Business context and reporting period
United Fire Group, Inc. (UFG) filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2018. UFG writes property and casualty insurance through independent agencies and is licensed in 46 states and the District of Columbia. Following the March 30, 2018 sale of United Life, continuing operations comprise property and casualty insurance; life insurance results are reported as discontinued operations. Unless noted otherwise, financial amounts below are in millions.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net premiums earned | $264.7 | $255.8 | $766.8 | $737.4 |
| Total revenues | $291.9 | $269.6 | $818.1 | $779.4 |
| Net income from continuing operations | $11.1 | $(19.1) | $31.6 | $(0.4) |
| Net income (loss), including discontinued operations and sale gain | $11.1 | $(17.9) | $57.0 | $5.0 |
| Diluted EPS from continuing operations | $0.43 | $(0.77) | $1.23 | $(0.01) |
| Combined ratio | 105.5% | 118.1% | 102.5% | 107.6% |
| Net loss ratio | 73.2% | 87.3% | 68.8% | 77.1% |
| Expense ratio | 32.3% | 30.8% | 33.7% | 30.5% |
Net investment income was $13.2 million in Q3 (down from $13.8 million) and $43.9 million year to date (up from $38.6 million). Net realized investment gains were $14.0 million in Q3 and $7.4 million year to date; the 2018 results include changes in equity-security fair values recognized in earnings under newly adopted accounting guidance.
At September 30, total assets were $2.831 billion, total liabilities $1.947 billion, and stockholders’ equity $884.2 million. Cash and cash equivalents were $52.3 million, versus $95.6 million at December 31, 2017. The investment portfolio totaled $2.076 billion. UFG had no borrowings outstanding under its $50 million revolving credit facility and reported compliance with its covenants.
For the first nine months, net cash provided by operating activities was $69.2 million, compared with $116.3 million in 2017; continuing-operations operating cash flow was $41.1 million. Investing activities provided $2.5 million, including $276.1 million of proceeds from the life-business sale, while financing activities used $108.2 million, largely reflecting shareholder distributions. UFG said cash flows from continuing operations met current liquidity needs and were expected to meet future needs.
Material changes versus prior periods
- Premiums earned grew 3.5% in Q3 and 4.0% year to date, attributed to new business, geographic expansion, and rate increases.
- Lower catastrophe losses and improved core loss experience drove lower loss ratios. Catastrophe losses were $12.3 million in Q3 2018 versus $30.7 million in Q3 2017, and $30.7 million year to date versus $68.8 million.
- Prior-year reserve development was $0.7 million unfavorable in Q3, but $47.7 million favorable year to date. The quarter’s adverse development was concentrated in commercial other liability and commercial automobile; year-to-date favorable development came from multiple lines.
- The expense ratio increased by 1.5 percentage points in Q3 and 3.2 points year to date. UFG cited technology investment and accelerated deferred acquisition cost amortization in underperforming auto lines.
- UFG recorded a $27.3 million after-tax gain on the United Life sale. The sale also explains much of the balance-sheet and year-over-year cash-flow comparability change.
- Equity fell from $973.4 million at year-end 2017 to $884.2 million, reflecting $97.6 million of dividends, a $50.8 million after-tax decrease in net unrealized investment gains, and $5.4 million of share repurchases, partly offset by net income.
Outlook, commentary, and risks
UFG provided no specific earnings or premium-growth guidance. Management expects continuing-operations cash flows to meet future liquidity needs. The multi-year Oasis technology project is expected to add 1.0–2.0 percentage points annually to the expense ratio for the duration of the project. Management said commercial automobile profitability remained below expectations and described rate increases, loss-control efforts, and review of underperforming accounts as its response.
Key risks include catastrophe frequency and severity, reserve adequacy and long-tail claims uncertainty, underwriting and pricing performance, interest-rate and market-price exposure, reinsurance recoverability, and geographic concentration. Approximately 48.6% of nine-month property and casualty premiums came from Texas, California, Iowa, Missouri, and Colorado. The company reported no other-than-temporary investment impairments for the periods presented, but noted that future impairments remain possible. It also had a $23.7 million potential capital-contribution commitment to a limited liability partnership through July 2028.
UFG paid a $3.00-per-share special dividend in August 2018; total dividends paid in the nine months were $97.6 million. The company noted its direct insurance subsidiary could not pay dividends without prior regulatory approval as of September 30, though management said this restriction would not materially affect UFG’s cash obligations. Pending legal proceedings were described as ordinary and routine, with no expected material adverse effect. The interim financial statements received an independent accountant’s review, not an audit; the reviewer reported no material modifications considered necessary for GAAP conformity.
Important facts for investors to verify
- Whether the substantial favorable year-to-date reserve development is sustainable, especially given Q3 adverse development and the uncertainty of long-tail claims.
- Whether underwriting improvement persists after lower catastrophe losses; the combined ratio remained above 100%, indicating an underwriting loss overall.
- Progress in restoring profitability in commercial and personal auto, and the expense impact and benefits of the Oasis technology program.
- How much reported investment income and realized gains depend on market-sensitive partnership valuations and equity-security fair-value changes.
- The effect of the special dividend, reduced cash balance, and regulatory limits on subsidiary dividends on capital flexibility and future shareholder distributions.
- Finalization of the company’s provisional accounting for the Tax Cuts and Jobs Act and the potential effects of interest-rate and investment-market movements on equity and book value.