Hanover Insurance Group Inc (THG) 2014 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q1 2014 The Hanover Insurance Group, Inc., earnings conference call. My name is Kim and I will be your operator for today. (Operator Instructions)

As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Ms. Oksana Lukasheva, Vice President, Investor Relations. Please proceed.

Thank you, Kim. Good morning and thank you for joining us for our first-quarter conference call. We will begin today's call with prepared remarks from Fred Eppinger, our President and Chief Executive Officer, and David Greenfield, our Executive Vice President and CFO.

Available to answer your questions after our prepared remarks are Jack Roche, President of business insurance; Andrew Robinson, President of Specialty Lines; Mark Desrochers, President of Personal Lines; and Bob Stuchbery, President of International Operations and Chief Executive Officer of Chaucer.

Before I turn the call over to Fred, let me note that our earnings press release, financial supplement, and a complete slide presentation for today's call are available in the Investors section of our website, www.Hanover.com. After the presentation, we will answer questions in the Q&A session.

Our prepared remarks and responses to your questions today, other than statements of historical fact, include forward-looking statements including our earnings guidance for 2014. There are certain factors that could cause actual results to differ materially from those anticipated by this press release, slide presentation, and conference call. We caution you with respect to reliance on forward-looking statements, and in this respect, refer you to the forward-looking statements section in our press release, slide 2 of the presentation deck, and our filings with the SEC.

Today's discussion will also reference certain non-GAAP financial measures such as operating income, operating income per share, ex-cat loss and combined ratio, and accident share loss and combined ratios, among others. A reconciliation to these non-GAAP financial measures to the closest GAAP measure on a historical basis can be found in the press release or the financial supplement which are posted on our website, as I mentioned earlier.

With those comments, I will turn the call over to Fred.

Good morning, everyone, and thank you for joining our first-quarter earnings call. Overall, we are very pleased with our first-quarter results, which reflect the progress we are making across our organization.

Net income per share was $1.22 for the first quarter. Operating income per share was $1.05, which translates to annualized operating ROE of 8% and includes the elevated catastrophe and non-catastrophe losses caused by severe weather conditions in the US this past winter. Importantly, we made solid progress on our strategic priorities for the first three months and we believe we are well-positioned to deliver improvement in the combined ratio, excluding cats, we outlined in our last call, as well as generate mid-single-digit net written premium growth for the year.

We continue to see encouraging trends across our businesses, both around underlying underwriting results and growth momentum, led by accelerated premium and commercial lines. We increased our ex-catastrophe earnings by 15% in the quarter to $143 million before taxes and also increased net premiums written by 9%.

I will now turn the call over to David to review our financials. After that I will come back to discuss our strategic priorities and our outlook.

Thank you, Fred. Good morning, everyone. Our first-quarter results were solid and marked an encouraging beginning to 2014. Although earnings this quarter were impacted by catastrophe and non-catastrophe weather due to severe cold and heavy snowfall in the US in January and February, the underlying earnings power of our company continues to strengthen.

Net income was $55 million, or $1.22 per diluted share, compared to $66 million, or $1.46 per diluted share, in the prior-year quarter. Operating income was $47 million in the quarter, or $1.05 per diluted share, compared to $60 million, or $1.32 per diluted share, in the first quarter of last year.

Our combined ratio of 98% this quarter compared to 96% in the prior-year quarter. Catastrophe losses added 5 points to the combined ratio compared to 2 points in the prior-year quarter. This was partially offset by 1 point higher favorable loss reserve development, leaving the ex-cat accident year combined ratio in line with the prior-year quarter even including the elevated non-catastrophe weather this quarter.

Starting with catastrophe activity, losses in the quarter were $58 million, or 5% of the combined ratio, all of it coming from our domestic business. Losses primarily stemmed from prolonged low temperatures and heavy snow falls in many areas, which resulted in roof collapses, frozen pipes, ice dams, and other water-related damage. Chaucer, on the other hand, had virtually no catastrophe losses in the quarter, helping to partially mitigate the impact of the elevated weather in the US.

