RLI Corp. 2015 Second-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. This Form 10-Q covers the three and six months ended June 30, 2015, compared with the corresponding 2014 periods. The filing was signed July 24, 2015.
Financial performance and key metrics
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Net premiums earned | $172.3 million | $168.6 million | $341.3 million | $329.7 million |
| Consolidated revenue | $190.6 million | $193.0 million | $386.4 million | $374.2 million |
| Underwriting income | $34.8 million | $26.6 million | $52.5 million | $49.1 million |
| Net earnings | $37.2 million | $35.7 million | $67.8 million | $64.7 million |
| Diluted EPS | $0.84 | $0.82 | $1.54 | $1.48 |
| Combined ratio | 79.8 | 84.2 | 84.6 | 85.1 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $71.1 million | $38.5 million |
Q2 net earnings increased approximately 4%, while six-month net earnings increased approximately 5%. Approximate net earnings margins were 19.5% in Q2 2015 and 17.6% for the first six months of 2015; these are calculated using consolidated revenue. Underwriting margins were approximately 20.2% and 15.4%, respectively, based on underwriting income divided by net premiums earned.
- Q2 net premiums earned increased 2%; six-month net premiums earned increased 4%.
- Q2 underwriting income increased 31%; six-month underwriting income increased 7%.
- Net investment income declined to $13.4 million in Q2 and $26.9 million for the six months, primarily because of the lower yield environment.
- Net realized investment gains were $4.8 million in Q2 and $18.1 million for the six months, compared with $10.4 million and $16.9 million, respectively, in the prior-year periods.
- Effective tax rate was 32% for both the quarter and six months, compared with 31% in the prior-year periods.
Segment performance and changes versus prior period
| Segment | Six-month gross premiums written | Change | Six-month underwriting income | Combined ratio |
|---|---|---|---|---|
| Casualty | $264.8 million | Up 8% | $24.5 million | 87.8 vs. 87.8 |
| Property | $112.9 million | Down 29% | $13.0 million | 84.4 vs. 87.0 |
| Surety | $60.9 million | Up 6% | $15.0 million | 73.8 vs. 72.1 |
| Total | $438.7 million | Down 5% | $52.5 million | 84.6 vs. 85.1 |
- Casualty growth was led by transportation, professional services and package business. The segment’s underwriting income increased from $22.5 million to $24.5 million.
- Property gross premiums declined primarily because the company reduced its assumed crop reinsurance participation; crop premiums fell 83% for the six months. The crop business is expected to expire at the end of the current crop year following the cedant’s acquisition.
- Property underwriting income increased despite lower premiums, supported by favorable prior-year reserve development, although 2015 storm losses reduced property underwriting income by $6.2 million.
- Surety underwriting income increased modestly, while its combined ratio worsened because of a smaller favorable reserve-development benefit and a higher loss ratio.
- Gross premiums written declined 5% for the six months and 6% for Q2, but excluding crop, gross premiums increased 4% and 7%, respectively. Reinsurance renewals reduced ceded premiums by $8.5 million and helped net premiums written increase slightly.
Balance sheet, cash flow, debt and liquidity
- Total assets were $2.815 billion at June 30, 2015, compared with $2.776 billion at December 31, 2014.
- Shareholders’ equity was $867.9 million, up from $845.1 million. The increase in retained earnings was partly offset by a $32.5 million reduction in accumulated other comprehensive earnings.
- Investments and cash totaled $1.977 billion, including $1.537 billion of fixed-income securities and $391.2 million of equity securities. Equity securities represented approximately 20% of the investment portfolio.
- Cash was $27.1 million and short-term investments were $10.2 million at June 30, 2015. Cash, short-term investments and investments maturing within one year totaled approximately $46.6 million.
- Operating cash flow was $71.1 million for the first six months, compared with $38.5 million in 2014. Investing activities used $62.2 million and financing activities used $12.4 million, producing a net cash decrease of $3.5 million.
- Long-term debt was $149.6 million, consisting principally of senior notes bearing 4.875% interest and maturing in 2023. Debt represented 14.7% of total capital.
- No amounts were outstanding under the $40 million revolving credit facility, which can be increased to $65 million under certain conditions. Management stated that available liquidity should be sufficient for anticipated needs over the next 12 to 24 months.
- The company paid a quarterly dividend of $0.19 per share and had paid dividends for 156 consecutive quarters. RLI Insurance Company paid $20.0 million of ordinary dividends to the holding company during the first six months.
Outlook, commentary, risks and unusual items
- Management emphasized underwriting profitability over premium growth, citing intense competition, alternative capital and declining rates in several property markets, particularly catastrophe-exposed excess-and-surplus coverages.
- Favorable prior-year reserve development contributed $43.5 million of pretax earnings during the first six months and $35.5 million in Q2. This benefit is inherently nonrecurring and depends on future loss emergence.
- Storm losses were $7.4 million for the first six months and $7.4 million in Q2; the filing indicates that 2014 storm losses were $8.0 million for the first six months and $8.0 million in Q2.
- Comprehensive earnings declined sharply because other comprehensive earnings included a $32.5 million unrealized investment loss for the six months and a $24.9 million loss in Q2, versus gains in the prior-year periods. Management attributed the losses principally to rising interest rates and equity underperformance.
- The fixed-income portfolio had a 5.0-year duration and an average rating of AA-. Unrealized fixed-income losses were $13.5 million at June 30, 2015, but management reported no other-than-temporary impairment losses and expected recovery of amortized cost.
- RLI agreed to sell RLI Indemnity Company to Clear Blue Financial Holdings for $7.5 million in cash. Closing was subject to regulatory approval, revision of a reinsurance agreement and a dividend approval.
- The company increased its ownership of Prime Holdings Insurance Services to 27% and continued a 25% quota-share reinsurance arrangement with Prime subsidiaries.
- Key risks include catastrophe losses, reserve-estimation uncertainty, inflation and legal developments affecting casualty claims, market and interest-rate risk, investment credit risk, competition and regulatory restrictions on dividends from insurance subsidiaries.
- No material changes to legal proceedings or risk factors were reported. Management concluded that disclosure controls were effective and reported no material changes to internal control over financial reporting.
Investor verification points
- Determine how much of earnings and underwriting income is attributable to favorable prior-year reserve development rather than current accident-year performance.
- Monitor the planned expiration of the crop reinsurance business and the effect of declining catastrophe-property pricing on future premium volume and margins.
- Assess sensitivity to interest rates, equity-market performance and the $1.5 billion fixed-income portfolio, including unrealized losses and portfolio duration.
- Review regulatory approvals and closing conditions for the proposed RLI Indemnity Company sale.
- Verify the availability of holding-company liquidity and permissible dividends from insurance subsidiaries, including the reported $58.4 million of unrestricted ordinary-dividend capacity at June 30, 2015.
- Compare future combined ratios excluding favorable reserve development and storm impacts to assess underlying underwriting quality.