue writing classes of business where adequate pricing cannot be achieved for the exposure.

In addition to the impact of the reserve strengthening recorded in the second quarter, net operating income for the first nine months of 2001 declined $11 million as a result of the estimated WTC catastrophe, net of the related corporate aggregate reinsurance treaty benefit, and $3 million for restructuring and other related charges. These declines were partially offset by a $17 million after-tax benefit from corporate aggregate reinsurance treaties on Core operations. Apart from those charges, net operating income for the first nine months of 2001 decreased $57 million as compared with the same period in the prior year due primarily to decreased net investment income, principally as a result of a $54 million decline in limited partnership income, $45 million related to the non-recurring ceding commission included in the first nine months of 2000 related to the transfer of Personal Insurance business to Allstate in 1999, and decreased benefits from the use of finite reinsurance. These declines were partially offset by improved core underwriting results across most commercial lines other than workers’ compensation.

The adjusted combined ratio decreased 2.8 points to 111.0% for the nine months ended September 30, 2001 as compared with 2000, and the adjusted underwriting results improved

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

$83 million. The change in the adjusted underwriting results and the adjusted combined ratio was driven by a decrease in the adjusted loss ratio, partially offset by increases in the adjusted expense and dividend ratios. The adjusted loss ratio decline of 4.7 points reflects lower adverse development excluding the reserve charge, improved underwriting results across most commercial lines excluding workers’ compensation, earned rate achievement and re-underwriting efforts undertaken last year. The adjusted expense ratio increased 1.5 points due to the reduced net earned premium base in the current period, partially offset by lower acquisition expenses, primarily due to higher ceding commissions. These decreases more than offset the $69 million benefit of the non-recurring ceding commission included in the first nine months of 2000 related to the transfer of Personal Insurance to Allstate. The adjusted dividend ratio increased 0.4 points due to adverse development in dividend reserves in Commercial Insurance.

Net written premiums for Agency Market Operations for the nine months ended September 30, 2001 decreased $617 million as compared with the prior year as a result of $321 million of ceded premiums related to the corporate aggregate reinsurance treaties, additional ceded premiums arising from the second quarter of 2001 reserve strengthening and a change in estimate for involuntary market premium accruals, and $66 million related to the adjustment in net written premiums (as previously discussed on page 41 of the MD&A). Net earned premiums likewise decreased $838 million for the first nine months of 2001 as compared with the same period in 2000. This decline is primarily attributable to the declines noted above in net written premiums and an additional $100 million in adverse experience in retrospective premium accruals. The change in estimate related to retrospective premium receivables was based upon the Company’s completion of comprehensive studies related to estimated premium receivable accruals on retrospectively rated insurance policies and involuntary market facilities. The studies included the review of all such retrospectively rated insurance policies and the current estimate of ultimate losses.

Commercial Insurance achieved an average rate increase of 15% for the third quarter of 2001 for the contracts that renewed during the period and had a retention rate of 75% for those contracts that were up for renewal.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Specialty Operations

Operating Results


				Three Months						Nine Months

Period ended September 30				2001			2000			2001			2000

(In millions)
Net written premiums				$	191		$	241		$	534		$	584
Net earned premiums					167			234			523			578
Underwriting loss					—			(10	)		(403	)		(17	)
Net operating (loss) income					30			42			(154	)		126
Net operating (loss) income excluding restructuring and other related charges					30			42			(153	)		126

Ratios:
		Loss and loss adjustment expense			69.4	%		79.2	%		147.3	%		76.1	%
		Expense			30.4			25.0			29.6			26.8
		Dividend			—			0.1			0.1			0.1

			Combined		99.8	%		104.3	%		177.0	%		103.0	%

Adjusted underwriting loss				$	(8	)				$	(43	)

2001 adjusted ratios excluding the WTC catastrophe, corporate covers, reserve adjustment and restructuring and other related charges:
	Loss and loss adjustment expense				76.8	%					80.3	%
	Expense				27.4						27.1
	Dividend				—						0.1

			Combined		104.2	%					107.5	%

Third quarter net operating income for 2001 declined by $12 million as compared with the same period in the prior year. The after-tax estimated impact, net of the related corporate aggregate reinsurance treaty benefit, of the WTC catastrophe was $5 million. In addition, net operating income decreased as a result of lower net investment income, primarily due to an $8 million decline in limited partnership income, a decreased benefit from the use of finite reinsurance and adverse loss experience in the errors & omissions (E&O) and directors & officers (D&O) product lines. These declines were partially offset by a benefit of $10 million after-tax related to corporate aggregate reinsurance treaties on Core operations.

The adjusted combined ratio decreased by 0.1 points to 104.2% for the third quarter of 2001 as compared with the same period in 2000 and the adjusted underwriting results improved by $2 million. This change is due to a decrease in the adjusted loss ratio, partially offset by an increase in the adjusted expense ratio. The adjusted loss ratio decreased due to additional ceded losses related to finite reinsurance treaties and improvements in the healthcare professional liability loss portfolio business, partially offset by adverse loss experience in the third quarter of 2001 in E&O and D&O products. While quarter-over-quarter operating expenses declined, the adjusted expense ratio increased as a result of a decreased net earned premium base. Acquisition and underwriting expenses decreased due to reduced expenses in the healthcare professional liability loss portfolio business and a continued focus on expense management.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Net written premiums for Specialty Operations in the third quarter of 2001 decreased $50 million over the prior year as a result of $18 million of ceded premiums related to the corporate aggregate reinsurance treaties and $24 million of ceded premiums related to additional finite reinsurance treaties. Also contributing to the decline were reduced premiums volume in the healthcare professional liability business due to fewer assumed loss portfolio transfer transactions in 2001. These declines were partially offset by increased production for not-for-profit long term care facilities and a benefit of $3 million related to the adjustment in net written premiums (as discussed on page 41 of the MD&A). Net earned premiums decreased $67 million primarily related to the same reasons noted above.

Net operating income decreased $280 million for the nine months ended September 30, 2001 compared with 2000. The after-tax impact of the second quarter of 2001 reserve strengthening on Specialty Operations was $238 million. The reserve strengthening related primarily to medical malpractice and national for-profit nursing home chains with exposure in Florida and Texas. The strengthening was necessitated by the continuing emergence of reported losses in excess of expectations and a thorough review of claim exposures by the new management team that was put in place during 2000. In response to these adverse trends, Specialty Operations withdrew from writing these coverages in certain states and instituted major rate increases.

In addition to the impact of the second quarter reserve strengthening, net operating income for the first nine months of 2001 decreased by $5 million due to the estimated WTC catastrophe, net of the related corporate aggregate reinsurance treaty benefit, and $1 million for restructuring and other related charges. Partially offsetting these charges was an $8 million benefit due to the corporate aggregate reinsurance treaties related to Core operations. Apart from those charges, net operating income decreased $44 million in the first nine months of 2001 as compared with 2000 due to the decline in underwriting results and decreased net investment income, principally resulting from a $19 million decline in limited partnership income.

The adjusted combined ratio increased by 4.5 points to 107.5% for the first nine months of 2001 as compared with the same period in 2000 and the adjusted underwriting results declined by $26 million. This change is due to increases in the adjusted loss and expense ratios. The adjusted loss ratio increased 4.2 points primarily as a result of favorable loss development recorded in 2000 for the architects and engineers business, partially offset by the third quarter improvements as discussed above. The increase in the adjusted expense ratio is a result of the reduced net earned premium base while overall expenses remained relatively unchanged.

Net written premiums for Specialty Operations for the first nine months of 2001 decreased $50 million as compared with the same period in 2000. Net written premiums decreased $36 million as a result of additional ceded premiums related to the corporate aggregate reinsurance treaties. Net written premiums also decreased $15 million related to the adjustment in net written premiums (as previously discussed on page 41 of the MD&A). Net earned premiums decreased $55 million for the first nine months of 2001 as compared with the same period in 2000 principally due to ceded premiums related to the corporate aggregate reinsurance treaties, adverse experience in retrospective premium accruals recorded in the second quarter of 2001 reserve strengthening, and a decline in premium volume in the healthcare professional liability business. These declines were partially offset by the reserve for retrospective premium increase recorded in 2000.

