Mercury General Corporation — FY 2015 Form 10-K
Reporting period: Fiscal year ended December 31, 2015; comparisons are primarily with FY 2014. Mercury General is a property-and-casualty insurer, principally writing personal automobile insurance through subsidiaries in 13 states. California generated about 81% of direct automobile premiums written; private passenger auto was 77.9% of total direct premiums written.
Financial and operating performance
| Metric | FY 2015 | FY 2014 | Change / context |
|---|---|---|---|
| Net premiums earned | $2,957.9 million | $2,796.2 million | Up 5.8% |
| Total revenues | $3,009.3 million | $3,011.8 million | Nearly flat; investment gains swung to losses |
| Net income | $74.5 million | $177.9 million | Down about 58%; diluted EPS was $1.35 versus $3.23 |
| Net realized investment gains (losses) | $(83.8) million | $81.2 million | Major driver of lower earnings |
| Net investment income | $126.3 million | $125.7 million | Pre-tax income increased slightly; after-tax yield declined |
| GAAP combined ratio | 99.2% | 98.8% | Underwriting remained profitable, but weakened slightly |
| Operating cash flow | $190.2 million | $246.5 million | Down $56.3 million, primarily from higher paid losses and expenses |
Net premiums written rose 5.6% to $2,999.4 million, reflecting higher average premiums after rate increases and growth in selected auto and homeowners businesses. The GAAP loss ratio increased to 72.5% from 71.0%; the expense ratio improved to 26.7% from 27.7%. FY 2015 included about $12.7 million of adverse prior-year reserve development and $19 million of catastrophe losses. Excluding prior-year development and catastrophe losses, the reported loss ratio was 71.5%, versus 70.7% in 2014.
At year-end, total investments were $3,380.6 million, cash was $264.2 million, total assets were $4,628.6 million, and shareholders’ equity was $1,820.9 million. Loss and loss-adjustment expense reserves were $1,146.7 million, up from $1,091.8 million. Notes payable were $290 million, unchanged year over year. Cash and short-term investments totaled about $449.5 million; management also cited $100 million of unused capacity under its $250 million revolving facility. The company reported compliance with debt covenants and minimum regulatory capital requirements; insurer RBC ratios were at least 375% of authorized control level.
Material changes and unusual items
- Net income fell substantially, chiefly as FY 2014’s $81.2 million investment gain became an $83.8 million loss in FY 2015. Investment fair-value movements are recognized in earnings under the company’s elected fair-value accounting.
- The California DOI’s $27.6 million civil penalty, accrued in 2014, was paid in March 2015. Mercury disputes the underlying findings and is seeking reversal and a refund; a court hearing was scheduled for June 13, 2016. A separate California DOI matter was settled for $1 million in March 2015.
- Mercury acquired Workmen’s Auto Insurance Company (WAIC) on January 2, 2015, adding a California non-standard auto product. It paid $8 million for the shares and made a $15 million capital contribution to WAIC.
- Shareholder dividends paid were $2.4725 per share in 2015, totaling $136.4 million. The board declared a $0.62 quarterly dividend in February 2016.
Outlook, risks and contingencies
- Management described the insurance market as hardening, with carriers generally raising rates, and reported implementing rate changes in 13 states in 2015. California rate approvals, including Proposition 103 requirements, can constrain or delay pricing responses.
- Management expected advertising spending of up to $42 million in 2016, following $44 million of net advertising expense in 2015. California auto policy and billing modules for the Guidewire system were expected to be implemented within two years.
- Key risks include California concentration, auto-insurance competition, rising claim frequency and severity, reserve-estimation uncertainty, catastrophes, regulatory rate limits, and investment-market exposure. Tax-exempt municipal bonds represented 72.9% of the investment portfolio’s fair value; a 100-basis-point rate increase was estimated to reduce bond-portfolio fair value by $94.7 million.
- The California Earthquake Authority could assess Mercury up to approximately $64.3 million based on information available at April 1, 2015; there was no assessment in 2015. Catastrophe reinsurance provided $100 million per occurrence above a $100 million retention, excluded Florida, and limited certain earthquake-related losses.
- The company was under California Franchise Tax Board examination for tax years 2003–2013, with proposed assessments for 2003–2010; management did not expect resolution to materially affect the consolidated statements. Management also stated that pending legal and regulatory matters were not expected, individually or collectively, to materially harm financial condition, results, or cash flows.
- Management’s statements are forward-looking and subject to risks; the filing does not provide formal earnings or premium guidance.
Most important facts for investors to verify
- Whether the California DOI $27.6 million penalty is reversed, refunded, or otherwise resolved, and the status of the separate false-advertising proceeding.
- Subsequent reserve development, especially for California homeowners and non-California auto, and whether claim frequency and severity trends persist.
- Whether premium-rate approvals and policy growth keep pace with claims costs, particularly in California.
- Investment portfolio performance and exposure to municipal bonds, interest rates, equity-market movements, and realized fair-value losses.
- Liquidity and holding-company dividend capacity: insurers could pay approximately $163.7 million in 2016 without extraordinary-dividend approval, subject to applicable restrictions.
- Auditors issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded disclosure controls were effective.