Amerisafe Inc (AMSF) 2014 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the AMERISAFE fourth-quarter earnings conference call. (Operator Instructions) As a reminder, this conference call is being recorded. I would now like to turn the call over to Mr. Mike Grasher, CFO. Please go ahead.

Thank you, Nicholas. Good morning everyone and welcome to the AMERISAFE fourth-quarter and year-end 2014 investor call. If you have not received the earnings release, it is available on our website at www.AMERISAFE.com. This call is being recorded. A replay of today's call will be available. Details on how to access the replay are in the earnings release.

During this call we will be making forward-looking statements. These statements are based on current expectations and assumptions that are subject to various risks and uncertainties. Actual results could materially differ because of factors discussed in today's earnings release, in the comments made during this call, and in the risk factors section of our Form 10-K, Form 10-Qs, and other reports and filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statement.

I will now turn the call over to Allen Bradley, AMERISAFE's Chairman and CEO.

Thanks, Mike. Good morning, everyone, and welcome to AMERISAFE's fourth-quarter 2014 earnings call. As usual, I will make a few remarks about the marketplace, and then turn the call over to Janelle Frost and Mike Grasher for more details on the Company's performance from an operational and financial perspective.

As I mentioned last quarter, despite an increase in competition, the workers' compensation market remains attractive. In terms of pricing, our expectation of plateauing pricing and even slight downward movement has been realized. Industry pricing surveys by both the Council of Independent Agents and Brokers and MarketScout have confirmed that prediction.

We continue to believe that there will be a drift downward and pricing over the near term. Considering that prices on an effective LCM basis have been at historical highs, we consider this decline in pricing to be normal and it does not negatively impact our view of the market as an attractive one.

The improvement in employment levels is welcome news to those of us that write workers' compensation insurance. Of course, an expanding workforce will translate into growth of written premium. As long as claims frequency and severity trends remain in a favorable direction, the market will be robust. At the same time, lower investment returns will impact the insurers' decisions on pricing in the coming quarters.

With those general comments, let me turn it over to Janelle to talk about operations.

Thank you, Allen. Good morning, everyone. We are pleased with this year's operating results, reporting an 87.9% combined ratio. These results were driven by our underwriting discipline and extensive claims management. Our top line grew $21.6 million or 5.8% for the full year, but was slightly down for the fourth quarter by 0.8%. The decline, quarter over quarter, was attributable to new business, which shrank 28.7% in the quarter.

We believe our pricing contributed to the new business decline. Our ELCM for the quarter for all business was 1.81, down from 1.86 in last year's fourth quarter and up from the third quarter's 1.80. We signaled for the last few quarters that our pricing had peaked. We had six consecutive quarters of an ELCM in excess of 1.80 in a competitive marketplace. We continue to maintain our underwriting discipline, but we must be careful not to price ourselves out of the market.

Offsetting the new business decline was growth in our renewal business and audit premium. Renewal premium grew 8.4% in the quarter. Policy retention was 92.3%, flat with the prior-year quarter. Audit premium and related to adjustments remain positive this quarter at $4.5 million, up from $3.2 million in the fourth quarter of 2013.

For the full year, audit premium and related to adjustments were additive to the top line, to the tune of $16.8 million. We believe this results from the national economic activity reflected in greater than expected work activity for our insured.

Relative to losses, our current accident year loss and LAE ratio remained at 71.5% this quarter. Frequency trends were favorable for 2014 and severity was within our expectations.

Our claims reported in calendar year 2014 were up to 2.9% to 5,785. This is an contrast to earned premium growth of 13.9% for the year.

The quarter was positively impacted by favorable development from prior accident years. Case development led to $10 million of favorable loss development in the quarter compared to $4.4 million of favorable development in the fourth quarter of 2013. This quarter's favorable development was primarily attributable to accident years 2010 and 2012.

That concludes my prepared remarks. I'll now turn to Mike to discuss our financial performance.

Thank you, Janelle. Taking a look at the financials for the fourth quarter of 2014, AMERISAFE reported net income of $16.9 million or $0.89 per share compared to $17.4 million or $0.92 per share in the fourth quarter of 2013. For the year, earnings rose 23% to a record $53.7 million or $2.84 per share. From an operating earnings perspective the non-GAAP measure operating earnings rose 19.8% to $53.2 million in 2014, equating to $2.81 per share. Revenues for the fourth quarter of 2014 grew to $104.9 million, up 11.2% from $94.3 million one year ago and rose 13.4% to $404 million during 2014.