The non-medical and medical professional liability and financial products lines of business achieved an average of a 20% rate increase for the third quarter of 2001 for the contracts that

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

renewed during the period and had a retention rate of 80% for the third quarter of 2001 for those contracts that were up for renewal.

CNA Re


Operating Results
			Three Months						Nine Months

Period ended September 30 (In millions)			2001			2000			2001			2000


Net written premiums			$	108		$	214		$	378		$	769
Net earned premiums				149			289			452			802
Underwriting loss				(270	)		(23	)		(904	)		(66	)
Net operating (loss) income				(146	)		22			(497	)		66

Ratios:
Loss and loss adjustment expense				237.0	%		78.1	%		257.3	%		76.1	%
Expense				44.5			29.8			42.3			32.1

Combined				281.5	%		107.9	%		299.6	%		108.2	%

Adjusted underwriting loss			$	(10	)				$	(57	)

2001 adjusted ratios excluding the WTC catastrophe, corporate covers and reserve adjustment:
	Loss and loss adjustment expense			69.4	%					73.5	%
	Expense			35.7						37.4

		Combined		105.1	%					110.9	%

The Company plans to dispose of the United Kingdom subsidiaries of CNA Re, with the intent of completing the disposition in early 2002. Such a disposition is subject to regulatory approval. Future writing of all U.S. domiciled business will be written from our operations in the U.S. The Company cannot provide assurance that the United Kingdom subsidiaries of CNA Re will be sold. Refer to the Investments section on the following pages for more information.

Third quarter net operating income declined by $168 million as compared with the prior year. The after-tax estimated impact, net of the related corporate aggregate reinsurance treaty benefit, of the WTC catastrophe was $176 million. In addition, net operating income decreased due to a decline in limited partnership income of $4 million. Partially offsetting these declines were lower net catastrophe losses in the current quarter, excluding the WTC catastrophe, and a $1 million benefit from corporate aggregate reinsurance treaties on Core operations.

The adjusted combined ratio decreased 2.8 points to 105.1% during the third quarter of 2001 as compared with the same period in 2000 and the adjusted underwriting results improved $13 million. The favorable change in the adjusted combined ratio and the adjusted underwriting results was primarily a result of a decrease in the adjusted loss ratio of 8.7 points, due to lower net catastrophe losses excluding the WTC catastrophe and the reduction of business written in London (with a combined ratio exceeding 100%). While quarter-over-quarter acquisition and underwriting expenses decreased as a result of reduced technology costs, the adjusted expense ratio increased due to a reduced net earned premium base.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Net written premiums for CNA Re for the third quarter of 2001 decreased $106 million over the prior year. Premiums decreased $125 million as a result of ceded premiums related to the corporate aggregate reinsurance treaties. Also, in July, S&P downgraded the rating of CNA Reinsurance Company Limited (CNA Re U.K.) from A to BBB-. This announcement along with CNA’s announced intent to sell the United Kingdom subsidiaries had an adverse impact on the company’s ability to renew business and generate new business in London. These declines were partially offset by $89 million of reinstatement and additional premiums as a result of the WTC catastrophe. Net earned premiums decreased $140 million primarily related to the same reasons noted above.

Net operating income decreased $563 million for the nine months ended September 30, 2001 as compared with the same period in 2000. The after-tax impact, net of the related corporate aggregate reinsurance treaty benefit, of the second quarter of 2001 reserve strengthening on CNA Re was $384 million, including $37 million for asbestos, environmental pollution and other mass tort claims. The strengthening was based upon second quarter reviews that showed the emergence of higher than expected reported losses. The reserve strengthening related to a number of lines, including excess of loss liability and professional liability in accident years 1997 to 2000.

In addition to the impact of the reserve strengthening recorded in the second quarter of 2001, net operating income for the first nine months of 2001 decreased by $176 million related to the estimated WTC catastrophe. Partially offsetting these declines was a benefit of $1 million from corporate aggregate reinsurance treaties on Core operations. Apart from those items, net operating income decreased $4 million for the first nine months of 2001 as compared with the same period in 2000 due to decreased net investment income, including a $10 million decline in limited partnership income, partially offset by lower current year underwriting costs.

The adjusted combined ratio increased 2.7 points to 110.9% for the nine months ended September 30, 2001 as compared with the same period in 2000 and the adjusted underwriting results improved $9 million. The change in the adjusted combined ratio and adjusted underwriting results is primarily related to increases in the adjusted expense ratio, partially offset by a decrease in the adjusted loss ratio. While operating expenses have decreased for the nine months ended September 30, 2001 as compared with 2000, the expense ratio has increased due to the reduced net earned premium base. Both acquisition and underwriting expenses have decreased as a result of reduced technology expenses. The adjusted loss ratio decreased 2.6 points because of improvements in the current accident year underwriting results partially offset by increased adverse development, excluding the reserve charge, of $59 million, in 2001 as compared with 2000.

Net written premiums for CNA Re decreased $391 million for the first nine months of 2001 as compared with the same period in 2000 as a result of $161 million of ceded premiums related to the corporate aggregate reinsurance treaties and decisions made for 2001 not to renew contracts, including multi-year contracts, that management believed did not meet its underwriting profitability targets. In addition, premiums decreased as a result of the announced intention to sell the United Kingdom subsidiaries. These declines were partially offset by reinstatement and additional premiums of $89 million related to the WTC catastrophe. Net earned premiums decreased $350 million for the first nine months of 2001 as compared with the same period in 2000 primarily related to the same reasons noted above.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Global Operations


Operating Results
					Three Months						Nine Months

Period ended September 30 (In millions)					2001			2000			2001			2000


Net written premiums					$	329		$	311		$	919		$	888
Net earned premiums						308			271			866			811
Underwriting loss						(14	)		(12	)		(222	)		(43	)
Net operating income (loss)						11			19			(114	)		35
Net operating income (loss) excluding restructuring and other related charges						11			19			(113	)		35

Ratios:
		Loss and loss adjustment expense				58.6	%		61.7	%		75.1	%		62.2	%
		Expense				45.7			43.0			50.2			43.0
		Dividend				0.2			(0.3	)		0.3			0.1

			Combined			104.5	%		104.4	%		125.6	%		105.3	%

Adjusted underwriting loss					$	(9	)				$	(97	)

2001 adjusted ratios excluding the WTC catastrophe, corporate covers, reserve adjustment and restructuring and other related charges:
	Loss and loss adjustment expense					59.2	%					62.0	%
	Expense					43.3						48.9
	Dividend					0.2						0.3

				Combined		102.7	%					111.2	%

Third quarter net operating income declined by $8 million as compared with the prior year. The after-tax estimated impact of the WTC catastrophe was $7 million, net of the benefit of the corporate aggregate reinsurance treaties. This decline was partially offset by a $3 million after-tax benefit as a result of corporate aggregate reinsurance treaties on Core operations. Excluding these items, net operating income decreased $4 million primarily as a result of declined underwriting results in the Canadian and European operations and warranty product lines and a decline in limited partnership income of $2 million, partially offset by improved underwriting results in the marine line of business.

The adjusted combined ratio decreased 1.7 points to 102.7% for the third quarter of 2001 as compared with the same period in 2000 and the adjusted underwriting results improved $3 million. These changes were primarily due to a decrease in the adjusted loss ratio of 2.5 points as a result of improved underwriting results in the marine line of business. Partially offsetting the improved adjusted loss ratio were increases in the adjusted dividend ratio and adjusted expense ratio. The increase in the adjusted dividend ratio of 0.5 points was due to favorable dividend development in 2000 in the surety lines. The increase in the adjusted expense ratio of 0.3 points was attributable to increased acquisition expenses in the marine lines of business and increased underwriting expenses in the European operations.

