UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark one)

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

For the quarterly period ended June 30, 2005.

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

For the transition period from _____________________ to _____________________.

Commission file number 0-4604

CINCINNATI FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)

Ohio		31-0746871
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)
6200 S. Gilmore Road, Fairfield, Ohio		45014-5141
(Address of principal executive offices)		(Zip code)

Registrant’s telephone number, including area code: (513) 870-2000

þ Yes o No

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

 

FORM 10-Q FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2005

TABLE OF CONTENTS

		Page
PART I — FINANCIAL INFORMATION
Item 1 Financial Statements
Condensed Consolidated Balance Sheets			3
Condensed Consolidated Statements of Income			4
Condensed Consolidated Statements of Shareholders’ Equity			5
Condensed Consolidated Statements of Cash Flows			6
Notes to Condensed Consolidated Financial Statements			7
Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations			12
Item 3 Quantitative and Qualitative Disclosures About Market Risk			34
Item 4 Controls and Procedures			38
PART II — OTHER INFORMATION
Item 1 Legal Proceedings			39
Item 2 Changes in Securities			39
Item 3 Defaults Upon Senior Securities			39
Item 4 Submission of Matters to a Vote of Security Holders			39
Item 5 Other Information			39
Item 6 Exhibits and Reports in Form 8-K			40
Exhibit 11
Exhibit 31A
Exhibit 31B
Exhibit 32

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

Part I – Financial Information

Item 1. Financial Statements

Condensed Consolidated Balance Sheets

		June 30,				December 31,
(Dollars in millions except per share data)		2005				2004
Assets		(unaudited)
Investments
Fixed maturities, at fair value (amortized cost: 2005—$5,179; 2004—$4,854)		$	5,412			$	5,141
Equity securities, at fair value (cost: 2005—$1,982; 2004—$1,945)			7,148				7,498
Other invested assets			40				38
Cash			172				306
Investment income receivable			113				107
Finance receivable			97				95
Premiums receivable			1,189				1,119
Reinsurance receivable			685				680
Prepaid reinsurance premiums			15				15
Deferred policy acquisition costs			421				400
Property and equipment, net, for company use (accumulated depreciation: 2005—$219; 2004—$206)			164				156
Other assets			79				75
Separate accounts			489				477
Total assets		$	16,024			$	16,107
Liabilities
Insurance reserves
Loss and loss expense reserves		$	3,608			$	3,549
Life policy reserves			1,286				1,194
Unearned premiums			1,610				1,539
Other liabilities			424				474
Deferred income tax			1,684				1,834
6.125% senior notes due 2034			371				371
6.90% senior debentures due 2028			28				420
6.92% senior debentures due 2028			392				0
Separate accounts			489				477
Total liabilities			9,892				9,858
Shareholders’ equity
Common stock, par value—$2 per share; authorized: 2005—500 million shares, 2004—200 million shares; issued: 2005—194 million shares, 2004—185 million shares			389				370
Paid-in capital			964				618
Retained earnings			1,894				2,057
Accumulated other comprehensive income—unrealized gains on investments and derivatives			3,505				3,787
Treasury stock at cost (2005—19 million shares, 2004—18 million shares)			(620	)			(583	)
Total shareholders’ equity			6,132				6,249
Total liabilities and shareholders’ equity		$	16,024			$	16,107

Accompanying notes are an integral part of this statement.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

     Cincinnati Financial Corporation and Subsidiaries

     Condensed Consolidated Statements of Income

		Three months ended June 30,								Six months ended June 30,
(In millions except per share data)		2005				2004				2005				2004
		(unaudited)								(unaudited)
Revenues
Earned premiums
Property casualty		$	765			$	717			$	1,518			$	1,432
Life			29				27				53				52
Investment income, net of expenses			129				121				256				241
Realized investment gains and losses			13				55				22				62
Other income			4				3				7				6
Total revenues			940				923				1,856				1,793
Benefits and expenses
Insurance losses and policyholder benefits			461				466				942				899
Commissions			166				150				316				311
Other operating expenses			72				67				139				129
Taxes, licenses and fees			18				20				35				40
Increase in deferred policy acquisition costs			(7	)			(6	)			(18	)			(24	)
Interest expense			13				9				26				17
Other expenses			2				3				6				6
Total benefits and expenses			725				709				1,446				1,378
Income before income taxes			215				214				410				415
Provision (benefit) for income taxes
Current			57				(6	)			107				42
Deferred			0				65				1				72
Total provision for income taxes			57				59				108				114
Net income		$	158			$	155			$	302			$	301
Per common share
Net income—basic		$	0.90			$	0.88			$	1.72			$	1.71
Net income—diluted		$	0.89			$	0.87			$	1.70			$	1.69

Accompanying notes are an integral part of this statement.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

     Cincinnati Financial Corporation and Subsidiaries

     Condensed Consolidated Statements of Shareholders’ Equity

		Six months ended June 30,
(In millions)		2005				2004
		(unaudited)
Common stock — Number of shares
Beginning of period			167				168
5% stock dividend			9				8
Purchase of treasury shares			(1	)			0
End of period			175				176
Common stock
Beginning of period		$	370			$	352
5% stock dividend			19				18
End of period			389				370
Paid-in capital
Beginning of period			618				306
5% stock dividend			341				343
Stock options exercised			5				2
End of period			964				651
Retained earnings
Beginning of period			2,057				1,986
Net income			302				301
5% stock dividend			(360	)			(361	)
Dividends declared			(105	)			(90	)
End of period			1,894				1,836
Accumulated other comprehensive income
Beginning of period			3,787				4,084
Change in accumulated other comprehensive income, net			(282	)			(306	)
End of period			3,505				3,778
Treasury stock
Beginning of period			(583	)			(524	)
Purchase			(39	)			(12	)
Reissued for stock options			2				4
End of period			(620	)			(532	)
Total shareholders’ equity		$	6,132			$	6,103
Comprehensive income
Net income		$	302			$	301
Change in accumulated other comprehensive income, net			(282	)			(306	)
Total comprehensive income (loss)		$	20			$	(5	)

