ProSight Global, Inc.
Q2 2020 Earnings Call Transcript

Published: 11 Aug 2020

[Operator:]

Ladies and gentlemen, thank you for standing by and welcome to the ProSight Specialty Insurance Q2 Earnings Conference Call and Webcast. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to your speaker today Mr. Joe Hathaway. Please go ahead.

[Joe Hathaway:]

Thank you, Amy. Good morning, everyone. Welcome to the second quarter 2020 earnings conference call for ProSight Global, Inc. With me on the call today are CEO and President, Larry Hannon; Chief Financial Officer, Buddy Piszel; and Chief Underwriting and Risk Officer, Bob Bailey. Following our prepared remarks, the call will be open for questions. Yesterday afternoon, we issued our second quarter 2020 earnings release, which is available on our website at investors.prosightspecialty.com. Let me remind everyone that during this call, management may make comments that reflect their intentions, beliefs, and expectations for the future. We caution that such forward-looking statements are not guarantees of future results and that actual results may differ materially from those forward-looking statements. For a discussion of some of the risks and important factors that could affect our future results and financial condition, please see the cautionary language regarding forward-looking statements in yesterday's earnings release and the Risk Factors section of our most recent reports and filings made with the SEC. Except as required by law, we undertake no obligation to publicly update any forward-looking statements whether as a result of new information, future events or otherwise. Additionally, during today's call, we will discuss certain non-GAAP measures, which we believe are useful in evaluating our performance. A reconciliation of these non-GAAP measures to the most comparable GAAP measures can be found in our earnings release. With that, I'd like to turn the presentation over to our CEO and President, Larry Hannon.

[Larry Hannon:]

Thank you, Joe, and good morning, everyone. ProSight had a very strong second quarter and a profitable first half of the year, during a very difficult period. Our employees have prudently done an excellent job. I am grateful for their outstanding efforts and appreciate the loyalty of our customers and distribution partners. Our execution around underwriting, rate, expense discipline, talent acquisition and risk management has never been stronger. Even before a limited number of states required adjustments, we chose to readjust exposures for our customers that were most severely impacted by COVID and returned those subject premiums. While doing so negatively impacted our growth in the second quarter, it was the right thing to do for our insureds and is now behind us. We are positioned to grow from here and are using our niche focused approach to identify opportunities that align with our underwriting appetite. As a reminder, at ProSight we do not write publicly traded D&O, medical malpractice, mortgage insurance, accident and health, travel insurance, event cancellation, opioid manufacturers and distributors or hospitals and nursing homes. Our second quarter underwriting profit marked the tenth consecutive quarter of us doing so affirming that our niche approach and limits management can produce strong results. As a reminder excluding our work comp book, 84% of our policies have gross limits of $2 million or less. Next I will update the COVID impact to guidance for 2020 that we provided on our first quarter call. For gross written premium for our customer segments instead of the 10% to 20% decline that I communicated at the end of the first quarter, we now believe that we will be in the 5% to 10% range. This excludes the decline from the previously announced exit from our excess work compensation book. For net loss ratio, we now believe that we have the potential for up to 1.5 point increase from COVID-19 related claims and expenses in the current accident year loss ratio versus the up to 3 point increase we communicated at the end of the first quarter. With regards to the expense ratio, while we have a potentially higher cost from bad debt provisioning given state mandated deferrals of collections and the impact of lower written premiums, I am still confident in the 200 basis point reduction by year end 2022 that I had provided previously. And finally, for net investment income, we expect our core fixed income portfolio excluding limited partnerships to yield approximately 3% for 2020, consistent with the 3% we communicated at the end of the first quarter. While there are a number of uncertainties that we are still dealing with, I am confident in the guidance that I just provided. I expect our underwriting first culture and approach to risk selection to give us a tailwind for the remainder of this year and in the years ahead. I will now turn the call over to Bob, who will highlight our rate execution and provide a couple of examples of how our agility and niche approach allows us to stay very close to the marketplace and optimize our exposure to certain classes of business in a timely fashion. After Bob's remarks, Buddy will review our financials, highlight our strong expense discipline and update you on our investment performance and capital position. Bob?

