Employers Holdings Inc (EIG) Q3 2021 Earnings Call Transcript

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Employers Holdings Inc (EIG -3.10%)
Q3 2021 Earnings Call
Oct 29, 2021, 11:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good day. Thank you for standing by. Welcome to Q3 2021 Employers Holdings, Inc. Earnings Conference Call. [Operator Instructions]

I would now like to hand the conference over to your speaker today, Ms. Lori Brown. Thank you. Please go ahead.

Lori A. Brown -- Executive Vice President, General Counsel

Thank you, Dana. Good morning, and welcome, everyone, to the Third Quarter 2021 Earnings Call for Employers. Today's call is being recorded and webcast from the Investors section of our website, where a replay will be available following the call. Presenting today on the call will be Kathy Antonello, our Chief Executive Officer; and Mike Paquette, our Chief Financial Officer. Statements made during this conference call that are not based on historical facts are considered forward-looking statements. These statements are made in reliance on the safe harbor provision of the Private Securities Litigation Reform Act of 1995. Although we believe the expectations expressed in our forward-looking statements are reasonable, risks and uncertainties could cause actual results to be materially different from our expectations, including the risks set forth in our filings with the Securities and Exchange Commission. All remarks made during the call are current only at the time of the call and will not be updated to reflect subsequent developments.

The company also uses its website as a means of disclosing material nonpublic information and for complying with disclosure obligations under SEC's Regulation FD. Such disclosures will be included in the Investors section of the company's website. Accordingly, investors should monitor that portion of the company's website in addition to following the company's press releases, SEC filings, public conference calls and webcast. In our earnings press release and in our remarks or responses to questions, we may use non-GAAP financial metrics. Reconciliations of these non-GAAP metrics to our GAAP results are included in our financial supplement as an attachment to our earnings press release, our investor presentation and any other materials available in the Investors section on our website.

Now I will turn the call over to Kathy.

Katherine H. Antonello -- President, Chief Executive Officer And Director

Thank you, Lori, and thanks to everyone for joining us today. On today's call, Mike and I will outline our financial results for the third quarter of 2021 and discuss our observations of the current workers' compensation market. Despite the economic challenges presented by the pandemic, employers continues to perform well, and we are encouraged by the rebound we've experienced since May of 2021. As businesses have reopened and restrictions have been lifted and our appetite has expanded, we've seen year-over-year increases in new business submissions, quotes and binds, and we once again closed the period with a record number of policies in force.

During the quarter, net written premiums increased 16% year-over-year, and our new business average policy size was up 15% over the same period. In an effort to further diversify our risk exposure and capitalize on new market opportunities post COVID, we launched an appetite expansion initiative in July, and early indications are that the initiative is having a positive impact on new business. More so than ever, we remain confident that new business opportunities and rising payrolls, driven by increases in both wages and employment, will bring further growth to our top line. While our year-over-year new business premium for the first nine months of 2021 was limited by pandemic-related shutdowns in January and February, in total, the past two quarters were up 27% relative to 2020. Gradual improvement in wages and employment contributed to the increase.

The policy retention rate on our renewal book remains very strong at 94% year-to-date, although this strength was offset to some degree by lower average policy sizes and modest rate decreases at renewal. Overall, our year-over-year renewal premium was down 7% for the first nine months of 2021 and down 1% for the third quarter. We continue to see declines in frequency for lost time claims and have maintained our current accident year loss and LAE ratio on voluntary business at 63.6%, down from 65.5% a year ago and 64.3% at year-end. As part of our continued technology and process improvement initiatives, we implemented a new comprehensive claims system during the quarter, which we believe will enhance and streamline our claims handling. In connection with this implementation, we undertook several process changes. And as a result, we chose not to recognize any prior year loss reserve development during the quarter. In line with our expectations, targeted expense savings and employee reductions and departures decreased third quarter expenses by a meaningful 19% year-over-year.

With that, Mike will now provide a further discussion of our financial results, and then I'll return to provide my closing remarks. Mike?

