RLI Corp. (RLI) Q2 2015 Earnings Report, Transcript and Summary

Good morning, and welcome ladies and gentlemen to the RLI Corp. Second Quarter Earnings Teleconference. At this time, I would like to inform you that this conference is being recorded and that all participants are in a listen-only mode. At the request of the Company, we will open the conference up for questions-and-answers after the presentation. Before we get started, let me remind everyone that through the course of the teleconference, RLI management may make comments that reflect their intentions, beliefs and expectations for the future. As always, these forward-looking statements are subject to certain risk factors, which could cause actual results to differ materially. These risk factors are listed in the Company’s various SEC filings, including in the Annual Form 10-K, which should be reviewed carefully. The Company has filed a Form 8-K with the Securities and Exchange Commission that contains the press release announcing second quarter results. RLI management may make reference during the call to operating earnings and earnings per share from operations, which are non-GAAP measures of financial results. RLI’s operating earnings and earnings per share from operations consist of net earnings after the elimination of after-tax realized investment gains or losses. RLI’s management believes this measure is useful in gauging core operating performance across reporting periods, but may not be comparable to other companies’ definitions of operating earnings. The Form 8-K contains reconciliation between operating earnings and net earnings. The Form 8-K and press release are available at the Company’s Web site at www.rlicorp.com. I would now like to turn the conference over to RLI’s Vice President, Corporate Development. Mr. Aaron Jacoby. Please go ahead, sir.

Thank you. Good morning everyone. Welcome to the RLI earnings call for the second quarter of 2015. Joining me on today’s call are Jon Michael, Chairman and CEO; Mike Stone, President and Chief Operating Officer; Tom Brown, Vice President and Chief Financial Officer; and Craig Kliethermes, Executive Vice President, Operations. I'm going to turn the call over to Tom first to give some brief opening comments on the quarter’s financial results. Then Mike and Craig will talk about operations and market conditions. Next, we’ll open the call to questions, and Jon will finish up with some closing comments. Tom?

Thanks, Aaron. Good morning everyone. We are pleased to announce an excellent second quarter. Starting with our key metric, we achieved a 79.8 combined ratio in the quarter which brings our first-half in at just under an 85 combined ratio. Profits were strong across each of our three segments. Casualty, our largest segment achieved an 81 combined ratio. Property an 89 and Surety came in at an impressive 63. Including these results was $30 million of net favorable reserve development offset by $6 million of storm loss activity during the quarter. While underwriting margins were excellent, on the premium side growth actually accelerated a bit from the first quarter. You recall that for several quarters now we have discussed our exit from the Crop Reinsurance business. Although this impact first showed up in the prior quarter, the seasonal impact in the second quarter was significant. Quarter-over-quarter the decline in crop gross premium was $31 million. However, the impact on earnings was nominal. This drove the headline gross premium for the quarter to a negative 6%, but without this impact premium actually advanced 7%. Growth was driven by both our Casualty and Surety segments of 14% and 7% respectively and was generally spread across a number of our products. While our Property segment declined 9% exclusive of crop as we continue to fight headwinds in the E&S property market brought on by the employable term of capital. Mike and Craig will go into more detail on these product and pricing trends in a minute. Turning to investments, investment income raise the challenges of reinvest, maturities and cash flows below the average yield on existing positions. As a result, investment income was down nearly 4% in the quarter, with the portfolios’ total return flat on the year and slightly negative during the second quarter. Our underwriting results played a significant role in driving book value per share growth which was up 4.2% year-to-date inclusive of dividends paid. Maui Jim our minority investment continue to post growth in earnings of 5% as did our other minority investment in crop insurance this quarter compared to the second quarter of 2014. We are pleased with the performance of both of these investments. In total, we achieved within operating earnings per share of $0.77, up 17% from last year. And with that I’ll turn the call over to Mike Stone. Mike?