Moving on to the accident year loss ratios excluding catastrophe losses. In our domestic business, the loss ratio improved to 62% from 63%. In commercial lines, the improvement of about 2 points was driven by better loss experience in CMP and other commercial lines.

Higher margins in CMP were driven by mix management and pricing initiatives. Other commercial lines, which incorporates our specialty businesses, including surety and professional products, among others, improved by about 3.5 points over the prior-year quarter, driven by previous and ongoing mix management and pricing actions.

We are pleased these initiatives are driving increased margins as expected. We believe there will be continued improvement throughout the rest of the year, aided by business maturation and sustainable organic growth.

Looking at commercial auto, we continue to maintain a cautious approach to this line, given our own experience, as well as continuing BI severity trends in the industry. We feel good about the actions we are taking in both our re-underwriting efforts as well as pricing, where we achieved 9 points of pricing increases this quarter.

In personal lines, we generated a 66% underlying loss ratio for the quarter compared to nearly 65% in the first quarter of 2013. Incremental non-catastrophe weather losses accounted for over 2 points of the loss ratio increase in the current quarter.

Given our geographic footprint, non-catastrophe weather-related losses in the Northeast and Midwest are not unexpected during the first quarter, but this quarter was somewhat elevated over expectations. An unusually tough winter drove a substantial uptick in home and auto property claims. Weather aside, we saw considerable improvement in the accident year loss ratio in personal auto, which was driven by pricing and mix management actions.

We also experienced modest favorable prior-year loss reserve development but continue to maintain a sharp focus on this line due to the severity trends experienced in recent quarters. Homeowners' results were impacted by both non-catastrophe weather as well as a higher incidence of fire losses, which we partially attribute to the unusually cold winter.

Moving on, expenses in our domestic business were essentially flat quarter over quarter. The quarter yielded a positive shift in our commercial lines expense ratio, which improved by 1.2 points over the first quarter of 2013. Increased premium volume and operating efficiencies drove the improvement.

This notable decline in the ratio is consistent with our target of a 1 point improvement in commercial lines for 2014 that we discussed on our last call.

Once again, Chaucer delivered a strong performance this quarter resulting in a combined ratio of 88% compared to 87% in the prior-year quarter. The segment's performance exceeded expectations due to negligible current period catastrophe losses. Chaucer's expense ratio was 35% for the quarter, which was below our long-term expectations for this business, primarily driven down by foreign exchange fluctuations this quarter.

Looking forward to the rest of 2014, we anticipate that Chaucer will gravitate to a combined ratio run rate of 95%, more in line with historical averages and consistent with our outlook for this business.

Turning now to top-line growth, net written premium growth in all segments for the quarter was 9%, driven by 12% growth in commercial lines and 25% growth in Chaucer partially offset by a 7% increase in personal lines. Chaucer growth this quarter was considerably higher than our full-year expectation. The premium growth was attributed to quarterly seasonality, an increase in syndicate participation, as well as a benefit due to foreign exchange.

Also as you recall, we hired a market-leading casualty underwriting team that joined us in late 2013. This business, which has a strong January 1 renewal profile, contribute meaningfully to the first-quarter growth. Given the overall market environment, we continue to expect Chaucer to produce only modest overall growth in 2014.

Despite the impact of weather we are pleased with the underwriting progress we are seeing in each of our businesses. We remain focused on our strategic initiatives in all areas of our business with a goal of generating margin improvement and targeted returns going forward.

Turning to investment results, at March 31 cash and invested assets were $8.2 billion with fixed income securities and cash representing 91% of the total. Over 94% of our fixed income portfolio is investment grade and the average portfolio duration is 4.1 years. The portfolio remains high quality and well laddered.

Net investment income this quarter was $67 million, more or less in line with the prior-year quarter. The low rate environment continues to put pressure on investment income, though positive operating cash flow supports to offset this negative impact to some extent.