Accompanying notes are an integral part of this statement.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

     Cincinnati Financial Corporation and Subsidiaries

     Condensed Consolidated Statements Of Cash Flows

		Six months ended June 30,
(In millions)		2005				2004
		(unaudited)
Cash flows from operating activities
Net income		$	302			$	301
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			14				7
Realized (gains) losses on investments			(22	)			(62	)
Interest credited to contract holders			14				11
Changes in:
Investment income receivable			(6	)			(3	)
Premiums and reinsurance receivable			(75	)			(128	)
Deferred policy acquisition costs			(19	)			(15	)
Other assets			(4	)			(33	)
Loss and loss expense reserves			59				108
Life policy reserves			53				53
Unearned premiums			71				100
Other liabilities			(43	)			57
Deferred income tax			1				(36	)
Current income tax			(13	)			72
Net cash provided by operating activities			332				432
Cash flows from investing activities
Sale of fixed maturities investments			123				63
Call or maturity of fixed maturities investments			384				322
Sale of equity securities investments			45				372
Collection of finance receivables			17				14
Purchase of fixed maturities investments			(828	)			(757	)
Purchase of equity securities investments			(56	)			(44	)
Investment in property and equipment			(23	)			(5	)
Investment in finance receivables			(18	)			(26	)
Investment in other invested assets			(4	)			(9	)
Net cash used in investing activities			(360	)			(70	)
Cash flows from financing activities
Payment of cash dividends to shareholders			(98	)			(84	)
Purchase of treasury shares, net of reissuance			(37	)			(8	)
Increase in notes payable			0				(91	)
Proceeds from stock options exercised			5				2
Contract holder funds deposited			47				37
Contract holder funds withdrawn			(23	)			(24	)
Net cash used in financing activities			(106	)			(168	)
Net increase (decrease) in cash			(134	)			194
Cash at beginning of period			306				91
Cash at end of period		$	172			$	285
Supplemental disclosures of cash flow information:
Interest paid		$	26			$	18
Income taxes paid			120				73
Conversion of fixed maturity to equity security investments			25				15

Accompanying notes are an integral part of this statement.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

Notes to Condensed Consolidated Financial Statements (unaudited)

     NOTE 1 — ACCOUNTING POLICIES

The condensed consolidated financial statements include the accounts of Cincinnati Financial Corporation and its consolidated subsidiaries, each of which is wholly owned, and are presented in conformity with accounting principles generally accepted in the United States of America (GAAP). All significant intercompany balances and transactions have been eliminated in consolidation.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. The December 31, 2004, consolidated balance sheet amounts are derived from the audited financial statements but do not include all disclosures herein required by accounting principles generally accepted in the United States of America.

The June 30, 2005, condensed consolidated financial statements of the company are unaudited. The company believes that all adjustments (consisting only of normal recurring accruals) necessary for fair presentation have been made. The results of operations for interim periods are not necessarily an indication of results to be expected for the remainder of the year. Per share amounts have been adjusted for the 5 percent stock dividend paid April 26, 2005.

Investments

Fixed maturities (bonds, redeemable preferred stocks and notes) and equity securities (common and non-redeemable preferred stocks) have been classified as available for sale and are stated at fair values at June 30, 2005, and December 31, 2004.

At June 30, 2005, unrealized investment gains before taxes totaled $5.430 billion and unrealized investment losses in the investment portfolio amounted to $31 million. The unrealized gains were primarily due to the company’s holdings in Fifth Third Bancorp (Nasdaq:FITB) and Alltel Corporation (NYSE:AT) common stock. The change in unrealized gains and losses on investments, net of taxes, described in the following table, is included in shareholders’ equity as accumulated other comprehensive income. The change in fixed maturities unrealized gains and losses for the three months and six months ended June 30, 2005 and 2004, was due primarily to interest-rate driven fair value fluctuations in the fixed-maturity portfolio. The change in equity securities unrealized gains and losses for the three months ended June 30, 2005, was due to increases in the market value of other equity holdings offsetting the decline in Fifth Third’s market value since March 31, 2005. The change for the six months ended June 30, 2005, was due primarily to the decline in Fifth Third’s market value. The change in equity securities unrealized gains and losses for the three months and six months ended June 30, 2004, was due primarily to the decline in Fifth Third’s market value as well as the sale of equity securities.

		Three months ended June 30,								Six months ended June 30,
(In millions)		2005				2004				2005				2004
Change in unrealized investment gains and losses summarized by investment category:
Fixed maturities		$	70			$	(162	)		$	(53	)		$	(106	)
Equity securities			13				(161	)			(387	)			(367	)
Adjustment to deferred acquisition costs and life policy reserves			(3	)			9				1				5
Other			(1	)			(4	)			5				(3	)
Income taxes on above			(28	)			111				152				165
Total		$	51			$	(207	)		$	(282	)		$	(306	)

Income taxes related to each component above ratably.

