W R Berkley Corp (WRB) 2003 Q2 法說會逐字稿

Good morning and welcome, Ladies and Gentlemen to the W.R. Berkley second quarter Earnings Conference Call. At this time, I'd like to inform you that this conference is being recorded and that all participants are in a listen-only mode. We will open up the conference for questions and answers after the presentation. The speakers' remarks may contain forward-looking statements. Some others fors if can be identified by the use of forward-looking statement words like believes, expects or estimates. We caution you that such forward-looking statements should not be regarded as a representation by us that the future plans, estimates or expectations contemplated by us will in fact be achieved.

Please refer to our annual report on form 10-K for the year ended December 31, 2002 and other filings made with SEC in which we operate and the important factors that that may materially affect our results. W.R. Berkley Corporation is not under any obligation and expressly disclaims any such obligation to update or alter the forward-looking statements, whether or not of new information, future events or otherwise.

I would now like to turn the conference over to Mr. William Berkley, and CEO. Please go ahead, sir.

Good morning. I know there's time constraints on both sides of the Conference Call. We were very pleased with our quarterly results across the board. We feel we're making great progress. Our premium surplus was under 2.25-1. Statutory surplus is strong. Our ability to write business is excellent. As I'm sure you know, well over 80% of our business is casualty business, which is the place to be. It's a place to be because there's much less price competition. There's less price competition, especially because of investment returns are lower now than historically they have been, and it's not so easy to get into the business. And have good anticipated returns with all your current investment returns are based on short-term rates available today. We looked at the unit by unit we can go through and talk about them. But fundamentally, our strongest performer was our specialty business.

Growth was especially good primarily they are driven by price increases. When we looked at that business, at the beginning of the year, we were anticipating excellent results, but in fact the results exceeded our expectations. We were more than happy with that growth and price increases there were well over 30%. We go next to our alternative market business.

Growth there drove by a tough workers' compensation environment. Policy count up, premium up, price increases again averaging over 30%, real strong performance. Lots of opportunities. It's the one segment of the business that we're trying to be a little bit cautious about how aggressive we want to grow it, especially in California comp where there's a lot of uncertainty there. You're going to find that while we have not any of the old baggage because we were really a non rider I have no consequence until 18 months ago, we grew the business slowly over the past five years but until 18 months ago our cumulative writings were probably less than $60 million. We're going to put some level of slowing down of that growth at the end of this year until we can figure out what's going on. Although prices seem OK, California's so hard to predict state. Our excess workers' comp is focusing on self-insured NBCC is continued to generating substantial rate increases while there are occasionally competition here and there that seems not to be focused on profitability in general that's place where we're doing especially well and we are very pleased.

The reinsurance business, excellent results in the facultative area. Rate on line is above the rate on line we're getting in 1986. A lot of growth, price increases probably in the 40% area. Lots of opportunities. responsiveness is one of the keys to being an effective facultative underwriting and we pride ourselves on being responsive. As far as the property business, we effectively got out of the business in the past couple years. We were in virtually none last year and virtually none this year. Other than in our standard treaty business, that business is really doing exceptionally well. We have great improvements in our casualty lines and positioning in the marketplace, and that business is it's gaining substantial traction. The one property exposure piece we do have is our underwriting partners area where we are -- we have some property exposure and our capital partners area where we have a substantial participation in a couple of words and we've dope on an opportunistic basis.

That really in fact our relationships with Lloyd's represents probably something more than half of our property exposure. Our regional business turned in stellar results, great combined ratio. Interestingly, uneven growth, we have a good month and a bad month, as far as growth in the premium volume and the acceptance of our price increases. July looked to be a terrific month. June was OK. February for one company was a terrible month. We actually shrank. We're finding that maintaining pricing discipline means that sometimes somebody goes into your marketplace, low prices and effectively fills up and gets business away from you. But that business is doing quite well, and there we have some CMP business, which has a property element with it and along with Lloyd's, the CMP business represents virtually all of our property exposure. Everything else in our company is casualty business.

