Horace Mann Educators Corporation — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. The company provides property and casualty insurance, annuities, and life insurance, primarily to public-school educators and their families. Interim statements are unaudited; KPMG performed a review, not an audit.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue | $289.8m | $291.2m | $868.6m | $846.0m |
| Net income | $26.6m | $26.9m | $44.1m | $63.9m |
| Diluted EPS | $0.64 | $0.65 | $1.06 | $1.55 |
| Net investment income | $92.3m | $94.8m | $275.0m | $270.7m |
| Net realized investment gains (losses) | $(3.5)m | $4.0m | $(1.7)m | $6.9m |
Premiums and contract charges earned rose 4.1% in Q3 and 4.5% year to date. Q3 pretax income was $33.5m versus $35.0m; nine-month pretax income was $53.5m versus $87.0m. The nine-month effective tax rate was 17.6%, compared with 26.6%; adoption of share-based-payment accounting generated $2.9m of excess tax benefits.
Segments and material changes
- Property and Casualty: Q3 net income increased to $13.4m from $6.7m; the combined ratio improved to 95.8% from 101.5%. Year-to-date net income fell to $2.2m from $16.0m, and the combined ratio worsened to 106.5% from 102.4%, mainly reflecting severe catastrophe and non-catastrophe weather losses in the first half. Year-to-date catastrophe losses were $58.2m pretax, versus $48.4m.
- Q3 catastrophe losses were $8.6m pretax, including $5.0m related to Hurricane Harvey and $2.5m to Hurricane Irma. Q3 P&C results also benefited from improved underlying auto performance, rate actions, and lower expenses.
- Retirement: Q3 net income was $13.6m, down $2.1m; nine-month net income was $36.9m, down $2.4m. Annuity deposits fell 11.0% year to date to $348.9m, principally from lower single-premium sales. Fixed-annuity net interest spread was 188 basis points, down 7 basis points year over year.
- Life: Net income was $4.8m in Q3 and $14.3m year to date, up $0.2m and $1.2m, respectively, versus 2016.
- Q3 net income was nearly flat year over year, partly because improved P&C results were offset by a $4.9m after-tax swing in net realized investment gains and losses. Nine-month net income declined $19.8m, reflecting higher catastrophe and weather losses.
Cash flow, balance sheet, and liquidity
- At September 30, total assets were $11.04bn, shareholders’ equity $1.39bn, and cash $6.7m. Investments totaled $8.34bn, including $7.63bn of available-for-sale fixed maturities. Variable-annuity separate-account assets and liabilities were each $2.05bn.
- Long-term debt was $247.4m, representing $250m principal of 4.50% senior notes due 2025, net of discounts and issuance costs. No short-term debt was outstanding; the $150m revolving facility was unused. Debt was 17.9% of total capital excluding unrealized investment gains and losses, below the stated 25% long-term target.
- Nine-month operating cash flow was $237.2m, versus $164.8m in 2016; investing cash outflow was $187.4m, and financing cash outflow was $59.7m. Ending cash was $6.7m. Management said operating cash flow should cover the next 12 months’ operating needs.
- Book value per share was $34.20, up 6.4% from year-end 2016. It included $255.7m of after-tax unrealized investment gains; book value excluding that gain was $27.91.
Outlook, risks, and unusual items
Management estimated 2017 full-year net income before net realized investment gains and losses of $1.45–$1.65 per diluted share. It expected the full-year P&C property combined ratio, including catastrophe losses, to be slightly below 100%; the auto underlying combined ratio to be similar to 2016; and the fixed-annuity spread to decline into the low 180s. Management anticipated a roughly 10-basis-point decline in portfolio yield and moderate expense increases from strategic, distribution, customer-service, and infrastructure investments. These are forward-looking estimates, not guarantees.
Risks highlighted include catastrophe frequency and severity, concentration in catastrophe-prone states, reinsurance availability and collectibility, low interest rates and reinvestment risk, investment valuation and credit losses, policy persistency, and regulatory change. Management noted that 86.7% of deferred annuity account values were at minimum guaranteed rates, limiting further reductions in credited rates. The filing also identifies uncertainty from the Department of Labor fiduciary rule and potential SEC or state fiduciary standards.
Other notable items: Q3 and nine-month net realized results included OTTI charges of $6.1m and $12.5m, respectively. The company transferred its 401(k) assets to a third-party provider, producing a $77.9m financing cash-flow outflow and affecting annuity retention measures. The company reported no material change in risk factors overall and no material weakness in disclosure controls.
Key facts for investors to verify
- Whether catastrophe and other weather losses, and the resulting P&C combined ratio, track management’s full-year assumptions.
- Whether annuity deposits, persistency, and fixed-annuity spreads stabilize despite low rates and minimum guarantees.
- Whether the $1.45–$1.65 full-year EPS outlook is achieved, excluding unpredictable realized investment gains and losses.
- Investment portfolio credit quality, OTTI developments, and sensitivity to interest rates, spreads, and market values.
- Effects of fiduciary-rule developments and the 401(k) asset transfer on sales, distribution, expenses, and liquidity.