Earnings Call Transcript - EIG Q1 2023

Operator, Operator

Thank you for your patience, and welcome to the Employers Holdings First Quarter 2023 Earnings Conference Call. I will now introduce your host for today's program, Lori Brown, Executive Vice President and General Counsel. Please proceed.

Lori Brown, Executive Vice President, General Counsel

Thank you, Jonathan. Good morning, and welcome, everyone, to the first quarter 2023 earnings call for Employers. Today's call is being recorded and webcast from the Investors section of our website where a replay will be available following the call. Presenting today on the call will be Kathy Antonello, our Chief Executive Officer; and Mike Paquette, our Chief Financial Officer. Statements made during this conference call that are not based on historical facts are considered forward-looking statements. These statements are made in reliance on the safe harbor provision of the Private Securities Litigation Reform Act of 1995. Although we believe the expectations expressed in our forward-looking statements are reasonable, risks and uncertainties could cause actual results to be materially different from our expectations, including the risks set forth in our filings with the Securities and Exchange Commission. All remarks made during the call are current only at the time of the call and will not be updated to reflect subsequent developments. The company also uses its website as a means of disclosing material nonpublic information and for complying with disclosure obligations under SEC's Regulation FD. Such disclosures will be included on the Investors section of the company's website. Accordingly, investors should monitor that portion of the company's website in addition to following the company's press releases, SEC filings, public conference calls, and webcasts. In our earnings press release and in our remarks or responses to questions, we may use non-GAAP financial metrics. Reconciliations of these non-GAAP metrics to our GAAP results are included in our financial supplement as an attachment to our earnings press release, our investor presentation, and any other materials available in the Investors section on our website. Now I will turn the call over to Kathy.

Kathy Antonello, Chief Executive Officer

Thank you, Lori. Good morning to everyone, and thanks for joining us today. To start this morning, I'll provide some highlights of our first-quarter 2023 financial results. Then I'll hand it over to Mike for further details on our financials. And prior to Q&A, I'll touch on a few of our digital initiatives that we plan to complete in 2023. I'm very pleased with our first quarter results. Continued premium growth, significantly higher net investment income, and a return to net investment gains drove a 36% increase in revenue year-over-year. Our written and earned premiums in the quarter were up 13% and 15%, respectively. The strong increase arose from higher new renewals and final audit premiums, and two recent initiatives also contributed to the growth. The first is our thoughtful and disciplined expansion within the low to medium hazard group classes, and the second was the successful implementation of phase one of our new sales and underwriting operating model, which was designed to create efficiency and optimize our agent engagement in our core business segment. As a result of these efforts, we ended the quarter with yet another record number of policies in force. Our net investment income was up 45% for the quarter. The sharp increase was primarily due to higher market interest rates impacting bond yields and higher invested balances of fixed maturity securities. We earned $28 million of net investment income during the quarter, which is significantly higher than any other quarter in our history as a publicly traded company. Our income statement further benefited from $8 million of net investment gains, a markedly different result than the $17 million of net investment losses we experienced a year ago. From an underwriting standpoint, we set our current accident year loss and LAE ratio on voluntary business at 63.3% versus 64% recorded throughout 2022. We did not recognize any prior year loss reserve development this quarter because the full actuarial study was not performed and the indications were consistent with our expectations. We will evaluate our prior year reserves in more detail at midyear when we routinely perform a full reserve study. Despite an increase in our year-over-year commission expense, our commission expense ratio improved by 0.4 percentage points to 13.5% when considering the corresponding increase in net earned premium. The same was the case with our consolidated underwriting and G&A expense ratio, which also improved by 0.4 percentage points to 25.7%. With that, Mike will now provide a further discussion of our financial results, and then I'll return to provide my closing remarks. Mike?

