Good day and welcome to The Hanover Insurance Group's Fourth Quarter Earnings Conference Call. My name is Sarah and I'll be your operator for today's call. At this time, all participants are in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Oksana Lukasheva. Please go ahead.

Thank you, Operator. Good morning and thank you for joining us for our quarterly conference call. We will begin today's call with prepared remarks from Jack Roche, our President and Chief Executive Officer; and Jeff Farber, our Chief Financial Officer. Available to answer your questions after our prepared remarks are Bryan Salvatore, President of Specialty Lines, and Dick Lavey, President of Agency Markets. Before I turn the call over to Jack, let me note that our earnings press release, financial supplement and a complete slide presentation for today's call are available in the Investors section of our website at www.hanover.com. After the presentation, we will answer questions in the Q&A session. Our prepared remarks and responses to your questions today other than statements of historical fact include forward-looking statements regarding, among other things, our outlook and guidance for 2021, the ongoing impacts of the pandemic, economic conditions, impact of seasonality and other factors impacting our company performance. There are certain factors that could cause actual results to differ materially from those anticipated. We caution you with respect to reliance on forward-looking statements and in this respect refer you to the forward-looking statements section in our press release, the presentation deck and our filings with the SEC, which includes supplemental risk factors related to the COVID-19 pandemic and general economic conditions. Today's discussion will also reference certain non-GAAP financial measures such as operating income and accident year loss and combined ratios, excluding catastrophes among others. A reconciliation of these non-GAAP financial measures to the closest GAAP measure on a historical basis can be found in the press release, the slide presentation or the financial supplement, which are posted on our website, as I mentioned earlier. With those comments, I will turn the call over to Jack.

Thank you, Oksana. Good morning, everyone and thank you for joining our call. I'll begin with some commentary on our full year financial highlights in the context of the business and economic environment. I will then provide a strategic view of our segments and our 2020 accomplishments. Jeff will review our financial results for the quarter and the year, as well as our 2021 outlook. And then we'll be happy to open it up for questions. We reported outstanding results in the quarter and for the year, delivering strong operating earnings and significant value for our shareholders. In the face of unprecedented challenges, our 4,300 employees and our company rose to the occasion in 2020. We quickly and effectively adapted to the rapidly changing market conditions and customer expectations, while flexing our agile operating model and driving innovation across our organization and the insurance value chain. In a year defined by the coronavirus pandemic, social unrest, economic disruption, and challenging weather, we relied on and even further strengthened our unique, collaborative, and nimble culture and made good on our promises to our agents, customers, and communities. And we continued to create value for our shareholders, generating exceptional profitability and high-quality pre-owned growth, despite the prevailing economic conditions, ultimately thriving in ways we believe to position our company for even greater success in 2021 and the years ahead. For the year, we reported operating earnings per share of $9.32, up 14% from 2019, and a strong operating return on equity of 13.1% in line with our long-term target. Our performance on a year highlighted the overall effectiveness of our strategy, the resiliency of our business and our ability to drive sustainable broad-based profitability. In particular, I want to share the following financial observations. First, we managed well in spite of the…

Thank you, Jack. Good morning, everyone. For the quarter, we reported net income of $164.6 million or $4.43 per diluted share compared with $109.8 million or $2.76 per diluted share in 2019. After tax operating income for the quarter was $112 million or $3.02 per diluted share, compared with $80.2 million or $2.01 per diluted share in the prior year quarter. For the year net income was $358.7 million or $9.42 per diluted share compared with $425.1 million or $10.46 per diluted share in 2019. Operating income for the year was $355 million or $9.32 per diluted share compared with $331.6 million or $8.16 per diluted share in 2019. Our fourth quarter earnings reflected a combined ratio of 92.4%, an improvement from 96.2% in the fourth quarter of 2019, due to prior underwriting and rate actions, favorable loss frequency and favorable prior-year development. Our combined ratio for the full year improved to 94.4% from 95.6% in 2019. Again, reflecting mixed improvements and favorable loss frequency partially offset by higher cats. Fourth quarter 2020 catastrophes totaled $35.1 million or 3% of earned premium, which was below our catastrophe load assumption of 3.6%. Full year catastrophes total $286.7 million or 6.3% of earned premium. While our full year cat losses were above our expectations due to a particularly active Q2 and Q3, our overall cat loss experience compared favorably with the industry as a whole. In fact, more than half of our cats above our expectations stemmed from losses associated with social unrest. This underscores the effectiveness of our prior aggregation management initiatives. Our diversified business mix and prudent risk management practices should continue to serve us well over the longer-term. That being said and considering changes in weather patterns in certain geographies in the U.S., we believe it is prudent to…

[Operator Instructions] Our first question comes from Matt Carletti with JMP Securities. Please go ahead.

