Kemper Corporation — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2016. Kemper operates Property & Casualty Insurance and Life & Health Insurance businesses.
Financial results and position
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Total revenues | $640.7 million | $615.4 million | $1,879.2 million | $1,723.8 million |
| Income (loss) from continuing operations | $(18.3) million | $38.0 million | $(16.4) million | $78.9 million |
| Net income (loss) | $(16.3) million | $37.9 million | $(14.4) million | $81.1 million |
| Net income (loss) per unrestricted share | $(0.32) | $0.73 | $(0.27) | $1.56 |
Premium growth drove revenue higher, but earnings turned to losses. The principal unusual charge was $77.8 million pretax for life-claim liabilities identified through the company’s new death-database review process. Nine-month income tax benefit was $20.7 million, versus tax expense of $23.0 million in 2015.
- Property & Casualty: Nine-month segment net operating loss was $9.9 million, versus income of $31.8 million; Q3 income was $12.1 million, down from $21.0 million. The reported combined ratio was 106.4% for nine months and 101.2% for Q3; the underlying combined ratios were 99.7% and 98.6%, respectively.
- Life & Health: Nine-month segment net operating income was $7.3 million, down from $53.9 million. Q3 segment net operating loss was $29.4 million, versus income of $23.5 million, primarily reflecting the $77.8 million charge.
- Cash flow: Operating activities provided $170.5 million in the first nine months, compared with $167.6 million in 2015. Investing activities used $122.6 million; financing activities used $38.5 million. Cash ended the period at $171.1 million.
- Balance sheet and liquidity: Total assets were $8.39 billion and shareholders’ equity was $2.07 billion at September 30. Investments totaled $6.75 billion. Debt was $751.3 million, including $359.6 million of 6.00% notes due May 2017. The $225 million revolving credit facility was undrawn. Kemper directly held $310.3 million of cash and investments; insurance subsidiaries had an estimated $79.7 million of additional dividends available during the remainder of 2016 without prior regulatory approval.
- Investment results: Nine-month net investment income declined to $218.4 million from $223.2 million. Net realized investment gains were $24.0 million, while impairment losses were $24.0 million. Other comprehensive income was $131.8 million, raising accumulated other comprehensive income to $256.1 million from $124.3 million at year-end 2015.
Material changes versus prior period
- Earned premiums rose 13% to $1.66 billion for the first nine months, led by Property & Casualty, including the full-period contribution of Alliance United, acquired in April 2015.
- Life-claim benefits and incurred losses increased sharply because Kemper began voluntarily using death verification databases and recorded the $77.8 million estimate for resulting claims. The company expects to pay approximately $80 million in claims over the next several years as it completes initial outreach.
- Property & Casualty catastrophe losses, excluding reserve development, increased to $97.9 million from $50.4 million for the nine-month period. Two Texas hailstorms contributed estimated losses of $32.0 million and $24.4 million.
- Alliance United’s nonstandard auto business showed materially adverse experience: its nine-month underlying loss and LAE ratio was 96.2%, versus 87.3% in the comparable 2015 period. Kemper cited elevated claim frequency and severity, inadequate rates, and claims-adjuster staffing constraints.
- Accumulated unrealized investment gains boosted equity through OCI, while investment impairment charges recognized in earnings increased year over year.
Outlook, commentary, risks and unusual items
- No specific earnings or financial guidance was provided. Management said Alliance United may require several more pricing cycles to achieve adequate rates; actions include slowing new-business growth, rate filings, agency management changes and increased claims staffing.
- Kemper voluntarily expanded life-claims procedures to compare policy records with death verification databases and contact potential beneficiaries. The ultimate cost remains uncertain and may depend on regulatory interpretations, audits, affected policies and litigation.
- Insurance reserve estimates are uncertain. P&C reserves had $21.0 million of favorable prior-year development for the nine months, including $7.3 million of adverse development in personal auto offset by favorable development elsewhere. Management cautioned that future development could materially affect period results.
- Other notable changes: Kemper froze substantially all defined-benefit pension accruals effective June 30, 2016; the change in estimation methodology reduced nine-month pension expense by approximately $2.7 million. The 2015 comparison included an $11.1 million software write-off and a $9.1 million early debt-extinguishment loss, neither recurring in 2016.
- Risks include catastrophes, claim severity and reserve estimation, inadequate insurance pricing, investment and interest-rate volatility, regulatory constraints, litigation, and the evolving legal requirements for life-insurance death searches and unclaimed property. A modeled instantaneous 100-basis-point rate increase reduced fixed-maturity fair value by $316.9 million; a modeled 30% equity-market decline reduced equity-security fair value by $120.4 million. These are sensitivity scenarios, not forecasts.
Investor verification priorities
- Verify the ultimate claims, reserve assumptions and cash-payment timing associated with the $77.8 million death-database charge and the approximately $80 million expected claims outflow.
- Track Alliance United claim frequency, severity, reserve development, rate increases and progress toward rate adequacy.
- Assess whether catastrophe losses and P&C combined ratios normalize, and whether underlying underwriting trends improve.
- Review the May 2017 maturity of $359.6 million of senior notes, parent-company liquidity and the availability of insurance-subsidiary dividends.
- Monitor investment impairment exposure, below-investment-grade holdings, interest-rate sensitivity and the effect of unrealized gains on reported equity.