The earnings yield on our fixed maturity portfolio was 3.79% in the quarter compared to 4.03% in the prior-year quarter and 3.86% in the fourth quarter of 2013. We continue to balance the pressure from lower interest rates by opportunistically investing in higher yielding classes. However, we estimate net investment income will decline by approximately 2% in 2014 before it starts to tick up in 2015.

I will finish up with a few comments on the strength of our balance sheet and capital position. Book value per share was $61.24, up 3% in the first quarter of 2014. Our total capitalization reached $3.6 billion and outstanding debt was $904 million at quarter end, translating to a 25% debt-to-capital ratio.

Statutory capital in our domestic business grew to $1.9 billion in the quarter. We will continue to look at ways to optimize our capital structure and use share repurchases as opportunities arise. The strength of our balance sheet and our stable reserving position provide a strong base on which to grow our business.

With that, I will turn the call back to Fred.

Thanks, David. With a solid start to the year, we feel good about our prospects for 2014 as well as the next year. We remain focused on improving the earnings capacity of our organization through underwriting execution and by expanding the market position of our franchise. We were able to advance in both areas this quarter.

On the underwriting front, we continue to make good progress. First, in commercial lines, we are pleased with the loss ratio improvement in virtually all our lines. Our results in specialty improved meaningfully during the quarter. We believe the surety legacy issues are substantially behind us and we are trending positively in our key specialty lines as the business matures.

We also saw good improvement across our core commercial line, though we remain focused on the challenge in commercial auto. We, like the industry in general, clearly have some more work to do. With the underwriting and pricing actions we are taking, though, I am confident in our ability to manage this line and drive it to target returns.

However, as David mentioned, I think it is appropriate for us to continue to take a cautious view. Commercial lines results have also been enhanced by the decline in the expense ratio, which is a function of our business growth and increased operational efficiency.

Second, as David mentioned, we are getting good traction in personal lines profitability, driven by mix management and pricing. The margins we are generating and the overall quality of our account-focused book validates our portfolio actions in this segment. As we move through the year we believe we can achieve more improvement in this segment.

And, finally, Chaucer is off to a very strong start in 2014. Although results in this business can be uneven, we are confident in the quality of our Lloyd's platform as evidenced by the long string of solid quarterly earnings since we acquired the Company in 2011.

Speaking to the matter of our business momentum, I would first like to begin with commercial lines. The growth we are seeing in this segment after having completed most of our exposure management initiatives was very encouraging. The robust premium increase of 12% with 83% retention and continued solid pricing supports our view that our targeted underwriting and pricing actions did not result in a loss of growth momentum.

Pricing has continued to be strong with overall increases of 8% in core commercial lines. Amongst our specialty businesses, pricing remained in the mid-single digits. Increases in small commercial business remained near fourth-quarter levels, while middle-market pricing slowed somewhat in the quarter.

We continue to differentiate our pricing across the business and obtain higher rate increases in the areas that need it most. We believe industry rate increases will continue to moderate going forward, in particular in the large accounts and to some extent in middle market. We expect the price increases to slow down gradually in our book, but remain above loss costs for the foreseeable future.

In addition, our thoughtful approach to rate also helps us drive premium growth as it causes less disruption for our agents while maintaining accurate and appropriate pricing for the risks we write. As a result, our commercial lines retention is very strong and in combination with mix improvement indicates that we are achieving the right balance in the pricing retention equation.

Our strong growth momentum also was evident in the substantial new business accretion we've experienced over the last several quarters, particularly in small commercial, enabled by our partnership distribution strategy. This strategy helps us to better align our interests with those of our agents and we remain committed to our value proposition, seizing opportunities created by numerous disruptions in the marketplace and growing profitability with our selective agency base.

In addition to our core commercial lines growth, we continue to benefit from robust growth in our specialty lines as these businesses continue to mature and gain further penetration of our partner agents.

