Employers Holdings, Inc. — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016; balance-sheet figures are as of June 30, 2016, unless noted. Employers Holdings provides workers’ compensation insurance, primarily to small businesses, through its insurance subsidiaries. It operates in 33 states and the District of Columbia; California generated 56% of in-force premiums.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net premiums earned | $176.9 million | $170.6 million | $349.5 million | $329.6 million |
| Total revenue | $201.8 million | $190.9 million | $393.8 million | $368.1 million |
| Net income | $26.3 million | $29.2 million | $47.3 million | $43.2 million |
| Diluted EPS | $0.80 | $0.90 | $1.44 | $1.33 |
| Underwriting income | $9.7 million | $13.7 million | $18.4 million | $14.3 million |
| Combined ratio | 94.5% | 92.0% | 94.7% | 95.7% |
Net investment income was $18.4 million in Q2 and $36.2 million for the half year. Net realized investment gains were $6.0 million and $7.5 million, respectively, versus $1.9 million and $3.1 million in the prior-year periods. The six-month effective tax rate rose to 23.6% from 16.0%.
Q2 loss and LAE ratio increased to 63.1% from 59.5%; the half-year ratio edged down to 62.7% from 63.0%. Operating expense and commission ratios improved modestly for the half year. The company reported $2.3 million of favorable prior-year loss development for the six months, related to assigned-risk business.
Financial position, cash flow, and capital
Total assets were $3.832 billion, versus $3.756 billion at December 31, 2015. Investments totaled $2.510 billion; cash and cash equivalents were $128.2 million, up from $56.6 million. Claims and policy liabilities totaled $2.668 billion. Notes payable were $32.0 million; stockholders’ equity was $845.3 million. Adjusted stockholders’ equity, a company-defined non-GAAP measure, was $903.2 million, up from $866.7 million.
For the first six months, operating cash flow was $41.4 million versus $62.7 million; investing activities provided $35.6 million versus using $100.4 million. Financing activities used $5.4 million, including $6.9 million of share repurchases and $5.9 million of dividends paid. Cash increased by $71.6 million to $128.2 million. The company said holding-company and subsidiary liquidity needs for the next 24 months should be met from available cash and investments, operations, maturities, and subsidiary dividends. Subsidiaries had no outstanding advances under their Federal Home Loan Bank facility.
Material changes and unusual items
- Q2 net income declined year over year, while six-month net income increased. The Q2 comparison included a $4.9 million net-income benefit from favorable LPT reserve and contingent-commission estimate changes in 2016; comparable LPT adjustments benefited Q2 2015 by $8.8 million. The filing reports total second-quarter net-income impact of $4.9 million in 2016 versus $11.3 million in 2015 when all noted items are included.
- Four large claims increased Q2 losses and LAE by $6.5 million. Excluding those claims and assigned-risk business, management’s Q2 current-accident-year loss estimate was 64.1%, compared with 66.5% in Q2 2015. Management noted some upward movement in medical and indemnity costs per claim.
- Gross premiums written were flat in Q2 and up 4.6% for the half year. Higher final-audit premiums were partly offset by lower new and renewal premiums, particularly in the Los Angeles area. Year over year, California in-force premiums and policies fell 4.4% and 5.6%; the corresponding measures outside California increased 1.1% and 6.5%.
- The company recorded $5.3 million of other-than-temporary impairment on equity securities for the first half, partly associated with securities it intended to sell and the energy-sector downturn. It attributed fixed-maturity unrealized losses primarily to interest-rate changes rather than issuer credit quality.
- Unrealized investment gains increased accumulated other comprehensive income to $122.8 million from $83.6 million at year-end. Adoption of a new financial-instruments accounting standard was estimated to cause a $68.0 million, net-of-tax, reclassification between retained earnings and accumulated other comprehensive income; the full income-statement impact was not yet estimated.
Outlook, risks, and contingencies
The filing provides no specific earnings or premium guidance. Management emphasized disciplined underwriting, claims management, geographic diversification, and targeting profitable business. It believes current accident-year reserves are adequate, but cautioned that workers’ compensation claims are long-tail and ultimate losses may remain uncertain for years. A reinsurance program effective July 1, 2016 through June 30, 2017 provides $190 million excess of a $10 million per-occurrence retention, subject to exclusions. The company reported no material change in its previously disclosed risk factors or market-risk exposure. Routine pending or threatened litigation was not expected by management to materially affect results, liquidity, or financial position; no off-balance-sheet arrangements were reported.
Investor verification points
- Assess whether the improved six-month underwriting result can persist given large Q2 claims, cost trends, and California premium and policy declines.
- Review the assumptions and sensitivity of unpaid-loss reserves, reinsurance recoverables, and LPT-related estimates; distinguish recurring operating results from LPT impacts.
- Evaluate investment portfolio exposure to interest rates, equity-market losses, and credit risk, including the reported equity impairments.
- Confirm the effect of the announced $68.0 million accounting reclassification and the capacity for dividends and repurchases under insurance-subsidiary restrictions.
- Monitor cash generation, the $32.0 million debt balance, the $50.0 million repurchase authorization, and the new reinsurance program’s coverage and exclusions.