Erie Indemnity Co (ERIE) 2016 Q3 法說會逐字稿

Good morning and welcome to the Erie Indemnity Company third-quarter 2016 earnings call. I would like to introduce your host for today's conference, Mr. Scott Beilharz, Vice President or Investor Relations.

Thank you, Christy, and welcome, everyone. We appreciate you joining us for today's discussion about the third-quarter 2016 results. Joining me today are Tim NeCastro, Chief Executive Officer; Greg Gutting, Executive Vice President and Chief Financial Officer; and Sean McLaughlin, Executive Vice President and General Counsel.

Our earnings release and financial supplement [released] yesterday afternoon after the market closed, and are available within the Investor Relations section of the website erieinsurance.com.

Before we hear from Tim and Greg, I would like to remind everyone that today's discussions may contain forward looking remarks that reflect the Company's current views about future events. These remarks are based on assumptions subject to known and unexpected risks and uncertainties. These risks and uncertainties may cause results to differ materially from those described in those remarks. For information on important factors that may cause such differences, please see the Safe Harbor statements in our Form 10-Q filings with the SEC dated October 27, 2016 and the related press release.

Also, during this call, we may discuss non-GAAP measures. The reconciliation to the GAAP-based results can be found in our Form 10-Q that was filed with the SEC yesterday.

This call is being recorded and the recording is the property of Erie Indemnity Company. It may not be reproduced or rebroadcast by any other parties without the prior written consent of Erie Indemnity Company. A replay will be available on our website today after 12.30 PM Eastern time. Your participation on this call constitutes your consent to the recording, it's publication, webcast and broadcast, and the used of your name, voice, and comments by Erie Indemnity. If do not agree with these terms, please disconnect at this time.

With that, I will note the call over to Tim.

Thank you, Scott, and good morning, everyone. It is my pleasure to be with you today and to share our results and to briefly introduce our new leadership team.

Let me start by acknowledging that as we approach the end of 2016, Erie is in a very good place. Indemnity reported solid gains in net income for both third quarter and year to date, resulting in earnings per share of $3.14 for the first nine months of 2016 compared to $2.75 for the same period in 2015. The 6.1% year-to-date increase in the direct and assumed written premiums of the Exchange drove our strong top-line growth, and we continue to outpace Conning's Industry Forecast of 3.6% for 2016. Furthermore, our operating margins continue to grow as we manage expenses wisely.

Given the backdrop of a solid financial performance, I'm very excited to share with you some decisions regarding Erie's new Executive Council. Experienced Erie leaders are being promoted to oversee our sales, products, claims and customer service operations.

Doug Smith, who currently serves as interim Executive Vice President of Product, Sales and Marketing, has been named Executive Vice President of Sales and Products. Lorianne Fells, currently Senior Vice President of Customer Service, will take on the expanded role Executive Vice President of Claims and Customer Service. Both Doug and Lorianne have substantial tenure and knowledge of Erie. They're well-prepared and committed to lead these areas critical to Erie's mission and our success.

Additionally, I've asked Sherri Silver, Senior Vice President of Strategic Marketing, to join our Executive Council. In addition to her marketing expertise, Sherri's proven financial and analytical acumen as well as insight and strategic abilities offer great value to our team. Doug, Lorianne and Sherri round out our Executive Council, whose members also include Greg Gutting, Chief financial officer; Bob Ingram, Chief Information Officer; Sean McLaughlin, our General Counsel; Dionne Wallace Oakley, Senior Vice President of Human Resources; and Dave Bednar, Vice President and Executive Support. And, as we shared on the last call, Terry Cavanaugh will continue to offer his guidance and support through the end of this year.

As a leader at Erie, at throughout my career, I've always encouraged diversity of perspective and candid respectful collaboration, and I will continue to take that approach with our Executive Council. I have great confidence that together with Erie employees and agents, we will continue shaping a successful path into the future.

Now with the team in place, we will sharpen our focus on strategic initiatives and delivering our promise of superior protection and service at the lowest possible cost. We will continue to make investments in our employees and agents and into the technology that supports their work. At the same time, our approach to expense management will remain disciplined and balanced to enable our continued growth. While we are pleased with our performance, we will continue to challenge ourselves and look for new opportunities to make the Erie experience even better for all of those we serve.

We made significant progress this month with the rollout of our new platform supporting our claims processing. As you know, we launched Claim Center last year at this time with our workers compensation line. This month we began moving our largest line of business, auto, along with boat and garage into the new claims system. We are on track to implement all other lines in 2017.

While processing improvements aren't revolutionary, they are necessary for the kind of steady increase in efficiency and effectiveness that are the backbone of any company that must remain relevant and continue growing. Claim Center, for example, has enabled us to reduce the time it takes to settle a claim and provide greater consistency in service. It also established a springboard for process improvements with our agents. An easier process for taking loss reports means Erie agents can better focus on providing the human touch the customers value.

