Selective Insurance Group Inc (SIGIP) 2014 Q1 法說會逐字稿

Good day, everyone. Welcome to the Selective Insurance Group's first-quarter 2014 earnings release conference call. At this time, for opening remarks and introductions, I'd like to turn the call over to Senior Vice President Investor Relations and Treasurer, Ms. Jennifer DiBerardino.

Thank you, good morning, and welcome to Selective Insurance Group's first-quarter 2014 conference call. This call is being simulcast on our website and the replay will be available through May 27, 2014. A supplemental investor package which contains GAAP reconciliations of non-GAAP financial measures referred to on this call is available on the investor's page of our website, www.selective.com.

Selective uses operating income in non-GAAP measures to analyze trends in operations. Operating income is net income excluding the after-tax impact of net realized investment gains or losses as well as the after-tax results of discontinued operations. We believe that providing this non-GAAP measure makes it easier for investors to evaluate our insurance business.

As a reminder, some of the statements and projections that will be made during this call are forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not guaranteed for future performance and are subject to risks and uncertainties.

We refer you to select the annual report on Form 10-K and any subsequent Form 10-Qs filed with the US Securities and Exchange Commission for a detailed discussion of these risks and uncertainties. Please note that Selective undertakes no obligation to update or revise any forward-looking statements.

Joining me today on the call are the following members of Selective's executive management team: Greg Murphy, CEO; John Marchioni: President and Chief Operating Officer; Dale Thatcher, CFO; and Ron Zaleski, Chief Actuary.

Now I'll turn the call over to Dale to review first-quarter results.

Thanks, Jen, and good morning. We reported operating income per diluted share of $0.23 in the first quarter compared with $0.36 a year ago. The first quarter statutory combined ratio of 100.8% was up from 96.8% last year. Extreme winter weather was a big driver of results, but there were a number of unusual items that impacted the first quarter, both positively and negatively.

First, catastrophe losses for the quarter totaled $34 million or 7.5 points compared to $1.6 million or 0.4 points in the first quarter of last year. The majority of these catastrophe losses were attributed to PCS defined CATs 31 and 32 in January, when the polar vortex event and snowstorms hit our 22-state standard lines footprint. Despite the catastrophe loss activity in the first quarter, we are still comfortable with our expectation for four points of cat losses for 2014.

Second, this quarter's results included some of the highest levels of non-catastrophe property losses that we've experienced in recent years. The impact varied by line, but overall, non-cat property losses for the first quarter were about six points higher than the non-cat property loss quarterly average over the last three years.

These non-cat property losses were primarily the result of roof collapses, frozen pipes, and fires, which were often related to the extreme weather experience throughout our footprint states.

Third, this quarter's results included $8 million or 1.7 points in other income for the March 2014 sale of renewal rates to our book of pooled public entity business. Although we do not solicit buyers, we decided to sell this very small and specialized book of business when the opportunity presented itself, because it had significant production outside of our extended alliance footprint and proved difficult to grow.

Having said that, we are maintaining our significant commitment to individual risk public entity business and will continue to look for opportunities to grow that.

Fourth, favorable prior-year casualty development in the quarter was $14 million or 3.1 points compared to favorable prior-year casualty development of $2 million or 0.4 points in the first quarter of 2013. The higher net favorable development was driven by stable workers' compensation trends in the quarter with no development, either favorable or unfavorable.

The net favorable development in the 2014 first quarter resulted from continuing improving claims trends with general liability for 2009 through 2012 accident years and has reflected the rigor and integrity of our reserving process.

Netting out the catastrophe development and unusual items discussed results in an adjusted statutory combined ratio of 93.1% in the first quarter of 2014 compared to 96.8% a year ago. This improvement primarily reflects full-year 2013 renewal peer price achieved of 7.6%, which is currently earning in at 7.3%. After subtracting loss trends, the pricing actions taken in 2013 are lowering the combined ratio by about 2.5 points.

Total statutory net premiums written were up 6% in the quarter with standard commercial lines up 7%. Standard commercial lines growth continued to be largely driven by renewal peer price, which was up 6.4% in the quarter, and retention, which increased 1 point to 84%. The ex-catastrophe standard commercial lines statutory combined ratio was 92.9% in the first quarter. This included a 2.1 point benefit to the statutory expense ratio as a result of the public entity self-insured group sale.

