The Travelers Companies, Inc. — Q1 2014 Form 10-Q
Reporting period: Three months ended March 31, 2014. Unaudited consolidated results, compared with the three months ended March 31, 2013. Travelers is a property-and-casualty insurer with Business Insurance, Financial, Professional & International Insurance, and Personal Insurance segments. Unless noted, dollar amounts are in millions.
Financial performance
| Metric | Q1 2014 | Q1 2013 |
|---|---|---|
| Total revenue | $6,708 | $6,328 |
| Net income | $1,052 | $896 |
| Diluted earnings per share | $2.95 | $2.33 |
| Net investment income | $736 | $670 |
| Net cash provided by operating activities | $703 | $530 |
| GAAP combined ratio | 85.7% | 88.5% |
- Earned premiums rose 6% to $5,823. Net written premiums rose 5% to $5,873; growth was primarily attributed to the Dominion acquisition.
- Income before tax was $1,470, compared with $1,220. Income tax expense was $418, and the effective tax rate increased to 28% from 27%.
- The combined ratio improved 2.8 points. The loss and loss-adjustment expense ratio was 56.0%; the underwriting expense ratio was 29.7%.
- Net favorable prior-year reserve development was $294 ($190 after tax), versus $231 in Q1 2013. Catastrophe losses were $149 ($97 after tax), up from $99, primarily due to a winter storm affecting the Mid-Atlantic, Midwest and Southeast.
- Net investment income increased 10%. Fixed-maturity investment income declined $6 to $580, while non-fixed-maturity income rose $71 to $163, primarily from private-equity and real-estate partnerships.
Financial position, cash flow and capital
- At March 31, 2014, total assets were $104.1 billion, investments $73.7 billion, shareholders’ equity $25.4 billion, and debt $6.35 billion. Debt-to-total-capital was 20.0%, or 21.1% excluding after-tax unrealized investment gains, within the company’s stated 15%–25% target range.
- Cash was $260. Operating cash flow was $703; investing cash flow was $75; financing cash flow was negative $810, primarily reflecting repurchases and shareholder dividends.
- Holding-company cash and short-term invested assets were $1.64 billion, above its approximately $1.1 billion minimum target. A $1.0 billion credit facility supports an $800 million commercial-paper program; $100 million of commercial paper was outstanding.
- Shareholders’ equity increased from $24.8 billion at year-end 2013. Book value per common share was $73.06. Travelers repurchased 7.8 million shares under its authorization for $650 million and paid $176 million in dividends.
- After quarter-end, on April 22, the company announced a 10% increase in its quarterly dividend, from $0.50 to $0.55 per share, payable June 30, 2014.
Material changes and segment results
- Net income increased 17% and diluted EPS 27%; management attributed the higher per-share growth partly to share repurchases. Improved underlying underwriting margins and higher investment income contributed to earnings growth, partly offset by higher catastrophe losses.
- Business Insurance operating income increased 11% to $653. Its combined ratio improved to 87.7% from 89.4%; the lower expense ratio included the benefit of a $76 reduction in estimated state workers’ compensation assessments.
- Financial, Professional & International operating income increased 20% to $195. Earned premiums rose 42%, primarily reflecting Dominion, acquired November 1, 2013. Its combined ratio worsened to 83.8% from 82.3%; management noted Dominion historically has a higher loss ratio than the segment’s pre-existing business.
- Personal Insurance operating income increased 36% to $268 despite earned premiums declining 4%. Its combined ratio improved to 83.6% from 89.4%, with stronger prior-year reserve development and underwriting margins contributing. Agency written premiums declined; direct-to-consumer net written premiums rose 10% to $43.
- Other comprehensive income was $317, versus a $310 loss in Q1 2013, mainly reflecting a $537 pretax increase in unrealized gains on investment securities, compared with a $376 pretax decrease a year earlier.
Outlook, commentary and risks
- Management expected aggregate renewal price increases to exceed loss-cost trends for the remainder of 2014, with retention generally remaining strong. It expected Business Insurance renewal changes broadly consistent with Q1; Personal Insurance renewal changes to decline from Q1 but remain positive, subject to weather, loss trends, regulation and competition.
- Management expected Business Insurance underlying underwriting margins to improve year over year in the remainder of 2014; Financial, Professional & International margins broadly consistent with 2013; and Personal Insurance margins broadly consistent overall, with differing expectations by product line.
- Low reinvestment yields were expected to reduce fixed-maturity after-tax investment income by about $25 per quarter versus corresponding 2013 quarters, partly offset by about $5 per quarter from Dominion through November 1, 2014. Management also expected non-fixed-maturity investment income to be lower year over year.
- The company’s Agency Automobile expense-reduction plan targets $140 of annual pretax savings by 2015 when fully implemented. Quantum Auto 2.0 was being rolled out; management expected availability in about 90% of planned states by year-end. The direct-to-consumer business was expected to remain unprofitable for a number of years.
- Key uncertainties include catastrophe and other weather losses, reserve-estimation changes, asbestos and environmental claims and litigation, reinsurance recoverability, competitive pricing, economic conditions, interest rates and investment-market losses. Management said adverse asbestos/environmental developments could lead to material future charges, but additional liabilities could not then be reasonably estimated.
- Asbestos and environmental reserves were included in gross claims reserves; the filing identifies $2.88 billion of gross reserves for these claims. The company also disclosed a disputed reinsurance claim of $471, including $233 of unrecognized interest treated as a gain contingency, and $1.53 billion of unfunded investment commitments.
- The filing reported no material changes to the risk factors in the 2013 Form 10-K and no material changes in market-risk disclosures. Management concluded disclosure controls were effective, excluding Dominion’s internal controls from the assessment.
Investor verification priorities
- Assess how much earnings and the combined-ratio improvement depend on favorable prior-year reserve development and the $76 state-assessment benefit, and whether underlying margins persist.
- Track catastrophe and non-catastrophe weather losses, especially against the company’s renewal-pricing and loss-cost assumptions.
- Evaluate Dominion’s contribution, integration and underwriting performance, including the elevated segment loss ratio and management’s multi-year improvement expectations.
- Monitor the investment-income outlook, interest-rate sensitivity, portfolio valuation and credit quality; verify the effects of lower reinvestment yields and more volatile non-fixed-maturity returns.
- Review asbestos/environmental reserve adequacy and litigation, the reinsurance dispute and recoverables, capital returns, and the execution and economics of Quantum Auto 2.0 and the expense-reduction plan.