AMERISAFE, Inc. (AMSF) Q1 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and thank you for standing by and welcome to the Amerisafe, Inc's. First Quarter Earnings Conference Call. [Operator Instructions] As a reminder, today's conference may be recorded. And now I'll turn the program over to Janelle Frost. Please go ahead.

Good afternoon. Welcome to Amerisafe's First Quarter 2012 Investor Call. If you've not received the earnings release, it is available on our website at amerisafe.com. This call is being recorded. A replay of today's call will be available. Details on how to access the replay are on the earnings release. During this call, we will be making forward-looking statements. These statements are based on current expectations and assumptions that are subject to various risks and uncertainties. Actual results could materially differ because of factors discussed in today's earnings release and comments made during this call and in the Risk Factors of our Form 10-K, Forms 10-Q and other reports filed with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statements. I will now turn the call over to Allen Bradley, Amerisafe's Chairman and CEO.

Thank you, Janelle, and thank you, ladies and gentlemen. Thanks for joining our first quarter earnings call. After my initial remarks, I will turn the call over to Geoff Banta and Janelle Frost who will talk additional operational and financial details. For Amerisafe, the first quarter continued to show improvement in the workers' compensation market. Pricing increased markedly over the same quarter a year ago and demand for the product remains strong as indicated by our 19% growth. We are in the middle of a change in the marketplace, which continues as we have discussed with you in the past 4 quarters. Suffice it to say, none of the information that was released this morning by the NCCI in their Annual Issues Symposium state of the line address should give any prudence of any need to reduce pricing or any adequacy in terms of the existing lost profits. With that, I'm going to turn it over to Geoff to talk about operational details.

Thank you, Allen and good afternoon, everyone. I'll make a few comments about our operational performance and trends before turning things over to Janelle to present a summary of our financials. I'll begin by discussing our top line. As Allen noted, gross premiums written were up strongly in the first quarter by 19.0% year-over-year. This is the sixth straight quarter in which our top line has grown. Our first quarter increase in the top line was due to 2 factors: First, an 11.3% increase in premium on policies written during the quarter, what we refer to as deck sheet premium; and secondly, a strong year-over-year increase in payroll audits and related premium adjustments. Our debt sheet premium has now grown for 5 straight quarters and we have had 6 straight quarters of year-over-year increases in premium adjustments and very importantly, these increases have occurred while we have continued to increase our pricing. We have also benefited from substantially higher average premium for both new and renewal business, as well as markedly higher renewal premium retention. Regarding our Renewal business, our first quarter premium retention was a very strong 97.2% versus 83.3% for the year ago quarter. This was due to increases in average per policy premium and we believe this provides more evidence of an overall firming of prices in our high hazard market segments. Our policy retention meanwhile, is 91.4% in the 2012 first quarter, lower than the 92.7% in the 2011 first quarter, but a strong figure nonetheless. As mentioned above, our average premium for new and renewal business went up year-over-year in the first quarter from 30,800 per policy to 37,200 a 20.8% increase. This increase is due to a rise in both average payroll and to increased pricing for policies written during the quarter. Relative to pricing, our effective LCM for voluntary work comp in the first quarter was 1.59 or 159% of the approved loss cost of the states that use that mechanism for pricing. This compares to an ELCM of 1.45 in the first quarter of 2011 or a 9.7% increase. This compares to an increase of less than 1% year-over-year in Q1 '11. We are encouraged by the fact that our business is growing even in the face of this significant increase in our pricing. Relative to losses, our 2012 accident year has begun with both lower severity and lower premium based frequency than our 2011 accident year at 3 months or at the first quarter. As a result, we have made an initial estimate for 2012 that assumes a slightly lower net loss ratio, 76.5% than we estimated for the first quarter of accident year 2011. If we are correct, 2012 will become the fourth consecutive year in which Amerisafe has both the accident years loss ratios higher than 70%. We firmly believe that our results and the results of the industry as a whole have been significantly impacted by the cumulative effects of the efficient loss cost and increases in claims duration and that the impact of these factors won't really be known until the end of 2012 at the earliest. In the meantime, we are going to continue to push up pricing, tighten our underwriting and adjust claims as aggressively as we have in the past. In terms of prior year losses, our first quarter financial results benefited from favorable overall development for accident years prior to 2012. The loss ratio for our 2011 accident year, which is still green, remained at the 78.2% estimate we established in Q3 '11. Accident year 2010, the worst in our public history is still developing our case basis but at a much slowing rate. Case development for accident years 2009 and prior have been basically flat for the past 4 quarters. We believe that our combination of prudent, both reserving and aggressive, claim management will serve us well as we work through our -- all of our open accident years but we faced very tough conditions in the claims world, characterized by high medical cost inflation, increased medical and pharmaceutical utilization and increased difficulty in returning injured claimants to work in times of high unemployment. With that, I will turn to Janelle, to present details on our financials.

