Progressive Corporation 10-Q Summary — Second Quarter 2017
Business Context and Reporting Period
The Progressive Corporation reported unaudited consolidated results for the three and six months ended June 30, 2017. Progressive is primarily an insurance company writing personal auto and special-lines insurance, commercial auto insurance, and residential property insurance. The company owned 69.0% of ARX Holding Corp. at June 30, 2017.
At June 30, 2017, Progressive had approximately 11.0 million auto policies in force, 15.4 million total Personal Lines policies, 625,700 Commercial Lines policies, and 1.3 million Property policies. Total policies in force increased approximately 7% year over year.
Key Financial Metrics
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Net premiums earned | $6,313.3 million, up 14% | $12,340.0 million, up 13% |
| Total revenues | $6,605.7 million, up 14% | $12,927.4 million, up 14% |
| Income before taxes | $554.6 million, up 93% | $1,196.1 million, up 77% |
| Net income attributable to Progressive | $367.6 million, up 93% | $791.9 million, up 76% |
| Diluted earnings per share | $0.63, up 93% | $1.36, up 77% |
| Underwriting profit | $428.0 million | $928.0 million |
| Underwriting margin | 6.8%, versus 3.2% | 7.5%, versus 4.3% |
| Combined ratio | 93.2%, versus 96.8% | 92.5%, versus 95.7% |
| Operating cash flow | $2,036.7 million for the six months, versus $1,571.3 million |
Investment income increased 21% to $138.8 million in the second quarter and 15% to $268.0 million for the six months. Net realized gains on securities were $32.1 million in the quarter and $84.0 million year to date. Results also included $13.8 million of second-quarter impairment losses, including an $11.2 million impairment of a renewable-energy investment.
At June 30, 2017, total assets were $36.7 billion, total investments were $26.0 billion, cash was $161.0 million, debt was $3.4 billion, shareholders’ equity was $9.0 billion, and redeemable noncontrolling interest was $501.8 million. Total capital, defined as debt plus shareholders’ equity, was approximately $12.4 billion. Debt-to-total capital was 27.3%.
Material Changes Versus Prior Comparable Period
- Premium growth was supported by policy growth, higher written premium per policy, and rate increases implemented during 2016 and early 2017.
- Underwriting profitability improved substantially. The companywide combined ratio improved 3.6 points in the quarter and 3.2 points year to date.
- Personal Lines produced a 6.8% quarterly underwriting margin versus 3.3% in the prior year; Commercial Lines produced 8.4% versus 5.3%; and Property produced 1.5% versus a 6.5% loss.
- Personal auto incurred frequency decreased approximately 2% in the quarter and 3% year to date, while incurred severity increased approximately 3% and 4%, respectively.
- Net unfavorable prior-year reserve development was $74.2 million for the first six months, compared with $29.6 million in the prior-year period. Commercial and personal auto accounted for approximately $102 million of unfavorable development, partly offset by approximately $28 million of favorable development in Special Lines and Property.
- The company issued $850 million of 4.125% Senior Notes due 2047 and used $563.7 million to redeem its 6.70% Fixed-to-Floating Rate Junior Subordinated Debentures. Interest expense increased 27% in the quarter.
- The investment portfolio increased from $22.4 billion at June 30, 2016, and $23.5 billion at December 31, 2016, to $26.0 billion at June 30, 2017. The portfolio’s weighted average credit quality was A+ and fixed-income duration was 2.3 years.
Guidance, Outlook, Commentary, and Risks
Management stated that the company met its profitability objective for the quarter and expects continued growth from competitive product offerings, advertising, improved retention, bundling initiatives, and the expansion of Snapshot mobile-app distribution. Progressive expected to complete the countrywide rollout of the Snapshot mobile app by the end of 2017, subject to regulatory approvals.
The 2017 annual variable dividend target remained 33⅓% of annual after-tax underwriting income. The year-to-date Gainshare factor was 1.79 as of June 30, 2017, but the final factor and any dividend remain subject to full-year performance, comprehensive income, Board discretion, and other limitations.
Catastrophe losses were $235.6 million in the second quarter and $346.6 million year to date, compared with $216.5 million and $318.9 million, respectively, in the prior-year periods. More than half of second-quarter catastrophe losses were attributed to storms in Texas and Colorado. Property results included a recoverable under a $200 million aggregate stop-loss reinsurance agreement; the recoverable may reverse if the applicable full-year loss ratio falls below 63%.
Management said it had sufficient capital, operating cash flow, and borrowing capacity for anticipated business needs, debt obligations, potential ARX share purchases, dividends, and other capital requirements. A new $250 million discretionary line of credit was established, and no borrowings were outstanding under that facility.
Key risks include changes in claim frequency and severity, inflation in medical and repair costs, catastrophe events, reserve inadequacy, reinsurance recoverability, interest-rate and investment-market movements, credit deterioration, competition and pricing, regulatory approvals and changes, litigation, technology and cybersecurity risks, operational disruptions, and potential impairment of goodwill or intangible assets. The filing stated there were no material changes to the risk factors disclosed in the 2016 Form 10-K.
Minority ARX shareholders may put shares to Progressive in installments beginning in early 2018 and again in early 2021. If exercised fully, Progressive’s ownership could exceed 80% in 2018 and reach 100% in 2021. The estimated redemption obligation is reflected in redeemable noncontrolling interest; approximately $32.4 million related to unexercised ARX employee options was not recorded.
Important Facts for Investors to Verify
- Whether the favorable auto-frequency trend persists and whether higher severity, particularly bodily injury, property damage, and Michigan personal injury protection, offsets pricing benefits.
- The magnitude and sources of subsequent reserve development, especially in personal and commercial auto.
- The sustainability of the 92.5% year-to-date combined ratio after catastrophe losses, reserve development, and ARX-related amortization.
- The timing and amount of any 2017 annual variable dividend, including the final Gainshare factor and Board approval.
- The potential reversal or reduction of the Property reinsurance recoverable as full-year loss-ratio experience develops.
- Future funding requirements associated with the ARX minority-shareholder put rights and planned ARX debt refinancing.
- Interest-rate, credit-spread, equity-market, and impairment risks affecting the $26.0 billion investment portfolio.
- Pending litigation and other contingencies for which losses were not considered probable or estimable at June 30, 2017.