Earnings Call Transcript - AMSF Q1 2021

Operator, Operator

Good day, everyone, and welcome to the AMERISAFE 2021 First Quarter Earnings Conference Call. At this time, I would like to turn the conference over to Vincent Gagliano, Chief Risk Officer. Please go ahead.

Vincent Gagliano, Chief Risk Officer

Good morning. Welcome to the AMERISAFE 2021 First 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 the results of risks, uncertainties and other factors, including 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 Janelle Frost, AMERISAFE's President and CEO.

Janelle Frost, President and CEO

Thank you, Vincent, and good morning, everyone. Since our February earnings call, the level of competition in workers' compensation has not changed. Approved loss costs continue to decrease, albeit at a slower rate of decline. There are reports of agents seeing slight rate increases in workers' compensation. However, I believe this is isolated to particular states and industry groups. AMERISAFE has not experienced the ability to raise rates within our classes of business. Overall, insurance carriers are reporting shrinking workers' compensation premiums in part due to pricing and in part due to declining payrolls. Certain industries have not yet rebounded from the pandemic-related unemployment levels and continue to experience lower payrolls. Economic conditions impacted our insurance payrolls, but I conclude to a lesser degree, given the industries we insure. Our high-hazard industries were deemed essential during the pandemic, and much of the work was performed outdoors. Driven by increasingly positive economic conditions, we have some optimism for the second half of the year. The increasing number of vaccinations provides optimism for public health and for the economic outlook. In addition, the potential for an infrastructure bill being passed could positively impact the industries we insure. For example, the current proposed bill includes spending on highways, bridges, and roads, which are right in AMERISAFE's wheelhouse. We also saw other positive signs in the quarter. We wrote 4.4% more policies in the quarter compared to the first quarter of 2020. We saw improvement in our new business and continued to experience strong policy retention of 93.4% for those policies for which we offered renewal. Offsetting the policy growth was average loss cost declines of 7.7%. Our ELCM for the quarter was 1.54, compared to 1.57 in the first quarter of 2020, continuing our pattern of being slightly lower each quarter from the prior year. As a result of voluntary premiums written in the quarter, we were down 3% compared to the first quarter of 2020. Additionally, we experienced less robust audit premium and other adjustments. The first quarter of 2021 audit and other premium adjustments were $300,000, compared to $3.6 million in the first quarter of 2020. Still, audit premium for the quarter was positive, which speaks to my earlier comment on our insureds' ability to work during the pandemic. It is an important distinction that, generally, audit premium in the first quarter of 2021 reflects the difference in estimated payroll activity for annual policies written in the fourth quarter of 2019. Therefore, the audit premium we recognized are audits conducted during the quarter, which was impacted by the slowing of work activity during the pandemic-related recession. Overall, gross premiums written for the quarter were down 6.4% from the first quarter of 2020. Moving on to losses. The loss in LAE ratio for the quarter was 55.9%. Our loss estimate for Accident Year 2021 is 72%, down 0.5 percentage point from the Accident Year 2020. We spoke about this estimate in our February call. The decline in the estimate is in recognition of favorable severity trends we experienced in more recent accident years. I acknowledge frequency declined, particularly in 2020. However, our book of business is low-frequency, high-severity. Based on three months of data and our assumptions regarding 2021, we believe the estimate for 2021 to be appropriate. In the quarter, we also experienced favorable case development, particularly in Accident Years 2015, 2016, 2017, and 2018. This favorable case development resulted in $11.4 million of favorable loss development, decreasing the loss in LAE ratio by 16.1 percentage points. We continue to closely monitor the impact of the pandemic on the cost of claims. Delayed procedures, changes in methods of delivery, and the potential for medical inflation are just some of the factors which influence severity, both on the current accident year and any open claims from prior accident years. We continue to focus on getting injured workers to maximum medical improvement, back to work, and settling claims quickly. I will now turn the call over to Neal to discuss expenses, the balance sheet, and other financial metrics.

