Progressive Corporation — 2018 First-Quarter Form 10-Q
Reporting period: Three months ended March 31, 2018; filed May 2, 2018. The company is a property and casualty insurer with Personal Lines, Commercial Lines, Property, service, and investment operations.
Financial Performance and Position
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net premiums earned | $7,174.0 million | $6,026.7 million | 19% |
| Total revenues | $7,430.1 million | $6,321.7 million | 18% |
| Income before taxes | $910.8 million | $641.5 million | 42% |
| Net income attributable to Progressive | $718.0 million | $424.3 million | 69% |
| Diluted earnings per share | $1.22 | $0.73 | 68% |
| Underwriting profit | $830.6 million | $500.0 million | 66% |
| Underwriting margin | 11.6% | 8.3% | Up 3.3 points |
| Combined ratio | 88.4% | 91.7% | Improved 3.3 points |
| Net cash from operating activities | $1,747.1 million | $1,104.4 million | 49% |
Net investment income increased to $160.3 million from $123.6 million, supported by growth in invested assets, the 2017 debt issuance, and higher portfolio yields. However, total net realized losses on securities were $48.2 million versus $51.9 million of gains in the prior-year quarter, primarily reflecting a $155.2 million holding-period loss on equity securities.
Catastrophe losses declined to $49.3 million from $111.0 million, and auto accident frequency decreased approximately 1.5%, although auto severity increased approximately 3%. Prior-year reserve development was unfavorable by $55.6 million, versus $111.2 million in Q1 2017, primarily from reopened personal injury protection claims and higher-than-expected Commercial Lines losses.
At March 31, 2018, total investments were $29.3 billion, total assets were $41.3 billion, shareholders’ equity was $10.3 billion, and cash, cash equivalents, and restricted cash were $196.6 million. Debt carrying value was $3.9 billion, with fair value of $4.0 billion. The debt-to-total-capital ratio was 27.2%.
Material Changes Versus the Prior Comparable Period
- Net premiums written increased 23% to $8.0 billion, while policies in force increased 12% to 18.9 million.
- Personal Lines underwriting profit increased to $707.1 million from $425.0 million; the margin improved to 11.6% from 8.2%.
- Commercial Lines underwriting profit increased to $94.8 million from $67.4 million, with premiums written up 40%.
- Property underwriting profit increased to $28.5 million from $7.8 million, with policies in force up 30%.
- The Q1 2018 effective tax rate declined to 19.9% from 32.9%, primarily due to the reduction in the U.S. federal corporate tax rate to 21%.
- Adoption of new financial-instrument accounting guidance moved changes in equity-security fair values into net income. Progressive recorded a $1.3 billion after-tax cumulative-effect adjustment from accumulated other comprehensive income to retained earnings; the adoption did not affect comprehensive income.
- Progressive issued $600 million of 4.20% senior notes due 2048 and $500 million of Series B perpetual preferred shares in March 2018, increasing capital to support expected premium growth.
- Investment portfolio fair value increased from $24.3 billion at March 31, 2017 and $27.3 billion at December 31, 2017 to $29.3 billion. The portfolio’s first-quarter FTE total return was negative 0.3%, versus positive 1.7% in Q1 2017.
Liquidity, Capital, Outlook, and Risks
Operating activities generated approximately $1.7 billion of cash. Investing activities used $2.2 billion, principally for purchases of fixed maturities, while financing activities provided $354.8 million from debt and preferred-share issuance, partially offset by common dividends and share repurchases.
Management stated that existing capital and operating cash flows are sufficient for expected operating needs, debt service, preferred dividends, contractual obligations, and other requirements for the foreseeable future. Additional capital may be required within the next 12 months if premium growth exceeds current expectations. The $250 million discretionary line of credit had no borrowings and was renewed in April 2018 through April 30, 2019.
The company expects to replace certain property catastrophe excess-of-loss reinsurance agreements expiring in the second quarter of 2018 with broadly similar coverage. Its 2018 aggregate stop-loss agreement provides up to $200 million of coverage if the applicable full-year accident-year loss and allocated adjustment expense ratio exceeds 63%.
In April 2018, minority ARX shareholders put 204,527 shares to Progressive for $295.9 million, increasing Progressive’s ownership of ARX from 68.9% to 86.7%. Progressive may reach 100% ownership by the end of the second quarter of 2021 under the stockholders’ agreement.
Key risks include catastrophe losses, reserve inadequacy, inflation and medical or repair-cost severity, changes in claim frequency, interest-rate and equity-market volatility, credit and reinsurance-counterparty risk, litigation, regulatory and rate-approval requirements, competitive pricing, capital-market access, technology and cybersecurity events, and the ability to retain and attract customers. The filing states that there were no material changes to the risk factors disclosed in the 2017 Form 10-K.
Important Facts for Investors to Verify
- Whether the exceptional underwriting margin is sustained as policy growth continues and catastrophe losses normalize.
- Development of personal injury protection, bodily injury, Commercial Lines, and other prior-year reserves.
- Future equity-market and interest-rate effects on net income, comprehensive income, book value, and the investment portfolio.
- Replacement terms, pricing, and limits for property catastrophe reinsurance expiring in Q2 2018.
- Capital requirements associated with continued premium growth and the $295.9 million ARX share acquisition.
- The final 2018 Gainshare factor and annual variable common dividend; the filing reported a year-to-date factor of 1.99, but the final amount remained subject to full-year results and Board approval.
- Accounting and tax effects still subject to clarification under the Tax Cuts and Jobs Act, including executive compensation deductibility and loss-reserve discounting.