Thanks. Good morning.

Good morning.

Good morning.

Jack and Jeff, I caught in both of your comments, you both mentioned record consolidation agreements with agents in 2020. I was hoping you could just expand there a little bit. And really what are your thoughts on kind of environmentally what was driving that? I mean, obviously, some of it had to be Hanover specific, but do you think certain things that the pandemic brought that upon? Was it – were there competitive environment forces that brought that upon? Just curious kind of what you think drove that. And then also if you're continuing to see it, do you think that'll continue as we move forward?

Yes. Thanks, Matt. This is Jack. Listen, first and foremost, we have worked hard over the last several years, building a strategy around accounts and around specialized businesses, where agents want to deepen their partnerships with us. At the same time, as you know, the consolidation on the distribution side of the business as kind of aggregated and consolidated more and more Personal Lines and small commercial business in some of the midsize and larger companies across agents across the land. So it's just natural that at some point in time these organizations start thinking about particularly Personal Lines and small commercial strategically, but also from an operational perspective. And so we think that really the last 18 months in particular, there has been a real pickup in momentum in the strategic dialogue with agents around these flow businesses, but also their organization and their desire to bring more and more of their best business together into an account environment, and with the carriers that they think will be able to help them service that business, and frankly present a level of pricing consistency that allows that business to stay put and be serviced over time. So we were very pleased. Do we think the pandemic added to that momentum? Maybe. Maybe as people got the legs underneath them, they start to think about that business in terms of how they focus that with fewer markets, but I think the momentum was well ahead of the pandemic.

Great. That's really helpful. And then just one other one, if I can. You also mentioned policy exposures and endorsements coming back. And I was hoping you might be able to give us a bit more color there. Are there particular areas of the economy you are seeing that more than others? Or are there other areas that still struggle a little bit? Or are there particular lines of business otherwise you're seeing that more than others?

Yes, I'll let Dick and Bryan add onto these comments. In the Commercial Lines space, I believe we were one of the most proactive carriers in terms of trying to address midterm endorsements and exposure changes that renewals for customers that frankly knew they were not going to have payrolls and sales at the level that they had originally planned for. And our view was, A, that would allow them to address some cash flow needs, but also it would allow us to not go into 2021 with a headwind on return premium audits and having to adjust renewal basis. So we'll see how that plays out over time. But what you saw in the second quarter is we had a low watermark in terms of a production that to some degree was self inflicted by us being proactive and trying to be responsive to those customers. So, I don't know, Dick, do you want to build on that?

Yes, just maybe a little color. Exactly right. In the small commercial segment, we saw – we're seeing those endorsements coming, turning positive in the second half of the year. Middle market is slower to see that turn. Although we did see it turned positive in December. To your question of like where this won't surprise you, right? We're seeing positive activity in the technology sectors, professional services, human services, contractors and the laggards not surprisingly our restaurants, hospitality. So nothing all that surprising, but we do see some nice momentum starting to come through.

And this is Jeff. I would just add that hospitality and restaurants are roughly 3% of the portfolio, so it's a pretty tiny deal.

Well, great. Thank you very much the answers and best of luck in 2021.

Thanks, Matt.

Thank you, Matt.

Our next question comes from Mike Zaremski with Credit Suisse. Please go ahead.

Good morning. Maybe sticking – starting with the outlook, you can maybe kind of offer some color on, are you – which lines of business, maybe Personal Lines versus Commercial Lines that you feel better or worse about? Or I don't know if that's something you could provide, but it feels like maybe you can give us some color on whether you think kind of Personal Lines profitability tapers off a bit and in Commercial Lines is kind of where you feel the comments about rate meaningfully exceeding loss trend. Is that more kind of a Commercial Lines focused comment? And any color would be great.

