RLI Corp. 2019 Second-Quarter Form 10-Q Summary
Business Context and Reporting Period
RLI Corp. is a specialty property and casualty insurance holding company operating through casualty, property and surety segments. The filing covers the three and six months ended June 30, 2019, compared with the corresponding 2018 periods.
Management’s strategy remains focused on underwriting profitability rather than premium growth alone. RLI reported 23 consecutive years of underwriting profitability and an average combined ratio of 88.1% over that period.
Key Financial Metrics
| Metric | Q2 2019 | Q2 2018 | Six Months 2019 | Six Months 2018 |
|---|---|---|---|---|
| Net premiums earned | $207.5 million | $196.5 million | $412.2 million | $386.5 million |
| Consolidated revenue | $238.1 million | $219.3 million | $501.9 million | $405.2 million |
| Net earnings | $40.5 million | $33.3 million | $105.9 million | $45.5 million |
| Diluted EPS | $0.89 | $0.74 | $2.35 | $1.01 |
| Comprehensive earnings | $68.3 million | $25.6 million | $163.1 million | $11.4 million |
| Net investment income | $17.0 million | $14.6 million | $33.6 million | $28.8 million |
| Operating cash flow | Not separately provided | Not separately provided | $105.3 million | $100.0 million |
| Combined ratio | 92.8% | 92.8% | 90.9% | 91.8% |
Q2 net earnings margin was approximately 17.0%, compared with 15.2% in the prior-year quarter. Six-month net earnings margin was approximately 21.1%, compared with 11.2% in 2018. Six-month underwriting income was $37.4 million, implying an underwriting margin of approximately 9.1% of net premiums earned.
- Six-month gross premiums written increased 5.7% to $514.2 million; net premiums earned increased 6.6%.
- Casualty six-month net premiums earned increased 7.7% to $275.2 million, property increased 8.8% to $78.7 million, and surety declined 0.8% to $58.3 million.
- Q2 underwriting income was $14.9 million, compared with $14.1 million in 2018. Six-month underwriting income increased from $31.6 million to $37.4 million.
- Q2 segment underwriting income was $6.9 million for casualty, a $0.4 million loss for property, and $8.4 million for surety.
- Six-month segment underwriting income was $12.3 million for casualty, $7.8 million for property, and $17.3 million for surety.
- Losses and settlement expenses were $198.2 million for the first six months, including $40.8 million of favorable prior-year reserve development.
- The effective tax rate was 17.1% in Q2 and 18.9% for the first six months, compared with 16.0% and 15.7%, respectively, in 2018.
Liquidity, Capital and Investments
- Operating cash flow was $105.3 million for the first six months. Investing activities used $100.7 million and financing activities used $10.0 million, resulting in a $5.3 million decrease in cash.
- Cash was $24.8 million at June 30, 2019, compared with $30.1 million at December 31, 2018. Cash and short-term investments totaled $72.2 million.
- Total investments and cash were $2.4 billion, up $220.6 million from year-end 2018. Fixed income represented 77.2% of the portfolio, equity securities 17.5%, other invested assets 2.3%, and cash and short-term investments 3.0%.
- Shareholders’ equity was $959.9 million, compared with $806.8 million at year-end 2018, primarily reflecting net earnings and investment-related comprehensive gains.
- Long-term debt was $149.2 million, consisting primarily of senior notes maturing in September 2023 with a 4.875% coupon. Debt represented approximately 13.5% of total capital.
- The company had a $50 million revolving credit facility, expandable to $75 million under certain conditions, with no borrowings outstanding. It also had no Federal Home Loan Bank borrowings.
- Management stated that operating cash flows, investments, financing sources and the liquid investment portfolio should provide sufficient liquidity for anticipated needs over the next 12 to 24 months.
- RLI paid a quarterly dividend of $0.23 per share and stated that dividends had been increased for 44 consecutive years. No shares were repurchased during 2019; $87.5 million remained under the repurchase authorization.
Material Changes Versus the Prior Comparable Period
- Six-month net earnings more than doubled, rising 133% to $105.9 million, aided by equity-security gains, stronger underwriting results and higher investment income.
- Net unrealized gains on equity securities were $42.3 million in the first half of 2019, compared with $39.4 million of losses in 2018. Six-month realized gains declined to $13.8 million from $29.3 million.
- Comprehensive earnings increased substantially because the fixed-income portfolio generated $57.2 million of after-tax unrealized gains, compared with $34.1 million of losses in the prior-year period. The improvement primarily reflected declining interest rates.
- The six-month group combined ratio improved to 90.9% from 91.8%, although the expense ratio increased to 42.8% from 41.6% due partly to higher technology, bonus and profit-sharing costs.
- Casualty underwriting improved materially, while property underwriting weakened. Q2 property results included $3.9 million of storm losses, several large isolated losses and slight adverse prior-year development, producing a 101.1% combined ratio.
- RLI reduced its quota-share reinsurance agreement with Prime from 25% to 6% at the beginning of 2019 and exited medical professional liability because losses exceeded expectations and near-term underwriting profitability was not considered achievable.
- The company adopted the new lease standard on January 1, 2019, recording $24.4 million of right-of-use assets and $26.6 million of lease liabilities at June 30, 2019, without a material effect on net earnings.
Guidance, Outlook, Commentary and Risks
- No quantitative earnings or premium guidance was provided. Management reiterated that it will prioritize underwriting profit and disciplined risk selection over general premium growth or market share.
- Management cited competitive insurance markets, pricing conditions, economic conditions, interest rates, regulation, litigation, changing laws and catastrophe activity as important influences on results.
- Property exposures remain sensitive to earthquakes, hurricanes, windstorms, fires and other catastrophes. RLI manages these exposures through geographic limits, policy terms, catastrophe modeling and reinsurance.
- Casualty results remain exposed to inflation, evolving legislation, court decisions and the long-tail uncertainty of loss-reserve estimates. Executive products experienced adverse development during the six-month period, although most other casualty products developed favorably.
- Surety results could be affected by economic deterioration and the financial condition of contractors and other principals. Management reduced selected high-risk exposures given the stage of the credit cycle.
- The investment portfolio is exposed to equity-price, interest-rate and credit risk. The fixed-income portfolio had an average rating of AA-, 83% rated A or better, and a duration of 4.8 years. The company reported no derivative exposure.
- RLI’s principal insurance subsidiary did not pay dividends to the holding company during the first six months of 2019. Regulatory restrictions following substantial 2018 dividends limit distributions until the fourth quarter of 2019 without prior approval.
- Unfunded commitments included $7.1 million for low-income housing tax credit investments and $12.4 million for private funds. The filing states that no material changes occurred in legal proceedings, risk factors or internal controls.
Most Important Facts for Investors to Verify
- Whether favorable prior-year reserve development remains sustainable, particularly the $40.8 million benefit recorded in the first half of 2019.
- Whether property losses and catastrophe activity continue to pressure the property segment after its 101.1% Q2 combined ratio.
- The sensitivity of earnings and book value to equity-market performance, interest-rate movements and fixed-income credit quality.
- The effect of the medical professional liability exit and reduced Prime quota share on future premium growth, risk and underwriting profitability.
- The timing and regulatory availability of dividends from insurance subsidiaries to the holding company.
- Whether higher bonus, profit-sharing and technology expenses cause the expense ratio to remain above prior-year levels.
- The company’s ability to maintain liquidity while funding claims, dividends, debt service, lease obligations and investment commitments.