辛辛納提金融 (CINF) 2011 Q1 法說會逐字稿

Good morning. I will be your conference operator today. At this time I would like to welcome everyone to the first quarter 2011 conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks there will be a question-and-answer session. (Operator Instructions) Mr. McDaniel, you may begin your conference.

Hello, this is Dennis McDaniel Investor Relations Officer for Cincinnati Financial. Thank you for joining us for our first quarter 2011 earnings conference call. Late yesterday we issued a news release on our results, along with a supplemental financial package, and we filed our quarterly report on form 10-Q. To find copies of any of these documents, please visit our investor website, www.cinfin.com/investors. The shortest route to the information is in the far right column via the quarterly calls quick link.

On this call you'll first hear from Ken Stecher, President and Chief Executive Officer, and Chief Financial Officer Steve Johnston. After their prepared remarks, investors participating on the call may ask questions. At that time, some responses may be made by others in the room with us, including Chairman Jack Schiff JR; Executive Vice President J.F. Scherer; Principal Accounting Officer Eric Matthews; Chief Investment Officer Marty Hollenbeck; and Chief Claims Officer Marty Mullen.

First, please note that some of the matters to be discussed today are forward-looking. These forward-looking statements involve certain risks and uncertainties. With respect to these risks and uncertainties we direct your attention to our news release and our various filings with the SEC. Also, reconciliation of non-GAAP measures was provided with the news release. Statutory accounting data is prepared in accordance with statutory accounting rules, and therefore is not reconciled to GAAP. With that, I will turn the call over to Ken.

Good morning and thank you for joining us today to hear more about our first quarter results. Our first quarter was a mix of solid investment performance and premium growth, against disappointing underwriting results. First quarter investment income grew roughly 1% compared with both a year ago and one quarter ago. Despite a drop in interest income due to the low interest rate environment dividend income grew enough to produce net investment income growth.

As we indicated last quarter, it will be a challenge to continue growing investment income as bonds maturing now through 2013 average a yield just over 5%. While our entire portfolio of bonds and stocks yielded 4.6% during the first quarter. Valuation of our investment portfolio registered solid gains during the first quarter, as unrealized gains for our equity portfolio grew 16%, to nearly $900 million. Catastrophe losses lowered first-quarter 2011 operating income by $0.10 per share more than a year ago. Some improvement in our pricing trends helped keep the overall operating income decline at $0.06 per share.

For our commercial lines business, modest rate increases upon renewal are being met with less resistance for many smaller policies, and we continue to experience steady rates of policy retention. Rate increases for personal lines policies help renewal premiums rise 9%, and we are seeing modest pricing gains on our excess and surplus lines business. Our overall combined ratio was above 100% again this quarter and we are working to improve that unsatisfying result.

As we stated at the end of last year, our standard market insurance business for all lines in total, other than the workers compensation and homeowner lines, had a 2010 combined ratio around 95%. We continue to progress on initiatives to keep that core business healthy and initiatives to return the challenged lines to profitable levels. Our premium growth initiatives this year emphasize appointing additional agencies, and enhancing their opportunities to serve small business clients and consumers. At the same time, we continue our tradition of claims excellence in local associate service and support centered around our agencies. In future quarters, you hear more about our progress on these initiatives. For now, I'll provide some performance highlights.

Our ramped-up pace of appointing new agencies in recent years continues to pay off over time as the relationship with new agencies matures. Remember, at about three quarters of the agencies appointed by us for more than five years, we rank as the number one or number two insurance company in terms of premium volume. All of our insurance segments continue to experience favorable growth trends. Personal lines had net written premium growth of 12% with new business premiums up 22%. Excess and surplus lines net written premiums grew 38% to $18 million for the quarter, with new business premiums up 13%.

Term insurance, which represents the largest product by volume in our life insurance operation had earned premium growth of 9%. While net written premiums for our largest insurance segment, commercial lines, were flat overall, new business premiums were up 8% and renewal premiums were up 2%. Improving exposure level comparatives helped offset modest pricing declines, particularly for larger policies where competition continues to be most intense. We finished the quarter with a book value growth of $0.49, up 1.6% per share and we paid a 40 cent cash dividend consistent with the 50 year record of increasing shareholder dividends.

In a moment Steve will provide perspective on underwriting results and overall performance for the first quarter. But first, I'll say a few things about her leadership transition announcement earlier this week. As we prepare to move to our new positions and responsibilities, I want to pause and thank you for your interest in and support of Cincinnati Financial over the past three years. I appreciate the diligent efforts the investment community makes to understand and present our story to others.

