Mercury General Corporation — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020. Mercury writes personal auto and related property and casualty insurance through subsidiaries in 11 states, principally California. Results were materially affected by COVID-19 market disruption and reduced driving late in the quarter.
Financial results and key metrics
| Metric | Q1 2020 | Q1 2019 |
|---|---|---|
| Net premiums earned | $922.6 million | $870.2 million |
| Total revenue | $708.3 million | $1,017.7 million |
| Net investment income | $34.5 million | $34.2 million |
| Net realized investment losses (gains) | $(251.3) million | $111.1 million |
| Net income (loss) | $(139.2) million | $135.9 million |
| Diluted earnings (loss) per share | $(2.51) | $2.45 |
| Operating cash flow | $97.1 million | $174.7 million |
- Net premiums earned increased 6.0%; net premiums written increased 4.1% to $954.2 million. Management attributed growth mainly to rate increases in California auto and homeowners and growth in California homeowners policies.
- Underwriting gain was $37.8 million, versus $23.9 million. The combined ratio improved to 95.9% from 97.3% (below 100% generally indicates underwriting profit). The loss ratio improved to 70.6% from 72.4%; the expense ratio rose to 25.3% from 24.8%.
- Investment fair-value losses drove the reported net loss: market dislocations following COVID-19 contributed to losses on fixed maturity and equity securities. Investments are carried at fair value, with changes recorded in net realized investment gains or losses. Net investment income rose slightly, while the average annual pre-tax yield declined to 3.3% from 3.5%.
- Loss and loss adjustment expenses were $651.7 million, including $15.1 million of unfavorable prior-year reserve development, mainly in homeowners and commercial auto. Net catastrophe losses were approximately $2 million.
- At March 31, cash was $252.8 million and short-term investments were $237.5 million. Combined, these totaled $490.4 million. Operating cash flow decreased by $77.5 million year over year. The company said cash, short-term investments, operating cash flow, maturities and available credit should meet liquidity needs without forced investment sales.
- Total investments were $4.16 billion; total assets were $5.72 billion and shareholders’ equity was $1.62 billion. Loss reserves were $1.90 billion.
- Debt was $372.2 million carrying value, principally $375 million of 4.40% senior unsecured notes due in 2027. The $50 million revolving credit facility was undrawn; the company reported compliance with its financial covenants. Debt-to-total-capital ratio was 18.8%.
- The quarterly dividend was $0.63 per share; dividends paid totaled $34.9 million.
Material changes and outlook
- COVID-19 effects: Reduced driving led to a significant decline in auto loss frequency beginning in mid-to-late March, contributing to a lower loss ratio. Management cautioned that lower frequency may not persist and that accident severity and vehicle repair costs could rise. Economic stress also increased premium-payment concerns.
- The allowance for credit losses on premiums receivable rose to $10.0 million from $1.4 million at year-end, including an $8.2 million quarterly provision. Management cited worsening economic conditions, unemployment and payment grace periods; actual uncollectible amounts could differ materially.
- On April 9, the company announced refunds of 15% of monthly private passenger auto premiums for two months, expected to total approximately $70 million and reduce Q2 premiums written and earned by that amount. California’s April 13 bulletin required refunds for adversely impacted policyholders for March and April, and potentially May if restrictions continued; refunds could exceed the estimate.
- A 6.99% California homeowners rate increase took effect in April 2020. No formal earnings guidance was provided. Management said it would continue monitoring COVID-19 and adjust as necessary; the duration and financial impact remained uncertain.
- The catastrophe reinsurance treaty effective through June 30, 2020 provided up to $600 million per occurrence above a $40 million retention, subject to exclusions, including significant wildfire exclusions on certain layers. Annual treaty premium was approximately $38 million, versus $22 million for the prior treaty year.
- Credit, market and catastrophe risks remain relevant. The investment portfolio was concentrated in municipal bonds, and equity-market declines affected earnings. Management identified possible future effects from COVID-19 on premiums, collections, claims costs, investments, liquidity and reinsurer creditworthiness.
- Management stated pending legal and regulatory matters were not expected to materially adversely affect financial condition or cash flows. California tax examinations remained ongoing; the company believed their resolution would not have a material impact. Disclosure controls were assessed as effective.
Important facts for investors to verify
- Whether the roughly $251 million investment loss is followed by market recovery or additional volatility, and how fair-value accounting affects reported earnings.
- Actual policyholder refunds, including whether California shelter-in-place extensions make refunds exceed the estimated $70 million.
- Premium collection trends, credit-loss allowance adequacy and any effects of payment extensions or cancellation restrictions.
- Auto loss frequency and severity trends, repair-cost inflation, and further development of prior-year reserves.
- Liquidity, statutory insurer capital and reinsurance renewal terms after the treaty expires June 30, 2020.