But overall, we're getting --again very pleased. We are seeing improvement in all sections of the regional business, and it's running on all eight cylinders, and the people in those units are doing a terrific job. I think when we look at our business overall, we would probably tell you that the most volatile is our international business. Volatile because of currency, volatile because of political environments, but we have seen that turnaround somewhat and we're pleased to see that good return to profitability this year. A real contribution led by an outstanding performance by our Argentine subsidiary whose chief executive Edward (inaudible) has just done a fabulous job in a very difficult environment. So we are very pleased with how things are going. And that sort of sums it all up. Great numbers. I'm going to let gene talk about that, and then I'll talk of a couple of our new ventures because there are a number of things which we thought, which really won't take hold until really this quarter. So you don't see numbers from Admiral Excess, you don't see numbers from our London venture in this past year. So we think we have some other things coming on that I'll talk about after gene is finished that really will give us a lot of impetus to carry this growth forward, at least through next year. So gene?

Thanks, Bill. The second quarter was another record quarter for us in terms of both total revenues and net earnings. Our total revenues increased 63% for the second quarter to $927 million and net operating income increased 96% to $68 million or $1.16 per share. Underwriting continued to show a significant improvement over the prior year. Our second quarter written premiums grew 46% over the prior year quarter. That's slightly more than the growth rate in the first quarter of this year of 41%. We estimate that more than two thirds of the overall growth in premiums is due to price increase with the remainder coming from additional business volume. All five business segments reported substantial premium growth.

Bill discussed the pricing in those businesses, I'll briefly just go through the net written premium growth. Specialty grew 46% after another strong quarter for excess and surplus lines, which now represent about two-thirds of that business. Regional premiums increased 24% with only a minimal change in policy count. Reinsurance segment grew 53% overall including 86% for the facultative business units. And alternative markets increased 116% with three of the four operating units in that segments more than doubling their premiums. And finally, international began to grow again with a 57% increase in the quarter. Bill mentioned the start-ups. The two start-ups in operation, Berkley Medical Excess and B.F. Reed wrote approximately $20 million in the second quarter, and the W. R. Berkley Insurance Limited only began writing in July.

(Inaudible) excess is not there. With (inaudible) and W. R. Berkley limited that I was talking about. The other two new ones were in $20 million.

Underwriting profits increased nearly three-folds in the quarter to $68 million from $17 million in the second quarter of 2002. That was due to a 57% increase in earned premiums, and a five-point drop in the combined ratio. The loss ratio decreased almost two points to just under 64%, and the expense ratio decreased three points to 28%. That's a total combined ratio of 91.6% compared with 96.6% in the second quarter of 2002. Weather related losses were the same, $21 million in both the second quarter of 2003 and 2002.

The combined ratio improved for all five business segments, and that improvement range from one percentage point per specialty up to 8% points for reinsurance, and two of the segments specialty and regional reported combined ratios under 90%, and that's the third consecutive quarter that those segments have been under 90%. Paid loss trends are well below industry and historical norms, and continuing to improve. Our second quarter paid losses were 37% of earned premiums. That's down from 56% in the prior year. As a consequence of this, a much greater portion of the incurred losses are now represented by reserve additions. They are more specifically for the quarter, reserve additions were $216 million which represents 42% of our incurred losses of $514 million. We allocated approximately $40 million of those -- of that $216 million reserve addition to strengthen reserves for prior years. And at June 30th on net loss reserves we're at $2.7 billion.

Investment income increased 13% in the second quarter to just over $50 million, as the increase in invested assets more than offset a decline in average yields. Our total vested assets have increased $806 million from the beginning of the year to approximately $5.5 billion at June 30th. That increase was driven by continued strong operating cash flow, which was $320 million in the quarter, and almost $600 million for first six months. We have shortened the portfolio duration by increasing our cash position to approximately $1.1 billion or 20% of the portfolio at June 30th.

