AMERISAFE, Inc. (AMSF) Q4 2015 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. And welcome to the AMERISAFE, Inc. Fourth Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session; and instructions will follow at that time. [Operator Instructions]. I'd now like to turn the conference over to Vince Gagliano, Chief Risk Officer. Please go ahead sir.

Good morning. Welcome to the AMERISAFE 2015 fourth quarter and year-end investor call. If you have not received the earnings release, it is available on our website at www.amerisafe.com. This call is being recorded. A replay of today’s call will be available. Details on how to access the replay are in 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, in the comments made during this call and in the risk factors section of our Form 10-K, Form 10-Qs and other reports and filings 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 Executive Chairman.

Thanks, Vince. Good morning, ladies and gentlemen. Thank you for joining AMERISAFE's fourth quarter 2015 earnings call. I'll make a few remarks about the workers' compensation market and then turn the call over to our President and Chief Executive Officer, Janelle Frost, and our Chief Financial Officer, Neal Fuller for the particulars on the company’s performance during the quarter. The National Council on Compensation Insurance has published their 2015 preliminary projections for the financial performance of the workers' compensation market. With respect to net premium written, the NCCI projects a 5.7% increase in 2015, over 2014. If realized, this projected premium will represent a new record level of workers' compensation net premium written. The NCCI's estimate by the way is based upon private carrier's reports, which means the voluntary market excluding certain state funds and the residual market booms. With respect to the underwriting results, the NCCI's preliminary estimate of 96% combined ratio marks the first two consecutive years of an underwriting gain in more than 50 years for this line of business. The workers' compensation line has only reported two other sub 100% combined ratios since 1990 and neither of those years have been back-to-back. I believe the workers' compensation market continues to gradually transition from a firmer market to a much more competitive market. This transition is flat and is resulting in flat to slightly downward pricing. According to the most recent CIAB survey, more than 78% of agents and brokers nationally that were surveyed indicated that pricing on renewal accounts was without change or down less than 10% with most rate reductions being in the small single-digit range. It is apparent that carriers are cautiously using their discounting, their discretionary discounting tools in order to compete. All things considered, it's a pretty good time to be in the workers' compensation business. With that, I'll turn it over to our CEO, Janelle Frost.

Thank you, Allen, and good morning, everyone. We are quite pleased with our financial results for the year. Both our combined ratio of 79.8% and return on average equity of 15.6% or the result of our focus on a niche market, combined with our expertise, experience and dedication of our employees. So, let's talk about the operations, which produced these results. I have stated throughout the year that it was our intention to grow in 2016. However, the quarter and the year top-line was down 1.9% from the respective prior year periods. Premiums on voluntary policies written during the quarter decreased $0.5 million. New business was relatively flat and renewal business was down slightly $0.4 million. These flat results were a reflection of our pricing and the softening market. Our ELCM for the quarter was 1.76 down from 1.81 in last fourth quarter. We did however grow new business policy count in the quarter. Our renewal business - for our renewal business, our policy count retention for the quarter was down to 91.9% from 92.6% in the fourth quarter of 2014, and premium retention was 88.9%. Primarily, the decrease in top-line was driven by reduced audit premium and related adjustments. In total, payroll audits and related premium adjustments were $3.3 million in the quarter, a decrease of $1.2 million from the prior year. Payroll audits have remained positive, but as we've expected, are less robust than prior periods. We expect this trend to continue in 2016 borrowing changes in the economy. Relative to losses, we maintained our current accident year loss ratio at 69.8% this quarter. Frequency trends were favorable for 2015 and severity was within our expectations. The quarter was positively impacted by favorable development from prior accident years. As has been the pattern in 2015, case development led to $18 million of favorable loss development in the quarter, compared to $10 million of favorable development in the fourth quarter of 2014. We write a high hazard entrance [ph], which is low frequency, high severity book of business. Based on our nearly 30 years of experience, we know how lumpy claims can be and that we historically have consistent loss patterns at 30 to 36 months after the inception of an accident year. The favorable development this quarter was largely attributable to accident years 2013, 2012 and 2008 prior. That concludes my prepared remarks. I'll now turn the discussion over to Neal.

