RLI Corp. — 2015 First-Quarter Form 10-Q Summary
Business Context and Reporting Period
RLI Corp. is a specialty property and casualty insurer operating through casualty, property and surety segments in admitted and excess and surplus markets. The filing reports unaudited results for the three months ended March 31, 2015, compared with the same period in 2014. RLI states that its strategy is to prioritize underwriting profitability over premium growth.
Key Financial Metrics
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Net premiums earned | $169.0 million | $161.1 million | +5% |
| Consolidated revenue | $195.8 million | $181.2 million | +8% |
| Net investment income | $13.5 million | $13.6 million | -1% |
| Net realized investment gains | $13.3 million | $6.5 million | +104% |
| Underwriting income | $17.6 million | $22.5 million | -22% |
| Net earnings | $30.6 million | $29.0 million | +6% |
| Diluted EPS | $0.70 | $0.66 | +6% |
| GAAP combined ratio | 89.5 | 86.0 | +3.5 points |
| Operating cash flow | $23.4 million | $(2.0) million | Improved |
Net earnings benefited from higher realized investment gains, equity earnings from unconsolidated investees and favorable prior-year loss development. The effective tax rate was 31% in both periods. Comprehensive earnings declined to $23.0 million from $46.7 million because other comprehensive earnings shifted to a $7.6 million loss from a $17.7 million gain, primarily reflecting a decline in the equity portfolio.
Gross premiums written declined 3% to $190.6 million. Casualty gross premiums increased 2% to $113.9 million, property declined 17% to $48.1 million, and surety increased 5% to $28.6 million. Net premiums earned increased despite the lower gross written premium base.
Balance Sheet, Debt and Liquidity
- Total assets were $2.78 billion at March 31, 2015, compared with $2.78 billion at December 31, 2014.
- Total investments and cash were $2.0 billion, including $1.53 billion of fixed-income securities and $391.7 million of equity securities.
- Shareholders’ equity increased to $862.0 million from $845.1 million at year-end 2014.
- Long-term debt was $149.6 million, consisting principally of senior notes maturing in 2023 and bearing interest at 4.875%.
- Cash and short-term investments totaled $47.5 million. Approximately $63.1 million of cash, short-term investments and investments mature within one year, with an additional $280.4 million maturing within one to five years.
- The company had no borrowings under its $40 million revolving credit facility or Federal Home Loan Bank facilities.
- Management stated that operating cash flow, investments and financing sources should provide sufficient liquidity for the next 12 to 24 months.
- RLI paid a quarterly dividend of $0.18 per share and reported 155 consecutive quarters of dividends and 39 consecutive years of dividend increases.
Material Changes Versus the Prior Comparable Period
- Revenue increased 8%, but underwriting income fell 22% and the combined ratio deteriorated from 86.0 to 89.5.
- Prior-year favorable loss reserve development declined to $7.1 million from $13.3 million, reducing the benefit to underwriting results.
- Casualty underwriting income declined to $5.3 million from $6.1 million, with the combined ratio increasing to 94.7 from 93.3.
- Property underwriting income declined to $8.2 million from $9.7 million, while the combined ratio increased to 80.6 from 77.6.
- Surety underwriting income declined to $4.2 million from $6.8 million, and its combined ratio increased materially to 85.1 from 74.8, partly because 2015 included unfavorable prior-year development.
- Property premium pressure was driven by reduced crop reinsurance participation, competition, alternative capital and lower catastrophe-exposed rates.
- Net investment income declined slightly because of lower reinvestment rates, while realized investment gains more than doubled.
- RLI increased its equity ownership in Prime Holdings Insurance Services from 20% to 27% through a $1.7 million additional investment. Prime contributed $0.5 million to first-quarter equity earnings.
- Operating cash flow improved from an outflow of $2.0 million to inflow of $23.4 million, primarily because of increased premium receipts.
Outlook, Commentary, Risks and Unusual Items
Management described the insurance marketplace as intensely competitive, with flat or declining prices, new entrants and alternative capital affecting many lines. The company expects to emphasize risk selection and underwriting profitability rather than pursue broad premium growth. No specific quantitative earnings or premium guidance was provided in the filing.
- Property catastrophe exposure includes earthquakes, windstorms, hurricanes and Hawaii homeowners risks. RLI manages exposure through geographic limits, reinsurance, policy terms and catastrophe modeling.
- Casualty results remain exposed to long-tail reserve uncertainty, inflation, legislative changes and court decisions.
- Surety losses can increase when economic conditions weaken insured contractors and other obligors; oil and gas surety was affected by falling energy prices.
- Investment risks include equity-price volatility, interest-rate changes and issuer credit risk. The fixed-income portfolio had a 4.9-year duration, an average rating of AA-, and 82% rated A or better.
- Unrealized investment losses were $7.1 million at March 31, 2015, but management reported no other-than-temporary impairment losses and stated that securities continued to pay expected coupons.
- State insurance laws restrict dividends from the principal insurance subsidiary. RLI Insurance Company paid $20.0 million of ordinary dividends to RLI Corp. during the quarter, and $33.4 million of its net assets were available for ordinary dividends at quarter-end.
- A shareholder derivative and putative class action concerning stock-option exercise-price adjustments was settled, approved by the court in April 2015 and dismissed. The settlement included $350,000 of legal fees and proposed equity-plan amendments for shareholder approval.
- Management reported effective disclosure controls and no material changes to internal control over financial reporting. No material changes to previously disclosed risk factors were reported.
Important Facts for Investors to Verify
- Whether underwriting margins and combined ratios improve as favorable prior-year reserve development normalizes.
- The sustainability of earnings given the increased contribution from realized investment gains and reduced net investment income.
- Property premium trends, including the expiration of reduced crop reinsurance participation and continued catastrophe-market competition.
- Loss reserve adequacy, particularly in casualty and contract surety lines.
- Equity portfolio performance and its effect on comprehensive income and book value.
- Availability of dividends from insurance subsidiaries under applicable regulatory restrictions.
- Progress and profitability of the Prime investment and related quota-share reinsurance arrangement.
- Future catastrophe activity, pricing conditions, interest rates and credit quality in the investment portfolio.