Further enhancing the customer experience, we anticipate the completion of our First Notice of Loss centralization and specialization efforts in early 2017. Since its inception one year ago, we've seen a decrease in the amount of time it takes to handle a claim and improved customer satisfaction scores. And our efforts have not gone unnoticed. Just last week we received another affirmation that Erie continues to improve its customer service capability.

Erie ranks second among insurers in 2016 JD Power and Associates Auto Claims Satisfaction study. Improving from six place last year, the results put Erie at our highest ever point total in five service related categories and well above the industry average.

Finally, before I ask Greg to expand our financial results, I would like to express on behalf of all of us at Erie our deep concern for those impacted by hurricane Matthew. In addition to the immediate service of our first responders, Erie will make a monetary contribution to the flood relief efforts in North Carolina where our customers suffered the greatest hardship.

I'd also like to share my profound personal gratitude to our claims employees and our agents. Our cofounder H. O. Hirt liked to say that insurance is nothing if not a service industry. Severe weather events like hurricane Matthew put that to the test, and once again, our Erie team felt that promise.

I'll turn the call over to Greg now to report our third-quarter and year-to-date results. Greg?

Thank you, Tim. Our third-quarter results reinforced the strong position we continued to experience in 2016. As Tim said earlier, careful expense managements helped revenue growth outpace expense growth in both the third quarter and first nine months of 2016, driving solid grains in net income. In the third quarter, net income was $57 million, or $1.09 per diluted share, compared to $50 million, or $0.94 per diluted share, in the third quarter of 2015. For the first nine months of 2016, net income was $165 million, or $3.14 per diluted share, compared to $145 million, or $2.75, for the same period in 2015.

The third-quarter operating revenue increased $22 million or 5.5% over last year's third-quarter. For the first nine months of 2016, operating revenue increased $68 million or 5.9% compared to the first nine months of 2015. Growth in both the quarter and the year is consistent with the increase in the direct and assumed written premiums of the Exchange as policies inforce and average premium average per policy continue to grow in all major product lines.

Operating expenses grew $8 million and $23 million for the quarter and nine months when compared to the same period last year. In the third quarter, commissions increased $9 million compared to the third quarter of 2015, bringing the total commission increase for the first nine months to $36 million, compared to the same period last year. The increase in both the quarter and the year was driven by an increase in the direct and assumed written premiums of the exchange.

Non-commission expenses decreased $1 million and $13 million in the third quarter and nine months of the year compared to the same period in 2015. We are pleased with these results and we continue to exercise prudent expense management. For example, in the first quarter we implemented some changes that decreased our credit card processing fees. At the same time, we recognize that we benefited from favorable conditions this year. For instance, we are experiencing lower pension costs due to an increase in the discount rate and we incurred lower medical this year compared to last year.

The continued top-line growth combined with reduced non-commission expenses resulted in net revenue from operations before taxes for the quarter of $82 million, up $14 million compared to the $68 million in net revenue earned in the third quarter of 2015. Year to date, net revenues from operations before taxes totaled $236 million, up $45 million compared to the same period in 2015.

As I mentioned, third-quarter revenue growth once again outpaced expense growth resulting in an improved operating margin of 19.7% compared to 17.2% in the third quarter of 2015. Indemnity operating margin for the first nine months of the year was 19.4% compared to 16.6% in the first nine months of 2015. Indemnity's investment income before taxes totaled $4 million in third quarter of 2016 compared to $7 million in the same period last year and $14 million in the first nine months of 2016 compared to $29 million in the first nine months of 2015. Losses from limited partnership were the reason for the decrease in investment income.

As I have mentioned in the past, this asset class is in run-up, and we are expecting more limited and inconsistent earnings from asset class.

Earlier this month, one of our real estate partnerships had a sale of its remaining assets that resulted in a distribution, generating significant gain. The gain of approximately $7.5 million will be recorded in equity and earnings of limited partnerships in our fourth-quarter 2016 financial statements.

Finally, our continued growth and profitability has enabled us to pay dividends in the amount of $102 million to our shareholders in the first three quarters of 2016.

Now I'll turn the call back over to Tim.

Thank you, Greg. We've had a great year so far, delivering on our enduring promise of best-in-class service. With our executive management team in place, we will continue to address operational challenges and to capitalize on market opportunities. At the same time, we recognize that market and industry challenges, our changes are inevitable. Innovation is no longer a buzzword; it's a business imperative. We will respond by emphasizing our distinctive service and by investing in the technology and tools necessary to remain competitive.

Now we will be happy to take your questions.

