Business context and reporting period
Horace Mann Educators Corporation filed this unaudited Form 10-Q for the quarter ended September 30, 2015. The insurer principally serves K-12 educators and their families through property and casualty, annuity, and life products. KPMG’s interim review found no material modifications necessary; it was not an audit.
Unless otherwise noted, financial amounts below are in millions of dollars.
Financial performance and position
- Revenue: Third-quarter revenue was $265.8, essentially unchanged from $265.5 a year earlier. Nine-month revenue was $804.3, up 1.6% from $791.5. Nine-month earned premiums and contract charges rose 2.1% to $544.9; net investment income increased 0.5% to $248.3.
- Profit: Third-quarter net income was $22.0 versus $25.4; diluted EPS was $0.52 versus $0.60. Nine-month net income was $72.4 versus $74.2; diluted EPS was $1.71 versus $1.76.
- Segment results, nine months: Property and casualty net income rose to $32.1 from $30.7; annuity income declined to $33.0 from $34.1; life income declined to $10.6 from $12.8.
- Insurance results: The property and casualty combined ratio improved to 96.5% from 97.5%. The nine-month loss ratio was 70.2% in both periods, while catastrophe losses increased to $36.8 from $35.5. Favorable prior-year reserve development was $10.0 versus $11.4.
- Investment and interest metrics: Nine-month pretax investment yield was 5.09%, down from 5.33%. The fixed-annuity net interest spread was 185 basis points versus 205 basis points. Year-to-date net realized investment gains were $8.8, including $16.5 of impairment charges, largely on Puerto Rico and energy-sector securities.
- Cash flow: Nine-month operating cash flow was $159.5 versus $165.6. Investing used $244.0, while financing provided $122.7. Cash at September 30 was $49.9, compared with $11.7 at year-end 2014.
- Assets, equity and liquidity: Total assets were $9,903.5 and shareholders’ equity was $1,307.2. Investments totaled $7,541.2, including $7,078.7 of available-for-sale fixed maturities. Book value per share was $32.09, or $26.52 excluding investment fair-value adjustments. Total debt was $238.0: $113.0 under the bank facility and $125.0 of senior notes due April 2016. The $150.0 facility had $37.0 unused capacity.
Material changes versus comparable periods
- Third-quarter earnings fell amid higher current-year automobile loss severity, weaker alternative-investment returns, and lower realized investment gains; improved underlying homeowners results partly offset these items.
- Nine-month earnings declined despite higher earned premiums and improved combined ratio. Automobile severity and life mortality costs pressured results; homeowners results improved.
- Annuity deposits increased 16.7% year to date, but approximately $30 million of the increase related to changes in employee retirement savings plans. Excluding that effect, consolidated and annuity deposit growth was approximately 5% and 8%, respectively.
- Net unrealized investment gains declined from year-end as credit spreads widened. The company reported $57.2 of gross unrealized losses on $1,680.6 fair value of securities in loss positions and considered those losses temporary.
- The $75.0 senior-note maturity in June was repaid using an additional $75.0 borrowing under the bank facility, shifting the debt composition rather than reducing total debt materially.
Outlook, management commentary and risks
- Management estimated 2015 full-year net income before realized investment gains and losses of $2.10–$2.20 per diluted share and maintained a mid-90s full-year property and casualty combined-ratio expectation. The outlook assumed continued elevated automobile severity and anticipated catastrophe losses, partly offset by favorable homeowners trends.
- Management expected continued pressure on annuity investment income from low rates, with a full-year net interest spread in the mid-180-basis-point range. It anticipated fixed-annuity spread compression because about 86% of deferred annuity balances were credited at minimum guaranteed rates.
- Potential early refinancing of the 2016 notes could add approximately $0.05 per diluted share in make-whole and non-deferrable issuance costs; those costs were excluded from the outlook.
- Key risks include low interest rates and reinvestment risk, investment credit and market-value changes, automobile loss severity, catastrophe exposure and reinsurance availability, mortality experience, and educator-market employment or budget pressures. The company was continuing Florida homeowners risk mitigation; its identified Florida non-renewal program had terminated all targeted policies by June 30, 2015.
- In the first quarter, an immaterial out-of-period correction related to restricted-stock-unit valuation reduced incentive compensation expense and increased nine-month net income by $3.012 after tax. Management reported no material changes to previously disclosed risk factors and no material weaknesses in disclosure controls.
- Unfunded investment-purchase and bridge-loan commitments totaled $115.4. Management stated operating cash flows were expected to cover operating needs over the next 12 months.
Important facts for investors to verify
- How the $3.012 million after-tax compensation correction affected reported earnings and the property and casualty combined ratio.
- Whether elevated automobile severity, catastrophe losses, and reserve development track management’s assumptions and the 2015 outlook.
- The extent and subsequent performance of the $16.5 million year-to-date investment impairments, particularly Puerto Rico and energy exposures, and the unrealized-loss portfolio.
- Progress refinancing or repaying the $125 million notes due April 2016, including any costs and use of bank-facility capacity.
- Whether fixed-annuity spreads, minimum-rate guarantees, and reinvestment yields remain consistent with management’s expectations.