SELECTIVE INSURANCE GROUP INC quarterly report, Q1 FY2017

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Selective Insurance Group, Inc. — Q1 2017 Form 10-Q

Business and period: Unaudited results for the quarter ended March 31, 2017, compared with Q1 2016. The company provides property and casualty insurance through Standard Commercial, Standard Personal, and Excess and Surplus (E&S) businesses, alongside its Investments segment.

Financial performance

  • Revenue: $600.5 million, up 9% year over year. Net premiums earned were $560.9 million, up 7%; net premiums written were $598.7 million, up 6%.
  • Profit: Pretax income was $67.6 million, up 30%; net income was $50.4 million, up 36%. Diluted EPS was $0.85 versus $0.63. Operating income, a non-GAAP measure excluding after-tax realized investment losses, was $51.1 million, or $0.86 per diluted share.
  • Underwriting: The GAAP combined ratio improved to 91.2% from 92.2%; the statutory combined ratio improved to 89.7% from 90.7%. Combined ratios below 100% indicate underwriting profit. Insurance-segment underwriting gain rose 20% to $49.2 million.
  • By segment: Standard Commercial underwriting gain increased 38% to $42.5 million, with a 90.3% GAAP combined ratio. Standard Personal gain declined 41% to $5.1 million as its combined ratio worsened to 92.8%. E&S gain was $1.6 million, up 11%, and its combined ratio was 96.9%.
  • Investment income: Net investment income was $37.4 million pretax and $27.5 million after tax, versus $30.8 million and $23.6 million, respectively, in Q1 2016. Total net realized investment losses were $1.0 million, including $3.5 million of other-than-temporary impairment charges.
  • Cash flow: Operating cash flow was $46.6 million, compared with $13.8 million. Investing activities used $32.5 million and financing activities used $14.1 million. Cash was $0.5 million at quarter-end; cash plus short-term investments totaled approximately $248 million.
  • Balance sheet and debt: Total assets were $7.40 billion and stockholders’ equity was $1.59 billion at March 31, 2017. Long-term debt was $438.8 million; debt-to-capital was approximately 21.6%. The company reported $5.46 billion of invested assets and $3.68 billion of gross loss and loss expense reserves.
  • Shareholder returns: The quarterly dividend was $0.16 per share, versus $0.15 a year earlier. Book value per share increased to $27.34 from $26.42 at year-end 2016.

Material changes versus Q1 2016

  • Growth in premiums and higher investment income supported stronger earnings; after-tax investment income increased 17%.
  • Commercial underwriting improved, while Personal Lines profitability weakened. Commercial auto had a statutory combined ratio of 105.7%; workers compensation improved year over year in prior-period comparison, but its Q1 2017 ratio was 95.6% versus 81.1%, reflecting the absence of prior-year favorable reserve development.
  • Favorable prior-year reserve development was $13.9 million, compared with $15.6 million in Q1 2016. Q1 2017 included $22.4 million favorable development in general liability, partly offset by unfavorable development in commercial and personal auto.
  • Investment portfolio unrealized gains increased: pretax unrealized gains were $92.0 million at quarter-end versus $64.8 million at December 31, 2016. Investment sales were substantially higher, reflecting increased trading activity after hiring new external investment managers.
  • Q1 2017 results included a $2.9 million income tax benefit from adopting share-based compensation accounting guidance. Management said this benefit was not expected to recur through the rest of 2017.

Outlook, risks, and other notable items

  • 2017 guidance, reaffirmed: Statutory combined ratio of approximately 90.5%, excluding catastrophe losses and assuming no additional prior-year casualty reserve development; catastrophe losses of 3.5 points; after-tax investment income of approximately $110 million; and weighted-average shares of approximately 59.2 million.
  • Management cited renewal pricing, new business, retention, underwriting and claims initiatives, and agent relationships as growth and profitability drivers. It plans to appoint 85 new agents in 2017; 30 had been appointed in Q1. Expansion into Arizona and New Hampshire was planned for the second half of 2017.
  • The company is pursuing more active investment management and increased its target risk-asset allocation. Risk assets were 7% of invested assets at quarter-end and could rise to approximately 10% over time. Floating-rate investments were about 17% of fixed-income holdings, up from 13% at year-end, increasing sensitivity of investment income to interest-rate movements.
  • Management highlighted uncertainty around interest rates, market volatility, tax-law and legislative changes, inflation, and municipal-bond tax treatment. It noted that proposed tax changes could affect investment returns, but did not quantify the impact.
  • Liquidity depends in part on dividends from regulated insurance subsidiaries. The company anticipated $80 million of subsidiary dividends to the parent in 2017, subject to regulatory approval. Its $30 million parent-company credit line had no outstanding balance; reported covenants were met.
  • The company reported ordinary-course insurance litigation and certain putative class and extra-contractual claims. It did not believe any pending legal action was likely to materially affect consolidated financial condition, results, or cash flows, while noting that an adverse outcome could affect results or cash flows in a particular period.
  • There were no material changes to reported risk factors or market-risk disclosures. Management reported disclosure controls and procedures were effective.

Important facts for investors to verify

  • Whether commercial auto claim frequency, Personal Lines loss experience, catastrophe losses, and reserve development remain consistent with the assumptions underlying full-year guidance.
  • How much of earnings growth is repeatable, given the nonrecurring $2.9 million share-based compensation tax benefit and the contribution from favorable prior-year reserve development.
  • Whether higher investment income and the larger floating-rate and risk-asset exposures deliver returns commensurate with added market and credit risk.
  • Whether regulated subsidiaries obtain approval for anticipated dividends to the parent and maintain sufficient capital and liquidity to support claims and growth.
  • How the company’s stated investment-income and combined-ratio targets compare with subsequent reported results; interim results are not necessarily indicative of full-year performance.