As expected, commercial property and BOP was negatively impacted by weather losses in the quarter. On an ex-cat basis, these lines generated combined ratios of 99.9% and 97%, respectively. Conversely, general liability and commercial auto reported strong results of 80.7% and 94.7% excluding catastrophes, respectively.

Personal lines net premiums written declined 2% in the quarter, reflecting our strategic nonrenewal and dwelling fire business and a reduction in monoline homeowners. The personal lines statutory combined ratio ex-catastrophes for the quarter was 93.4%. Pricing continued to be strong in personal lines, led by homeowners, and we're seeing the benefits of our pricing success in results.

Our E&S operation grew net premiums written by 6% in the quarter and generated a profitable statutory combined ratio of 97.3%, excluding 0.6 points of catastrophe losses compared to 97.2% a year ago. As we continue to improve the profitability of our newest segment, we believe this business will perform in line with our overall expectations for the full year.

Turning to investments, first quarter after-tax and net investment income was up 7% to $26 million. The increase was a result of higher income from alternatives and fixed income investments. Invested assets increased 1% over December 31, 2013. At 1.9%, after-tax new money rates on fixed income securities in the quarter were below our 2014 estimate of 2.25%.

The overall portfolio's after-tax yield of 2.3% remained flat from both a year ago and year-end 2013. The overall portfolio unrealized gain position increased from $79 million pretax at year-end 2013 to $105 million.

Also, the quarter-end unrecognized gain position and the fixed income held-to-maturity portfolio was $21 million pretax or $0.25 per share after-tax. Our fixed income portfolio maintains a high credit quality of AA- in the duration of 3.5 years, including short-term investments.

Surplus and stockholders' equity ended the quarter at $1.3 billion and $1.2 billion, respectively, and book value per share was $21.09, up 2% from year-end 2013. Our premium to surplus ratio was up slightly from year-end at 1.5 to 1. Annualized operating ROE for the quarter was 4.5% and total ROE was 6.1%. This compares to our weighted average cost of capital of 8.6%.

Now I'll turn the call over to John Marchioni to review insurance operations.

Thanks, Dale, and good morning. The initiatives that we continue to execute across the organization are positioning us well to achieve our stated profitability targets. Though we cannot control the weather, we remain focused on the areas within our control and remain confident in our ability to meet our 2014 profitability goal.

Our relationships with an elite group of independent agents are a competitive advantage for Selective. This is affirmed through the strong feedback loop that we have with our agents. In addition to performing independent surveys, regular interactions with agents provide opportunities to communicate our strategy while also receiving specific and actionable feedback. Currently, we have approximately 1100 independent agency relationships, which represent about 1900 storefronts.

For commercial lines, Selective holds one of the top three spots in approximately 60% of our agencies who have represented us for five years or more. Holding a top three position in an agent's office provides us with a more consistent first and often last look at business opportunities.

The strength of our relationships is also evidenced by our successful balancing of rate and retention over the last five years. In the first quarter, we achieved standard commercial lines renewal pure price of 6.4% and retention improved one point from a year ago to 84%. Our ability to granularly price business resulted in pure rate of 5% and point of renewal retention of 89% on our highest quality accounts, which represent 57% of our standard commercial renewal book.

On our lowest quality accounts, we achieved pure rate of 12% and point of renewal retention of 78%. These accounts represent 8% of our standard commercial renewal book.

From a new business perspective, we experienced greater competitive pressure in the quarter. This was evidenced by a decline in submission and quote activity compared to last year. As a result, new business production within standard commercial lines was down slightly at $69 million.

Despite a recent heightening of competitive pressure, we are excited about the opportunities to grow our business in a disciplined and thoughtful manner in three main areas. First, our E&S business, which we entered in 2012 through two acquisitions, provides both product and geographic diversification. The business is written across all 50 states and we have an opportunity to capitalize on retail agency relationships within our standard operating footprint to drive business to our E&S wholesale partners.

