EMC Insurance Group
Third Quarter 2009 Earnings Conference Call
October 23, 2009
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Bruce
G. Kelley - President and CEO
Bill
Murray - EVP and COO
Rich
Schulz - SVP Claims
Mark
Reese - SVP and CFO
Kevin
Hovick - SVP Business Development
Ray
Davis - SVP Investments and Treasurer
Scott
Jean - VP Actuary
Kelvin
Sederburg - VP Actuary
Operator
Good
morning. At this time ……
Anita
Novak - EMC Insurance Group - Asst. Secy. – Director of Investor Relations
Thank
you __________. Good morning, everyone and welcome to EMC Insurance Group’s
2009 third quarter earnings call. A supplemental investor packet is available
on the investor relations page of our website, which can be found at www.emcins.com/ir.
The webcast for replay purposes is also available at this site until January
23, 2010. The transcript of the webcast will be available for one year.
This
presentation includes some forward-looking statements about our expectations
for our future performance. Actual results could differ materially from those
suggested by our comments today. Additional information about factors that
could affect future results is addressed in our SEC filings, including forms
S-1, 10k, 10q, and 8k. Any information provided today should be read in
conjunction with the 2009 third quarter earnings release with accompanying
financial tables issued earlier today.
With
us today are several members of EMC Insurance Group’s executive management
team. They are Mr. Bruce Kelley, President and Chief Executive Officer; Mr.
Bill Murray, Executive Vice President and Chief Operating Officer; Mr. Rich
Schulz, Senior Vice President – Claims; Mr. Kevin Hovick, Senior Vice President
– Business Development, Mr. Ray Davis, Senior Vice President - Investments and
Treasurer; Mr. Scott Jean, Vice President – Actuary, Mr. Kelvin Sederburg, Vice
President – Actuary, and Mr. Mark Reese, Senior Vice President and Chief
Financial Officer. At this time it is my pleasure to introduce EMC’s Chief Executive Officer, Bruce Kelley.
Bruce
Kelley - EMC Insurance Group - President and CEO
Thank
you, Anita.
For
the property and casualty insurance sector, business is proceeding despite the
turmoil of current economic conditions. Our basic operations are normal – we
renew existing policies, we write new policies, we pay claims, we develop new
products and we compete with our peers for profitable business.
We’ve
tried various risk management strategies in the past and we’ve found that an
emphasis on underwriting profitability is the best method for us – so, we
continue to market our products on that premise. We retain close relationships
with our independent agency field force through 16 strategically-located
branches, growing our business organically through existing agencies and the
appointment of new producers. We maintain a financially strong balance sheet -
we reserve conservatively and we invest conservatively. In a nutshell, we
adhere to our corporate strategic plan whether we are encountering a soft
pricing environment or a hard one and that course of action has worked well for
us. Our objective is to exit the current soft market financially sound, with a
profitable book of business.
Third
quarter, for the most part, is right on track with our corporate objectives
and expectations. Operating income was $0.24 per share and net income was
$0.38 per share. Catastrophe and storm losses declined to $0.79 per share,
which was again less than third quarter 2008 results but higher than Company
averages due to active Midwest storm patterns. The book value of the Company’s
stock increased 9.4 percent to $25.41 in the third quarter and 19.2 percent
year-to-date.
Net
written premiums for the third quarter increased 2.8 percent, which is a result
of some rate increases and an increase in new business policy counts,
predominantly in personal lines. Year-to-date, however, net written premiums
remain flat due to competitive pricing in the first half of the year, which
tends to limit our ability to grow profitably.
As
we have discussed on previous calls, we have initiated a marketing strategy for
personal lines, which has taken us out of some states, mostly coastal regions,
and increased marketing efforts in other states where we believe personal lines
can be written profitably over the longer term. Although working off a lower
base as a starting point, personal lines new business net written premiums have
increased 43.1 percent and new business personal lines policy counts have
increased 27.9 percent. We are generally seeing mid-single digit rate increases
in most geographic locations and some double-digit increases in some areas in
our personal lines. We plan to further expand this marketing strategy going
forward.