Realized gains and losses on investments are recognized in net income on a specific identification basis. See Investment Portfolio, Page 29, for additional discussion of the investment

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

portfolio. Other-than-temporary declines in the fair value of investments are recognized in net income as realized investment losses at the time when facts and circumstances indicate such write-downs are warranted. In the three months and six months ended June 30, 2005, the company recorded less than $500,000 in other-than-temporary impairment charges. In the comparable prior periods, the company recorded $1 million and $3 million in other-than-temporary impairment charges, respectively (see Investments Results of Operations, Page 26, for discussion of the impairment charges).

Reinsurance

In the accompanying condensed consolidated statements of income, earned premiums and incurred losses consisted of the following:

		Three months ended June 30,								Six months ended June 30,
(In millions)		2005				2004				2005				2004
Direct earned premiums		$	841			$	785			$	1,661			$	1,562
Assumed earned premiums			6				7				14				16
Ceded earned premiums			(53	)			(48	)			(104	)			(94	)
Net earned premiums		$	794			$	744			$	1,571			$	1,484
Direct loss and loss expenses incurred		$	493			$	520			$	1,025			$	971
Assumed loss and loss expenses incurred			6				6				12				15
Ceded loss and loss expenses incurred			(38	)			(60	)			(95	)			(87	)
Net loss and loss expenses incurred		$	461			$	466			$	942			$	899

The increase in net loss and loss expenses incurred for the six months ended June 30, 2005, primarily reflected a previously announced single large loss in January 2005, which was insufficiently covered through the company’s facultative reinsurance programs. The incurred loss was initially $48 million on a direct basis; a $2 million reserve reduction in the second quarter lowered the year-to-date direct incurred loss to $46 million and the net incurred loss after reinsurance to $22 million.

Stock Options

The company has qualified and nonqualified stock option plans under which options are granted to associates at prices that are not less than market price at the date of grant and that are exercisable over 10-year periods. The company applies Accounting Principles Board (APB) Opinion 25 and related interpretations in accounting for these plans. Accordingly, no compensation cost has been recognized for the stock option plans.

The company’s net income and earnings per share would have been reduced to the pro forma amounts indicated below had compensation cost for the company’s stock option plans been determined based on the fair value at the grant dates for awards under those plans consistent with the method of Statement of Financial Accounting Standards (SFAS) No. 123 “Accounting for Stock-Based Compensation.”

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

				Three months ended June 30,								Six months ended June 30,
(In millions except per share data)				2005				2004				2005				2004
Net income		As reported		$	158				155			$	302			$	301
Stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects					3				3				7				6
		Pro forma		$	155			$	152			$	295			$	295
Net income per common share—basic		As reported		$	0.90			$	0.88			$	1.72			$	1.71
		Pro forma			0.88				0.86				1.68				1.67
Net income per common share—diluted		As reported		$	0.89			$	0.87			$	1.70			$	1.69
		Pro forma			0.87				0.85				1.66				1.65

In determining the pro forma amounts above, the fair value of each option was estimated on the date of grant using the binomial option-pricing model with the following weighted-average assumptions used for grants in the six months ended June 30, 2005 and 2004, respectively: dividend yield of 2.70 percent and 2.78 percent; expected volatility of 25.61 percent and 25.91 percent; risk-free interest rates of 4.62 percent and 4.30 percent; and expected lives of 10 years for all periods. Compensation expense in the pro forma disclosures is not indicative of future amounts as additional grants generally are made each year and options granted under the company’s options plans vest over three years.

Pension Plan

The measurement date for the company’s pension plan is December 31. The following summarizes the components of net periodic pension costs:

		Three months ended June 30,								Six months ended June 30,
(In millions)		2005				2004				2005				2004
Service cost		$	4			$	3			$	7			$	6
Interest cost			3				2				6				5
Expected return on plan assets			(3	)			(3	)			(6	)			(6	)
Amortization of actuarial gain			0				0				0				0
Net pension expense		$	4			$	2			$	7			$	5

As of June 30, 2005, no contribution had been made to the pension plan during 2005; however, the company continues to anticipate contributing $10 million in 2005, as indicated in the 2004 Annual Report on Form 10-K.

Reclassifications

Certain prior-period amounts have been reclassified to conform with the current-period classifications.

Recent Accounting Pronouncements

Statement of Financial Accounting Standards No. 123(R)

In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 123(R), which is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation,” and supersedes APB Opinion No. 25. Among other items, SFAS No. 123(R) eliminates the use of APB Opinion No. 25 and the intrinsic value method of accounting and requires companies to recognize the cost of associate services received in exchange for awards of equity instruments, based on the grant date fair value of those awards, in the financial statements. On April 21, 2005, the Securities and Exchange Commission amended the effective date, stating that companies can choose implementation in either the reporting period beginning after June 15, 2005, or December 15, 2005. Management intends to adopt SFAS No. 123(R) in the first quarter of 2006.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

SFAS No. 123(R) permits companies to adopt its requirements using either a modified prospective or a modified retrospective method. The company currently utilizes a standard option-pricing model (binomial option-pricing model) to measure the fair value of stock options granted to associates. While SFAS No. 123(R) permits companies to continue to use such a model, the standard also permits the use of a lattice model. The company has not yet determined which model it will use to measure the fair value of associate stock options upon the adoption of SFAS No. 123(R).

Subject to a complete review of the requirements of SFAS No. 123(R), based on stock options granted to associates through June 2005, the company estimates that the adoption of SFAS No. 123(R) would reduce 2005 net income per share by approximately 8 cents per share.

