KEMPER Corp Q1 FY2024 Earnings Call

Good afternoon, ladies and gentlemen, and welcome to Kemper's First Quarter 2024 Earnings Conference Call. My name is Ina, and I will be your coordinator today. As a reminder, this conference call is being recorded for replay purposes. I would now like to introduce your host for today's conference call, Michael Marinaccio, Kemper's Vice President of Corporate Development and Investor Relations. Mr. Marinaccio, you may begin.

Thank you, operator. Good afternoon, everyone, and welcome to Kemper's discussion of our first quarter 2024 results. This afternoon, you'll hear from Joe Lacher, Kemper's President and Chief Executive Officer; Brad Camden, Kemper's Executive Vice President and Chief Financial Officer; and Matt Hunton, Kemper's Executive Vice President and President of Kemper Auto. We'll make a few opening remarks to provide context around our first quarter results, followed by a Q&A session. For any interactive portion of the call, our presenters will be joined by Chris Flint, Kemper's Executive Vice President and President of Kemper Life; Duane Sanders, Kemper's Executive Vice President and Chief Claims Officer, P&C; and John Boschelli, Kemper's Executive Vice President and Chief Investment Officer. After the markets closed today, we issued our earnings release, filed our Form 10-Q with the SEC, and published our earnings presentation and financial supplement. You can find these documents in the Investors section of our website, kemper.com. Our discussion today may contain forward-looking statements within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements include, but are not limited to, the company's outlook and its future results of operation and financial condition. Our actual future results and financial condition may differ materially from these statements. For information on additional risks that may impact these forward-looking statements, please refer to our 2023 Form 10-K and our first quarter earnings release. This afternoon's discussion also includes non-GAAP financial measures we believe are meaningful to investors. In our financial supplement, earnings presentation, and earnings release, we have defined and reconciled all non-GAAP financial measures to GAAP where required in accordance with SEC rules. You can find each of these documents in the Investors section of our website, kemper.com. Lastly, all comparative references will be to the corresponding 2023 periods unless otherwise stated. I will now turn the call over to Joe.

Thank you, Michael. Good afternoon, everyone, and thanks for joining us today. I'll start by noting that overall, we're pleased with our results and the progress we've made this quarter. We continue to deliver significantly improved profitability in our Specialty P&C business where we're now exceeding target margins. While, as expected, policies in force continued to decline, we initiated our new business expansion activities and are on track to return to more typical new business rates by midyear. As pricing, loss trend, and new business levels return to a more normal balance, our underlying competitive advantages are becoming more visible. With our story and results becoming clearer and simpler, we believe the underlying strength and long-term value creation of the franchise will be consistently apparent. Overall, we delivered $71 million of net income and annualized ROE over 11% and a tangible ROE of over 17%. We are once again achieving or exceeding our target returns. Specialty P&C generated a 93.6% underlying combined ratio. That is a 4.6-point improvement sequentially, a 14.4-point improvement year-over-year, and the fourth consecutive quarter of underlying improvement. We're pleased that, once again, we're exceeding our target combined ratio of 96% in this business. Relative to our life business, while demonstrating modest quarterly volatility, we continue to deliver consistent returns. Although PIF growth or rather lack thereof is the most significant issue on investors' minds at the moment, we made significant progress in this area during the quarter. Throughout 2023, we committed to a nearly exclusive focus on restoring underwriting profitability, deliberately foregoing new business and potential growth. We did not rev the new business engine until we delivered a sub-100 combined ratio. When it was clear that this had been accomplished with fourth quarter results and we had optimism about the margin outlook, we initiated our new business expansion. This decision was made in late January. There are two key points that will help you interpret our numbers and see why we have confidence in our ability to stabilize PIF quickly. First, since the execution of the new business expansion began in mid-February, only half the quarter realized the benefit. Second, consider the prudent nature of the expansion we're utilizing. The first quarter represented perhaps moving through first and early second gear. This resulted in new business apps written, growing by nearly 2.6 times the fourth quarter of 2023 volume. For the month of April, we wrote about as many new business apps as we did in all of the first quarter. On a run rate basis, this suggests the second quarter is approaching roughly three times the first quarter volumes. The takeaway is that we have confidence that PIF will stabilize midyear. Growth will follow subject to traditional seasonality patterns. We hope you leave today sharing our confidence that we will return to a more traditional consistent long-term profitable growth profile by early next year. With that, I'll turn it over to Brad.

