Progressive Corporation 10-Q Summary
Reporting period: Quarter and six months ended June 30, 2018. The filing was dated July 31, 2018. Progressive is an insurance holding company with Personal Lines, Commercial Lines, Property, service, and investment operations.
Financial Performance and Position
| Metric | Three months ended June 30, 2018 | Six months ended June 30, 2018 | Year-over-year change |
|---|---|---|---|
| Net premiums earned | $7,634.2 million | $14,808.2 million | 21% and 20% |
| Total revenues | $8,018.0 million | $15,448.1 million | 21% and 19% |
| Income before taxes | $880.1 million | $1,790.9 million | 59% and 50% |
| Net income attributable to Progressive | $704.2 million | $1,422.2 million | 92% and 80% |
| Diluted earnings per share | $1.19 | $2.42 | 89% and 78% |
| Underwriting profit | $697.2 million | $1,527.8 million | 63% and 65% |
| Combined ratio | 90.9% | 89.7% | Improved from 93.2% and 92.5% |
| Operating cash flow | Not separately provided | $3,483.3 million | Up from $2,022.6 million |
Profitability: The effective tax rate was 20.3% for the quarter and 20.1% year to date, compared with 32.8% and 32.9% in the prior-year periods, primarily reflecting the reduction in the U.S. corporate tax rate from 35% to 21%. Comprehensive income attributable to Progressive was $654.9 million for the quarter and $1,222.6 million year to date.
Segment results: Personal Lines generated $648.8 million of second-quarter pretax underwriting profit at a 10.1% margin; Commercial Lines generated $100.3 million at an 11.3% margin. Property reported a $51.9 million underwriting loss and a 116.6% combined ratio, principally due to catastrophe losses and ARX-related amortization. Total policies in force reached 19.6 million, up 13% year over year.
Cash flow and liquidity: Operating cash flow was $3.5 billion in the first six months. Investing activities used $4.0 billion, primarily for purchases of fixed maturities and the $295.9 million acquisition of additional ARX shares. Financing activities provided $355.3 million. Cash, cash equivalents, and restricted cash ended at $157.7 million, compared with $275.3 million at December 31, 2017.
Capital and debt: Total investments were $30.9 billion at June 30, 2018, compared with $27.3 billion at year-end 2017. Debt carrying value was $3.86 billion and shareholders’ equity was $11.0 billion. Debt-to-total capital was 26.0%. Progressive issued $600 million of 4.20% Senior Notes due 2048 and $500 million of Series B preferred shares during the first quarter. The company had no borrowings under its $250 million discretionary line of credit.
Material Changes Versus Prior Comparable Period
- Net premiums written increased 20% in the quarter and 21% year to date; policies in force increased approximately 2.3 million year over year.
- Underwriting performance improved, driven by higher premium per policy, lower auto claim frequency, expense management, and lower catastrophe losses. Personal auto frequency declined approximately 3% in the quarter, while severity increased approximately 2%.
- Net catastrophe losses declined to $206.5 million in the quarter and $255.8 million year to date, from $235.6 million and $346.6 million, respectively.
- Prior accident-year reserve development was unfavorable by $25.9 million in the quarter and $81.5 million year to date. Personal auto unfavorable development was primarily related to reopened personal injury protection claims; Commercial Lines development reflected late-reported losses and higher loss adjustment expenses.
- Property results deteriorated because of catastrophe activity, including storms in Texas and Colorado. Property’s second-quarter catastrophe losses represented 26.1 combined-ratio points.
- Progressive increased its ownership of ARX from 69.0% to 86.7% by acquiring additional shares for $295.9 million. Remaining ARX shares may be put to Progressive in 2021, with a corresponding call right thereafter.
- Adoption of new financial-instrument accounting guidance caused a $1.3 billion after-tax reclassification from accumulated other comprehensive income to retained earnings. Equity-security fair-value changes now flow through net income rather than other comprehensive income.
- Investment portfolio fair value increased to $30.9 billion, but pretax net unrealized losses on fixed maturities were $267.3 million, compared with net unrealized gains of $73.3 million at June 30, 2017.
Outlook, Commentary, Risks, and Unusual Items
Management emphasized continued growth in auto, Commercial Lines, and Property applications, increased advertising, improving retention, and continued investment in bundled auto and home products. The company expects to complete the transition of ASI Property branding to Progressive over the following year. No formal revenue or earnings guidance was provided.
The 2018 annual variable common dividend target remains 33⅓% of after-tax underwriting income, subject to a performance factor and Board approval. The year-to-date Gainshare factor was 1.91, but the final factor and any dividend remain uncertain.
Catastrophe reinsurance coverage was renewed with the retention threshold increased to $60 million from $50 million. Management stated that capital and operating cash flows should support current operations, debt service, preferred dividends, contractual obligations, and expected capital needs; however, additional capital may be required within the next 12 months depending on premium growth, regulatory capital needs, catastrophe activity, underwriting results, investment returns, and capital distributions.
Key risks include claim frequency and severity trends, reserve inadequacy, catastrophe events, reinsurance recoverability, interest-rate and credit-spread movements, equity-market volatility, competition and pricing, regulatory approvals and rate actions, litigation, tax-accounting uncertainties, technology and cybersecurity, and access to capital markets. Pending non-claims litigation accruals were not material, but potential losses generally could not be estimated and a substantial adverse judgment or settlement could materially affect results.
Investor Verification Checklist
- Verify whether strong premium and policy growth is maintained without deterioration in retention, claim severity, or underwriting margins.
- Monitor unfavorable reserve development, particularly reopened PIP claims, Commercial Lines late-reported losses, and Property catastrophe claims.
- Assess the sustainability of the 2018 underwriting improvement excluding favorable frequency and catastrophe comparisons.
- Track Property’s combined ratio, catastrophe exposure, reinsurance recoverables, and the higher $60 million catastrophe retention.
- Review investment-market sensitivity, including the $267.3 million pretax unrealized fixed-maturity loss and the 2.6-year portfolio duration.
- Evaluate future cash requirements associated with the 2021 ARX put/call provisions and any potential capital raising.
- Confirm the final annual variable dividend, Gainshare factor, and Board determination.
- Follow unresolved Tax Cuts and Jobs Act accounting matters and pending litigation disclosures.