RLI Corp. 2012 First-Quarter Form 10-Q Summary
Business Context and Reporting Period
RLI Corp. is a specialty property and casualty insurer operating through casualty, property and surety segments. This unaudited Form 10-Q covers the three months ended March 31, 2012, compared with the same period in 2011. Results include Contractors Bonding and Insurance Company (CBIC) from January 1, 2012; the 2011 comparison excludes CBIC.
Key Financial Metrics
| Metric | Q1 2012 | Q1 2011 | Change |
|---|---|---|---|
| Net premiums earned | $137.3 million | $116.1 million | +18% |
| Consolidated revenue | $164.0 million | $136.8 million | +20% |
| Underwriting income | $14.9 million | $20.9 million | -29% |
| Combined ratio | 89.1 | 82.0 | +7.1 points |
| Net investment income | $15.3 million | $16.3 million | -6% |
| Net realized investment gains | $11.4 million | $4.5 million | +$6.9 million |
| Earnings before income taxes | $41.1 million | $40.8 million | +1% |
| Net earnings | $28.0 million | $27.7 million | +1% |
| Diluted EPS | $1.30 | $1.30 | Flat |
| Comprehensive earnings | $38.8 million | $33.0 million | +18% |
Net earnings represented approximately 17.1% of consolidated revenue, compared with approximately 20.3% in the prior-year quarter. Underwriting income represented approximately 10.9% of net premiums earned. The effective tax rate was 32% in both periods.
Gross premiums written increased 23% to $176.0 million, with casualty up 29% to $84.4 million, property up 13% to $63.9 million and surety up 29% to $27.8 million. Segment combined ratios were 99.1 for casualty, 74.7 for property and 90.7 for surety.
Cash Flow, Liquidity, Debt and Capital
- Operating cash flow was negative $3.2 million, compared with positive $17.9 million in Q1 2011, primarily reflecting increased paid losses and normal first-quarter seasonality.
- Investing cash flow was negative $4.9 million and financing cash flow was negative $2.8 million. Cash decreased by $10.9 million to $70.3 million.
- Cash and short-term investments totaled $128.8 million at March 31, 2012. Total investments and cash were $1.95 billion.
- Shareholders’ equity was $828.7 million, compared with $792.6 million at December 31, 2011. Total assets were $2.68 billion and total liabilities were $1.85 billion.
- Long-term debt was $100.0 million in senior notes maturing in January 2014, with a 5.95% coupon. Debt represented approximately 10.8% of total capital.
- The company had no borrowings under its $25 million revolving credit facility, which could be increased to $50 million under specified conditions. Management stated that available liquidity should meet anticipated needs over the next 12 to 24 months.
- The quarterly dividend increased to $0.30 per share from $0.29 in the prior-year quarter. No share repurchases were made during the quarter.
Material Changes Versus the Prior Comparable Period
- Revenue growth was driven by CBIC, new product initiatives, expansion and improved pricing in selected lines.
- Underwriting profitability declined despite premium growth. The combined ratio increased to 89.1 from 82.0, reflecting higher current accident-year loss ratios and higher acquisition expenses.
- Casualty underwriting income fell to $0.6 million from $5.5 million, while property underwriting income increased to $11.9 million from $10.0 million. Surety underwriting income declined to $2.5 million from $5.4 million.
- Favorable prior-year reserve development contributed $7.7 million of pretax earnings in Q1 2012, compared with $12.2 million in Q1 2011. The 2012 result also included a $1.2 million reduction in reinsurance reinstatement premiums related to favorable marine development.
- Net realized investment gains increased substantially due to sales of equities and corporate bonds, partially offsetting lower investment income from reduced reinvestment yields.
- Adoption of ASU 2010-26 retrospectively reduced December 31, 2011 deferred policy acquisition costs by $40.3 million and shareholders’ equity by $26.2 million after tax, or $1.24 per share. The revised Q1 2011 comparison benefited net earnings by $1.2 million, while Q1 2012 expenses increased by approximately $1.6 million, reducing EPS by $0.05.
Outlook, Risks, Contingencies and Unusual Items
- No quantitative earnings or premium guidance was provided. Management emphasized underwriting profitability over premium growth or market share.
- The insurance market remained competitive and generally soft, although management reported stabilization in primary and reinsurance pricing.
- Key risks include reserve-estimation uncertainty, inflation, legal and regulatory developments, catastrophe exposure, economic conditions, pricing competition, and adverse development in casualty and contract surety claims.
- Property catastrophe exposure is concentrated principally in earthquakes and hurricanes. The company manages exposure through geographic limits, reinsurance and catastrophe modeling.
- At March 31, 2012, fixed-income unrealized losses were $6.0 million and equity unrealized losses were $1.5 million. No other-than-temporary impairment losses were recognized; management reported a high-quality portfolio and no Level 3 fair-value assets.
- On April 5, 2012, after quarter-end, $50.0 million of cash collateral related to a large commercial surety account was returned. The company substituted $25.0 million of irrevocable letters of credit for part of the collateral, and the cash return will reduce Q2 2012 operating cash flow.
- Dividend payments from the principal insurance subsidiary require Illinois regulatory approval in 2012 because prior extraordinary distributions exceeded the ordinary dividend limitation.
- Management reported no material changes in legal proceedings or risk factors and concluded that disclosure controls were effective.
Important Facts for Investors to Verify
- Whether premium growth from CBIC and new products translates into sustainable underwriting margins after acquisition and expansion costs.
- The durability of favorable reserve development, particularly in casualty, property catastrophe and contract surety lines.
- The impact of the $50 million collateral return on second-quarter operating cash flow and liquidity.
- The refinancing or repayment plan for the $100 million senior notes maturing in January 2014.
- The effect of interest rates on reinvestment income, fixed-income valuations and the company’s 4.7-year fixed-income duration.
- Whether retrospective accounting changes and accelerated acquisition-cost expense affect comparability of future combined ratios and earnings.