Second, we continue to build out our product portfolio by improving existing coverages and rolling out new products while staying within the markets and product lines where we already have established expertise. And third, we believe there are geographic areas within our standard lines footprint where we can add agencies storefronts to increase market share without compromising our franchise value model.

We look at this opportunity from two perspectives -- maximizing both the amount of the overall market that our agents control and share of wallet that we rate within each of our agents' offices. As a general rule of thumb, if our agents control 20% of the market and we are able to garner a 15% share of wallet, the result is a 3% market share. As we currently stand at a 1% or less share in 17 states out of our 22-state footprint, this represents a significant growth opportunity.

With an excess in surplus lines, profitability improved over 2013 levels with a first-quarter statutory combined ratio of 97.9% and total premium was up 6%. Though our growth in this quarter was tempered through our conversion to a single underwriting guide for all of our wholesale agency partners, we remain confident in our ability to accelerate growth going forward.

E&S renewal pure price was up 4.1% in the first quarter and we continue to take aggressive underwriting actions on the poorest performing segments. Our expectations for E&S renewal pricing in 2014 is in the 6% to 7% range.

In 2014, we will be implementing new policy administration technology within the E&S business in an effort to automate workflows and approve efficiency. Initial wholesale or feedback regarding the system has been very positive and we expect our initiatives to help drive growth in this business moving forward.

Personal lines profitability continues to improve after normalizing the impact of cat and non-cat property losses. Net premiums written were down 2% as new business declined 19% to $8 million, mainly due to a reduction in monoline homeowners. Additionally, retention declined from 87% to 82% in the first quarter of 2013, in part due to our strategic nonrenewal of dwelling fire policies as well as targeted nonrenewal action on underperforming auto and home.

Personal lines renewal pure price increased 6.8% in the quarter, which was slightly ahead of our expectations for the quarter but in line with our 2014 expectations to achieve 6% to 7% renewal rate in personal lines. In homeowners, our statutory combined ratio was 121.7, including 23.6 points of catastrophe losses as we achieved renewal pure price increases of 10.9%. Non-cat property losses in the quarter were 52 points, an increase of 9 points from year ago, largely due to the extreme weather.

We continue to target a homeowners combined ratio of approximately 90% in a normal catastrophe year and will drive the necessary rate and underwriting actions to the book to achieve this goal. Personal auto produced a 100.9 combined ratio in the quarter. Results were benefited by $2 million or 5.2 points of favorable prior year development.

This reflects a continuation of recent reserving trends we have experienced within personal auto liability. Renewal pure price increases in the quarter were 3.6% and we expect improvement in this line as a result of continued rate and increasing the age of the book.

Now I'll turn the call over to Greg.

Thank you, John, and good morning. First quarter had some items that impacted our results in both directions. But overall, we continue to have confidence in our ability to achieve a 2014 ex-cat statutory combined ratio goal of 92 and generating an ROE about 200 basis points higher than our cost of capital. Our ex-cat statutory combined ratio for the quarter was 93.3, about 90 basis points above our first quarter budget.

In addition, we had unusually high non-catastrophe property losses that added six points to our overall statutory combined ratio when compared with the quarterly average over the past three year period. These losses were mostly offset by 3.1 points of favorable prior-year casualty reserve development and 1.7 points from the sale of our SIG business.

In our experience, the early months of the year tend to be more competitive as carriers try to start off the year with strong premium production. We've heard from our regional managers that the first quarter was very competitive, but it remains to be seen whether this is the usual first-quarter competition or a market shift.

Our ability to increase standard commercialized renewal pure price by 6.4% in the quarter is due to the hard work of our employees and agency clients. Despite the increased competition, we are pleased with our ability to achieve rates in line with our 2014 guidance of 6% to 7% renewal pure price increases.

In 2014, our overall earned renewal price -- pure price increase -- is 7.3%, about 430 basis points above our expected loss trend. This will have the impact of reducing our combined ratio by approximately 2.5 points this year. Pricing in combination with our underwriting and claims improvements will help us achieve our 2014 goal.

In 2014, A.M. Best is forecasting a commercial lines combined ratio of 99.9 and a personal lines combined ratio of 99.2. Their primary assumptions to the forecast are for less favorable development and a more normal level of catastrophe losses. Including some level of normal GDP growth, they also forecast industry net premium written to increase only 4%, which indicates to us that REIT is barely keeping pace with loss trend.