Thank you, Geoff. For the first quarter of 2012, Amerisafe reported a net income of $9.6 million or $0.52 per share compared to $6.6 million or $0.35 per share in the first quarter of 2011. As Geoff discussed, gross premium written grew 19% from the year ago quarter, attributable to 11.3% growth in policies written the quarter and over $5 million of positive audit and related adjustments. Keep in mind, last year's first quarter included gross premiums written of $4 million from a renewal rights and assumption agreement with Cooperative Mutual. Net premiums earned increased 16.1% from the year ago quarter. Our net investment income totaled $6.9 million in the first quarter of 2012, an increase of 5.6% from the first quarter of 2011. Average invested assets were $863 million compared to an average of $825 million in the first quarter of 2011. The tax equivalent yield on our investment portfolio was 4.5% compared to 4.6% for the first quarter of 2011. In total, revenue for the first quarter of 2012 was $78.7 million, up 17.5% from the year ago period. Our current accident year loss ratio to the quarter was 76.5% compared to 77% a year ago and 78.2% for the full year 2011. Our incurred loss and loss adjustment expenses totaled $51.8 million for the quarter, which included $1.6 million of favorable prior year development, attributable to favorable development of $5.2 million in accident years prior to 2010 and unfavorable development at $3.6 million for accident year 2010 in the quarter. This compares to loss and loss adjustment expenses of $44.2 million in last year's first quarter, which included $2.1 million of favorable prior year development. In total, our net loss ratio for the first quarter of 2012 was 74.3% compared to 73.5% in the first quarter of 2011. Total underwriting and other expenses increased 1.1% to $14.7 million compared to $14.6 million in the first quarter of 2011. The 2012 first quarter expense component included $5.1 million of salaries and benefits, $5.3 million of commissions and $4.3 million of underwriting and other costs. The expense ratio decreased to 21.1% from 24.2% in the same quarter a year ago. One element benefiting our expenses is our experience rated commission, which contributed 4.1 percentage point decrease to the expense ratio in the first quarter of 2012 compared to 2.2 percentage point decrease in the first quarter of 2011. In total, our combined ratio was 96% for the first quarter versus 98.3% for the same period in 2011. Return on average equity for the first quarter of 2012 was 10.8% compared to 8% for the first quarter of 2011. Book value per share at March 31, 2012, was $19.78, an increase of 8.4% compared to $18.24 at the first quarter a year ago. While discussing the value per share, I'd like to point out that in the first quarter of 2012, we retrospectively adopted the new accounting standard for deferred acquisition cost. The adjustment for shareholders equity reduced book value per share, $0.08, as of December 31, 2011. Deferred policy acquisition costs were decreased $2.2 million and deferred tax liabilities decreased $0.8 million. Finally, our statutory surplus was $302 million, after paying a $21 million dividend to the holding company, cash at our holding company and sales for our purchase program, retiring debt or future acquisitions. As previously announced, we will retire $12.9 million of our debt in the second quarter of 2012. Also, our board has now authorized us to retire the remaining $12.9 million in the third quarter of 2012. That concludes my prepared remarks. I'll now turn the call back to Allen.

