Amerisafe Inc Q2 FY2021 Earnings Call

Good day, ladies and gentlemen, and welcome to the AMERISAFE 2021 Second Quarter Earnings Conference Call. Today's conference is being recorded. At this time, I'll turn the conference over to Kathryn Shirley, Chief Administrative Officer. Please go ahead.

Good morning. Welcome to the AMERISAFE 2021 Second Quarter 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 may differ materially from the results expressed or implied in these statements if the underlying assumptions prove to be incorrect or as a result of risk, uncertainties, and other factors, including factors discussed in today's earnings release and the comments made during this call and in the Risk Factors section of our Form 10-K, Form 10-Q, and other reports and filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statement. I will now turn the call over to Janelle Frost, AMERISAFE's President and CEO.

Thank you, Kathryn, and good morning, everyone. I generally begin these calls with an update on the workers' compensation market. This quarter, there are no substantial changes in the market for which to provide an update. Approved loss cost decreases are averaging in mid-single digits and competition is strong. As for AMERISAFE, our combined ratio of 74.4% for the quarter resulted from favorable case development from accident years 2019 and prior and a competitive expense ratio. Our long view approach to underwriting discipline and claims management continues to produce underwriting margins above industry levels. We are focused on remaining competitive and disciplined in our underwriting. In the quarter, this resulted in flat policy count, with pricing down from the prior year quarter. Our ELCM was 1.52. New business buys in the quarter were less than the prior year quarter, but we had strong renewal retention of 93.9%. Combined, premium for policies written in the quarter was down 8.9%, with average loss cost down 6.5%. Audit premium in the quarter remained positive despite the audited policy period covering the full impact of the COVID-19 pandemic. We view this as a strong economic sign for our insurers and their respective industries. In total, gross premiums written were down 8.2% from the prior year quarter. Turning to losses. We experienced favorable case development in the quarter from accident years 2015 through 2019. This favorable case development comes from our focus on injured workers' medical care and their potential to return to work starting from the first report of injury until the claim is settled. Experience in reserving and handling claims by our claim staff is one of the many differentiators for AMERISAFE. As a reminder, our field case managers, on average, handle less than 50 indemnity claims. This is well below industry averages and allows for extensive claims management. This quarter, that focus decreased prior accident year losses incurred by $17.9 million, or 25.6 basis points. That same experience and consistency also contributed to our loss estimate for the current accident year of 72%. Frequency for the current accident year returned to pre-pandemic levels as expected. We do not know if the Delta variant surge will impact claim count later in the year. Severity for the current accident year was also within our expectations. The pandemic did not materially impact severity in our book of business. We also refer to the number of large claims as a measure of severity. At the end of the second quarter, we had 3 claims with case incurred over $1 million. The timing of when these claims occur can be random, so for comparison, there were 18 claims reported at the end of 2020 and 16 claims reported at the end of 2019. I will now turn the call over to Neal to discuss investments, expenses, and capital.