Michael S. Paquette -- Chief Financial Officer Executive Vice President

Thank you, Kathy. During the third quarter, we delivered a 3.8% annualized return on adjusted equity and a combined ratio of 98.1% within our largest operating segment, Employers. For the quarter, our net premiums earned were $147 million, a 2% increase year-over-year. While our written premiums for the first nine months were down 2%, our third quarter premium writings were up 16%, which demonstrates that small businesses are beginning to thrive and are actively shopping for workers' compensation coverage. Also, in recognition of the positive shift we are experiencing in our final audit process, we increased our final audit accruals by just under $5 million during the quarter. Our losses and loss adjustment expenses were $91 million, an increase of 18%.

As Kathy previously mentioned, we did not recognize any prior year loss reserve development on voluntary business during the current period, whereas we recognized $15 million of favorable loss reserve development a year ago. Commission expenses were $20 million, an increase of 3%. The increase was primarily the result of increased commissions on new business writings. Underwriting and general and administrative expenses were $37 million, a decrease of 19% year-over-year. The decrease resulted from targeted expense savings and employee reductions in departures, which reduced our fixed expenses such as compensation and professional fees as well as a reduction in bad debt expenses. From a reporting segment perspective, our Employers segment had underwriting income of $3 million for the quarter versus $7 million a year ago, and its combined ratios were 98.1% and 95.2%, respectively. Our Cerity segment had an underwriting loss of $3.3 million for the quarter, down from its underwriting loss of $3.9 million a year ago.

We are enthusiastic about Cerity's premium writings and have -- which have consistently increased over the past several months. Turning to investments. Our net investment income was $18 million for the quarter, consistent with that of the third quarter of last year. Our average book yield was 3% at quarter end. At quarter end, our fixed maturities had a duration of 3.5 and an average credit quality of A+, and our equity securities and other investments represented 13% of the total investment portfolio. Our net income this quarter was favorably impacted by $1 million of net after-tax unrealized gains from equity securities and other investments, which are reflected on the income statement. And our stockholders' equity and book value per share this quarter were each unfavorably impacted by $9 million of after-tax unrealized losses from fixed maturity securities, which are reflected on our balance sheet. And finally, during the quarter, we repurchased $13.2 million of our common stock at an average price of $40.54 per share, and our remaining share repurchase authority currently stands at $36.7 million.

And with that, I'll turn the call back to Kathy.

Katherine H. Antonello -- President, Chief Executive Officer And Director

Thanks, Mike. Leveraging our deep expertise in workers' compensation, we built and launched our own full stack direct-to-consumer insurtech known as Cerity. We continue to view Cerity as a unique asset for employers, one that is positioned as an enabler to provide new and exciting solutions and experiences to our industry. We believe that Cerity's technological and intellectual capabilities will support and enhance our future growth initiatives while providing direct access to workers' compensation insurance for businesses seeking an online experience.

For the remainder of the year, we'll be diligently focused on further improving our economies of scale by capitalizing on emerging labor market improvements, while continuing to maintain underwriting discipline and actively managing our expenses. Our balance sheet and capital position are very strong and are highly supportive of these key initiatives. As a specialist in small business workers' compensation, we are well positioned to react to the favorable trends we're seeing and remain confident in our continued success.

And with that, operator, we will now take questions.

Questions and Answers:

Operator

[Operator Instructions] Your first question is from Mark Hughes of Truist Securities.

Mark Hughes -- Truist Securities -- Analyst

Yeah thanks. Good morning. Kathy, how much did the expanded appetite contribute to the premium growth in the quarter? And can you talk about what you're doing to make sure that those new class codes that you've got a good line of sight on loss trends?

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes. So thanks, Mark, for the question. We -- it's -- we're ramping it up solely for exactly the reason that you just mentioned. As I've said before in other calls, my focus for 2021 has been to position the company to capture the post-COVID economic lift, including some opportunistic expansion in our appetite into areas that we feel like have some significant potential for growth in the post-COVID world.