Yes. Thanks, Mike. This is Jack, again. I'll say a few words about that and then ask my colleagues to chime in. In a lot of ways I would start with the fact that we are really pleased that we have a broad-based profitability across our portfolio, but we do have different market conditions on the Personal Lines side and the Commercial Lines side, which is obvious to all. I do think that as we look into 2021, there's a number of dynamics. Obviously, we think that we will see some continued annual loss frequency benefits particularly in the first half of 2021 and predominantly in Personal Lines and there is a bit of hyper-competition. We believe that as that wanes, we will see people adjust the dials. It's hard to price new business so competitively for a long period of time without getting way behind more normal loss trends. So history repeats itself. We will see those dials get adjusted by our competitors. And we're trying to be thoughtful about how we can be positioned when that comes back. Even if loss frequency doesn't come back all the way to what it was, how do we manage those dials so that we maintain our good profitability, but also position ourselves for – to return back to the growth levels that we once enjoyed. But to your point, in Commercial Lines, it's hard to deny that the combination of a real firm market, our best profitability we've had in some time and really our focus with our agents during this time, we think the combination of those present a real opportunity for us to at least get our growth back to what it was pre-pandemic possibly better. And I would say, maybe I turn to Bryan first because in specialty, as you've seen our rate trajectory has come up pretty significantly. Our profitability has improved dramatically over the last few years. And really our approach with agents, including the total Hanover approach that we're using is really coming into its own.

Yes. Sure, Jack. Thanks. Yes. And I'll just add onto that. I'll point back to the comments you’ve made earlier about the increased rate that we've been able to get quarter-over-quarter, right. Ending the year at 8.9% in the fourth quarter, following 7.2% in the third quarter, and that continued through December and into January, as we were able to achieve growth in Q3 and in Q4, and we feel good about what we're seeing in January as well. So I think that feels good. And when I look at it in terms of just to help the profitability of our book, sort of the way we positioned ourselves to grow our most profitable lines. And frankly, if you think about what's happened in the middle market space and the small commercial space, rates have going up, right. That's where we focus. And so we're able to now continue to drive that rate and expand our ability to capture more of that middle market business because it's more favorable due to the price increases that does as Jack said, would allow us to better penetrate our agents, leverage our total Hanover approach. So I feel pretty enthusiastic about specialties growth opportunity and our profitability.

Okay, great. Very helpful and comprehensive. I guess my last question. So shifting to capital management a bit, the stock valuation has improved a bit. Maybe you can kind of give us some clues about how you think about payback period in terms of buying back the stock. I guess if we think about profitability dynamics for next year, it looks like profit levels are trending a very healthy levels and growth still kind of mid-single digits. It's healthy, but maybe should we be thinking buybacks can be a material lever again, if valuations stay at current levels?

So thanks, Mike. This is Jeff. We left the third quarter and talked about it clearly, we had added some capital through some debt that we issued. And that created meaningful additional capital in addition to what we already had. We put a plan together at mid-single digits. And you're right, with the earnings where they are, we create a lot of capital in a year. We feel very comfortable on a payback period or valuation perspective where the stock sits today. So we'd love to grow more rapidly and use more of that capital, but I suspect that stock buybacks will end up being a portion of our capital management throughout the year.

Great. Thank you very much.

Thanks Mike.

Our next question comes from Paul Newsome with Piper Sandler, please go ahead.

Good morning. At the end of the day, 2020 was the pandemic a net negative or net positive on the underwriting performance for your workers comp with the obvious offsets back and forth? How did it ultimately shake out for the year?

Okay. Yes, I believe you said worker's comp. I just want to make sure I heard that correctly Paul.

Yes.

Okay. Yes. Listen, I think as we've talked about before, I having been around the workers comp business for 3.5 decades, I continue to be amazed at the loss trends and not only benign, but negative loss trends over a couple of the years in the last half a dozen. So this year is a little bit – 2020 was – we're still trying to understand the underlying loss trend and how that will come back when the economy gets more fully intact. I think to answer your question though, net-net it was still a very strong year for us. We're trying to be very thoughtful about our accident year picks. We continue to generate favorable prior development just based on those amazingly low loss trends in the past that were below our original picks. The thing that we know is that as the economy picks up, you have to be mindful of people that are coming back to work environment or people getting retrained. So you will see us continue to be thoughtful about our picks. But I'll kind of end with my final thought, it’s around I still believe the workers comp trends into the future are eventual tailwind for our growth. That we believe the profitability of our book and the relatively low penetration level we have particularly in middle market will allow us to become an even more fulsome account writer and a more robust workers comp underwriter. As that pendulum swings back and you start to see rates move back into the business. And we did see in 2020 lower discretionary credits on our book and some improvement in the underlying state rates that give me – that encouraged me about how we can proceed in 2021.