[Bob Bailey:]

Thank you, Larry. Good morning, everyone. I'll echo Larry, and Larry's comments and say how pleased I am as well with how our team has executed in the second quarter, managed tremendous change in their own lives and more importantly, intensified our connection to our customer base, and I hope you will see why I'm even more optimistic about our momentum through the balance of the year. As a reminder, we execute rate at the niche level as opposed to generically by line, and as such what I'm giving is aggregated by line, primarily more for your consumption as it's not really how we think about overall rate adequacy at the niche level or even in line with the niche. For the second quarter, we achieved a 10.5% rate increase, excluding workers' comp and 8.8% including workers' comp. This is an acceleration of over 3.5 points since the first quarter of 2020. This brings us to 8.7% excluding work comp and 7.4% including work comp for the year-to-date total. At the niche level, 39 of our 41 niches are not workers' comp centric. We achieved a positive rate of 38 -- a positive rate in 38 of the 39 niches and have achieved rate on rate meaning year-over-year in 36 of those 38. I am pleased with the rate adequacy building our portfolio and expect it to continue through the balance of the year. The only line that hasn't seen improvement in terms of recent quarters, including this one is work comp, which did deteriorate by about 2%. As you know, we have done well with that line over the years, but just as knowing the difference between just enough and slightly too much makes one a great dinner guest, it's also important in monitoring work comp rate adequacy. As rate levels have declined in some cases compounded decreases year-on-year. We have been very disciplined about willing to let that premium leave the book where we no longer believe that the rate is commensurate with the risks presented by the account or even the niche. Over the past three years, we have driven this line of business, down from approximately $250 million including excess workers' comp, likely around $75 million by year-end to reflect our estimate of the shrinking pool of adequately priced accounts in this line. Due to the highly regulated nature of the line, in terms of coverage and rate level, there is very little anyone can actually do to differentiate one's offering in this space, except be very deliberate when saying yes or no at a given rate level. Now regarding COVID, as Larry noted, we still see the potential for up to 1.5 points of loss ratio in the current accident year. However, as time passes and we work through our inventory of clients that cone of uncertainty continues to narrow. Based on what we are seeing, it may be the case that any additional COVID impact can be absorbed in the current accident year loss ratio pick of 62%. We do still see a trickle of work comp claims like one or two week, and we simply need more time for the claims team to continue their efforts in working through the inventory before we feel more confident. Staying with COVID, we continue to monitor the impact and wisdom I suppose of our early decisions to aggressively right-size the ongoing exposure base for heavily impacted customers rather than just deferred collections or other sort of techniques. We still believe that this approach, while moving most of the top line impact into the current quarter, results in less credit risk, less of a negative impact from future auto premiums and ultimately appreciative customers. Buddy will discuss this in more detail as well, but we continue to believe that our actions in the very early days of the COVID crisis were not only humane, but frankly will also prove to be a good economic call. And on that note, I will hand the call off to Buddy Piszel, who will discuss our financial results in greater detail.

[Buddy Piszel:]