Thank you, Janelle, and good morning, everyone. For the second quarter of 2021, AMERISAFE reported net income of $23.8 million, or $1.23 per diluted share compared with $23.9 million, or $1.24 per diluted share in last year's second quarter. Operating net income for the second quarter was $20.2 million, or $1.04 per share, an increase of $0.04 from the second quarter of 2020. Revenues in the quarter decreased to $81.2 million compared with $89.1 million in the second quarter of 2020. Net premiums earned decreased 8% to $69.9 million when compared to last year's second quarter. Turning to our investment portfolio. Net investment income decreased 8.1% in the second quarter to $6.7 million compared with $7.3 million in the second quarter of 2020. The decrease was driven by lower interest rates on fixed income securities. The tax equivalent yield on our investment portfolio was 2.60% at the end of the second quarter. The pretax yield on the portfolio was 2.30% at the end of the quarter, down from 2.55% one year ago. Realized gains for the portfolio on securities sold during the quarter were $1.2 million compared with $163,000 during the second quarter of 2020. The investment portfolio is high quality, carrying an average AA minus credit rating with a duration of 3.67 and with 63% in municipal bonds, which includes 14% in taxable munis, 20% in corporate bonds, 7% in U.S. treasuries and agencies, 5% in equity securities and 5% in cash and other investments. Approximately 60% of our bond portfolio is comprised of held-to-maturity securities, which were in a net unrealized gain position of $31.2 million at quarter end. These unrealized gains are not reflected in our book value as these bonds are carried at amortized costs. Moving now to operating expenses. Our total underwriting and other expenses were $18.5 million in the quarter compared with $21.1 million in the second quarter of 2020. The decrease was largely due to lower loss-based and premium-based insurance-related assessments. By category, the 2021 second quarter expenses included $6.8 million of salaries and benefits, $5.3 million in commissions and $6.3 million of underwriting and other costs. As a result of the favorable decline in expense, our expense ratio for the quarter was 26.4% compared with 27.8% in the second quarter 2020. Our effective tax rate for the quarter was 18.5%, the same rate as in last year's second quarter. Return on equity for the second quarter was strong at 20.8% compared to 21.3% for the second quarter of 2020 when the stock and bond markets recovered from the pandemic. Operating ROE for the quarter was 18.3%. In capital management, our company paid its regular quarterly cash dividend of $0.29 per share in the second quarter. This quarter, the Board declared a quarterly cash dividend of $0.29 per share payable on September 24, 2021, to shareholders of record as of September 10, 2021. Our company continues to generate significant amounts of capital beyond that needed for our ongoing operations. Our current operating leverage measured by net written premiums to GAAP equity, that ratio is 0.62x. Our target for this ratio is 1.1x, and we will continue to manage capital to work towards that long-term target. And finally, just a few other items to note. Book value per share at June 30, 2021, was $24.19, up 6.6% from $22.70 at year-end. Our statutory surplus was $407 million at quarter end, up from $366 million at December 31, 2020. And lastly, we plan to file our Form 10-Q with the SEC tomorrow after the market close. That concludes my remarks, and we would now like to open the call up for the question-and-answer session.

We'll take our first question from Mark Hughes with Truist.

Janelle, did you give the ELCM? I think I have missed it again?

I did, 1.52, Mark.

Reflecting on the last quarter, it seems you were quite optimistic about new business opportunities and potential growth. The decline in revenue was somewhat less significant last quarter. Can you discuss what developments occurred between that time and the second quarter, given that you've been experiencing a decline in the high single digits for a while now, though there appear to be some positive signs? What are your thoughts?

That's a great question, Mark. Certainly, one quarter does not define a trend. I remain optimistic overall, as the vaccination rollouts contribute to optimism for both public health and the economy. In our last quarterly call, we discussed the infrastructure bill, which seems to be making progress according to recent headlines. However, I haven't seen any significant changes in the underlying metrics. There are elements within that bill that we believe will benefit AMERISAFE, such as $110 billion for roads and bridges, $65 billion for broadband, and possibly $17 billion for ports. These areas could positively impact the industries we insure and benefit small to midsize employers. My level of optimism has not shifted from the first to the second quarter. Like everyone else in the country, we are concerned about the delta variant and its impact on public health and the industry. The industry performed better than we initially expected during the early stages of the pandemic, and I hope the delta variant won't have a significant impact on the business side. We are in the pipeline, and I don't think much deteriorated from the first to the second quarter, although we were unable to grow our policy count as we did in the first quarter. I don't see a trend indicating a market shift; the level of competition remains unchanged. Although we may observe some irrational pricing anecdotally, it's not representative of the overall marketplace. So, I don't consider that a trend. I apologize for the lengthy response to what I believe is a straightforward question.

No, that's very helpful. Talk about the 2019 accident year, was this the first quarter that you drew from 2019?

