The Travelers Companies, Inc. — FY 2012 Form 10-K
Reporting period: Year ended December 31, 2012. Travelers is a property-and-casualty insurance holding company operating through Business Insurance, Financial, Professional & International Insurance, and Personal Insurance. The filing reports annual results; fourth-quarter data are noted separately below. Dollar amounts are U.S. dollars.
Financial performance and position
| Metric | 2012 | 2011 |
|---|---|---|
| Total revenue | $25.74 billion | $25.45 billion |
| Net income | $2.47 billion | $1.43 billion |
| Diluted EPS | $6.30 | $3.36 |
| Operating income | $2.44 billion | $1.39 billion |
| Net earned premiums | $22.36 billion | $22.09 billion |
| Net investment income | $2.89 billion | $2.88 billion |
| Operating cash flow | $3.23 billion | $2.17 billion |
| GAAP combined ratio | 97.1% | 105.1% |
Net income rose 73% year over year, driven primarily by improved underwriting results: catastrophe losses declined to $1.86 billion from $2.56 billion, and net favorable prior-year reserve development increased to $940 million from $715 million. The 2012 combined ratio indicates an underwriting profit overall; the 2011 ratio exceeded 100%, indicating an underwriting loss. The 2012 effective tax rate was 22%, compared with a tax benefit and a negative 5% effective rate in 2011. 2011 included a $104 million benefit from favorable resolution of prior-year tax matters.
| Segment operating income | 2012 | 2011 | 2012 combined ratio |
|---|---|---|---|
| Business Insurance | $1.84 billion | $1.35 billion | 97.4% |
| Financial, Professional & International Insurance | $642 million | $647 million | 84.1% |
| Personal Insurance | $217 million | $(332) million | 101.9% |
Segment performance was uneven: Business Insurance improved substantially, Financial, Professional & International was broadly steady, and Personal Insurance returned to profitability but remained above a 100% combined ratio. Net written premiums grew 1% to $22.45 billion overall. Business Insurance net written premiums increased 5%; Financial, Professional & International decreased 4%; Personal Insurance decreased 2%. In the fourth quarter, net income was $304 million and diluted EPS was $0.78, compared with third-quarter net income of $864 million and diluted EPS of $2.21.
Balance sheet, capital and liquidity
- Total assets were $104.94 billion; total investments were $73.84 billion, with fixed maturities and short-term securities representing about 93% of investments. Fixed maturities had an average credit quality of Aa2; 3.1% were below investment grade.
- Claims and claim adjustment expense reserves were $50.92 billion, down from $51.39 billion. Shareholders’ equity was $25.41 billion, up from $24.48 billion; book value per share was $67.31.
- Total debt was $6.35 billion, down from $6.61 billion. Debt-to-total capital was 20.0%, or 22.2% excluding after-tax unrealized investment gains, within management’s 15%–25% target range.
- Holding-company cash and short-term investments were $2.03 billion, above the approximately $1.1 billion minimum target. The company reported $3.23 billion of operating cash flow; investing activities used $972 million and financing activities used $2.15 billion.
- Travelers repurchased 22.4 million shares for $1.45 billion and paid $694 million in shareholder dividends. Year-end shares outstanding fell to 377.4 million from 392.8 million. Up to $2.05 billion of insurance-subsidiary dividends was available without prior Connecticut regulatory approval through year-end 2013.
- All insurance subsidiaries had capital above regulatory risk-based capital requirements. Major rating agencies affirmed ratings during the period with stable outlooks, as reported in the filing.
Material changes and management outlook
- Improvement versus 2011 chiefly reflected lower catastrophe losses, lower non-catastrophe weather losses in certain segments, stronger underlying underwriting margins, and greater favorable reserve development. Net investment income was nearly flat: lower fixed-income income was offset by stronger returns from non-fixed-maturity investments.
- For 2013, management expected renewal price increases generally to exceed loss-cost trends, subject to competition, state rate approvals and economic conditions. It expected Business Insurance underlying margins to improve from 2012, Financial, Professional & International margins to improve modestly, and Personal Insurance margins to be broadly consistent. Personal homeowners margins were expected to decline as weather losses returned to expected levels.
- Management estimated lower fixed-maturity reinvestment yields could reduce after-tax investment income by about $30 million per quarter in 2013 versus the corresponding 2012 quarters, and expected non-fixed-maturity investment income to be lower than in 2012.
- Management said that, generally over time, dividends and share repurchases would likely not exceed operating income. It also considered discretionary pension contributions of approximately $75 million–$100 million annually over the next few years; no minimum qualified-plan contribution was required for 2013.
Risks, contingencies and unusual items
- Catastrophe exposure: 2012 catastrophe losses were $1.86 billion, primarily from Storm Sandy and other storms. Loss frequency and severity, model uncertainty, residual-market assessments, regulatory limits on pricing or exposure reduction, and the availability and cost of reinsurance could materially affect results and liquidity. Terrorism coverage is limited; the federal terrorism program was authorized through 2014, with a company-estimated 2013 deductible of $2.26 billion.
- Reserving and legacy claims: Reserve estimates involve significant judgment and may change. Net asbestos reserves were $2.378 billion and net environmental reserves were $347 million at year-end; 2012 reserve reviews added $175 million for asbestos and $90 million for environmental claims. Management said additional liabilities could be material but could not be reasonably estimated. Asbestos direct-action settlement obligations remain subject to litigation over whether settlement conditions were met; $502 million was reclassified to unallocated IBNR after a 2012 court ruling.
- Other legal and recovery contingencies: A proposed PPG asbestos settlement could involve payments totaling approximately $620 million over 20 years, or an approximately $481 million discounted payment before reinsurance, but remained subject to contingencies. In a separate reinsurance dispute, a $251 million recoverable was recorded; related interest, totaling $219 million at year-end, was not recognized as income. A separate workers’ compensation pool class settlement could yield Travelers approximately $90 million, recognized only upon receipt.
- Investment and credit risks: Low interest rates pressure reinvestment income; rising rates could reduce fixed-maturity fair values and equity. Municipal bonds were approximately $38.7 billion, and management identified potential issuer, market-liquidity, mortgage/prepayment and non-fixed-maturity investment risks. Reinsurance recoverables totaled $10.71 billion, including $258 million of allowance for uncollectible reinsurance; Travelers remains liable to policyholders if reinsurers do not pay.
- Other exposures: Competition, economic weakness, inflation and claims-cost trends, agent and broker relationships, regulatory change, technology and cybersecurity disruption, and pension funding can affect results. The $1.0 billion revolving credit facility was due to expire in June 2013; $500 million of senior notes was due in 2013. The company reported compliance with credit covenants at year-end.
The independent auditor issued an unqualified opinion on the consolidated financial statements and internal control over financial reporting; management also concluded controls were effective as of December 31, 2012.
Most important facts for investors to verify
- How much of the earnings rebound came from lower catastrophe losses and favorable reserve development, and whether underlying margins sustain improvement.
- Development of asbestos and environmental reserves, including the direct-action settlement appeal and the proposed PPG settlement.
- Personal Insurance’s progress toward a combined ratio below 100%, especially in auto and homeowners, alongside retention and premium growth.
- Actual 2013 investment income versus management’s reinvestment-yield and alternative-investment expectations.
- Reinsurance recoverability and the outcome of the Munich Re-related dispute and workers’ compensation settlement appeal.
- Capital return relative to operating income, insurance-subsidiary dividend capacity, and refinancing or renewal of the credit facility due in 2013.