Just to amplify those remarks a little bit. If you were to look at the P&L from workers comp, in terms of either prior year development or the current accident year loss ratio, you'd see it is largely the same in 2020 as it was in 2019. However, the frequency underlying that is down very substantially. And as we said in our prepared remarks, we took the opportunity to be really conservative with 2020 loss picks because of the uncertainty around rate. And then also as Jack mentioned, the uncertainty about what losses are going to be like over time. But I suspect once the uncertainty resolves itself we will look back at 2020 fully developed and find that it was quite a profitable year for the firm.

Thank you. I want to make sure I've got the simple math, right. With respect to your guidance on premium next year. You're getting mid-single digit rate, you were flat this year hopefully the economic effects of the pandemic go away. Am I right to say that essentially what you're thinking about next year is sort of a stable price environment and same kind of rate increases, but essentially the exposure decline is going away next year and the headwind incoming sort of calm winds, I guess. Is that the right way to think about it?

So I think over the course of the year, you'll see some changes. So the exposure will start springing back and then we'll continue with more repeadity as you get later in the year. We expect rate to continue and be strong, particularly in the Commercial Lines and even more so in the specialty businesses, where commercial retention should maintain itself and we're optimistic that Personal Lines retention will actually increase over the course of the year.

Okay. Thanks a lot. Appreciate it.

Thank you, Paul.

[Operator Instructions] Our next question comes from Meyer Shields with KBW. Please go ahead.

Great, thanks. Good morning all.

Good morning Meyer.

Jeff you mentioned, I think in your comment you expect frequency for personal and commercial auto to back towards pre-pandemic, of course get back to pre-pandemic levels by the fourth quarter. I know there's a thesis bouncing out – bouncing around out there, expecting more people to work from home and therefore lower frequency than before the pandemic was. There’s something you could talk about your flexibility to quickly adjust rate if that lower frequency scenario plays out.

Yes, I think Dick is probably best positioned to cover the flexibility, right?

Yes, absolutely. So Meyer, the investments we made in our technology really enable us to be quite agile with this on this notion. And we were watching this frequency question intensely, right. We built a towering strength in our organization, in claims, in claims and analytics function where we can watch the trend real time. What kinds of claims are coming through, how are they presenting themselves, what's the duration, so with claims and actuarial in business, sort of watching that and then of course making determination of how to act. And we can act very quickly, we've instituted the ability to adjust caps, inflation guards and those don't require a filing but we're not waiting for state filings to come through. And on the new business side, should we decide to do that. We've made some tweaks, adjustments to tiering are very easy for us to make so it's a matter of putting in place and you start to see the effect 30, 60 days later.

Yes. Okay. That's very helpful. I guess a second question, probably unrelated, but when we look at as it's coming through from the various consolidation agreements, does that business typically carry a different combined ratio than other new business that you'd be generating?

Hi, this is Jack, Meyer. The way we've tried to assess that over the last half a dozen years as we've ramped more and more of our new business in both Personal Lines and small commercial and to some degree into our small specialty business is looking at leading indicators of claim frequency and looking at the mix of the business that comes through a kind of a market consolidation or pipelining versus the flow or more transactional. There's no doubt that the business that's coming through market consolidation and leveraging our analytics, our agency insight tool has a better mix and has some initial benefits in terms of our claims frequency. So that we think that's a strong leading indicator, that business is as good or better. And that is important because new business pricing is always a little bit more aggressive than renewals in the marketplace. And if you can have an advantage on the maturation of those loss ratios, that can be hugely helpful to your retention and eventually your profitability. So net-net is yes, we believe that businesses favorable to mix and favorable to our profit trajectory.

Okay. Outstanding.

Well, Sarah do we have anyone in the queue?

This will conclude our question-and-answer session. I would like to turn the conference back over to Oksana Lukasheva for any closing remarks.

Thank you everybody for participating on our call today. And we're looking forward to talking to you in next quarter.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.