Net written premiums for Global Operations for the third quarter of 2001 increased $18 million as compared with the same period in 2000. Net written premiums increased primarily as a result of growth in the commercial casualty and property lines in the European operations, production

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

increases in surety lines and growth in the workers’ compensation line. These increases were partially offset by $12 million of additional ceded premiums arising from the corporate aggregate reinsurance treaties. Net earned premiums increased $37 million primarily related to the same reasons noted above.

Net operating income decreased $149 million for the first nine months of 2001 as compared with the same period in 2000. The after-tax impact of the reserve strengthening on Global Operations was $87 million, including $25 million for asbestos, environmental pollution and other mass tort claims. The remaining reserve strengthening related to the marine business as a result of a second quarter review in 2001 which indicated an increase in large claim frequency in marine cargo and hull coverages for accident years 1998 though 2000. In addition, Global Operations strengthened reserves due to higher than expected losses arising from high hazard commercial auto business. In response to these adverse trends, Global Operations has taken rate action and reduced exposure to unprofitable marine cargo and hull classes of business and exited the high hazard commercial auto business.

In addition to the impact of the reserve strengthening, net operating income for the nine months ended September 30, 2001 decreased by $7 million related to the estimated WTC catastrophe, net of the benefit of the corporate aggregate reinsurance treaties, and $1 million of restructuring and other related charges. Partially offsetting these decreases was a $2 million after-tax benefit related to the corporate aggregate reinsurance treaties on Core operations. Apart from these items, net operating income decreased $56 million for the nine months of 2001 as compared with the prior year due primarily to writing off unrecoverable deferred acquisition costs and better aligning premium earnings patterns with the emergence of claims in the vehicle warranty line of business and a $6 million decline in limited partnership income.

The adjusted combined ratio increased 5.9 points to 111.2% for the first nine months of 2001 as compared with the same period in 2000 and the adjusted underwriting results declined $54 million. These changes were principally due to an increase in the adjusted expense ratio of 5.9 points. The increase in the expense ratio was attributable to an increase in acquisition expenses primarily due to the write-off of unrecoverable deferred acquisition costs in the vehicle warranty line of business in the second quarter of 2001.

Net written premiums for Global Operations for the first nine months of 2001 increased $31 million as compared with the same period in 2000. Net written premiums increased primarily as a result of growth in the commercial casualty and property lines in Europe and Canada, as well as production increases in surety lines. These increases were partially offset by $27 million of additional ceded premiums arising from the corporate aggregate reinsurance treaties, declines in the equipment maintenance warranty line of business and $6 million related to the adjustment in net written premiums (as previously discussed on page 41 of the MD&A). Net earned premiums increased $55 million primarily related to the same reasons noted above.

Global Operations achieved 7% average rate increases across its businesses during the third quarter of 2001 for the contracts that renewed during the period. Retention rates were in the 88 percent range for those contracts which were up for renewal. Retention rates do not apply to the Surety and Warranty businesses.

]

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Risk Management


Operating Results
					Three Months						Nine Months

Period ended September 30 (In millions)					2001			2000			2001			2000


Net written premiums					$	46		$	129		$	252		$	506
Net earned premiums						48			142			(94	)		448
Underwriting loss						(30	)		(35	)		(950	)		(106	)
Net operating (loss) income						5			15			(545	)		34
Net operating (loss) income excluding restructuring and other related charges						5			15			(544	)		34

Ratios:
		Loss and loss adjustment expense				38.9	%		93.7	%	NM				92.5	%
		Expense				95.3			31.1		NM				31.2
		Dividend				30.5			0.0		NM				0.0

			Combined			164.7	%		124.8	%	NM				123.7	%

Adjusted underwriting loss					$	(32	)				$	(76	)

2001 adjusted ratios excluding the WTC catastrophe, corporate covers, reserve adjustment and restructuring and other related charges:
	Loss and loss adjustment expense					80.9	%					83.8	%
	Expense					31.3						30.1
	Dividend					10.2						4.3

				Combined		122.4	%					118.2	%

NM = Not Meaningful.

Third quarter net operating income declined by $10 million as compared with the prior year. The after-tax estimated impact of the WTC catastrophe was $39 million, net of the benefit of the corporate aggregate reinsurance treaties. In addition, net operating income decreased due to declines in the workers’ compensation business, adverse development in the dividend reserves recorded in the third quarter of 2001, and lower net investment income, of which $5 million was due to a decline in limited partnership income. These declines were partially offset by an after-tax benefit of $36 million related to corporate aggregate reinsurance treaties on Core operations, improved property underwriting results and an increased benefit from the use of reinsurance.

The adjusted combined ratio decreased 2.4 points to 122.4% for the third quarter of 2001 as compared with the same period in 2000 and the adjusted underwriting results improved $3 million. The adjusted loss ratio improved 12.8 points due to improvements in the property business and increased benefit from the use of reinsurance, partially offset by adverse experience in the workers’ compensation business. The adjusted combined ratio was adversely impacted by adverse development in the dividend reserves recorded in the third quarter 2001.

Net written premiums for Risk Management decreased $83 million for the third quarter of 2001 as compared with the same period in 2000 as a result of $96 million of ceded premiums related to the corporate aggregate reinsurance treaties, partially offset by new business production in the property book of business. Net written premiums benefited $7 million as a result of the adjustment to written premiums (as discussed on page 41 of the MD&A).

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Net earned premiums decreased $94 million for the third quarter of 2001 as compared with the same period in 2000 due to the reasons noted above.

Net operating income for the nine months ended September 30, 2001 decreased $579 million. The after-tax impact, net of the related corporate aggregate reinsurance treaty benefit, of the second quarter of 2001 reserve strengthening on Risk Management was $575 million, including $322 million for asbestos, environmental pollution and other mass tort claims. The remaining reserve strengthening related primarily to adverse experience in liability coverages and retrospective premium accruals. The change in estimate was driven by adverse indications in loss reserve and retrospective premium studies. In addition to the impact of the reserve strengthening, the after-tax estimated impact of the WTC catastrophe was $39 million, net of the benefit of the corporate aggregate reinsurance treaties. These losses were offset by an after-tax benefit of $35 million related to corporate aggregate reinsurance treaties on Core operations. Apart from those charges, net operating income was flat for the first nine months of 2001 as compared with the prior year due to lower net catastrophes of $10 million after-tax, excluding the WTC catastrophe, and higher adverse development recorded in 2000, partially offset by a $13 million decrease in limited partnership income and increased dividends of $12 million.

The adjusted combined ratio decreased 5.5 points to 118.2% for the nine months ended September 30, 2001 as compared with the same period in 2000 and the adjusted underwriting results improved by $30 million. This change is primarily due to a decrease in the loss ratio of 8.7 points primarily as a result of $16 million, or 3.7 points, of lower non-WTC catastrophes in the nine months ended September 30, 2001 as compared with the same period in the prior year and improvement in the casualty business, partially offset by increases in the adjusted loss ratio in workers’ compensation. Partially offsetting the improved loss ratio, was an increase in the dividend ratio due to adverse development in dividend reserves recorded in 2001.