Net premiums earned increased 12% from the year ago quarter to $97.1 million and rose 13.9% year over year, reflecting the strength in our premium written over the past year and the impact of our 2014 reinsurance treaty, which offered a higher risk retention. Net investment income totaled $7.2 million in the fourth quarter of 2014, a 6% increase from the $6.8 million recorded in the fourth quarter of 2013. The tax equivalent yield earned on our investment portfolio was 3.5% for the fourth quarter of 2014, down from the 3.9% reported in the fourth quarter of 2013.

Including cash and cash equivalents, the Company's portfolios is now valued at just over $1.1 billion with 57.8% in securities classified as held in maturity carrying net unrealized gains of $24.7 million. As of December 31, 2014, municipal bonds made up 49% of the investment portfolio. The portfolio continues to carry a double A-minus rating with an average duration of approximately 2.9 years.

Turning to expenses our current accident year loss ratio remained at 71.5% for the quarter compared to 73.2% a year ago. Our incurred loss and loss adjustment expenses totaled $59.3 million for the quarter which included $10 million a favorable prior-year development attributable primarily to accident years 2012 and 2010. This compares to loss and loss adjustment expenses of $59.1 million in last year's fourth quarter, which included $4.4 million of favorable prior-year development.

In total our net loss ratio for the fourth quarter of 2014 was 61.1% compared to 68.2% for the fourth quarter of 2013. For the year, our net loss ratio was 65.2% with favorable prior-year development of $23.7 million, which compares favorably to the 69.4% and $12.6 million of favorable prior year development during 2013.

Total underwriting and other expenses rose to $21.6 million compared to $10.1 million in the fourth quarter of 2013. The year-over-year increase in the quarter primarily resulted from the following. One-time accrual reversals of $3.2 million in 2013 related to allowance for doubtful accounts in retaliatory taxes. A $6.7 million change in contingent profit commission, which reflects a $2.8 million accrual reversal for 2014 due to two large claims which occurred in late December, and a 2013 contingent profit commission recognition of $3.9 million. And finally, there was a $0.5 million reduction in ceding commission.

The changes in the latter two items -- contingent profit commission and ceding commission reflect the expense impact resulting from our 2014 reinsurance treaty, which increased our retention, as I said, from $1 million to $2 million but lowered our contingent profit and ceding commission opportunity.

Also of note in the quarter, controllable expenses rose by just $72,000 during the fourth quarter year over year. With regard to retaliatory taxes and our redomestication to Nebraska, as a result of our move we were able to save for $4.3 million in retaliatory taxes during 2014.

Breaking the expense components out, the 2014 fourth-quarter expense components include $6.4 million of salaries and benefits, $7.2 million of commissions, and $7.9 million of underwriting and other costs. Overall, during the fourth quarter our expense ratio increased to 22.2% from 11.7%. For 2014, the expense ratio rose to 22.6% compared to 20.3% in the prior year. In total, our combined ratio was 83.4% for the fourth quarter versus 80% for the same period in 2013, and 87.9% for 2014 compared with 90% in 2013.

For 2014, cash flow from operations remains strong, rising to $140.4 million in 2014 compared to $128.9 million in 2013. We reported a return on average equity for the fourth quarter of 2014 of 15.1% compared to 17.1% for the fourth quarter of 2013. For the year, return on average equity rose 150 basis points to 12.4% from 10.9% in 2013.

On the capital management front, during 2014 our Board of Directors remained diligent and proactive in managing the Company's capital position, returning over $37 million in excess capital to shareholders through quarterly dividends and two extraordinary dividends. In total, on a per-share basis this equated to $1.98. Despite these capital contributions, book value per share still grew 5.5% to $23.65 at December 31, 2014, from December 31, 2013. Our statutory surplus at year end was $377.7 million.

Continuing with the diligence of managing our capital on February 24, 2015, the Board increased a regular quarterly dividend 25% to $0.15 per share from $0.12 per share payable on March 27, 2015, to shareholders of record as of March 13, 2015.

These conclude my prepared remarks on the financials. I will now turn the discussion back to Allen.

Thanks, Mike. Why don't we open the call for questions now?

(Operator Instructions)

Matt Carletti, JMP Securities.