Commercial
lines pricing remains quite competitive, but we are seeing some firming in the
Workers’ Compensation line of business. Overall new business net written
premium for commercial lines have increased approximately 8.7 percent as
compared to 2008 and new business commercial lines policy counts have increased
6.8 percent.
Across
all lines of business, net written premiums on new business for the nine months
ended September 30th has increased approximately 11.5 percent as
compared to 2008 and policy counts on new business have increased 14.0 percent.
We
continue to expand our Safety Group, Target Market and Choice Specialty
Markets. All of these programs currently boast incurred to earned ratios in the
low to mid-forty percentiles and comprise approximately 43.8 percent of our
commercial lines written premium.
The
Company continues to experience retention levels higher than industry averages
and consistent with our expectations. Commercial lines retention is
approximately 86 percent and personal lines retention is approximately 87
percent. Commercial retention is slightly lower than the past four years, but
demonstrates the ongoing competiveness of the commercial lines marketplace and
our willingness to walk away from underpriced business.
Frequency
was down slightly in third quarter 2009; severity is also down when non-storm
shock claims are excluded. The Company has experienced three non-storm shock
claims in 2009, compared to zero in 2008. As explanation, we consider a
non-storm shock claim to be a very large claim outside the usual realm of
business.
With
that, I’ll turn the discussion over to Mark Reese, chief financial officer, for
additional discussion with regard to our financial results.
Mark
Reese - EMC Insurance Group - SVP and CFO
Thank
you, Bruce.
Let
me start by stating that our most recent actuarial analysis of reserves
indicates a level of adequacy consistent with other recent evaluations. Since
management strives to maintain a reasonably consistent level of reserve
adequacy at each quarterly reporting date, the financial impact resulting from
development of prior accident year reserves is, in effect, being offset by the
establishment of equally adequate reserves on current accident year claims.
For this reason, management believes the composition of the Company’s
underwriting results between the current and prior accident years creates
potential for misinterpretation and, in any event, is not relevant to an
understanding of the Company’s results of operations.
Operating
income for the third quarter was 3.2 million dollars, which is a significant
increase from the 295 thousand dollar loss reported in the third quarter of
2008. Operating income for the third quarter of 2009 reflects a higher than
normal level of catastrophe and storm losses and a moderate but steady decline
in overall premium rate levels. Operating income for the first nine months of
2009 was 20.9 million dollars, compared to 8.6 million dollars in 2008.
The
Company has historically reported catastrophe and storm losses net of
development experienced on prior years’ catastrophe and storm losses. This has
not had a material impact on the reported amounts because development
associated with prior years’ catastrophe and storm losses has historically been
relatively small. During 2009, however, the Company has experienced a larger
amount of favorable development related to the record amount of catastrophe and
storm losses incurred in 2008. As a result, the Company is changing its
reporting of catastrophe and storms losses to include only current accident
year events. Any material amount of development experienced on prior accident
year catastrophe and storm losses will be reported separately. This change in
reporting does not have any impact on the reported amounts of operating income
or net income; it only affects the reported amounts of catastrophe and storm
losses.
Catastrophe
and storm losses totaled $0.79 per share in the third quarter, compared to
$0.97 per share in 2008. For the first nine months of 2009, catastrophe and
storm losses totaled $1.52 per share, compared to a record $2.41 per share in
2008.
The
Company experienced favorable development on prior years’ catastrophe and storm
losses of $0.04 per share for the three months ended September 30, 2009,
compared to $0.01 per share for the same period in 2008. For the nine months ended
September 30, 2009, favorable development on prior years’ catastrophe and storm
losses totaled $0.15 per share, compared to $0.07 per share for the same period
in 2008. Reserves associated with catastrophe and storms losses are
event-specific, and are initially established based on known exposures and
estimates of loss frequency and severity. As actual loss information is
reported, management is better able to project the ultimate cost of a loss
event. Changes in the projected ultimate cost of a prior accident year loss
event is reported as development, and this development has an impact on the
Company’s results of operations because the total amount of the Company’s
carried reserves has changed.
