Progressive Corporation 2013 Q3 Form 10-Q Summary
Business context and reporting period
The Progressive Corporation is an insurance holding company focused primarily on personal automobile and recreational vehicle insurance, with additional commercial auto, service, investment, and run-off indemnity businesses. This unaudited Form 10-Q covers the three and nine months ended September 30, 2013, with comparisons to the corresponding 2012 periods.
Key financial metrics
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Net premiums earned | $4,303.0 million | $4,054.8 million | $12,759.3 million | $11,912.4 million |
| Total revenues | $4,521.3 million | $4,423.9 million | $13,552.1 million | $12,733.3 million |
| Income before taxes | $345.0 million | $412.4 million | $1,294.4 million | $964.2 million |
| Net income | $232.4 million | $277.0 million | $865.6 million | $653.2 million |
| Diluted EPS | $0.39 | $0.46 | $1.43 | $1.07 |
| Underwriting profit | $249.4 million | $165.2 million | $852.9 million | $489.0 million |
| Underwriting margin | 5.8% | 4.1% | 6.7% | 4.1% |
| Combined ratio | 94.2% | 95.9% | 93.3% | 95.9% |
Operating cash flow for the first nine months was $1,748.0 million, compared with $1,665.3 million in 2012. Investing activities used $1,437.1 million, principally reflecting purchases of fixed maturities. Financing activities used $388.2 million, including share repurchases, debt repurchases, and dividends. Cash declined to $100.9 million at September 30, 2013, from $179.1 million at December 31, 2012.
Total investments were $17,995.9 million at September 30, 2013, compared with $16,475.5 million at December 31, 2012. Shareholders’ equity was $6,792.6 million, and total capital was approximately $8.8 billion. Carrying-value debt was $2,010.6 million, with a fair value of $2,231.4 million; debt-to-total-capital was 22.8%, compared with 25.6% at year-end 2012.
Material changes versus the prior comparable period
- Net premiums earned increased 6% in the quarter and 7% year to date; net premiums written increased 5% and 6%, respectively.
- Net income declined 16% in the quarter despite higher underwriting profit, primarily because net realized investment gains fell to $27.9 million from $171.9 million. Year-to-date net income increased 33%.
- Underwriting margin improved to 5.8% from 4.1% in the quarter and to 6.7% from 4.1% year to date. Management attributed the improvement to prior rate increases and lower catastrophe losses.
- Catastrophe losses were $34.9 million in Q3 2013 versus $52.4 million in Q3 2012, and $164.5 million for the first nine months versus $175.8 million.
- Personal Lines policies in force increased 2% to 13.1 million; Commercial Lines policies in force were approximately flat. Direct auto policies in force increased 4%, while Agency auto policies were flat.
- Investment income declined 1% in the quarter and 8% year to date, primarily because of lower yields. The recurring investment book yield was 2.6% in Q3 2013 versus 2.8% in Q3 2012.
- Progressive repurchased $54.1 million principal amount of its 6.70% junior subordinated debentures and recognized a $4.3 million loss on extinguishment. It also repurchased 1.5 million common shares for $38.1 million during the quarter.
Guidance, outlook, commentary, risks, and unusual items
- Management stated that the 5.8% quarterly underwriting margin exceeded its target of at least 4%. The company continues to evaluate rate adequacy and expects pricing and market conditions to support more stable and competitive rates.
- New Personal Lines applications increased 6% in the quarter, including a 12% increase in Direct auto applications. Commercial Lines new applications declined 6%, reflecting rate increases.
- Management highlighted mobile acquisition capabilities, multi-product penetration, and Snapshot usage-based insurance as key growth initiatives. Retention remains a concern: personal auto policy life expectancy declined 7% year over year, including declines of 8% in Agency auto and 6% in Direct auto.
- The company expects to construct 10 to 20 additional service centers over the next four years, at an estimated average cost of $4 million to $6 million per center, excluding land, funded through operating cash flows.
- Progressive maintains an annual variable dividend policy. For 2013, the target is 33⅓% of annual after-tax underwriting income, subject to a companywide Gainshare factor and Board approval. The year-to-date Gainshare factor was 1.15, but the final factor had not been determined.
- The $150 million of 7% Notes due 2013 was repaid at maturity on October 1, 2013. Management stated that capital resources, operating cash flow, and borrowing capacity were sufficient for expected needs.
- A private equity investment valued at $38.0 million was under an agreement to be sold by year-end 2013, potentially generating an approximately $35.6 million realized gain.
- Key exposures include claims severity and frequency, catastrophe losses, unfavorable loss-reserve development, rate approvals, competition and customer retention, interest rates, credit and valuation risk in the investment portfolio, litigation, regulatory changes, technology and data-security risks, and the financial condition of counterparties.
- Pending litigation primarily relates to insurance claims practices and other operating matters. Accruals for non-claim litigation were not material, but the company stated that an adverse judgment or settlement could materially affect results, cash flows, or financial condition.
Important facts for investors to verify
- Whether underwriting margins remain above the company’s 4% target as catastrophe losses, claims severity, and reserve development evolve.
- The sustainability of premium and policy growth, particularly given lower personal auto retention and weaker Commercial Lines applications.
- The effect of lower investment yields and interest-rate movements on investment income, unrealized gains, and capital.
- The final 2013 Gainshare factor and any variable dividend declared by the Board.
- Completion and realized proceeds from the planned private equity sale.
- Future debt maturities, debt repurchases, share repurchases, and the company’s capital position relative to regulatory and catastrophe requirements.
- Development of pending litigation and loss reserves, for which the filing states that potential exposures are uncertain and generally cannot be estimated clearly.