Global Indemnity Group, LLC Q2 FY2022 Earnings Call

Good day, and welcome to the Global Indemnity Group LLC's Second Quarter 2022 Earnings Conference Call. I would now like to introduce Stephen W. Ries, Head of Investor Relations.

Thank you, operator. Today's conference call is being recorded. GBLI's remarks may contain forward-looking statements. Some of the forward-looking statements can be identified by the use of forward-looking words, including, without limitation, beliefs, expectations or estimates. We caution you that such forward-looking statements should not be regarded as a representation by us that the future plans, estimates or expectations contemplated by us will, in fact, be achieved. Please refer to our annual report on Form 10-K and our other filings made with the SEC for a description of the business environment in which we operate and the important factors that may materially affect our results. Global Indemnity Group LLC is not under any obligation and expressly disclaims any such obligation to update or alter its forward-looking statements, whether as a result of new information, future events or otherwise. It is now my pleasure to turn the call over to Mr. David Charlton, Chief Executive of GBLI.

Thank you, Steve. Well, good morning. Thank you for joining our earnings call. In addition to Stephen Ries, Tom McGeehan, our Chief Financial Officer; and Jonathan Oltman, President of Insurance Operations, are also in attendance. Yesterday, we announced the sale of our farm renewal rights for $30 million and the sale of American Reliable Insurance Company from our equity surplus to Everett Cash Mutual. These transactions will free up over $45 million of capital supporting the farm business and further GBLI's strategy to focus on our profitable and growing small and middle market Commercial Specialty casualty businesses. I am pleased that we found such a great company to acquire this business. Everett Cash is very focused on providing insurance solutions to the farm industry. Now let's discuss our results. For our continuing business lines, gross written premium grew by 28.4% compared to the first six months of 2021. The increase is due to organic growth and rate increases in our Commercial Specialty and Reinsurance lines. Underwriting income also had good results. The combined ratio of our continuing lines was 95.4%. Our strategy to reduce volatility is working. Catastrophes incurred for our entire book were $12.7 million compared to $24.5 million in 2021. Commercial Specialty lines cat losses are down significantly. Cats were $5.4 million in 2022 compared to $11.6 million in 2021. The mix of business has now shifted to casualty. I am very pleased to note that casualty-earned premium in our continuing lines was 72.2% for the first six months of 2022. Our Commercial Specialty segment grew by 13.4% to $214.1 million, driven by growth in our Penn-America binding small business, which grew 22% to $109.5 million. Penn-America obtained rate increases of 8.3%. This is just rate; exposure change adds another 5%. Our program division also realized growth of 8%, generating $72.6 million in gross written premium on strong rate increases of 10.6%. When we include exposure change, rate was up 21.6% in programs. The market remains strong for E&S commercial business, and we will continue to push rates. Our InsurTech business grew by 10%, generating gross written premium of $19.7 million. Our InsurTech solution allows agents, as well as insurers directly, to obtain insurance online quickly. We are excited about the leadership we have brought to this business and see one of our most significant opportunities for continued growth and profitability. We are committed to investing in state-of-the-art technology, embedding online solutions into the sales process, and expanding distribution to drive this business. Our three other new businesses, excess casualty, environmental, and professional are steadily growing and together now see over $5 million of premium. We are building out the three teams of key hires across the country and continue to receive strong support from our distribution partners. All are on track exceeding their plans. And while still early days, I'm very pleased with the quality of business each team is writing. Our Reinsurance Operations primarily focused on casualty reinsurance. Gross written premiums were $87.8 million compared to $46.4 million in 2021. The growth is coming from our largest casualty quota share treaty as well as our excess professional business and several smaller casualty treaties we have recently written. It's a great time to be in this part of the market where premium rate increases continue to be strong. Running longer tail business helps our investment portfolio grow, and we can invest these funds at higher interest rates. Exited lines now include the results of the farm business. It also includes the specialty property book that was sold in the fourth quarter of 2021 and also includes other business we have exited. Now that the farm is sold, net premiums written prospectively will be very low. Everett Cash Mutual assumes 100% of the risk for any farm policy written on or after August 8, 2022. In 2022, significant efforts are being taken to enhance liquidity, provide investment flexibility, and buffer market volatility. During the second quarter, we continued to de-risk the investment portfolio by selling less liquid investments and investments that had greater exposure to spread widening. The duration of our fixed income portfolio is currently 1.8 years. One-fourth of the portfolio is invested in floating rate securities, securities with rate resets. Cash and treasuries with a duration of approximately 1.9 years comprise almost one-third of the portfolio. We are well-positioned to deploy funds into higher-yielding investments. Book yield was 2.34% at the end of March '22 and is currently 2.81%. We've been deploying the proceeds from sales back into shorter-term investments with durations that are less than two years. The average yields on the funds that have been redeployed are greater than 4%. We will now take your questions.