The average portfolio duration is down about a half a year, from its peak levels towards the end of 2002 to 4.5 at June 30th. We also increased our investment in tax-exempt securities, which now represent 25% of the portfolio, up from 20% at the beginning of the year. The average pretax yield was 4.7% in the quarter, compared with 5.4% in the prior year. That reflects the decrease in lower interest rates generally as well as the effect of greater portion of our portfolio invested in cash equivalence and tax-exempt securities. On an after-tax basis, the yield declined from 3.7 to 3.4%.

Our invest in Arbitrage trading was unchanged from the beginning of the year at approximately $300 million. However, the annualized yield on the Arbitrage account improved significantly from 1.2% in the prior year quarter to 4.7% in the current quarter. In order to make these -- the portfolio shifts that I discussed, we sold approximately $400 million of fixed income securities during the quarter. This resulted in realized investment gains of approximately $44 million, which compares with a realized loss of $8 million in 2002. And even after those gains at June 30th our remaining net unrealized gains were $211 million pretax and $132 million after tax.

However, if you take into account the movement in interest rates since the end of the quarter, we estimate that those after-tax unrealized gains have declined by between $25 and $50 million. Insurance service fees increased 26% to $26 million in the quarter primarily as a result of continued growth in fees earned for managing state-assigned risk plans and pretax profits on the insurance service business were up 41% to $5 million in the quarter. Our income tax expense was $44 million. That's an effective tax rate of 31% and the effective tax rate on investment income itself decreased to 27% from 33% due to the higher level of municipal securities. That all adds up to net income of 96 million and a 217% increase in net income per share to $1.65. The total return on equity including realized gains was 7.2% in the quarter. And the operating return on equity without realized gains was 5.1%. Finally, our stockholders' equity increased 14% to $1.525 billion or $27.53 per share. We estimate our statutory surplus to be $1.5 billion, which as Bill says, give us a premium to surplus ratio of 2.5 to 1.

A couple of particular items to bring up. Two start-ups, which we had year -- at the end of last year which are just beginning to, show results in the first half of this year. Which is B.F. Reed, direct writing facultative operation which we are pleased to see gaining traction and gaining acceptability. Berkley Medical Excess, which is hospital malpractice excess insurance are really starting to contribute to our premium volume. We anticipate substantial increases in their volume in the second half, and keeping up momentum we effectively in early July have got Admiral Excess, which is writing umbrella business and other excess business through Admiral insurance company. And the -- our new operation in London which will write professional business. We think those businesses will grow slowly in the first six months of their operation, and we'll start to see real results from them in the first half of next year. So we think we're building a backlog of new businesses to help us accelerate our growth so we can continue expanding our casualty-focused business into next year. We were very pleased with our capital position at the end of the six months.

I would expect that we would do a dead offering to raise some additional capital in the near term. We're talking to investment banks about that now. We may or may not do an equity offering at this point. We're going to wait and see if we can add to our capital count like we're doing now. Not something that's going to be necessary. Very frankly, the growth that we see and the opportunities that we see are giving us an increasing return on capital. And while we've raised capital three times, it has in no way prevented an increasing return on capital. When we look out at next year, we expect a 20%-plus return on capital and our shareholder's equity at the beginning of the year. Our expectation is that that shareholder's equity will be something of $30 a share or more. So we're excited about next year. We think that it's going to be a terrific year. We think the balance of this year is only going to get better and we think that when you look at our cash flow, our paid loss reserves, loss ratio and our reserve position, you can feel confident that we're examining our business for the long run to ensure that we can continue to deliver outstanding and improving results.

With that, I would be happy to entertain any questions.

Thank you very much sir. If you're using a speakerphone, please pick up the handset before pressing any numbers. Should you have a question, please press "*1" on your push button telephone. If you wish to withdraw that question, press "*2". Your questions will be taken in the order that they're received. Please stand by for your first question, gentlemen.