Thank you, Janelle. For the fourth quarter of 2015, AMERISAFE reported net income of $23.1 million or a $1.21 per diluted share, compared with $16.9 million or $0.89 per diluted share in last year's fourth quarter, an increase of 36.8%. Operating net income in the quarter was $23.1 million, or a $1.20 per share, a 39.5% increase from the fourth quarter of 2014. For the full year 2015, net income was $70.5 million or $3.69 per share, an increase of 31.3% over 2014. Operating net income for the full year of 2015 was $72.1 million, an increase of 35.5%. Revenues in the quarter declined 3% to $101.8 million, compared with the fourth quarter of 2014. Net premiums earned decreased 2.1% to $95 million, when compared to last year's fourth quarter. For the full year, net premiums earned were unchanged at just over $375 million in 2015 and almost identical to the amount in 2014. Net investment income was $7.3 million in the fourth quarter of 2015, increasing 1.3% from last year. Net investment income for the full year totaled $27.9 million, an increase of 2.5%. The tax equivalent yield on our investment portfolio held steady at 3.5% in the fourth quarter. There were no impairments or significant realized gains or losses during the quarter. The investment portfolio is high quality, carrying an average AA minus rating with duration of 2.9 and with 52% in municipal securities, 33% in corporate bonds and the remainder in cash and other investments. Approximately 58% of our investment portfolio is comprised of health to maturity securities, which are in an overall unrealized gain position of 17.1 million at December 21, 2015. These gains are not reflected in our book value as the bonds are carried and amortized cost. With regard to operating expenses, our total underwriting and other expenses decreased 10% to $19.4 million in the quarter, compared with $21.6 million in the fourth quarter of 2014. The decrease was primarily due to an adjustment of $2.8 million in last year's fourth quarter to the company's contingent profit commission on reinsurance, which access an offset to expenses. Otherwise, expenses for the fourth quarter were in line with last year's fourth quarter. By category, the 2015 fourth quarter expenses included $6.4 million of salaries and benefits, $6.9 million of commissions and $6.1 million of underwriting and other costs. Our expense ratio for the quarter was 20.4% compared with 22.2% in 2014. For the full year 2015, operating expenses decreased $850,000 or 1%, and the underwriting expense ratio was 22.4% compared with 22.6% in 2014. Our tax rate in the quarter increased to 31.7%, up from 29.5% a year ago. The increase reflects the larger amount of taxable income compared with tax exempt income during the quarter, as a result of the increased favorable prior year development. For the full year, the effective tax rate was 30.2%, 3 points higher than 27.2% in 2014, largely due to greater taxable income from the favorable reserve development, the company experienced during the year. Return on equity for the fourth quarter of 2015 was 19.5% compared to 15.1% for the fourth quarter of 2014. Operating ROE for the quarter was 19.7%. For the full year, ROE was 15.6% compared with 12.4% last year. And our operating ROE for the full year was 16.1%, up 3.8 points from 2014. And now to capital management. During the fourth quarter, the company paid its regular quarterly cash dividend of $0.15 per share, as well as an extraordinary dividend of $3 per share. In yesterday’s earnings release, we announced that the Board had declared a quarterly cash dividend of $0.18 per share, payable on March 28, 2016 to shareholders of record as of March 14, 2016. This dividend represents a 20% increase in the regularly quarterly dividend. Just a couple of other noteworthy items. Book value per share at December 31, 2015 was $23.73 flat with last year's $23.65 per share. Despite paying out $3.60 per share in dividends to shareholders during the year. Our statutory surplus was $371.4 million at year-end, compared with $377.7 million last year at this time. We expect to file our Form 10-K with the SEC including our loss reserve triangles this Friday, after the market close. That concludes my prepared remarks, and I'll now turn the discussion back to Janelle.

Thank you, Neal. Before we open the call for questions, I would like to reiterate our commitments underwriting discipline. Insurance of the cyclical business and managing our company through those cycles remains priority one for the management team. We'll now open the call for questions.

[Operator Instructions]. And our first question comes from the line of Matt Carletti of JMP Securities. Your line is now open.

Hey thanks. Good morning.

Good morning, Matt.

Just had a couple of questions, I mean I guess first one probably for Allen on his kind of opening comments. I'm just curious Allen your thoughts on clearly, it’s a rare event kind of the amount of profitability and the industry back-to-back. And just curious your thoughts on what makes this cycle different from the past. I know you've mentioned interest rates in the past and that underwriting is really the only way to make money and if that is kind of the biggest driver. How do you feel today with what interest rates have done over the past several months or head it back towards pretty low lows? And what that spells for sustainability of profitability going forward over the next few years. Does this cycle look a bit different than prior cycles?

Thanks, Matt. I do think this cycle is different from prior cycles, because at no time in the last 30 years have we had this, when we've come out of the firmer cycle, have we had the returns, the investment yields be so very low. I think that's - I compared the pricing cycle survey over the soft and hard cycles. And it's clear that for example, let's just take some [indiscernible] effective LCM. I think the effective LCM for the year was 179, which is only marginally lower than it was last year. In normal circumstances, you would see the pricing erode much more quickly. And I think the lack of investment returns has gotten underwriter's attention. And it's particularly interesting because the discussion nationally or worldwide about negative interest rate have made the sort of returns that you can get from the investment side, the people to be very apprehensive about the direction of that. So that being the case, you will see, I think a slower even though there is excess capital available in the market, people are going to be much more hesitant about putting that at risk, by trying to write more business. I think that also creates another phenomenon and I've seen a lot of commentary about this over the last six months. And that is with respect to insurers what business that you try to get. Well, usually you start off with the stuff that you know the best. And that's your incumbent business, your renewal business. So, I think you may look to see a more - a bit more aggressive pricing on that renewal business then you will on the new business. Now that remains to be seen, there is always somebody in this business that think they have a better mouse trap.

