Business context and reporting period
Mercury General Corporation’s unaudited Form 10-Q covers the quarter and nine months ended September 30, 2017. The company primarily writes personal automobile insurance, principally in California, through 14 insurance subsidiaries operating in 11 states; it also offers homeowners and other property and casualty products.
Financial results and key metrics
- Third quarter: Net premiums earned rose 1.3% to $801.2 million. Total revenue was $858.4 million, up from $808.2 million; net income increased to $46.5 million from $26.9 million. Diluted EPS was $0.84 versus $0.49.
- First nine months: Net premiums earned increased 2.2% to $2.389 billion. Revenue was $2.559 billion versus $2.490 billion; net income was $125.1 million versus $99.1 million. Diluted EPS was $2.26 versus $1.79.
- Underwriting: The third-quarter combined ratio was 99.3%, compared with 98.1%; the nine-month ratio improved to 100.1% from 101.2%. A ratio below 100% generally indicates underwriting profit. Underwriting results included catastrophe losses of approximately $19 million for the quarter and $59 million year to date, and unfavorable prior-year reserve development of approximately $4 million and $18 million, respectively.
- Cash flow and liquidity: Nine-month operating cash flow was $276.5 million, compared with $213.8 million. At September 30, cash was $284.6 million and short-term investments were $366.4 million; management reported $651.0 million combined and access to an undrawn $50 million revolving facility.
- Balance sheet and debt: Total assets were $5.026 billion and shareholders’ equity was $1.776 billion. Notes payable were $371.2 million, net of discount and issuance costs. The company issued $375 million of 4.40% senior notes due in 2027, repaid $320 million of prior borrowings, and reported a 17.4% debt-to-total-capital ratio. The revolving facility was undrawn as of October 26, 2017.
- Investments and distributions: Investments totaled $3.727 billion at fair value. Nine-month net investment income was $94.1 million; net realized investment gains were $66.3 million, versus $55.0 million. Dividends paid were $1.8675 per share for the first nine months.
Material changes and management commentary
- Premium growth was attributed mainly to higher average premiums following California auto rate increases and growth in California homeowners policies. California approved 6.9% rate increases for auto, effective May 2017, and homeowners, effective August 2017.
- Higher investment gains materially supported reported earnings: third-quarter realized gains were $20.7 million, compared with a $15.5 million loss in the prior-year quarter. Management attributed fair-value changes principally to improved fixed-income and equity market conditions. Investment yields edged lower as higher-yielding holdings matured and were replaced in a low-rate environment.
- Catastrophe losses increased year over year, reflecting severe California rainstorms, Hurricanes Harvey and Irma, and storms and tornadoes in Oklahoma and Texas. Prior-year reserve strengthening in 2017 primarily reflected higher-than-estimated California auto and property losses.
- In October 2017, Northern California wildfires occurred after the reporting date. The company estimated gross losses of $60–$100 million and a net loss of $10 million, plus any reinsurance reinstatement premium; estimates may change. The expanded catastrophe treaty provides 100% coverage for covered losses above the $10 million retention through $200 million, subject to treaty terms, with limited additional coverage above that level.
- The company paid a $27.6 million California regulatory penalty in 2015. After a court vacated the penalty, the state returned $30.9 million, including interest, in June 2017; because the state appealed, the company had not recognized the returned amount as a gain and carried approximately $31.0 million, including interest earned, in other liabilities at quarter-end.
- Management said operating cash flow and available liquidity were expected to meet requirements without forced investment sales, while cautioning that future funding needs and receipts could vary. The filing provides no specific earnings or revenue guidance. Management identified reserve-estimation uncertainty, catastrophe exposure, pricing and regulatory approvals, competition, investment-market risks, and legal and regulatory matters as risks. It did not expect pending proceedings to have a material adverse effect; the California tax examination and appeal remain matters to monitor.
Important facts for investors to verify
- Track subsequent wildfire claims, the final net loss, and any reinsurance reinstatement premium against the initial estimates.
- Assess whether reserve development and catastrophe losses persist, particularly in California auto and property lines, and monitor combined ratios excluding these items.
- Separate underwriting performance from investment gains when evaluating earnings; confirm how market movements affect the fair-value portfolio and investment income.
- Follow the California DOI penalty appeal and tax examinations, including whether any previously returned penalty must be repaid or other liabilities arise.
- Monitor debt service, liquidity, and reinsurance coverage, including treaty exclusions, limits, and counterparty performance.