Our first question comes from Sam Kinsen of Black Rock.

Hi, guys. First, I missed how much of the reserve additions were related to prior years.

OK. Let me get -- the second part. I mean, the answer is that understand that reserves in the aggregate, you have a choice of IB & R from that year and using it or just leaving your IB & R and using your reserve additions. We elected to put $40 million from the current year into the prior year's and in addition, we increased our IB & R in total.

Second, you mentioned if you can't grow the capital base at the current rate you would come back to the equity market, but at the same time you're saying we are going to grow the base. I mean, what are the -- what are your thoughts on raising additional equity and under what scenarios do you -

Sure. The answer is that -- on a regulatory basis, we do not need additional capital. The only thing that's going to drive us for capital is rating agency basis. We're going to do debt offerings, and again that's going to deal with all the growth we can have from a regulatory point of view. We are going to be pushing close on a ratinging agency point of view. If so, using all of the modeling there it would be as we get closer towards the end of the year probably a need for maximum of $100 million of equity. But we're looking at converts, other alternatives. Frankly, we would rather not raise it, but we think that every dollar we raised would not reduce our anticipated return on capital because we have some pieces of business that we are receiving after reinsures that we could just take back that would just give us a marginal rate of return. So we don't think it would cause any dilution whatsoever to our forecasted return on capital, Sam.

Thank you.

Thank you. Our next question comes from Marco Pinsen (ph) ( inaudible ) of Smith Barney.

Good morning. Bill, I think you mentioned in the prepared remarks that the facultative results were up 48%. What were the corresponding numbers on the treaty side? And my second question is what does the mix of business look like today in the regional operation?

First of all, we only can measure continuing businesses and we don't have a long enough tail of history for our treaty business as we moved and changed our positions. I would giving you a guess as to the marketplace not as to our business. Because, you know, we have repositioned that business so entirely over the past probably three years. Our people will tell you our prices are up 30%, but not a good number that you should say Berkley's said his prices are up 30% for treaty reinsurance. It's statistic evidence that we don't have because we don't have that continuum. The first signs of a soft market in our view, people are going to start to give away things so it's not an area where we're focusing at all.

OK. Thank you very much, Bill.

Thank you. Our next question comes from Bill Wilt from Morgan Stanley.

Following on your last comments. I was going to ask in the regional business if you're seeing increased competition from the national carriers. They're looking to grow their small commercial through August mated underwriting but is it fair to say that that is not the case? You don't compete head to head with them?

Well, first of all, we compete lead to head with them. Because they want to be all things to all people. But if you say what do you do best, we do best is we give service and we give focus on each individual customer. So we don't -- we don't compete really on box and there's a big piece of what the national carrier's doing on an automated basis. And we think being regional we can do a better job underwriting under-writing. So we -- when we look at a bell curve of risk, we're all trying to get that 20% of the best risks and some of those best risks will be automated underwriting and gone to the national market. And we do have automation in our underwriting process, but it's certainly not full binding authority auto mated underwriting in our regional business.

OK. That's great, thanks. Two quick questions then on re-insurance. One detailed an estimate of the treaty fact split in your reinsurance business.

Um, I think that in the six months it was closer to -- in fact, it was still bigger. In the six months fact was still bigger by a reasonable amount including B -- B.F. Reed. For the quarter, the treaty business grew more than the FAC business up for the quarter. The treaty business came closer to being as large as the FAC business for the second quarter.

Then the third come component of the reinsurance business is Lloyd's business.

Lloyd's, it's our capital providing business, which is Lloyd's, is the biggest piece.

That's another third or so right.

That's great. Thank you. The final piece on reinsurance, I think, or the adverse developments in general, again I'm trying to revisit it. Were there specific claim trends or large claims that caused you to decide to allocate the (inaudible) to older years and I guess the followup with that.

