Chubb Limited — Q2 2016 Form 10-Q
Business context and reporting period
Unaudited results cover the quarter and six months ended June 30, 2016. Chubb completed its $29.5 billion acquisition of The Chubb Corporation on January 14, 2016; acquired results are included only from that date. Accordingly, reported year-over-year comparisons combine a larger business in 2016 with legacy ACE results in 2015 and are not directly comparable. Management also presents “As If” comparisons that combine both companies and adjust for purchase accounting. The company reports six insurance segments, plus Corporate.
Financial results and position
- Q2 revenue and earnings: Total revenue was $7.897 billion, including $7.405 billion net premiums earned and $708 million net investment income. Net income was $726 million, down 22.8% from $942 million; diluted EPS was $1.54 versus $2.86. On an unaudited pro forma basis as if the acquisition had occurred January 1, 2015, Q2 revenue was $7.915 billion versus $8.378 billion and net income was $712 million versus $1.199 billion.
- First-half results: Revenue was $14.774 billion and net income was $1.165 billion, versus $9.437 billion and $1.623 billion, respectively, in 2015. Pro forma first-half revenue was $15.237 billion versus $16.073 billion; pro forma net income was $1.246 billion versus $2.158 billion. Reported diluted EPS was $2.53 versus $4.91.
- Premium trends: Q2 net premiums written rose 59.7% to $7.639 billion, primarily due to the acquisition. On an “As If,” constant-dollar basis, they declined 4.2%; P&C premiums declined 5.0%. First-half reported net premiums written increased 53.9% to $13.634 billion, while “As If,” constant-dollar premiums declined 2.7%.
- Underwriting and claims: The Q2 P&C combined ratio was 91.2% versus 87.7%; on an “As If” basis it was 90.2% versus 87.1%. Q2 pre-tax catastrophe losses were $396 million, or $390 million after reinstatement premiums, versus $124 million in 2015. Favorable prior-period development was $301 million, compared with $153 million. First-half catastrophe losses were $654 million and favorable development was $548 million.
- Investment results: Net realized losses were $216 million in Q2 and $610 million in the first half, driven substantially by variable-annuity guarantee liabilities, derivative losses and investment portfolio losses. First-half other comprehensive income was $1.916 billion, substantially reflecting unrealized investment appreciation. Fixed-income average market yield was 2.3% at June 30, 2016, versus 2.9% a year earlier.
- Cash flow and liquidity: First-half operating cash flow was $2.153 billion versus $1.891 billion. Investing activities used $2.672 billion, including the acquisition, and financing activities used $269 million. Cash was $1.011 billion at June 30. Management said operating cash flows should cover outflows under most near-term loss scenarios. The $1.5 billion letter-of-credit/revolver facility had $469 million in use; financial covenants were met.
- Balance sheet and debt: Total assets were $160.203 billion, investments $99.846 billion, and shareholders’ equity $47.226 billion. Debt was $13.131 billion, plus $308 million of trust preferred securities; debt-to-total-capitalization was 21.6%. Goodwill and other intangible assets were $15.525 billion and $7.398 billion, respectively, largely reflecting the acquisition.
Material changes versus the prior period
- The acquisition materially expanded premiums, assets, equity, reserves and debt; legacy Chubb represented about 35% of consolidated revenue in both Q2 and the first half, and 40% of total assets at June 30.
- Reported premium growth was acquisition-driven. On comparable “As If” measures, premiums declined, and pro forma earnings were lower than the prior-year periods.
- Q2 catastrophe losses increased, while favorable prior-year reserve development also increased. The combined ratio worsened year over year, including on an “As If” basis.
- Chubb recorded $98 million of integration expenses in Q2 and $246 million in the first half. Management cited $72 million of integration-related savings in Q2 and $100 million in the first half.
- Debt increased from $9.389 billion at year-end to $13.131 billion, reflecting acquisition-related debt assumed and financing. The company issued stock as part of the acquisition and had no outstanding share repurchase authorization.
Outlook, commentary and risks
- No specific earnings or revenue guidance was provided. Management described the acquisition as complementary and expected it to broaden products, distribution and geographic reach; integration and realization of anticipated benefits remain execution risks.
- Management maintained underwriting discipline amid flat-to-declining reinsurance rates and competition. Global Reinsurance premiums declined, and the business had been shrinking for several years; the life reinsurance business was not writing new business.
- The June 2016 UK referendum to leave the EU created uncertainty around markets, currencies, economic conditions and the ability of UK insurers and Lloyd’s syndicates to access the EU single market. Chubb identified potential adverse business and financial effects if passporting or equivalent arrangements are unavailable.
- Other material risks include catastrophe severity and modeling uncertainty, reserve-estimation and claims-settlement uncertainty, reinsurance collectability, market and foreign-exchange movements, and variable-annuity guarantee exposures. The reported GLB liability depends on market conditions and policyholder-behavior assumptions; management cautioned actual outcomes may differ materially.
- A hypothetical immediate 100-basis-point rise in interest rates was estimated to reduce fixed-income portfolio value by $3.7 billion. Modeled net PML for a 1-in-100-year US hurricane scenario was $3.310 billion; estimates depend on modeling assumptions and fully collectible reinsurance.
- Management judged routine legal proceedings unlikely to be material to consolidated financial condition or results. Disclosure-control effectiveness was concluded only after excluding the acquired Chubb Corporation; the company was still working to incorporate that business into its controls evaluation.
Important facts for investors to verify
- Compare performance using the filing’s pro forma and “As If” measures, and check how purchase-accounting effects, acquisition timing and foreign exchange affect each comparison.
- Track integration costs and whether projected cost savings are sustained, alongside purchase-accounting amortization of acquired premiums, investments, reserves and intangibles.
- Review reserve development, catastrophe losses, reserve adequacy and reinsurance recoverables, including the acquired loss-reserve portfolio.
- Monitor GLB liability sensitivity to interest rates, equity markets and policyholder behavior, and the effect of hedges on reported earnings.
- Assess debt service, upcoming maturities, liquidity-facility availability and restrictions on dividends from regulated insurance subsidiaries.
- Follow post-acquisition internal-control integration and the evolving regulatory and market effects of the UK’s planned EU withdrawal.