We'll take our question from Anthony Mottolese with Dowling & Partners.

My first question, I was just looking to clarify on the results. I know you provided continuing operations, the cats and prior year development in the quarter. Could you provide that on a consolidated basis as well?

Sure. Our underwriting income for the current accident year was $6.2 million, compared to $2.2 million last year, on a consolidated basis.

And could you also provide what the cat impact was on the consolidated basis?

I'm sorry, I missed your question.

Sorry, the natural catastrophes.

Yes. In David's script, we noted that cat losses for the entire book were $12.7 million, and on our Commercial Lines business, which will be our continuing business, they were $5.4 million.

All right. I must have misheard $12.7 million. So then I just also had some follow-up questions related to the sale of American Reliable. Could you guys also share what the expected after-tax gain will be?

We're still looking at our expenses, but the total proceeds of these sales are $40 million. Included in the sale is we expect American Reliable will have $10 million or surplus at the point of sale. So before expenses, we are at $30 million. There will be some expenses as we look at assets that have been supporting this business. So there will be some write-offs of goodwill, intangible assets, software costs, and a little bit of lease cost. And we obviously incurred some investment banking fees and professional fees from the legal services that were provided. Right now, my estimate of those costs are approximately $8 million in total, but that's subject to further analysis, and we will have the final numbers on that as we develop our third quarter numbers. So right now, I'm looking at an estimate on a pretax basis of approximately $22 million.

All right. That's really helpful. And looking at your portfolio, do you see any other areas or anticipate further business disposals as you focus more on the casualty business?

No, we've made significant adjustments to our portfolio. In the first quarter, we decided to exit any long-term security with a duration exceeding five years. In the second quarter, we further reviewed our portfolio and identified investments that we considered to be less liquid and potentially underperforming in the current rate environment. We also had one fund that affected our investment income, which invested in bank loans, totaling around $100 million. The bank loans involved lower-rated securities, and while they had floating rates that increased with rising interest rates, the widening spreads posed risks, which impacted our income statement. Therefore, in the second quarter, we divested all these assets, including that alternative investment of about $100 million. We believe our portfolio is now very well positioned. As David mentioned, our book yield and duration are under two years at 1.8 years, and the equity exposure on our balance sheet mainly consists of preferred stocks. We feel our portfolio is optimally positioned as we navigate this rising rate environment.

That was a lot of good information. Lastly, related to the sale, does this further reduce the expected cat load or the profit and loss profile of the company?

Yes, absolutely. I mean, the agriculture book was largely a property book. So it is subject to more Midwest-driven than some of our other business that might be coastal-driven. But yes, cat exposure will absolutely decrease.

Yes. I think when we look after the sale of the farm, we estimate AAL was reduced by 27%. And just adding a little bit on why we sold the farm business. When we looked at the farm business, 76% of the premium was driven by property. We also had some commercial auto in there. It's another product we're not targeting. And like adversely, only 24% was casualty insurance. So it did not meet our definition of a core business and really why we made the decision that we did.

And then one last question. I know your focus has been on growing in the E&S market. Have you had to price more competitively to achieve your internal growth targets? Could you provide any color on that?

Yes, I would say the opposite. We've seen an increase in rates across various lines of business. Additionally, we have observed a significant rise in audit premiums. Specifically, for our Penn-America books and programs, audit premiums have increased from about $3.6 million last year to $8.8 million this year. This shows that along with the rising rates, our premium from audits is also increasing.

Okay. And I guess my last question, could you provide an update on what the new money rate is on the investment portfolio versus where it was earlier this year?

Sure. We have been deploying and achieving yields that are slightly above 4%.

We'll take our next question from Tom Kerr with Zacks Investment Research.

Can you go back to the Commercial Specialty and the individual lines? Within there, you mentioned some of the strength in Penn-America and other ones, I believe. But were there any laggards or disappointed ones that you thought could be better across all the lines in there?

No. I mean, where we really decreased is in the areas that we want to, so the biggest decrease has been in property brokerage, which has been very much by design, and is down significantly. Where we run off all the business in that line, it was over $10 million, really across the Commercial Specialty area, we mentioned that Penn-America programs growth is strong. The new business is we feel good about and the reinsurance side, and the casualty and the InsurTech, which has been a profitable area for us that we're building out. So it really was a solid quarter across the board.

Okay, great. Regarding the investment portfolio, I believe you mentioned earlier that you have mostly completed all the duration shortening activities. Is that correct?

Well, I won't say we're done, right? At the moment, I think we're happy with where we are, but we always are looking at our portfolio and the market environment. And if we believe that action would be needed to reposition the portfolio, we would take it. But right now, the actions I noted, position the portfolio for where we believe it needs to be today.