Thank you, Janelle. This afternoon, we are speaking to you from the National Council on Compensation Insurance's Annual Issues Symposium in Orlando Florida. As I mentioned earlier, this morning, the NCCI released their annual state of the line presentation, which provides an exhausted and complete examination of the full workers compensation line across this country. NCCI's CEO, characterized the 2011 workers' comp market is conflicted with both positive and negative factors emerging during 2011. On the positive side, he noted that lost-time claims frequency decreased but it was by only 1%. Net written premiums rose by 7.9%, the first time in 5 years. There was a slight improvement in the accident year combined ratio for private carriers -- private carrier for them means anyone other than the state fund. And that the industry had an extremely strong capital position. There were other factors that were not positive. Underwriting results for private carriers and state funds across the country was essentially the same as it was last year at 117%. Frequency while down 1% did not match up with the 3% increase that occurred in 2010. And medical cost inflation, while moderate at 534% did increase along with an indemnity cost increase of 2%. A number of those factors indicate that the workers compensation market has yet to come to the point that it recognizes the rates that the industry is charging are not adequate. This counting on workers' comp premium this year by the voluntary market continued to be at roughly 8%, although that's markedly less than the previous 3 years. For our position, we have anticipated, for some time, that the market would decline and would go into this sort of capital disruptive phase. Amerisafe continues to operate with the human resources, with the capital, with the distribution capacity and with the reputation to meet the challenges. Now please remember, the same caveat we discussed last quarter. Just because the market is improving, does not mean there is no remaining competition nor do I, in any way, want to imply that the loss costs are adequate and writing the premium doesn't necessarily mean you'll have better results. And of course, our national economy may falter and that would cause problems across the workers' compensation industry. However, we believe that the market has made a significant turn even to a hardening cycle, at least with respect to the high hazard workers' comp industry, and we're prepared to meet that opportunity. With that, let's open it up for questions.

[Operator Instructions] Our first question in the queue is Matt Carletti with JMP Securities.

Just a few questions. First, I guess, Allen, I'll start of on the last topic you ended with, which was NCCI. Was there anything in what was discussed this morning in the state of the line that you would find particularly surprising that you didn't expect or maybe stated in another way that might be a trend that the market's seeing that maybe Amerisafe isn't?

I want to be particularly surprised with anything. If anything, I would've thought that perhaps the combined ratio may have climbed from 117 to 118, 119, some we're projecting 120, previous to this. Suffice it to say that a 115 on private carriers and 117 for the market as a whole, which was 117 fixed last year, by the way, Matt, is not an improvement, it's not something upon which people can build capital, it's certainly not something, it shows that there's a lot of pain being felt out across the market. It is interesting also to note that the file rate changes across this country -- I'll look it up for you real quickly, but I think it was 7.5% when you consider this, the country as a whole, when you eliminate -- largely that's driven by the state of California, when you excluded them the loss cost changes across the remaining states is 2.5% and I anticipate that's going to continue for the next several years. So the same things we've talked about before and that is that you have several years of unsustainable underwriting losses, which is what we have, when you couple that with the lower investment income, which we have, that you must produce a lower combined ratio in order to return the cost of capital. The industry coming in at 117 is certainly not going to produce anything close to the cost of capital or, I think, the operating -- when the NCCI talks about operating results, unlike the folks in the capital markets, they include investment income and they include realized gains.

And all pretax.

And all on the pretax basis and that number was, I think, negative 1%. So it certainly doesn't pretend a good performance in the upcoming year.

And one other thing, Matt, the multi-year decrease in the residual market appears to be at an inflection point. It has now begun growing and that is, normally, an early predictor for the hardening of the market for us.

