Employers Holdings, Inc. — Q3 2019 Form 10-Q
Business context and period. The company provides workers’ compensation insurance, primarily to small businesses, with significant exposure to California. This unaudited report covers the three and nine months ended September 30, 2019; comparisons are with the same 2018 periods unless otherwise noted. The company completed its acquisition of PartnerRe Insurance Company of New York on July 31, 2019, renamed Cerity Insurance Company (CIC); CIC had no acquired employees or ongoing operations.
Financial performance and position
| Metric (millions, except per-share data and ratios) | Q3 2019 | Q3 2018 | 9M 2019 | 9M 2018 |
|---|---|---|---|---|
| Total revenue | $201.0 | $228.9 | $625.5 | $621.0 |
| Net premiums earned | $175.8 | $192.9 | $526.1 | $547.5 |
| Net investment income | $22.3 | $20.2 | $65.5 | $59.9 |
| Net realized and unrealized investment gains | $2.6 | $15.6 | $33.3 | $13.2 |
| Net income | $32.8 | $47.6 | $125.4 | $115.7 |
| Diluted EPS | $1.01 | $1.43 | $3.85 | $3.48 |
| Underwriting income | $15.7 | $22.7 | $53.6 | $66.6 |
| Combined ratio | 91.1% | 88.2% | 89.8% | 87.8% |
Q3 revenue and net income declined 12% and 31%, respectively. For nine months, revenue increased modestly and net income rose 8%. Net premiums earned fell in both comparisons; investment income improved, while investment gains were substantially lower in Q3 than in 2018. The nine-month investment-gain comparison benefited from market gains, including equity-security gains.
Q3 expenses were $160.1 million versus $170.6 million, but underwriting and other operating expenses rose to $45.3 million from $38.8 million. For nine months, that expense category increased to $136.6 million from $118.1 million. Management attributed increases chiefly to compensation, IT, and professional costs related to digital technology development and implementation.
The Q3 combined ratio rose 2.9 percentage points year over year, despite a lower calendar-year loss ratio, as the underwriting and other operating expense ratio increased. The current accident-year loss ratio increased to 65.6% from 62.8% in Q3 and to 65.5% from 62.6% for nine months. Favorable prior-year development partly offset this pressure.
Financial position, cash flow, and capital
- At September 30, 2019, total assets were $4.025 billion, investments were $2.797 billion, cash and cash equivalents were $140.3 million, and stockholders’ equity was $1.160 billion. Equity increased from $1.018 billion at December 31, 2018.
- Operating cash flow for the first nine months was $112.6 million, down from $133.1 million. Investing activities provided $18.4 million and financing activities used $92.4 million. Cash, cash equivalents, and restricted cash ended at $140.6 million.
- The company repaid both $10 million surplus notes during 2019; no notes payable remained at September 30. It reported $17.1 million in operating lease liabilities.
- Share repurchases totaled $47.8 million in financing cash flows and dividends paid were $21.8 million during the nine months. The board expanded the repurchase authorization to $100 million; $48.0 million remained available at quarter-end. A $0.22-per-share dividend was declared October 23, payable November 20, 2019.
- Management reported $98.7 million of cash and investments at the holding company and said it expected subsidiary liquidity needs over the next 24 months to be met by operating cash, investment income, and maturing investments. Insurance-subsidiary dividend capacity is subject to state regulation and was limited or unavailable at several subsidiaries for the remainder of 2019.
Material changes, outlook, and risks
- Premium trends and competition: Gross premiums written declined to $166.5 million in Q3 and $553.1 million for nine months, from $189.2 million and $587.2 million. Management cited lower final-audit premiums and average rates and weaker California new business, partly offset by renewal growth elsewhere. Renewal pricing averaged decreases of 8.4% for Q3 and 11.8% for nine months.
- Reserve development: Favorable prior-accident-year development was $20.2 million in Q3 and $66.1 million for nine months, versus $11.9 million and $40.8 million in 2018. Management linked this to favorable loss trends and accelerated claims settlement initiatives, but emphasized that ultimate losses remain uncertain for years. The filing states current accident-year estimates are considered adequate.
- LPT changes: Favorable reserve and contingent-commission estimate adjustments during the second quarter increased nine-month net income by $1.8 million and $0.2 million, respectively. The LPT deferred gain was $139.4 million at September 30, and estimated remaining liabilities subject to the agreement were $385.8 million.
- Acquisition and indemnity: CIC was acquired for approximately $53.4 million, funded with cash on hand. PRUS and its parent guaranteed indemnification of pre-closing liabilities; if they fail to honor those obligations, some acquired gross loss reserves could become the company’s responsibility.
- Investments and liquidity constraints: The portfolio was 89% fixed maturities, with duration of 3.6 and 6.2% of fixed maturities below investment grade. Securities and collateral are pledged or held for regulatory deposits, reinsurance, and FHLB arrangements. Private-equity commitments totaled $45.1 million and are generally not readily redeemable.
- Guidance and risks: The filing provides no specific earnings or revenue guidance. Management cited favorable loss-cost and frequency trends and expressed confidence in its positioning, while noting competitive pricing pressure. Key uncertainties include loss-reserve estimates, reinsurance recoverables, investment valuations and market risk, and regulated subsidiary dividends. The company reported no material change in disclosed risk factors, no material off-balance-sheet arrangements, and no expected material effect from pending or threatened litigation.
Investor facts to verify
- Whether favorable prior-year reserve development and the LPT adjustments are repeatable, and how current accident-year loss experience develops.
- Whether premium growth outside California can offset lower rates and weaker California new business without eroding underwriting profitability.
- How technology and Cerity investments affect expense levels, distribution, and future returns.
- The quality and liquidity of the investment portfolio, including below-investment-grade exposure, equity volatility, and the $45.1 million unfunded commitment.
- Regulatory dividend capacity, the availability of holding-company liquidity, and the status of PRUS/PartnerRe indemnification obligations related to CIC.