Large
losses, which we define as losses greater than $250,000, excluding catastrophe
and storm losses, amounted to $0.40 per share and $1.35 per share for the third
quarter and first nine months of 2009, respectively, compared to $0.59 per
share and $1.17 per share for the third quarter and first nine months of 2008.
Net
income for the third quarter totaled 5.1 million dollars, compared to a net
loss of 9.5 million dollars in 2008. For the first nine months of 2009, net
income totaled 17.8 million dollars compared to a 2.2 million dollar loss in
2008. “Other-than-temporary” investment impairment losses totaled 611 thousand
dollars in the third quarter and 17.1 million dollars in the first nine months
of 2009. This compares to 9.7 million dollars in the third quarter and 21.7
million dollars in the first nine months of 2008.
Net
written premiums increased 1.1 percent to $304.6 million in the first nine
months of the year. The reinsurance segment reported an increase of 6.7
percent, while the property and casualty insurance segment was relatively
flat. In the property and casualty insurance segment, commercial lines
business declined 1.3 percent while personal lines business increased 8.3
percent.
For
the first nine months of 2009, new business premium was up 11.7 percent,
reflecting a 40 percent increase in personal lines and a 9.1 percent increase
in commercial lines. The increase in personal lines is distorted somewhat by a
change from 6 month auto policies to annual auto policies. We estimate the
impact of this change to be approximately 9 percentage points.
Investment
income decreased 3.6 percent to $11.8 million in the third quarter and 2.6
percent to $35.3 million in the first nine months of 2009. This decline in
investment income is attributed to a high level of call activity experienced on
the Company’s U.S. Government Agency securities during the first half of 2009
as a result of the low interest rate environment, a decline in yield on
short-term investments and the elimination of dividends on the Freddie Mac and
Fannie Mae preferred stocks in 2008. As of September 30, the majority of the
proceeds received from the called securities had been reinvested.
The
total rate of return on our equity portfolio for the first nine months of 2009
was 16.77 percent, which is less than the 19.26 percent total return generated
by the S&P 500. During the third quarter, our equity portfolio returned
13.61 percent, compared to 15.61 percent for the S&P 500. The current
annualized yield on our bond portfolio is 5.31 percent and the effective duration
is 5.68 years, which is up from 5.36 years at June 30, 2009.
The
net book value of the Company’s stock at September 30, 2009 was $25.41 per
share, an increase of 19.2 percent from $21.32 at December 31, 2008;
consolidated assets totaled $1.2 billion, including $1.0 billion in the
investment portfolio; and stockholders’ equity was $334.3 million, an increase
of 18.2 percent from December 31, 2008.
Based
on actual results for the first nine months of 2009 and our expectations for
the remainder of the year, we are reaffirming our 2009 annual operating income
guidance range of $1.80 to $2.05 per share, which is based on a projected GAAP
combined ratio of 103.5 percent.
As
previously reported, the Company sold 100% of its investment in Verisk
Analytics, Inc. common stock in connection with that company’s IPO on October
7, and expects to record an after-tax realized gain on that sale of
approximately $14.6 million, or $1.10 per share, in the fourth quarter.
Management decided to sell all of its Verisk stock to reduce the potential
volatility of its equity portfolio and also generate tax gains that can be used
to offset tax losses that will be recognized upon the disposition of the
Company’s holdings of other-than-temporarily impaired securities as the Company
rebalances its equity portfolio.
