State Auto Financial Corporation
Q3 2014 Earnings Call Transcript

Published: 4 Nov 2014

[Operator:]

Welcome and thank you for standing by. At this time all parties are in a listen-only mode. After the speakers’ remarks there will be a question-and-answer session. (Operator Instructions) Today’s call is being recorded. If you have any objections, please disconnect at this time. I would now like to turn our call over to State Auto Financial Corporations Director of Investor Relations and Finance, Tara Shull.

[Tara Shull:]

Thank you, Ryan. Good morning and welcome to our Third Quarter 2014 Earnings Conference Call. Today, I’m joined by our Chairman, President and CEO, Bob Restrepo; Senior Vice President and CFO, Steve English; Senior Vice President of Standard Lines, Joel Brown; Senior Vice President of Specialty, Jessica Buss; Chief Investment Officer, Scott Jones; and Chief Actuarial Officer, Matt Mrozek. Today’s call will include prepared remarks, after which we will open the lines for questions. Please note our comments today may include forward-looking statements which by their nature involve a number of risk factors and uncertainties, which may affect future financial performance. Such risk factors may cause actual results to differ materially from those contained in our projections or forward-looking statements. These types of factors are discussed at the end of our press release as well as in our annual and quarterly filings with the Securities and Exchange Commission to which I refer you. A financial packet containing reconciliations of certain non-GAAP measures along with supplemental financial information is available to all interested parties on our website, stateauto.com under the Investors Section as an attachment to the press release. Now, I’ll turn the call over to STFC’s, President, Chairman and CEO, Bob Restrepo.

[Robert P. Restrepo:]

Thank you, Tara. Good morning everyone. third quarter results for State Auto Financial Corporations continue to demonstrate improved underlying underwriting performance offset by the strengthening of reserves for the RED business, which has been a runoff. The quarter benefited from unusually low levels of catastrophe experience ongoing improvements in our personal insurance segment and strong specialty insurance results. Business insurance results were mixed with strong casualty and improved commercial property results offset by poor commercial multi-peril experience driven by large losses in our top line. Setting aside the impact of the homeowner quota share treaty and the RED reserve strengthening, our combined ratio for the quarter was 94.2% and 98% year-to-date, but currently in the market looking for lower cost replacement solutions for our homeowner quota share treaty. We’re also on schedule to complete the ground up analysis of our RED reserve position by year-end. In addition, we’re evaluating the status of our allowance for differed tax assets. Steve English will comment on each of these three significant issues later in our presentation. Rolling 12-month return on equity declined modestly this quarter to 7.5%, book value also declined modestly to $20.41 resulting from lower valuations in all asset classes. After adjusting for the impact of the differed tax valuation allowance of $1.82, our book value would have been $22.23. Catastrophe results for the quarter were the lowest for the third quarter of State Auto in well over 15 years. Certainly, the benign weather and lack of hurricanes were significant factors. We also think our aggressive property underwriting actions which included higher deductibles in agency management initiatives also helped. Excluding the impact of catastrophes we’ve remained very pleased with the progress we are making in the personal insurance segment, particularly with personal auto which accounts for approximately 30% of our net written premium. The underwriting pricing and agency management initiatives we’ve implemented in the five unprofitable states that we previously discussed are paying off and our improvement is ahead of schedule. We expect to achieve targeted returns for personal auto by year-end. Our homeowners line continues to perform well and it is now are most profitable line setting aside the cost of the homeowner quarter share being insurance free. Having addressed our underwriting and pricing issues and significantly strengthened our claim operations were now in a position to stabilize production and begin modest growth over the next two to three years. In business insurance commercial auto and liability results continue to be solid. Commercial property results return to normal with better weather and more normal large loss experience. The only cloud on our business insurance to rise in this past quarter, with the commercial multi-peril line where we experienced an unusual frequency of large liability losses, mostly spending from prior accident years. Joel Brown will discuss our view at personal insurance and business insurance in a few minutes. In specialty, we continue to report exceptionally good results in the excess and surplus and worker’s compensation line. Results in the program line are improving as we earn out price increases on our largest program and achieve scale with new programs. We have the underwriting pricing and claim controls in place to ensure that the program line will be a significant and stable contributor to State Auto’s future earnings. Jessica Buss will talk more about this in a few minutes. Our expense ratio declined a bit in the quarter, despite higher accruals for contingent commissions and incentive compensation, which were offset by expense control and profit sharing, received from our homeowner reinsurance quota share partners. Steve English will discuss in greater detail how this profit sharing feature operates and how it affected our third quarter results. With that I will turn you over to Joel, for a fuller discussion of Standard Lines results in both personal and commercial lines.