Turning to personal lines growth levers, the premium decline this quarter reflects the expected effects of ongoing exposure management actions. While they have suppressed our growth in recent quarters, these initiatives are driving the improvements in geographic mix, quality, and proportion of account business that we set out to achieve. Additionally, this helps us reduce some of the volatility that comes with weather. The impact of these actions on growth will diminish as we progress through 2014 and will be substantially completed before we enter 2015.

So setting aside our target exposure management, premium growth in personal lines was flat. Our operating metrics, including an increase in new business volume, gives us confidence in a return to growth in the second half of 2014 as our actions get closer to completion. Pricing remained robust at 6% in auto and 8% in homeowners this quarter, although we expect this will gradually level off throughout the year.

Our improving underlying retention, our meaningful shift to account business supported by our product enhancements in our platinum product launch makes us confident in the future growth opportunity for our personal lines business. Overall, the ability to grow our domestic businesses revolves around the strength and depth of our relationships we have fostered with our partner agents.

We ensure that the business we write is mutually beneficial to both us and our distributors. The investments we made in our business platforms and our national network of underwriters is creating robust and unique positions with 1,500 of the strongest and most sophisticated agents in the US and has yielded substantial potential with these agents as we build preferred shelf space.

Shifting now to Chaucer, growth prospects -- Chaucer's growth prospects, I would like to lead off by saying that we are very satisfied with the position we hold in the market today. Clearly, their Lloyd's business environment remains challenging and we are being very targeted in our approach to the market.

We believe that the strength and distinctiveness of our position at Lloyd's allows us to manage our response to the headwinds in the market very effectively. We maintain our focus on the business where we have distinctive leadership positions and where we have greater access to attractive opportunities such as political risk and trade credit. Our broad and well-diversified portfolio provides us a large spectrum of flexibility.

This said, despite the 25% net premium increases for the quarter, our outlook for Chaucer growth for the full year has not changed materially from the mid-single-digit increase we've discussed at the beginning of the year.

To summarize, with continued solid underwriting and growth anticipated in most of our businesses, we believe we are well positioned to drive healthy returns in 2014 and beyond. Our initial 2014 guidance was for a 96 to 97 combined ratio, including roughly 5 points of catastrophe losses.

We remain confident in our ability to deliver underwriting performance within this range and we are still expecting to achieve operating earnings in the range of $4.80 to $5.20 per share for the year. However, given the magnitude of domestic weather losses this quarter, there's a greater likelihood that we will exceed our full-year weather assumptions, which drives full-year earnings to the lower end of our guidance.

Looking ahead to the remainder of the year, we will continue to be focused on our main priorities, which are to complete our portfolio management and targeted underwriting actions. Second, to maintain our focus on strong pricing above loss cost inflation and continue to capture attractive market opportunities with our partners. We remain focused on improving our underwriting results, delivering on our return goals, and creating shareholder value.

Before I turn the call over for questions I would like to remind you that we are planning to hold our investor day meeting on Thursday, June 12, in New York City. At the meeting we will address our path to increased profitability through growth and margin improvement and update you on our strategic priorities and our unique approach to the market.

We plan to start the presentations at 8:30 AM, which will be followed by a Q&A and an informal lunch where the presenters and our executive leadership team will be available. We will distribute invitations to this event in the coming weeks.

Operator, could you please open the lines for questions?

(Operator Instructions) Larry Greenberg, Janney Capital.

Good morning and thank you. Fred, you mentioned the challenges at Lloyd's these days. I am just wondering if you could elaborate a little bit on that and perhaps touch on the motor market, which seems pretty intensely competitive these days.

Yes. I'm going to hand this over to Bob, but let me first in general -- as you know, the reason Chaucer was such a good fit for us is that Chaucer was really a portfolio of specialty positions and for the majority of the positions they have lead market.

While the pricing is a -- it's a challenging pricing market what it's like right now, we have a lot of opportunity kind of to be focused and target opportunities. And I feel pretty solid about our ability to get our target returns and have the kind of growth we said, which is quite moderate, so I feel pretty good about it.

