Earnings Call Transcript - THG Q2 2020

Operator, Operator

Good day, and welcome to The Hanover Insurance Group's Second Quarter Earnings Conference Call. My name is Jason, and I'll be your operator for today's call. At this time, all participants are in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Oksana Lukasheva. Please go ahead.

Oksana Lukasheva, Moderator

Thank you, operator. Good morning, and thank you for joining us for our quarterly conference call. We will begin today's call with prepared remarks from John Roche, our President and Chief Executive Officer; and our Chief Financial Officer, Jeff Farber. Available to answer your questions after our prepared remarks are Dick Lavey, President of Agency Markets; and Bryan Salvatore, our President of Specialty Lines. Before I turn the call over to John, let me note that our earnings press release, financial supplement and a complete slide presentation for today's call are available in the Investors section of our website at www.hanover.com. After the presentation, we will answer questions in the Q&A session. Our prepared remarks and responses to your questions today, other than statements of historical fact, include forward-looking statements regarding, among other things, our outlook for 2020 and the ongoing impact of the COVID-19 pandemic and the subsequent recession on company performance. There are certain factors that could cause actual results to differ materially from those anticipated. We caution you with respect to reliance on forward-looking statements, and in this respect refer you to the Forward-Looking Statements section in our press release, the presentation deck and our filings with the SEC, which includes supplemental risk factors related to the COVID-19 pandemic and general economic conditions. Today's discussion will also reference certain non-GAAP financial measures such as operating income and accident year loss and combined ratios excluding catastrophes, among others. A reconciliation of these non-GAAP financial measures to the closest GAAP measure on a historical basis can be found in the press release, the slide presentation or the financial supplement, which are posted on our website as I mentioned earlier. With those comments, I will turn the call over to John.

John Roche, CEO

Thank you, Oksana. Good morning, everyone, and thank you for joining our call. I will start by reviewing our second quarter financial results in the context of the current business and economic environment. I will then discuss our three strategic areas of special focus for the next 12 to 18 months. These areas of focus will help us advance our long-term strategy in this rapidly transforming market and capitalize on some particularly attractive emerging opportunities. I would like to acknowledge the extreme personal challenges that so many people across our country are facing as a result of the COVID-19 pandemic, economic headwinds and the recognition and impact of racial injustice. As an organization, we are committed to doing our part to help our country confront these issues through our business operations as an employer and as an active and responsible corporate citizen. We hope each of you, your families and friends are safe and healthy, and we look forward to better days ahead for all. Now, turning to our results. We are very pleased with our second quarter earnings performance despite the impact of the elevated catastrophe losses. We reported earnings per share of $1.63 and an operating return on equity of 9.5%. Our broad-based profitability and strong financial position are enabling us to effectively navigate the current market conditions while remaining laser-focused on our long-term strategy. The investments we've made in innovation, analytics, underwriting, claims handling, and our agency partnerships provide us with a strong foundation and represent a distinct competitive advantage as we work to meet the needs of our agent partners, customers, and our shareholders now and in the future. I'll discuss our strategic priorities in more detail shortly. But first, I would like to take you through the highlights of our second quarter performance. As outlined in our July 14 pre-announcement, we incurred elevated catastrophe losses in the quarter, amounting to $148 million, or roughly 13.5% of second quarter net earned premium. Higher-than-expected cat losses were offset by an improvement in our current accident year loss ratio, excluding catastrophes, which declined 7.4 points from the prior year to 51.8%. The lower loss ratio primarily reflected the temporary benefit from lower frequency of auto accidents and other claims throughout our business portfolio as many states only began to emerge from stay-at-home orders later in the quarter. We remain prudent in setting our reserves as businesses begin to reopen. Our overall exposure to COVID-19 related losses remains manageable, and actual overall COVID-19 related loss activity has been limited thus far. With that being said, the underlying long-term loss ratio expectations for our business remain stable, given our proven ability to implement rate increases that meet long-term loss trends. We expect our Q2 net written premiums to represent the low watermark for the year. We are pleased with the metrics underlying our premium production in the second quarter, including our execution on the balance between rate and retention. Personal Lines rate increases remain relatively stable at nearly 5%, despite increasingly competitive market conditions. Consistent with our capital allocation framework, we repurchased shares in June and July as market conditions stabilized. Our strategic approach to capital allocation is driven by an unyielding commitment to both maintaining a strong financial position and delivering value for our shareholders. I am particularly pleased with the agility and focus our team has displayed during this dynamic period. Moving on now to our strategic priorities. First, we are laser-focused on risk and portfolio management. This enables us to optimize our underwriting performance to navigate short-term market dynamics effectively while benefiting from the profitable growth opportunities that present themselves in this environment. Together with many of our agent partners, we have implemented plans to meaningfully grow market share in technology, life sciences, marine, and other lines and sectors that are associated with greater returns in our book of business. We believe that these efforts will position us favorably with our partner agents, enhance customer experience and help drive an improved growth trajectory during these challenging times.