[Joel E. Brown:]

Thanks Bob. The third quarter of 2014 produced continued improvement and a solid profit for Standard Lines. Our personal insurance segment is the main driver of improving results with a lower personal auto loss ratio and consistently good homeowners’ results. We are pleased with the results and direction of Standard Lines and with the exception of commercial multi-peril results all of our Standard Line products are performing well. The personal insurance segment produced a 58.3% loss ratio for the quarter, compared to 65.7% in 2013. Through nine months personal insurance have a loss ratio of 61% compared to 64.9% for the same period in 2013. Personal auto showed significant improvement producing a loss ratio of 63.5% for the quarter, compared to 69.7% for the same period in 2013. The 6.2 point improvement was driven by the non-cat loss ratio with personal entry protection and physical damage contributing the most to the improvement. As a reminder, Personal Entry Protection or PEP was problematic for us last year. We reduced policies in states with significant PEP exposure such as Michigan, also over the past three years we have been aggressive and seeking rate for this coverage. And we formulated a new claims unit to specifically deal with PEP losses. PEP was profitable for the quarter and year-to-date. For the year, we’re showing a 50 point improvement in our experience on this line on a direct loss ratio basis. On a year-to-date basis, personal auto was profitable with a 63.7% loss ratio which represents a 3.7 point improvement over the first nine months of 2013. In previous calls we’ve talked about the disproportionate impact five states Arizona, Colorado, Georgia, Illinois and Michigan for producing on the Company’s personal auto loss ratio results. These five states non-cat loss ratio continues to show a 13 point improvement compared to the first nine months of 2013. The other 23 states continue to be profitable through nine months and showed a 2.2 point improvement in the non-cat loss ratio, compared to the same period in 2013. We continue to produce strong rate increases on the personal auto book. The earned rate change impact was 5.9% for Q3 and is expected to be over 6% for the entire year. The rate yield compares favorably to our flat loss trend. As our rate need continues to moderate retention has improved by over a point and we’re seeing significant retention improvement in our two largest states of Ohio and Kentucky. Written premium for personal auto was down 6.9% for the quarter and 5.7% year-to-date. The aggressive and appropriate actions we’ve taken with the five focus states coupled with the residual impact of our homeowners remediation plan are continuing to drive the negative trend and written premium and policies in force. We are currently rolling out a new business discount which will be in 15 of our states by year end. This discount targets perspective customers with strong stability factors. This discount coupled with other new business initiatives is designed to improve our written premium result in personal automobile. Catastrophes had relatively no impact on our homeowners book for the quarter. For the third quarter the homeowners loss ratio was 40.8% compared to 43.8% for the same period in 2013. Through nine months the homeowners’ loss ratio was 51.8% compared to 55.3% for the same period last year. The non-cat loss ratio was 39.5% for the quarter and 39.2% year-to-date and this compares the 33.8% and 41.2% for the same periods in 2013. Rate activity in homeowners’ continues to be strong. Year-to-date, we are producing a 7.6% rate increase. The earned rate impact was 10.2% for the third quarter and it will exceed 10% for the year. Rate increases are now moderating due to more favorable pure premium trends. Written premium for homeowner showed a small increase of approximately 1% for the quarter. Year-to-date premium is a negative 1.1% policies in force are lower as compared to the prior period. Our homeowner’s remediation plan is completed, rate changes are moderating and