Thanks, Tom. Good morning everybody. An outstanding underwriting quarter by anyone’s definition. We brand ourselves as an underwriting company and we are true to our brand even as the market continues to be more difficult. As Tom indicated combined ratio of 79, all three segments under a 90 combined ratio, while gross written premium ex-crop up that is with an all by the way up 7%. Now let’s get a little bit of insurance market commentary, our Casualty segment still holding up flat to up slightly rate wise, Craig will provide a little more color here. We were able to grow premium by 14% in the quarter, led by transportation up some 31%, commercial umbrella up 24%, our architects and engineers professional liability up 18%. Transportation is illustrative of our discipline and focus on underwriting while providing superior customer service, while many carriers exited transportation over the past couple of years, throughout we maintained our discipline, reduced our writings. Now that opportunities present themselves at adequate rates and appropriate terms and conditions, we’re there to meet our customer needs. I think we are all still okay in there. A number of customers left for lower prices and they are now back in the fold, properly rated and welcoming of our service capabilities that’s our value proposition, better service, better outcomes equates to better deals for our customers overtime. In addition our commercial umbrella and our personal umbrella products continue to grow up 24% and 4% respectively and producing underwriting profits in both spaces. Our general liability business, primary liability business our largest business over the past decade continues to perform well with gross written premiums up some 9% as we continue to reduce our exposure to habitational business. I am not sure how anyone writes E&S, excess and surplus lines habitational business profitably in your current rate environment, so overall Casualty continues to be a solid growing segment in an increasingly competitive market. Property, you’ve already heard about the loss of the crop premium which by the way was really not very profitable for us. Our E&S property is also very competitive with rates down. Craig will again speak to that in more detail. As alternate capital attacks the space aggressively, I won’t say their behavior is probably good, but returns on this business shrunk over the past several years. We continue to maintain our discipline looking to out-service our competition and find opportunities to enable us to maintain our capabilities. We’re working on a number of opportunities that will enable us to better exploit our talents that is our underwriting expertise. In addition I would say, we’ll see what happens to all the new capital when a major U.S. cap strikes. In our Marine business, it continues its return with a profitable quarter, my kudos to them and their hard work. Surety, gross written premium up 7% and all our segments are performing well. We continue to develop our systems capabilities to allow us to capture more of the profitable miscellaneous business by being even easier to do business with. There also continues to be considerable competition in this segment I think I’ve mentioned in the last several quarters a number of new entrants, all I can say to that many new entrants, it's not that easy. We have superior underwriters, significant underwriting knowledge and experience and superior technology capability which will enable us to outperform overtime. Overall, a terrific quarter. My congratulations to all our underwriters, claim and support staff for all their efforts this quarter. Thank you.

Thank you Mike and good morning everyone. I am going to talk a little bit about the reinsurance placement for the quarter and the general pricing environment. Our reinsurance placements, our observation for 71 is the market was still soft. We still were getting more for our reinsurance dollar than ever before, higher expected ceded loss ratios, broader coverage and better security and more diversified panel. I believe this is a testament to our great underwriting track-record, our aligned interest in a pretty soft reinsurance market. In the quarter we placed a Marine, D&O and Property cap proportional treaty. We continue to see about 10% to 15% risk adjusted rate improvement in terms of conditions. These better terms and rates allow us to continue to see net retain premium growth outpace the gross top-line and also increases our pricing flexibility on the best accounts allowing us to maintain underwriting margins. On the price level in our markets overall it has been pretty stable, as Mike with most of our products seeing rate changes for the quarter and year-to-date in the plus to minus 3% range. Property cap continues to be the exceptional with rates down about 15%. Went down a little more, earthquaked down a little less on an undiversified basis we believe the market is pricing this business below double-digit returns. Our exposures have shrunk about 5% to 10% this year as a result, but we will continue to select our spots in this business. We're also seeing a little more rate give back in our E&S Casualty business particularly for physicians’ professional liability. On a more positive note D&O rates seemed to be flat a bit and we continue to get rate in excess of trend on most of our Auto, Marine and Recreational vehicle business. Our market is in a position where underwriting, selection and discipline really do differentiate. We are fortunate to be an in an enviable position where we have an outstanding and consistent selectors of risk and exceptional arbiter’s of claims. Our people, our relationships and our service matter and we will continue to use these advantages to grow where the opportunities arise.

Great, thanks, Craig. We can now turn the call over for questions.

Thank you, sir. The question-and-answer session will begin at this time. [Operator Instructions] Our first question comes from Randy Binner. Please go ahead. Your line is open.

I had a question on the stable reserve activity in the quarter which was significant, hoping to get a little bit of more color and particularly not so much on kind of specific business lines beyond just generically Casualty, but on accident years and whether or not you are seeing more contribution from kind of the more recent accident years I’ll call them 12 and later, whether it was a mini hard market the economy was pretty good versus more legacy years. So, is there any way to provide color on kind of how much of a contribution or how the trend is developing in those more recent accident years, as far as what's coming through in the redundancy?

It's Tom Brown, I'll start perhaps Craig chime in with few other thoughts. I think the first part of your question is really is across the board Casually being the largest driver approximately about $23 million, really spread over amongst all the lines and then the more recent accident years from 2010 to about 2014. Property it's a payroll development on Marine, began in the 2010 to 2014 while of it being in the most recent accident year 2014. And then Surety was pretty much across all lines, commercial contracts, miscellaneous oil and gas in the more recent two accident years 2013 and 2014. And it compares fairly consistent with by year ago, the $30 million to $31 million this year compared to about $23 million last year, Craig do you want to?

