Donegal Group Inc. — Q3 2019 Form 10-Q
Business context and reporting period. This unaudited filing covers the quarter and nine months ended September 30, 2019. Donegal is a property-and-casualty insurer selling through independent agents, with personal-lines and commercial-lines businesses. Its largest subsidiary, Atlantic States, shares pooled underwriting results with Donegal Mutual. Donegal Mutual held approximately 72% of the company’s total voting power at quarter-end.
Financial results and position
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net premiums earned | $189.8m | $187.7m | $566.7m | $555.1m |
| Total revenues | $198.0m | $199.9m | $611.5m | $585.0m |
| Pre-tax income (loss) | $6.3m | $1.3m | $38.7m | ($28.6m) |
| Net income (loss) | $5.2m | $1.2m | $33.0m | ($17.8m) |
| Class A diluted EPS | $0.18 | $0.04 | $1.17 | ($0.64) |
| Combined ratio (GAAP) | 100.6% | 105.2% | 100.7% | 109.9% |
| Operating cash flow | Not presented by quarter | Not presented by quarter | $48.4m | $59.9m |
- Underwriting and premiums: Q3 net premiums written slipped 0.4% to $183.9m; commercial lines rose 13.2% while personal lines fell 11.6%. For nine months, written premiums increased 1.0% to $581.6m, with commercial lines up 13.1% and personal lines down 10.1%.
- Profit drivers: Q3 losses and loss expenses decreased to $130.7m from $140.7m. Weather losses declined to $13.9m from $21.2m. For nine months, lower incurred losses and favorable prior-year reserve development of $7.9m (versus adverse development of $28.9m in 2018) contributed to the return to profit. The nine-month result also included a $12.7m gain from the sale of Donegal Financial Services Corporation (DFSC).
- Investments: Nine-month net investment income rose to $21.7m from $19.3m. Net investment gains were $19.3m, including the DFSC sale gain and equity-security gains; Q3 instead recorded a $0.4m net investment loss, primarily from unrealized equity losses.
- Margins: The GAAP combined ratio improved year over year but remained above 100% in both Q3 and the nine-month period. Nine-month statutory combined ratio was 99.5%; Q3 statutory combined ratio was 100.8%.
- Balance sheet and liquidity at September 30: Total assets were $1.921bn; investments were $1.079bn; cash was $55.3m; and stockholders’ equity was $442.6m. Unpaid losses and loss expenses were $864.5m gross, including $358.7m of reinsurance recoverable. Debt included $35.0m of FHLB advances and $5.0m of subordinated debentures. The separate M&T revolving credit line had no borrowings and $30.0m available.
Changes, outlook, and risks
- The company sold its 48.2% interest in DFSC in March 2019, recognizing a $12.7m gain; it received cash and Northwest Bancshares shares, and sold the shares during Q1. The sale explains part of the year-on-year improvement in nine-month earnings.
- Management continued to reduce personal-lines exposure through underwriting measures and non-renewal of unprofitable business in seven states beginning February 2019, while seeking commercial-lines growth through pricing and new accounts.
- In August, Atlantic States replaced a $35.0m variable-rate FHLB advance with a fixed-rate advance at 1.74%, due August 2024, and incurred a $176,000 prepayment penalty. The M&T credit agreement expires July 2020.
- No earnings guidance was provided. Management stated that nine-month results are not necessarily indicative of full-year results.
- Key uncertainties include reserve adequacy, bodily-injury severity and slower claim reporting/settlement, litigation trends, weather and catastrophe losses, reinsurance availability and cost, investment-market and interest-rate changes, and regulatory or competitive conditions. A 1% change in net loss reserves would affect pre-tax results by approximately $5.1m. Management reported no material change in risk factors and no material change in market-risk exposure.
- Management considered reserves adequate, but emphasized that ultimate claim costs may differ materially from estimates. The filing reported no material legal proceedings, defaults on senior securities, or material changes in internal financial controls.
Important facts for investors to verify
- Whether the improvement in underwriting persists, particularly given the combined ratios around 100% and the different trends in commercial and personal lines.
- Reserve development by accident year and line of business, especially automobile severity, claim reporting delays, and workers’ compensation experience.
- How much of reported earnings growth is recurring versus the one-time DFSC sale gain and investment-portfolio fluctuations.
- Reinsurance recoverability and catastrophe protection terms, including the company’s exposures above retentions.
- Cash generation, debt and covenant capacity, and the amount of dividends that insurance subsidiaries can upstream under statutory restrictions.