Emerging Issues Task Force in Issue 03-1

In March 2004, the FASB ratified the consensus reached by the Emerging Issues Task Force in Issue 03-1, “The Meaning of Other-Than-Temporary Impairments and Its Applications to Certain Investments” (EITF 03-1). The EITF reached a consensus on an other-than-temporary impairment model for debt and equity securities accounted for under SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” and cost method investments. The basic model developed to evaluate whether an investment within the scope of Issue 03-1 is other-than-temporarily impaired involves a three-step process including: 1) determining whether an investment is impaired (fair value less amortized cost); 2) evaluating whether the impairment is other-than-temporary and 3) requiring recognition of an impairment equal to the difference between the investment’s cost and fair value.

In September 2004, the FASB issued Staff Position (FSP) No. EITF Issue 03-1-1, “Effective Date of Paragraphs 10-20 of EITF Issue No. 03-01.” This FSP delayed the effective date of the measurement and recognition guidance contained in paragraphs 10-20 of EITF 03-1.

In June 2005, the FASB voted to remove step 2 of the process, leaving step 1 (determination) and step 3 (recognition). In July 2005, the FASB announced the planned issuance of FSP FAS 115-1 “The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments.” FSP FAS 115-1 states that companies should recognize an impairment loss no later than when the impairment is deemed other-than-temporary, even if a decision to sell the asset has not been made.

The FASB stated that FSP FAS 115-1 would be effective for other-than-temporary impairment analysis conducted after September 15, 2005. Management does not expect this FSP to have any material impact on the company’s consolidated financial statements.

Statement of Financial Accounting Standards No. 154

In May 2005, the FASB issued SFAS No. 154, which eliminates the requirement in APB Opinion No. 20, “Accounting Changes,” that modified the requirements for the accounting and reporting of a change in accounting principles. APB Opinion No. 20 required changes in accounting principles to be included as an accumulated amount in the income statement in the period of change.

SFAS No. 154 requires that changes in accounting principles be retrospectively applied. The new accounting principle is applied at the beginning of the first period presented, as if that principle had always been used. The cumulative effect is applied to the applicable assets and liabilities with a corresponding offset to opening retained earnings. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. Management does not expect SFAS No. 154 to have any material impact on the company’s consolidated financial statements.

Subsequent Events

During July 2005, Hurricane Dennis affected The Cincinnati Insurance Companies’ policyholders in Alabama, Florida, Georgia and Mississippi. Losses currently are estimated in the range of $11 million from this event, which will be included in results for the third quarter ending September 30, 2005.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

NOTE 2 — SEGMENT INFORMATION

•

commercial lines property casualty insurance

•

personal lines property casualty insurance

•

life insurance

•

investment operations

Operations of the parent company, CFC Investment Company and CinFin Capital Management Company (excluding investment activities) and other income of the insurance subsidiaries are reported as Other.

•

Revenues for all three insurance segments consist of insurance premiums earned. Life insurance segment revenues also include separate account investment management fees

•

Investment operations segment revenues consist of pretax net investment income plus realized investment gains and losses

•

Other revenues are primarily finance/lease income

Income (loss) before income taxes for each segment is based on the nature of that business area’s operations:

•

Income before income taxes for the insurance segments is defined as underwriting income (loss)

o

Commercial lines and personal lines insurance segments — underwriting income (loss) is premiums earned minus loss and loss expenses incurred or policyholder benefits and underwriting expenses

o

Life insurance segment — underwriting income (loss) is premiums earned and separate account investment management fees, less contract holder benefits incurred and expenses incurred, plus investment interest credited to contract holders

Income before income taxes for the investment operations segment is net investment income plus realized investment gains and losses for all fixed maturity and equity security investments of the company and all subsidiaries, less interest credited to contract holders of the life insurance segment.

Loss before income taxes for the Other category is primarily due to interest expense from debt of the parent company and operating expenses of the company’s headquarters

Identifiable assets by segment are those assets used in the respective segment’s operations. Identifiable assets are not separately reported for two reportable segments — commercial lines and personal lines of property casualty insurance — because company management does not use this measure to analyze those segments. All fixed maturity and equity security investment assets, regardless of ownership, are included in the investment operations segment.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

     Segment information is summarized in the following table:

		Three months ended June 30,								Six months ended June 30,
(In millions)		2005				2004				2005				2004
Revenues:
Commercial lines insurance
Commercial multi-peril		$	202			$	182			$	399			$	368
Workers compensation			82				78				161				153
Commercial auto			113				111				226				221
Other liability			109				98				215				193
Other commercial lines			57				51				113				103
Total commercial lines insurance			563				520				1,114				1,038
Personal lines insurance
Personal auto			110				112				220				225
Homeowner			71				64				141				128
Other personal lines			21				21				43				41
Total personal lines insurance			202				197				404				394
Life insurance			29				27				53				52
Investment operations			142				176				278				303
Other			4				3				7				6
Total		$	940			$	923			$	1,856			$	1,793
Income (loss) before income taxes:
Insurance underwriting results:
Commercial lines insurance		$	86			$	81			$	154			$	171
Personal lines insurance			9				(23	)			25				(21	)
Life insurance			3				0				5				2
Investment operations			129				165				253				281
Other			(12	)			(9	)			(27	)			(18	)
Total		$	215			$	214			$	410			$	415

		June 30,				December 31,
		2005				2004
Identifiable assets:
Property casualty insurance		$	2,316			$	2,317
Life insurance			841				837
Investment operations			12,673				12,746
Other			194				207
Total		$	16,024			$	16,107

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations

INTRODUCTION

SAFE HARBOR STATEMENT

This is a “Safe Harbor” statement under the Private Securities Litigation Reform Act of 1995. Certain forward-looking statements contained herein involve potential risks and uncertainties. We believe future results could differ materially from those discussed. Factors that could cause or contribute to such differences include, but are not limited to:

