United Fire Group, Inc.
Q4 2020 Earnings Call Transcript

Published: 17 Feb 2021

[Operator:]

Good morning. My name is Chuck, and I'll be your conference operator today. At this time, I would like to welcome everyone to the UFG Insurance Fourth Quarter and Year-End 2020 Financial Results Conference Call. All participants will be in a listen-only mode. Please note this event is being recorded. I will now turn the call over to Randy Patten, Assistant Vice President and Controller. Please go ahead, sir.

[Randy Patten:]

Good morning, everyone, and thank you for joining this call. Earlier today, we issued news release on our results. To find a copy of this document, please visit our Web site at ufginsurance.com. Press releases and slides are located under the Investor Relations tab.

[Randy Ramlo:]

Thanks, Randy. Good morning everyone, and welcome to our fourth quarter and year-end 2020 conference call. As we mentioned in our press release, on February 11, 2021, our fourth quarter results were negatively impacted by social inflation, resulting in an increase in severity of current accident year losses and in prior accident year reserve strengthening. Social inflation continues to impact the entire industry. Unfortunately, our two largest states, Texas and California, are amongst the highest trending social inflation states, meaning the impact to UFG is magnified. In recognition of social inflation trends during 2020, and particularly in the fourth quarter, new commercial auto and general liability claims were reserved with more pessimism. Additionally, progress has been made to shorten the claims cycle, with reserves being established earlier in the process than in past years, with new analytic insights driving these outcomes. Also, during the fourth quarter, we reviewed the reserve adequacy of our open prior year/accident year case reserves in consideration of our more pessimistic view. The full-year of 2020 results were also negatively impacted by a historical level of catastrophe losses. Catastrophe losses added 13.5 points to the combined ratio in 2020, which is the highest in the last five years and significantly higher than our five-year historical average of 5.6 points prior to 2020. During the year, we experienced catastrophe losses of $231 million before reinsurance, $142 million net of reinsurance. The majority of these losses came from three significant events that occurred in some of our largest geographically exposed areas. Two of these events impacted Cedar Rapids, Iowa, the location of our corporate headquarters. These events were the August Midwest derecho with peak winds of 145 mph, and a hailstorm in April, impacting the Greater Cedar Rapids, Iowa area. The third event was Hurricane Laura, which impacted another heavy exposure area for UFG in Southern Louisiana, the location of our 2019 agent of the year.

[Mike Wilkins:]

Thanks, Randy, and good morning, everyone. In my portion of the call, I will discuss the progress of our strategic plan, focusing on the positive outcomes of the past year, while addressing our 2020 results, and our plans for improvement. First, as mentioned throughout 2020, our focus has been on reducing the size of our commercial auto portfolio by non-renewing underperforming accounts and reducing the number of exposure units. During 2020, we successfully decreased our commercial auto book, which now makes up 28.7% of our portfolio compared to 31.2% at the end of 2019.

[Dawn Jaffray:]

Thanks, Mike, and good morning, everyone. In the fourth quarter, we reported a consolidated net loss of $8.9 million compared to a net loss of $23.2 million in the same period of 2019. For the full-year of 2020, we reported a consolidated net loss of $112.7 million compared with net income of $14.8 million for the full-year of 2019. As Randy and Mike mentioned, the quarterly results were impacted by severity of losses from what we believe to be the influence of social inflation and prior accident year reserve development. During the fourth quarter, we recognized unfavorable prior accident year reserve development of $12.4 million, primarily driven by our commercial liability and auto liability lines of business. For the full-year of 2020, we had favorable development of $17.7 million compared to favorable development of $5.3 million for the full-year of 2019. As a reminder, we've had continued favorable prior accident year reserve development every year since 2009. Catastrophes were significant and impactful on results during 2020 with the results of $142 million compared to $64.4 million for the full-year of 2019. Also contributing to the fourth quarter net loss was the continued impact in severity of losses.

[Operator:]

Thank you. We will now begin the question-and-answer session. And the first question will come from Paul Newsome with Piper Sandler. Please go ahead.

[Paul Newsome:]

Good morning. Thanks for the call. Hope everyone is well. I was hoping you could give us a little bit more details on what you call social inflation. Is it very much specific to commercial auto, and is there any sort of additional details to the kinds of lawsuit severity that you are seeing that would give us a sense of what might be going on?