Thank you, Joe. I'll begin on Page 5 with our consolidated financial results. Before reviewing our first quarter results, I want to take a moment to review the metrics we use to evaluate our performance and reaffirm our guidance. If you recall from prior presentations, we strive to deliver a low double-digit return on equity, grow book value per share, and generate premium growth in line with the market or higher. These metrics have not changed. For 2024, we've guided to a return on equity of 10% or higher, and we are reaffirming this metric. As Joe mentioned for the Specialty P&C business, we have not historically provided a target combined ratio. To help simplify our messaging, we are now providing a target combined ratio of 96 for that business. Our goal is to achieve our target combined ratio or better and maximize growth. For the quarter, we had net income of $71.3 million or $1.10 per diluted share and adjusted consolidated net operating income of $69.7 million or $1.07 per diluted share. Annualized return on equity was 11.2%, a strong first step towards achieving the 2024 ROE guidance of 10% or better. The underlying combined ratio improvement helped drive improvements in our consolidated results. Our insurance companies are well capitalized and have significant sources of liquidity. At the end of the quarter, parent company liquidity was approximately $1.1 billion consisting of revolver capacity, intercompany lending capacity, and holding company cash and investments. Our healthy liquidity balances allow us to pay holding company dividends and interest payments and support our operating subsidiaries as needed. Our life business continues to be well capitalized, and the P&C business continues to improve its capital ratios. Moving to Page 7, net investment income for the quarter was $100 million, and our pretax equivalent annualized book yield was 4.3%. Lower returns on our alternative investment portfolio reduced net investment income from the prior quarter. We'll now turn the call over to Matt to discuss the Specialty P&C business.

Thank you, Brad, and good afternoon, everyone. Moving to Page 8 in our Specialty P&C business, I’ll start with overall comments for both private passenger auto and commercial vehicle. For the segment, we closed the first quarter with an underlying combined ratio of 93.6%, representing a 4.6-point improvement sequentially and a 14.4-point improvement year-over-year. This resulted in an outperformance against our target of 96%. Our PPA business reported a strong underlying combined ratio of 93.5%. We have additional unearned rate, which will remain a tailwind. Our CV business generated an underlying combined ratio of 93.8%. Our specialization and underwriting discipline continue to create value. Turning to production, our explicit near-term goal is to stabilize PIF levels. There are several factors that will help support this goal. First, customer and agent demand for our products is strong. Second, policy retention remains stable. And finally, the most impactful opportunity comes from re-expanding our new business availability. In periods of significant change, year-over-year PIF decline in the quarter and the fourth quarter of 2023 were effectively constant at approximately 32%. The sequential quarter trend is a more responsive measure of how our policy-in-force base is evolving. Our sequential quarter PIF decline slowed by 3.4 points from 8.9% in the fourth quarter to 5.5% this quarter. Progress is more clearly visible here. It was driven by our new business expansion. Our long-term goal is to achieve a 96 or better combined ratio and to maximize growth. We remain confident in our competitive advantages. These advantages position us to effectively navigate the ongoing market environment. Both the profile and loss performance of our new business writings are in line or better than expectations. In conclusion, despite a quarter where PIF continued to decline, we're happy with our overall progress and are confident in achieving PIF stabilization by midyear.

Thanks, Matt. Turning to our life business on Page 11. Net operating income was $12 million for the first quarter. Mortality was in line with pre-pandemic levels. As expected, the inflationary environment continued to place modest pressure on this business. Although overall persistency remained in line with historical trends, new business levels were down slightly compared to the first quarter of last year. To reiterate our highlights for the quarter, overall profitability improved and exceeded targets, led by the Specialty P&C underlying combined ratio of 93.6%, and we delivered our fourth consecutive quarter of underlying business improvement with more rate to earn in over the next few quarters. The new business expansion we initiated midway through the quarter is delivering solid results. While we're pleased with the results for the quarter and our ability to achieve target profitability, we're clearly continuing to focus on stabilizing PIF. Effective execution of our profit improvement actions, combined with the successful completion of several strategic initiatives, has enabled Kemper to weather the storm and come out a stronger company, dedicated to delivering on our promises of providing attractive long-term intrinsic growth to our shareholders and value to all our stakeholders. This could not have been accomplished without the strong efforts and dedication of our entire Kemper team.

Operator instructions.

Thank you for the additional information on new business apps. As I review the charts and process the details you shared, I notice that the quarterly run rate is three times higher than it was in the first quarter. I'm trying to understand how that aligns with your expectation that PIF will stabilize in the first half. Given that level of production, it appears we might actually shift towards an increase in PIF. Can you clarify the calculations behind this?

Yes, Greg, thanks for your question. In the specialty auto segment, there is a considerable amount of seasonality in relation to new buyers. If we consider the first quarter as a baseline, the second quarter is likely about 25% larger, the third quarter is slightly smaller, and the fourth quarter could be around 33% to 40% smaller than the first quarter. This indicates a significant increase in the second quarter and a higher than average performance in the first quarter when compared to the third and fourth quarters. We anticipate writing new business at a faster rate, capturing perhaps a larger share of the new business applications in the marketplace, although the number of new business applications might remain stable due to seasonality. Currently, in light of recent changes, it's important to focus on the sequential policy in force and the rise in new business applications. We want to reassure you that as we look at the April figures, there's been a notable increase. As we progress, we expect an increasing portion of the available new business, potentially with a comparable number in terms of applications. Therefore, it may remain stable into the fourth quarter. In the second quarter, we anticipate direct written premiums will increase in the low double digits, and we expect the policy in force count to grow in the first quarter of next year. Does that help?