A.M. Best is also forecasting industry 2014 return on surplus to be in the 6% to 8% range. At these levels of return, and factoring in the ongoing low interest rate environment, publicly traded carriers could find their stock prices under pressure.

The gap between rate and trend is the leading indicator for future performance. Given current industry pricing trends, and the A.M. Best combined ratio forecast, the industry could struggle to meet its cost of capital in 2014. Additionally, the rate in underwriting improvements that the industry achieves in 2014 sets the table for 2015 performance.

Based on the first-quarter results and what we currently see in the market, our 2014 guidance is as follows. An ex-catastrophe statutory combined ratio of 92, which includes no prior year additional casualty development; four points of catastrophe losses for the year; after-tax investment income of approximately $100 million; weighted average shares of $57.4 million.

Now I'll turn the call over to the operator for your questions.

(Operator Instructions) Vincent DeAugustino, KBW.

Just to start off, Greg, to your point about the competitive pressures early in the year, I think based on what you guys had disclosed on pricing through February, that maybe the pace picked up just ever so slightly in March, and perhaps I'm just splitting hairs here, but if that's the case, does that speak to your commentary that might be kind of implying that pricing could pick up here as some of this early competitiveness in the year wanes as we work a little bit deeper into the year?

I don't know if I would put that much credibility on month-to-month movements of the numbers. I think our commentary around what you see in the industry -- based on some of the results we've seen, our competitors released in terms of their pure price, and I'd say what we really put a fair amount of confidence in is the CLIPS -- Towers Watson report, excuse me. That's their price indication. So I think we're curiously waiting that to come out for the first quarter. But we are not backing off our 6% to 7% commercial lines trend.

Okay, good, good. So just one other kind of bigger picture question. We've been hearing more about how growing use of pricing analytics is helping drive more intelligent pricing and, therefore, that's kind is shrinking the amplitude of the pricing cycle. So to kind of run with that, I'm just curious from what you've seen if the greater use of analytics has also shrunk the standard deviation around the mean on prices -- insurers compete for a piece of business?

And the reason I ask is kind of just looking at that, I'm wondering if that kind of dynamic would also lead to less -- as far as insurers actually looking at a quote, less reliance on just price alone and whether some of these service attributes that Selective is really based on -- if that ends up helping you guys winning more business through this involvement? So I'm just kind of curious if you're seeing that play out or if you potentially expect that to kind of emerge as we see more analytics usage.

Vince, this is John. Let me take a crack at the couple of questions you had in there. With regards to customer focus or reliance on service, rather than price -- if you see convergence around pricing, because everybody gets more sophisticated -- I would say there's no question their buyer habits vary from customer to customer and I think there have always been customers who are going to put some sort of a value on service.

And that will incent them to stay with a company or to go to a company, not necessarily with the lowest price. And I would say that if you look at our retention, and also our ability to maintain a top spot in a lot of our agents' offices, it's because we bring that to the table and they don't just compete on price with our product.

Now that said, there are always going to be other segments of the customer base that are going to look at price first. There are producers that are going to sell on price, so that dynamic will always be there.

With regard to the marketplace generally, there has been, I would say, an increase in how companies build and deploy modeling capabilities to get more granular in matching price to risk. But I would say you still see a very wide variance from company to company, even those that use modeling, as to what their model output would indicate account by account, so I don't think that's going to drive convergence.

And I would say you also still see companies that are deploying their pricing strategies pretty much across the board, which I would say for the last couple of years has provided us new business opportunities for quality of cash that may have been a little bit overpriced that they failed to recognize.

So in a perfect world, you would see that convergence. I don't think that's where we live at this point in the commercial lines arena.

This is Greg. I'll validate that the information -- if you guys looked at it in the world you live in, information ratio in commercial lines was all over the place relative to accounts segment. And to really fix that industry-wide, you need to have a more holistic movement in rates. A much higher rate structure so it will allow the flexibility to increase rates on the segmentations where you need it, but also decrease rates more along the information ratio.