In
2008, the Company’s Board of Directors authorized a stock repurchase plan
totaling $25 million. The program does not have an expiration date and the
timing and terms of the purchases are determined by management based on market
conditions and the applicable rules of the SEC. As of October 10, 2009, 736,133
shares have been repurchased at a cost of approximately $17.9 million, leaving
$7.1 million available for the purchase of additional shares
At
this time, I would like to open the phones for questions.
Operator
[OPERATOR INSTRUCTIONS] Our first question is
coming from Paul
Newsome
of Sand O’Neil & Partners.
<Q>:
Hello, folks. Thank you for the call. I wanted to touch a little bit on these
new business efforts. Maybe you could report it in the context of— Obviously,
the absolute returns on an underwriting basis don’t meet the hurdle of
underwriting profits. How do we know that increasing profitability or
increasing sales at this time, which appears to be kind of the bottom of the
soft market, is the right strategy, that it’s actually going to improve
underwriting profits?
In
particular, for example, I was struck by the fact that you’re going to a
one-year policy from a six-year policy. Typically, that’s a loosening in terms
of conditions. Isn’t that sort of counter to trying to improve profitability?
Bruce G. Kelley - EMC Insurance Group
Inc. - President and CEO
Thanks, Paul, for your question. I
appreciate you looking at our marketing. I’ll turn the question over to Bill
Murray, our Chief Operating Officer.
Bill Murray - EMC Insurance Group Inc.
- EVP and COO
Good morning, Paul. I think I’ll address
this pretty much from a personal lines standpoint, if that’s okay, because that
seems to be where year-over-year comparisons suggest that we’re writing quite a
bit of new business.
I’d like to begin by saying that commercial
lines continues to be front and center in our marketing plan, but personal
lines continues to be an important part of the marketing plan in some of our
branches. Our overall strategy for personal lines is to write less where
personal lines hasn’t been a growing and an important part of branch plans and
where it can therefore hurt you.
We intend and have intended to write more
personal lines business where, according to history and according to our
studies, personal lines can be written profitably over the longer-term. We
took on some studies and made some changes here within the last several years
to enable us to do that, including studies of rates, product, and ease of doing
business from an agent standpoint.
We’ve been pretty successful in several of
those states, but as Bruce has mentioned in his earlier comments, some of the
numbers that we’re looking at, both in terms of premium and in count, have
pretty low starting points. Actually, growth is pretty much keeping with the
plans that we’d established with some of these states where we think we can do
business successfully. But, we are certainly monitoring the exposures that
we’re adding to our book of business and especially the rates in those states
where it seems that we have lately been able to get some pretty good rate
increases.
Now, some of this business that we’ve been
writing will actually tend to add to our Midwestern exposures, but actually if
we’ve done this correctly from a rating standpoint, we should be able to
achieve a better spread of risk in those states where we’re writing more
business than we have before.
So, it’s actually part of a strategy. We
believe that it’s a well conceived strategy, unless, of course, you happen to
have too unusually high Midwestern storm seasons, as we have in 2008 and in
2009. But again, it’s a long-term strategy and it’s one that we will continue
to monitor carefully.
You also had a question as far as—
<Q>: I’m sorry; let me interrupt you
because I’m afraid I’m— What you are saying is that these are personalized
products that are being sold largely in new areas and that’s why you’d expect
profitability better than what you’re currently having, or are they simply a
renewed effort in the same areas? I was a little confused.
Bill Murray - EMC Insurance Group Inc.
- EVP and COO
No, it would be a renewed effort in areas
where we have traditionally written personal lines business generally successfully
in the past.
<Q>: And today, you’re not successful
in making an underwriting profit, right? So, are you selling new business at a
profitable level, or not?
Bill Murray - EMC Insurance Group Inc.
- EVP and COO
Well, we continue to monitor the pricing
levels that we have and we’ll follow some of those indications from our
actuaries. We have been successful in making some personal lines rate filings
recently. Like I said, we’ll continue to monitor that going forward, but these
are not new areas. These are in states where we’ve written business.