Thanks Bob. Net income for the quarter was $17.6 million and adjusted operating income was $16.9 million, both records for ProSight. Adjusted operating ROE was 12.6%. I will focus my comments on three key drivers of this quarter's performance, top line production, strong net investment income, and rigorous expense management, and then discuss an important accomplishment successfully closing our new credit facility. In the second quarter, our gross written premium for our customer segments declined 20% from last year's quarter. This is in line with our expectations as we proactively reduced exposures for our customers who were impacted by COVID. The bulk of the impact came from two of our customer segments, transportation and media, where insured activity combined plummeted 70%. We are confident that we accomplished substantially all the exposure adjustments in 2Q and that we believe third and fourth quarter will not be as negatively impacted. Also, as the economy recovers and taxis and buses go back on the road and entertainers resume entertaining, these premiums should snap back. The rest of our customer segments were resilient and were flat for the quarter and they were up 7.6% year-to-date. Net investment income was $23.8 million for the quarter, up 37% over last year's quarter. Our portfolio continued the trend of double-digit growth, up 12.7% from last year's quarter. Offsetting that growth was yield compression from LIBOR resets and lower reinvestment rates. The core portfolio yield was 3% in the quarter in line with our guidance. Our limited partnerships had excellent performance, generating $8.1 million of net investment income as they capitalized on the market dislocations in this turbulent quarter. The $23.8 million of total investment income is again a high watermark for the portfolio. At quarter's end, the portfolio had an unrealized gain of $59 million, which is an improvement of $97 million from Q1, a really strong recovery. In the quarter, we maintained our credit discipline and further reduced our floating exposure. And overall, we continue to feel confident and comfortable with our portfolio positioning. Next up, expense management. Our G&A expenses in the quarter were $26.4 million, essentially flat with last year's quarter. Our rigorous expense management allowed us to overcome $1.5 million of additional bad debt expense as well as $2.3 million of new public company costs compared to last year's quarter. The expense ratio in the quarter was 37.7% that's up 2.4 points from last year's quarter. That increase is all driven by COVID's reduction on earned premium and the absence of earned premium from the exit of excess comp. We pride ourselves in our expense management and continue to believe we can achieve the two points of expense ratio improvement by 2022 from the 36.6% starting point at the end of 2019. Let me close on capital and liquidity. In a very challenging quarter for borrowers, we were able to close on a new credit facility with a new group of bank lenders that will refi our senior notes at maturity in November. The new facility has better terms and a 4.6% expected interest rate compared to our current rate of 7.3%. We also expanded our revolver from $50 million to $65 million on favorable terms. We are pleased that the market strongly supported our debt raise, as we added five new lenders into our credit facility. After quarter's end, we drew $35 million on the revolver and injected those funds into the insurance company to support growth, as we expect a rebound in our topline in the coming quarters. Pro forma for the revolver draw our debt-to-capital is a manageable 27.7%. Stack surplus ended the quarter at a record $661 million, an increase of $89 million over Q1. Organic surplus growth was the highest ever and our insurance company capital is better positioned than ever for potential uncertainty or to capitalize on growth opportunities. Book value stood at $586 million at the end of the quarter, an increase of almost $100 million over Q1. Fully diluted book value per share was $12.84, an increase of 6.9% year-to-date and a record high for the company. All-in-all. a really strong quarter for ProSight. And with that, I'll hand it back to Larry.

[Larry Hannon:]

Thanks Buddy. Operator, if we could open the line for questions.

[Operator:]

[Operator Instructions] Our first question today comes from the line of Meyer Shields with Keefe Bruyette. Your line is open.

[Meyer Shields:]

Great. Thanks. Good morning, everyone.

[Larry Hannon:]

Good morning, Meyer.

[Bob Bailey:]

Good morning.

[Meyer Shields:]

So, a couple of basic questions. One, I was hoping for a little bit more color on sort of the monthly progression of economic activity or premium volumes within transportation within media?

[Larry Hannon:]

Sure. So I'll get started on that, and then maybe Bob you can chirp in as well. So, on the transportation side, you saw month-to-month progress, right? So the quarter was you saw what we reported as a negative premium quarter. The vast majority of that was in April, because that's when most of the return premiums hit, right? Again, we went back reassessed what the exposures truly were, re-rated those accounts, because we thought that was in the best interest of our insureds and the issues that Bob laid out. And then you saw most of that impact in April that bled a little bit into May and then we actually started to see some positive development in June. I think that that will be the lion's share of what really happens from a transportation perspective was in the second quarter and predominantly in April and May. On the entertainment side, we saw the same thing, right? You had the biggest reaction early and then we had growth month versus month. And we adjust that a little bit right in a couple of different ways Meyer, because you've got things that are affecting the media business, right? Are we extending policies in certain cases at the insureds request? Are we trying to readjust exposures? What actually is going on from a production perspective? How does that compare month-to-month progress? So the size of the premiums are going to fluctuate obviously month-to-month as well. But we saw more progress month-to-month in each of those months in the immediate space as well. Bob, would you add anything else to that?

[Bob Bailey:]

Not, really Larry. I mean, I guess fundamentals of the question's are we seeing people sort of rebound a little bit and sort of navigate as to how to perhaps redeploy your deploy in a different way. And I think the answer is suddenly, yes, we are. We are seeing slight pickups and some different kinds of media behavior and things like that. Rental houses are finding different things to do and what not. But I think, the vast majority of this just – it's not much different than it was. It's improved slightly. It's just – we've taken the penalty. And now, it's kind of a right-sized basis going forward.

[Meyer Shields:]

No, that's very helpful. I'm just trying to sort of translate what we're seeing broadly into a premium trajectory. So that is really helpful. Two questions on the expense ratio, if I can. The first, is there any estimate of maybe temporarily reduced expenses in response to shutdowns that we should start adding back in as we get back toward normal?