I think we took a very conservative approach on all major cases. So a good example is with one of our specialty companies, we can't seem to settle. We can't tend our limits and we are getting stuck with defense costs. So if you look at the specialty loss ratio, we put up an aggregate of more than $10 million in loss adjustment expense. We put it up because we can't close it down and we're having an obligation to defend and we're desperate trying to give someone the money to settle the claims and get finished. So we put up probably in those two cases five times the policy limits in defense costs. So to that -- that was in and of itself of a just two cases of probably -- between 10 and $12 million. We did that in a couple of places where we looked around and said, you know, what out there could be bad that could get us? And we're going to continue doing that so we hopefully by --with that we get to the end of the year we have looked at everything that we think is bad that can get us and have it behind us.

Our most severe your actual -- comprehensive aerial reviews done in the second half of the year with 630 and 1130 data?

No. We have a continuous process of actuarial review. Each company gets reviewed on a quarterly basis. Our outside actuaries will probably start and go through September 30th numbers in a very serious way. But we do an actuarial review, probably 80% of our businesses on quarterly basis. In a reasonable way and probably 30 or 40% in a very detailed way.

Thanks very much.

Thank you. Our next question comes from Jay Cohen of Merrill Lynch. Please state your question.

Thanks, guys. Most of them have been answered. A couple things: the cash position at June 30th, which obviously makes some sense given the interest rate environment, how do you go about redeploying that into longer dated maturity? Are you going to wait and see what happens with the rate, do you have a systematic approach to it?

We're an opportunistic organization that opportunistic based on what we think is a strategic outlook and our strategic outlook says that interest rates wouldn't continue with this lower level, let's use our cash flow and every place we think is reasonable. Self-securities, increase our cash. One of the places we're doing now is as we've also -- something else is happening and we have gone from not being taxable to fully taxable. So we have done two things. We have gone into the municipal market away from the taxable market. And today the municipal market gap between municipals and treasuries is nonexistent. So we're searching the municipal market for single A, double A without enhancement and most of them being enhanced. Municipal bonds with say a duration of 10 years and we're trying to pick those things up, trying to pick those things up. And we think we can get them, but 4% or so after-tax yield. So that's sort of where we're going at the moment. But we think interest rates are going to continue to move up, so we're certainly not in a rush. And it's painful. I mean, the fact is if we're fully invested in the same municipals, we would have had basically $10 million more after-tax income in this quarter.

But, the 10-year treasury is off 21 ticks this morning so your waiting is paying off. Second question is -- well, one quick numbers question. Do you have the surplus number as of June 30th, statutory surplus?

Well, I mentioned that it's an estimate. We don't get, you know, all the quarterly statements in until later, but we're estimating just under $1.5 billion.

Just under means $1 billion 493 to $1 billion 513 is our best estimate of range.

Fair enough. And last question. The expense ratio has moved down which one would expect given the growth in premiums. Is there anything unusual in the quarter or is it just indeed top line growth you are seeing?

There's nothing that we know of that's unusual in the quarter.

Great. Nice quarter. Thanks for the answers.

Gentlemen, our next question comes from Jeff Thomson of KBW. Please state your question.

Thanks. Most my questions have been asked, but Bill, you were going to hard and long at your reinsurance recoverables and there's no news on that. Does that mean you're comfortable where you are or are you still looking?

What it really means is we're finding people who haven't paid us, relatively modest amounts. Probably if you added it all up it may be $10 or $20 million. We settled one thing yesterday. On a favorable basis I think it would be inappropriate to talk about it in detail. But we're doing just what I call the blocking and the tackling. Huge amounts of money. It doesn't get the attention that it warrants because somebody else did it other than the guy what's doing the issues today.

