W. R. Berkley Corporation — 2012 Form 10-K
Business context and reporting period. W. R. Berkley is a commercial property-and-casualty insurance holding company operating in Specialty, Regional, Alternative Markets, Reinsurance and International. This annual report covers the fiscal year ended December 31, 2012; the filing also reports fourth-quarter results. Financial statements received an unqualified audit opinion, and the auditor reported effective internal control over financial reporting.
Financial performance and position
| Metric | 2012 | 2011 |
|---|---|---|
| Total revenue | $5.824 billion | $5.156 billion |
| Net premiums written | $4.899 billion | $4.357 billion |
| Net premiums earned | $4.674 billion | $4.161 billion |
| Income before tax | $701.9 million | $513.1 million |
| Net income to common stockholders | $510.6 million | $391.2 million |
| Diluted earnings per share | $3.56 | $2.69 |
| Operating cash flow | $675.5 million | $670.3 million |
| Total assets | $20.156 billion | $18.404 billion |
| Common stockholders’ equity | $4.306 billion | $3.953 billion |
- Net income increased 31%; management attributed the improvement primarily to higher investment gains, underwriting income and investment income.
- The consolidated loss ratio improved to 63.1% from 63.9%; the expense ratio improved to 34.1% from 34.6%. The combined ratio fell to 97.2% from 98.5%, indicating underwriting profitability before investment income.
- Net investment income rose 12% to $586.8 million. Net investment gains were $210.5 million, versus $125.5 million; 2012 gains included sales of a private-equity investment and equity securities. Fixed-maturity yield declined to 3.7% from 4.0%, while investment-fund income rose substantially.
- Cash flow from operations was $675.5 million. About 82% of the investment portfolio was in cash, cash equivalents and marketable fixed-income securities; cash and cash equivalents were $905.7 million at year-end.
- Debt carrying value was $2.115 billion, including $243.2 million of junior subordinated debentures and $1.872 billion of senior notes and other debt. Total capitalization was $6.4 billion; debt represented 33% of capital, compared with 31% a year earlier. The company issued $350 million of 4.625% senior notes due 2022 in 2012. A $200 million note due February 15, 2013 was repaid at maturity after year-end.
- Gross reserves for losses and loss expenses were $9.751 billion, including $8.412 billion net reserves. The portfolio included $11.944 billion in fixed-maturity securities and $2.8 billion in equity, arbitrage, investment-fund and real-estate-related assets, as characterized by the filing.
Material changes and segment performance
- Gross premiums written increased 14% to $5.780 billion; net premiums written increased 12%. Growth reflected rate increases, increased exposures and expansion into new geographic and product markets. Average renewal rates rose 6.4%, while renewal retention declined to 78.3% from 80.1%.
- International was the fastest-growing segment: gross premiums rose 22%. Specialty grew 14%, Alternative Markets 17%, Reinsurance 12%, and Regional 6%.
- Regional’s combined ratio improved to 96.1% from 104.1%. Reinsurance improved to 100.6% from 102.1%, but remained slightly above breakeven. International improved to 100.1% from 100.7%, also near underwriting breakeven. Specialty’s ratio increased to 95.5% from 92.0%; Alternative Markets improved to 97.3% from 99.0%.
- Favorable prior-year reserve development decreased to $102.6 million from $181.3 million. Catastrophe losses, net of reinsurance, fell to $80 million from $153 million. Excluding catastrophe losses and prior-year development, the consolidated loss ratio improved to 63.6% from 64.6%.
- Dividends paid totaled $183.9 million, including a $1.00-per-share special dividend in addition to regular dividends. The company repurchased shares and reported 136.0 million common shares outstanding at year-end.
Outlook, commentary and key risks
- The filing provides no specific earnings or revenue guidance. Management said prices increased in 2012, but loss costs were also rising and pricing in some lines remained below levels needed to meet long-term return objectives. Recent rate increases are expected to flow into earned premiums over subsequent quarters.
- Management highlighted the cyclical and competitive insurance market, uncertain claims severity and frequency, reserve estimation and inflation, emerging coverage issues, catastrophe exposure, and the potential volatility of investment returns. It cautioned that revenue growth does not necessarily translate into comparable earnings growth.
- Low interest rates may constrain reinvestment income and affect fixed-income values. The company’s fixed-maturity portfolio had a 3.4-year duration; its disclosed sensitivity scenario estimated a $470.9 million fair-value decline for a 100-basis-point parallel rate increase.
- Reinsurer credit is a material consideration: amounts due from reinsurers were approximately $1.450 billion, including residual-market pools. Reinsurance does not discharge the company’s obligations to policyholders.
- The company’s TRIA deductible for 2013 was estimated at approximately $618 million; the federal program was scheduled to expire December 31, 2014, with extension uncertain at the filing date.
- InsurBanc had agreed to sell its assets and deposit liabilities, with closing expected in the first half of 2013 subject to approvals and other conditions. The company expected the transaction to permit deregistration as a savings-and-loan holding company; restrictions could continue if the expected process did not occur.
- Ordinary-course insurance litigation was not expected by management to have a material adverse effect, though adverse outcomes were possible. The filing notes uncertainty in asbestos and environmental claims estimates, despite stating those claims had not materially affected operations.
Most important facts for investors to verify
- Whether underwriting improvement persists after allowing for lower catastrophe losses and favorable reserve development, and whether rising loss costs are matched by pricing.
- The adequacy and sensitivity of long-tail loss reserves, including the effect of inflation, claim trends and assumed-reinsurance reporting delays.
- The repeatability of 2012 investment gains and unusually high investment-fund income, alongside falling fixed-maturity yields and interest-rate exposure.
- The collectability and concentration of reinsurance recoverables, and the adequacy and cost of catastrophe protection.
- Completion and regulatory consequences of the InsurBanc sale, and the resulting availability of subsidiary dividends to the holding company.
- Debt maturities, capital deployment and dividend sustainability, particularly given the special dividend and ongoing share repurchases.