So for example, speaking to areas like landscaping and janitorial. The small business landscaping market for work comp, and when I say small business, I'm talking about companies that have less than 500 employees, is about $1 billion, and we're seeing that payroll is projected to grow more than 20% over the next four years. So we feel like there's a big opportunity there for us to enter the market. But as I mentioned, we're doing it carefully and diligently on the underwriting side. It wasn't a huge part of our third quarter increase, but we do expect it to continue to increase as we go into 2021, and we'll continue to look at other opportunities where we can grow profitably.

Mark Hughes -- Truist Securities -- Analyst

Understood. Mike, on the expense side, you've done very well bringing those down. When we think about the fourth quarter expense level relative to the third quarter, I'm just thinking kind of the sequential progression on expenses, and looking back historically, sometimes they go up, sometimes they go down sequentially, just how should we think about 4Q? And then next year, the expense level, anything you can share about how that might play out in 2022?

Michael S. Paquette -- Chief Financial Officer Executive Vice President

Sure, Mark. So the thing I want to be careful about is some of our expenses are variable, and that's going to vary with our level of premium, and then others are fixed. I think from a fixed standpoint, you'll see a consistent number from what you've seen in the last two quarters, which, again, are down sharply from a year ago and down sharply from that of the first quarter. In terms of expenses for next year, we'll have a better sense very soon. We're in the process of planning right now, and we are looking everywhere to try to be as nimble as efficient as possible, and we are extensively going through everybody's plan for next year to make sure that we have expenses in check. But again, we just have to be careful that some of our expenses vary with premiums such as premium taxes, assessments, policyholder dividends. So just be mindful of that in terms of your projections. But we expect a consistent fourth quarter absent that, and we'll get back to you soon as to what our outlook is for 2022.

Mark Hughes -- Truist Securities -- Analyst

And then refresh me on the underwriting and other operating costs, how much of that is fixed versus variable?

Michael S. Paquette -- Chief Financial Officer Executive Vice President

On average, about five points of the underwriting, and general and administrative expenses are variable. So not 5% of that number, but five points of that ratio.

Mark Hughes -- Truist Securities -- Analyst

Yes. Okay. And then from a competitive standpoint, I wonder -- there's been a lot of talk on pricing maybe flattening, maybe going up. Gallagher had some notable comments about workers' comp, more constructive around pricing and competition on their call last night. I was sort of curious whether you feel like there's any difference here. Clearly, your top line is looking better. And how much of that might be competitive issues?

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes, Mark. So I'll take that. We would continue to characterize the environment as competitive. Even with some, I would say, irrational competitive behavior from a few actors. I've seen the same reports that you have, and some of the market surveys that came out are reporting that Q2 had very modest pricing increases emerge in workers' comp. And when I say very modest, I'm saying like less than 1%.

But our average pricing across our renewal book has showed an overall weight decrease of somewhere between 4% and 5% for the three months ended September 30, and that's versus the rate level that was in effect on the same business as a year earlier. It is a favorable trend, even though it's a decrease. And just to give you some context, I would say a year ago, third quarter rates had decreased 5.8%. And then two years ago, it was 8.5%. So less of a decrease. The rate is slowing, and that's a good sign, but I don't think I would characterize workers' compensation as being a hard market yet.

Mark Hughes -- Truist Securities -- Analyst

And then I'll slip in for one more, if I can. The new systems implementation you -- as a result of that, took no development in the quarter. Did you notice any difference in the claim emergence or loss emergence? Anything you might say about frequency or severity, either in the back book or currently would be helpful as well.

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes. So yes, we chose not to recognize any development this quarter for a couple of reasons. The first is because we don't do a full analysis either at the end of the first quarter or the third quarter for reserves. And the second was because, as we mentioned earlier, we implemented a new claims system in the third quarter. And that brought with it a lot of new processes that we think are going to improve our claims handling, but we want to appropriately contemplate those in our reserve selections. So we thought it'd be prudent to do that at our next full analysis, which will be our year-end analysis. We do think our reserves are solid, but we're carefully watching for any latent claims activity that might arise in the prior accident years as a result of the recession, similar to what we saw after the Great Recession. We haven't seen any increase in cumulative trauma or post-term claims, so that's a good sign.

