Horace Mann Educators Corporation — Q1 2014 Form 10-Q
Reporting period: Three months ended March 31, 2014; balance-sheet comparisons are with December 31, 2013. Amounts are in millions except per-share data. The interim statements were reviewed by KPMG, not audited; KPMG reported no material modifications were needed for GAAP conformity.
Business context and results
Horace Mann markets property and casualty insurance, retirement annuities and life insurance primarily to K-12 educators, public-school employees and their families. Q1 net income was $28.4 million, up 5.2% from $27.0 million; diluted EPS was $0.67 versus $0.66.
| Metric | Q1 2014 | Q1 2013 |
|---|---|---|
| Total revenue | $261.3 | $254.5 |
| Insurance premiums and contract charges earned | $175.4 | $169.2 |
| Net investment income | $83.0 | $77.4 |
| Net realized investment gains | $1.7 | $6.9 |
| Income before tax | $39.7 | $38.0 |
| Net income | $28.4 | $27.0 |
| Operating cash flow | $53.1 | $34.4 |
Net income increased despite lower realized gains: stronger property and casualty and annuity earnings more than offset reduced investment gains and lower life-segment income. Revenue grew 2.6%; net income margin on reported revenue was approximately 10.9%, compared with 10.6% a year earlier.
Segments and operating trends
- Property and casualty: Net income rose to $14.0 million from $10.2 million. The combined ratio improved to 93.7% from 97.2%. The loss ratio was 66.0%, including $6.3 million of catastrophe losses and $4.0 million of favorable prior-year reserve development. Written premiums increased 4.0%, while policies in force declined year over year.
- Annuity: Net income increased to $12.3 million from $11.1 million, supported by growth in assets and interest margin. Annuity deposits grew 11.2% to $100.3 million. The annualized fixed-annuity net interest spread improved to 214 basis points from 201 basis points.
- Life: Net income declined to $3.9 million from $4.3 million, primarily due to higher mortality costs, partly offset by higher investment income.
- Corporate and other: Reported a $1.8 million loss versus $1.5 million of income, largely reflecting lower realized investment gains.
Financial position, cash flow and capital
- Total assets were $9.08 billion, including $6.80 billion of investments and $34.9 million of cash. Shareholders’ equity was $1.20 billion, up from $1.10 billion at year-end, partly reflecting a $77.4 million after-tax increase in unrealized investment gains during the quarter.
- Total debt was $237.9 million: $38.0 million short-term and $199.9 million long-term. Debt was 19.4% of total capital excluding unrealized investment gains and losses, below the company’s 25% long-term target. Senior notes of $75 million mature in June 2015 and $125 million in April 2016; the $150 million bank facility expires October 2015.
- Operating cash flow was $53.1 million; investing activities used $71.2 million and financing activities provided $34.9 million. Cash ended the quarter at $34.9 million. Management said operating cash generation should meet operating needs for the next 12 months.
- Book value per share was $29.47; excluding investment fair-value adjustments it was $24.27. The company paid $9.8 million in dividends, at $0.23 per share, and repurchased 136,976 shares for $3.9 million; $24.5 million remained authorized under the repurchase program.
Material changes, outlook and risks
- Management’s 2014 outlook was net income before realized investment gains and losses of $2.05–$2.25 per diluted share. Assumptions include continued improvement in current-year P&C underwriting, lower favorable reserve development, mortality returning to modeled levels, and annuity earnings modestly below 2013. The company cautioned that actual results may differ and did not forecast realized investment gains and losses.
- Low interest rates and reinvestment risk are significant concerns. About 86% of deferred annuity account values were at their minimum guaranteed rate. Management anticipated fixed-annuity spread compression; it estimated that a 100-basis-point decline in reinvestment rates could reduce annuity net investment income by about $1.7 million in year one and $6.2 million in year two.
- The company began offering its own fixed indexed annuity products in 2014. Related index options and embedded derivatives are measured at fair value, without hedge accounting.
- The company plans to non-renew about 4,800 Florida homeowners policies, approximately 95% of its remaining Florida property book, beginning with June 2014 effective dates. Management expects lower concentration and reinsurance costs over time, but policy count and premiums will be affected in the near term.
- Key risks include catastrophe frequency and severity, exposure to catastrophe-prone states, reinsurance availability and collectibility, interest-rate and investment-market changes, reserve estimates, policy persistency, mortality, competition, educator-sector budget pressures, and execution of technology and service investments. Management reported no material changes to previously disclosed risk factors, no impairment charges in the quarter, and no off-balance-sheet arrangements with unconsolidated entities.
- Operating expenses increased 2.8% to $39.9 million, reflecting continued customer-service, infrastructure and technology investment. The company also eliminated postretirement medical coverage for remaining eligible participants effective March 31, 2014.
Important facts for investors to verify
- Whether P&C underwriting improvement and favorable reserve development persist, particularly after the Florida non-renewals and catastrophe exposure changes.
- Whether annuity spread compression, minimum guaranteed rates and investment prepayments affect earnings as management anticipates.
- How life mortality experience compares with the forecast assumption of a return to modeled levels.
- Whether premium and deposit growth can offset declining P&C policy counts and retention rates.
- Whether book value and capital remain sensitive to changes in interest rates, credit spreads and investment valuations; the filing says unrealized losses were considered temporary and recorded no impairment.
- Debt refinancing and liquidity needs, including the 2015 note maturity and the 2015 credit-facility expiration.