Net written premiums for Risk Management decreased $254 million for the first nine months of 2001 as compared with the same period in 2000 as a result of $232 million of ceded premiums related to the corporate aggregate reinsurance treaties, a change in estimate for involuntary market premium accruals and a continued focus on re-underwriting the book of business. Net earned premiums decreased $542 million for the first nine months of 2001 as compared with the same period in 2000 attributable to $265 million in adverse experience in retrospective premium accruals recorded in the second quarter reserve strengthening as well as the declines noted above. The change in estimate related to retrospective premium receivables was based upon the Company’s completion of comprehensive studies of estimated premium receivable accruals on retrospectively rated insurance policies and involuntary market facilities. The studies included the review of all such retrospectively rated insurance policies and the current estimate of ultimate losses.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Group Operations


Operating Results
	Three Months					Nine Months

Period ended September 30 (In millions)	2001			2000		2001			2000


Net earned premiums	$	931		$	947	$	2,579		$	2,708
Net operating (loss) income		(35	)		14		(4	)		40

Net earned premiums for Group Operations decreased $16 million, or 2%, to $931 million for the third quarter of 2001 as compared with the same period in 2000. Net earned premiums declined $66 million as a result of the sale of the Life Reinsurance business (Life Reinsurance) on December 31, 2000 and $39 million in the group reinsurance line of business primarily as a result of terminating unprofitable contracts with independent underwriting agencies that occurred in 2000. See Note L of the Condensed Consolidated Financial Statements for a discussion of the Life Reinsurance transaction. These declines were partially offset by increases of $78 million in Federal Markets, mainly due to the mailhandlers health benefit plan, and growth of $11 million in Group Benefits, particularly in the disability lines.

Net operating income decreased by $49 million to a loss of $35 million in the third quarter of 2001 as compared with income of $14 million for the same period in 2000. This decrease is primarily a result of after-tax losses related to the estimated WTC catastrophe of $39 million in the Group Benefits line of business and $13 million in group reinsurance. Net operating income also decreased due to the loss of income resulting from the sale of Life Reinsurance of $4 million and a decline of $4 million in limited partnership income in 2001. Partially offsetting these declines were improvements resulting from exiting unprofitable lines of business in 2000 and increased net investment income overall.

Net earned premiums for Group Operations decreased $129 million, or 5%, to $2,579 million for the nine months ended September 30, 2001 as compared with the same period in 2000. Net earned premiums declined $172 million as a result of the sale of Life Reinsurance and $121 million in the group reinsurance line of business primarily as a result of terminating unprofitable contracts with independent underwriting agencies in 2000. These declines were partially offset by increases in Federal Markets of $114 million and in Group Benefits of $50 million, particularly in the disability and group long term care lines of business.

Net operating income decreased by $44 million to a loss of $4 million for the first nine months of 2001 as compared with the same period in 2000. This decrease is related primarily to losses as a result of the estimated WTC catastrophe in the third quarter as discussed above. Net operating income also declined $15 million as a result of the sale of Life Reinsurance and $10 million due to a decline in limited partnership income. Partially offsetting these declines were improved group long term care results.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Life Operations


Operating Results
	Three Months				Nine Months

Period ended September 30 (In millions)	2001		2000		2001		2000


Sales volume*	$	663	$	698	$	2,286	$	2,382
Net earned premiums		248		236		740		674
Net operating income		4		49		73		140
Net operating income excluding restructuring		4		49		84		140

*Sales volume is a cash-based measure that includes premiums and annuity considerations, investment contract deposits and other sales activities that are not reported as premiums under accounting principles generally accepted in the United States of America (GAAP).

Sales volume for Life Operations decreased $35 million to $663 million for the third quarter of 2001 as compared with the same period in 2000. Sales volume decreased as a result of a decline in the sale of variable annuities, exiting the viatical line of business and declines in the Chile annuity business. Net earned premiums increased $12 million, or 5%, to $248 million for the third quarter of 2001 as compared with the same period in 2000. This improvement is primarily attributable to improved sales of structured settlement annuities and Long Term Care products, partially offset by declines in the Chile annuity business.

Net operating income decreased by $45 million to $4 million for the third quarter of 2001 as compared with the same period in 2000. This decrease is related to the after-tax losses for the estimated WTC catastrophe of $14 million, lower investment performance in the Index 500 product sold to institutions, decreased net investment income primarily due to a $5 million decline in limited partnership income, and higher mortality experience in the Universal Life business.

Sales volume for Life Operations decreased by $96 million to $2,286 million for the nine months ended September 30, 2001 as compared with the same period in 2000. This decline was driven primarily by declines in the sales of variable annuities and as a result of exiting the viatical line of business. These declines were partially offset by increased renewals and increased new sales in Long Term Care products. Net earned premiums increased $66 million, or 10%, to $740 million for the nine months ended September 30, 2001 as compared with the same period in 2000. This improvement is primarily attributable to improved sales of structured settlement annuities and Long Term Care products, partially offset by declines in the Chile annuity business.

Excluding restructuring charges, net operating income decreased by $56 million to $84 million for the nine months ended September 30, 2001 as compared with the same period in 2000. This decrease relates primarily to decreased net investment income primarily due to a $17 million decline in limited partnership income and losses related to the estimated WTC catastrophe of $14 million. In addition, net operating income decreased as a result of lower investment yields in Long Term Care products and lower investment performance in the Index 500 product.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Corporate and Other

Net operating losses remained flat at $49 million and $165 million for the third quarter and first nine months of 2001 as compared with the same periods of 2000.

Included in the nine months ended September 30, 2001 was $23 million in restructuring and other related charges. See Note K to the Condensed Consolidated Financial Statements for a discussion of Restructuring and Other Related Charges.

Environmental Pollution and Other Mass Tort and Asbestos Reserves

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

reconsider their environmental cleanup statutes and regulations. There can be no meaningful prediction of the pattern of regulation that would result or the effect upon CNA’s results of operations and/or financial position.

As of September 30, 2001 and December 31, 2000, CNA carried approximately $649 million and $347 million of claim and claim adjustment expense reserves, net of reinsurance recoverables, for reported and unreported environmental pollution and other mass tort claims. There was no environmental pollution and other mass tort net claim and claim adjustment expense reserve development for the three months ended September 30, 2001. Unfavorable environmental pollution and other mass tort net claim and claim adjustment expense reserve development for the three months ended September 30, 2000 amounted to $15 million. Unfavorable environmental pollution and other mass tort net claim and claim adjustment expense reserve development for the nine months ended September 30, 2001 and 2000 amounted to $453 million and $36 million. The Company made environmental pollution-related claim payments and other mass tort-related claim payments of $135 million and $153 million in calendar year 2000 and the nine months ended September 30, 2001 respectively, net of reinsurance.

CNA’s property-casualty insurance subsidiaries also have exposure to asbestos claims. Estimation of asbestos claims and claim adjustment expense reserves involves many of the same limitations discussed above for environmental pollution claims, such as inconsistency of court decisions, specific policy provisions, allocation of liability among insurers and insureds, and additional factors such as missing policies and proof of coverage. Furthermore, estimation of asbestos claims is difficult due to, among other reasons, the proliferation of bankruptcy proceedings and attendant uncertainties, the targeting of a broader range of businesses and entities as defendants, the uncertainty as to which other insureds may be targeted in the future, and the uncertainties inherent in predicting the number of future claims.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

This analysis indicated a significant increase in claim counts for asbestos-related claims. The factors that have led to the deterioration in claim counts include, among other things, intensive advertising campaigns by lawyers for asbestos claimants and the addition of new defendants such as the distributors and installers of asbestos containing products. New claim filings increased significantly in 2000 over 1999 and that trend continues thus far in 2001. The volume of new claims has caused the bankruptcies of numerous asbestos defendants. Those bankruptcies also may result in increased liability for remaining defendants under principles of joint and several liability.

In addition, some asbestos defendants have asserted that their claims for insurance are not subject to aggregate limits on coverage. CNA currently has such claims from a number of insureds. Some of these claims involve insureds facing exhaustion of products liability aggregate limits in their policies, who have asserted that their asbestos claims fall within so-called “non-products” liability coverage contained within their policies rather than products liability coverage, and that the claimed “non-products” coverage is not subject to any aggregate limit. It is difficult to predict the ultimate size of any of the claims for coverage not subject to aggregate limits or predict to what extent, if any, the attempts to assert “non-products” claims outside the products liability aggregate will succeed.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Investments

The components of net investment income for the three and nine months ended September 30, 2001 and 2000 are presented in the following table.