policy retention has improved by a 1.6 points compared to 2013. Finally, all major lines within personal insurance including our (indiscernible) range business are profitable through nine months. Standard business insurance produced a third quarter loss ratio of 57.3%, compared to 54.7% for the same period in 2013. On a year-to-date basis the business insurance loss ratio was 60%, which compares to 56% for the first nine months of 2013. Our year-to-date result has been driven by the severe weather losses in Q1 and the large fire losses in the first and second quarters. Fire losses did mitigate in Q3, however, we did experience a higher level of casualty large loss at this quarter in our business owners’ program. In business insurance, we measure rate activity by price per exposure, which is a true indication of the actual rate increase. Price per exposure for Standard Lines business segment was 3.5% for the quarter and is a positive 4.7% year-to-date. We continue to produce positive rate increases in a moderating commercial lines rate environment. Written premium for business insurance increased 2.9% for the quarter, and is 4.3% year-to-date. Rate activity in the writing of larger commercial accounts are driving the increases in written premium. Policies in force were down 4% in 2014, our retention and business insurance has increased by a point year-to-date. Commercial auto continues to perform well. For the quarter, the loss ratio was 60.9% and is 56.5% through nine months. This compares to loss ratios of 60.4% and 61.1% for the respective periods in 2013. For commercial auto the price per exposure increase was 3.7% for the quarter, and is running a positive 4.5% year-to-date. Written premium increased 7.2% for the quarter, and is up 5.8% through nine months. Commercial multi-peril produced a loss ratio of 70.6% for the quarter compared to 55.3% for the same period in 2013. Large losses are the main driver in the increase of the quarterly loss ratio. For Q3 the large loss impact was due primarily to liability losses. Two specific large losses one in Ohio and one in Kentucky produced a six point impact on the quarterly loss ratio. Through nine months the loss ratio was 69.9% compared to 62.6% in 2013. In addition to the third quarter impact of liability losses, the year-to-date loss ratio is impacted by Q1 losses from the unusually severe and harsh winter and as reported in earlier earnings calls, we also saw the impact of large fire losses, which were elevated in the first and second quarters. We have reviewed and are continuing to review in-depth our business owners’ line. We’re in the process of restricting eligibility for some core performing classes, we’re also examining overall bob eligibility for certain risk segments and sizes of premium. For our business owners line price per exposure increased 4.2% for the quarter and is up 5.5% through nine months. Written premium for CMP increased 6.6% for the quarter and has increased 7.9% year-to-date. Fire & allied lines produced a loss ratio for the quarter up 35.8% and a 64.5% through nine months. This compares to a loss ratios of 48.9% and 44.5% for the same periods in 2013. We did experience an increase in large fire losses in the second quarter of 2014; as a result our large loss ratio was higher on a year-to-date basis for 2014, compared to the previous year. The large loss ratio did decrease significantly in Q3, specifically large fire losses returned to a more normal and expected level. Price per exposure increased 1.7% for the quarter and 2.5% year-to-date. Written premium is negative 0.5 for the quarter and down less than a point year-to-date. Other & product liability produced a loss ratio of 57% for the quarter, compared to 54.7% in Q3 of 2013, through nine months the loss ratio was 49.8%, compared to 53.6% in 2013. Price per exposure increased 4% for the quarter and 6.2% through the first nine months. Written premium decreased 4.7% for the quarter but is a positive 3.4% for the year. I’ll now turn you over to Jessica Buss, to discuss Specialty results.