•

Unusually high levels of catastrophe losses due to changes in weather patterns, environmental events, terrorism incidents or other causes

•

Ability to obtain adequate reinsurance on acceptable terms, amount of reinsurance purchased and financial strength of reinsurers

•

Increased frequency and/or severity of claims

•

Events or conditions that could weaken or harm the company’s relationships with its independent agencies and hamper opportunities to add new agencies, resulting in limitations on the company’s opportunities for growth, such as:

	o		Downgrade of the company’s financial strength ratings,
	o		Concerns that doing business with the company is too difficult or
	o		Perceptions that the company’s level of service, particularly claims service, is no longer a distinguishing characteristic in the marketplace

•

Increased competition that could result in a significant reduction in the company’s premium growth rate

•

Personal lines pricing methods adopted by others that could allow them more flexibility and greater ability to underwrite individual risks accurately, decreasing our advantage in those areas.

•

Insurance regulatory actions, legislation or court decisions or legal actions that increase expenses or place us at a disadvantage in the marketplace

•

Delays in the development, implementation, performance and benefits of technology projects and enhancements

•

Inaccurate estimates or assumptions used for critical accounting estimates, including loss reserves

•

Events that reduce the company’s ability to maintain effective internal control over financial reporting under the Sarbanes-Oxley Act of 2002 in the future

•

Recession or other economic conditions or regulatory, accounting or tax changes resulting in lower demand for insurance products

•

Sustained decline in overall stock market values negatively affecting the company’s equity portfolio; in particular a sustained decline in the market value of Fifth Third Bancorp shares, a significant equity holding

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

•

Events that lead to a significant decline in the value of a particular security and impairment of the asset

•

Prolonged low interest rate environment or other factors that limit the company’s ability to generate growth in investment income

•

Adverse outcomes from litigation or administrative proceedings

•

Effect on the insurance industry as a whole, and thus on the company’s business, of the recent actions undertaken by the Attorney General of the State of New York and other regulators against participants in the insurance industry, as well as any increased regulatory oversight that might result

•

Limited flexibility in conducting investment activities if the restrictions imposed by the Investment Company Act of 1940 were to become applicable to the parent company or the application for exemptive relief is not approved

Further, the company’s insurance businesses are subject to the effects of changing social, economic and regulatory environments. Public and regulatory initiatives have included efforts to adversely influence and restrict premium rates, restrict the ability to cancel policies, impose underwriting standards and expand overall regulation. The company also is subject to public and regulatory initiatives that can affect the market value for its common stock, such as recent measures affecting corporate financial reporting and governance. The ultimate changes and eventual effects, if any, of these initiatives are uncertain.

14

•		Realized investment gains and losses — A significant factor in the growth rate of net income in any year can be realized investment gains and losses. We believe it is important to carefully consider the impact of these gains and losses on net income when evaluating the company’s primary business areas: property casualty insurance and life insurance. We believe the level of realized investment gains and losses for any particular period, while it may be material, may obscure the performance of ongoing underlying business operations in that period. While realized investment gains and losses are integral to the company’s insurance operations over the long term, the determination to recognize gains or losses in any period may be subject to our discretion and is independent of the insurance underwriting process. Moreover, under applicable accounting requirements, gains and losses may be recognized from certain changes in fair values of securities without actual realization.
		In the three months and six months ended June 30, 2005, the after-tax impact of realized investment gains and losses was to raise net income by $8 million, or 5 cents per share, and $14 million, or 8 cents, respectively. In the three months and six months ended June 30, 2004, the after-tax impact of realized investment gains and losses was to raise net income by $36 million, or 20 cents per share, and $40 million, or 23 cents, respectively.

•

Uninsured motorist/underinsured motorist (UM/UIM) reserve release— In late 2003, the Ohio Supreme Court’s limited its 1999 Scott-Pontzer v. Liberty Mutual decision. In 2004, we reviewed outstanding UM/UIM claims for which litigation was pending and released $32 million in related case reserves. The reserve releases in the first quarter of 2004 added $21 million, or 11 cents per share, to net income in the six months ended June 30, 2004. Following the release of those reserves, we stopped separately reporting on UM/UIM-related reserve actions.

•

Shares outstanding — Weighted average shares outstanding may fluctuate from period to period because we regularly repurchase shares under a 1996 board authorization (see Cash Flow, Page 28) and shares are issued as associates exercise stock options. For the three months and six months ended June 30, 2005, weighted average shares outstanding on a diluted basis declined 1.6 million and 1.2 million from the year-earlier level.

Effects of inflation — We do not believe that inflation has had a material effect on consolidated results of operations, except to the extent that inflation may affect interest rates and claim costs.

•

Property casualty written premium growth in the low-single digits. We believe commercial lines should continue to achieve outstanding results, with written premium growth of approximately 3 percent to 5 percent. Personal lines written premiums are expected to decline in the mid-single digits for the year. Our outlook is based on market intelligence from insurance agents and field marketing representatives, production results for agencies and

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

account retention trends. The earned premium growth rate is expected to continue to slow, reflecting the trend of written premiums.