Neal Fuller, Financial Officer

Thank you, Janelle, and good morning, everyone. For the first quarter of 2021, AMERISAFE reported net income of $19.3 million, or $0.99 per diluted share, compared with $10.8 million, or $0.56 per diluted share, in last year's first quarter. Operating net income for the first quarter was $14.7 million, or $0.76 per share, a decrease of $0.12 from the first quarter of 2020. Revenues in the quarter were impacted by $5.5 million in unrealized gains on equity securities and, therefore, increased to $83.4 million, compared with $79.2 million in the first quarter of 2020. Net premiums earned decreased 10.4% to $70.7 million when compared to last year's first quarter. Turning to our investment portfolio, net investment income decreased 15% in the first quarter to $6.6 million, compared with $7.7 million in the first quarter of 2020. The decrease was driven by lower interest rates on fixed income securities, particularly on overnight investments and short-term investment securities. If you recall, for most of the first quarter last year, pre-pandemic, the Fed funds rate and overnight investments were earning 1.5% to 1.6%, compared to just five basis points in the first quarter of 2021. Because cash and overnight investments are at such low yields right now, we hold just 2.8% of the portfolio in cash and overnight investments at quarter-end compared to 6.6% last year at this time. The tax equivalent yield on our investment portfolio was 2.77% at the end of the first quarter. The pre-tax yield on the portfolio was 2.46% at the end of the quarter, down from 2.7% one year ago. Realized gains on securities sold were $300,000, compared with $1 million during the first quarter of 2020. The investment portfolio is high quality, carrying an average AA credit rating, with a duration of 3.99 and with 66% in municipal bonds, which includes 15% in taxable muni bonds; 18% in corporate bonds; 9% in U.S. Treasuries and agencies; 4% in equity securities; and 3% 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 $28.6 million at quarter-end. These unrealized gains are not reflected in our book value, as the bonds are carried at amortized cost. Moving now to operating expenses. Our total underwriting and other expenses were $19 million in the quarter, compared with $21.3 million in the first quarter of 2020. The decrease was largely due to lower loss-based and premium-based insurance-related assessments. By category, the 2021 first quarter expenses included $6.6 million of salaries and benefits, $5.5 million in commissions, and $6.9 million of underwriting and other costs. As a result of the favorable decline in expenses, our expense ratio for the quarter was held to 26.8%, compared with 26.9% in the first quarter of 2020. Our tax rate for the quarter was 18.3%, compared to 18.4% for last year's first quarter. Return on equity for the first quarter of 2021 was 17.4%, compared to 10% for the first quarter of 2020. Operating ROE for the quarter was 13.9%. In capital management, our company paid its regular quarterly cash dividend of $0.29 per share in the first quarter, which represented a 7.4% increase over last year's amount. This quarter, the Board declared a quarterly cash dividend of $0.29 per share, payable on June 25, 2021, to shareholders of record as of June 18, 2021. And finally, just a couple of other items to note. Book value per share at March 31, 2021, was $23.16, up 2% from $22.70 at year-end. Our statutory surplus was $384 million at quarter-end, up from $366 million at year-end. And lastly, we will be filing our Form 10-Q with the SEC today after the market close. That concludes my remarks. And we would now like to open the call up for the question-and-answer session.

Operator, Operator

We will take the first question at this time. It comes from Matt Carletti. Please go ahead.

Matt Carletti, Analyst

Yes, thanks. Good morning.

Janelle Frost, President and CEO

Good morning, Matt.

Neal Fuller, Financial Officer

Good morning.

Matt Carletti, Analyst

Janelle, I noticed a sense of cautious optimism in your opening comments about the economy and your workforce returning to work or your insured workforce. Could you clarify a few points for me? First, as hours worked increase, whether through existing employees working more or your insureds hiring additional staff, is it typical to experience a slight delay in seeing that premium? I'm thinking that while they're currently working, you might observe some losses, but part of that premium might show up later during an audit. Could there be a potential mismatch here that we should be aware of?

Janelle Frost, President and CEO

That's a great question, Matt. You're correct that if it's an annual policy, we estimate the annual premium at the start of the policy period. If the agent and the insured did not foresee an increase in activity, it won't be included in the estimated annual premium. So during the policy period, if the insured is working additional hours, we might incur losses, but the premium will not be recognized until we conduct the audit.

Matt Carletti, Analyst

Okay. And then kind of another thing I think a lot of people have an eye on is just inflation; like, what inflation is doing. And so to the extent there's just wage inflation, and so I'm not talking more hours worked, but just workers getting paid more, is that favorable to your loss ratio in the sense that you're not necessarily picking up exposure; you're just getting paid more for it?

Janelle Frost, President and CEO

That’s exactly right. So yes, we like wage inflation. That means we collect more premium. Even if it means we are paying out a little bit more on the indemnity side, it's definitely a win for us in terms of just the revenue.

Matt Carletti, Analyst

Okay, great. We've been in the pandemic for about 15 months now. What do you think are some of the things that have occurred during this time? Whether it's adjustments that AMERISAFE has made or changes your injured workers have experienced, like using Zoom for medical consultations, or perhaps other aspects I haven't considered. Do you foresee any lasting effects from the recession, whether positive or negative?