Just a couple of questions. The first one, just on the growth, particularly new business. Is there any more detail you can go into? Is it kind of ratably across the quarter? Was it more back end weighted, maybe suggesting some of your competitors might have premium targets to hit for the year? Any color you could give there would be great. Thanks.

Sure, Matt, this is Janelle. Let me be clear, we were disappointed with the top-line growth in the quarter. Our intention is to grow the book of business. To your point about at what point was the timing is a great question. The quarter started off more robust than it ended. It tapered toward the end, and as you know we focused on underwriting discipline. This not in on/off switch; it's a very methodical process and that didn't really start happening as far as the drop until later in the quarter. So while we are disappointed with the new business -- and that was a great question -- I would like to point out that in the last two calls I did speak about protecting our renewal business and we were pleased that we were able to grow that this quarter and make progress on that front.

Absolutely. If you don't mind, if you can't say, has there been -- have you noticed any change in that new business, better, worse, or otherwise as we've come into 2015? And what are you guys working on that might result in being a little more competitive? Is it just assessing a different line on rates? Or are there other more maybe like agent incentive type programs that could get more submissions put your way?

Sure. Yes, we are addressing pricing in 2015 as well as we are trying to target those submissions that we feel like are better submissions for the Company and incentivize our agents to do that as well, as well as our internal staff.

Okay. Great. Enough on growth. I think everything else in the quarter was really nice, and I think maybe is getting a little too much focus, so sorry to jump right there. My only other question is 2015 reinsurance treaty, I'm assuming it's been negotiated and done at this point. Can you tell us what change in structure it might have? And if there's any change to the economics of it, particularly ceding commission?

Matt, this is Allen. The 2015 reinsurance structure on the working layers -- now I'm talking about below $10 million --

Right.

Instead of a 3X of two and a 5X of five, has moved to an 8X of two. The economics are the same as they were in 2014. Same reinsurers, which is Hannover Re and Allianz. With respect to the excess layer, the cat layer which is not a whole lot of costs associated with that, we had about the 13.5% reduction in the cost of that excess layer which goes up to $60 million. The other thing -- and this is related to the expense ratio -- the economics that Mike outlined that drove the expense ratio up in terms of a lower ceding commission and a lower profit commission will remain the same in 2015 and 2016 as they were in 2014.

Got you. So more apples to apples. Was the AAD the same on the 8X of two as it was the other two structures?

It's the same as it was in the 3X of two combined with the 5X of five. Yes.

Right. Exactly. Okay. Great. Congrats on a nice quarter and very nice year and best of luck in 2015. Talk soon.

Mark Hughes, SunTrust.

Thank you. Good morning. Allen, I missed the early part of the call. Did you provide the LCM on the quarter?

Yes, it was 1.81.

So it was up one -- up a point sequentially?

Correct. We were at 1.80 in quarter three and we were at 1.86 in the fourth quarter of 2013.

So it was down from last year as was the third quarter but it was actually up which may also be, by the way, related to 0.8 of a percent drop in volume.

Right. How are you feeling about how the first quarter is shaping up? You spoke some on the volume and your initiatives. Do you think that will bounce back in Q1?

It is probably a little early to tell. What do you think, Janelle?

I would agree. We are certainly focused on it. I can assure you that. As I said when Matt asked the question, our intention is to grow. This is not a point where we feel like we need to shrink the book of business. The marketplace is still attractive for us. (multiple speakers)

If you could talk about the loss PICs, what we might think about as we look at 2015? The 1.80 or 1.81 certainly implies a lower current accident year loss ratio than you have been booking recently. Would we be best to start out with kind of a steady loss PIC for the current accident year? Is there some reason to think that that might be a little bit lower? Again, given the very good price pricing you've been sustaining for quite some time here -- it seems like doing the math would be still lower loss PIC?

Right. There's a couple of -- I'm not going to give you a number, okay, but I will give you direction. I would think there is a couple of things that go into driving that, those loss selections, that deal with how claims are working out in prior years, what we see in frequency and severity and those sorts of things. And we don't know how the first quarter is going to go so we don't know how it is going to be selected.

But we have seen some improvement in the metrics of the claims, I think is a fair way to put it. And that is that some of the problems we ran into in the recessionary years and the times after the recession where it was very difficult to return people to work and where people tended to stay out longer and duration was extending out. It's not return to normalcy, I don't think, for us or the industry, but it is clearly better.