On the auto side, if you recall, we are in kind of a specialty auto business. We are not really in kind of the young driver or the broad market, and so our profile is a tad bit different and, therefore, we are able to sustain the margins pretty well. But, Bob, I would love for you to give some color to that if you would.

Sure, Fred. It goes without saying that they are tough market conditions and it's across most classes of business that we underwrite and that's really around rate levels. But the diversification of the portfolio helps us.

Also what helps us is the quality of the team of underwriters that we've got and their experience of trading within those market conditions before. They've seen soft market cycles before.

Turn to the UK, I would sort of echo Fred's comments. The main reductions that you've seen in UK motor have been driven by younger driver prices. It has also been driven by our competitors anticipating quite large benefits coming from legislative changes, particularly around the LASPO, which is a change to the legal aid and support.

Our own views at that time were that the benefits weren't going to be as great. We didn't take as big a rate reduction as some of our competitors and we saw volume decrease in 2013 because of that. We have seen that sort of continue in the first quarter of 2014, but there are some signs now that competitors are putting in inflationary rate increases and these are sticking. So we are seeing retention uptick slightly within the last few weeks of trading.

So it has been a pretty bleak picture. Our portfolio has helped us because it is specialty, but we are seeing some sort of better opportunities now.

Great, thank you. David, I think you mentioned you had about 2 points of non-cat weather in personal lines. If you mentioned a number on -- for commercial lines, I missed it. Did you give a number on commercial?

Larry, no, I didn't give you a number on commercial because non-cat weather on commercial really was negligible from the standpoint of our results. It was really more of the cat events.

Great. Okay, thank you.

Vincent DeAugustino, KBW.

Good morning. So sort of a loaded question here, but there has been a good deal of heavy lifting done and some of the margin expansion already in the pipeline from the maturation of the portfolio changes, rate actions. So one of the things that I've spent a lot more time thinking about with all the progress here is what's incremental and where are the next steps and where is most of the earnings growth going to come from if we are looking further out.

And so one of the questions would kind of lead you to wonder what the opportunities are as far as geographic and product expansions that would be incremental to the current earnings trajectory. And so with that backdrop -- and, Fred, you had mentioned with the investor day coming up -- I sort of was hoping to get a preview for whether we should think about that venue as recapping some of the existing pipeline for margin expansion or if we should think about that as potentially being a discussion on things that would be incremental in the back half of 2014 and into 2015.

Yes, I think that's a great question. I think it's both, right? So we still have a lot of opportunity on the margin side because both our mix improvement if you look at the -- as we change the mix of the business and the quality of the business is an upright from that. There's still upside from the pricing that we are getting and earning, and most of the underwriting work is going to be behind us as far as the math, the change, the big changes in exposure. But we still have quite a bit of opportunity as I see it in the margin.

Now, on top of that, what you are seeing now is we have really good momentum. The quality of our new business is the best it has ever been. Our partnership strategy is really kind of showing up, so our yield on submissions is way up.

So what is happening now is in this transition market the breadth of our capability, the attractiveness of the pricing of the new business, and our position with our agents creates additional opportunity on top of just the margin expansion as we grow into more attractive places and we leverage our infrastructure. Because as you know, we also have some investments that we've made in some of these businesses and so you can imagine the leverage we're going to get as some of these newer offices or newer lines leverage the opportunity that we are seeing.

So I feel pretty good about kind of all the variables that we have talked about it. Again, we need to, right? We needed improvement this year and we need to show continuing improvement next year to really reach our goals. But our confidence is pretty good and we will use that session to kind of try to lay out what we see unfolding over the next couple of years.

Okay, good. Looking forward to that. Then this may be a bit of a harebrained question, but at this point looking out to 2014 maybe something in the neighborhood of 30% to 40% pretax earnings are probably going to come from Chaucer.

What I'm sort of wondering is within the intricacies of international tax code if there would ever be any opportunity or benefit to re-domicile to the UK? And so could you A) do it mechanically speaking, B) would it be worthwhile, and C) would you ever have an appetite to do it?