Net Investment Income
			Three Months						Nine Months

Period ended September 30 (In millions)			2001			2000			2001			2000


Fixed maturity securities:
	Bonds:
		Taxable	$	445		$	391		$	1,270		$	1141
		Tax-exempt		24			52			86			168
Limited Partnerships				20			100			52			258
Short-term investments				34			61			113			152
Other, including interest and funds withheld and other deposits				(48	)		8			(89	)		49

Gross Investment Income				475			612			1,432			1,768
Investment expense				(18	)		(11	)		(47	)		(37	)

Net investment income			$	457		$	601		$	1,385		$	1,731

During the first quarter of 2001, the Company reclassified equity method income from limited partnership investments. This income was previously classified in realized investment gains, net of participating policyholders’ and minority interests. Effective in 2001, equity method income from limited partnership investments is classified in net investment income and amounts in 2000 have been reclassified to conform to the new presentation. Income from limited partnership investments decreased $80 million and $206 million for the three and nine month periods ended September 30, 2001 as compared with the same periods in 2000. During the three and nine month periods ended September 30, 2000 market conditions allowed for very favorable investment results relative to the investment strategies of certain limited partnerships held. In addition, certain partnerships that were very successful during year 2000 have been dissolved and are no longer held. Investment results for the same periods in 2001 were, in general, less than expected.

Also during the first quarter of 2001, the Company reclassified interest on funds withheld and other deposits. This expense was previously classified in other operating expenses and is now classified in net investment income. Interest on funds withheld and other deposits was $84 million and $28 million for the third quarter of 2001 and 2000. Interest on funds withheld and other deposits was $206 million and $64 million for the nine months ended September 30, 2001 and 2000.

The Company experienced lower net investment income for both the three and nine months ended September 30, 2001 as compared with the same period in 2000 due primarily to decreases in limited partnership income as well as an increase in interest on funds withheld and other deposits. The bond segment of the investment portfolio yielded 6.4% in the first nine months of 2001 as compared with 6.5% during the same period in 2000.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The components of net realized investment gains for the three and nine months ended September 30, 2001 and 2000 are presented in the following table.


Net Realized Investment Gains
					Three Months						Nine Months

Period ended September 30 (In millions)					2001			2000			2001			2000


Realized investment gains (losses):
	Fixed maturity securities:
		U.S. Government bonds			$	49		$	24		$	156		$	21
		Corporate and other taxable bonds				(73	)		(21	)		(79	)		(68	)
		Tax-exempt bonds				7			22			45			(25	)
		Asset-backed bonds				—			(7	)		55			(65	)
		Redeemable Preferred Stock				—			—			(21	)		(3	)

			Total fixed maturity securities			(17	)		18			156			(140	)
	Equity securities					39			612			1,126			987
	Derivative securities					(29	)		(8	)		(26	)		13
	Other assets					10			(13	)		(304	)		50

				Total realized investment gains		3			609			952			910
Allocated to participating policyholders and minority interest						(2	)		(3	)		(12	)		—
Income tax expense						(1	)		(212	)		(390	)		(319	)

Net realized investment gains					$	—		$	394		$	550		$	591

Net realized investment gains decreased $394 million for the third quarter of 2001 compared with the same period in 2000. This change is primarily a result of realized gains in the third quarter of 2000 for the sale of Global Crossing Ltd. common stock (Global Crossing) of $149 million (this position was entirely sold as of the second quarter of 2001) and Canary Wharf Group plc common stock (Canary Wharf) of $192 million.

Net realized investment gains decreased $41 million for the nine months ended September 30, 2001 as compared with the same period in 2000. This decrease is primarily a result of the estimated losses recorded for the planned dispositions of the United Kingdom subsidiaries of CNA Re described in more detail below as well as decreases in after-tax gains from the sale of Canary Wharf of $34 million for the first nine months of 2001 as compared with $233 million in the same period of 2000. These declines were partially offset by after-tax gains from the sale of Global Crossing and its related hedge of $647 million in the first nine months of 2001 as compared with $315 million in the same period of 2000 as well as gains of $58 million, as adjusted, resulting from the sale of a New York real estate property and gains from the sale of fixed maturity security investments in the first quarter of 2001.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The estimated after-tax realized loss recorded in connection with the planned disposition of certain subsidiaries by segment was as follows:


For the period ended September 30, 2001	Nine Months

(In millions)

Agency Market Operations	$	17
CNA Re		285
Global Operations		18

Total	$	320

A primary objective in the management of the fixed maturity portfolio is to maximize total return relative to underlying liabilities and respective liquidity needs. In achieving this goal, assets may be sold to take advantage of market conditions or other investment opportunities or credit and tax considerations. This activity will produce realized gains and losses depending on market conditions including interest rates.

Substantially all invested assets are marketable securities classified as available-for-sale in the accompanying financial statements. Accordingly, changes in fair value for these securities are reported in other comprehensive income.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The following table presents the carrying values of the Company’s investments at September 30, 2001 and December 31, 2000, and the change in unrealized gains (losses) of those securities included in other comprehensive income for the nine months ended September 30, 2001.


						Nine Months Ended
						September 30, 2001
						Change in
						Unrealized
General Account Investments		September 30,		December 31,		Gains
		2001		2000		(Losses)

(In millions)

Fixed maturity securities:
	U.S. Treasury securities and obligations of government agencies	$	5,678	$	5,298	$	84
	Asset-backed securities		8,197		7,623		182
	Tax-exempt securities		2,229		3,349		(45	)
	Taxable securities		12,428		10,328		307
	Redeemable preferred stock		46		54		—

Total fixed maturity securities			28,578		26,652		528

Equity securities:
	Common stock		1,101		2,216		(1,223	)
	Non-redeemable preferred stock		319		196		(13	)

Total equity securities			1,420		2,412		(1,236	)
Short-term investments			4,788		4,723		(10	)
Other investments			1,594		1,335		—

Total investments		$	36,380	$	35,122		(718	)

Separate account business and other							105

Change in unrealized gains (losses) reported in other comprehensive income						$	(613	)

The Company’s general and separate account investment portfolio consists primarily of publicly traded government bonds, asset-backed securities, mortgage-backed securities, municipal bonds and corporate bonds.

Investments in the general account, excluding $89 million of net unrealized losses related to the adoption of Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities and the Statement of Financial Accounting Standards No. 138, Accounting for Certain Derivative Instruments and Certain Hedging Activities (collectively referred to as SFAS 133), as of January 1, 2001, had a total net unrealized gain of $681 million at September 30, 2001 compared with $1,310 million at December 31, 2000. The unrealized position at September 30, 2001 was composed of a net unrealized gain of $629 million for fixed maturities, and an unrealized gain of $61 million for equity securities, and a net unrealized loss of $9 million for short-term investments.

The Company’s investment policies for both the general and separate accounts emphasize high credit quality and diversification by industry, issuer and issue. Assets supporting interest rate sensitive liabilities are segmented within the general account to facilitate asset/liability duration management.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The general account portfolio consists primarily of high quality (rated BBB or higher) bonds, 91% and 93% of which were rated as investment grade at September 30, 2001 and December 31, 2000. The following table summarizes the ratings of CNA’s general account bond portfolio at carrying value.


General Account Bond Ratings
	September 30,					December 31,
	2001		%			2000		%

(In millions)

U.S. Government and affiliated agency securities	$	6,389		22	%	$	8,689		32	%
Other AAA rated		9,573		34			7,120		27
AA and A rated		6,056		21			5,954		22
BBB rated		4,053		14			3,066		12
Below investment-grade		2,461		9			1,769		7

Total	$	28,532		100	%	$	26,598		100	%

At September 30, 2001 and December 31, 2000, approximately 97% and 98% of the general account portfolio were U.S. Government agencies or were rated by Standard & Poor’s (S&P) or Moody’s Investors Service. The remaining bonds were rated by other rating agencies, outside brokers or Company management.