Also the pricing of the 1.86 and of those businesses, a lot of that premium earns out in 2015. So I would not expect the loss ratio to stay -- for the accident year to stay flat. I would expect it to improve some. How much? That depends on what happens in the rest of the first quarter and what we are seeing.

That's helpful. How about the new folks getting injured? Have you seen any of that with a little bit more job growth? Any uptick in frequency?

No, we haven't. At this point we are surmising that is for extended workweek, which would like. New workers are the ones that seem to get injured and so extended workweek means same workers, same education levels, more safety. Therefore, less injuries.

Another interesting aspect of that, with particular with one industry -- and that's trucking. We are definitely seeing in the trucking industry that it has switched from a trucking company market to a driver market. New federal regulations, electronic logbooks, and the like have reduced the number of hours on the road. The truckers would still like to make the same amount of money so that's pressure on wages. And it also has resulted in trucking firms having to hire more drivers to make the same number of miles because of the restrictions on that. So if you think of it from our perspective, Mark, and all of the industry, we are seeing what we believe will be less tired drivers making on rate online more money.

All right. Okay. And then from an operating expense standpoint with the new reinsurance agreement, should we assume the ratio holds steady? Does the new reinsurance agreement -- with the commission structure, does it give you -- is it movement one way or the other?

I think when you look at where we came in for the year I think that's a fairly -- and it's right in our wheelhouse in terms of our history. I don't see that changing.

Right. And then, Allen -- and again, I'm sorry if I missed it, but any quick thoughts on the competition, your view on competition in the market? I guess with the deceleration through the quarter presumably the competition is up a little bit, and you were being more careful on your pricing obviously. Where does that stand?

I would say -- there's a couple of interesting things in that, Mark. We are seeing fewer submissions for new business, and at the same time we are seeing increased or very high levels of retention for our business. And if you think about that a second, that's both sides of the same coin. We are keeping large percents of our business, and so are probably other carriers so you get fewer submissions for new business in the door. So I think that's one part.

With respect to competition, for the most part competition has been rational. There's always -- and I repeat always -- somebody out there doing something. There are people that think, hey, we just reported -- as I said in my earnings release and will say in my closing today -- the industry is going to report an underwriting profit for the third time in 25 years. There are those people that say, hey, we are going to grow this. We are going to leverage our combined ratio to grow the business more. It's always ironic to me what got us here sometimes is the first time that people declare victory and say, okay, we now figured it out and we'll just cut pricing.

But pricing competition is not irrational at all. We've been able to hold our effective LCM far higher than I would've thought possible at this point in time, so we are quite pleased with the level of pricing.

Right. Do you think when pricing flattens out like this the brokers or the insurers don't go looking elsewhere because they are happy with flat pricing?

I think that if you look at that -- if you look at our presentations that we do or if you just go directly to the CIAB study, you will see that not many people -- not many brokers are reporting significant rate decreases, if any. In fact, a large percentage of the accounts are still reporting flat pricing or slight increases. So I think that's exactly right. And there will be some people come in, and we know over the years when we report years and we report times where our combined ratios are very, very good. And by the way I think and 87.9 is very, very good. There will be competitors that will target AMERISAFE's business that offer a reduction saying, well, if they are willing to write it at X, we will write it at X minus 10% or 15%. That just happens, but generally right now, because of investment yields, we don't see people being really aggressive.

Yes. And then, final question, do you think the industry combined ratio will improve again in 2015?

No. No. The industry has never put together two underwriting years in the last quarter century -- two underwriting profit years in the last quarter century. And by the way, you are really getting into my closing statement.

All right. I am starting to think like you. Uh-oh. (laughter)

That's not a good thing, Mark.

Okay. Thanks.

(Operator Instructions)

Randy Binner, FBR Capital Markets.

All of the top-line commentary is helpful. And I guess suffice to say you are an underwriting disciplined organization and it's tough to produce the business, so there's an over capitalization that's built within the Company, I think it's fair to say, writing underneath one times premium to surplus. And there's been a couple of special dividends in the last year to address that.

I'm just curious -- is that still kind of an ad hoc process that you use to approach the idea of capital return? Is that process kind of developing as the market continues to be challenging to place business? And in that too, are there M&A opportunities? Or have those books not become as available as you thought they might given the stress some others have had? Just wondering how we kind of let more of this capital go.