As John said, that's like a scattergram right now across every one of the sectors of performing business and we constantly try to move closer and closer to that, but the industry is all over the place. And I think unlike the previous market cycles, this could be a cycle where not everybody benefits from the increased price because there is adverse selection out there.

The weak could get weaker and not know it because, like John mentioned, they could be losing some of their better accounts as they socialize rate across their book -- lose some of their better accounts, and then underwrite more of the worst accounts in the market that other companies are putting into the marketplace.

So it's an interesting dynamic, because this is the first -- I'll call it mini cycle -- that we've gone through, where there's a varying degree of sophistication on commercial lines. So you've got to understand that you're not playing with competition at the same level of sophistication. It's all over the place, which then makes market pricing more difficult. I know that's kind of a long answer, but that's how the transition of the commercial lines marketplace is today.

That's really helpful. And just one quick numbers question. On the renewal rate sale, would there be potentially any other impact to lines like workers' comp where we might be seeing premiums come out or is that just all within the other line?

It's -- basically the sales price is all within the other income, but obviously the other income then gets allocated to the various lines of commercial lines of business. So there is this small impact in every single commercial line of business.

Okay, if not for the by line, because clearly doing that reconciliation probably doesn't make sense in this venue, but would you be able to say what the aggregate premium production was from that business?

It was approximately $38 million.

Okay, great. Thank you very much.

Bijan Mozami, Guggenheim.

I have a couple of questions for Charlie and Greg and then a follow-up for Dale. The first question is a follow-up, really, to a previous question on rate increases. One of your competitors, Travelers, got about 6.7% rate increase and they were saying the slowdown is not because there is more competition or they have more of an appetite to gain market share, but just because there are so fewer accounts that need double-digit rate hikes.

So the point is that I really see a little bit of a dichotomy between John's comment about a decline in submission and codes versus what Travelers was saying in their conference call. I just wanted to reconcile those points.

So Bijan, I'll take a crack at it and then Greg can follow on. What I would suggest is -- Greg indicated what the recent pricing surveys and recent disclosures from competitors around a drop off in rate level that we were actually experiencing. If you believe that rate is starting to come down a little bit market wide, if you follow that through and say that as a result of rates coming down, there's less pressure on agents to shop their renewals, because the customer is getting smaller increases are not necessarily pushing them to market their renewal.

And that will result in less submission activity and less new business opportunities. And I think that's how you would try to piece that together.

And I would say, Bijan, relative to overall rate where you see it, it's different for every company, depending on where they are today relative to their level of profitability and where their own targets are. So I think it's tough to make company-to-company comparisons without understanding where their underlying fundamentals are and where their goals are.

But I would say that as you settle back, you need to think about rate equaling trend as you start to get to a more stable environment and if that's your interpretation of their conference call, that is very plausible.

I see. And then as far as the loss cost trend of 300 basis point goes, where is that coming from and is it accelerating or decelerating? So effectively, is the margin expanding or decreasing between the two numbers?

The loss trends have been pretty stable over the last 4 to 5 years at roughly 3%. I mean it does fluctuate a bit between 2.8% and 3.1% or whatever, but it has been relatively stable. So we are really not seeing a lot of movement in that on an overall basis.

And really the only the movement that we do see in overall loss trends, quite frankly, is our own internal efforts to reduce losses, both on the claim side and on the underwriting side.

So no direct correlation between that loss trend and potentially that 3.1 points reserve release that you had during the quarter?

No, there is no change in loss trends that has led to that release in reserves. Basically, it's just our analysis of it. And, really, the biggest driver, quite frankly, in having a larger number this quarter is the fact that we had no development on workers' comp and we have been seeing adverse development on workers' comp.

So once you remove that out of the equation, the net number allows all the positive that we've seen in all the other lines to truly show through.

And one last question before I requeue. I was wondering if you could clarify a little bit between cat losses and non-cat property losses? In particular, if you have a winter freeze and you have a sprinkler freezing, would that go into property non-cat loss? And is there any kind of seasonality in that item throughout the year, because you are pointing out that a six point above historical average and just trying to figure out what the seasonality of that is throughout the year.