Thanks for that loaded question, Vincent. Obviously we look at ways in which we can manage our tax exposure and tax expense. Taking a domicile out of the US is a very complicated process. I would say as we grow our business and look at how we expand we obviously always think about that, but at this point there's really no plan or no intention for us to undertake a transaction like that.

Okay, sounds good. Just looking at the list here, just a few other quick ones and then I will re-queue. If we go back a year or so ago, maybe even two years, one of the things we have heard more about is how some of the larger national players were maybe taking rate up without much regard to account-specific factors and how that was giving companies like Hanover a lot of opportunity for profitable new business growth.

It appears that commercial lines new business growth is still doing quite well, but if I kind of look at some of these larger players now, particularly in the standard commercial lines market, that's where we're seeing most of the pricing deterioration for the industry. And so what I'm wondering is whether that benefit two years ago might be turning into a headwind as we work later into 2014 on new business growth. So I'm just curious if you are seeing any of that or would expect it.

This is the beauty of our strategy. In the beginning of the term, when there's what I would say is a lot more bad business hit the market where there is a lot more outsized rate increases, what you see is there's a lot of flow. And so a lot of people can take advantage of it regardless of their strategy or their relationship with their agents. And, frankly, some of it's good, some of it's bad.

For us, that just means a lot of weeding through to get to the better. What has happened now is with the rate increases moderating less business kind of goes out the marketplace, and I would argue, more consistency in the quality of the business goes out to the marketplace. And so for us, given our limited distribution and that real connectivity in our what we call pipelining activity, this allows us in fewer submissions to have a much greater hit rate as they share shift to us and we match up well against our product portfolio.

So for us, we like this kind of transitional market because it differentiates those that have real line of sight and insight into the business that are in the distribution channel and those that are just receiving phone calls from a broad distribution. We believe that this is a great time for us. I don't know, Jack, if there's any observations you would make about the market that would be helpful here.

I think you're right on. I think what we see is that we are getting a bigger percentage of higher quality opportunities because of less disruptive behavior, if you will, in the re-underwriting process. So it's all -- the submission activity isn't necessarily going up, but the ability to get higher quality business because the account managers and placers within agencies have more time to address quality accounts that are looking for some type of pricing consideration.

So that is, I think, working to our favor because we are not having to sift through the piles quite as aggressively. Our yield rates are going up as we see some better business. And we also remind ourselves that pricing today on new business is a lot better than it was two years ago and it's a lot better than it's going to be two years from now.

The difference between new business pricing and renewals still is at a very tolerable level. So we remind ourselves as long as we are focused on high-quality business and we are diligent about managing that, this is a time when you would like to see some real robust new business growth as long as you have confidence in your underwriting capability.

Again, the other thing about us is our small commercial strategy, which has a lot more coverage between the $25,000 to $50,000 account with distributed underwriters and more holistic view has been able to take advantage of some disruption as others have commoditized that business a little bit and been more narrow in their ability. So a lot of things are coming together right now that we think set up well for us as we just stay focused on execution.

Perfect, thanks for the color.

(Operator Instructions) Bijan Moazami.

Good morning, everyone. Bijan Moazami, Guggenheim. I have a question on each one of your business lines. Let's start with Chaucer.

Lots of premium volume growth. Could you tell us a little more about these casualty people you hired? Who are they? What is their track record? How you are paying them? And what are they writing, really long-tail business or shorter-tail casualty? And then a follow-up on commercial and personal lines.

It's a team of people that we bought. They joined us at the back end of last year from Aspen. They've got extensive experience in this class of business, writing it for a number of years, and at their peak were writing a portfolio of approximately $300 million of income. We have got a relatively modest budget in for them in 2014 and hopefully that will enable them to pick some of the best accounts from the portfolio that they were experiencing before.

The type of business they write, they are writing predominantly specialist lines businesses. Reinsurance of them across a wide range. That is quite a diverse portfolio; not a lot of general casualty, more specific, and they form part of the underwriting team here. It's a separate division within Chaucer.