Right. That was one thing, thanks for mentioning it, Geoff. That was one thing they pointed out that in the first quarter of 2012, as compared to the first quarter of 2011, the residual market in this country rose 47% in 1 quarter. So that's a pretty good run rate and it was in the 30% range for the second half of 2011. So that market is growing.

In terms of competition, I know Allen you've talked in recent quarters about how some of the larger markets have pulled back or pulled out, have you seen that continue? Is it kind of happened and quieted down a little or you continue to see kind of an acceleration on that side?

I wouldn't say acceleration but it is definitely continuing and there doesn't seem to be any abatement on that. Now on the pricing side, we continue to push pricing, we're going to continue to push pricing, I think you know it well enough that we prefer margin or the volume and they'll probably be at some point where we're push it too far. But it certainly wasn't in the first quarter. As the premium grew dramatically. And one other thing I'd like to point out to you and we mentioned this in our last call, so it's another indication that the market continues to change. We had an increase of 22.6% in applications for new business in the first quarter of 2012 over the first quarter of 2011. And those applications are coming in not because we dramatically expanded our distribution network. They're coming in because other carriers are getting out.

And if I recall, that's maybe an acceleration from the number you gave last quarter, it was more like, I want to say 14 or something close to that?

It's a marked acceleration but remember now, January 1 is a big day in the insurance business, so that accounts for some of that, but on the percentage basis, there was a January 1 last year too.

Absolutely, there's just one last numbers question if I could probably for Janelle. On the expense ratio, is 21 a reasonable run rate for us to expect going forward this year or was anything in the quarter, the kind of 2 point stepdown from last year more one-time in nature?

There are a couple of -- I think not one-time things, a little bit different from first quarter this year versus first quarter last year. Obviously, we still had the experience rated commissions, but at first quarter last year, we weren't accruing that on the buybacks of [indiscernible] because of some of the losses that we had and [indiscernible] that flows into those layers. While this year, it doesn't [indiscernible] exercise which is why you partially see the increase in the percentage point difference, the same. The final [ph] was slightly different this year but the fourth was one in the same that was in place last year.

Next question in the queue is Mark Hughes with SunTrust.

In the first quarter, pricing is up, frequency and severity are down but your loss pick is only 50 basis points improved over Q1 last year. Is that the conservatism? Is there something else that's driving that?

Well, I think the lawyers won't let me use C word, Mark, we're being cautious. Prudent, perhaps.

Got you.

But last year it was at 78 2, at the end of the year, the first quarter last year was I think 77 and then it deteriorated somewhat. So we're trying to not be overly optimistic.

Right. The expense ratio, Janelle, how much worse would losses have to get in order for that ceding commission arrangement not to keep the expense ratio that low, you were up in the mid-20s up until March last year?

Yes, that's really good question. We'd have to penetrate that million that $20 million, is averaging around $15 million to $20 million annual aggregate deductible, which we did not do the last year. So should the over million dollar claim performance they did last year were slightly better then we wouldn't -- that wouldn't happen.

Right. So therefore, one would think the expense ratio should stay at about...

It would have to -- there has to be a frequency of severity problem, [indiscernible] my point.

Yes.

[indiscernible]

Geoff, what did you say the deck sheet premium comparison was in Q1 and then what was it in Q4?

It was up 10.3%, Mark, in Q1. And I don't remember -- I think it was 11.3% and last year is probably...

Mark, let me remind you of this. Last year in the first quarter, we booked the Cooperative Mutual transaction, which had both some policies written during the quarter, which were not that big a deal. But we assumed the tail owned some in force policies and that was...

And that showed up in the deck sheet premium?

That showed up in the deck sheet premium last year.

What was that amount again in this quarter last year?

About $4.1 million is off the top, $4 million last year.

That's correct.

So when you adjust for that, it was a nice acceleration in Q1?

It was even bigger than the 19%.