[Jessica E. Buss:]

Thanks Joe, specialty had an exceptional quarter which aided already strong year-to-date results excluding RED. Our property E&S, casualty E&S and workers compensation unit continue to outperform expectations and generate healthy underwriting profits. Our programs unit continues to show loss ratio improvement in our ongoing programs but was adversely impacted by terminated RED programs that are in run-off. I am very pleased with the consistency of our profitability which is a reflection of underwriting discipline, talent and niche focus. Our quarter-to-date specialty segment loss ratio of 75%, increased 14.1 points as compared to the third quarter of 2013, as a result of the RED reserve strengthening, which is (matching) and otherwise very profitable quarter. The year-to-date loss ratio for this segment of 67.6%, increased 3.4 points compared to the first nine months of last year, as the RED increases were mostly offset by continued profitability in our E&S property and causality and workers compensation units. Excluding RED our year-to-date loss ratio of 53.1% improved 1.9 points over the same period last year and as a more active reflection of our loss ratio from ongoing operations. Specialty’s net written premium for the quarter increased 43.3% year-over-year. Production increases in this segment were generated primarily from new business written in our E&S casualty unit, as the results of partners, general agencies. The general liability team acquired in the second quarter and rate achieved in our workers compensation units. Our expectation for the remainder of 2014 is that specialty rates were flattened impacting most lines with the exception of workers compensation, where we expect rates to continue to increase. We are experiencing rate pressures across all units, with property catastrophe rates being hit hardest. Year-to-date, we have achieved rate improvements in the mid-single-digits. Our Specialty segment is well-positioned with product and talent to a profitable business in the current softening market. And will continue to focus on growth in opportunistic products by adding additional talent, increasing our presence in major E&S markets and cross-selling products. Given increased competition across most of our units, I’m very happy with the profitable growth we have achieved. Particularly in our casualty business which is our targeted growth area as we continue to diversify our portfolio offerings in spite of risk. I’ll now comment on the performance of each of our specialty units. Our E&S property unit continues to outperform expectations and despite additional capital flow in the market and reduced reinsurance cost, we have been able to grow (paying) rate areas and produce strong profits. We are very pleased with the loss ratio for the quarter of 19.6%, even though it increased 23.2 points from the same period of 2013. The 2013 third quarter loss ratio was negative due to a one-time reinsurance recovery booked in the quarter for loss that occurred in the previous quarter. The Year-to-date loss ratio of 18.6% is a 2.7 point improvement over the same period of 2013 primarily due to a large hail loss in 2013. Our loss ratios for the quarter and year-to-date were better than expected due to a lack of materiel hurricane activity and better than anticipated results in our non-catastrophe property business. Our property rates are flat year-to-date. If we finish 2014 free from a catastrophe event and on top of already reduced reinsurance rates and additional capacity from traditional and collateralized market. We believe that the property catastrophe market will continue to soften and decline in the fourth quarter and into 2015. We will remain consistent in our approach to only right business, we feel is price adequately and do not file the market down below what we feel is required to achieve risk adjusted return. Third quarter net written premium growth of 100%, was driven by new business and lower reinsurance cost. Years-to-date written premium growth of 22.6% is more reflective of our trajectory for the year and was primarily driven by an increase in new business generated by one of our distribution partners. The E&S casualty unit also performed well with the profitable 2014 third quarter loss ratio of 47.5%, a 10.4 point improvement from the third quarter of 2013. The nine months loss ratio of 47.4% is