Mike Paquette, Chief Financial Officer

Thank you, Kathy. Gross premiums written were $195 million versus $172 million a year ago, an increase of 13%. As Kathy mentioned, the increase was due to higher new renewal and final audit premiums. Net premiums earned were $173 million versus $150 million a year ago, an increase of 15%. Our Cerity operating segment, which offers digital workers' compensation insurance solutions directly to consumers, contributed nicely to our growth in earned premium this quarter. Our loss and loss adjustment expenses were $107 million versus a year ago, an increase of 14%. The increase was due to our higher earned premium partially offset by a lower current accident year loss in LAE provision. Commission expenses were $23 million versus $21 million a year ago, an increase of 12%. The increase was primarily due to our higher earned premiums. As Kathy mentioned, our commission expense ratio for the quarter was down by 0.4 percentage points from that of a year ago. Underwriting and general and administrative expenses were $44 million versus $39 million a year ago, an increase of 13%. The increase was primarily due to higher compensation-related expenses as well as higher policyholder dividends and bad debt expenses resulting from the increase in earned premium. As was the case with our commission expense ratio, our consolidated underwriting and general and administrative expense ratio was also down 0.4 percentage points from that of a year ago. From a reporting segment perspective, our Employers segment had pretax income of $30 million versus $2 million a year ago and its resulting calendar year combined ratios were 99% and 100%, respectively. Our Cerity segment had a pretax loss of $2 million for the quarter versus a loss of $3 million a year ago. Cerity's current accident year loss in LAE ratio since its inception has been highly consistent with those of our Employers segment. Turning to investments, our net investment income was $28 million for the quarter versus $19 million a year ago, an increase of 45%. The increase was due to higher bond yields and a higher invested asset balance as measured by amortized costs resulting from our Federal Home Loan Bank leverage investment strategy. Pursuant to that strategy, our insurance subsidiaries have received advances of $183 million from the Federal Home Loan Bank, and the proceeds from those advances were used to purchase a similar amount of high-quality collateralized loan obligation securities. Our fixed maturities currently have a duration of, and an average credit quality of A. Our weighted average book yield was 4.1% at quarter end, which is up sharply from 3% a year ago, and our new money rate today is near 6%. Our net income this quarter was favorably impacted by $6 million of net after-tax unrealized gains from equity securities and other investments, which are reflected on our income statement, and our stockholders' equity was favorably impacted by $23 million of net after-tax unrealized gains from fixed maturity securities, which are reflected on our balance sheet. During the first quarter, we repurchased $11 million of our common stock at an average price of $42.24 per share. And thus far, we have repurchased an additional $6 million of our common stock in the second quarter at an average price of $42.29 per share. Our remaining share repurchase authority stands at $31 million. And finally, earlier this week, our Board of Directors declared a second quarter 2023 regular quarterly dividend of $0.28 per share, an increase of 8% from the prior quarterly dividend of $0.26 per share. This action reflects our strong balance sheet, abundant underwriting capital, and our confidence in the company's future operations. And now I'll turn the call back to Kathy.

Kathy Antonello, Chief Executive Officer

Thank you, Mike. Over the last few quarters, we've been actively identifying areas where increased automation and digitization can unlock further improvement in our combined ratio, our workforce experience, and our customer experience. Our focus now is on implementation. Just last week, we enabled e-delivery of policyholder documents. This initiative brings numerous benefits, allowing our policyholders to go green and reducing our fixed expenses. During 2023, we've also committed to producing a best-in-class electronic claims intake process that will make it easier for our claimants to provide all the required information and reduce handling time for our claim intake staff. As a unique specialist in small business workers' compensation, we continue to be well-positioned to further benefit from the favorable trends and opportunities that we're seeing and remain confident in our continued success. And with that, operator, we'll now take questions.

Operator, Operator

Our first question comes from Matthew Carletti from JMP Securities.

Matthew Carletti, Analyst

Kathy, I was hoping maybe you could just kind of give us a high-level view of obviously a dynamic environment, and you noticed the accident year loss ratio pick improved a little bit. Can you just maybe elaborate back a little bit and so we understand how what's going on with what you're seeing in frequency and severity trends, pricing? I know that can vary a bit by state, but obviously, California is a big piece. And then maybe the last piece I'm most interested in is what you're seeing in kind of the payroll growth really from a wage inflation perspective? And what feel you might have or how much of that might act like rate versus what might be more true exposure?

Kathy Antonello, Chief Executive Officer

Let me start by discussing the accident year loss and loss adjustment expense ratio you mentioned. Our current ratio is determined by our actuaries and takes into account the pricing environment in each state and our growth prospects there. It also considers the trends in frequency and severity, as well as any initiatives we might implement that could affect our results. We opted for a slightly lower accident year loss and loss adjustment expense ratio this year, but I wouldn't read too much into that change. We generally select the ratio at the start of the year based on the current environment and maintain it until there's a solid reason to revise it. As for pricing, we find the environment remains quite competitive, particularly for smaller policy sizes. We're having more success with policies that are larger than our average size, which is around $5,200. This success can be attributed to our new sales and underwriting operating model. When we adjust our renewal book for changes in exposure, our average pricing for the first quarter of 2023 shows a slight year-over-year decrease, though this varies by state. California remains our largest market, making up about 45% of our portfolio, and our results there are favorable. We have recently refined our pricing methodology in California, which we believe will create more opportunities. Economic factors and our expanded appetite led to a 16% increase in California premiums for the first quarter of 2023 compared to 2022. This week, the WCIRB governing Committee voted to file for a pure premium increase of about 0.3%, which is reportedly due to some downward indemnity development, stable medical development, and flat frequency; it’s still uncertain what the Commissioner will approve. Regarding frequency and severity, the 2022 accident year data indicates a decline in frequency compared to previous years, and early indications for 2023 also suggest a lower trend, evident in both California and other states. On the growth and economic front, the unemployment rate around 3.5% is favorable for workers' compensation. The rise in employment levels and wages is affecting our policies more significantly than average, contrasting with the negative impact we saw as the economy deteriorated during COVID. In particular, strong wages in the leisure and hospitality sector are leading to significant audit pickups and endorsement activity. I'll stop there and see if you have further questions.