[Larry Hannon:]

So Meyer, it's Larry. And I think the – we're constantly assessing that, right? Because what we're trying to bridge and what we're trying to do from an expense perspective is do what we believe is in the best interest of the business. In the midterm and the long term, right? Short term, we didn't overreact and sit there and say, hey we don't have these needs anymore and we're therefore going to reduce headcounts or we're going to do salaries or anything all those. We didn't think that was the right thing to do. And now as we're watching this right those resources as you're starting to kick-in, and we see a more robust pipeline, which is as robust as it's ever been from us from a new niche opportunity perspective. We're starting to see obviously many of our niches bounce back. I think it was a prudent choice on our part to have those resources ready to actually respond in that way. So I think that we're in a pretty good spot from that perspective. What you're seeing obviously is we're being very smart from a hiring perspective we're trying to do obviously as much as we possible can on the G&A side that would reflect, what that future expense will look like. And that would be a reevaluation of what real estate looks like in the future, a reevaluation of what our remote employee staff looks like in the future. And those are things that we're looking at now. When we have real information to share on those we'll definitely do that on a quarterly update, but right now those are in progress as opposed to something to report on now.

[Bob Bailey:]

Yeah, Meyer, the only thing that I would add is, clearly, we're benefiting from lower T&E because in this environment nobody is traveling anywhere but we also took $1.5 million of bad debt expense that long term, I don't see us continuing once we get past this uncertainty related to COVID. So, if anything, I think we've got a little dry powder in the way our expenses are. So I would not expect a big increase, once things go back to normal.

[Meyer Shields:]

Okay. Fantastic, that's good to hear. And I'm asking this last question recognizing fully that, its way too early. But with the dramatic rate increases that we're hearing from you, from other companies, when or what are the prospects for expense ratio improvement or loss ratio improvement, on the longer-term, relative to the current 62% and 32% outlined?

[Larry Hannon:]

So I'll start, and then I think Bob and Buddy please join in as well. I think the long-term prospects are good, on what that would look like and how that would translate, based on things that we understand today, right Meyer? So the real kind of uncertainty that's associated with your question, of course is we just don't know what's next, right? Do we have a significant recurrence from COVID? We obviously have to make sure we understand and see how long this rate environment really kind of is sustained. There's, a number of pieces that go into that, over the long-term. But we would expect that, it should be a positive impact in future years. I think there's going to be enough uncertainty, where we don't think that would affect the 2020 result. I think where we've kind of pegged the 62% is the right number for 2020. But assuming we get some more clarity, as we get through the remainder of the year, on what kind of the economic impact really is of COVID. And what that looks like going forward, specific to our niches, I would believe that, that will have positive impacts on both. Buddy or Bob, would you add anything to that?

[Bob Bailey:]

Yeah. I would just say, not -- I wouldn't change anything you said really but, I mean, it's clear that we're outpacing loss trends and expense trends, as we knew them to be. That's certainly clear. And that obviously is good news. The key is, as we knew them to be with -- to Larry's comments, COVID and the behavior of the economy right now, there's some unknown dynamics that, I think it's still too early to really understand, what impact favorable, or negative, or otherwise, or even no impact at all has it really had on these loss terms. And so I think 2020 would be too early to make that call. But, I too would share Larry's optimism.

[Meyer Shields:]

That’s fantastic. Thank you so much.

[Bob Bailey:]

Sure.

[Operator:]

[Operator Instructions]…

[Larry Hannon:]

Meyer didn't even ask this question either but -- Meyer didn't even ask this question, but I think it's interesting, right? In the virtual environment, we're in today. And you think about what we're dealing with from a COVID perspective, you've got three people that are speaking on this call, one's in California, one's in Florida, and one's in New Jersey. So if you think about what the personal experiences are for that, and how that translates to employees, and what that means, you can imagine that the uncertainty in each of those locations, kind of fuel some of the things that Bob and I just talked about.

[Operator:]

[Operator Instructions] And there are no further questions on the phone, at this time. I'll turn the call back to the presenters.

[Joe Hathaway:]

Thank you, Amy. I appreciate everyone for joining today. Thank you for listening into the second quarter 2020, ProSight Global earnings call. Have a great rest of the day.

[Operator:]

And this concludes today's conference call. Thank you for your participation. You may now disconnect.