In the past, we maybe have had some agencies
that have been more successful with us than others. If they’ve used us,
they’ve used us pretty frequently. So, we have had high concentrations of
business, even on a state basis. By redefining our pricing, we should be able
to get better spread of risk within states, even those in the Midwest.
<Q>: Okay. That makes sense. Then, a
separate question. I just want to make sure; is it management’s view that the
third quarter was typically a worse than normal catastrophe quarter for
yourself and/or the industry?
Scott Jean - EMC Insurance Group Inc.
- VP Actuary
This is Scott Jean, Actuary. For the
industry, I would say it was probably a fairly normal catastrophe year for us
because we’re heavier in the Midwest. We did have a higher catastrophe ratio
during the third quarter. The catastrophe ratio for the third quarter was
almost six points higher than we had expected it to be, but it just gives you
an idea of what catastrophes look like for us compared to what we had
expected.
<Q>: What’s the possibility that this
is not necessarily pure cats, but more a reflection of pricing because
obviously a lot of companies have not reported third quarter yet, but those
that have, have actually reported an extremely light third quarter, maybe one
of the lightest on record. So, it would appear that the industry is having an
absolutely wonderful quarter. What’s the chance that we’re picking up
something that’s maybe a different than truly catastrophe loss?
Unidentified Speaker - EMC Insurance
Group Inc.
From our perspective, the total amount of
catastrophe losses has been higher in 2008 and 2009. In addition, we analyze
catastrophe losses on a current level earned premium basis also; meaning that
we adjust cat term premiums to the 2009 rate levels for comparison sake and
2008-2009 were still very historically high when adjusted and looking at it
from that perspective.
<Q>: We’re talking just about the
third quarter.
Unidentified Speaker - EMC Insurance
Group Inc.
Yes.
<Q>: Okay. Great. Thank you very
much.
Operator
[OPERATOR INSTRUCTIONS] Our next question
comes from Bob Afarnan of ... .and Woods.
<Q>: Hello, there. Good morning.
Kind of going on the same theme; we’re talking about market conditions. Can
you give us an idea; has there been any change in competition? Has anybody
been pulling out or alternatively, been getting more aggressive? Any new
players?
Bruce G. Kelley - EMC Insurance Group
Inc. - President and CEO
Well, one thing I would comment on before I
turn it over to Kevin Hovick would be that we’re an independent agency company
and we’re competing with direct writers. We’re seeing that our ability to
compete with direct writers has been enhanced by the technology and the fact
that the independent agents have access to a number of different companies.
The industry has been stressed by the catastrophes
we’ve had in the last several years, so we’ve been able to demonstrate our good
claims service. We’ve been able to demonstrate our improved technology and
then, there’s better pricing. So, we’re really able to have a better impact in
competing with other companies specifically, direct writers and companies that
aren’t able to handle the claims like we are. I’ll turn it over to Kevin
Hovick who is in charge of business development.
Kevin Hovick - EMC Insurance Group
Inc. - SVP Business Development
Thanks, Bruce. Just quickly to answer that;
we have had our underwriting managers in for a meeting here earlier this week.
There doesn’t seem to be any significant movement out there as far as what the
competition is doing. Again, we’re a regional company operating out of a
national kind of a footprint. We compete against a lot of the regional
companies, and even some of the national companies like Liberty Mutual that has
a lot of regional-type of approaches.
What we’re seeing right now is that a lot of
companies out there are trying to mimic some of the things that we do. We have
these target market safety groups, municipal business, governmental entity, we
see a lot of companies trying to come in and take that business away from us.
We’ve pretty much established ourselves as a premier writer of some of that
business and we’re able to fend off some of the competition.
But just again, most of our competition seems
to be with the regional-type writers. There are a few companies that were
mentioned in our meetings on the East Coast and in the Midwest. In the West
Coast, we do tend to go up against some of the national writers, some of the
larger stock companies.