Right.

And it's always unique to me, Matt that what got the industry to where it is today was abiding - better underwriting discipline in 2012, 2013 and 2014. And how quickly we forget it's the discipline that gets these results. Our line of business, when you write a piece of business you don't know what it cost and it's really a year or two later before you understand the true cost to have it. And so, sometimes people forget that and start pricing aggressively. But without great opportunities to invest out there, I don't think you are going to see a major deterioration in pricing. So, I think that pretends good things from an underwriting perspective. But not necessarily good trends in terms of net investment income.

Right. And then my second question would be, maybe this more for Janelle, but provide a little more color, an update on some of the top-line efforts and I know there, you are kind of being going through, kind of for lack of a better terminology, maybe a more surgical pricing exercise and parsing the book out and kind of strategically driving some incremental top-line. Where does that stand? I know a lot of that's a process that kind of you're going through and if you could update us, that'd be great.

Thanks Matt. I like your term, surgical. Can I use it?

Please, yeah. Absolutely.

It has been. We've been talking about the decline in ELCM for a couple of quarters and the fact that it has been very deliberate on our part. At the same time, as Allen talked about, if you look at the slope, but it hasn't been very steep. So that has definitely been a concerted effort on our part. And to Allen's point about protecting renewal book, we certainly have been doing that in our pricing efforts. At the same time, I don't know if you caught in my prepared remarks, I said that we grew policy count on the new business side. That is a little bit of a turn and a trend for us, compared to where we were at the first part of 2015. So, I look at that as a side going into 2016.

Great. Well, thanks for the answers and congrats on a really nice end to the year.

Thank you, Matt.

Thanks, Matt

Thanks, Matt.

Thank you. And our next question comes from Mark Hughes of SunTrust. Your line is now open.

Thank you. Good morning.

Good morning.

The frequency you say it's - trends have been favorable; can you be a little more precise on that?

I can. For AMERISAFE, our frequency was down in 2015 and that was not something that I personally was expecting. I thought it was going to be flattening and I still believe that going into 2016, but frequency was down.

Down low single digit?

Ever since slightly. That's equal.

Yes, okay. It seems like you've taken fewer lumps lately. Now, you talked about how it's a lumpy business.

It is.

It seems like you haven't had one of those bad quarters in a while. Do you feel like those part...?

[Indiscernible] found.

Why did you say that Mark?

That's a jinx, anytime it's there. I'm sorry. But maybe you're answering my question there, which is that, is this part of a longer-term trend that kind of those unusual items, they're dampening out perhaps in your business model or is it just you've had some good experience lately?

Yeah, Neal has talked about in his prepared remarks that we're releasing the K later this week. You'll see in the K when we talk about severe claims in the K, we talk about claims in excess of a million dollars. For accident year 2010, we had 10 of those claims, compared to '14, we had 13 of those claims. I would like to say something we're doing, but this is just a lumpy business and if you call that lucky, then I'll call it lucky.

Yeah. Would say the increase competition, is it just existing players with more appetite or are you seeing carriers stretch into the high hazard segment?

No, I would say existing players, more appetite.

Okay. The expense ratio was nice this quarter when we think about it going forward should we use the full year run rate as our guide or Q4?

Matt, this is Fuller. We think that the expense ratio had some favorable tailwinds this year and also in 2014. So we could actually expect the expense ratio to bump up potentially as high as the couple of points for this year.

Mid 20s, like '24 or something like that '25?

Yeah, a couple points from the full year.

And why is that?

Well, we are investing in the business in terms of what we're doing in our sales and marketing organization. And we don't expect the premiums are going to be going up by leaps and bound. We're trying to grow obviously like we were this last year. But we are not expecting that premiums given the competition. And what we're doing that there'll be rebounding robustly. So from that standpoint, we do expect the expense ratio to drift up.

Are you taking a different approach this cycle in terms of pricing, as you point out, or really holding a line on the ELCM? And it's continuing to be at a very high level, you seem to be happy trading off that for a more of a stable top-line let's say. Is that a different approach or how are you reading this environment.

I would say this, I wouldn't use the term, happy, I'm disappointed. I wouldn't apologize for the policies that we wrote, the underwriting that we did. I just like more of it.