[Randy Ramlo:]

So, Paul, I’ll start with this one, and then maybe Corey will chime in a little bit from the claims side. I think we've kind of mentioned that a couple of the states that show up in the press as being the more difficult ones, and Texas and California are unfortunately our two biggest states, so we have a bit of a problem right there. Yes, commercial auto has been a huge target, kind of by the plaintiff's bar, kind of workers' compensation maybe was at one time, but a lot of the kind of scheduled limits on compensation has made that less attractive. But commercial auto and especially all those covered with an umbrella have been real targets. And it's not just necessarily jury or judgment awards, but two things we see -- that we used to see in claims were somewhat unique, which is traumatic brain injuries and then post-traumatic stress syndrome. And it is amazing on what percentage of really even low-impact claims that we see both of those, and we've kind of talked a little bit about our analytics tools, and those tools pick out characteristics of claims that translate into a high likelihood that, a, there will be litigation, and b, adverse litigation. And those are two terms that really stick out. So where that's coming from, if it's physicians are more likely to diagnose those two conditions, but both of them kind of translate into possible bigger payout. So a lot of it is juries and judges ignoring negligence, but also it's kind of the propensity of these kind of injuries. So UFG, yes, auto is a big target, auto with umbrellas. Unfortunately, we have a large percentage of our book in auto, and considerably above a lot of our peers. And as I think Mike mentioned, we're working on getting that more in line, and then we're also in kind of some of the worst states, so those two both have been very adverse to UFG. So maybe I'll ask Corey if he wants to chime in here a little bit with some more information on just claims specifically.

[Corey Ruehle:]

Hi, Paul. This is Corey Ruehle. If you look at our social inflation on an overall basis, it's running right in line with what the industry is seeing as well. If you break out commercial auto for California and Texas it's about double that year-over-year over the last five years. We are seeing some positive results though. Our new suit counts, starting in January of 2019 until now, have been dropping steadily, but if you look at those new suits, California and Texas run almost half of the total for overall new suits. Our closing cycle time on those suits has continued to be very steady. And so, what we've created is a nice gap between the number of new suits coming in and the number of closed suits that we're still maintaining. Our payment cycle time has also improved over the last few years, which to me is a good leading indicator that we're actually getting out ahead of these claims. We've also been tracking for new commercial auto BI claims that come in, in a given quarter, what level of reserving that we're establishing on those claims, and I can tell you that we've almost doubled where we were at traditionally starting in the third quarter of 2019 and all of 2020. So, we're making really good progress there. As randy had mentioned, we also instituted the severity model in the fourth quarter of last year, and that severity model has allowed us to be able to triage these claims to the rate adjustors right off the bat, so that we're getting out ahead of these claims and seeing improved settlements. If you look at social inflation on claims that are open longer than two years versus those claims that we're able to close in less than a year, the gap is continuing to widen there too. So the longer a claim is open, especially if it is in litigation, we're seeing quite a bit more inflation there.

[Paul Newsome:]

So, my second question in regards to the math of the fundraising of the $50 million in surplus notes debt, could you kind of put together the pieces of why $50 million would be needed to fund growth when it looks like the book is actually going to shrink at least on a revenue basis because of your underwriting initiatives?

[Randy Ramlo:]

So, maybe we'll let Dawn tell you a little bit about it . She was most heavily involved in the surplus note. So, I'll let her kind of give a little background.

[Dawn Jaffray:]

Sure, I'll make a couple of comments here, Paul, and then I'll ask Mike to weigh in as well. Clearly, our growth opportunities looking forward, it made sense for us to add some additional, what's treated for insurance purposes, as capital, as you know, in the form of a surplus note. Yet on a GAAP basis, it's treated as a debt. And we thought it was an opportunistic time to add a very small amount that was to support our various “One UFG” plan initiatives.

[Mike Wilkins:]

And, Paul, this is Mike… You were accurate, that we expect to see premiums shrink going forward. However, we do have some areas that we plan to try to grow fairly aggressively. Areas that have been extremely profitable for us in the past, we think represent good opportunities going into the future. The main areas there would be our surety operation, excess surplus lines, and assumed reinsurance. We've set out fairly aggressive growth goals in those areas and felt this was a good move to make sure we have that adequately supported.

[Paul Newsome:]

So, is this a desire to end up putting cash in the right spot for that particular segment in close? Or is it just a -- I guess, I'm still not -- if the business is shrinking, why do you need more surplus capital? Maybe we can take it offline and wondering how the management has been doing.

[Dawn Jaffray:]

Thanks, Paul. I think that the main point is just continuing our historical approach to retaining a strong balance sheet and being prepared for the future. As you're aware, this is a very small amount relative to our overall capital structure. And we've had no debt type instruments and the uniqueness of this opportunity being a surplus note was also a part of the draw for us.

[Paul Newsome:]

Great, okay, thank you. I'll let some other people ask questions if they have more. I appreciate the call, .

[Randy Ramlo:]

Thanks, Paul.

[Operator:]

The next question will come from Marla Backer with Sidoti. Please go ahead.

