HORACE MANN EDUCATORS CORP quarterly report, Q3 FY2019

Business context and reporting period

Horace Mann Educators Corporation filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2019. The insurer primarily serves educators and public-school communities through property and casualty, retirement, life, and supplemental insurance products. KPMG conducted an interim review, not an audit, and reported no material modifications it believed were needed for GAAP conformity.

Financial performance and condition

Amounts below are in millions except per-share data. Comparisons are with the corresponding 2018 period.

At September 30, total assets were $12.33 billion, shareholders’ equity was $1.58 billion, and cash was $39.3 million. Investments totaled $6.73 billion; fixed-maturity securities were 96.7% investment grade with an average quality rating of A+. Book value per share was $38.30, including after-tax unrealized fixed-income gains.

Total debt was $433.0 million, up from $297.7 million at year-end 2018, including $135.0 million drawn on the revolving facility to help fund NTA. Debt was 24.8% of total capital excluding unrealized fixed-maturity gains (21.5% including them), below management’s 25% long-term target. Cash flow was $207.2 million from operations, $(65.6) million from investing, and $(114.2) million from financing; ending cash increased to $39.3 million.

Property and casualty results improved: the nine-month auto combined ratio was 97.0% versus 103.4%, and the property ratio was 102.0% versus 117.9%. For Q3, the ratios were 92.4% for auto and 104.3% for property. The newly reported Supplemental segment contributed $6.9 million of net income in its first quarter with the Company; its pretax profit margin was 23.7%.

Material changes and unusual items

• Revenue and earnings reflect the July 1 acquisition of National Teachers Associates Life Insurance Company (NTA), which created the Supplemental segment. The reported nine-month results include NTA only from the acquisition date. The preliminary purchase price was approximately $425.6 million, and purchase accounting remains subject to revision.
• A second-quarter annuity reinsurance transaction transferred a $2.9 billion block of fixed and variable annuity business. It generated a $106.9 million after-tax realized investment gain ($135.3 million pretax), substantially boosting nine-month earnings. The transaction also triggered a $28.0 million non-cash goodwill impairment in Retirement.
• Retirement’s nine-month net loss was $6.9 million, largely reflecting that impairment; segment core earnings were $21.1 million versus $37.6 million. Lower invested assets after reinsurance and lower investment yields weighed on investment income. The annualized portfolio pretax yield was 5.0% for the first nine months, versus 5.2%.
• Other significant changes included BCG’s January 2019 acquisition, higher operating expenses and intangible amortization, and a $169.4 million after-tax increase in unrealized fixed-maturity gains in other comprehensive income for the nine-month period.

Outlook, commentary and risks

Management estimated full-year 2019 core earnings of $2.05–$2.15 per diluted share and core ROE around 7.0%, with an effective tax rate of 16%–18%. These are management estimates, not a guarantee; core earnings is a non-GAAP measure.

• Property and casualty: management expected underlying auto loss-ratio improvement of about 3.0–3.5 points, a flat underlying property loss ratio versus 2018, catastrophe costs of $50–$55 million, and an expense ratio around 27%.
• Retirement: expected full-year net income of $25–$27 million, reflecting the reinsurance transaction and reduced invested assets. Life net income was expected to decline 10%–15%; Supplemental was expected to earn $12–$14 million in the second half.
• Risks include sustained low interest rates and reinvestment pressure, catastrophe and claims experience, reserve-estimation uncertainty, and dependence on the reinsurer RGA. The large reinsured block creates counterparty concentration risk; trust collateral may not fully protect the Company in all circumstances, particularly in insolvency.
• Management identified NTA integration, preliminary acquisition valuations, and possible future goodwill or intangible-asset impairment as risks. The Company also noted sensitivity of results to actuarial assumptions and regulatory changes.

Most important facts for investors to verify

• Separate underlying operating performance from the one-time annuity-reinsurance gain and the $28.0 million goodwill impairment; review the non-GAAP core earnings reconciliation.
• Track NTA integration, final purchase-price allocation, segment profitability, and amortization of acquired intangibles.
• Assess RGA’s credit strength, trust collateral and recapture protections, as well as the concentration exposure from the reinsurance agreement.
• Monitor investment yields, reinvestment risk, reserves, catastrophe losses, and whether management’s full-year targets are achieved.
• Review debt levels and liquidity following the acquisition and reinsurance transaction; cash alone is not a complete measure of an insurer’s claims-paying liquidity.