You have watched patiently as we have strengthened our management team, expanded our operations, developed enhanced processing and pricing tools, and provided a clear vision to associates and agents. With that foundation in place, it is the right time for me to let others bring more youthful energies to the full execution of our plans. I was 62 when I took the CEO job three years ago. It has been a busy and challenging time it went by quickly, as did my 43 years of service to date. I am looking forward to having more time for my family, and I'm confident that Steve and his team have the ability and drive to overcome challenges to keep the improvements coming.

Steve will continue his emphasis on improving our technology and data, and the organizational changes he is making will sharpen our focus on profitability. I will continue to be available as a mentor and coach, and of course, Jack continues to be actively involved in the Company, and a great advocate for our agents. Now I will turn the call over to Steve.

Thank you Ken for those kind words, and thanks to all of you for joining us today. As Ken mentioned, first-quarter financial results were mixed. On the one hand, we produced an underwriting loss for the quarter with the combined ratio of 103.9. On the other hand, investment income grew, asset values rose, the balance sheet continued to strengthen, and shareholder value continue to increase.

Our country, and the world, were heavily impacted by a series of catastrophes during the first quarter. Catastrophe losses contributed 5.5 loss ratio points to our results, including approximately 1.1 points from the Japan earthquake. By comparison, catastrophe losses contributed an unusually low 2.1 points to the first quarter a year ago. For commercial lines, our largest insurance segment, the quarter's catastrophe loss ratio was 50% higher than the annual average for the past decade, and was higher than the average loss ratio for any of those years. So it truly was an unusual quarter.

So far in the second quarter, the adverse weather is continuing. We write in many of the areas that have been affected by spring storms. We estimate on a very preliminary basis that second-quarter catastrophe losses incurred through April 21, may total between $70 million and $80 million, with the largest single event estimated at approximately $35 million. Since April 21, it has obviously been an active time for catastrophe losses. Our hearts go out to everyone who has been affected with personal tragedy, loss of life. At this point it's too early to put an estimate as to the effect on our financial statements.

We use more than one modeling firm to help in estimating our exposure to catastrophe losses. One of them, RMS made a much publicized revision to its model. The new version increased estimated inland losses from hurricanes for us and much of the industry. We are currently studying the new model and it's impacts on our estimates. The expense ratio is 32.8%, down 2.8 points from 35.6 for the first quarter 2010. You may recall that last year we took a $10 million charge with provisions to contingent liabilities which added 1.4 points to the expense ratio. Property-casualty reserves for prior accident years developed favorably, benefiting the first quarter combined ratio by 7.9 points. That compares with 5.6 points of favorable development for the first quarter of 2010, and 10.3 points for the full year 2010.

Our reserving philosophy remains unchanged. We have a very consistent approach targeting total reserves in the upper half of the actuarial range. The change in IBNR reserves added 4.4 points to the calendar quarter loss ratio, compared with a 2.0 points for the full year 2010. As Ken mentioned our diversified approach to investments produced solid results again this quarter. Pre-tax investment income increased by approximately 1.3% to $131 million during the quarter. Both our equity portfolio and our bond portfolio produced unrealized gains after tax, for the quarter, totaling $85 million. Liquidity, the balance sheet, and our overall financial condition, continue to strengthen, keeping us on a solid position to grow profitably.

Statutory surplus for the property casualty insurance group grew by $56 million during the quarter to just over $3.8 billion. And the holding company level, we continue to have over $1 billion in cash, and marketable securities. The contributions to book value per share for the quarter are as follows. Property casualty underwriting losses reduced book value by $0.12. Life insurance operations added $0.04. Investment income, other than life insurance and reduced by non insurance items, contributed $0.43. The change in unrealized plus realized capital gains from the fixed income portfolio increased book value per share by $0.05. The change in unrealized plus realized gains from the equity portfolio provided growth of $0.49. And we paid to our shareholders, $0.40 per share in dividends.

Totaling it all up, book value increased by $0.49 during the first quarter to $31.40 per share. Adding the $0.40 per share dividend, our value creation ratio for the quarter was 2.9%. As Ken passes the baton to me, I'm grateful to find our company in very good shape with a solid foundation that our team can build on. I believe you're going to find our new CFO, Mike Sewell to be top-notch with 25 years of experience and knowledge of Cincinnati Financial, will be a big benefit to us. You will hear from Mike on our second-quarter call.

