United Fire & Casualty (UFCS) Q3 2019 Earnings Call Transcript

Image source: The Motley Fool.

United Fire & Casualty (UFCS 2.46%)
Q3 2019 Earnings Call
Nov 06, 2019, 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning. My name is Keith, and I'll be your conference operator today. At this time, I would like to welcome everyone to the UFG Insurance third-quarter 2019 financial results conference call. [Operator instructions] Thank you.

I will now turn the call over to Randy Patten, assistant vice president and controller. Please go ahead, sir.

Randy Patten -- Assistant Vice President and Controller

Good morning, everyone, and thank you for joining this call. Earlier today, we issued a news release on the results. To find a copy of this document, please visit our website at ufginsurance.com. Press releases and slides are located in the investor relations tab.

Our speakers today are chief executive officer, Randy Ramlo; and Dawn Jaffray, chief financial officer. Please note that our presentation today may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. The company cautions investors that any forward-looking statements include risks and uncertainties and are not a guarantee of future performance. These forward-looking statements are based on management's current expectations, and we assume no obligation to update them.

The actual results may differ materially due to a variety of factors, which are described in our press release and SEC filings. Please also note that in discussion today, we may use some non-GAAP financial measures. Reconciliation of these measures to the most comparable GAAP measures are also available in our press release and SEC filings. At this time, I'm pleased to present Mr.

Randy Ramlo, CEO of UFG Insurance.

Randy Ramlo -- Chief Executive Officer

Thanks, Randy. Good morning, everyone, and welcome to our third-quarter conference call. Earlier this morning, we reported our third-quarter 2019 results, including a consolidated net loss of $0.09 per diluted share and adjusted operating loss of $0.40 per diluted share and a GAAP combined ratio of 110%. This compares with net income of $0.43, adjusted operating income of less than $0.01 and a 105.5% for the GAAP combined ratio in the third quarter of 2018.

Catastrophe losses and increase in severity of losses and current accident year reserve additions in our commercial auto and liability lines of business are the primary drivers for the net loss reported in the third quarter of 2019. Increased catastrophe losses are not uncommon for third quarters, which, along with second quarters, are historically our most volatile quarters. In the third quarter of 2019, we incurred $19.3 million of catastrophe losses compared with 12.3 million in the same period of 2018. Dawn will discuss catastrophe losses in more detail in a few minutes.

In the third quarter, we also incurred an increase in severity of losses and added additional reserves in the current accident year in our commercial auto and liability lines of business. This reserve strengthening is due to an increase in losses from a continuation of the challenging litigious environment, particularly in commercial auto and liability lines of business in the states of Texas and Florida. As a reminder, commercial auto is our largest line of business, with Texas being the state with our highest concentration of commercial auto business. Similar to our peers and as mentioned on prior conference calls, we continue to experience the impact of what our industry has termed social inflation with higher-than-expected legal settlements associated with bodily injury claims in our umbrella, commercial auto and liability lines.

With respect to claims, we continue to implement new initiatives aimed at shortening cycle time and reducing claims costs and the impact of litigation on our auto liability book. These enhancements will allow us to speed up the process of establishing reserves, improve our response time in handling claims and efficiently assign adjusters to claims. On the subjects of analytics, our enterprise analytics team has delivered an improved commercial auto predictive model, which was first used with the June of 2019 renewals. We continue to closely monitor the effectiveness of the model in our underwriting decisions.

Team will implement a commercial property analytical model in the fourth quarter of this year to help improve technical pricing in that line. The schedule for developing an updated workers' compensation model and small commercial model has been accelerated, with plans to begin use in the first half of 2020. Although the reported results do not yet reflect our strategic initiatives to improve profitability, it remains our primary focus, and we are encouraged by the continued improvement we are experiencing in our underlying operations. However, these positives in our operations come with a word of caution as commercial auto remains an industrywide challenge, with the social inflation of jury awards, higher annual miles driven, higher repair costs, distracted driving and skilled driver shortages.

The key metrics we focused on that are showing operating improvement include declining frequency of auto claims, a decrease in claim counts despite the increase in catastrophe claims, strong commercial pricing increases that are outpacing the industry and improvement in the core loss ratio of 3.1 points year to date. Although we have seen an increase in severity of losses, we are pleased that the decline in frequency of losses, especially in our commercial auto line. The third-quarter marks the fourth consecutive quarter of flat or declining frequency of auto claims. In addition, we have had a decrease in the claim counts despite a 25% increase in catastrophe claims year to date in 2019.