a 5.1 point improvement from the same period in 2013. The improvement is a result of better than expected performance in our environmental an umbrella line, which has been consistent throughout 2014. Net written premiums grew 72.8% for the quarter and 40.8% for the first nine months. Rates have begun to plateau, but we have still been able to maintain low-single digit rate increases of flat pricing across our casualty lines. The growth in production is largely due to the acquisition by our parent State Auto Mutual our partners general agency. As previously discussed, the team came on board June 1, 2014 and the rollover business will occur through second quarter 2015 as the book renewed. Therefore we would expect to continue to see growth in our casualty units through the second quarter of 2015. We will continue to pursue acquisitions of teams our books of business that are strategic opportunistic and accretive to our casualty unit in terms of growth and profitability. We also evaluate businesses that do not fit our strategy either because they are not accretive to our results or do not have scale. To that and we decided to exit the security business, which was a sub scale line for us, via renewal right transaction. That sale was effective on October 1, 2014. The program unit loss ratio of 137.6% deteriorated 52.4 points in the third quarter compared to the same period 2013. The previously disclosed results strengthening and terminated RED program business contributed 72.7 loss ratio points. Through the first nine months of 2014, the loss ratio deteriorated 26 points compared to the same 2013 period, again attributable to the additional reserves for runoff program business previously written by RED. This masks a very positive story for our ongoing programs. The loss ratio for active program continues to improve as we diversify our portfolio. Excluding the impact of RED the quarter-to-date and year-to-date loss ratios were 64.9% and 65.6% respectively. The quarter-to-date improvement for the third quarter excluding RED was 3.6 points compared to the same period 2013 demonstrate in the progress we are making in the profitability of ongoing programs. The quarter-to-date net written premium growth of 22.9% and the year-to-date premium growth of 8.3% was driven by a combination of the addition of two small new programs and rate increases across all programs including a 9.8% rate increase achieved on our largest program. Our strategy remains to target small to medium niche programs with proven track records of profitability and distribution. We have been very deliberate in selecting new program partners and diligent in our ongoing monitoring an over side of existing programs. We have used the lessons learned from RED to improve the quality of our program business and (indiscernible) relationship and believe we’re on our way to building scale with niche programs at profitable rates. Our workers compensation unit remains stable and continues to benefit from our rate increases underwriting discipline and niche strategy. We have had another quarter that is out performed expectations and industry results. Quarter-over-quarter and year-to-date loss ratio were essentially flat relative to the same period in 2013, however (hope) for better than expected. Strong performance can be attributed to continued improvement of fire accident years and cumulative effect of rate increases achieved in 2013 and 2014 which are 7.5% for the year ended 2013 and 4.8 % year-to-date 2014. We are starting to see rates stabilized in the market, as the industry results have improved significantly on a calendar year basis, however, we are still achieving and continue to expect single-digit rate increases primarily in our (indiscernible) workers compensation business. Year-to-date net written premium growth over the same period of 2013 was 17.7% and 36% for the quarter. The majority of the growth generated in our monocline comp comes from rate, increase new business opportunities in our debit mod business and increased submissions in our small monocline comp distributed through retail agents and aggregators. We feel we are well positioned to continue to generate combined ratios in the mid to 90s in both our monocline and account written workers compensation book for remaining committed to our desired statement classes. And with that I will turn you over to Steven English.