We are all excited about the opportunity to improve our company by taking the progress already achieved and applying it across the company and by finding new ways to bring value to the forefront. That concludes my prepared comments, and I'll turn it back over to Ken.

Thanks Steve. Before we move onto questions, I would like to point out that I remain confident in our prospects for the future, although the economic and insurance market conditions since mid-2008 have been quite challenging. Our Company's financial strength, the proven value of agency relationships, and our ability to provide superior service, in addition to our resolve to grow profitably, will drive long-term values for shareholders. We appreciate the opportunity to address what is on your mind about Cincinnati Financial. Please remember Jack Schiff, Jr., J.F. Scherer, Eric Matthews, Marty Mullen, and Marty Hollenbeck are here with Steve and me and we are all available to respond. Kyle, we are ready for you to open the call for questions.

(Operator Instructions) Your first question comes from the line of Caroline Cameron. Your line is open.

My first question is on the $70 million to $80 million of CAT losses you mentioned in the second quarter. Are you able to break that down into commercial lines and personal lines basis?

Caroline, this is Steve. We are not able to do that at this point. I might ask Marty Mullen if he has some additional commentary, but I do not believe we have a split between personal and commercial.

No, that's correct. It's too early to tell that split, but it is mainly driven by hail claims in Kansas and North Carolina in the early part of-- mid part of April.

Okay. And the $35 million, the largest loss was $35 million, are you able to say which state that was in?

Again, that is driven by hail events in the area of Gastonia, North Carolina, the Raleigh area, as well as Kansas.

Okay. And then, just sort of on market conditions, it seems like some of your competitors are actually seeing some improved stabilization in the market. I was wondering what you think is driving this and what it's going to take to get the middle-market and large account business to be more competitive.

This is J.F. Scherer. We are seeing now sub $10,000 premium accounts the opportunity for firmer rates. And we are getting that, and we expect that we will be able to continue to do so. I might add that is true for both the excess and surplus lines side as well as the standard property and casualty side. I can't speak for the other companies, but I will tell you that excess of $25,000 premium accounts, we are still seeing quite a bit of shopping, if you will, in the marketplace, and an extreme amount of activity by carriers in those lines. So, we are not seeing at that premium level, a firming of the market that perhaps some companies have seen. We're pretty close to it, and I think we understand our marketplace, but it's still pretty competitive in those areas.

Okay. And then just quickly if you could just give us an update on capital management and your views there. We have seen a couple of deals over the past year and one more recently. I was hoping you could give us an update on your thoughts on M&A, the dividends, and other forms of capital management? And that is it, thank you.

Caroline, this is Ken Stecher. M&A is something that we have not been very active in, as you know. We do look at things occasionally, but especially the property-casualty space, with our model and the franchise value we provide to agencies, we would have to be very careful to make sure, if we did anything, it did not impact that. So, the likelihood there would be very small. On the life insurance side, if there was something that became available that was appropriately priced, that may be something we would consider.

As far as the dividend, our fifty-year history of increasing dividends is something we are most proud of. Right now we have strong enough capital to maintain that, we fully understand that your operating earnings have to exceed that dividend on a consistent basis for that policy to be maintained over long-term. A couple of years recently we did not, last year we did earn the dividend. This year, obviously, it's too soon to say. But it is something that we are going to do everything we can to make sure we can maintain that dividend policy going forward.

Okay, great. That is very helpful. Thank you.

Your next question comes from Josh Shanker from Deutsche Bank. Your line is open.

Thank you. Good morning.

Good morning Josh.

In the prepared remarks from the press release, you point out that commercial rates are still declining by low single-digit percentages. Given the changes you have made in workers comp, is that included or excluded in those numbers? And what does that mean for combined ratio in commercial lines going forward?

Josh, this is Steve, it does include workers compensation. I think we are getting increases in workers compensation. The rate changes for the total segment are getting closer to zero. We are approaching our loss ratio situation with a multitude of initiatives, but we recognize the rate needs to be part of it as well.

So, would you expect your accident year combined ratio commercial insurance to deteriorate a little further in the near future?

We really don't provide guidance on our forecast of that. I think that it involves an awful lot of variables, but we are working through a variety of initiatives to reduce our accident year loss ratios.

Do you want to elaborate on that?

Well, I can elaborate some, particularly on the workers compensation, I think J.F can help me out there. But we're working on in terms of loss control, underwriting, claims, expense initiatives, really every area in the company is cognizant of the fact that we need to reduce the accident year loss ratios, and we're all working towards that.

