Business context and reporting period
Selective Insurance Group, Inc. is a property-and-casualty insurance holding company operating standard commercial and personal lines, excess-and-surplus (E&S) insurance, and an investment portfolio. This Form 10-K covers the fiscal year ended December 31, 2013; it is an annual report, not a stand-alone fourth-quarter filing.
Financial performance and key metrics
| Metric | FY 2013 | FY 2012 |
|---|---|---|
| Net premiums written | $1.810 billion | $1.667 billion |
| Net premiums earned | $1.736 billion | $1.584 billion |
| Total revenue | $1.904 billion | $1.734 billion |
| Net investment income | $134.6 million | $131.9 million |
| Net income | $106.4 million | $38.0 million |
| Diluted EPS | $1.87 | $0.68 |
| Operating income (non-GAAP) | $93.9 million | $32.1 million |
| GAAP combined ratio | 97.8% | 104.0% |
| Statutory combined ratio | 97.5% | 103.5% |
| Operating return on average equity (non-GAAP) | 8.4% | 3.0% |
| Operating cash flow | $336.1 million | $226.7 million |
Underwriting returned to profit: statutory underwriting profit was $19.4 million, versus an $82.1 million loss in 2012. Premium growth reflected renewal pricing, retention and new business; net premiums written increased 9%. Catastrophe losses were $47.4 million, or 2.7 combined-ratio points, compared with $98.6 million and 6.2 points in 2012. Prior-year reserve development was favorable by $25.5 million, but included $23.5 million of unfavorable workers’ compensation development.
At year-end, total assets were $6.270 billion, stockholders’ equity was $1.154 billion, and notes payable were $392.4 million. Debt-to-capitalization was 25.4%, up from 22.0%. Cash and short-term investments were $174 million, down from $215 million, primarily as elevated liquidity held for Hurricane Sandy claim payments was used. The company reported $336.1 million of operating cash flow, $391.0 million of net cash used in investing activities, and $54.9 million of net cash from financing activities. Its investment portfolio totaled $4.583 billion, about 90% fixed maturities; pre-tax portfolio yield was 3.0%, down from 3.1%. The Board declared $0.52 per share in dividends for the year.
Material changes versus the prior comparable period
- Net income rose to $106.4 million from $38.0 million, driven principally by the swing to underwriting profit and lower catastrophe losses; net realized investment gains also increased to $20.7 million from $9.0 million.
- The combined ratio improved by 6.2 points on a GAAP basis. Standard Insurance Operations produced a 97.1% statutory combined ratio; E&S remained slightly unprofitable at 102.9%.
- Gross loss reserves fell to $3.350 billion from $4.069 billion, largely because Hurricane Sandy flood reserves recoverable under the federal NFIP program declined as claims were paid. Net loss reserves increased to $2.809 billion from $2.659 billion.
- Investment portfolio unrealized gains before tax declined to $79.2 million from $188.2 million, principally reflecting higher interest rates. Comprehensive income decreased to $77.2 million from $49.7 million despite higher net income, with the 2013 investment-related OCI loss contributing to the difference.
- The company issued $185 million of 5.875% senior notes due 2043 and redeemed $100 million of 7.5% junior subordinated notes. Total debt increased, while the $30 million revolving credit facility remained unused.
Outlook, commentary, risks and unusual items
Management targeted a 92% statutory combined ratio excluding catastrophe losses in 2014, excluding assumed catastrophe losses of approximately four points and prior-year development. It expected renewal pure price increases of 6%–7% in Commercial Lines, 6.25% in Personal Lines and 8.5% in E&S. Management expected E&S to achieve profitability more comparable to Standard Commercial Lines, after-tax investment income of approximately $100 million, and year-end weighted-average shares of approximately 57.4 million. These are management expectations, not guarantees.
Investment income faces pressure as higher-yielding bonds mature and are reinvested at lower yields: 2013 purchases averaged a 1.4% after-tax yield versus 2.4% on bonds that matured or were sold. Management cited renewal pricing exceeding expected loss-cost trends, but noted that catastrophe losses, casualty claim severity, competition and reserve development remain uncertain.
- Reserve and claim uncertainty: Management estimated a reasonable net loss-reserve range of $2.574–$2.966 billion at December 31, 2013. Workers’ compensation medical severity and long-tail general-liability claims are key sensitivities; asbestos and environmental estimates are especially uncertain.
- Catastrophe and terrorism exposure: Risks include severe weather and geographic concentration, particularly New Jersey (23.1% of 2013 net premiums written). TRIPRA was scheduled to expire December 31, 2014; the company’s 2014 terrorism deductible was estimated at approximately $234 million.
- Capital markets and liquidity: Rising rates can reduce fixed-income fair values; persistently low rates can constrain reinvestment income. Alternative investments are less liquid and subject to valuation uncertainty, with approximately $56.5 million of possible future commitments.
- Ratings and regulation: A.M. Best affirmed an A rating with stable outlook; S&P lowered the insurer rating to A- with stable outlook, while Moody’s A2 and Fitch A+ outlooks were negative. Insurer dividend payments to the parent are regulated and could affect parent liquidity.
- Flood program and litigation: NFIP reform and carrier compensation remain uncertain. The filing describes ordinary-course claims and other litigation, including putative class actions; management did not expect the matters to materially affect consolidated financial condition, but noted adverse outcomes could affect results or cash flows in individual periods.
- Subsequent event: The company estimated January 2014 catastrophe losses of $28–$32 million from severe cold associated with the polar vortex.
- Other unusual items: A 2013 pension-plan amendment curtailing future benefit accruals after March 31, 2016 reduced the reported benefit obligation and contributed to a significant actuarial gain in OCI. A $1.5 million impairment related to the final settlement of the discontinued Selective HR sale receivable was recorded in 2013.
KPMG issued unqualified opinions on the consolidated financial statements and internal control over financial reporting as of year-end.
Most important facts for investors to verify
- Whether 2014 underwriting improvement and the 92% catastrophe-excluded combined-ratio target are achieved, and how results compare after actual catastrophe losses and reserve development.
- Workers’ compensation reserve adequacy, including medical severity trends, and the extent to which favorable development in other lines persists.
- The magnitude and terms of January 2014 catastrophe losses and subsequent catastrophe or terrorism exposure, including reinsurance recoveries and TRIPRA developments.
- Whether investment income can meet management’s outlook as reinvestment yields decline, and how interest-rate changes affect portfolio values, equity and statutory capital.
- Debt, covenant headroom, rating outlooks, and the availability of regulated subsidiary dividends to fund parent-company debt service and shareholder dividends.
- E&S segment progress toward consistent underwriting profitability and the liquidity and valuation risks of alternative-investment commitments.