We're just spending a lot of time on it. Sad to say for us, as far as for many others people make mistakes people don't follow up, people don't look at the terms of the treaty. You have reinsures, some of the biggest in the world who have become more and more unwilling to follow the spirit of the contract and are trying to find ways not to pay you. And we're proud not to be an easy Mark for that. We're willing to litigate e --arbitrate or whatever. If you take me premium, you have an obligation to pay the loss and don't tell me I didn't send you this piece of paper when the piece of pain were no different,

In fact, on your outcome. Gee, I'm sorry we didn't send you the piece of paper, but wouldn't change the outcome if you had the paper or not. So we're working on it, we're making progress. There are no particular problems. It's the problem that I see in years ahead, not the problems there now. As a matter of fact, you know, we made a lot of progress and have collected some money and that's going to accelerate over the balance of the year.

OK. One other question. Talking about your premium growth going forward, and I'm hearing a lot, I'm moving parts. I wonder if we can parse out rate increases just not even talk about rate increases? I'm sorry. And it looks like your organic growth rate this quarter was around 20 and 25% is that a number that you see moving up as we move out -

Organic growth, you mean policy counts?

Yeah.

I don't think it was that high.

Rate increases of 25% in growth and 48% --

I understand the problem. I told gene that was going to be there. It's -- we chose our words carefully and we're trying to explain it. It was 25% on renewed business.

OK.

The answer is, I would tell you that my guess is we had less policy count increases in the second quarter than we did in first quarter. Overall, if I was to give you a guess on policy count it probably would be 12% or 13%. Part of the problem you get in how you count, what do you count parts, it's just not as simple. We were just talking about how do you allocate price increase to get correct price increase and you have to really go back to use what last year's pricing and average policy pricing were.

And it just -- I'm not trying to be difficult. I'm trying to tell you while you can have reasonably accurate numbers company by company when you start to aggregate them with changing books of business, it's little mislead. If you were to ask me a number, I would tell you we have 30% average price increases, and 10% average policy count increases. As sort of what I would tell you would be a reason guess of looking at literally many, many, many pages of numbers and many pages of different ways of measuring it.

And those increases are multiplicative and not additive, I like to point out.

It an increase on top of an increase on top of an increase.

I guess my question, let's use 10%, given the new initiatives that are unfolding in the next 12 months, you know, how do you see that number trending?

Well, I think that it's hard to say because we're also going to look at businesses where we think we can't get returns and get rid of it. So we're -- we're going to be much more aggressive in being sure that we're selecting businesses that we think will allow us to have the kind of returns that we're now targeting. Our goal is to deliver a 20% return in the next couple of years after taxes, and that's the substantially higher goal than we had in the past. That means we have to look carefully at everything we do.

Great, thank you.

Our next question comes from Michael Dion of Sandler O'Neill. Please state your question.

I wanted to take your temperature on what you said at the outset of the call if I heard you correctly. Perhaps slowing down the growth or being more cautious and -- in your workers' comp book. Just noting that, you know, the state fund is -- in California is the ten hall to be taken over, how would that affect your decision to slow down or grow that business if that were to take place?

It wouldn't a lot. California will -- California workers' comp will at the end of this year probably be between 4 and 6% of our premium volume in the aggregate. I don't think that we want it to go a lot more than that because California workers' comp is a tough state. It's hard to figure out, it's hard to predict. It's a judgment you're going to make. I think that, look, you have an elected insurance commission. His job is to protect the insurers in the state. That means he doesn't want insurance companies to go broke, but he also only wants the very best performing companies during good returns. We hope we're in that group. We think we are. But you have on the cautious. So we're not going to get ourselves, no matter how attractive the business looks in the short run for this business to be what I would call a key driver in our growth company.

Great. Thank you.

Ladies and Gentlemen, if there are any further questions at this time, please press "*1" on your push button telephones. If there are no further questions, I will turn the conference back to Mr. Berkley.

Thank you all very much. I appreciate it have a great day.

Thank you, sir. This concludes our conference for today. Thank you for participating and have a great day. All participants may now disconnect.