I noticed there was a decent drop in the expense ratio this quarter. In terms of the discussion of things you are doing that are both -- potentially those are some things that are controlling both the loss ratio and the expense ratio?

Yes, we work hard on that expense ratio, this is Steve again. Do keep in mind that last year, the 35.6 that we posted was increased by 1.4 points by a one-time charge we took for a contingent liability. The expense ratio was down 2.8 points, so we had another 1.4 points of savings, and we are working hard to keep expenses under control and to be frugal.

Okay. Thank you very much.

Thank you Josh.

(Operator Instructions) Your next question comes from the line of Mark Dwelle from RBC capital markets. Your line is open.

Good morning. A couple of questions I was just about to ask were just asked. Looking at personal lines, you had commented that you are seeing some rate increases there. In the past you provided some of the ranges of how homeowners and auto had progressed. I was wondering if you could do that again this time?

Sure, Mark, this is Steve again. We have taken upper single-digit rate increases on home, lower single-digit increases on auto. And we have similar plans for this third and fourth quarter to take changes in those magnitudes again. At the same time, we are also providing more precision in that pricing with, we think, much larger increases going to the policies that we feel have the highest propensity for loss.

There were a couple of different technology initiatives associated with the personal lines, is that all fully rolled out now?

I think that technology in this day and age is never fully rolled out. We hope to continue to always improve, but we do feel from talking to agents, that as we've rolled out the new Diamond product and the various technological capabilities that brings with it, that we are very much in the game in terms of our technology, right in the middle of the pack. The agents I talk to tell me the technology is not an issue as regards to Cincinnati Financial.

Okay. You mentioned in your prepared comments about the RMS modeling and so forth. Could you just elaborate in a little bit more detail in terms of how you view that in the context all your overall reinsurance buying? And historically, you have not been an enormous buyer, but whether you're contemplating any changes there?

Sure, Mark, good question. I think at any time, we look at more than one model, we look at our own data, we look at our operating plan, and we consider everything. And certainly to the extent the RMS model now models greater losses for hurricanes inland. We're going to take that as a consideration in everything we do in terms of pricing, reinsurance buying, and so forth. I do want to make sure to point out that it is just one model, and we do look at a variety of models, and we look at a variety of factors, but we will take it into consideration.

In states such as Florida, for example, where I know some years ago, you made a fairly conscious decision to move distinctly off the coast. Does it change your thinking in terms of just even remaining an active presence in states like that? Or would you really more address any kind of concerns that the risk models might present by just using reinsurance as a tactic?

Another good question, Mark, this is Steve again and I will address that. The action that we took in Florida has really benefited and paid off in terms of the expected losses and the expected losses to our reinsurers. It's allowed us to manage our reinsurance costs. From what I can tell, and again we are still assessing it, but in terms of the new RMS model, it continues to show that the work we did in Florida was effective. And so we do not have plans to move out of Florida, certainly the focus is more on casualty driven accounts. We've done a lot of hard work to reduce the property exposure there, and we don't to go backwards in that regard. But will continue to do business in Florida.

Okay, I appreciate your answers. Thanks.

Thank you Mark.

Next question comes from Ian Gutterman from Adage Capital. Your line is open.

I missed a little bit of the early call, so forgive me if this was clarified. Did you say the $35 million Q2 event was the Carolina event? Was that correct?

Yes. This is Marty, and that is correct. It's a multitude over the 9-state cat, but it also involves losses in Kansas, North Carolina and a multitude of states.

So was the St. Louis event a major event as well? Or does that get more air time because it hit an airport?

For us particularly, that is not such a large event. And that was a different storm altogether.

Got you. Right, that's what I meant. Great. And just looking through your commercial lines. It looks like the comp loss ratios are starting to get better which I guess is the initiatives you have been talking about the past few quarters. On the other side, looks like commercial auto combines, the loss ratios are going backwards a bit, can you talk about that?

Commercial auto.

This is Steve. J.F. and I think we'll both say the same thing. I'd like to give the line over to J.F for a little bit here, I've been doing an awful lot of talking. (laughter) The workers compensation, we do feel is improving. It is, we think, due to a variety of initiatives, I will let J.F. say a few words about that. In terms of the auto, we feel pretty good about our commercial auto experience really. It's holding up well, and it's going to have some variability by quarter and so forth, but I think our commercial auto experience is not one that we are overly concerned about at this time.

