Safety Insurance Group's Q3 Earnings Soar on Lower Insurance Losses and Taxes

Safety Insurance Group (SAFT +0.00%) safely sailed through its third quarter. The Massachusetts-based insurer reported that lower insurance losses and taxes helped it earn $27.1 million in non-GAAP operating income, up from $16.4 million in the same period a year ago.

Safety's third quarter: By the numbers

The table below shows some key metrics for Safety Insurance in the third quarter of 2018 compared to the third quarter of 2017.

Data source: Safety Insurance Group. YOY = year over year.

Prior to 2018, profits earned from an insurer's investment portfolio went into net income only when the gains were realized. In 2018, realized and unrealized gains flow into net income. This makes it difficult to compare net income reported in 2017 with net income reported in 2018. Safety's non-GAAP earnings metric backs out investment gains or losses, resulting in a figure that makes for a better comparison between results this year and last.

While it's easy to be critical of measures that don't follow GAAP convention, Safety's non-GAAP measure of operating income isn't one you should worry about.

What happened this quarter?

Safety's simple business model (insuring drivers, homeowners, and some businesses in just a handful of states) means that there are rarely many surprises from quarter to quarter. Here are the highlights of its most recent quarterly report:

• Losses moved in the right direction. This quarter, Safety reported a combined ratio of 90.9%, a 4.6-percentage-point improvement from the year-ago period. A falling loss ratio (loss and loss adjustment expenses as a percentage of premiums earned) was the major contributor, as its loss ratio declined to 59.2% during the quarter. This is the second-lowest the loss ratio has been at any point in the last five years, surpassed only by the second quarter of 2018. That's two exceptional quarters in a row.
• Interest rates are ticking up. The impact of rising interest rates is slowly starting to flow into Safety's earnings. The company reported that its investment portfolio yielded about 3.4%, up from 3% a year ago, and up from 2.9% at its nadir in the third quarter of 2016. The insurance company's bond portfolio stands at roughly $1.1 billion, so every percentage-point movement amounts to around $11 million in annualized pre-tax income.
• Profits from the past helped this quarter. Safety said its pre-tax results included about $13 million of favorable prior-year development, which happens when an insurer reduces loss estimates it made in earlier periods. This has become fairly routine for Safety, evidence that it is conservative in how it underwrites policies and reserves for losses.
• Premiums grew modestly. The company reported net written premiums of $207.5 million, an increase of 1.5% over the year-ago period. Slow growth in premiums suggests Safety's growth is largely driven by an increase in premiums per exposure, rather than an increasing base of customers.

Data source: Safety Insurance Group. Chart by author.

Looking ahead

As a car and home insurance company that writes insurance in Massachusetts, New Hampshire, and Maine, Safety Insurance enjoys a seasonal reprieve from costly weather events during the warmer summer months. Historically, the first and fourth quarters of the year tend to bring more severe losses, as plunging temperatures make for slick roads, caved-in roofs, and busted pipes.

Barring a particularly warm winter, it's almost certain that Safety's underwriting results will deteriorate in the next two quarters, a seasonal pattern that has existed for the duration of its life as a public company. That said, with a sub-91% combined ratio in each of the past two quarters, Safety certainly did well while the sun was shining.