On marine and aviation, you picked up a fair amount of volume. What is the story there? And by the way, was there any further impact from Flagstone quota share on the quarter?

Yes, that was some of the impact, as we had said earlier, that some of that is starting to earn its way through. In actual, marine and aviation, although it went up in the quarter, there was no one particular area where we saw it. It was more taking opportunities across a number of lines, so there wasn't --.

As we have mentioned in casualty, there wasn't one area that saw a massive increase, but there still are pockets of opportunity that the underwriters will take. And the January 1 renewal season does tend to present those.

And the broader point, again to go back to it, is that this is a -- this is about a 25% growth rate for Chaucer. It's a lot about timing of some of the opportunities and so, therefore, we will moderate through the year talking about mid-single-digit growth (technical difficulty) timing in the year.

Okay, great. I'm commercial line segment, 8 points of price increase, only 1.6 points of improvement in loss ratio, and there's not a whole lot of non-weather cat or weather -- non-catastrophe weather, if you will. So the question is that is there a change in the reserving philosophy? Are you guys becoming more conservative in the way you set up reserves?

I will start off on it. I think, as I've said on prior calls, we have taken a more cautious approach in certain lines of businesses. We've maintained some higher PIKs in some lines of business. A good example of that is commercial auto, which we have been talking about for a number of quarters.

So I wouldn't say it's a wholesale change in reserving process. Our practices are fairly consistent, but we are being a little more cautious in certain parts of the portfolio where we are seeing severity trends, as an example, in commercial auto.

Okay. And maybe if Jack can comment on the workers' comp and auto. A little bit of an unfavorable reserves in auto and I guess, David, you mentioned a pickup in BI severity. What really drove that favorable on workers' comp and is there anything going on with loss cost there?

Yes, commercial auto is something that, as we said, we've been talking about for seven quarters, and so I think what we see as continued evidence that the industry is experiencing an elevated level of BI severity -- it's well documented there's a number of factors that are contributing to that, whether it be the medical cost issues or some evidence that distracted driving and increased litigation are contributing to all of that.

And because some of that is unclear about when that peaks out and when it starts going the other way or whether it flattens out, we really choose to continue to be quite cautious about taking too much credit for price over loss trend or for that matter trying to predict when the loss trend curve plateaus. So I think you can see that are we more conservative than we were 18 months ago in the auto line? Absolutely, because we were not catching up to the loss trends as it turns out.

But I think we are being responsible and thoughtful about how we look at the line of business, but because we have been at it a while I don't think this is something that's going to be outsized for us.

On workers' comp, I wouldn't read too much into the first quarter, quite frankly. We had a couple of losses that we took in that we -- overall, the underlying trends in workers' comp should perform consistent with our guidance and also with the amount of pricing that we are putting over loss trend in that line of business.

And just to comment on your question about the releases there, and have also made this point previously in other quarters, we do take a conservative approach to workers' comp. The mix for our business their shifts a little bit, and as shifting to a smaller part of the market we are seeing more positive development in our reserve factors. So that's an older story playing through, frankly.

Great, thank you. On personal lines, how much further exposure management you need to do? So I guess the question is that when are you guys going to get an appetite to increase policy in-force count in homeowners? Is that ever going to happen?

Again, I think what we have said is we are finishing up the exposure management work this week -- this year. It's kind of spread across the four quarters. A lot of it is Northeast, where we had legacy concentrations by zip code because we used to be very much a personal lines business in four states, so a lot of that is behind us.

We are -- we feel very good about our portfolio and our book and kind of the mix we are attracting now. And so, as I said, the second half of the year I think you are going to see growth out of that business and we're going to feel great about it. It's account business with the right agents, well spread across our platform, but this exposure stuff is really -- something that is kind of our last step, if you will, of our legacy concentration risk that we had in some of the regions.

I guess I would -- the common denominator across all our business when we talk about pricing and margin, etc., I will echo what I said in the call. We got 2 point of improvements last year. We are going to get 2 more points of good, solid improvement in our book this year.

