Markel Corporation — Q1 2017 Form 10-Q
Business context and period. The filing is for the three months ended March 31, 2017; the registrant is named Markel Corporation. Its businesses include specialty insurance and reinsurance, investments, and Markel Ventures industrial and service businesses. Interim results are unaudited and are not necessarily indicative of full-year results.
Financial performance and condition
- Revenue: Total operating revenue was $1.412 billion, up 2.6% from $1.376 billion. Earned premiums rose 2.6% to $982.6 million; net written premiums increased 6.6% to $1.260 billion.
- Profit: Operating income fell to $127.4 million from $245.2 million. Net income to shareholders was $69.9 million versus $160.4 million; reported diluted EPS was $3.90 versus $11.15. Income before tax was $94.0 million versus $214.3 million.
- Underwriting and margins: Consolidated underwriting recorded a $2.3 million loss versus a $119.0 million profit. The combined ratio was 100% versus 88%. U.S. Insurance earned $39.3 million underwriting profit (93% combined ratio); International Insurance earned $24.4 million (88%); Reinsurance lost $71.3 million (132%).
- Investment results: Net investment income rose to $100.4 million from $91.3 million; net realized gains were $20.9 million versus $21.2 million. Taxable-equivalent total investment return was 2.1% versus 3.1%. Net unrealized investment gains increased $223.6 million before tax during the quarter.
- Cash flow: Operating cash flow was positive $11.9 million, compared with negative $104.6 million. Investing activities provided $37.7 million, compared with using $236.8 million; financing activities used $26.5 million. Cash, cash equivalents and restricted cash totaled $2.115 billion at quarter-end.
- Balance sheet and liquidity: Total assets were $26.401 billion and shareholders’ equity $8.653 billion. Investments totaled $17.223 billion; invested assets including cash and restricted cash were $19.3 billion. Long-term and other debt was $2.582 billion; debt-to-capital was 23%, unchanged from year-end. Book value per share increased to $620.30 from $606.30. Management said liquidity was sufficient for capital needs.
Material changes and management commentary
- Premium growth was led by Reinsurance, where gross premium volume rose 21%, including $136.5 million from two large specialty quota-share treaties. Management cautioned that Reinsurance premium volume can vary significantly with large deals and multi-year contracts.
- The sharp deterioration in underwriting was driven in part by an $85.0 million adverse reserve adjustment following the U.K. Ogden Rate reduction from +2.5% to -0.75%. The impact was concentrated in U.K. auto casualty reinsurance; Markel had stopped writing new U.K. auto business in late 2014. Management noted estimates may change as claims develop.
- Across all segments, current accident-year loss ratios were higher than in Q1 2016. Management also cited modest price decreases across many product lines, particularly international property and marine and energy, and said it would avoid business that does not meet underwriting targets.
- Markel Ventures revenue was essentially flat at $286.9 million; net income to shareholders was $14.0 million and EBITDA was $41.7 million, also broadly flat year over year.
- SureTec Financial acquisition: Markel agreed to acquire the Texas surety company for approximately $250 million, partly contingent on post-acquisition earnings. Regulatory approvals had been obtained, and closing was expected early in Q2 2017.
Risks, contingencies and unusual items
- Reserve uncertainty: The Ogden Rate change increased expected U.K. bodily-injury claim payments. Favorable reserve development elsewhere partly offset the impact; total prior-year reserve development was favorable by $22.7 million. Reinsurance reserve estimates remain subject to uncertainty.
- Litigation: A representative of Aspen acquisition contingent-value-right holders seeks $47.3 million plus interest, possible default interest and other damages. Markel considers the claim without merit and a material loss remote; the court had stayed proceedings while the parties considered the agreement’s valuation process.
- Brexit: The filing identifies uncertainty about continued access to E.U. markets for U.K.-based insurance operations. Markel was evaluating an E.U.-based carrier; Lloyd’s had announced plans for a Brussels insurance company.
- Debt and subsequent event: Markel repaid $90.6 million of 7.20% senior notes on April 12, 2017. Q1 interest expense increased to $33.4 million from $30.8 million.
- Investment risk: Equity securities represented 26% of invested assets. Management reported $83.2 million of gross unrealized investment losses and cautioned that market declines could lead to further impairment charges. A new accounting standard effective in 2018 is expected to move equity fair-value changes from other comprehensive income to net income, potentially increasing earnings volatility.
- Other accounting and operating matters: Adoption of the accounting standards described for Q1 had no material effect. The company had not determined the full impact of the forthcoming revenue-recognition standard on non-insurance revenues. Disclosure controls were reported effective, with no material Q1 change in internal control over financial reporting.
Important facts for investors to verify
- Whether the $85.0 million Ogden Rate reserve strengthening proves sufficient as U.K. bodily-injury claims develop.
- Subsequent combined ratios, reserve development and profitability in Reinsurance, including the performance of the new quota-share treaties.
- SureTec’s final purchase consideration, closing, and post-acquisition earnings contribution.
- Developments and potential exposure in the Aspen CVR litigation.
- Effects of Brexit arrangements on Markel’s U.K. and E.U. business access and operating structure.
- Investment portfolio concentration, fair-value movements, and the eventual earnings impact of the equity-accounting standard.