Hanover Insurance Group, Inc. — FY2010 Form 10-K
Reporting period: Fiscal year ended December 31, 2010; filed February 23, 2011. Although the request references Q4, this is an annual filing. Fourth-quarter figures are noted separately below. The company is principally a U.S. property-and-casualty insurer, with Commercial Lines, Personal Lines and Other Property and Casualty segments.
Financial performance and position
| Metric | FY2010 | FY2009 |
|---|---|---|
| Total revenue | $3,152.2 million | $2,834.1 million |
| Net premiums written | $3,048.0 million | $2,608.7 million |
| Net income | $154.8 million | $197.2 million |
| Diluted earnings per share | $3.34 | $3.86 |
| Net investment income | $247.2 million | $252.1 million |
| Net realized investment gains | $29.7 million | $1.4 million |
| Operating cash flow (cash flow statement) | $83.6 million | $91.6 million |
| Total assets at year-end | $8,569.9 million | $8,042.7 million |
| Debt at year-end | $605.9 million | $433.9 million |
| Shareholders’ equity at year-end | $2,460.5 million | $2,358.6 million |
- Net premiums earned were $2,841.0 million, up from $2,546.4 million. Net written premiums rose 16.8%; Commercial Lines grew 39.5%, while Personal Lines declined 0.6%.
- Property-and-casualty segment income before tax fell to $227.7 million from $270.1 million. Commercial Lines income declined to $111.2 million from $189.7 million; Personal Lines income improved to $113.0 million from $76.4 million.
- The GAAP combined ratio was 100.1%, versus 98.2% in 2009, indicating underwriting losses before investment income. Commercial Lines’ ratio worsened to 101.3% from 94.1%; Personal Lines improved to 99.1% from 102.1%.
- Catastrophe losses rose to $160.3 million from $98.9 million. Favorable prior-year reserve development decreased to $111.1 million from $155.3 million.
- Investments totaled approximately $5.4 billion, largely fixed maturities; about 92% of fixed maturities were investment grade. Fixed maturities had net unrealized gains of $200.6 million at year-end.
- Cash and cash equivalents were $290.4 million. The holding company reported $447.2 million of fixed maturities and cash. Combined property-and-casualty statutory surplus was $1,747.3 million, compared with $1,741.6 million.
Fourth quarter: Revenue was $833.3 million and net income was $58.4 million, versus $730.3 million and $57.3 million in Q4 2009. Diluted net income per share was $1.27, versus $1.14.
Material changes and unusual items
- Growth included approximately $289 million of Commercial Lines premiums from the OneBeacon renewal-rights transaction, which began renewing in 2010, and growth in managed program business. The OneBeacon policy conversion to Hanover forms and systems was expected to continue through late 2011.
- 2010 net income included $29.7 million of realized investment gains, compared with $1.4 million in 2009. The 2009 comparison included a $34.5 million pre-tax gain on debt repurchases; 2010 included a $2.0 million pre-tax loss on debt repurchases.
- Other-than-temporary investment impairments recognized in earnings were $13.9 million, compared with $32.9 million in 2009.
- The company issued $200 million of 7.5% senior notes due 2020 and repurchased $36.5 million face amount of junior debentures. A further $48 million face amount was repurchased in February 2011 for $50.5 million; the filing estimates this will reduce 2011 pre-tax interest expense by about $7 million.
- Common dividends were $1.00 per share for 2010, up from $0.75 in 2009. The company repurchased 2.9 million shares for $134.7 million during 2010; cumulative repurchases under its program were 7.9 million shares for $342.9 million.
Outlook, risks and contingencies
- No formal earnings or revenue guidance is provided. Management emphasizes disciplined underwriting, specialty Commercial Lines growth, geographic diversification and Personal Lines account business. It expects the 2011 reinsurance program to be substantially consistent with 2010 and does not expect significant near-term qualified-pension contributions, subject to assumptions and market performance.
- Management attributed weaker annual results mainly to higher catastrophe losses. It also cited persistent price competition, particularly in Commercial Lines, and continued investment in products, technology, agency relationships and expansion as factors affecting expenses and margins.
- Reserve adequacy remains a key uncertainty: reserves are estimates, approximately 48% of net loss reserves were IBNR, and management noted that a one-percentage-point change in the aggregate loss and LAE ratio would affect segment income by about $28 million.
- The Michigan Supreme Court’s 2010 McCormick decision may expand recovery of non-economic auto damages. Management increased its actuarial estimate for personal auto reserves by approximately $15 million, but said the decision’s full effects and the ability to obtain rate increases remain uncertain.
- Concentration in Michigan and the Northeast, severe weather and catastrophe exposure, residual-market assessments, competitive pricing and regulatory limits on rates or exiting markets could affect results. The company reported a $12.9 million underwriting loss from mandatory residual markets in 2010.
- MCCA reinsurance recoverables were approximately $752.5 million, representing 60% of total reinsurance receivables at year-end. The filing cites statutory assessment support but identifies concentration and collection risk.
- In the Louisiana “Road Home” litigation, the remaining anti-assignment issue was referred to the Louisiana Supreme Court; oral argument was scheduled for March 2011. The company’s reserves assume no liability under this or similar litigation. A separate cash-balance pension class action was not expected to materially affect financial position, but could affect a period’s results or plan funding.
- Other risks include investment-market and interest-rate movements, reinsurer creditworthiness, long-tail reserve development, discontinued accident-and-health liabilities and possible assessments or legal changes. Management said the qualified pension plan was essentially fully funded at year-end after a $100 million contribution.
Important facts for investors to verify
- Reconcile operating cash flow: the audited cash flow statement reports $83.6 million for 2010, while the MD&A narrative states $87.7 million. Confirm the correct figure against the filed statements and XBRL.
- Assess whether premium growth—particularly the OneBeacon-related increase and acquired specialty business—translates into sustainable underwriting profit as policies convert to Hanover forms and systems.
- Track catastrophe losses, reserve development and the impact of the Michigan McCormick decision on personal and commercial auto reserves and pricing.
- Review reinsurance collectability and MCCA exposure, along with catastrophe coverage limits, retentions and renewal pricing.
- Monitor debt-service costs, holding-company liquidity, regulated subsidiary dividend capacity, and capital returns given increased debt and continued repurchases and dividends.
- Follow the Louisiana litigation, Durand pension litigation, residual-market assessments and discontinued-business reserves for material developments.