American Financial Group, Inc. — Q2 2021 Form 10-Q
Reporting period: Three and six months ended June 30, 2021. AFG’s continuing business is primarily specialty property and casualty (P&C) insurance. The annuity business was sold to MassMutual effective May 31, 2021; its results are reported as discontinued operations, so reported earnings include a substantial divestiture-related gain.
Financial performance and position
| Metric | Q2 2021 | Q2 2020 | Six months 2021 | Six months 2020 |
|---|---|---|---|---|
| Continuing-operations revenue | $1.531bn | $1.445bn | $3.040bn | $2.500bn |
| Continuing pretax earnings (loss) | $288m | $140m | $623m | $(45)m |
| Net earnings attributable to shareholders, including discontinued operations | $1.002bn | $177m | $1.421bn | $(124)m |
| Diluted EPS, continuing operations | $2.81 | $1.26 | $5.90 | $(0.31) |
| Diluted EPS, total | $11.70 | $1.97 | $16.51 | $(1.38) |
| Core net operating earnings, a non-GAAP measure | $205m ($2.39/share) | $60m ($0.67/share) | $411m ($4.78/share) | $185m ($2.04/share) |
- P&C premiums and underwriting: Q2 net earned premiums were $1.250bn, up 6%; first-half premiums were $2.423bn, up 1%. Gross written premiums rose 25% in Q2 and 13% in the first half. Specialty combined ratios improved to 87.9% in Q2 from 95.2%, and to 88.2% for the first half from 93.7%; below 100% indicates underwriting profit. P&C underwriting profit was $152m in Q2 and $286m in the first half.
- Investment income: Continuing net investment income was $164m in Q2 versus $88m, and $352m for the first half versus $192m. The increase chiefly reflected stronger alternative investment results; other investment income was pressured by lower fixed-maturity yields and short-term rates.
- Cash flow: First-half operating cash flow was $970m versus $1.087bn; investing cash flow was $661m versus $(1.296)bn, including the annuity sale; financing cash flow was $(1.076)bn versus $593m. Ending cash and equivalents were $3.365bn. Financing outflows included $306m of share repurchases and $1.271bn of common dividends, including the $14-per-share special dividend.
- Balance sheet and debt: Total assets were $28.780bn and shareholders’ equity $5.601bn at June 30, compared with $73.710bn and $6.789bn at year-end. The sharp asset reduction principally reflects the annuity sale and discontinued-operation presentation. Long-term debt carrying value was $1.963bn (principal $1.993bn), unchanged from year-end. Debt-to-capital was 27.0% including subordinated debt and 17.8% excluding it. A $500m revolving facility was undrawn.
- Liquidity and investments: Cash and investments totaled $16.125bn, including $9.732bn of available-for-sale fixed maturities. Management said the parent and insurance subsidiaries had sufficient liquidity and capital. A 100-basis-point immediate rise in interest rates was estimated to reduce fixed-maturity fair value by approximately $244m pretax.
Material changes and unusual items
- AFG completed the annuity-business sale on May 28, effective May 31, for approximately $3.57bn in proceeds. The sale generated a $697m after-tax gain in Q2; the first-half after-tax gain was $656m after $41m of sale-related tax liabilities recognized in Q1. Discontinued operations contributed $762m of Q2 and $914m of first-half net earnings, so total GAAP earnings substantially exceed continuing/core operating results.
- First-half continuing earnings improved from a loss to profit, reflecting higher P&C underwriting profit and investment income and $120m of realized securities gains versus $220m of losses in 2020. Realized gains were largely driven by equity-security fair-value changes and are not necessarily indicative of recurring earnings.
- AFG recorded $11m pretax from settling pension liabilities in a small former manufacturing operation. It also recognized a $4m pretax gain from contingent consideration on the Neon sale.
- Accumulated other comprehensive income fell to $190m from $1.273bn, including the reclassification of unrealized gains associated with subsidiaries sold. Equity also reflects substantial dividends and share repurchases.
- On August 2, 2021, after quarter-end, AFG paid an additional $2-per-share special dividend, approximately $170m. Management said it would continue evaluating capital returns and investment in core businesses.
Outlook, commentary and risks
- AFG provided no specific numerical earnings or premium guidance in the supplied filing text. Management expected pandemic-related effects to continue through 2021 and said subsidiary capital levels were at or above ratings-agency requirements.
- Management cited higher renewal pricing and increased exposures as drivers of P&C premium growth. Average renewal rates increased approximately 9% in Q2 and 10% in the first half; excluding workers’ compensation rate decreases, increases were approximately 12% and 13%, respectively.
- COVID-19-related P&C losses were $11m in the first half of 2021 versus $95m in the comparable 2020 period. Approximately 66% of the $96m of COVID-related losses remained in incurred-but-not-reported reserves at June 30, leaving uncertainty around ultimate claims.
- Key risks include reserve adequacy, particularly asbestos, environmental and mass-tort exposures; reinsurer collectability and availability; catastrophe and severe-weather losses; inflation, interest rates and investment-market volatility; COVID-19 effects and potential coverage changes; competition and pricing; and cyber, regulatory, legal and credit-rating risks. Management noted most property policies require direct physical damage for business-interruption coverage and contain virus exclusions.
- Management reported disclosure controls as effective and no material change in internal control over financial reporting during the quarter. It reported no significant changes in the previously disclosed contingencies.
Investor verification points
- Separate recurring continuing/core earnings from the annuity-sale gain and discontinued annuity operating results.
- Review P&C reserve development, COVID-19 IBNR estimates, catastrophe exposure and the quality of favorable prior-year reserve releases.
- Assess whether strong alternative-investment income and current underwriting margins are sustainable amid lower fixed-income yields and changing claims trends.
- Confirm final annuity-sale post-closing adjustments, the related tax treatment and the effect of the post-quarter $2-per-share special dividend on capital deployment.
- Evaluate investment fair-value and credit risks, reinsurance recoverables, and parent-company liquidity alongside debt and ongoing shareholder distributions.