[Marla Backer:]

Thank you. So, I have a couple of questions in part a follow-up to what the discussion just talked around. First, during 2020 we obviously saw a lot of delays if not outright closures in the courts. Do you think there's any impacts of that in terms of what you're seeing that makes you more pessimistic now in the social inflation?

[Randy Ramlo:]

So again, maybe this is Randy. Maybe I'll make a quick comment and then ask Corey if he has any thoughts. Kind of early on I think we did -- we saw some willingness to settle claims early on in the pandemic. I'm not sure that has necessarily lasted on, but kind of from everything we're seeing, most people are predicting this kind of not to be a short-term fad, but it's kind of just baked in another factor is income inequality. That's one of the big drivers in States that have the largest income gaps are also where a lot of the big judgments are coming out of, some calling them nuclear judgments. We haven't necessarily had that much problem with that. Ours is more -- a percentage is kind of being added on to what a normal judgment would have been four or five years ago. So, I think, some of the courts are getting ready to -- just start to open up, but I don't know if the pandemic has had much overall effect on social inflation itself. I think it's just more kind of a changing attitude of society. Corey, do you have any comments?

[Corey Ruehle:]

Hi, Marla. When we look at some of the leading indicators that have kind of driven where we're at with social inflation, a lot of those were -- you were seeing good signs prior to the pandemic even starting. And I had mentioned our new suits dropping…

[Marla Backer:]

That's what I thought…

[Corey Ruehle:]

So I'd mentioned our new suits dropping, and even with the pandemic, the rate of drop on a year-over-year basis has continued to be pretty steady. So it wasn't a sharp drop off when the pandemic started there. It will be interesting to see those courts open up what happens there to see if there are changes in the way people approach things. But we're still taking it a very fair, but very aggressive approach to getting claims settled as early as possible.

[Marla Backer:]

Okay. And then in terms of higher reserving and earlier reserving, does that mean that we should expect to see that trend continue at least until we sort of anniversary this slight shift in your strategy vis-à-vis reserve?

[Corey Ruehle:]

We're going to continue to review claims on a regular basis. One thing about social inflation is, it is a moving target and that claims are changing on a daily basis. And so, it's important for us to do continue to do a constant review, and there could be some continued developments into 2021, but there'll be more to come there.

[Marla Backer:]

Okay. And then…

[Randy Ramlo:]

Hi, Marla, this is Randy. Go ahead. Okay, this is Randy again. One kind of further comments I would make is usually when you hear of reserve strengthening, you'll look that the reserve was maybe put up incorrectly, and I think what we're more seeing is just that the game has kind of changed. The reserves we may have put up a year or two ago, were kind of adequate for the times, but as we have kind of seen things settle and develop as we mentioned, we've just become a bit more pessimistic on what it's going to cost to settle some of these claims.

[Marla Backer:]

Thank you. Okay, my last question, I'm actually switching topics now, you talked before in your prepared remarks about introducing an online platform for your agents sometime in mid-2021. Can you expand a little bit on the platform, and also talk about the potential perhaps at some point down the road to expand its functionality a bit to possibly offer some direct-to-consumer offerings? Thank you.

[Randy Ramlo:]

So, Marla, this is Randy. We probably will respectfully not touch the going direct-to-consumer question right now, because we could make some enemies with that, but I think I'll let Mike tell you a little bit about our platform, he has a good handle on kind of what are some of the offer.

[Mike Wilkins:]

Hi, Marla, this is Mike. So, yes, a little bit more information about the initiative. We’re going to release that as a pilot in April, so not that far away, but expect a broader release to seven states mid-year. It's a product that is aimed at the small business segments. So, they're often referred to as the BOP segment in insurance, Business Owners Policies. We’ll expand to additional states about every three or four months after that initial mid-year release. The user interface is very intuitive. It's been built to be very flexible. We market 100% through independent agents. And the tool was built in collaboration with our agents to support them issuing that business now. What is common in the business owners segment is a lot of that business is handled in our service centers. So, we have a service center that provides a lot of servicing for the agents. And we've also designed the system to make servicing that business easy, and also allow the insurers to do some of the self-servicing of that business as we go forward. So, it's very flexible. It will allow us a lot of opportunities to change the way we do business with the insurers and with the agents over time. And we're pretty excited about it.

[Marla Backer:]

Okay, thank you.

[Operator:]

This concludes our question-and-answer session. I’d like to turn the conference back over to Randy Patten for any closing remarks. Please go ahead, sir.

[Randy Patten:]

This now concludes our conference call. Thank you for joining us and have a great day.

[Operator:]

Ladies and gentlemen, this concludes today's program. Thank you for joining us and have a great day. You may disconnect your lines.