Mercury General Corporation — 2010 Form 10-K
Business context and reporting period. This annual report covers the fiscal year ended December 31, 2010; it is not a standalone fourth-quarter filing. Mercury General is a property and casualty insurer, primarily writing private-passenger automobile insurance through 13 insurance subsidiaries. California generated 76.6% of direct premiums written, and private-passenger auto represented 82.7%. The consolidated financial statements received an unqualified audit opinion.
Financial performance and position
| Metric | 2010 | 2009 |
|---|---|---|
| Total revenue | $2,775.9 million | $3,121.5 million |
| Earned premiums | $2,566.7 million | $2,625.1 million |
| Net income | $152.2 million | $403.1 million |
| Diluted earnings per share | $2.78 | $7.32 |
| Net investment income | $143.8 million | $144.9 million |
| Net realized investment gains | $57.1 million | $346.4 million |
| Operating cash flow | $91.8 million | $189.0 million |
| GAAP combined ratio | 100.7% | 96.9% |
- Net premiums written fell 1.3% and earned premiums fell 2.2%. California net written premiums declined 3.0%; non-California premiums rose 4.6%.
- The 2010 GAAP loss ratio was 71.1% and expense ratio 29.6%. Excluding favorable prior-year reserve development, the loss ratio was 71.6%, versus 70.0% in 2009. A combined ratio above 100% indicates an underwriting loss.
- Cash and short-term investments totaled $324.8 million at year-end. Total investments were $3,155.3 million, total assets $4,203.4 million, shareholders’ equity $1,794.8 million, and notes payable $267.2 million.
- Insurance-subsidiary statutory capital and surplus was $1,322.3 million, down from $1,517.9 million, primarily following MCC’s $270 million extraordinary dividend declared in the fourth quarter and payable to the parent in 2011. The statutory net-premiums-written-to-surplus ratio was 1.9:1; subsidiaries exceeded minimum required capital.
Changes, outlook, and material matters
- Net income dropped substantially from 2009, when $346.4 million of realized investment gains included $395.5 million of fair-value gains. In 2010, realized gains were $57.1 million, including $46.6 million from fair-value changes. Investment valuation movements therefore materially affected reported earnings.
- Underwriting results weakened: the combined ratio rose to 100.7% from 96.9%. Management cited California rainstorm catastrophe losses of approximately $25 million and Florida homeowners sinkhole claims. Florida homeowners recorded a fourth-quarter underwriting loss of about $19 million, including a $6 million premium-deficiency reserve.
- Prior-year reserves developed favorably by approximately $13 million in 2010, mainly from revised 2009 California bodily-injury estimates and New Jersey personal-auto claims. This compared with approximately $58 million favorable development in 2009. The company cautions that reserve estimates are uncertain; older accident years had previously experienced significant unfavorable development.
- Management plans no new-state entry in 2011 and expects to complete withdrawal from Florida homeowners by 2012. A January 2011 workforce reduction of about 165 employees is expected to generate approximately $11 million in annualized savings, with about $4 million of severance expense in first-quarter 2011.
- The $270 million extraordinary subsidiary dividend was authorized for 2011; management intends to use part of it to repay the $125 million senior notes maturing in August 2011 and the remainder in part to fund shareholder dividends. A $120 million secured credit facility matures in January 2012 and an $18 million secured loan in March 2013. Management expected to extend, refinance, repay, or otherwise fund the credit facility; no assurance is given about future financing conditions.
- Risks include concentration in California, regulated rate approvals, competition, uncertain claim severity and reserve adequacy, catastrophe and Florida sinkhole exposure, municipal-bond concentration, investment fair-value volatility, and reinsurer collectability. Municipal bonds were 77.0% of the investment portfolio’s fair value. The company also disclosed California DOI notices alleging rating and underwriting noncompliance, which it disputes, and ongoing tax examinations. Management did not expect the regulatory matters to materially affect financial position, but outcomes remain uncertain.
- Fourth-quarter 2010 net loss was $23.6 million, compared with net income of $34.2 million in fourth-quarter 2009. Management attributed the loss to declines in municipal-security fair values, California storm losses, and Florida homeowners losses and the premium-deficiency reserve. The filing reports no off-balance-sheet arrangements.
Important facts for investors to verify
- Whether the approved $270 million extraordinary dividend was paid in 2011 and how the proceeds were allocated, including repayment of the August 2011 senior notes.
- Subsequent results for Florida homeowners runoff, sinkhole claims, and the expected 2012 withdrawal; assess whether losses or claim frequency continued to rise.
- Reserve development in later periods, particularly for California bodily-injury claims and New Jersey personal-auto claims, and the adequacy of the year-end reserve estimate.
- Investment portfolio performance and credit exposure, especially municipal bonds, bond-insurer downgrades, and sensitivity to interest-rate and equity-market changes.
- Developments and financial consequences, if any, from the California DOI notices, tax examinations, and other litigation or contingencies.
- Whether premium trends, expense reductions, and the workforce action improved underwriting profitability and operating cash flow.