•		Combined ratio for the property casualty insurance operations at or below 93 percent, assuming catastrophe losses contribute approximately 3.5 percentage points to the combined ratio. We continue to anticipate that the 2005 commercial lines combined ratio will be at or below 90 percent and the 2005 personal lines combined ratio will be approximately 100 percent. The consolidated target also assumes that favorable loss reserve development will be in line with historical levels.
		Through the first six months of 2005, catastrophe losses contributed an unusually low 1.1 percentage points to the overall property casualty combined ratio of 88.2 percent. Typically, the most severe weather-related catastrophe events, particularly hurricanes, occur in the third quarter. We will review our 2005 combined ratio targets when the third quarter is complete and we have more details on actual catastrophe losses. During July 2005, Hurricane Dennis affected The Cincinnati Insurance Companies’ policyholders in Alabama, Florida, Georgia and Mississippi. We currently are estimating losses in the range of $11 million from this event, which will be included in results for the third quarter ending September 30, 2005.

•

Investment income growth in line with year-to-date results. We now believe that investment income growth for the year will be in line with the 6.5 percent growth in the first six months of 2005. Our outlook is based on anticipated growth in dividend income, strong cash flow from insurance operations and the higher-than-normal allocation of new cash flow to fixed-income securities over the past 18 months.

Our operating results will be tempered in 2005 by a $15 million, net of tax, annual increase in interest expense on long-term debt, which rose modestly with the November 2004 issue of $375 million aggregate principal amount of senior notes due 2034. Net income for 2005 would be reduced by 8 cents per share, as disclosed in Note 1 to the Consolidated Financial Statements, Page 7, if we had adopted SFAS No. 123(R) this year. We intend to adopt SFAS No. 123(R) in the first quarter of 2006.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

		Three months ended June 30,												Six months ended June 30,
(Dollars in millions)		2005				2004				Change %				2005				2004				Change %
Written premiums		$	791			$	734				7.7			$	1,588			$	1,524				4.2
Earned premiums		$	765			$	717				6.7			$	1,518			$	1,432				6.0
Loss and loss expenses excluding catastrophes			421				395				6.6				877				806				8.8
Catastrophe loss and loss expenses			15				46				(67.9	)			17				47				(63.8	)
Commission expenses			157				142				10.5				299				296				1.1
Underwriting expenses			75				73				3.6				141				127				11.1
Policyholder dividends			2				3				(48.4	)			5				6				(15.8	)
Underwriting profit		$	95			$	58				64.2			$	179			$	150				18.8
Combined ratio:
Loss and loss expenses excluding catastrophes			55.0	%			55.0	%							57.8	%			56.2	%
Catastrophe loss and loss expenses			2.0				6.5								1.1				3.3
Loss and loss expenses			57.0	%			61.5	%							58.9	%			59.5	%
Commission expenses			20.5				19.8								19.7				20.7
Underwriting expenses			9.8				10.1								9.3				8.9
Policyholder dividends			0.2				0.5								0.3				0.4
Combined ratio			87.5	%			91.9	%							88.2	%			89.5	%

Within the property casualty insurance market, the company offers both commercial and personal policies through a network of independent agencies. Highlights of the performance for the combined property casualty insurance operations included:

•		Premiums and growth – Growth in earned premiums for the three-month and six-month periods continued to reflect the competitive characteristics we discussed in the Annual Report on Form 10-K, Property Casualty Insurance Operations, Page 1, as well as the slowing of net written premium growth over the past year due to increased competition.
		We consider statutory net written premium growth to be a key performance indicator, since it can be used to compare the company’s growth to industry performance, allowing the company to evaluate the success of its strategies. Our property casualty premium growth has consistently been above the overall property casualty industry average.

	•		For the six months ended June 30, 2005, the 4.2 percent growth rate reported for net written premiums included 1.6 percentage points due to the effect of an actuarial estimate of premiums for policies that were in process but not yet booked at quarter end.
	•		The 7.7 percent growth rate reported for the three months ended June 30, 2005, included 5.1 percentage points for the actuarial adjustment while the 0.9 percent growth rate reported for the three months ended March 31, 2005, had been reduced by 1.7 percentage points.

		New business written directly by agencies was $81 million and $152 million in the three months and six months ended June 30, 2005, compared with $87 million and $167 million in the comparable 2004 periods.
		The discussion of the commercial lines and personal lines segments provides additional detail regarding premiums and growth trends.
•		Entered 32nd state — In June 2005, we appointed our first agency in Delaware, our first new active state since 2000. Our expansion into Delaware was accomplished by staffing a second Maryland territory that includes Delaware agencies. In addition, we also subdivided

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

		and staffed field territories in Birmingham, Alabama; South Central Indiana; and Chicago in the first half of 2005. Plans to subdivide territories in upstate New York; Chattanooga and Nashville, Tennessee; and Utah will bring us to 100 field marketing territories by year-end 2005.
		In total, we appointed 22 new agencies in our active states during the first half of 2005 as part of our program to appoint 100 new agencies in 2005 and 2006. This brought the total number of agencies at June 30, 2005, to 995 across our 96 territories, a net increase of nine agencies from year-end 2004.
•		Underwriting results and combined ratio – Excluding catastrophe losses, improvement in the personal lines loss and loss expense ratio was offset by a slightly higher commercial lines loss and loss expense ratio. The discussion of the commercial lines and personal lines segments provides additional detail regarding underwriting results and combined ratio trends.
		The 4.4 percentage-point improvement in the overall property casualty combined ratio for the three months ended June 30, 2005, was due to the unusually low level of catastrophe losses in this year’s second quarter. Only one period of severe weather in May affected The Cincinnati Insurance Companies’ policyholders across 10 Midwestern states. Net of reinsurance, catastrophe losses contributed 2.0 percentage points to the property casualty combined ratio for the three months ended June 30, 2005, compared with 6.5 percentage points a year ago.
		The 1.3 percentage-point improvement in the combined ratio for the six months ended June 30, 2005, reflected several offsetting trends:

o

Increase in the loss and loss expense ratio excluding catastrophes. The loss and loss expense ratio for the six months ended June 30, 2005, was raised by a previously announced single large loss that was insufficiently covered through our facultative reinsurance programs. That loss reduced the six-month underwriting profit by $22 million, net of reinsurance, and raised the loss and loss expense ratio by 1.5 percentage points. The ratio for the six months ended June 30, 2004, was reduced by 2.2 percentage-points due to the release of UM/UIM reserves.

