W. R. Berkley Corporation — FY 2018 Form 10-K
Business context and reporting period: W. R. Berkley is a property-and-casualty insurance holding company with Insurance and Reinsurance segments, operating through decentralized specialty businesses in the U.S. and internationally. This annual filing covers the fiscal year ended December 31, 2018; it is not a standalone fourth-quarter report. Figures below are in U.S. dollars.
Key financial results
| Metric | 2018 | 2017 |
|---|---|---|
| Total revenue | $7.692 billion | $7.685 billion |
| Net premiums written | $6.433 billion | $6.261 billion |
| Net premiums earned | $6.372 billion | $6.311 billion |
| Income before income taxes | $812 million | $773 million |
| Net income to common stockholders | $641 million | $549 million |
| Diluted earnings per share | $5.00 | $4.26 |
| Net cash from operating activities | $620 million | $711 million |
| Common stockholders’ equity | $5.438 billion | $5.411 billion |
- Underwriting: Consolidated combined ratio improved to 95.3% from 96.7% (below 100% indicates underwriting profit). Insurance’s ratio was 94.3% versus 94.5%; Reinsurance’s improved to 106.4% from 117.6%, but remained above 100%.
- Investment income and gains: Net investment income rose 17% to $674 million, supported by a larger fixed-maturity portfolio, higher interest rates and investment-fund income. Net realized and unrealized investment gains fell to $154 million from $336 million. The 2018 amount included $480 million of realized gains on investment sales and a $320 million reduction from changes in unrealized equity-security gains, under newly adopted accounting rules.
- Balance sheet and liquidity: Total assets were $24.896 billion; investments were $17.723 billion and cash and cash equivalents were $818 million. The company reported approximately 78% of its investment portfolio in cash, cash equivalents and marketable fixed-maturity securities. Operating cash flow declined to $620 million, primarily due to timing of claims payments, incentive-plan payments and tax payments.
- Debt: Senior notes and other debt were $1.882 billion and subordinated debentures were $907 million, for $2.790 billion carrying value of debt; total capitalization was $8.2 billion. Debt represented 34% of total capitalization, compared with 32% in 2017. Interest expense increased to $157 million from $147 million.
- Reserves: Gross loss and loss-expense reserves were $11.966 billion, up from $11.670 billion; net reserves were $10.249 billion. Prior-year development, net of premium offsets, was favorable by $39 million, versus $37 million in 2017.
Material changes versus 2017
- Net income increased 17%, reflecting higher investment income and underwriting income, foreign-currency gains and lower tax expense; lower investment gains partly offset these improvements.
- Gross premiums written rose 3%. Insurance premiums increased 4%, while Reinsurance premiums declined 10%. Average renewal premium rates, adjusted for exposure changes, increased 2.5% versus 0.9% in 2017.
- Catastrophe losses, net of reinsurance, declined to $105 million from $184 million, which included major 2017 hurricanes and Mexican earthquakes.
- Favorable workers’ compensation reserve development was partly offset by adverse professional-liability development, including large D&O and lawyers’ professional-liability losses. Reinsurance had $4 million of adverse prior-year development, an improvement from $31 million adverse in 2017.
- The effective tax rate fell to 20% from 28%, primarily due to the U.S. corporate tax-rate reduction to 21% under the 2017 Tax Act.
- Investment accounting changed effective January 1, 2018: fair-value changes on most equity securities now run through net income. The adoption included a $291 million reclassification between retained earnings and accumulated other comprehensive income, with no net effect on total stockholders’ equity.
Outlook, commentary, risks and unusual items
- The filing provides no specific 2019 earnings, revenue or combined-ratio guidance. Management describes ongoing competitive pricing pressure and says that prices in certain lines remain below levels needed to meet long-term return objectives, while renewal pricing had begun to accelerate modestly.
- Key risks include reserve-estimation uncertainty and claims inflation; long-tail and emerging coverage exposures; catastrophe frequency and severity, including potential climate effects; competition and alternative capital; investment-market, interest-rate, credit and foreign-currency volatility; reinsurer collectability and availability; regulation; and technology, cyber and data-security incidents.
- U.K. withdrawal from the EU was a material uncertainty at filing, with potential effects on market access, regulation, currencies and investment markets. The company also noted uncertainty around evolving U.S. and international insurance-group capital standards.
- Effective July 1, 2018, the company treated Argentina as highly inflationary under GAAP and changed the functional currency of its Argentine operations to the U.S. dollar; related transaction currency gains and losses are recorded in earnings.
- In 2018 the company declared regular dividends of $0.14 per share for the first quarter and $0.15 per share in each subsequent quarter, plus three special dividends of $0.50 per share each. The board expected regular quarterly dividends to continue, subject to availability. A 3-for-2 stock split, announced February 21, 2019, was scheduled as a stock dividend for holders of record March 14, with shares expected April 2.
- Commitments included up to $270.2 million for investment funds and $253.4 million for real-estate construction projects, in addition to contractual obligations. Ordinary-course litigation and arbitration are reserved; management did not expect the ultimate outcomes to materially affect financial condition, though adverse outcomes could affect a particular reporting period.
- KPMG issued unqualified opinions on the financial statements and internal control over financial reporting. Management and the auditor concluded internal controls were effective as of December 31, 2018.
Important facts for investors to verify
- Whether premium increases keep pace with loss-cost inflation, and whether the Reinsurance combined ratio returns below 100%.
- Whether workers’ compensation favorable development persists and professional-liability large-loss activity remains elevated; reserve estimates are inherently uncertain.
- How recurring investment income performs relative to investment gains, including the effects of interest rates and fair-value volatility in equity and alternative investments.
- Claims-payment cash needs, liquidity and debt maturities, particularly $447 million of scheduled debt maturities in 2019.
- Reinsurer recoverables of $1.932 billion, the quality and security of those balances, and the company’s ability to renew reinsurance at acceptable terms.
- Regulatory and operational impacts of Brexit, capital-standard developments, cybersecurity and privacy requirements, and the announced stock split and dividend policy.