ERIE Indemnity Company — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015; unaudited. The consolidated statements include Erie Indemnity Company (“Indemnity”) and the Erie Insurance Exchange (“Exchange”), a variable interest entity. Exchange results are largely attributable to policyholders as noncontrolling interest, not Indemnity shareholders.
Financial performance
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Consolidated total revenues | $1.605 billion | $1.511 billion | +6.2% |
| Income before tax and noncontrolling interest | $197 million | $156 million | +26.3% |
| Consolidated net income | $136 million | $109 million | +24.8% |
| Net income attributable to Indemnity shareholders | $39 million | $46 million | −15.2% |
| Indemnity Class A EPS, basic / diluted | $0.83 / $0.74 | $0.99 / $0.88 | Lower |
| Net cash from operating activities | $90 million | $54 million | +$36 million |
- Revenue drivers: Premiums earned were $1.402 billion, up from $1.288 billion. Property and casualty (P&C) earned premiums increased 8.9%; net investment income was $113 million versus $109 million. Net realized investment gains were $56 million in both periods, while limited partnership earnings declined to $28 million from $50 million and impairment losses were $2 million versus none reported in 2014.
- P&C underwriting: Direct written premiums grew 7.7% to $1.377 billion. The combined ratio improved to 102.8% from 108.3%, but remained above 100%, indicating an underwriting loss. The loss ratio was 74.8% versus 79.5%; underwriting loss was $39 million versus $104 million.
- Indemnity management operations: Management fee revenue rose 7.7% to $343 million, reflecting premium growth; the fee rate remained at its 25% maximum. Costs increased 11.4% to $298 million, reducing gross margin to 14.9% from 17.9% and segment income to $53 million from $58 million.
- Life operations: EFL income before tax was $10 million versus $13 million. Revenue fell 3.8% to $47 million, principally because prior-year realized gains were not repeated.
Financial position, liquidity and capital
- At March 31, total assets were $17.993 billion, liabilities $9.856 billion and total equity, including Exchange noncontrolling interest, $8.137 billion. Indemnity shareholder equity was $710 million; Exchange noncontrolling interest was $7.427 billion.
- Total investments were $14.950 billion, up from $14.669 billion at year-end. Cash and cash equivalents were $420 million, down from $514 million; this included $58 million held by Indemnity and $362 million by the Exchange.
- Operating cash flow was $90 million; investing cash outflow was $155 million and financing cash outflow was $29 million. The net cash decrease was $94 million. Indemnity’s standalone operating cash flow was negative $15 million.
- No borrowings were outstanding on either revolving credit facility. Indemnity had $98 million available under its $100 million facility; the Exchange had $299 million available under its $300 million facility. Both were in covenant compliance. These facilities and the entities’ assets are separate; Indemnity has no rights to Exchange assets or credit.
- No conventional borrowings are reported as outstanding. The Exchange’s principal insurance obligations included $3.966 billion of gross P&C loss reserves and $2.845 billion of unearned premiums.
- Indemnity declared Q1 dividends of $0.681 per Class A share and $102.15 per Class B share. Approximately $18 million remained under its share repurchase authorization; no shares were repurchased in the quarter.
Changes, outlook and risks
- Management attributed the improved consolidated result mainly to a smaller P&C underwriting loss, reflecting premium growth, lower current-year weather losses and more favorable prior-year reserve development. Investment earnings were lower, primarily due to reduced limited partnership earnings.
- Management reported no formal earnings guidance. It expected operating cash needs to be met from operations and stated that available funding sources were sufficient for 2015, while noting that investment-market volatility could impair asset liquidity or force sales at discounts.
- In April 2015, a limited partnership reported an estimated valuation increase expected to add approximately $7 million to Indemnity and $28 million to the Exchange’s Q2 2015 partnership earnings. Q1 partnership results generally reflect Q4 2014 activity because of a reporting lag.
- Limited partnership commitments totaled $493 million: $24 million for Indemnity and $469 million for the Exchange. The filing also identifies insurance reserve estimation, catastrophe losses, inflation, reinsurance collectability, investment valuation and market liquidity as risks.
- An ongoing unclaimed-property audit may lead to additional death claims, escheatment payments or fines; the company could not reasonably estimate the potential loss. A new consolidation accounting standard was under evaluation, with its impact expected to be assessed during Q2 2015.
- Litigation includes a policyholder lawsuit alleging approximately $308 million in improperly retained service charges. On April 29, 2015, the Pennsylvania Insurance Department found the challenged practices compliant with applicable insurance laws and returned jurisdiction to the state court; related litigation and appeals remained ongoing. The filing states that ordinary-course litigation accruals were not expected to be material, but outcomes are uncertain.
Most important facts for investors to verify
- Whether P&C underwriting improvement persists and the combined ratio moves below 100%, especially as catastrophe losses and reserve development vary.
- Whether Indemnity shareholder earnings and management-operation margins recover, given Q1 consolidated net income rose while Indemnity-attributable income and EPS fell.
- Realization and timing of the estimated Q2 limited partnership gains, and the effect of the portfolio’s reporting lag and valuation uncertainty.
- Developments in the service-charge litigation, unclaimed-property audit and West Virginia EFL appeal, including any change in estimated exposure.
- Liquidity and capital adequacy at each legally separate entity, and the ability to fund the $493 million of partnership commitments without borrowing or forced investment sales.