Below investment grade bonds, as presented in the table above, are high yield securities rated below BBB by bond rating agencies, as well as other unrated securities that, in the opinion of management, are below investment-grade. High-yield securities generally involve a greater degree of risk than investment-grade securities. However, expected returns should compensate for the added risk. This risk is also considered in the interest rate assumptions for the underlying insurance products.

Included in CNA’s general account fixed maturity securities at September 30, 2001 are $8,197 million of asset-backed securities, at fair value, consisting of approximately 61% in collateralized mortgage obligations (CMOs), 15% in U.S. government agency issued pass-through certificates, 15% in corporate asset-backed obligations and 9% in corporate mortgage-backed pass-through certificates. The majority of CMOs held are actively traded in liquid markets and are priced by broker-dealers.

Short-term investments at September 30, 2001 and December 31, 2000 primarily consisted of commercial paper and money market funds. The carrying value of the components of the general account short-term investment portfolio are presented in the following table.


Short-term investments
	September 30,		December 31,
	2001		2000

(In millions)

Commercial paper	$	2,234	$	3,291
U.S. Treasury securities		162		383
Money Market funds		2,086		620
Other		306		429

Total short-term investments	$	4,788	$	4,723

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

CNA invests in certain derivative financial instruments primarily to reduce its exposure to market risk (principally interest rate, equity price and foreign currency risk). CNA considers the derivatives in its general account to be held for purposes other than trading. Derivative securities are recorded at fair value at the reporting date.

Most derivatives in separate accounts are held for trading purposes. The Company uses these derivatives to mitigate market risk by purchasing S&P 500® index futures in a notional amount equal to the contract liability relating to Life Operations’ Index 500 guaranteed investment contract product.

Market Risk

Market risk is a broad term related to changes in the fair value of a financial instrument. Discussions herein regarding market risk focus on only one element of market risk — price risk. Price risk relates to changes in the level of prices due to changes in interest rates, equity prices, foreign exchange rates or other factors that relate to market volatility of the rate, index or price underlying the financial instrument. The Company’s primary market risk exposures are due to changes in interest rates, although the Company has certain exposures to changes in equity prices and foreign currency exchange rates. The fair value of the financial instruments is adversely affected when interest rates rise, equity markets decline and the dollar strengthens against foreign currency.

Active management of market risk is integral to the Company’s operations. The Company may use the following tools to manage its exposure to market risk within defined tolerance ranges: (1) change the character of future investments purchased or sold, (2) use derivatives to offset the market behavior of existing assets and liabilities or assets expected to be purchased and liabilities to be incurred, or (3) rebalance its existing asset and liability portfolios.

For purposes of this disclosure, market risk sensitive instruments are divided into two categories: (1) instruments entered into for trading purposes and (2) instruments entered into for purposes other than trading. The Company’s general account market risk sensitive instruments presented are classified as held for purposes other than trading.

Sensitivity Analysis

CNA monitors its sensitivity to interest rate risk by evaluating the change in the value of financial assets and liabilities due to fluctuations in interest rates. The evaluation is performed by applying an instantaneous change in interest rates of varying magnitudes on a static balance sheet to determine the effect such a change in rates would have on the Company’s market value at risk and the resulting effect on stockholders’ equity. The analysis presents the sensitivity of the market value of the Company’s financial instruments to selected changes in market rates and prices. The range of change chosen reflects the Company’s view of changes that are reasonably possible over a one-year period. The selection of the range of values chosen to represent changes in interest rates should not be construed as the Company’s prediction of future market events, but rather an illustration of the impact of such events.

The sensitivity analysis estimates the decline in the market value of the Company’s interest sensitive assets and liabilities that were held on September 30, 2001 and December 31, 2000 due to instantaneous parallel increases in the period end yield curve of 100 and 150 basis points.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The sensitivity analysis also assumes an instantaneous 10% and 20% decline in the foreign currency exchange rates versus the United States dollar from their levels at September 30, 2001 and December 31, 2000, with all other variables held constant.

Equity price risk was measured assuming an instantaneous 10% and 25% decline in the S & P 500 Index (Index) from its level at September 30, 2001 and December 31, 2000 with all other variables held constant. The Company’s equity holdings were assumed to be highly and positively correlated with the Index. At September 30, 2001, a 10% and 25% decrease in the Index would result in a $391 million and $977 million decrease compared to $457 million and $1,042 million decrease at December 31, 2000, in the market rate of the Company’s equity investments.

Of these amounts, under the 10% and 25% scenarios, $140 million and $350 million at September 30, 2001 and $167 million and $418 million at December 31, 2000 pertained to decreases in the market value of the separate account investments. These decreases would substantially be offset by decreases in related separate account liabilities to customers. Similarly, increases in the market value of the separate account equity investments would also be offset by increases in the same related separate account liabilities by the same approximate amounts.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The following tables present the estimated effects on the market value of the Company’s financial instruments at September 30, 2001 and December 31, 2000, due to an increase in interest rates of 100 basis points, a decline of 10% in foreign currency exchange rates and a 10% decline in the Index.


						Increase (Decrease)
Market Risk Scenario 1
September 30, 2001			Market			Interest			Currency			Equity
			Value			Rate Risk			Risk			Risk

(In millions)

Held for Other Than Trading Purposes:
General Account:
	Fixed maturity securities		$	28,578		$	(1,342	)	$	(66	)	$	(59	)
	Equity securities			1,420			—			(27	)		(137	)
	Short-term investments			4,788			(1	)		(1	)		(1	)
	Limited partnerships			1,344			53			—			(55	)
	Other invested assets			252			—			—			—
	Interest rate caps			1			1			—			—
	Interest rate swaps			(1	)		3			—			—
	Other derivative securities			(2	)		—			19			1

		Total general account		36,380			(1,286	)		(75	)		(251	)

Separate accounts:
	Fixed maturity securities			2,096			(116	)		—			—
	Equity securities			145			—			—			(14	)
	Short-term investments			162			—			—			—
	Other invested assets			456			—			—			(46	)

		Total separate accounts		2,859			(116	)		—			(60	)

Total all securities held for other than trading purposes				39,239			(1,402	)		(75	)		(311	)

Held for Trading Purposes:
Separate accounts:
	Fixed maturity securities			234			(4	)		—			(2	)
	Equity securities			9			—			—			(1	)
	Short-term investments			198			—			—			—
	Limited partnerships			374			—			—			(3	)
	Equity indexed futures			—			2			—			(74	)
	Other derivative securities			(1	)		2			—			—

Total all securities held for trading purposes				814			—			—			(80	)

Total all securities			$	40,053		$	(1,402	)	$	(75	)	$	(391	)

Debt (carrying value)			$	2,084		$	(98	)	$	—		$	—

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued


					Increase (Decrease)
Market Risk Scenario 1
December 31, 2000			Market		Interest			Currency			Equity
			Value		Rate Risk			Risk			Risk

(In millions)

Held for Other Than Trading Purposes:
General Account:
	Fixed maturity securities		$	26,652	$	(1,428	)	$	(213	)	$	(22	)
	Equity securities			2,412		—			(44	)		(223	)
	Short-term investments			4,723		(4	)		(18	)		—
	Limited partnerships			1,092		43			—			(45	)
	Other invested assets			241		—			—			—
	Interest rate caps			1		1			—			—
	Other derivative securities			1		1			(4	)		—

		Total general account		35,122		(1,387	)		(279	)		(290	)

Separate accounts:
	Fixed maturity securities			2,293		(118	)		(7	)		—
	Equity securities			212		—			(1	)		(21	)
	Short-term investments			150		—			—			—
	Other invested assets			444		—			—			(44	)

		Total separate accounts		3,099		(118	)		(8	)		(65	)

Total all securities held for other than trading purposes				38,221		(1,505	)		(287	)		(355	)

Held for Trading Purposes:
Separate accounts:
	Fixed maturity securities			410		(19	)		(4	)		(1	)
	Equity securities			3		—			—			—
	Short-term investments			230		—			—			—
	Limited partnerships			404		—			—			(3	)
	Equity indexed futures			—		2			—			(98	)
	Other derivative securities			1		(6	)		—			—

Total all securities held for trading purposes				1,048		(23	)		(4	)		(102	)

Total all securities			$	39,269	$	(1,528	)	$	(291	)	$	(457	)

Debt (carrying value)			$	2,729	$	(114	)	$	—		$	—

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

The following tables present the estimated effects on the market value of the Company’s financial instruments at September 30, 2001 and December 31, 2000, due to an increase in interest rates of 150 basis points, a decline of 20% in foreign currency exchange rates and a 25% decline in the Index.


