Business context and reporting period
Selective Insurance Group, Inc. filed this unaudited Form 10-Q for the quarter ended March 31, 2012, with comparisons to the quarter ended March 31, 2011. The company writes standard and excess-and-surplus property and casualty insurance and invests the premiums collected. E&S results, which began following 2011 acquisitions, are included in Insurance Operations.
Key financial results
| Metric | Q1 2012 | Q1 2011 | Change |
|---|---|---|---|
| Total revenue | $419.3 million | $403.5 million | +4% |
| Net premiums earned | $378.8 million | $351.3 million | +8% |
| Net investment income | $32.6 million | $43.5 million | -25% |
| Income before tax | $23.2 million | $26.2 million | -11% |
| Net income | $18.1 million | $20.5 million | -12% |
| Diluted EPS | $0.33 | $0.37 | -11% |
| Operating income, non-GAAP | $15.3 million | $16.8 million | -9% |
| Operating cash flow | $35.9 million | $28.0 million | Higher |
Net realized investment gains were $4.4 million versus $5.8 million. The company paid a $0.13-per-share dividend, unchanged year over year. Comprehensive income was $28.8 million, including $10.7 million of other comprehensive income, principally investment valuation gains.
Insurance underwriting improved: the GAAP combined ratio was 100.4% versus 103.6%, and the statutory combined ratio was 99.1% versus 102.6%. A combined ratio below 100% indicates an underwriting profit. The overall GAAP underwriting loss narrowed to $1.4 million from $12.7 million. Personal Lines produced a $3.1 million underwriting gain; Commercial Lines reported a $4.5 million underwriting loss.
Financial position, liquidity and debt
At March 31, 2012, total assets were $5.63 billion, total liabilities $4.55 billion, and stockholders’ equity $1.08 billion. Total investments were $4.15 billion. Book value per share was $19.76, up from $19.45 at year-end 2011. Notes payable totaled $307.4 million; debt-to-capital was approximately 22.1%. The company reported $174.7 million of cash and short-term investments, including $0.3 million of cash on the balance sheet. There were no borrowings under the Parent’s $30 million line of credit. Operating cash flow was partly offset by $28.3 million of investing outflows and $8.1 million of financing outflows.
Material changes versus the prior comparable period
- Net premiums written rose 16% to $420.2 million. Growth reflected E&S business, new business, rate increases, and improved retention. Commercial Lines renewal price increases averaged 5.1%; Personal Lines filed rate increases averaged 5.9%.
- Underwriting improved largely as non-catastrophe property losses fell; catastrophe losses were similar year over year at $6.9 million versus $6.8 million. The underwriting expense ratio increased, in part because of $7.2 million of E&S expenses.
- Investment income declined by $10.8 million, mainly because alternative investment income fell $9.3 million. Most alternative-investment results are reported with a one-quarter lag.
- The company adopted new deferred acquisition cost accounting guidance retrospectively. Restated Q1 2011 net income is $20.5 million, down $1.0 million from the amount originally reported; 2011 basic and diluted EPS were each reduced by $0.02.
- Unrealized/unrecognized investment losses improved to $8.0 million from $10.6 million at December 31, 2011. Management said it did not intend, and did not expect to be required, to sell securities in loss positions; a changed assessment could lead to future impairment charges.
Outlook, management commentary and risks
Management maintained its 2012 guidance: statutory combined ratio of 101.5%, GAAP combined ratio of 102.5%, investment income approximately flat with 2011, and weighted-average shares of 55.6 million. Combined-ratio guidance assumes no additional favorable or unfavorable prior-year reserve development and catastrophe losses of 2.5 points, above the historical average.
Management noted pressure on fixed-income yields: bonds maturing or sold in Q1 averaged a 3.7% pre-tax yield, while new purchases averaged 2.5%. The fixed-maturity portfolio had an average credit rating of AA- and duration of 3.3 years, compared with approximately 3.8 years for insurance liabilities. A.M. Best maintained an A+ financial-strength rating with a negative outlook; the filing cites competitive underwriting conditions and catastrophe-loss concerns. Insurance-subsidiary dividends to the Parent are subject to regulatory review, creating a potential constraint on Parent liquidity and debt service.
The filing discusses ordinary-course insurance litigation and other claims, including putative class actions and suits seeking punitive or extra-contractual damages. Management expects liabilities, after reserves, generally not to be material to consolidated financial condition, but acknowledges an adverse outcome could materially affect results or cash flows in a particular period. No material changes to previously disclosed risk factors or market-risk disclosures were reported. Management stated that disclosure controls were effective and that no material change in internal control occurred during the quarter.
Important facts for investors to verify
- Whether premium growth and improved retention continue, and whether E&S expenses are absorbed as acquired and newly written premiums are earned.
- Actual catastrophe losses and prior-year reserve development against the assumptions embedded in 2012 combined-ratio guidance.
- Whether alternative-investment income and fixed-income reinvestment yields recover sufficiently to meet the investment-income outlook.
- Investment portfolio credit quality, impairment judgments, and concentrations, including municipal and Eurozone exposures; the company reported no direct holdings in Italy, Greece, or Portugal.
- Regulatory approval and availability of subsidiary dividends, debt covenant headroom, and the effect of litigation or adverse reserve revisions on cash flows.
- The impact of the retrospective deferred acquisition cost accounting change when comparing 2011 results with earlier company disclosures.