I think that's a good question and you touch on a couple of different points in there. With regard to M&A, we look at the opportunities as we are presented and evaluate those as a come. The other part about continuing to evaluate our capital position, I think it's a process of the underwriting and how much business we are putting on organically and what do we really need from a capital position. I think what we said last quarter was, look, here is this extraordinary dividend. Going forward, we likely will be looking at this basically once a year. And I think that's the position the Board is taken from the standpoint that let's see how the year goes along and then reevaluate later this year.

So would that be a third-quarter or fourth-quarter event, if it's evaluated later in the year?

I think later this year. Yes, I think it's a third- , fourth-quarter type of timeframe.

Okay. Great. And then on the expense accrual, I just want to make sure I understand that right. So you had two large claims that came in, in December, and you put those claims up and they pushed through the reinsurance layer, and so the impact of the expense ratio related to those pushing through the reinsurance layer -- do I have that right?

Yes. So essentially we've got through the year and we are accruing for our contingent profit commission as long as the claim activity remains below our AAD. When we received the two claims, which literally were in the last two weeks of December, that penetrated that AAD layer and at that point we had to reverse the accruals that we had put up in the earlier quarters.

What's the nature of these two claims?

I'm sorry?

What's the nature? Are they particularly severe? Are they $1 million-dollar plus claim reserves?

Yes. The retention is $2 million, so they were in excess of $2 million, [but not over $3 million].

Let me put a little more clarity around it just so you can understand the process, Randy. Mike is right when he says that they exceeded the AAD. They exceeded the AAD after we applied IBNR. The cases are -- I don't want to say significantly below the IBNR -- the AAD. In an effort to make sure our reserves are prudent, we placed a significant amount of IBNR on those. And I think the impact on that particular accrual was $2.8 million.

Between the two claims?

No. Taking down the profit commission.

Okay. But that was a cumulative effect of the two claims was the $2.8 million? Not $2.8 million each?

No.

Okay. Sorry. I was just making clear. I got you. So these are just, I hate to say, but these are just typical high severity claims that you end up with?

Exactly. I think one was a head injury, and I can't remember what the other one was.

Okay. Understood. And then the last one I have was on net investment income. It was a good result versus our model in the fourth quarter, and, in fact, it was the best quarter I think of the year. Was there anything unusual in there with bond prepayments or other one-timers?

Not really. I think the combination of the growth in the portfolio overall as well as better results from our investment in the hedge fund that we have, I think those two components led to it. In the quarter we actually had, I think, 91 basis points over treasuries in terms of our investments. We took our duration out a little bit longer, at 3.7 but we are still sitting around 2.9. So that's kind of where we are, continuing to find corporates and munis.

Okay. Great. And actually I just want to go to -- Carletti was asking about the particulars on your renegotiating your reinsurance deal. And so your retention -- I apologize if I missed this -- is your retention on the new reinsurance program still $2 million? You just changed the next layers?

Yes, that's correct, Randy. We use the structured product that's a three-year deal. We had a stub period on the 5X of five layer. So we have one year that the 5X of five was separate from the lower layer. And then the last two years are 8X of twos, so the economics are the same, the rates are the same, for all intents and purposes on that.

Okay. Great. Thanks so much.

And with no further questions in the queue, I'd like to turn to call back over to Allen Bradley for closing remarks.

All right. Thank you, ladies and gentlemen. We appreciate your participation in today's earnings call. I have some final remarks.

The financial impact of disciplined underwriting over the last several years will be demonstrated as soon as the workers' compensation market will reportedly report an underwriting profit for only the third time in 25 years. One caveat, however -- the industry has a poor history in terms of managing its success.

In the past 25 years the workers' comp industry has reported only three years of underwriting profits and those profits were reported in 1995, 2006, and supposedly in 2014. Both 1995 and 2006 were preceded and followed by periods of extraordinarily high underwriting losses. According to the National Council on Compensation Insurance, in 2010 and 2011 private workers' compensation carriers reported 115% combined ratio in each year.

I guess the question is: will this time be different? Well, we don't really know. What we do know is that what is different this time is that investment returns remain at exceptionally low levels, making it difficult to offset any significant underwriting losses with investment income. For that reason, we believe that the reality of lower investment yields will result in a more measured pricing decline than in prior cycles. It remains to be seen whether our belief is sound.

In the meantime, there's one thing you can count on -- that is that AMERISAFE is exceptionally well-prepared to grow when appropriate, shrink when necessary, and at all times manage our capital in a fashion consistent with our shareholders' best interest. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may now disconnect. Have a good day, everyone.