						Increase (Decrease)
Market Risk Scenario 2
September 30, 2001			Market			Interest			Currency			Equity
			Value			Rate Risk			Risk			Risk

(In millions)

Held for Other Than Trading Purposes:
General Account:
	Fixed maturity securities		$	28,578		$	(1,996	)	$	(131	)	$	(147	)
	Equity securities			1,420			—			(55	)		(343	)
	Short-term investments			4,788			(2	)		(3	)		(1	)
	Limited partnerships			1,344			79			—			(138	)
	Other invested assets			252			—			—			—
	Interest rate caps			1			2			—			—
	Interest rate swaps			(1	)		4			—			—
	Other derivative securities			(2	)		—			38			2

		Total general account		36,380			(1,913	)		(151	)		(627	)

Separate accounts:
	Fixed maturity securities			2,096			(169	)		—			—
	Equity securities			145			—			—			(36	)
	Short-term investments			162			—			—			—
	Other invested assets			456			—			—			(115	)

		Total separate accounts		2,859			(169	)		—			(151	)

Total all securities held for other than trading purposes				39,239			(2,082	)		(151	)		(778	)

Held for Trading Purposes:
Separate accounts:
	Fixed maturity securities			234			(5	)		—			(5	)
	Equity securities			9			—			—			(2	)
	Short-term investments			198			—			—			(1	)
	Limited partnerships			374			—			—			(6	)
	Equity indexed futures			—			3			—			(185	)
	Other derivative securities			(1	)		3			—			—

Total all securities held for trading purposes				814			1			—			(199	)

Total all securities			$	40,053		$	(2,081	)	$	(151	)	$	(977	)

Debt (carrying value)			$	2,084		$	(143	)	$	—		$	—

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued


					Increase (Decrease)
Market Risk Scenario 2
December 31, 2000			Market		Interest			Currency			Equity
			Value		Rate Risk			Risk			Risk

(In millions)

Held for Other Than Trading Purposes:
General Account:
	Fixed maturity securities		$	26,652	$	(2,180	)	$	(427	)	$	(56	)
	Equity securities			2,412		—			(88	)		(456	)
	Short-term investments			4,723		(6	)		(36	)		—
	Limited partnerships			1,092		65			—			(112	)
	Other invested assets			241		—			—			—
	Interest rate caps			1		2			—			—
	Interest rate swaps			—		(1	)		—			—
	Other derivative securities			1		1			(7	)		—

		Total general account		35,122		(2,119	)		(558	)		(624	)

Separate accounts:
	Fixed maturity securities			2,293		(171	)		(15	)		—
	Equity securities			212		—			(1	)		(53	)
	Short-term investments			150		—			—			—
	Other invested assets			444		—			—			(111	)

		Total separate accounts		3,099		(171	)		(16	)		(164	)

Total all securities held for other than trading purposes				38,221		(2,290	)		(574	)		(788	)

Held for Trading Purposes:
Separate accounts:
	Fixed maturity securities			410		(28	)		(7	)		(1	)
	Equity securities			3		—			—			(1	)
	Short-term investments			230		—			—			—
	Limited partnerships			404		—			—			(7	)
	Equity indexed futures			—		3			—			(245	)
	Other derivative securities			1		(9	)		—			—

Total all securities held for trading purposes				1,048		(34	)		(7	)		(254	)

Total all securities			$	39,269	$	(2,324	)	$	(581	)	$	(1,042	)

Debt (carrying value)			$	2,729	$	(166	)	$	—		$	—

Liquidity and Capital Resources

The principal operating cash flow sources of CNA’s property-casualty and life insurance subsidiaries are premiums and investment income. The primary operating cash flow uses are payments for claims, policy benefits and operating expenses.

For the nine months ended September 30, 2001, net cash used in operating activities was $767 million as compared with $896 million for the same period in 2000. The improvement related primarily to decreased paid claim and claim adjustment expenses, partially offset by increased payments of income taxes.

For the nine months ended September 30, 2001, net cash inflows from investing activities was $408 million as compared with $1,312 million for the same period in 2000. Cash flows from investing activities were principally related to increased net purchases of invested assets related to investing $1 billion of proceeds from the rights offering completed in the third quarter of 2001.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

Cash flows from financing activities include proceeds from the issuance of debt or equity securities, outflows for dividends or repayment of debt and outlays to reacquire equity instruments. For the nine months ended September 30, 2001, net cash provided from financing activities was $317 million as compared with $395 million used for the same period in 2000. CNA completed a common stock rights offering on September 26, 2001, successfully raising $1 billion (40.3 million shares sold at $25 per share). Loews purchased 38.3 million shares issued in connection with the rights offering for $957 million, and an additional 0.3 million shares in the third quarter of 2001 subsequent to the rights offering, increasing its ownership percentage of CNA to 88.6%. Partially offsetting this cash inflow were reductions to the Company’s commercial paper borrowings of $610 million.

Effective January 30, 2001, the Company sold the 180 Maiden Lane, New York, facility. The sale of this property provided additional liquidity to the Company with net sale proceeds of $277 million.

The Company is closely managing the cash flows related to claims and reinsurance recoverables from the WTC catastrophe. It is anticipated that significant claim payments will be made prior to receipt of the corresponding reinsurance recoverables. The Company does not anticipate any liquidity problems resulting from these payments. As of November 2, 2001, the Company has paid $107 million in claims.

CNA’s estimated gross losses for the WTC catastrophe is $1,648 million pretax ($1,071 million after-tax). Approximately 41%, 40% and 17% of the reinsurance recoverables on the estimated losses related to the WTC catastrophe are from companies with Standard & Poor’s ratings of AAA, AA or A, respectively.

As of April 30, 2001, CNAF replaced its $750 million revolving credit facility (the Prior Facility) with a new $500 million revolving credit facility (the New Facility). No loans were outstanding under either the Prior Facility or the New Facility at any time during 2001. The Prior Facility was scheduled to expire on May 10, 2001. The New Facility is split into two parts, a $250 million component with a 364-day expiration date (with an option by CNAF to turn this part of the New Facility into a one-year term loan) and a $250 million component with a 3-year expiration date. The Company pays a facility fee, which varies based on the long-term debt ratings of the Company, to the lenders of the New Facility for having funds available for loans under both components of the New Facility. On October 10, 2001, S&P lowered the Company’s long-term debt rating from BBB to BBB-. As a result of this action, the facility fee on the 364-day component increased from 12.5 basis points to 15 basis points and the facility fee on the 3-year component increased from 15 basis points to 17.5 basis points. If the Company’s Moody’s debt rating declines two levels from the current level, the facility fee goes to 20 basis points on the 364-day component and to 25 basis points on the 3-year component. The facility is subject to certain restrictive covenants.

In addition to the facility fees, if the Company borrows under the New Facility, the Company at its current debt ratings will pay an interest rate on outstanding loans equal to the London Interbank Offering Rate (LIBOR) plus 60 basis points for the 364-day component and LIBOR plus 57.5 basis points for the 3-year component. If the Company’s Moody’s debt rating is lowered two levels from the current level, the Company will pay an interest rate on the outstanding loans equal to the LIBOR plus 80 basis points for the 364-day component and LIBOR plus 75 basis points for the 3-year component.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

If the Company has outstanding loans equaling more than 50% of the amounts available under the New Facility, the Company also will pay a utilization fee of 12.5 basis points on such loans.