Janelle Frost, President and CEO

That's a valuable point. I'm uncertain about the long-term effects of the recession. We certainly learned lessons as a company from the events of 2020. A key example is that, despite our fatigue with virtual meetings and the desire to meet face-to-face, these online platforms also create opportunities. We can bring together an agent, a TSM, an underwriter, a safety professional, and even a claims professional on the same call, fostering relationships and connections. This proved advantageous for us, especially in the first quarter of this year. If we can maintain this approach as people return to their offices but might still be hesitant to welcome in-person visitors, it will help us strengthen our relationships. As you know, AMERISAFE's business model relies heavily on relationships with our agents, their clients, and injured workers. This will be beneficial for us moving forward as a lesson learned. You mentioned telemedicine, and I believe it will certainly influence workers' compensation in the future. We had to adopt it due to the shutdown, even though we might have been slow to embrace it otherwise. I expect it will have a lasting effect on the field. It will be interesting to observe how it is implemented as the economy revitalizes and the healthcare sector recovers. The medical community will determine how telemedicine is utilized, as we cannot dictate whether telehealth visits or in-person appointments occur. I'm curious to see if they will support this shift. Furthermore, there’s always the question of fees—whether they will be compensated more, less, or the same for telemedicine services. This will be a factor to watch closely, as it could lead to increased medical costs, or it might balance out in the end. I'm eager to see how this develops.

Matt Carletti, Analyst

Okay, great. And then last quick one. I apologize. I'm sure you mentioned it and I missed it. But the ELCM for the quarter?

Janelle Frost, President and CEO

1.54.

Matt Carletti, Analyst

All right. Great. Thank you so much. Congrats for the nice start of the year.

Janelle Frost, President and CEO

Thank you, Matt.

Neal Fuller, Financial Officer

Thanks, Matt.

Operator, Operator

We will take the next question. It comes from Mark Hughes. Please go ahead.

Mark Hughes, Analyst

Yes, thank you. Good morning.

Janelle Frost, President and CEO

Good morning, Mark.

Mark Hughes, Analyst

Janelle, did you give us the number of large claims in the quarter?

Janelle Frost, President and CEO

I didn't, Mark. We had one, which can be exciting to say, oh, we had one. If I recall, last year at this time we had one, and we ended the year with 18. I always have to remind myself we're in a lumpy business. There doesn't seem to be a rhyme or reason to when those large claims happen as far as timing throughout the year. So at the end of the quarter, there was one, but there was one at the end of the first quarter in 2020, as well.

Mark Hughes, Analyst

Well, so far, so good.

Janelle Frost, President and CEO

Yes, I'm sorry did I not sound grateful. I'm grateful.

Mark Hughes, Analyst

And you might have touched on this, but kind of frequency in 1Q, large claims aside. Clearly, 2020 frequency was below what would have been expected. How has that trended when you think about the last few months and even the end of 2020?

Janelle Frost, President and CEO

Yes, frequency was obviously down in 2020. Reported claim counts were down. If you look at the 10-Q, you will see reported claim counts were down slightly in 2021 as well. I keep focusing on the fact that we're not frequency-driven; we're severity-driven. So it really is going to matter what happens with average severity in 2021. And yes, with three months of data, I can say, oh, it's in line with my expectations. It's three months of data.

Mark Hughes, Analyst

Yes. Okay. And then the new business was up. Can you talk about that? How much of that was brokers maybe being more up and running, more underlying business activity, more small business, more construction? Could you maybe give a little depth on that?

Janelle Frost, President and CEO

Absolutely. I will start with your question about brokers and agents. I do think brokers and agents are getting back into the flow of things, getting things going again. As I mentioned, we've really been focusing on building those relationships, taking that time that everybody was going, what's happening, and reintroducing ourselves in terms of how they can work with their underwriter and their safety professional and their claims person and just building those relationships so they can translate that to their clients, which is the AMERISAFE proposition, right, the services that we offer. We did see an improvement in new business in the quarter, and it was coming from roofing. Roofing is our single largest class; I guess trucking now is considered one class of business. But roofing within the construction class has always been a really good class of business for us, and we saw improvements in roofing in the first quarter. Unfortunately, I can't tell you if that's maintenance roofing or if that's new construction. I can just tell you it's roofing. So we saw improvement in roofing. We saw improvement in manufacturing was another positive for us in the quarter.

Mark Hughes, Analyst

And then I should have asked in terms of claims, was there any indication that there might have been any catch-up in claims? Did you get any sense that some of these were late-reported claims?

Janelle Frost, President and CEO

No, we don't have many late reported claims in our business lines. We focus on severity, so they inform us quickly about severe injuries. Late reported claims don't significantly affect us, unlike cases like carpal tunnel claims.

Mark Hughes, Analyst

Yes, exactly. When you put it all together, do you think this is turning a corner? If you were down 3% on a voluntary basis, excluding auto premium, which may also not perform well next quarter, what do you think about the 1Q20 policies? Do you think they will have the same impact here, or will the audit reveal less upside? Or was that already accounted for at this time last year?

Janelle Frost, President and CEO

No. I think that we will have the same impact.