We are confident in our ability to do that. We have set ourselves up for more improvement next year as well. I think it is appropriate that we are thoughtful and conservative in some of these lines as we watch it play out. But we feel pretty darn good about where we are right now as far as our path on continuing that improvement really in all our businesses and in all our lines. So I think that's kind of the tone we are trying to set as far as we are going this year and next.

Thank you.

Matt Carletti, JMP Securities.

Thanks, good morning. Looking at the domestic businesses, first quarter in a while that there has been net favorable development, which is a welcome change. I think in the prior question -- well, there has been three kinds of focus areas, if you will: personal auto, commercial auto, surety. You covered commercial auto in a prior question.

Could you give a little color on surety and personal auto and really what has kind of led you to think we've turned the corner, whether it be kind of an update on where we are in the claims counts in surety or whatever you can provide? Thanks.

I will have Andrew comment, but as we mentioned, this is really an old run-off book. We were working through the inventory and virtually that -- the outstanding work remaining on that is next to nothing now. And so we really like our book and the portfolio going forward and feel good about the way we are positioned in that business going forward.

So it's just -- it has gone right on track the way we thought it would and we feel pretty good about it. I don't know if there's anything, Andrew, you want to say about it here.

I think that the only thing I would just add is that, to Fred's point, we, starting back probably almost 24 months ago, just we separated out the run-off portfolio. We put a person in charge of that. We have been able to detail our exposures and manage them down and, quite honestly, the book has effectively unfolded from a loss perspective broadly consistent with our expectations.

There has been some timing things in terms of some acceleration, some deceleration, but generally as we expected and I think that Fred's point, the remaining exposure is relatively de minimis.

On the go-forward business, we have a very strong both commercial and contract, as well as a team focus on smaller value transactional commercial. And what I would say to you is that we've been able to get some very good talent coming in and our position in the market is one that I think is strong and improving. We fully expect that surety will again be a meaningful contributor to our earnings as we look forward to -- in 2014 and 2015 as well.

Great. Then any color on personal auto?

Yes, I think when we look at personal auto I think a lot of the pain we experienced back a couple years ago -- as you know we had some specific developments over the prior couple of years and that we are pretty confident has subsided. We've taken a long-term approach to our view of the loss trends in the 4% to 4.5% range and we continue to take that view as we price it into the product. We feel very confident that we are in a very good reserve position and that we are going to see the 2 point improvement that Fred alluded to in that line as well.

Great. Thanks for the answers and congrats on a nice start to the year.

Vincent DeAugustino, KBW.

Good morning, again, and thanks for taking the follow-up. Fred, just to the comments you made earlier on the commercial lines expense ratio, it would just seem like some of the improvement there might be sustainable and I think maybe the prior commentary may have before pointed to a more gradual improvement. So I am just kind of curious if there's any additional optimism on the commercial lines expense ratio and improvement trajectory.

We have talked about a point this year from the growth there and I think that's the right way to think about that business. As I look forward there is more to go next year, though, for us and kind of across the commercial platform, because both our core commercial businesses are maturing as well as our specialty businesses.

I think you all know we invested a tremendous amount, both geographically but also in a number of lines of business. So what we believe is that we will get some of it this year, but we will get more of it next year too and we are working hard on that. We know where it's going to come from, etc., so I feel like we have opportunity this year as well as next year as it unfolds.

I think always keep in mind, though, Vincent, with that is Fred is referring to the core commercial book. Then obviously that tends to get offset as we grow the mix in specialty businesses. So sometimes you don't always we see it in the number, but when you break it apart and we talk about it, the core commercial book is where we will see that reduction in expenses. But as we grow specialty that's going to be higher expense ratio business.

Okay, great. Thank you for taking the follow-up and nice quarter, too. Thanks.

(Operator Instructions)

Okay, so thank you very much for your participation today. We are looking forward to speaking to you next quarter.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.