Donegal Group Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended September 30, 2020. Donegal is a property-and-casualty insurer operating through independent agents in personal and commercial lines. Its largest subsidiary participates in a 80%/20% underwriting pool with Donegal Mutual. Figures below are in U.S. dollars; amounts are rounded where shown.
Key financial results
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Total revenue | $196.5 million | $198.0 million | $580.3 million | $611.5 million |
| Net premiums earned | $184.9 million | $189.8 million | $556.6 million | $566.7 million |
| Net income | $11.8 million | $5.2 million | $38.2 million | $33.0 million |
| Diluted EPS, Class A / Class B | $0.41 / $0.37 | $0.18 / $0.16 | $1.33 / $1.21 | $1.17 / $1.06 |
| Combined ratio | 98.3% | 100.6% | 95.9% | 100.7% |
| Operating cash flow | Not separately provided for the quarter | $68.5 million | $48.4 million |
- Q3 revenue declined 0.8% year over year, while net income more than doubled. For the first nine months, revenue fell 5.1% and net income rose 15.9%.
- Underwriting improved: combined ratios below 100% indicate underwriting profit. Q3 statutory combined ratio was 97.7% versus 100.8%; the nine-month ratio was 94.7% versus 99.5%.
- Q3 net premiums written declined 1.7% to $180.8 million; nine-month net premiums written fell 1.5% to $572.7 million. Commercial premiums written grew 4.3% in Q3 and 5.2% year to date, while personal premiums written declined 8.0% and 9.3%, respectively.
- Investment income was essentially flat at $7.4 million in Q3 and increased to $22.0 million for nine months. Investment results shifted from a $19.3 million gain in 2019’s first nine months to a $0.9 million loss in 2020, largely reflecting the prior-year $12.7 million gain from the sale of Donegal Financial Services Corporation.
- At September 30, total assets were $2.14 billion, stockholders’ equity $504.1 million, cash $87.9 million and investments $1.21 billion. Cash increased from $49.3 million at year-end 2019.
- Borrowings under lines of credit were $85 million, up from $35 million at year-end; the balance comprised $35 million due August 2024 and a $50 million FHLB advance due March 2021. The company also had $5 million of subordinated debentures. A separate $20 million M&T demand line was undrawn.
Changes, outlook and risks
- Management attributed lower loss costs in part to reduced personal-auto claim frequency during periods of lower driving activity and to underwriting actions. Nine-month prior-year reserve development was favorable by $10.3 million, compared with $7.9 million favorable in 2019; Q3 2020 instead had approximately $0.5 million unfavorable development.
- Q3 weather losses were $16.9 million, above the prior-year $13.9 million but described as comparable to the five-year average. Nine-month weather losses were $42.5 million, also described as near the historical average.
- Expense ratio increased to 31.9% in Q3 from 30.5%, and to 33.2% for nine months from 31.5%. The company cited technology modernization costs, agent growth incentives and underwriting-based incentives; the nine-month period also included $2.0 million of reserves for potential uncollectible premiums associated with COVID-19 disruption.
- COVID-19 created uncertainty around demand, premium collections, claim costs, coverage disputes and potential legislative or regulatory changes, as well as investment values and reinvestment yields. Management provided no specific earnings or premium guidance and cautioned that nine-month results are not necessarily indicative of full-year results.
- Loss reserve adequacy is a key estimation risk: management said a 1% change in net loss reserves would affect pretax results by approximately $5.4 million. It also noted bodily-injury claim severity and litigation settlement trends as areas of uncertainty.
- On October 15, the board declared quarterly dividends of $0.15 per Class A share and $0.1325 per Class B share, payable November 16, 2020. Insurance-subsidiary dividends are subject to regulatory and statutory-capital limits.
- Management reported effective disclosure controls. The first phase of a multi-year systems modernization effort was implemented in February 2020; related control changes were validated. No material legal proceedings were reported.
Most important facts for investors to verify
- Whether favorable year-to-date reserve development and reduced auto claim frequency persist, and whether commercial-auto and commercial multi-peril performance improves; Q3 commercial statutory combined ratio was 102.4%.
- How COVID-19 affects premium growth, premium collectability, claims, coverage litigation and investment results, including the sustainability of the $2.0 million premium-credit reserve.
- The adequacy and sensitivity of loss reserves, including the reported $5.4 million pretax impact for each 1% change in net reserves.
- Repayment or refinancing plans for the $50 million FHLB advance due March 2021, and the company’s liquidity after dividends and insurance-subsidiary capital requirements.
- Investment portfolio exposure to market and credit changes, and the extent to which investment gains or losses affect reported earnings.