[Steven E. English:]

Thanks, Jessica. As Bob mentioned I will comment today on our efforts regarding potential next steps if any as the homeowner quota share treaty expires at the end of this year. In addition, I will address RED reserves strengthening recorded in the third quarter and comment on taxes and investment results. First RED reserves strengthening recorded in the quarter was $13.8 million bringing the year-to-date total to $25.4 million. The adjustment reflects additional information included from the ongoing ground up analysis and assessment of RED program claims. As a reminder, last quarter we disclosed our intent to take our full file management up claims from third party administrators for the restaurant and commercial trucking programs the two largest RED programs complete this by year end. This transition and review begin in early September and is on going for both programs. The adjustment made reflects our best estimate based upon the information available and the once the ground up assessment is completed we will reassess those estimates. I caution investors not to draw any conclusions based up on the amount recorded in the third quarter. As of September 30 2014, STFC’s carried RED loss reserves of totaled $83.1 million. Approximately three fourth of the $13.8 million adjustment related to the restaurant program with the balance being primarily the trucking program with accident years 2011 and 2012 being most impacted. Specifically for the restaurant program, open claim accounts stood at 1100 down from 1200 at June and 1500 from year-end December 2013. In the past quarter, newly reported claims dropped to 40 compared to around the mid 70s the past two quarters. Almost 60% of reported development was attributable to 50 open claims. Again as reported a quarter-ago a significant portion of these claims involved first notice lawsuits. Claims in suit now account for approximately 80% of the outstanding claim reserves as of September 30, 2014. For the trucking program open claim accounts were around 300 as of the end of the quarter as compared to approximately 500 last year end they have not been significant numbers of newly reported claims this year for the trucking program rather unexpected development has occurred on a number of over outstanding claims. As we have previously stated is our goal to resolve this by completing the ground up analysis and reserve evaluation effective December 31, 2014. In addition, we have begun preliminary discussions with our reinsurance broker regarding a possible adverse development cover and expect to have further conversations before year end exploring this option. Despite the reserve strengthening taken today on RED STFC’s overall net favorable reserve development through September 30, 2014 is $12.1 million. Now, let’s move on to the homeowner quota share treaty. First, as you may recall the existing treaty contains a profit sharing feature that caps the profit of our partners at 9% over the three year period. For the first time, we recorded $2.9 million of profit share in the third quarter of 2014. We would anticipate that additional profit share will be recorded in the fourth quarter, assuming good continuing homeowner results, for example if our homeowner loss ratios in the fourth quarter of 2014 are identical to the fourth quarter of 2013 we would expect to record an additional profit commission of approximately $9 million. This demonstrates the progress we have made in reshaping our footprint, enhancing product features and improving pricing for our homeowner line of business. In regards to our efforts of potential next steps, we are in the market seeking quotes on two quota share structures and one aggregated stop loss structure. The first quota share option is a reduced homeowner quota share treaty, while the second option with favorable homeowners and standard commercial lines property. The aggregate stop loss option covers all property including specialty. We expect to receive quotes in the next couple of weeks and look to extend firm order term sometime in the first half of December. Our objective continues to be look – to look for cost effective ways to protect downside risk and earnings volatility. Despite the RED strengthening STFC reported earnings for the quarter and we continue to evaluate the need for an allowance against our net deferred tax assets, we are engaged in conversations with our auditors and performing evaluation of both positive and negative evidence as required by the accounting standards. We are solidly in a three year cumulative income position on a reported basis, and anticipate that will remain the same throughout the end of 2014 We will be able to comment further on this upon completion of these analysis and discussions during our fourth quarter earnings call early next year. Investment income was flat that’s compared to the third quarter of 2013. As compared to last quarter the decline in investment income is due to our TIPS portfolio. Unrealized investment losses across most of our asset classes offset our earnings and resulted in our book value per share declining $0.24 as compared to June 30, 2014. We remain with overall unrealized gains as of the end of the quarter. Finally, STFC’s insurance subsidiaries have $765 million of statutory capital at the end of September. And with that, we’d like to open the line for your questions.

[Operator:]

(Operator Instructions) Your first question comes from the line of Paul Newsome from Sandler O’Neill. Your line is open.

[J. Paul Newsome:]

Good morning and thank you for the call. I want to ask about the ground up survey related to RED, and how that ground up survey differs from obviously updated results and whatever analysis that you obviously did. For the third quarter that resulted in the charge for RED?

[Steven E. English:]

Sure, Paul. This is Steve. So the movement that we’ve made here in the third quarter really as a result of two things, one, ongoing development that we’re seeing from the normal ongoing process, but then of course we began to transition all of the claim process into us and started going through claim files file by file. Our claim staff is less than half a way through that initial evaluation on the restaurant program. For the trucking program we’re just now in the process of taking those claims and have. So, again I caution people not to draw conclusions or make too many inferences about the amounts recorded in the third quarter relative to how far we are. Our review to date began with the restaurant program and we focused initially on some of the larger claims and some of the claims nearing trial, of course each claim file is different. We learned additional information once a ground up file review was completed, and as we complete both these program reviews at the end of this quarter. As we do each period, we reevaluate all of that information, and then we’ll recess the ultimate liability.

[J. Paul Newsome:]

Great. Are you doing ground up analysis this case by case analysis on other business is other than RED?

[Steven E. English:]

No, just RED at this time.

[J. Paul Newsome:]

All right. Thank you. That was my only question. I appreciate it.

[Operator:]

Your next question comes from the line of Brett Shirreffs from KBW. Your line is open.

[Brett Sherriffs:]

Good morning. Thanks for taking my questions. And first question I have is it looks like the year-to-date non-cat loss ratio in personal auto was running at a 61.4 I think it’s on your supplement. Is that kind of in line with your longer-term expectations or would you expect a little bit of a higher ratio?