Another key metric for UFG is pricing increases. Last quarter, we mentioned that our average renewal pricing change for commercial lines was the highest we have seen in over two years at 6.6%. In the third quarter of 2019, our average renewal pricing change for commercial lines topped this mark, rising to 7%. Renewal pricing increases continue to be driven by commercial auto pricing.

The effective rate change for commercial auto was 12.2% in the third quarter of 2019 compared with 10.9% in the second quarter of 2019 and 9.5% in the third quarter of 2018. These pricing increases in the third quarter are significantly outpacing the industry average of 4%, which was recently reported by MarketScout. This increase in rates is attributable to the aggressive initiatives we have put in place at the end of 2018 as we continue to focus on reviewing the bottom 30% of our commercial auto book, non-renewing underperforming accounts, advocating for and verifying stronger insured vehicle use policies and declining new business opportunities that do not align with UFG's risk appetite. Over the past year, the number of commercial auto exposure units has been flat, but premiums earned has been increasing.

This increase is being driven by our aggressive rate increases. I'll wrap up my portion of our prepared remarks with a mention of our surety operations. Although we rarely discuss our surety operations, this line of business continues to provide strong and steady performance year after year. This is an area of our business that we plan to expand in the future given surety's continued outstanding performance.

With that, I will turn the discussion over to Dawn Jaffray. Dawn?

Dawn Jaffray -- Chief Financial Officer

Thanks, Randy, and good morning, everyone. In the third quarter of 2019, we reported a consolidated net loss of 2.3 million compared to net income of 11.1 million in the third quarter of 2018. Year to date, consolidated net income was 38 million compared to 57 million in 2018. As Randy mentioned, the net loss in the third quarter of 2019 was driven by catastrophe losses and increase in severity of losses and current accident year reserve additions in our commercial auto and liability lines of business.

Benefiting the third quarter and year to date 2019 was continued strong equity market performance. This increased the value of our investment in equity securities, resulting in an after-tax gain of 7.7 million in the quarter and 37 million year to date. Also positively impacting results were higher net premiums earned with the quarter increase of 3.9% and 6.1% for the nine-month period of 2019. Premium growth has been primarily driven by an increase in rates, with the largest rate increases occurring in our commercial auto line of business.

2019 net investment income was basically flat at 13.3 million for the third quarter and 43.9 million year to date compared with 2018. In the third quarter of 2019, we recognized favorable reserve development of 5.5 million compared to unfavorable reserve development of $700,000 in the third quarter of 2018. Year to date in 2019, we experienced favorable development of $800,000 compared to favorable development of 47.7 million in the same period for 2018. Year-to-date changes in prior year reserve development are primarily from reserve strengthening in our commercial auto and liability lines of business in our Gulf Coast region.

At September 30th, 2019, our total reserves remained within the actuarial estimates. As Randy mentioned, in the third quarter of 2019, we had 19.3 million of cat losses from 17 events, four of which account for the majority of our losses. These events included a hailstorm in Wyoming and a tornado in South Dakota. Cat losses added seven points to the third-quarter combined ratio, which is slightly below what we typically see, having a 10-year historical average of 7.3 points.

Looking ahead to the fourth quarter, our preliminary loss estimates from the October tornado in Dallas are in the 5 to $6 million range. With respect to the ongoing wildfires, it is too early to estimate losses. However, as a reminder, we have limited property exposure, we do not write personal lines in the State of California, and we have catastrophe reinsurance in place with retention of losses from a single event of up to 20 million. The combined ratio in the third quarter and year to date in 2019 was 110% and 106%, respectively, compared to 105.5% and 102.5% for the same period in 2018.

Removing the impact of catastrophe losses and reserve development, our core loss ratio in 2019 deteriorated 3.7 percentage points in the quarter and improved 3.1 percentage points year to date. Referring to Slide 9 in the slide deck on our website, we've provided a detailed reconciliation of the impact of catastrophe and development on a combined ratio. The expense ratio for the third quarter of 2019 was 33% compared with 32.3% for the third quarter of 2018. Year to date, the expense ratio was 32.7% compared to 33.7% in the same period of 2018.

The increase in the expense ratio during the third quarter is primarily due to quarterly fluctuations in expenses for our OASIS Project extensively upgrading our underwriting technology platform. In addition, we continued to benefit from a decrease in employee benefit expenses with the changes we made at the end of 2018 to our retirement benefits plan. Moving on to capital matters. Annualized return on equity was 5.5% during the first nine months of 2019 compared to 7.3% in the same period of 2018.

