Progressive Corporation — Q3 2018 Form 10-Q Summary
Business context and reporting period
The filing covers the unaudited quarter and nine months ended September 30, 2018. Progressive is primarily a personal auto, commercial auto, and residential property insurer, with additional service and investment businesses. The company reported more than 20 million policies in force at quarter end and owned 86.8% of ARX Holding Corp., compared with 69.0% in the prior-year period.
Financial performance and key metrics
| Metric | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Net premiums earned | $7,930.5 million | $6,544.0 million | $22,738.7 million | $18,884.0 million |
| Total revenues | $8,495.8 million | $6,791.8 million | $23,943.9 million | $19,719.2 million |
| Income before taxes | $1,130.5 million | $251.4 million | $2,921.4 million | $1,447.5 million |
| Net income attributable to Progressive | $928.4 million | $224.0 million | $2,350.6 million | $1,015.9 million |
| Diluted EPS | $1.57 | $0.38 | $3.98 | $1.73 |
| Underwriting margin | 9.7% | 2.6% | 10.1% | 5.8% |
| Combined ratio | 90.3% | 97.4% | 89.9% | 94.2% |
| Operating cash flow | Not separately provided | Not separately provided | $5,201.5 million | $3,223.1 million |
Net investment income increased 53% to $218.1 million in the quarter and 40% to $576.5 million year to date. Total net realized gains on securities were $182.1 million in the quarter and $166.7 million year to date, compared with a $24.7 million loss and $59.3 million gain, respectively, in the comparable periods. The Q3 result included substantial equity-security gains and a $22.1 million impairment of renewable-energy investments.
Catastrophe losses declined to $127.2 million in Q3 2018 from $431.1 million in Q3 2017, primarily because the prior-year period included Hurricanes Harvey and Irma. Personal Lines produced a 10.0% underwriting margin, Commercial Lines 12.0%, and Property reported a 2.3% underwriting loss margin, including catastrophe losses and ARX-related amortization.
Financial position, debt, and liquidity
- Total assets were $45.5 billion at September 30, 2018, versus $38.7 billion at December 31, 2017.
- The investment portfolio was $32.4 billion, including $25.6 billion of fixed maturities, $2.8 billion of short-term investments, and $3.1 billion of common equities.
- Cash, cash equivalents, and restricted cash were $122.7 million, down from $275.3 million at year-end 2017; management described the overall portfolio as highly liquid.
- Debt was $3.86 billion carrying value, compared with $3.31 billion at year-end 2017. The increase primarily reflects the March 2018 issuance of $600 million of 4.20% Senior Notes due 2048.
- Total capital was approximately $15.7 billion. Debt-to-total-capital was 24.6%, below the company’s stated 30% policy threshold.
- Progressive generated $5.2 billion of operating cash flow in the first nine months and had no borrowings under its $250 million discretionary line of credit.
- The company paid $654.9 million of common dividends declared in December 2017 and $13.5 million of Series B preferred dividends. No 2018 common dividend had been declared through September 30.
Material changes versus the prior comparable period
- Net premiums earned increased 21% in Q3 and 20% year to date; net premiums written increased 20% in Q3 and 21% year to date.
- Policies in force grew 13% year over year. Personal Lines policies increased 11%, Commercial Lines 8%, and Property 36%.
- Underwriting profitability improved materially, with the combined ratio improving 7.1 points in Q3 and 4.3 points year to date.
- The effective tax rate was 17.7% in Q3 versus 14.6% in the prior-year quarter, but declined to 19.2% year to date from 29.7%, primarily because the federal corporate tax rate fell to 21% from 35%.
- Progressive adopted new financial-instrument accounting on January 1, 2018, moving equity-security fair-value changes into net income and recording a $1.3 billion after-tax cumulative adjustment between retained earnings and accumulated other comprehensive income.
- Accumulated other comprehensive income attributable to Progressive fell to a $263.7 million loss, compared with income of $1.28 billion at December 31, 2017, primarily due to fixed-maturity valuation declines as interest rates rose.
- Progressive paid $295.9 million to acquire additional ARX minority shares, increasing its ownership to 86.8%. Redeemable noncontrolling interest declined to $217.4 million from $503.7 million at year-end.
Guidance, outlook, commentary, risks, and unusual items
The filing does not provide formal earnings or revenue guidance. Management expects continued growth in policies and premiums, supported by competitive pricing, advertising, expanded distribution, bundled auto and home offerings, and improved retention. Management stated that it expects to complete the transition of ASI Property products to the Progressive brand over the following year.
- Management reported lower auto claim frequency but higher severity, including approximately 6% year-over-year personal auto severity growth in Q3. Reserve estimates remain sensitive to medical costs, repair costs, litigation, driving patterns, and claims emergence.
- Progressive recorded $47.0 million of unfavorable prior-year reserve development during the first nine months, primarily involving 2016 personal auto claims and reopened personal injury protection claims.
- Hurricane Michael occurred after quarter end. Management estimated approximately $60 million of vehicle-business losses and stated that Property losses should not exceed the $60 million catastrophe-reinsurance retention, although estimates were preliminary.
- Property remains comparatively challenged, with a Q3 combined ratio of 102.3%, including 9.5 points of catastrophe losses and 5.4 points of ARX-related amortization.
- The investment portfolio had $349.0 million of gross unrealized fixed-maturity losses at quarter end, largely attributed to higher interest rates. Management reported no additional credit-related impairments and no investment-portfolio write-downs during 2018.
- On October 18, 2018, after quarter end, Progressive issued $550 million of 4.00% Senior Notes due 2029 and received approximately $544.5 million of net proceeds for general corporate purposes.
- Pending litigation includes disputes involving claims practices, personal injury protection, medical and bodily injury payments, repair-shop labor rates, wage-and-hour matters, policy documents, and marketing or sales practices. The filing states that non-claims litigation accruals were not material, but outcomes may be material if liabilities arise.
- Key risks include catastrophe events, adverse reserve development, rate and regulatory changes, competition, interest-rate and credit-market movements, reinsurance recoverability, litigation, technology and cybersecurity issues, and the ability to retain customers profitably.
Important facts for investors to verify
- Whether premium and policy growth can continue without deterioration in claim severity, retention, or underwriting margins.
- The ultimate loss impact of Hurricane Michael and subsequent catastrophe events, including the adequacy of Property reinsurance.
- Future reserve development, particularly for personal auto, reopened PIP claims, and accident year 2016.
- The sustainability and composition of investment gains, including the effect of the 2018 accounting change on net-income volatility.
- The impact of rising interest rates on the $25.6 billion fixed-maturity portfolio and accumulated other comprehensive income.
- The timing and cost of Progressive’s potential acquisition of the remaining ARX minority interest by 2021.
- The final 2018 variable common dividend, which remained subject to the Board’s discretion and the full-year Gainshare factor.
- Completion of the company’s accounting for certain Tax Cuts and Jobs Act provisions, including executive compensation deductibility and loss-reserve discounting.