I have the numbers here. For 2019, it was $4.5 million, 2018 was $4 million, 2017 was $4.4 million, 2016 was $2.3 million, and prior to that it was $2.7 million. This was the first quarter that we drew from 2019. When I reviewed the industry-wide numbers published in May by NCCI, I noticed a decline from 2019 to 2020. The reported figures indicated deterioration in both the calendar year and accident year from 2018 to 2019, and we saw the same trend from 2019 to 2020 in those categories. Overall, the workers' compensation industry is experiencing a decline in year-over-year experience for both calendar and accident years. In contrast, AMERISAFE is moving in the opposite direction.

Do you recall what the initial figures were when you first looked at the 2018 accident year? I think it was around $4.5 million for 2019. I'm curious about how the 2018 data appeared at that time.

That's a great question. I don't have that off top of my head, I apologize.

Yes, that's correct. The data may not be reliable due to excessive volatility. Just to clarify, the three large claims exceeding $1 million were year-to-date, with one occurring in the first quarter.

That's correct, that's correct.

I have a final question. There was some discussion last quarter about potential wage inflation possibly being beneficial. I'll combine this into two questions. Regarding renewal premium, how is that looking? Are you noticing any effects from potential wage inflation? Also, you've mentioned that the next job is crucial for many of your construction customers. What is your current perspective on that?

Yes, let's discuss wage inflation first. We experienced a payroll increase of approximately 2.9%, with about 80% attributed to wage inflation and 20% to new hires. We are very confident in these figures, which were consistent across most of our industry sectors, except for oil and gas, which is a minor part of our business. This was observed in the second quarter. Regarding your question about the next job, we are closely monitoring the supply chain. There are capital expenditures ready to go, but we anticipate some delays related to the supply chain and the necessary processes involved. On a positive note, the lumber industry has performed well for us, with increased activity in the second quarter.

And Mark, on your question about renewal retention, our policy retention for the quarter was strong at 93.9% for those with the offered renewal, that compares to 93.7% last year in the same quarter. So it tends to be running fairly strong in that 93% to 94% pretty much for the last several years. People staying with us once they understand the value of AMERISAFE.

We'll take our next question from Matt Carletti with JMP.

Mark sold most of my questions. He had some good ones. Just want to follow up on kind of that last point payroll inflation. It was a topic I wanted to talk about. Can you just help us a little bit with the mechanics of kind of timing in terms of if you were to see it, right? And I'm thinking more actual wage inflation as opposed to number of jobs increasing. So just kind of what's been talked a lot in the market in terms of just wages going up. Have you seen much evidence of that? I think you kind of answered that already. And secondly, like would you really expect to yet, if it's happening or is that more of a function that will really get caught on the audit as the policies wrap up in the months following?

Yes, I believe you’re approaching it correctly, Matt. The impact on premium dollars for our renewals will be reflected in the audit. On the new business side, if companies anticipate higher payrolls, that will contribute to new business premiums, regardless of the quarter we record it. However, for a significant part of our portfolio, you’re correct that this won’t be evident in premium dollars until the policy is audited 18 months after the effective date.

Got it. Okay. Just want to make sure I understand that correctly. Great. That's all I got. I have missed ELCM as well for what it's worth, so thank you.

I said it's too early. People were still dialing in.

Ladies and gentlemen, this does conclude today's question-and-answer session. I would like to turn the conference back to Janelle Frost for any additional or closing remarks.

What a difference a few months can make. It has just been 3 short months ago, I spoke of the optimism for public health and the economy due to vaccination rollouts. And now we're facing another COVID surge and uncertainty is again at the forefront of economic news. I believe the industries and employers we insure fared well economically in 2020 and should continue to do so. In the meantime, please stay safe and well. Thank you for joining us today.

Ladies and gentlemen, this does conclude today's conference. We appreciate your participation. You may now disconnect.