Matthew Carletti, Analyst

No, that's perfect. My only follow-up is regarding the audit side. With the increase in wage inflation, do you have an idea of how much of that is due to exposure? Specifically, is it related to employees working more hours or the addition of more employees, or is it more about current employees receiving higher pay for the same work? I believe the latter would be more advantageous for you.

Kathy Antonello, Chief Executive Officer

Both factors are contributing to the significant increase in the audit premium. Our audit accrual remains unchanged this quarter at approximately $37 million. We saw substantial audit pickups in the first quarter, which continued into April. Additionally, we recognized nearly $4 million in noncompliant premium during the first quarter. The increase is driven by both rising payrolls due to hiring and wage increases.

Matthew Carletti, Analyst

Okay. Great. That's wonderful. Thank you for helping me put the puzzle together.

Operator, Operator

And our next question comes from the line of Mark Hughes from Truist.

Mark Hughes, Analyst

Kathy, you mentioned frequency decreasing in 2022 and continuing to decline in 2023. Did you also discuss severity, or was that included in your comments on frequency?

Kathy Antonello, Chief Executive Officer

I did not discuss severity, but it is following the same trend as in previous years; accident year 2022 is emerging lower than prior accident years. We are particularly observing this in California and other states, where it is either flat or showing a slight increase, but nothing alarming.

Mark Hughes, Analyst

Do you think the NCCI is going to do in terms of loss costs for 2023? When we get all the state data, how do you think that's going to look?

Kathy Antonello, Chief Executive Officer

Well, it's tough to say. I don't have a crystal ball, but I would say the indications that just the fundamentals that we're seeing and what I just mentioned with frequency and severity trends and so forth, there's nothing that I'm seeing that would indicate that there should be any shift, but perhaps they will see something in the data that we haven't seen thus far because we are focused on small and low hazard, and their filings reflect the larger market in total.

Mark Hughes, Analyst

Okay. And if there's no change, is that down mid- to upper single digits?

Kathy Antonello, Chief Executive Officer

Mark, are you there?

Mark Hughes, Analyst

I am. Can you hear me? I'm still here, Kathy, can you hear me?

Kathy Antonello, Chief Executive Officer

Hello?

Operator, Operator

One moment.

Mark Hughes, Analyst

Yes, Kathy, can you hear me?

Kathy Antonello, Chief Executive Officer

Sorry. Is that you, Bob? You're breaking up on our end. We can't hear you. Can you repeat your question?

Mike Paquette, Chief Financial Officer

Operator, I can hear you.

Mark Hughes, Analyst

And I can hear you, and I can...

Kathy Antonello, Chief Executive Officer

You're breaking up on our end.

Mark Hughes, Analyst

I'm happy to dial in. I've got a few more questions.

Kathy Antonello, Chief Executive Officer

I can hear you but it's very broken up. Can you hear us?

Operator, Operator

Mark, I'm going to try moving to our next question, just to see if that makes a difference. You can get back in the queue.

Mark Hughes, Analyst

Very good. We'll do.

Operator, Operator

One moment. Our next question comes from the line of Bob Farnam from Janney.

Kathy Antonello, Chief Executive Officer

We seem to be having technical difficulties with the phone line on this end.

Robert Farnam, Analyst

Can anybody hear me or am I just going to talk to...

Kathy Antonello, Chief Executive Officer

Seems technical difficulties with the phone line on this end.

Operator, Operator

Bob, I can hear you just fine.

Kathy Antonello, Chief Executive Officer

We could end the call and take questions offline.

Robert Farnam, Analyst

That's fine.

Kathy Antonello, Chief Executive Officer

That's better.

Operator, Operator

You can hear us, Kathy?

Kathy Antonello, Chief Executive Officer

It sounds better now.

Operator, Operator

Okay. Bob, do you want to go ahead and try to ask your question?

Robert Farnam, Analyst

Yes, if you can hear me. I had a couple of questions, but 1 was regarding the FHLB loan investment strategy, just kind of what we should expect from that in 2023?

Kathy Antonello, Chief Executive Officer

Now we can.

Robert Farnam, Analyst

You can hear us?

Operator, Operator

You can hear again? Kathy, are you hearing us?

Michael Paquette, Chief Financial Officer

Sure thing, Bob, I’ll take that. We have $180 million to $182.5 million in loans and related investments.

Kathy Antonello, Chief Executive Officer

We can.

Robert Farnam, Analyst

Am I clear?

Operator, Operator

Yes, you're very clear. Can you hear me now? No, I guess not.

Kathy Antonello, Chief Executive Officer

I can hear you. Can you hear us?

Operator, Operator

Yes.

Kathy Antonello, Chief Executive Officer

So I think since there are technical difficulties on the line, we will end the call, and we'll be happy to answer questions offline.

Operator, Operator

Certainly. Ladies and gentlemen, we apologize for today's technical difficulties. Thank you for your participation. You may now disconnect...

Kathy Antonello, Chief Executive Officer

Yes, we can.

Michael Paquette, Chief Financial Officer

Are we coming through now?