The only thing I would add is that is what you said about consistency I mean if you go back and look at last year it's usually those three previous accident years that drive most of the -- look we don’t have really long duration products so those three previous accident years are usually responsible for the bulk of the reserve release?

Yes, okay. [Multiple Speakers] Right understood that's helpful. And then on just in Mike's opening comments I missed some of the numbers you said transportation I think was up 30% on commercial and that was up 18%, what was the last one that had the kind of the higher growth?

That was the three or more transportation commercial loan growth and architects and engineers’ professional liability.

Okay and that was up kind of high-teens?

Yes. I forget exactly the two was.

Okay. And then and so that those are obviously the big drivers of the cartage of these top-line and then I guess there is one more and I'll drop back in but just jumping over to the, I think that you have had comments on this for at least a couple of quarters that the alternative capital is coming in and we see that a lot, this is for Property in India now so. Is there areas in particular that are focused on, are there new conduits they are using is, is your view that it might be foreign capital from place where a double-digit return sounds as pretty darn good. I mean any color on what you are seeing there because it will be I guess I think helpful for us to see how sustainable it is because for some Japanese folks for instance the low double-digits might be real good for them on when quake?

Yes. Well this is Mike Stone again. So, it's coming from all kinds of places right it's coming from pension funds, it's coming from hedge funds. I'm sure some of it is foreign capital and certainly at least everything we hear and also everything our underwriters are seeing is that they're acceptable of returns somewhat less than we have been in the past, so is that sustainable overtime? Is that sustainable as interest rates go up, is that sustainable following a major U.S. CAD event. I think those are questions that yet to be answered but certainly in a benign loss period which we've been through it certainly looks like these returns are pretty nice, so I guess we'll see. Frankly overtime you need to make a descent return and capital is capital so we'll see what happens.

Thank you. Our next question will come from Mark Dwelle. Please go ahead. Your line is open.

I actually planned to ask this topic before you guys reported really strong results on it, but I wanted to drill down into the transportation line a little bit, the overall growth in the quarter was very strong and I was wondering if you could characterize first kind of some of the splits between how much of that was rate how much might be new business in general and how much might be the byproduct of more economic activity, unit count exposure et cetera?

I'll try and Mike can jump in. This is Craig. Mark the, I'd say the rate is about plus 3% or 4% across most of our Auto businesses, particularly in the Transportation business. I think Mike alluded to this earlier we had a lot -- quite a few accounts come back to us that had been previous customers. We do deal typically with larger customers so the premium could be a little lumpy in that business, but quite frequently we'll have customers leave us realize that there was some value there additional value worthy of paying an additional price particularly our claim service. We value greatly and differentiate ourselves I think in claim service and underwriting knowledge in that space, so I think some of those folks came back to us in recognition of that realized that that decrease in price wasn't worth it when they had somebody that didn't know how to handle their claims. And there were some exposure increased obviously with those customers coming back, but it is very lumpy with some larger accounts.

That was probably fairly characterize the majority of the premium growth is really being new business wins as compared to being any kind of material rate driven increases.

That's correct.

Okay. And then second question and that is, you guys have obviously done reasonably well in this line for sometime but a lot of companies have fairly abysmal results particularly just in terms of large losses and so forth, is there something that you're seeing or something that you're aware of that seems to be driving that trend surely the results are not simply just all inadequate pricing those seem to be something happening on the actual loss side that seems to be contributing?

Well this is Mike Stone. Well first off I'd say that a number of the carriers that experienced abysmal, that's your word, probably not inaccurate by the way, results were writing through a number of MGAs and in many instances were allowing MGAs, TPAs are selected TPAs to handle their claims and so they were getting inadequate rates and they probably weren’t handling the claims up to what we would think would be appropriate claim handling. So what we've done is I think as Jon Michael likes to say, we underwrite all our own business. So we underwrite this business and as our lead product guy says as I know I am going to have losses, I've got a rate for those losses and I've got to make sure where that I get an adequate deductibles and I got to make sure that my claim staff is up to stock. So I think it's a combination of those things. And we'll let business walk away it's much harder for an MGA to let business walk away.

Okay. Last question I have related to Transportation, I am sorry for drilling down into this one so deeply, but it's kind of an interesting one. More and more transportation providers of all sizes and all vehicle classes are using different monitoring technology on their drivers and you see regulation et cetera, is that something that you take accounting of in the underwriting process, I assume it's something that’s viewed favorably to the extent that people have it, but is that actually a driver of underwriting at this point?

Mark this is Craig. Yes, I mean, we do factor that in and it's not a specific rating variable at this point in time, but it’s call it favorably factored into the price so they do give scheduled credits and debits based on quality of management and part of under quality of management is how they monitor the drivers. And you're correct that a lot of these organizations have become even more professional in the way they monitor their drivers, not just the hours they're driving but also how they are driving, the speed they are driving, they have the more sophisticated people in this business that are in the Transportation business themselves. They are doing even more around the logistic side in capturing data.