[Robert P. Restrepo:]

Joel?

[Joel E. Brown:]

Brett, this is Joel Brown. That really is in line with our expectations. We believe our pricing now is adequate. The results that we’re seeing on a year-to-date basis, we would expect to continue going forward and we’re pleased with the overall turnaround of the book and now its stability.

[Brett Sherriffs:]

Okay. And could you maybe expand a little bit on some of the gross initiatives you’re targeting for 2015 in personal lines?

[Joel E. Brown:]

Yes, what we’re doing is looking to really stabilize our policies and force as a result of our home owners activities with rates and deductibles and termination of some agencies. We’ve seen a negative trend. And then also within our five states that I have mentioned in the earnings call sort of five focused states for auto; we have some negative impact on our book of business. So what we’re looking at is not taking any rate decrease on our existing book, but finding ways to be creative and attracting what we believe is going to be good profitable new business. I mentioned a new discount that will be in 15 of our states by year-end. What that discount targets are individuals that have prior experience with their previous company for 36 or more months. So we’re really looking at stable individuals that have had good experience and good strong credit scores that fit into our new business model. So it will be a controlled growth, but it will help again stabilize our book of business as we were target for some of the profitability actions that we undertook.

[Brett Sherriffs:]

Great, and then one for Jessica. The program business continues to get pretty strong rate increases on the ongoing booking. Just wondering if you could give us a little more details on the programs that you’re riding currently and I think you said 9% rate increases on the largest program that seems pretty high. Are there profitability issues going on? Or how are you achieving those kinds of rates?

[Jessica E. Buss:]

Sure, Brett. This is Jessica. First of all the nature of our program book is a pretty diverse of about 8 to 10 different small to medium sized programs that tend to focus primarily in two areas either causality focus or wheel based focus or auto based focus. Our largest program is tow truck program which is auto focused and casualty focused and you – quarterly rate increased 9.8%. And we have had some profitability issues related to that program in recent accident years, and so we did implement rate increases however, as a result of the year-over-year rate increases that we’ve gotten in that program. We have been able to return that program back to close to a 100% combined ratio.

[Brett Sherriffs:]

Okay. And then just couple of quick numbers questions, how big was the surety renewal write sale?

[Joel E. Brown:]

How big was the book that we sold?

[Brett Sherriffs:]

Yes.

[Joel E. Brown:]

It was about approximately $4.6 million.

[Brett Sherriffs:]

Okay. And then Steve, it looks like the expense ratio was up a little bit excluding the profit sharing from the homeowners treaty is that good run rate to think about?

[Steven E. English:]

If (indiscernible) take a look at the nine months run rate where of course remembering the 14 number there is the IT sourcing charge that we took last quarter. And that’s about a 0.5 of a point and then, year-over-year we’ve got a little bit higher level of QPA expense running through there as well as the underlying businesses have improved their profitability. So I would look at that nine months rate and adjust it down for the IT sourcing charge and that gives a decent ongoing run rate.

[Brett Sherriffs:]

Okay. Thank you very much.

[Operator:]

Your next question comes from the line of Larry Greenberg from Janney Capital. Your line is open.

[Larry Greenberg:]

Good morning and thank you, couple of questions. Joel, in your prepared remarks, you’ve talked about auto achieving your targeted profitability by the end of the year. And then an answer to the question, it sounded like you are kind of there now, am I hearing that correctly?

[Joel E. Brown:]

Yes. We are within a point of where need to be by year-end. So given our loss trends coupled with the rates that know we have in the system we feel comfortable, we are going to be right where we need to be.

[Larry Greenberg:]

Great. And how would you describe non-cat weather in the quarter?

[Joel E. Brown:]

We really, it was very benign.

[Larry Greenberg:]

Okay.

[Joel E. Brown:]

We didn’t have much, it really, the only that I can think of we had a hail storm in Denver, Colorado area which had a very small impact, but we really had we were absence of both cat and not-cat weather in the quarter.