Mark Hughes, Analyst

Okay. All right. Then I will get back to my earlier question, which was do you feel like we've turned some kind of corner here given the multiple speakers down 3%?

Janelle Frost, President and CEO

I definitely feel like there are some positive signs that I can point to, right?

Mark Hughes, Analyst

Yes.

Janelle Frost, President and CEO

Whether we've truly turned a corner remains to be seen. I wish I had a crystal ball to provide an answer. However, I do sense a growing optimism among businesses and in the economy with the rollout of vaccinations, which is contagious. Hopefully, this translates into real outcomes, leading to increased capital expenditures, new contracts, and construction projects. There is even the potential for an infrastructure bill. There are several positive indicators to consider. Therefore, I would say that we are cautiously optimistic.

Mark Hughes, Analyst

Yes, okay. Yes. So far so good as they say.

Janelle Frost, President and CEO

That’s why I’m going to write these things, so far so good.

Mark Hughes, Analyst

Okay. Thanks. I appreciate it.

Janelle Frost, President and CEO

Thank you, Mark.

Neal Fuller, Financial Officer

Thanks, Mark.

Operator, Operator

We will take the next question at this time. Caller, please go ahead.

Randy Binner, Analyst

This is Randy Binner from B. Riley. Am I the next caller?

Janelle Frost, President and CEO

Hi, Randy.

Neal Fuller, Financial Officer

Hi, Randy.

Randy Binner, Analyst

Hey. Sorry, I didn't catch the intro there.

Janelle Frost, President and CEO

Welcome.

Randy Binner, Analyst

I’m primarily curious about the same topics as the other analysts. My ongoing question has been, as we hear from the larger writers in the competitive space and others who may be a bit more distant from the competition, there seems to be a confidence that the market is going to improve next year because it’s overdue. However, there appears to be a lack of supporting evidence for that belief. Is this perception of an impending market turnaround simply based on the idea that it is time for a change? I’m interested to know if the situation is different for general workers' compensation, especially in cases where it’s part of a broader package or falls into a non-hazard class. Is there a distinct narrative for other sectors within the workers' comp industry?

Janelle Frost, President and CEO

It really depends on what you mean by the markets turning. Workers' compensation, whether it's monoline or multiline, is still generating a profit. Even with the estimates from NCCI and A.M. Best, profitability remains below 100. However, it is deteriorating. Both A.M. Best and NCCI project that the combined ratio will increase by a point or two. In that sense, the industry is still profitable. If you're referring to a turn in premium growth, there are a couple of factors at play. While discussing with Matt and Mark, I focused on payrolls, work activity, and the economy. All those elements are relevant, but loss costs continue to decline. We're still facing the issue of decreasing rates, which reduces premium dollars. The latest rate filings show a decline of around 20% in Virginia, while Hawaii has a decline of almost 6%. There are a few states experiencing increases in loss costs, regardless of what carriers are charging. Carriers are still trying to manage this situation as rates continue to drop. Even if we see positive indicators in the economy or workforce, this challenge will persist in 2021 and isn't going away.

Randy Binner, Analyst

I guess the other kind of observation I would have, if you can help with, and this one might be tricky, too, but I would generally think of the kind of excess reserve pool along with the current accident year loss pick as both kind of trending downwards. So those are offsetting items. Would that generally be the natural way we'd kind of transition to the other side of the market from your view when pricing is higher again?

Janelle Frost, President and CEO

That's definitely an important indicator to consider. Are you noticing a decline in loss reserves? Are you experiencing adverse development? It will be intriguing to see the effects of 2020 on workers' compensation overall. Considering the industry, with the significant reduction in frequency in 2020, what implications does that have for redundancies and deficiencies? Does it possibly conceal issues that may arise in the coming year? We will have a clearer picture by the end of 2021 as we move into 2022. If we observe companies adjusting their current accident year loss picks or recognizing development from earlier accident years, especially for 2020 and 2021, and if they acknowledge this development at a different pace than usual, it could indicate potential deterioration in those excess reserves.

Randy Binner, Analyst

All right. I leave it there. Thank you so much.

Janelle Frost, President and CEO

Thank you.

Neal Fuller, Financial Officer

Thanks, Randy.

Operator, Operator

It appears there are no further questions at this time. Janelle Frost, I'd like to turn it back over to you for any closing remarks.

Janelle Frost, President and CEO

Okay, great. Thank you. I’m somewhat amazed how a small dose of vaccine has the potential to end a global pandemic, return us to normalcy, and boost the economy. Nevertheless, I'm happy to find elements of good news to point to. Because of our employees, our operations, and our earnings over the 35-year history, AMERISAFE continues to respond to the needs of our agents, their clients, and injured workers through the peaks, the valleys, and everything in between. Thank you for joining us today.

Operator, Operator

That concludes today’s conference. Thank you for your participation. You may now disconnect.