o

Lower catastrophe losses. Catastrophe losses contributed 1.1 percentage points to the six month property casualty combined ratio compared with 3.3 percentage points a year ago.

o

Lower commission expense ratio. Commission expense declined from last year’s level primarily because of the refinement and subsequent release of $8 million of 2004 accruals in the first three months of 2005. The refinement reflected the use of final 2004 financial data to calculate the contingent commissions paid in 2005. Our 2005 contingent commission accrual reflects the year-to-date 2005 underwriting profit, our outlook for full-year results and other factors that could affect the contingent commission liability for the year.

On a statutory basis, the property casualty combined ratio was 86.6 percent and 86.9 percent for the three months and six months ended June 30, 2005. The property casualty statutory combined ratio was 91.2 percent and 88.1 percent for the comparable 2004 periods. In the six months ended June 30, 2004, the statutory combined ratio included a 2.2 percentage-point benefit from the release of UM/UIM reserves.

•

CMS™, a new claims file management system, initially was deployed in late 2003. Field claims associates in all states are using CMS to process all newly reported claims. Planned upgrades

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

for 2005 include agency access to issue claims checks from the system and to obtain loss data reports.

•

WinCPP™, an online rate quoting system for commercial package, commercial auto and workers compensation policies, now is available for agencies in all active states except Delaware. In Delaware, it is available for workers compensation policies and is expected to be available for commercial package and commercial auto policies by year-end. Businessowner policy quoting capabilities now have been extended to 25 states.

•		Training for Diamond, our personal lines processing system, was completed for agents in Florida in April 2005. It now is in use in six states representing approximately 62 percent of total 2004 personal lines earned premium volume. Through June 30, 2005, policies representing approximately $250 million of in-force premium had been issued through Diamond. The introduction of Diamond into Illinois, which represents about 7 percent of total 2004 personal lines earned premium volume, now is scheduled for September. Prior to the Illinois rollout, improvements to system stability and speed are being implemented. Planned rate changes were released in Diamond in July, as scheduled.
		After agent training is complete in Illinois, training is expected to begin for agents in Georgia, Kentucky and Wisconsin, which represent about 15 percent of total 2004 personal lines earned premium volume. Those states will be followed by Minnesota, Missouri and Tennessee, states that represent about 6 percent of volume. Training in some states may not begin until early 2006.

•

i-View, a commercial lines policy imaging and workflow system, was introduced in areas of the commercial lines underwriting department in mid-2004. Approximately 50 percent of commercial lines underwriting teams now are using the system. i-View is expected to be available to all commercial lines underwriters by year-end 2005.

•

Development and delivery of a full-featured commercial lines policy processing system is the company’s primary business-technology objective. We remain on track to achieve our interim goal of delivering a full version of the system for businessowners policies in Ohio, our largest premium volume state, by the end of 2005, with other states under development for 2006.

•

CinciBond™, a new automated system to process license and permit surety bonds, was delivered to a small group of Ohio agencies for testing in late 2004. CinciBond enables agents to issue and print bonds at their offices. Responses were positive and delivery to the remaining Ohio agencies and those in several additional states is anticipated during late 2005.

In all cases, the objective is to make it easier for agencies to do business with us and to enhance the level of personal service that we deliver by automating policy administration functions.

Cincinnati Financial Corporation
Form 10-Q for the quarter ended June 30, 2005

		Property Casualty				Life Insurance
		Insurance				Subsidiary
		Subsidiaries
A.M. Best			A++				A+
Fitch Ratings		AA				AA
Moody’s Investors Service		Aa3					—
Standard & Poor’s Rating Services		AA-				AA-

In 2004, the board of directors and management established parameters around the property casualty company’s strong statutory surplus position that led to some short-term actions. These actions allowed us to remain consistent with our long-term underwriting and equity investing strategies while responding to risk factors that are studied carefully by the ratings agencies. In the second quarter of 2004, these actions included reducing property casualty portfolio common stock holdings, adding a $100 million layer to our property catastrophe reinsurance program and adjusting homeowner earthquake deductibles. In addition, we have changed the allocation of new property casualty portfolio investments to reduce the ratio of common stock to statutory surplus (see Investment Portfolio, Page 29, for a discussion of portfolio allocation). The ratio was 98.4 percent at June 30, 2005, compared with 103.5 percent at year-end 2004.

These property casualty actions did not signal a change in our overall investment philosophy. We remain committed to a long-term equity focus that we believe is key to the company’s long-term growth and stability (see 2004 Annual Report on Form 10-K, Investments Segment, Page 13).