[Larry Greenberg:]

Okay. And then as we look forward and consider commercial lines pricing relative to loss trend what would your expectation be looking how 12 months or so, through next year, let’s say?

[Steven E. English:]

What we have seen and looking at our data as well as industry data is that, things are beginning to slow down were at about 4.5% year-to-date, but we are seeing a monthly run rate of around 3.7%, we believe we can continue with that 3.5% to 4% increase into next year, we have a small book of business and we automat a lot of the renewals on that business, as a result there’s not a lot of human intervention on a renewal basis. So we believe those smaller policies are a bit more inelastic and we’ll be able to achieve close to that 3.5% 4% increase.

[Robert P. Restrepo:]

Larry, Bob Restrepo, just a follow-up on what and support what Joel saying, I’ve spent a lot of time visiting agents, I probably visited about 50 agents over the past months or so and the constant refrain I’ve heard across the country is that – agents feel pretty comfortable and confident that they can continue to sell 3% to 4% of price increase is on the standard commercial lines. Specialty is different and varies by segment particularly with property, but for the standard lines agents continue to feel comfortable selling 3% or 4% price increases and on recovering economy helps.

[Larry Greenberg:]

And that would cover loss cost growth in your mind?

[Robert P. Restrepo:]

I think it’s an excess of our loss cost growth.

[Larry Greenberg:]

Okay, great, thanks. And then lastly on RED, your exploration of an adverse development cover, you’ve stated an intention hopefully (indiscernible) intention to kind of close the book on RED by the end of the year and I guess I’m just curious clearly if you purchase the ADC that would pretty much achieve that objective, but what should we be thinking about is other options possibly if that were not consummated?

[Steven E. English:]

Well, I mean to be frank, Larry, the only other option is as we – if we are not successful in getting the ADC is whether or not that we adequate provide in the year end numbers, the ultimate claim cost – I mean there are – you tell me another option.

[Larry Greenberg:]

And now I can’t think of one.

[Robert P. Restrepo:]

Yeah, well and just to support what Steve was saying this is Bob Restrepo again. When we look at our reserves as best as we can, we look at the probability of them being accurate and so the final test for us will be recognizing you can never be a 100% accurate – what is the probability of accuracy. And we’ve as you know it tend to be pretty conservative making sure that we’re much more likely than not to be right.

[Larry Greenberg:]

Yeah, we have thought that a year ago on RED.

[Robert P. Restrepo:]

But that is in the absence of the ground up analysis. We are going to know a lot more this year having completed the ground up analysis. And also having a couple of years of experience behind us, these are all pretty immature programs.

[Joel E. Brown:]

And I would add also to that Larry that RED is just one piece of the reserving puzzle, so when we look at probabilities and assess the adequacy of our reserves were also doing that in the totality, and that has continued to run-off net favorable, notwithstanding the RED reserves that we’ve had to take.

[Larry Greenberg:]

Okay. But even though you are just roughly half of the way through transferring all the restaurant files and you’re just getting going on trucking. You are confident that you’ll be through that process by the end of the year?

[Joel E. Brown:]

Yes, we’re confident that we’ll complete a file – case file reserve of every file in both of those programs and then take that into consideration in estimating our reserves as of December. Yes.

[Larry Greenberg:]

Okay. And have you been out in the market at all testing for an EVC?

[Joel E. Brown:]

Not from a pricing perspective, but our broker has contact a number of markets and has – we authorize them to for just one reason I am talking so freely about it on this call. We did authorize them to name names and then start having discussions. So, but not, no pricing indications.

[Larry Greenberg:]

Okay. Okay thank you.

[Operator:]

(Operator Instructions) We have no further questions. I would like to turn the call back over to the presenters.

[Robert P. Restrepo:]

Thank you, Ryan. We want to thank all of you for participating in our conference call State Auto Financial Corporation. We look forward to speaking with you again on our fourth quarter earnings call, just currently scheduled for February 19, 2015. Thank you and have a good day.

[Operator:]

Thank you. That concludes today’s third quarter 2014 earnings conference call. Thank you for your participation. You may now disconnect.