Sure. So basically what transpires is if a particular loss can be attributed within the date range that PCS assigns to an individual catastrophe, then it falls under the catastrophe loss category. If, however, it is a loss that develops over a little bit longer period of time, oftentimes a freezing pipe or ice damming on a roof or even sometimes a roof collapse that can't be necessarily attributed to a precise date of loss that would put it into the PCS range, would make it a non-cat property loss, even though we would know that it that it was weather-related.

Those occur -- obviously, every single quarter has non-cat property losses in it. There is some volatility to that number that is not necessarily seasonal. You'll see it with thunderstorms in the springtime; you'll see it occasionally with, actually, thunderstorms in the summertime also; and early winter freezes in the fourth quarter.

All of those things can lead to higher non-cat property losses in any given quarter. But every single quarter has non-cat property losses.

Great. And one very last quick question. On the public entity renewal rights sale, is there any further benefit coming through the expense ratio going forward, so there any further payments on top of that $8 million?

No, it's all recognized here in the first quarter. There is no ongoing commitment.

Okay, great. Thank you.

(Operator Instructions) Scott Heleniak, RBC.

Just wanted to talk about the new business environment. I know you touched a little bit on it in your comments, but was there any particular class of business in the first quarter coming in that you maybe thought you were going to be able to grow your new business and it proved to be a little more competitive? Anything at all that stands out there?

This is John. I would say the pressures we saw or the slight reduction in submission activity was fairly consistent across class and region. There's nothing really that stands out. Part of it is we are a balance writer on the commercial line side and our mix of business across the segments that we compete in is fairly balanced. We've talked over time about the contractors, not contractors' mix, but even within that, the contractor segment is a fairly balance mix.

So I would say there's nothing there that drives our performance that we would look at and say because that became more competitive, it impacted overall new business that way.

Would you say those comments are similar for the E&S year as well as the commercial lines?

Yes. I would say E&S is a little bit of a different story. Just in that we've continued to work through integration. We continued to convert to a single set of underwriting guidelines and product and pricing structure as we integrated together our two operations, and I do think that causes a little bit of internal distraction as we go through that.

And I would say that probably impacted our new business production in the first quarter. And I would say that -- being through that, combined with what's soon to be a rollout of a new technology platform, which will improve ease of doing business -- will create those opportunities going forward. So I would say that may be as much about some of our internal integration work as it was about any market change in E&S.

Okay, that's helpful. Then on personal lines -- you guys talked about non-renewing some monoline homeowners accounts and some fire accounts and I know you guys have been doing that essentially for the past year or so and just wondering how far along you are in this process? Is that something we should continue to expect to see throughout 2014?

Yes, so on the dwelling fire, dwelling property line, that renewal -- nonrenewal of that book entirely started in January of this year and actually in New Jersey, which is probably the biggest part of our dwelling fire book; that's due to start in July of this year. So you will continue to see that put pressure on retention levels, but again, that was not a major line of business for us.

So the impact is not going to increase on a go-forward basis. With regard to -- there was a couple of targeted books of business on the homeowner side that weren't too heavily balanced towards monoline homes that we're -- we continue to take action, and you'll continue to see that at a similar pace over the balance of the year.

Okay. And then the final question is the no development on workers' comp after you had seen it past few quarters and was there anything in particular -- any accident year or anything in particular you saw in the trends that made you feel better -- that looked a little better; why that didn't happen? Why that was essentially neutral?

I'd say that all of the accident years performed in a much narrower range this past quarter. So you did still have some accident years with very slight negatives and other accident years with very slight positives and net/net, they all evened each other out. So it was fairly well behaved across the board, and to me, that's a very good sign, also. Not just that the overall netted out to a zero, but all the accident years were fairly well behaved in a narrow band.

Absolutely.

(technical difficulty) based on the historical development in the line and the PAC and obviously that's increased our more recent picks over time -- that I think gives us a little bit more confidence in our selections today.

That's all I had. Thanks.

(Operator Instructions) And I'm currently showing no further questions or comments at this time.

Well, thank you very much for your participation in the call this morning. If you have any follow-up questions, please contact Jennifer or Dale. Thank you very much.

That concludes today's conference call. Thank you for your participation. You may disconnect at this time.