Commercial Lines Results of Operations

Overview

Performance highlights for the commercial lines segment include:

•		Premiums and growth — Agents continue to report that renewal pricing pressure has risen since the end of 2004 and that new business pricing is requiring even more flexibility and more careful risk selection. Our field marketing associates and agents are working together to select risks and respond appropriately to local pricing trends. Over the past five years, our case-by-case approach has generated 11.7 percent compound annual growth in commercial lines agency direct new business premiums. New commercial lines business was $72 million and $135 million for the three-month and six-month periods compared with $75 million and $142 million last year.
		With the commercial lines pricing environment growing more competitive, we continue to rely on factors other than price to drive sales. Our agents look for the best insurance program for their clients, not just the best price. They serve policyholders well by presenting our value proposition — customized coverage packages, personal claims service and high financial strength ratings — all wrapped up in a convenient three-year commercial policy.
		For the six months ended June 30, 2005, the 6.5 percent growth rate reported for net written premiums included 2.0 percentage points due to the effect of an actuarial estimate of premiums for policies that were in process but not yet booked at quarter end. The 10.6 percent growth rate reported for the three months ended June 30, 2005, included 6.8 percentage points from the actuarial adjustment while the 3.1 percent growth rate reported for the three months ended March 31, 2005, had been reduced by 2.0 percentage points.
		As competition in our commercial markets continues to increase, our growth rate has slowed because of the more competitive pricing environment and the underwriting discipline we have been maintaining for both renewal and new business. We believe that our written

      

Cincinnati Financial Corporation Form 10-Q for the quarter ended June 30, 2005		21

		premium growth rate continues to exceed the average for the overall industry, which was estimated at 1.3 percent for the first three months of 2005.
•		Underwriting results and combined ratio — Commercial lines profitability remained strong in the three months ended June 30, 2005, as we benefited from the front-line underwriting efforts of our local agents and our pricing discipline as well as an unusually low level of catastrophe losses. The significant components of expenses for the commercial lines segment are described below.
		The combined ratio for the six months ended June 30, 2005, was raised 2.0 percentage points due to the single large loss in January 2005. The ratio for the six months ended June 30, 2004, benefited by 3.0 percentage points from the release of UM/UIM reserves.

Commercial Lines Results

		Three months ended June 30,												Six months ended June 30,
(Dollars in millions)		2005				2004				Change %				2005				2004				Change %
Written premiums		$	567			$	512				10.6			$	1,195			$	1,122				6.5
Earned premiums		$	563			$	520				8.3			$	1,114			$	1,038				7.3
Loss and loss expenses excluding catastrophes			306				265				15.6				635				541				17.3
Catastrophe loss and loss expenses			2				15				(84.4	)			9				16				(47.4	)
Commission expenses			111				103				7.6				215				216				(0.5	)
Underwriting expenses			56				53				6.9				96				88				9.4
Policyholder dividends			2				3				(48.4	)			5				6				(15.8	)
Underwriting profit		$	86			$	81				5.9			$	154			$	171				(9.7	)
Combined ratio:
Loss and loss expenses excluding catastrophes			54.4	%			50.9	%							57.0	%			52.1	%
Catastrophe loss and loss expenses			0.4				3.0								0.8				1.6
Loss and loss expenses			54.8	%			53.9	%							57.8	%			53.7	%
Commission expenses			19.7				19.8								19.3				20.8
Underwriting expenses			10.0				10.0								8.6				8.4
Policyholder dividends			0.3				0.7								0.4				0.6
Combined ratio			84.8	%			84.4	%							86.1	%			83.5	%

Loss and Loss Expenses (excluding catastrophe losses)

Loss and loss expenses include both net paid losses and reserve additions for unpaid losses as well as the associated loss expenses. Loss and loss expenses excluding catastrophes rose in the three months largely because of a lower level of favorable loss reserve development from prior accident years. Loss and loss expenses excluding catastrophes in the six months ended June 30, 2005, was increased by the single large loss discussed above. Loss and loss expenses excluding catastrophes in the six months ended June 30, 2004, was reduced by the release of UM/UIM reserves (see Property Casualty Reserve Levels, Commercial Lines Segment Reserves, Page 30, for information regarding loss reserves for the commercial lines segment).

Management monitors incurred losses by size of loss, business line, risk category, geographic region, agency, field marketing territory and duration of policyholder relationship, addressing concentrations or trends as needed. For the three months ended June 30, 2005, new incurred losses greater than $1 million were above the unusually low level in the comparable prior period. For the six months ended June 30, 2005, new incurred losses greater than $1 million were above the comparable prior period primarily due to the single large loss in January 2005. For both periods, new incurred losses between $250,000 and $1 million were below last year’s levels while case reserve increases greater than $250,000 rose slightly.

      

		Cincinnati Financial Corporation
22		Form 10-Q for the quarter ended June 30, 2005

Commercial Lines Losses by Size

		Three months ended June 30,												Six months ended June 30,
(Dollars in millions)		2005				2004				Change %				2005				2004				Change %
Losses $1 million or more		$	26			$	14				85.5			$	68			$	49				40.0
Losses $250 thousand to $1 million			29				33				(10.6	)			51				61				(16.5	)
Development and case reserve increases of $250 thousand or more			38				36				5.0				67				63				6.5
Other losses			151				126				20.1				322				256				26.1
Total losses incurred excluding catastrophe losses			244				209				17.0				508				429				18.7
Catastrophe losses			2				15				(84.4	)			9				16				(47.4	)
Total losses		$	246			$	224				10.1			$	517			$	445				16.3
As a percent of earned premiums:
Losses $1 million or more			4.5	%			2.6	%							6.2	%			4.7	%
Losses $250 thousand to $1 million			5.2				6.3								4.6				5.8
Development and case reserve increases of $250 thousand or more			6.8				7.0								6.0				6.1
Other losses			26.9				24.2								28.9				24.7
Loss ratio excluding catastrophe losses			43.4	%			40.1	%							45.7	%			41.3	%
Catastrophe loss ratio			0.4				3.0								0.8				1.6
Total loss ratio			43.8	%			43.1	%							46.5	%			42.9	%