Mercury General Corporation — Q3 2022 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2022. Mercury primarily writes personal automobile insurance, with related homeowners and other property-and-casualty products; it operates in 11 states, principally California. Figures below are unaudited.
Financial performance
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Net premiums earned | $996.9 million | $940.9 million | $2,947.0 million | $2,783.7 million |
| Total revenues | $900.3 million | $932.2 million | $2,491.4 million | $2,944.1 million |
| Net realized investment gains (losses) | $(144.2) million | $(43.5) million | $(581.2) million | $57.0 million |
| Net income (loss) | $(98.3) million | $1.3 million | $(505.9) million | $217.5 million |
| Diluted earnings (loss) per share | $(1.78) | $0.02 | $(9.14) | $3.93 |
| Combined ratio | 102.8% | 99.0% | 106.3% | 95.8% |
- Underwriting: Q3 loss ratio was 79.0% versus 74.2%; expense ratio improved to 23.8% from 24.8%. For nine months, loss ratio rose to 82.7% from 71.2%, while expense ratio improved to 23.6% from 24.6%. Combined ratios above 100% indicate underwriting losses.
- Cash flow: Nine-month operating cash flow was $284.9 million, down from $428.0 million. Investing activities used $195.5 million; financing activities used $89.0 million, including $87.9 million in dividends. Cash ended at $335.9 million.
- Balance sheet and liquidity: At September 30, total investments were $4.68 billion, down from $5.14 billion at year-end 2021; total assets were $6.45 billion versus $6.77 billion. Shareholders’ equity was $1.55 billion versus $2.14 billion. Cash plus short-term investments totaled $436.5 million. Management said operating cash flow, investment maturities, and available credit should meet liquidity needs without forced investment sales.
- Debt: Carrying value of notes payable was $373.2 million, principally $375 million of 4.40% senior unsecured notes due in 2027. The $75 million revolving facility was undrawn; debt-to-total-capital was 19.5%, and the company reported compliance with its financial covenants.
- Investment income and fair values: Nine-month net investment income increased to $118.5 million from $95.6 million, while realized investment losses swung from a $57.0 million gain to a $581.2 million loss. The company attributed declines to higher interest rates and weaker equity markets. Fixed-maturity securities had a 3.8-year modified duration; management estimated that a 100- or 200-basis-point rate increase would reduce their fair value by $150.3 million or $300.7 million, respectively.
Material changes and management commentary
- Premium growth reflected more policies outside California and rate increases in homeowners and certain non-California lines, partly offset by fewer California private-passenger auto policies. Nine-month net premiums earned rose 5.9% year over year.
- Management cited higher auto repair costs, medical costs, social inflation, and supply-chain and labor constraints as drivers of increased claim severity. Auto loss frequency had returned near pre-pandemic levels. Excluding catastrophe losses and prior-year reserve development, the loss ratio increased to 79.0% from 68.8% for the nine-month periods.
- Nine-month prior-year reserve development was unfavorable by $49.9 million, primarily in private-passenger auto, compared with favorable development of $23.7 million in 2021. Nine-month catastrophe losses, net of reinsurance, were approximately $62 million versus $85 million.
- Management reported filing for rate increases in many states and taking non-rate actions to improve profitability. California had not approved a private-passenger auto rate filing from a major insurer since the pandemic began; timing of approval for Mercury’s pending filings was uncertain.
- In October 2022, Mercury reduced its workforce by approximately 40 employees. It expects a one-time $3 million expense in Q4 2022 and annual ongoing savings of approximately $6 million.
- No specific earnings or premium guidance was provided. Management cautioned that nine-month results are not necessarily indicative of full-year results and highlighted uncertainty around inflation, interest rates, claims trends, COVID-19 effects, and the Russia-Ukraine conflict.
Risks, contingencies, and unusual items
- Insurance and catastrophe exposure: Reserve estimates are inherently uncertain and sensitive to inflation, claim development, litigation, medical costs, and repair costs. Catastrophe reinsurance provides up to approximately $936 million per occurrence above a $60 million retention for the treaty year ending June 30, 2023, but excludes Florida business and specified California earthquake losses; 2022 catastrophe events did not exceed the applicable retention.
- California regulatory and legal matters: The California DOI is pursuing unresolved issues related to a rating and underwriting examination and publicly announced an intended administrative action. The company cannot estimate potential penalties or predict the outcome. The DOI and private plaintiffs have also challenged pandemic-related premium relief; Mercury reported approximately $128 million of refunds or credits and cannot estimate any potential further refunds or losses.
- Tax examination: California tax years 2011–2013 remain under review following assessment schedules; the company is evaluating them and believes resolution will not materially affect its financial position.
- Market and economic risks: High inflation may raise claims and operating costs, complicate pricing and reserving, and increase investment volatility. Rising rates have reduced fixed-income fair values; equity-market declines also weighed on results.
- The company stated it did not believe pending legal or regulatory proceedings would, individually or in aggregate, materially adversely affect its financial condition or cash flows, while noting outcomes may be uncertain.
Important facts for investors to verify
- Whether filed rate increases are approved and can catch up with auto claim-cost inflation, particularly in California.
- Subsequent loss-reserve development, especially the private-passenger auto book and long-tail bodily-injury claims.
- Investment portfolio values, realized losses, and liquidity under continued interest-rate or equity-market volatility.
- Outcomes and potential financial exposure from the California DOI action, premium-relief disputes, and California tax assessments.
- Whether the announced workforce savings are achieved and whether operating cash flow remains sufficient to support claims, dividends, and investment needs.