Jeff Farber, CFO

Thank you, Jack. Good morning, everyone. We're very pleased with our overall earnings performance in the second quarter, particularly in light of the elevated catastrophe loss experienced across the industry. In the quarter, we reported net income of $115.2 million or $3.01 per fully diluted share compared to $74 million or $1.79 per fully diluted share in the second quarter of 2019. We reported an all-in combined ratio of 96.2%, compared to 96.1% in the prior year quarter. The ex-cat combined ratio was 82.7% in the quarter which improved meaningfully from 90.7% in the prior year quarter and reflects the substantial decline in claims frequency. We continue to experience favorability in our workers' compensation line which was partially offset by adverse development in Commercial Auto due to continued bodily injury severity trends. We believe our underlying loss ratio trend is stable overall. Our consolidated net premiums written declined 5% in the second quarter. However, we experienced a strong increase in retention as expected. We increased our bad debt expense to $7.5 million in the quarter to account for these potential cancellations. We also saw strong market consolidation across our portfolio with $24 million signed in the second quarter in Personal Lines, which is our strongest quarter in the past several years. We are confident about our growth prospects going forward and believe our full-year 2020 net written premium will likely be relatively in line with 2019 levels.

Matt Carletti, Analyst

Hey, thanks and good morning.

John Roche, CEO

Good morning.

Matt Carletti, Analyst

I have a couple of questions for you that relate to some of your opening comments. First is, at one point in your comments, you mentioned some increased competition. I was hoping you could just clarify where you're seeing that, commercial versus personal, and any detail you can give?

John Roche, CEO

Thanks, Matt. There's no doubt that this is maybe the most dynamic environment that any of us have had the opportunity to work in. So with that, we are trying to make sure that we continue to move forward on the portfolio management actions that we had planned for the year, but also acknowledge that there are some temporary dynamics and market environment issues that need to be contemplated, so that we don't have a static playbook. On the Commercial Line side, I would tell you that there's a slowdown in the economy, and the readjustment that many of our agents have had to adjust to has caused a temporary slowdown in new business activity. In particular, high-quality new business in May was hard to come by unless you had something in your pipeline.

Jeff Farber, CFO

Look Matt from a mathematical perspective, that's correct. At mid-91s, that's basically saying the second half of the year will look like what we guided to upfront.

Paul Newsome, Analyst

Can you hear me now? Sorry about that.

Jeff Farber, CFO

Yeah.

Paul Newsome, Analyst

Just hoping you could talk a little bit about your thoughts on the underlying inflation trend. Can you just talk about how the pieces add up for you guys?

John Roche, CEO

Well, this is Jack. I'll just make a couple of comments. Overall, I would suggest to you that we think we are being very prudent with our picks that we have worked hard to continue to improve on our portfolio and we are taking some underwriting actions. We are committed more than anything to make sure that we come out of 2020 in a healthy position and able to capitalize as the economy comes back and as business opportunities emerge in 2021.

Mike Zaremski, Analyst

I know Paul and others asked this question but maybe I'll try to ask in a different way maybe get some more insight potentially. So, in terms of the guidance about the loss ratio trend being stable, you said you kind of have good line of sight into that because you expect commercial rate levels to continue their upward trajectory.

John Roche, CEO

Yes Mike, that's a very good question. This is Jack. I want to distinguish between my thoughts on the industry and our company. To be clear, we are not seeing an increase in our loss trends, and that's not what we're considering. In the broader industry, particularly in some of the higher-end liability sectors, we are certain that there are some upward movements. However, we believe that our underlying loss ratio trend remains stable overall.

Oksana Lukasheva, Moderator

Thank you everybody for your participation today and we are looking forward to talking to you next quarter.

Operator, Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.