Safety Insurance Group, Inc. — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012. Unaudited consolidated results; dollar amounts below are in millions unless stated otherwise. Safety is primarily a Massachusetts property-and-casualty insurer, with automobile insurance its principal business.
Financial results
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net earned premiums | $159.1 | $148.7 | $314.6 | $293.4 |
| Total revenue | $174.7 | $163.9 | $345.1 | $322.7 |
| Losses and loss adjustment expenses | $102.7 | $114.2 | $200.7 | $235.8 |
| Income before taxes | $24.0 | $5.7 | $47.8 | $0.2 |
| Net income | $17.0 | $4.1 | $34.2 | $0.1 |
| Diluted earnings per share | $1.11 | $0.27 | $2.24 | $0.01 |
| Combined ratio | 94.8% | 106.4% | 94.5% | 110.0% |
- Premium growth: Q2 direct written premiums rose 7.3% to $185.8 million; six-month direct written premiums rose 7.4% to $362.1 million. Net written premiums increased 5.5% and 6.4%, respectively.
- Underwriting ratios improved substantially: Q2 loss ratio was 64.6% versus 76.8%; six-month loss ratio was 63.8% versus 80.4%. Expense ratios increased to 30.2% and 30.7%, respectively, from 29.6% in both prior-year periods.
- Net investment income increased 10.9% in Q2 to $10.5 million and 3.9% for six months to $20.4 million. Net realized investment gains were $0.6 million in Q2 and $1.1 million for six months.
- Six-month operating cash flow was $41.0 million, compared with $6.1 million a year earlier. Investing activities provided $23.9 million; financing used $14.8 million, principally for dividends. Cash and cash equivalents were $88.0 million at June 30, up from $37.9 million at year-end 2011.
- Total assets were $1.582 billion and shareholders’ equity was $681.3 million at June 30, 2012. Investments totaled $1.138 billion. Loss and LAE reserves were $403.5 million and unearned premium reserves were $362.7 million.
- No borrowings were outstanding on the $30 million revolving credit facility. The facility matures August 14, 2013; the company reported compliance with its covenants. It obtained lender consent for shareholder dividends exceeding the agreement’s usual limit.
Material changes and management commentary
- Management attributed the earnings and combined-ratio improvement principally to the absence of catastrophe losses in the 2012 periods. The comparable 2011 periods included $22.1 million of Q2 catastrophe losses and $40.7 million for the first six months.
- Prior-year reserve development was favorable by $3.6 million in Q2 and $7.6 million for six months, versus $9.2 million and $18.8 million, respectively, in 2011. Management said the six-month 2012 reduction primarily reflected improved retained private-passenger automobile results.
- Premium growth reflected higher average premiums and increased exposures in commercial auto and homeowners; personal-auto exposures declined 0.4%. Underwriting expenses rose mainly because of higher agent commissions.
- Rate increases approved or implemented included Massachusetts private-auto 3.6% effective May 15, 2012; New Hampshire auto 6.1% effective July 15; and Massachusetts homeowners 6.9%, umbrella 2.1%, and New Hampshire homeowners 5.1%, scheduled effective September 15, 2012.
- The board declared an increase in the quarterly dividend from $0.50 to $0.60 per share on August 1, 2012, payable September 14. Management expected operating cash flows to meet liquidity needs but cautioned that longer-term sufficiency depends on market, regulatory, and economic conditions. No earnings or revenue guidance was provided.
Risks, contingencies, and unusual items
- Loss reserves are estimates subject to uncertainty. Net reserves were $351.6 million, against an actuarial range of approximately $318.4 million to $359.8 million. A one-percentage-point change in the six-month loss and LAE ratio would change reserves by approximately $3.1 million and net income by approximately $2.0 million, or $0.13 per diluted share.
- Catastrophe exposure, competition, Massachusetts insurance regulation, residual-market assessments, and the accuracy of claims and reserve estimates are significant risks. The company’s 2012 catastrophe reinsurance provides $485 million of coverage for property losses above $50 million, subject to layer terms and co-participation.
- Investments had $1.161 million of gross unrealized losses at June 30; no OTTI charges were recorded during the six-month period. Management considered the losses temporary and stated it did not expect to need to sell securities before recovery. The filing warns that unforeseen cash needs could force sales and additional impairment recognition.
- Fixed-maturity portfolio fair value was estimated to decline $42.4 million under a 100-basis-point rate increase and rise $37.9 million under a 100-basis-point decrease. The company reported no European sovereign-debt exposure and no subprime mortgage holdings.
- Ordinary-course claims and potential Massachusetts Insurers Insolvency Fund assessments were not expected by management to materially affect the company. No material off-balance-sheet arrangements were reported; no material changes to previously disclosed risk factors were noted.
Important facts for investors to verify
- How much of the sharp year-over-year earnings improvement reflects the absence of 2011 catastrophe losses, and whether underlying loss trends persist.
- Whether favorable reserve development continues, particularly given the range of reasonable reserve estimates and residual-market reporting delays.
- Whether approved rate increases and premium growth offset higher expenses, changing exposures, and competitive or regulatory pressures.
- The investment portfolio’s sensitivity to interest rates, credit conditions, and liquidity needs, including the assumptions behind management’s expectation that unrealized losses will recover.
- The sustainability of the increased dividend relative to subsidiary dividend restrictions, statutory capital needs, and future cash flows.