I was just looking, it's been, this quarter and last, sort of a mid-70s loss ratio ex development, and in the 60s most of last year. That is what I was picking up on. Was there just some large losses or something that maybe that was a blip?

I don't think it is anything of a trend, Ian, I think we had a couple of quarters there and there's going to be some noise in that line.

Fair enough. Then just my last one, personal auto on the growth. Obviously, that's encouraging, I just want to get more color on where that is coming from. Is it commercial agents where you're doing more of the personal lines for the commercial clients? Or is it personal lines only agencies? Is it more the new agencies versus the old? What type of customer is driving that growth?

I think certainly we have a good reputation amongst our agencies, and we feel that they do put quality accounts that they may have a commercial lines experience with us on the personal lines as well. It goes well beyond that, we have a very active marketing plan in personal lines, so it is much beyond those accounts for which we write the commercial.

Okay. And is there anything -- I don't know, certain states where you're doing better? Or certain ages, or certain types of drivers? Or is it really just across the board, everything up this double digit?

Well, the one thing on the personal lines side that we do see, is we've implemented the new pricing analytics, is that the categories we feel have the least propensity for loss, the lower risk categories, we are seeing growth there. And it's representing an ever increasing percentage of our overall book.

Okay, so that would be the high end preferred, it sounds like.

Yes, it is not necessarily just the high end preferred, because with the new rating algorithms we look at a multitude of rating variables. And so it's going to go across more spectrums than that, but we do think it is those risks with the least propensity for loss.

Great. That is very helpful.

This is J.F. I just would add a little bit to your question about the number of agencies. Over the last four and a half years, we have actually appointed 238 agencies that were previously only representing us for commercial lines. That has added significantly. We've have added another 212 agencies as we have appointed agencies and the general course of appointments over that same period of time. We have gotten quite a bit of a boost from appointing those previously commercial lines on the agencies.

That is actually very helpful, and maybe that prompts one more take on it. Is it really the expansion in the agencies and you're getting from on the shelf to a low market share? Or are you having success going from, maybe before you were number 10 in auto with an agent, and you're getting up to the top three?

I think, as Steve mentioned a little bit earlier, the improvement of our Diamond System has made a significant difference on our ability to grow within our previously appointed agencies, and then those agencies that heretofore did not want to do business with us. And personal lines, because we did not have the automation of billing capabilities. We would have every expectation to yes, that we will grow into a prominent player in the agency and personal lines.

So it sounds like there's still a lot of runway there for personal auto to keep growing?

Plenty of runway to grow there.

Okay, great. Thank you. That is all I have, I appreciate it.

Thanks Ian.

The next question comes from the line of Vincent DeAugustino know from Stifel Nicholas. Your line is open.

For my question. One, it looks like there was about 40 new agencies appointed in the quarter, so just following up on that discussion. Were those the newer states, or the older legacy states? And then I think last year your target was 65 agencies but 90 were added, is there a target you would be able to share for 2011? Thank you.

Sure the target of 2011 is 120 agencies, and we have a bit of a mix. 92 of those agencies are projected in what we would call established states, 28 and almost entirely with the exception of Connecticut, the western states that we have opened in the last four or five years. The new appointments that we have made so far this year have really been across the country, we had none in any particular area. We had four in New York. We opened up Connecticut and downstate New York, so we appointed a few more there in New York in terms of any large numbers. But mainly across the board and as I mentioned, 92 will be what we consider established states and the rest out west.

Great thanks that is all I had.

Thank you.

(Operator Instructions) Your next question comes from a line of Fred Nelson from Crowell Weedon. Your line is open.

I have a little note here that says 'Roses are red, violets are blue, may CINF continue to bless all of you.' And thank you for the effort all of you do to help shareholders and your policy holders, and I want you to know that I personally appreciate all of you and the effort you do. And how you send people to college to get Masters degrees and how you empower your people to go higher. It's a great gift to see that in America continue, and thank you.

Thank you Fred. You heard today, we have a lot of strong initiatives in place. I'm a little impatient that things haven't improved a little bit quicker. The weather has slowed things down, the economy is starting to pick up a little bit, but as I said in my prepared comments, I really remain very confident. And we definitely appreciate your investment in our company.

You're welcome. Thank you.

You're welcome.

There are no further questions at this time.

Thank you for joining us today. We hope to see some of you at our annual shareholders meeting on April 30 at the Cincinnati Art Museum, and others are welcome to listen to our webcast of the meeting. We look forward to speaking with you again on our second quarter call. Have a great day. Thank you.

This concludes today's conference call. You may now disconnect.