The Travelers Companies, Inc. — Q3 2011 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2011; comparisons are with the corresponding 2010 periods. The unaudited consolidated statements are prepared under U.S. GAAP. Travelers provides property and casualty insurance through Business Insurance, Financial, Professional & International Insurance, and Personal Insurance.
Financial performance
| Metric | Q3 2011 | Q3 2010 | First 9 months 2011 | First 9 months 2010 |
|---|---|---|---|---|
| Total revenue | $6.407B | $6.482B | $19.073B | $18.780B |
| Earned premiums | $5.605B | $5.422B | $16.479B | $15.992B |
| Net income | $333M | $1.005B | $808M | $2.322B |
| Diluted EPS | $0.79 | $2.11 | $1.88 | $4.68 |
| GAAP combined ratio | 104.5% | 90.6% | 108.2% | 94.0% |
| Net investment income | $690M | $735M | $2.227B | $2.250B |
| Net cash from operating activities | $917M | Not stated here | $1.818B | $2.392B |
Revenue grew 3% year to date, led by higher premiums; Q3 revenue declined as much lower realized investment gains more than offset premium growth. Claims and claim adjustment expenses rose 29% in Q3 and 26% year to date. The combined ratio exceeded 100% in both 2011 periods, indicating underwriting losses before investment income and other items.
- Catastrophes and reserves: Catastrophe losses were $606M in Q3 ($394M after tax) and $2.46B year to date, versus $117M and $1.03B in 2010. Q3 losses primarily reflected Hurricane Irene and Tropical Storm Lee. Net favorable prior-year reserve development was $184M in Q3 and $589M year to date, down from $222M and $900M, respectively.
- Segment results: Q3 operating income was $294M in Business Insurance, $211M in Financial, Professional & International, and a $108M loss in Personal Insurance. Personal Insurance’s Q3 combined ratio was 115.0%, primarily reflecting catastrophe losses; the other segments reported combined ratios of 105.4% and 76.2%, respectively.
- Balance sheet and capital: At September 30, total assets were $106.93B, investments $73.65B, claims reserves $52.32B, debt $6.60B, and shareholders’ equity $25.17B. Debt-to-total capital was 20.8% (22.7% excluding after-tax unrealized investment gains). Holding-company cash and short-term investments were $2.40B. Book value per common share was $60.98, up 3% from September 30, 2010.
- Cash and capital returns: Nine-month operating cash flow was $1.818B. Financing activities used $2.022B, including $1.755B of share repurchases and $500M of dividends. Travelers repurchased 30.1M shares for $1.71B during the first nine months; $4.80B of authorization remained at quarter-end.
Material changes and management outlook
- Net income fell 67% in Q3 and 65% year to date; diluted EPS fell 63% and 60%, respectively. Share repurchases reduced the per-share declines relative to the net-income declines. Management attributed the earnings deterioration mainly to higher catastrophe losses, weaker underlying underwriting margins, lower reserve releases, and lower investment income; Q3’s comparison was also affected by $226M of realized investment gains in 2010, including a gain on the sale of Verisk Analytics shares.
- Management expects renewal price increases to continue into 2012 and anticipates improved underlying underwriting margins in Business Insurance and Personal Insurance versus the first nine months of 2011; it expects Financial, Professional & International margins to remain generally consistent. These expectations depend on loss and weather experience, pricing, competition, and economic conditions.
- Management expects fixed-maturity investment income to be slightly lower for the remainder of 2011 and into 2012 because of low reinvestment yields; non-fixed-maturity investment income in 2012 is expected to be lower than in 2011. Management targeted approximately $1.0B of Q4 2011 share repurchases and said it did not expect to repurchase shares in excess of operating income in 2012.
- The direct-to-consumer Personal Insurance initiative is expected to remain unprofitable for a number of years as it grows. A new hurricane catastrophe model was under review; management expected modeled loss thresholds and certain catastrophe-bond attachment points to increase, potentially significantly.
Risks, contingencies, and unusual items
- Asbestos and environmental exposure: Net asbestos reserves were $2.533B at September 30; the Q3 review increased them by $175M. Net environmental reserves were $367M; a $76M increase was recorded in Q2. The company cautioned that further adverse development could be material, and that additional liabilities cannot currently be reasonably estimated.
- Asbestos settlement litigation: A bankruptcy court ordered Travelers Property Casualty Corp. to fund settlements of up to $412M and $90M, plus prejudgment interest. The company appealed; oral argument was scheduled for October 26, 2011. The outcome and ultimate payment obligation remained uncertain.
- Reinsurance dispute: A subsidiary had a $251M judgment for principal recorded in reinsurance recoverables; a separate $169M prejudgment-interest award was treated as an unrecognized gain contingency. The judgment was on appeal, with post-judgment interest accruing.
- Other exposures: A $6.75M broker antitrust settlement was awaiting final court approval. Unfunded investment commitments totaled $1.17B. Certain quantified sale-related indemnification obligations had a maximum potential amount of $1.33B, of which $10M was recorded; guarantees and indemnities also include arrangements whose maximum exposure cannot be estimated.
- Market and catastrophe risks: Management cited low interest rates, possible European sovereign defaults, U.S. credit-market disruption, economic weakness, volatile catastrophe losses, reserve uncertainty, reinsurance collectability and availability, and investment valuation risk. Catastrophe-model estimates are uncertain and actual losses may exceed modeled amounts.
- Unusual tax item: Nine-month results included a $104M benefit from favorable resolution of prior-year tax matters. Q3 income tax expense was a $1M benefit.
Most important facts for investors to verify
- Whether premium and renewal-rate growth can offset claim-cost trends, catastrophe losses, and competitive pressure—and whether combined ratios improve as management expects.
- Further development in catastrophe losses and prior-year reserves, especially the asbestos and environmental reserve assumptions and related litigation outcomes.
- Investment income and portfolio valuation under persistently low rates or financial-market disruption; confirm the effect on earnings, unrealized gains, and capital.
- Reinsurance recoverability and the terms, attachment points, and effectiveness of catastrophe protections, including changes arising from the updated hurricane model.
- Actual share repurchases, dividend capacity, and holding-company liquidity relative to operating cash flow, catastrophe claims, pension funding, and regulatory capital needs.