And from an investment process, is there something you guys would look at to sort of reentry back into equities itself? Or are you just waiting for prices? Or how does that work?

Again, there's a lot of volatility there. We've been in and out of equities several times over the last couple of years. This year, we saw the equity environment as being extremely volatile. If I go back to January of this year, we had a portfolio of equities that was about $76 million, and we made a decision at that time to exit. And we used those proceeds. It helped us pay down our subordinated debt in April, and it was absolutely the right decision because after January, equities dropped. And so, Tom, the answer is that this year, we thought it was the right time to get out. As we go forward, we work with our investment advisors, and we consider the information that they are providing to us. And if we believe at that time, it's the right time to get back into equities, we would. But right now, as I said, our only equity exposure on the balance sheet is primarily preferred stock.

Got it. And sorry if I missed this in our previous conversations, but who manages that? Is that a team effort, the entire investment portfolio? Or is there a Chief Investment Officer?

We have three external investment advisers, and it's overseen. We do not have a Chief Investment Officer in-house, but we have three really good managers that manage our entire portfolio.

Yes, got it. That's right. Next question is kind of more a general big picture economy question or recession focused. Since how do you guys manage that or think about that or even price that at so many of end markets or customers or small businesses? So I'm not sure exactly what my question is, but how do you take that into account if we go into a real recession in the near to midterm?

Yes. Obviously, during a recession, one positive aspect of the insurance business is its stability. However, our main focus is on inflation, which affects different products in various ways. We feel fortunate because, while there is significant distress in the personal auto market, we are not involved in that sector. We also consider social inflation, which we manage for small businesses, and the majority of our limits are $1 million and under, particularly in the casualty area. Furthermore, the portion of our property book experiencing inflationary pressure is decreasing as part of our overall portfolio. We are closely monitoring the situation. This is why we have stressed the importance of rate increases to ensure that our rates exceed inflation.

It makes sense. A couple of more financial questions. The corporate expenses, I think it was down 50% or so. What was that? Or is that the current run rate?

Yes. This quarter, corporate expenses included an employee retention credit for which we filed last year. We received $2.7 million this quarter, which helped offset corporate expenses.

I would like to add that we are achieving significant savings on reinsurance with the catastrophe reduction. This year, we saved 55% on our catastrophe rate, which is a substantial amount.

Okay. So that means on a true run rate or annualized run rate is still going to be well below $18 million to $20 million, even if you look into next year?

Well, again, you're going to see some increase in expenses this quarter, Tom, because of the transaction with the American Reliable transaction. So every year, we usually do something. And for the last couple of years, we've noted that a corporate run rate of $18 million to $20 million is what we would expect. What you're seeing in the first six months, again, includes that $2.7 million credit and not a whole lot in the way of, I'll call it, special corporate expenses. Closing this deal will have some. So the rate, the amount of corporate expenses in the second half of the year will be higher.

Got it. Okay. That makes sense. And then going off the $130 million debt, any color on that? Or is it just a corporate allocation decision or capital allocation decision?

No, it was a capital allocation decision that the debt had an interest rate of just under 8%. We had sold our specialty property renewal rights in the fourth quarter of last year, which freed up some capital. As we looked ahead, we were always considering the best way to deploy our capital. At that time, we concluded that eliminating our subordinated debt was a good decision.

Makes sense. The last question for me. Just to be clear on the farm sale, that eliminates all the farm and agriculture business that's not going to be in the Exited Lines? I don't know if that makes sense or not.

That's correct. As of August 8, all new business will be fully reinsured until they take over. The only remaining part of the farm will be the unearned premium, which will eventually run off.

Okay. Got it. All right. Last question. This is more of an Analyst Day question coming up, but the performance objectives and goals that were set last fall, the 6%, 7% to 8% premium growth. Do you foresee those changing? Or are those in the discussion? Are you guys still good with that at this time to be in that range over the next five years?

Yes. I don't think it's changed over that five-year period. At our Investor Day, we mentioned that it's not a one-year journey, it's a five-year journey. Building new businesses takes time, and we are committed to doing it the right way. We feel confident that we are on track. In the area I mentioned earlier, I actually believe we are slightly ahead of our plans in transitioning to a casualty company from a property company, which significantly reduces our volatility. We feel quite positive about 72% of our earned premium being casualty in the first six months. Therefore, we believe we are executing well on the plan.

And that does conclude the question-and-answer session. I would like to turn the call back over to Stephen Ries for any additional or closing remarks.

Thank you, operator. Thank you, everybody, for joining us today. We look forward to speaking to you after the third quarter.

And that concludes today's presentation. Thank you for your participation, and you may now disconnect.