During the third quarter, we declared and paid a $0.33 per share cash dividend to shareholders of record as of August 30th, 2019. We have paid quarterly dividends consecutively for the past 206 quarters since March of 1968. We also repurchased 177,249 shares, totaling 8.1 million in the third quarter. We are authorized by the board of directors to purchase an additional 1.9 million shares of common stock under our share repurchase program, which will expire in August of 2020.

And with the closing of our prepared remarks, I will now open the line for questions. Operator?

Questions & Answers:

Operator

[Operator instructions] And the first question comes from Paul Newsome with Sandler O'Neill.

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

Good morning. I was hoping you could talk a little bit about how the severity issue that you have experienced in commercial auto have expanded into the sort of noncommercial auto areas and kind of what were you seeing outside of commercial auto.

Randy Ramlo -- Chief Executive Officer

Paul, this is Randy. Number one, also in umbrella, so some of these losses have -- went through the underlying policy and gotten into the umbrella. So that's number one. But we're also seeing kind of, I don't know if I like always using the term social inflation, but just court and jury awards have shown a pattern of increasing on all bodily injury situations and particularly in situations where there are severe or semi-severe bodily injuries, but little or no negligence, and yet courts and juries are overlooking that negligence aspect of it.

And that's really where we're seeing. It's still predominantly in the commercial auto line, leaking a little bit into the general liability line, but also hitting the umbrella.

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

Is the umbrella principally just the commercial auto access?

Randy Ramlo -- Chief Executive Officer

Yes. Principally, yes.

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

OK. And then I was -- wanted to talk about the increased speed to claim process. So I certainly understand why you would want to do that to lower the ultimate claim cost, but is there a possibility that an accelerated claim process will have an accelerated recognition of claims themselves in the fourth quarter or beyond?

Randy Ramlo -- Chief Executive Officer

So this is -- we have Corey Ruehle here, our chief claims officer, and I'll let him if he has any comments. That is possible in the short term. Long term, I mean, all studies have shown that if you can settle a claim quicker, you can usually settle it at lower dollar amounts. But you're right, as you implement this, there's a possibility of some acceleration of claim payments, maybe for a quarter or two.

Corey, do you have any other comments other than that?

Corey Ruehle -- Chief Claims Officer

I would agree with what Randy says. We are working pretty feverishly to speed up that process. And we are keeping an eye on whether or not that will have an impact in the short run or not.

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

But you don't plan to make any adjustments, assuming the reserving process, if you do see increased frequency claims because of the speed to reduced IBNR because you think ultimately the claims will be less?

Randy Ramlo -- Chief Executive Officer

I would say no, not at this point. As I said, that always could be possible if the actuaries see some of that coming through. But at this point, we don't have any plans to do that, no.

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

And then finally, how different will the fourth-quarter reserve process be for the -- between the -- from the quarterly ones?

Randy Ramlo -- Chief Executive Officer

How do you mean, Paul?

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

Well, sometimes it's much more involved. Sometimes it ends up being just a more careful recognition of trends, where sometimes the quarterly is just really a recognition of what you've seen just in that quarter.

Dawn Jaffray -- Chief Financial Officer

Paul, this is Dawn. With respect to the reserving process, we have both an internal actuarial review and an external actuarial review. We have that done at each of the quarter ends. So we feel our process throughout the year is consistent and robust, so I don't foresee us changing any of our approach in that regard.

Certainly, if other things develop, there could be potential for more items, more reserve changes, etc., but the overall process will remain consistent.

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

Great, thank you very much.

Randy Ramlo -- Chief Executive Officer

Thank you, Paul.

Operator

Thank you. [Operator instructions] As there is nothing more at the present time, I would like to return the floor to Randy Patten for any closing comments.

Randy Patten -- Assistant Vice President and Controller

This now concludes our conference call. Thank you for joining us, and have a great day.

Operator

[Operator signoff]

Duration: 22 minutes

Call participants:

Randy Patten -- Assistant Vice President and Controller

Randy Ramlo -- Chief Executive Officer

Dawn Jaffray -- Chief Financial Officer

Paul Newsome -- Sandler O'Neill + Partners, L.P. -- Analyst

Corey Ruehle -- Chief Claims Officer

More UFCS analysis

All earnings call transcripts