(Operator Instructions)

Amit Kumar, Macquarie Capital.

Thanks. Good morning, and thanks for taking my questions. Just a few questions to begin with. Number one, going back to hurricane Matthew, do you have an earlier read what the impact might be on your results from hurricane Matthew?

Yes, we are seeing losses come in, and we're expecting to incur between $15 million and $20 million on the property-casualty side.

$15 million to $20 million. Okay. That's helpful. Number two, going back to the discussion on the claim system, and you talked about the platform being expanded as we head of 2017. Is there a way to put maybe some sort of a loss ratio impact -- an expense ratio/loss ratio impact from the new claim system? Is it possible to quantify the impact on results from this system?

Well there will be a little bit of a cost on the property-casualty operation. The vast majority of it is capitalized, and you will see that amortized over probably a seven-year period. There is a slight uptick, although we have done some other things that have actually made us more efficient, so that it's currently, I believe, a 27.5 (inaudible). This would be part of the claims, but it would be minimal on the whole overall claims adjusting expense ratio, which is right around 10.

In terms of the loss ratio impact, my sense is if it is optimizing the process, there might be some sort of an incremental loss ratio or am I overreaching on the top process?

Yes, Amit, I think that's part of the trade-off here is the investment in technology is going to help us improve our efficiency and I should neutralize the investment we're making in the system.

Okay. That's helpful. Then moving on to broader workplace, and many companies, if you look at Hartford earlier today on their conference call or if you go back to Travelers and some others, they have talked about the loss cost trends in personal auto worsening maybe from economy et cetera. Could you, first of all, just talk about the lost cost trends in your personal auto book? What sort of frequency and the severity numbers you are seeing in that? Then I will come back with a follow-up on that.

We are seeing the frequency go up and a little bit on the severity. We are seeing the same trends that the rest of the industry seeing.

And you think (multiple speakers). Go ahead.

I would say we attribute that really to, certainly, we're seeing an increase in the number of miles driven. In fact, we were at a conference at the Insurance Institute last week, and they commented on the [accounting port] with distracted driving. I think there's no way to really prove that, but, clearly, it's easy to see, if you drive up and down the highways today.

That's a fair point. In terms of that trend, is there any sort of pricing initiative in place to address that trend? A lot of peers are talking about putting it in new rate filings and [initiating] the rate more aggressively. I guess that is two-part question. Number one, do you anticipate to pursue any rate action? Number two, if not, do you expect the market share benefit because other companies are rightsizing their operation?

I would say we've always priced responsibly for the marketplace and our experience in the market. We take a longer-term view, so we would tend to have more moderate rate actions, probably, than the competition. We don't have any plans for dramatic rate increases in the organization. While our losses are running a little hotter than normal right now, they are moderating.

That's actually good to know. The other question I had was -- switching gears. Commercial auto is another hot spot for some of the other companies. Can you talk about your trends in that market? Is that book comparable to the other larger players, or is there any difference in that book?

We are seeing some of the similar trends now. They're not quite as dramatic as the first [line side], but, yes, we are seeing a little bit of that as well.

We think some of that is influenced by the type of business that's in commercial auto and some of the other markets, where we tend to focus on automobile fleets, we are not in the larger vehicle markets. Our experience is, again, a little more moderate, but is running comparable to or personal lines automobile experience.

Got it. That's helpful. The last question is, obviously, you're targets are different than some of the other companies based on the structure, et cetera. How should we think about an overall target combined ratio; what you might be looking at in your internal plans? Can you just broadly talk about that, on an overall basis? Also if possible, delve deeper into the personal homeowners and on the commercial side, what are some of the internal targets you're trying to achieve based on the economy as well as the depressed interest rate climate? Thanks.

We take a long-term approach to things, and so we have a targeted rate of return that we're trying to get, but we don't necessarily need to get that each and every year in each and every one of our product lines. I don't know that we really share our targeted combined ratio, but you can see over the years where we have fallen in. It's been fairly stable. The years that have been outliers, either positive or negative, have been the result of increased or decreased catastrophic losses.

I can comment that what influences what we're thinking about in terms of that combined ratio really has to encompass a lot of different constituents: Our agents competitiveness in the marketplace. We are contemplating relationships with our policyholders and the retention of those policyholders as well, so we really don't publish a targeted combined ratio.

Okay. That's helpful. Thanks for the answers, and good luck for the future.

Thank you. Thank you for your questions.

(Operator Instructions)

That concludes our Q&A session for today. I'd like to turn the call back over to Scott Beilharz for any further remarks.

Thanks again for joining us today. As a reminder, a recording of this call will be posted on our website at erieinsurance.com after 12.30 PM Eastern time today. If you have any questions, please call me at 814-870-7312. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program and you may all disconnect. Everyone, have a great day.