Great. Where you seem to be choosing a price discipline over top-line growth even at pricing levels that in historical terms would be considered very attractive even if they were lower than where they are now?

Well, I'd say this. I think historically AMERISAFE has proven that we're not a top-line company, our emphasis on the margin.

Yes.

We would like more volume, if I like, but I think we still adhere to the adage that volume is vanity and profit is sanity. So, we would like to maintain our margins.

Okay. Very good. Thank you.

Thank you. [Operator Instructions]. And our next question comes from the line of Randy Binner of FBR capital markets. Your line is now open.

Hey, thanks. Good morning. So, speaking at margins, I guess the question I'd like to ask has to do with your accident year loss pick or accident year loss ratio. And it was better in '15, it was very consistent and it seems that in notwithstanding maybe a little bit slower top-line that outlook kind of continues to improve right. The medical loss severity and other severity seems like it's in line frequency is marginally favorable, the industry is pretty rational. So can you help us think about where that accident year loss pick might come in for 2016.

We don't give forward-looking guidance, but I will talk about the factors that you just mentioned. As I alluded to earlier, I believe that frequency will flatten or slightly go up in 2016, obviously severity increases every year with medical cost inflation. The percentage of that I mean there is lots of data out there, there is actually a great fight in NCCIs annual issue symposium state of the line. That shows the medical inflation over - I think it's a 10 year maybe even longer period that averages somewhere around 6%. And so that's our assumptions going into 2016. I don't expect our underwriting discipline to change, I don't really see a change in our mix of business sometimes that would cause variations and no loss ratio. And I just don't see that happening for us in 2016.

And then going to back to the top-line maybe asking this in a different way. Are you seeing any slowdown in the real economy in your construction and trucking markets that could impact the top-line? And as far as kind of new sales initiatives, is there any update or kind of detail, you can provide on how that might be different than what AMERISAFE did in the past?

Sure. I'll start with the last question which is the sales initiatives. I don't like given very competitive information, but I will say this and I think I've said this on the past calls. We are changing our focus to the relationships that we have with the agents. I think you will see when you see the 10-K end of the week that we have fewer independent agents. We would like to do more with less and I think that with our new initiatives, I think that's possible. So, I hope that answers your question about the sales initiatives. As far as the economy, the economy is in rather stagnant. And that's why in my prepared remarks, I said borrowing changes in the economy, we ensure payrolls. So anything that affects that and the economy would affect what we do. We certainly seen a decline on the oil and gas sectors and as has everybody, and keep in mind when you look at our industry scatters on the 10-K or even our investment presentations. Oil and gas was not just that one line. There we have some oil & gas exposures in construction and services and trucking and so it's impactful. But in 2015, our other areas or other industries we're able to overwrite that, I guess that answers your question.

Okay. Yeah, that's helpful. And then just on operating leverage and how that kind of goes into or actually. Sorry, back on the accident year loss ratio. Did - you see '12 and '13 does it been real good accident years, I think it's safe to say. I think that as of the end of last year, so year-end '14 that they were sitting around 7.68% kind of the developed loss ratio. Do you have an idea of where those are, the '12 and '13 accident years now?

I don't have the number in front of me. But as we said the 10-K will be filed on Friday, you'll be able to see that as well as certainly by March 1st, the schedule piece will be out which you'll be able to see all the accident years at that point.

I was looking for a schedule piece sneak preview. Yeah, because we like, we think there is a lot more coming on '12 and '13 then on operating leverage, so you ended the year kind of perfectly at one-times net premiums written to surplus, which is that kind of crude way, we all measure operating leverage. So is that the right way to think of the right operating leverage for AMERISAFE to manage to in this environment more when we think about in terms of capital?

No, obviously we would like it - exactly we would like it to be higher. I think when we and the Board announced the $3 dividend, that was something that we all talked about. We were working towards making that better. It wasn't going to be done in one sloop, but obviously we'd like that number to be higher, especially when combined ratio is 70.98

Randy, this is Allen. I think the Board has clearly indicated its awareness of the need to be able to put the margins that we create, the earnings that we create, capital we create to work and to the extent that we cannot improve that operating margin via growth in premium expect the board would be goods towards of the shareholder’s money and they prepared to make adjustments to our required capital. So, in other words, I think you can look for them to review the need for further capital management late in the year of 2016.

Okay, great. Thanks a lot.

Thank you.

Thank you. And I am showing no further questions at this time. I'd like to turn the conference back over to Janelle Frost for closing remarks.

Thank you for joining us today. I'd like to end the call as I begin the call saying that we are quite pleased with the results this year. Thank you to our shareholders for supporting us and to our employees for their dedication.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Have a great day, everyone.