[Operator Instructions] Next questioner in queue is Randy Binner with FBR.

I'm going to try and followup on the expense ratio question and maybe, I guess, ask the question more in layman terms, but is it safe this say that if your claim experience for more severe claims space similar to how it's been, then we can plan on expense ratio closer to the level that we saw in this quarter? Is that the way we should think about the expense ratio for this year?

Right. As far as accruing the experience rated commissions related to the reinsurance contracts, that will be correct.

Okay. Good. And then another one, and this is kind of -- I appreciate all the commentary and the reference to NCCI, and so, the question is this, there's kind of a flattish if you will combine ratio trend, which is clearly not adequate. All the commentary that you said on the call, makes you think that accident year '10 was probably was the worst. And so, is that how you're feeling, things aren't solved and they're certainly not adequate from a cost to capital perspective, but can we feel like accident year '10 was probably rock-bottom for this cycle?

Well, in all probability, Randy, let me point out a couple of things. Number 1, policy year, not accident year. Policy year 2010 will turn out not to be as bad as accident year 2010 was, because of the negative audit premiums that were attributable to 2009. At the same token, there will probably be some changes for the policy year 2011, policy year, not reported, not financial year, but policy year as the tailwind of the audits for 2010 which were actually much more positive were that reported in 2011. That's all the adjustments we've been talking about for the last 6 quarters, you see. So what happened is you have -- when you use accident year data, you're still talking about calendar year -- your premium to a certain extent, when you're talking about these audits. And so, it makes the information a little muted. In fact, last year, the reported frequency was 9% based on the raw data a 9% increase in frequency. The NCCI went in and identified the audits and adjusted that downward to 3%. This year, the frequency was indicated in the raw data as a 4% decrease. Actually, this year, they adjusted last year up to 10% and this year, it's down to 4% but when they took the audits out and made those adjustments, the actual frequency decrease was only 1%. So there's a little noise in that number. I think the point of your question is, what was the bottom of the cycle? It certainly feels like to us, 2010 was the bottom of the cycle.

Yes, that's the question because it's, look at the results this quarter, you're favorable prior to '10, you had some adverse in '10, '11 picks up better pricing in the audit premium as you mention. So it's just helpful for us as analysts when we look at all the companies together to think about if '10 was the worst, because that looks like it's the case. And I have a detailed question just on the tax rate.

Before we get to that, let me give you one caveat on that last comment.

Oh sure, of course.

We're in the severity driven business, it's not necessarily a straight line. There can be some lumpiness around quarters. I'm not saying there is. In the future, I'm just warning that, that can happen when we insure people that how things that blow up and work high off the ground and those sorts of things. I think as the industry, it should move into a more positive fashion.

Understood. Just on the tax rate, I guess, at least for us we plan on 20% and maybe that was being cautious or conservative. But in the tax around quarter to quarter, so I just want to get some color on what drove the tax rate in the quarter and if we should think about it differently going forward.

Sure. The fluctuation in this tax rate if you're comparing it to the first quarter 2011, is really just the level of underwriting income because our tax-free income has stayed relatively steady state. So the more money we make on an underwriting basis, obviously, the tax rate going to rise slightly. I don't think that your 20% is a bad number, but you're right, it's does bounce from quarter to quarter depending on what that combined ratio was for the quarter itself and towards the year-to-date calculation. So that's the driver.

And at this time, there appears to be no additional questioners in the queue. I'd like to turn the program back over to Mr. Bradley for any additional or closing remarks.

Thank you. And thank you, ladies and gentlemen, for joining us this afternoon. I would encourage you to access the NCCI website at www.ncci.com, and download the state of the line address, if you are really interested in finding out more as to what their view is on the state of the workers' compensation market in America. Thank you for your attendance and interest.

Thank you, Sir. Again, ladies and gentlemen, this does conclude today's program. Thank you for your participation and have a wonderful day. Attendees, you may disconnect at this time.