And our next question will come from Meyer Shields. Please go ahead. Your line is open.

When you -- you mentioned before the return on some Transportation clients, is there -- I know that it is lumpy because they are large accounts, but is there any seasonality to that in terms of maybe agents recommending that line taking another look into their buying insurance form?

I am sorry is on Transportation Meyer, you're speaking about? I don’t think so. I don’t think there is any seasonality to speak of. I mean as long as when they are real is and -- but I don’t think there is -- I think there is probably more losses in the summer time when they are out driving faster et cetera. But I don’t think there is any on opportunities.

Yes, thank you. Our next question will come from Ken Billingsley. Please go ahead. Your line is open.

Just two questions here; one on the reinsurance side, we’ve seen the retention ratio move up and I believe a lot of it has to do with the reinsurance costs have gone down, are you -- is there a mix where you are actually retaining some more business or is it almost all cheaper reinsurance?

This is Jon Michael, mainly mix determines that.

Mix from a reinsurance standpoint or whether you're increasing your retention?

If you look at the retention like the overall retention for our Company, I think it's gone from 80% to 85% if you look at our net written premium to gross written premium that’s -- the big part of that’s driven by crop this year, a combination of crop and rate reductions is the real driver this year. Yes in the past I’ll say back in 2013 we did restructure our reinsurance, so that had an impact back then, but this year we really didn’t take any bigger net retentions none that we’re really speaking of, we have bought more limit in some spots where the pricing was reasonable. So that mostly come through a combination of crop as Jon said where lots of crop had about probably a three point impact so from to 80 to 85 and the other two points is more different price reduction, reinsurance cost reduction.

And the 71 renewals that is it, I am assuming they may be move that needle little bit more?

Yes we continue to see rate reduction and the retentions did not change for any of those three. So they are maintaining the same. Particularly the cap in the Marine treaty we saw rate reductions, the D&O treaty was a little closer to flat.

And then just on the Prime Holdings, because I know it's a very small piece here, but can you just talk to me a little bit about what’s -- maybe what was going on with their specialty businesses, was there any particular items or lines? And what kind of conversation do you have with them if there is any overlap, with business that you may have some more experience in?

Yes it's Jon Michael, Ken we do not have conversations with them in terms of overlap, that would be -- that’s a no-no. They write their business, we write our business. So we’re an investor in Prime only.

So you wouldn’t have any…

And a reinsurer too, reinsurer obviously too, but.

So on -- but there will probably another quarter before you have that information to review anyway, is that correct?

No, no we’re competitors, I mean potential competitors. So we really can’t talk to them about any particular account or any rates or anything like that, but that would be a true no-no in our business to do that. We know what kind of business they are writing, they know what kind of business we’re writing and that’s about it. So I don’t know anybody else?

I would say we’re buying large, they are not really in the same space that we’re in, but they are in the surplus lines of business that they tend to be in truly surplus lines business and we think we’re a little surplus lines lite. But doesn’t mean that on an account by account basis we couldn’t very well be competitors, so we’re not talking about individual accounts with them on markets or anything like that, but we believe they are good underwriters and have a good track-record and we’ve enjoyed their relationship so far.

Last question is and I apologize if you may have talked about this already on, I believe in the past you talked about earthquake line at least you’ve been shrinking, can you talk about to the plan there, are you -- is it still too competitive that you are continuing to shrink your earthquake exposure or just starting to get more attractive with reinsurance costs pricing where it is or do you not play that game, but you're not going to utilized cheaper reinsurance that might only is temporary?

This is Craig. We have used reinsurance that’s allowed us to compete in spots, although we still find that market increasingly competitive so at the same time I mean we have been given up some primary rate we've also received some benefit of reinsurance reductions which has allowed us to compete on some accounts on the margins, but we have shrunk our overall earthquake exposures over the last couple of years because of the market, so we still if it gets a good business for us as part of a diversified portfolio but it wouldn’t be one where we are particularly looking to grow and in this space right at this time I should say.

Ken I'd also say that our reinsurance panel has remained basically the same so we are not reducing the security and taking rate reductions from less secure reinsurers.

Thank you. [Operator Instructions] And if there are no further questions, I would now like to turn the conference back to Mr. Jonathan Michael.

Thank you all for attending another good quarter just south of 80 combined ratio for the quarter, premiums were up 7%, except for our cancelled property insurance business. As far as underwriting is our strongest core value as a company and I think all the speakers today talked about our disciplined underwriting, good claims handling and alike and that certainly is a hallmark of RLI. Thanks again and we will talk to you next quarter.