<Q>: Scott, with the larger competitors
or the regional competitors going after your target markets, are they basically
trying to compete on price, or are they offering different things for the
agents or whatnot?
Scott Jean - EMC Insurance Group Inc.
- VP Actuary
Well, it would be tough for them to compete,
I think anyway, against some of the programs that we’ve put together because
we’ve developed them with our risk improvement loss control over the years;
again, our branch and claims service. We’re getting reports from our branches
that some companies are coming in and saying, “We’ll cut EMC’s premium by such
a percent. Just give us a chance to take a look at it.”
We see some of that, but once they take a
look at it and put it in front of maybe either a school board or a city council
and they try to compare coverages to coverages in what they have. Again, we’re
able to retain it to a certain degree.
We are having to be competitive; there’s no
doubt about that. We have to offer some programs as far as some dividend
programs. I think as Bruce had mentioned in his comments, I mean we do have
some walk-away prices and we’re only going to go so far. But again, we’ve been
able to use our sales approaches and maintain the business that we’ve
established.
Bill Murray - EMC Insurance Group Inc.
- EVP and COO
Bob, this is Bill. As Kevin’s mentioned,
we’ve seen a fair amount of competition. The interesting thing, I think, going
forward will be how companies will respond to basically the lack of a
significant hurricane season this year. Of course, we typically don’t write
huge volumes of business in those coastal areas. So for us, what we need to be
is very alert to pricing opportunities in the Midwest where we’ve had some
significant storms in each of the last couple of years. That’s what we would
intend to do - stay on top of the pricing. That’s where our 16 branch office
structure gives us a real opportunity to do that because of the local prices.
<Q>: It sounds like you’ve been
getting rate increases in personal lines. Can you give us overall rate change
in personal lines versus current lines for the quarter?
Unidentified Speaker - EMC Insurance
Group Inc.
So far, year-to-date, we’ve been able to get
in about 2.7% increase on personalized premium. That’s as far as what has been
filed with the insurance department. Commercial lines we’re looking at about
0.1%; so fairly flat.
<Q>: 0.1%? Okay. All right. I know
last quarter, we talked about some of the larger non-cat losses and some of
them were fire related. Anything specific going on in this quarter with the
large losses in terms of types of claims?
Bruce G. Kelley - EMC Insurance Group
Inc. - President and CEO
No. I’ll turn it over to Rich Schulz, the
head of the claims department, to talk about our third quarter losses through
September 30th.
Rich Schulz - EMC Insurance Group Inc.
- SVP Claims
Nothing really has changed. The large losses
remain our commercial fire losses. The overall numbers are similar. We’ve
just had a couple of them that were particularly large.
<Q>: The last question for me with the
guidance, what is the … load that you’re including in the guidance numbers now?
Bruce G. Kelley - EMC Insurance Group
Inc. - President and CEO
I’m going to turn it over to Scott Jean, who
gave that number.
Scott Jean - EMC Insurance Group Inc.
- SVP Actuary
The fourth quarter … load was 5.7%, which is
3.5% on the property casualty side and higher on the EMC re side.
<Q>: Okay. Very good. Thanks, guys.
Bruce G. Kelley - EMC Insurance Group
Inc. - President and CEO
Thanks, Bob. I appreciate it.
Operator
[OPERATOR INSTRUCTIONS] Thank you. There are
no further questions at this time.
Anita
Novak - EMC Insurance Group - Asst. Secy. – Director of Investor Relations
Thank you, Jackie and thank you, ladies and
gentlemen. This now concludes this conference call. I would like to remind
you that a playback of this call will be available on the company’s investor
relations page of the company’s Web site at www.emcins.com/ir until November 6,
2009. A transcript of this conference call will be available until October 23,
2010, which can also be accessed from our investor relations page later today.
We appreciate your interest in EMC Insurance
Group and all of us wish you an enjoyable day.