The New Facility is used for general corporate purposes including support for the commercial paper program, which currently has $17 million of loans outstanding. There are currently no bank loans drawn under the facility.

Following the announcement of second quarter 2001 earnings, the Company’s commercial paper rating was placed under review by S&P. During the review period, the Company through an affiliated company held varying amounts of its commercial paper with the intent to put it back into the market after the review was completed. On October 10, 2001 S&P lowered the Company’s commercial paper rating from A2 to A3, and maintained the CreditWatch Negative status.

The commercial paper rating downgrade, the impacts of the WTC catastrophe, and an overall decline in the market will make it difficult, if not impossible, to reissue the commercial paper currently held by CCC. Management intends to seek alternative financing to replace the Company’s commercial paper. The Company expects to finalize a refinancing plan in the fourth quarter. The financing costs on any new securities issued under this plan likely will have a higher cost than the commercial paper program being replaced. As of September 30, 2001, the Company through its affiliates held $383 million of its commercial paper.

The table below reflects ratings issued by A.M. Best, S&P, Moody’s and Fitch as of October 10, 2001 for the CCC Pool, the Continental Insurance Company (CIC) Pool and the Continental Assurance Company (CAC) Pool. Also rated were CNAF’s senior debt and commercial paper and The Continental Corporation’s (Continental) senior debt.

Debt Ratings

Insurance Ratings

CNAF

Continental

CCC Pool

CAC Pool

CIC Pool

Senior

Commercial

Senior

Financial Strength

Debt

Paper

Debt

A.M. Best

BBB

AMB-2

BBB-

Fitch

A (UR)

AA-

BBB

Moody’s

A2 (UR)

A2*

Baa1 (UR)

Baa2 (UR)

S&P

A- (CWN)

A+ (CWN)

A- (CWN)

BBB- (CWN)

A3 (CWN)

BBB- (CWN)

UR = Under Review; CWN = CreditWatch Negative

* CAC and Valley Forge Life Insurance Company (VFL) are rated separately by Moody’s and both have an A2 rating.

Each of the four rating agencies, A.M. Best, S&P, Moody’s and Fitch, have undertaken reviews of all rated insurance industry companies following the September 11, 2001 WTC catastrophe.

A.M. Best affirmed the ratings of the CCC, CAC, and CIC pools at “A”. S&P lowered the CCC and CAC Pool ratings to “A-” and “A+” following their analysis of the impact of the second quarter reserve adjustment. CNAF’s senior debt and commercial paper ratings were also lowered to BBB- and A3. S&P has maintained the CreditWatch Negative status for all CNA ratings pending their review of the impact of the WTC catastrophe. Moody’s has reaffirmed the ratings of CIC, CAC and commercial paper. As a result of the WTC catastrophe and second quarter reserve adjustment, CCC and the senior debt ratings remain under review. Management anticipates a decision on CCC’s ratings to be made by Moody’s within 4-6 weeks. Fitch affirmed the rating of CAC and placed CCC under review.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

On August 27, 2001, A.M. Best lowered the rating of CNA Re UK from “A-” to “B+” and changed the status to under review with developing implications. A.M. Best stated that the rating action follows uncertainty surrounding the future ownership and operating status of the company.

Agency ratings are not a recommendation to buy, sell or hold any security, and may be revised or withdrawn at any time by the issuing organization. Each agency’s rating should be evaluated independently of any other agency’s rating.

Accounting Pronouncements

In the first quarter of 2001, the Company adopted the SFAS 133. The Company’s initial adoption of SFAS 133 did not have a significant impact on the equity of the Company; however, adoption of SFAS 133 resulted in an after-tax decrease to first quarter 2001 earnings of $61 million. Of this transition amount, approximately $58 million related to investments and investment-related derivatives. Because the Company already carried its investment and investment-related derivatives at fair value through other comprehensive income, there was an equal and offsetting favorable adjustment of $58 million to stockholders’ equity (accumulated other comprehensive income). The remainder of the transition adjustment is attributable to collateralized debt obligation products that are derivatives under SFAS 133. See Note D for a complete discussion of the Company’s adoption of these accounting pronouncements.

Additionally, CNA’s property-casualty companies implemented a change, effective January 1, 2001, in the timing of recording written premiums for policies with future effective dates. This change was made in conjunction with changes required by Codification related to the recording of written premiums. The effect of this change was to reduce net written premiums by $87 million for the nine months ended September 30, 2001. This change has no impact on net earned premiums or net income.

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

In October of 2001, the FASB issued Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS 144). SFAS 144 addresses accounting and reporting for the impairment or disposal of long-lived assets. This statement supersedes FASB Statement of Financial Accounting Standards No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of. The provisions of this statement are effective for CNA beginning January 1, 2002. The Company is in the process of quantifying the impact this new standard will have on its operations and financial position.

FORWARD LOOKING STATEMENTS

This quarterly report includes a number of statements which relate to anticipated future events (forward-looking statements) rather than actual present conditions or historical events. You can identify forward-looking statements because generally they include words such as “believes”, “expects”, “intends”, “anticipates”, “estimates”, and similar expressions. Forward-looking statements in this quarterly report include expected losses in the Company’s insurance business, including losses for asbestos, environmental pollution and other mass tort claims; the Company’s expectations concerning its revenues, earnings, expenses and investment activities; expected cost savings and other results from the Company’s restructuring activities; and expected proceeds and terms of, and other matters concerning, the Company’s planned disposition of its U.K. reinsurance business. Forward-looking statements, by their nature, are subject to a variety of risks and uncertainties that could cause actual results to differ materially from the results expected in the forward-looking statement. Many of these risks and uncertainties cannot be controlled by the Company. Some examples of these risks and uncertainties are:

•		general economic and business conditions;

•		changes in financial markets such as fluctuations in interest rates, credit conditions and currency, commodity and stock prices;

•		changes in foreign, political, social and economic conditions;

•		regulatory initiatives and compliance with governmental regulations, judicial decisions and rulings;

•		the impact of competitive products, policies and pricing and the competitive environment in which the Company operates;

•		product and policy demand and market responses;

•		development of claims and the impact on loss reserves;

CNA FINANCIAL CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS, Continued

•		the performance of reinsurance companies under reinsurance contracts with us;

•		results of financing efforts;

•		changes in our composition of operation segments;

•		exposure to liabilities due to claims made by insured and others relating to asbestos remediation and health-based asbestos impairments, and exposure to liabilities for environmental pollution and other mass tort claims; the sufficiency of the Company’s loss reserves and the possibility of future increases in reserves;

•		the possibility of downgrades in the Company’s ratings by ratings agencies and changes in rating agency policies and practices; and

•		the actual closing of contemplated transactions and agreements.

Any forward-looking statements made in this quarterly report are made by the Company as of the date of this report. The Company does not have any obligation to update or revise any forward-looking statement contained in this prospectus supplement and the accompanying prospectus, even if our expectations or any related facts or circumstances change.

CNA FINANCIAL CORPORATION
Part II Other Information

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits

None

(b) Reports on Form 8-K:

On September 13, 2001, CNA Financial Corporation filed a report on Form 8-K to announce it is extending the expiration date for its pending rights offering.

On September 14, 2001, CNA Financial Corporation filed a report on Form 8-K related to its announcement of the Company’s loss exposure relating to the September 11, 2001, attack on the World Trade Center in New York City and further extending the expiration date for its rights offering.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


		CNA FINANCIAL CORPORATION

Date:	November 9, 2001	By: /s/ ROBERT V. DEUTSCH Robert V. Deutsch Executive Vice President and Chief Financial Officer