We are still holding on to some reserves to cover any post-recessionary impacts should those occur. But rather than getting into any specifics, I'd say the indications for this quarter were consistent with the trends that we've seen in prior quarters. In regards to frequency and severity, frequency relative to both payroll and premium has decreased in accident year 2021 relative to the same period in 2019. We've started not looking at frequency and severity relative to 2020 because 2020 was such an anomaly. So we are still seeing decreases in frequency. And loss time severity is up, I would just say moderately over the same period, so nothing really new on the frequency or the severity side.

Mark Hughes -- Truist Securities -- Analyst

Thank you. Appreciated.

Operator

[Operator Instructions] Your next question is from Sam Hoffman of Lincoln Square.

Sam Hoffman -- Lincoln Square -- Analyst

Good morning. Thanks for taking my question. Can you give a bit more detail on what the claims technology process improvement initiative is intended to accomplish in terms of either improving claims expense ratios or operating expenses going forward?

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes. Sure, Sam. So the new claims system that we implemented really focuses on taking a lot of the administrative tasks out of the claims adjuster's hands and automating a lot of those. So those are the types of process improvements that we're talking about. It's automation of a lot of the work that has been done manually in the past. There are a lot of forms that needed to be completed and so forth with workers' compensation claims handling and that are regulatory in nature. So a lot of that is now automated. So more automated workflows and so forth, and we think that will have an impact on our efficiency and expenses going forward.

Sam Hoffman -- Lincoln Square -- Analyst

Okay. So it's more of an LAE type of expense management. Okay.

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes.

Sam Hoffman -- Lincoln Square -- Analyst

So next question is given the improvement in written premiums in the quarter, what is your outlook in terms of -- you had talked about an objective for 2022 to at least get back to the gross written premium ratings that you have in 2019. Do you think that's still feasible given -- I mean, obviously, you're entering some new classes, but pricing continues to be negative.

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes. I would say the trends that we're seeing are very favorable. As Mike mentioned earlier, we are in the process of trying to put our projections together for 2022. We have not completed that analysis yet. But I would say quarter two, we started to see improvement. Quarter three was even better. And we've started quarter four, things are looking very favorable. So while we don't have that analysis complete right now, I would say the environment is certainly a lot better than what we were seeing a year ago.

Sam Hoffman -- Lincoln Square -- Analyst

Okay. And last question is, I noticed that your expenses for Cerity have declined significantly from a $16 million run rate last year down to this quarter, below $12 million in terms of the loss. So what are your objectives for Cerity over the next year in terms of revenue and expense management?

Katherine H. Antonello -- President, Chief Executive Officer And Director

Yes. So Sam, from an expense management standpoint, we have been doing the same thing at Cerity that we've been looking at in employers, which is, OK, what -- how can we streamline our efforts, what can we combine across the companies to try to reduce our expenses. So we've taken a hard look at that this year, and we are picking up some of the work at Employers that was previously done at Cerity, and that is bringing a lot of efficiency in that area and helping to reduce the cost there. The trends for Cerity premium are very good. And just like Employers, we're putting our projections together for those right now, and we'll have more on that in the next quarter.

Sam Hoffman -- Lincoln Square -- Analyst

Thank you.

Operator

[Operator Instructions] No questions at this time, and I would like to turn back the conference to Kathy for further comments.

Katherine H. Antonello -- President, Chief Executive Officer And Director

Okay. Well, thank you all for joining us this morning. Enjoy your weekend, and I look forward to meeting with you again next quarter.

Operator

[Operator Closing Remarks]

Duration: 63 minutes

Call participants:

Lori A. Brown -- Executive Vice President, General Counsel

Katherine H. Antonello -- President, Chief Executive Officer And Director

Michael S. Paquette -- Chief Financial Officer Executive Vice President

Mark Hughes -- Truist Securities -- Analyst

Sam Hoffman -- Lincoln Square -- Analyst

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