This is Matt. I'll take the first part of that question and then flip it to Joe for the second. In terms of the re-expansion of new business, as we mentioned to you guys that we're taking a methodical approach in terms of how we're reopening to ensure that we're understanding the market dynamics, the loss dynamics as they come through. In terms of profile, in terms of volumes, in terms of loss performance, everything is coming in in line or better than expectation. So nothing to note there, no surprises, absolutely no surprises. Everything is coming in right in line with what we would have expected to see at this point in time.

Yes. And the second piece, I'll 100% reiterate with Matt, absolutely, no negative surprises at all on what we're seeing. The team is very thoughtfully moving through that expansion to protect from that. The aggregate new business benefit we got from slowing down new business was maybe 3 or 4 points on the overall combined ratio. So the aggregate penalty that will come back in the combined ratio is probably roughly of the same order over when we get to full new business. We're running at a 93-plus combined ratio right now. There is absolutely more than enough room inside of the margins we're at right now and that rate to cover that. I think the reversal, if you will, or the re-adding the new business penalty is 100% contemplated in what we described as reversing some of those non-rate actions. It's contemplated in the rate we took. And it's contemplated with our confidence that we will meet or exceed that 96 combined target over the course of this year and into next year as we do that.

Yes, this is Matt again. As we reopen, we anticipate some inconsistencies as we ramp up operations. In one location, we may experience a production increase that deviates from the usual percentage distributions. However, as we reactivate additional locations, they will align with our typical patterns. Overall, for the next few quarters, we expect distribution to closely resemble our historical trends, and we will continue to seek opportunities for geographic diversification. In the short term, there may be fluctuations, but in the long term, we expect patterns to be similar to what we've observed in the past.

Maybe a little bit of additional focus on retention. Is there any reason why the retention rate would be different or changing given the change in the non-rate actions and the increase in new business as we prospectively go forward? I'm a little surprised that it's been as stable as it has been given all of the changes in the company over time. But any thoughts would be helpful.

Sure, Paul. Overall, we are experiencing a consistent level of stability in retention. Now, let me elaborate on that a bit. Picture several segments within our business. Some segments have a short-term tenure, while others tend to stay longer. Each of these segments is maintaining retention rates that align with our long-term expectations. In different market conditions, retention rates can vary. During a hard market, retention tends to increase, whereas it decreases in a soft market. Currently, we are in a hard market, and we are seeing the positive effects of that.

This is Matt. The texture of the market varies significantly by state. In one of our larger markets, California, companies are achieving better rate adequacy, leading to fewer competitive challenges, particularly from larger players, which is creating more opportunities in a hard market. However, we anticipate that this market will become more competitive in the future. Florida has remained relatively competitive over the past few quarters as carriers there feel more adequate and confident in their pricing for new business. Overall, while the market is generally hard for us, there are variations from state to state.

Could you help me understand Slide 8 a bit more? You mentioned that the earning rate for the quarter is 9%. Looking at the graph in the right corner, it seems like there could be another 11 to 12 points to earn this year. However, Joe, you indicated 15 points. Could you clarify this difference? Also, what do you anticipate for the earning rate over the next three quarters? Additionally, are you currently filing for new rate increases, and can you provide some details on that?

This is Brad. Looking at the upper right-hand chart on Slide 8, for the year, for 2024, we have a total of 24 rates to earn in. We earned in about 9 points of that rate in the first quarter, which means we've got 15 points for the rest of the year. About half of that rate will be earned in the second quarter, and then the remaining will be earned in Q3 and Q4. We're always looking to find rate adequacy and keep up with loss trend. As part of the normal course, we'll continue to file for rate for those states that need it.

We're filing for what I might describe as the maintenance rate going forward. We're trying to get rate that matches what loss trend is and hold ground on the profit margins as a result. The rate actions going forward will be designed to keep that balance and should not be materially moving profit margins around.

I'm just curious, I didn't hear any comments about the reciprocal and kind of the progress there. I'm wondering, Joe, if you can comment on the fact that you're actually increasing new business. Could that accelerate that process?

In theory, we could populate the reciprocal with reinsurance. Our strategy is to populate it with new business. It is continuing to operate. We're moving as quickly as we reasonably can but trying to keep those pieces in balance. We have been systematically geographically diversifying the portfolio and actually very rapidly. Our best guess is that maybe California ends in that 30%, 35% range overall. We will continue to operate with the thought process of finding a reasonable geographic balance. As we work our way through '25 and '26, I would fully expect it to look similar to what we described to you pre-pandemic.

On the preferred business, the runoff is going as planned, if not a little quicker than expected. So the $130 million we indicated this year is on track, maybe a little better. I think it was down about $5.7 million Q4 to Q1 in average returns.

Thank you, operator, and thank you, everyone, for your questions. Hopefully, you're feeling better about where the direction of the PIF is going and the speed with which it's recovering. And with that, I look forward to speaking with you all again next quarter. Thanks.

Thank you. And that does conclude our conference for today. Thank you for participating. You may all disconnect.