Erie Indemnity Company — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022. The unaudited statements are prepared under U.S. GAAP. Erie Indemnity acts as attorney-in-fact for the Erie Insurance Exchange, its sole customer, providing policy issuance and renewal services and administrative services. Its principal earnings driver is a management fee based on Exchange premiums written.
Financial results
| Metric | Q3 2022 | Q3 2021 | First 9 months 2022 | First 9 months 2021 |
|---|---|---|---|---|
| Operating revenue | $741.2 million | $687.8 million | $2,139.5 million | $1,998.0 million |
| Operating income | $106.5 million | $95.1 million | $294.8 million | $256.3 million |
| Net income | $84.3 million | $90.2 million | $233.1 million | $242.8 million |
| Diluted Class A EPS | $1.61 | $1.72 | $4.46 | $4.64 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $238.1 million | $264.0 million |
- Q3 operating revenue increased 7.8%; nine-month revenue increased 7.1%. Operating income rose 12.0% and 15.0%, respectively, as revenue growth outpaced growth in policy issuance and renewal costs. Operating margin on reported revenue was approximately 14.4% in Q3 (13.8% prior year) and 13.8% for nine months (12.8% prior year); administrative reimbursement revenue and matching expense are recorded gross and do not affect operating income.
- Net income declined 6.6% in Q3 and 4.0% year to date, primarily reflecting weaker investment results. Total investment income was a $0.6 million loss in Q3 versus $20.6 million income a year earlier, and $0.3 million income for nine months versus $55.0 million. Limited partnership results shifted to losses of $4.6 million in Q3 and $2.2 million year to date, from earnings of $11.5 million and $26.7 million, respectively.
- Cash from operations was $238.1 million, down from $264.0 million. Cash used in investing was $75.0 million; cash used in financing was $249.1 million, including repayment of the remaining $93.2 million term loan in May. Cash and equivalents fell to $97.7 million from $183.7 million at year-end 2021.
- At September 30, total assets were $2.18 billion, liabilities $821.2 million, and shareholders’ equity $1.36 billion. No borrowings were outstanding; $99.1 million remained available on the $100 million revolving facility, which expires in October 2026. The company was in covenant compliance. Available-for-sale securities had fair value of $874.7 million, down from $946.1 million at year-end; the portfolio had $79.8 million of gross unrealized losses and accumulated other comprehensive loss was $89.2 million.
- Dividends declared per Class A share were $1.11 in Q3 and $3.33 for nine months, versus $1.035 and $3.105 in 2021. No shares were repurchased under the public repurchase program during the quarter; $17.8 million of authorization remained.
Material changes and operating drivers
- Exchange direct and affiliated assumed premiums written grew 9.4% to $2.27 billion in Q3 and 8.4% to $6.53 billion for nine months. The management fee rate remained 25% overall, allocated 24.3% to policy issuance and renewal services and 0.7% to administrative services.
- Q3 new business premiums increased 20.9% to $288 million. Policies in force across all lines grew 3.3% year over year; average premium per policy increased 4.1%. Q3 personal and commercial premiums written rose 8.7% and 11.2%, respectively.
- Policy issuance and renewal costs increased 8.3% in Q3 and 6.6% year to date, driven mainly by higher scheduled commissions associated with premium growth, as well as technology, professional, and personnel costs. Administrative service reimbursements and corresponding expenses increased, but are passed through at cost.
- Exchange statutory policyholders’ surplus was $10.2 billion at September 30, down from $11.7 billion at December 31, 2021. The Exchange and its property and casualty subsidiaries retained an A+ “Superior” A.M. Best financial strength rating with stable outlook; the reported policy retention ratio was 90.3%.
Outlook, risks, and unusual items
- No numerical earnings or revenue guidance is provided. Management expects operating cash needs to be met from operations and identifies cash, marketable securities, the revolving credit line, and the ability to adjust discretionary outlays as liquidity sources.
- Management cites inflation, rising interest rates, supply-chain disruption, geopolitical uncertainty, and pandemic-related conditions as sources of uncertainty. Inflation in medical, building-material, auto repair and replacement costs, and tort costs could affect Exchange claims reserves and future premium rates. Financial-market volatility may affect investment values, income, and liquidity.
- Results depend heavily on the Exchange’s growth and financial condition. A deterioration in its business, ratings, agency relationships, or ability to attract and retain policyholders could reduce premiums and Indemnity’s management fees. Receivables from the Exchange and affiliates were $544.4 million, creating a significant concentration of credit risk.
- Indemnity repaid its term loan in May 2022. It also made a $25 million pension contribution in Q3. Market-driven investment losses and unrealized losses on available-for-sale securities were significant; management states these securities’ fair-value declines were temporary and expects recovery of principal and interest.
- A lawsuit alleges breach of fiduciary duty concerning the management fee and seeks damages and other relief. The case was remanded to state court; Indemnity obtained a stay and petitioned the Third Circuit for permission to appeal. The company intends to defend the claims. The filing says certain litigation losses cannot currently be reasonably estimated; ordinary-course litigation accruals are not expected to be material, but a substantial judgment or settlement could have an adverse effect.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the nine months.
Key facts for investors to verify
- Whether Exchange premium growth and policy retention continue, and whether rate increases keep pace with claims-cost inflation.
- Whether operating expense growth remains below management-fee revenue growth, particularly for commissions, technology, and personnel.
- How investment income, limited partnership performance, interest rates, and unrealized securities losses affect earnings and equity.
- Whether the Exchange’s statutory surplus and A.M. Best rating remain stable, given Indemnity’s reliance on the Exchange as its sole customer.
- Developments in the management-fee litigation, including potential financial exposure and case status.
- Cash generation and liquidity after the term-loan repayment, pension contribution, and shareholder distributions; also confirm revolver availability and covenant compliance.