Protective Insurance Corporation (PTVCA) Q2 2019 Earnings Call Transcript
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Protective Insurance Corporation (NASDAQ: PTVCA)
Q2 2019 Earnings Call
Aug. 07, 2019, 11:00 a.m. ET
Contents:
Prepared Remarks
Questions and Answers
Call Participants
Prepared Remarks:
Operator
Greetings, and welcome to the Protective Insurance Corporation's Second Quarter 2019 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It's now my pleasure to introduce your host, Han Huie, with MWW Group. Please go ahead.
Han Huie -- Investor Relation, MWW Group
Thank you. Thank you all for joining us this morning for the Protective Insurance Corporation Second Quarter 2019 Conference Call. If you did not receive a copy of the press release, you may access it online at the company's website, along with an investor presentation to accompany today's call and earnings release, which is available at www.protectiveinsurance.com. I would like to remind everyone that we are hosting a live webcast for the call, which may be accessed at the company's website as well. At this time, management would like me to inform you that certain statements made during this conference call and in the press release, which are not historical, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.
Although Protective Insurance Corporation believes the expectations reflected in any forward-looking statements are based on reasonable assumptions, it can give no assurances that expectations will be obtained. Factors and risks that could cause actual results to differ materially from expectations are detailed in the press release and are included from time to time with the company's filings with the SEC.
Now I would like to introduce Jeremy Johnson, CEO of Protective Insurance Corporation, and turn the call over to him. Please go ahead.
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
Good morning, and thank you all for joining William and me this morning. More importantly, thank you to the 550 employees at Protective who have welcomed me into the organization and continue to work extremely hard to execute on our strategic priorities. I'm very proud to have the opportunity to lead Protective, confident in that team and in the company's balance sheet and excited by the opportunity to build on the work of my immediate predecessor to return us to sustainable profitability and position us for long-term success.
My focus since I joined in mid-May and my priorities for the rest of the year are threefold: to meet and speak with our customers and distribution partners and understand the value we bring and can bring to them, to build confidence and credibility with all constituents through disciplined execution of our ongoing turnaround strategy, and to shape and steer the culture at Protective for competitive advantage and to continue to attract, reward and retain the very best talent in the industry. I'll now turn to the highlights of the quarter and then speak a little about our ongoing turnaround strategy.
I'm proud to report that book value per share grew by 2.6% in the second quarter and total value creation after payment of the quarterly dividend was 3%. Gains in the quarter continued to be driven by our investment portfolio, however, we have momentum in our efforts to optimize rate, pricing and risk selection, and I'm confident that the premium that we are writing today will earn in profitably. Total return on the investment portfolio was 1.9% for the quarter and 4.6% for the year-to-date. Our portfolio is well-balanced and well positioned to create value.
Our investment leverage is 2.55x our equity. Our portfolio is relatively short duration and high in credit quality. 88% or $828 million of our investment assets are held in fixed income securities and cash, which we expect will create a solid base of earnings contributing to growth in book value in the future. Our combined ratio at 106.4% improved slightly over Q1 and continued to show quarter-over-quarter improvement.
Although severity was down during the second quarter relative to the fourth quarter of last year, we do not view this as signaling a lightening in the total environment and believe that we are still facing a difficult litigation climate. Our loss picks still reflect conservatism in reserving. In commercial auto, we recognized some continuing development in prior accident years, 75% of which is reinsured and which was more than offset by favorable development in workers' compensation prior years. All in, prior year developed slightly favorably on a GAAP basis.
Our expense ratio at 28.2% is consistent with Q1 and down from Q2 2018. Expenses are down $1.4 million compared to Q2 2018. We're pushing for and achieving significant price increases in our commercial auto portfolio. We are varying rate increase needs by line of business in our book, and I'm proud that overall, we're achieving our targets and keeping high percentages of the customers that we want. During the quarter, we made and communicated the decision to exit 2 unprofitable program administrator relationships, and we'll continue to prioritize profitability over production in all lines of business in our portfolio.
Turning to our workers' compensation book. In the aggregate, we continue to be comfortable with the pricing environment for workers' compensation. While we have a particular focus on workers' compensation for our commercial trucking insurers, we also offer workers' compensation to many different classes of employees, and we benefit from the diversification of that portfolio. As I mentioned earlier, we are executing a turnaround strategy based on 7 core priorities.
The leadership team has been driving these initiatives for several months, and I'm pleased with the progress in each. We're now seeing nearly 30 points of rate on our agency-placed excess auto and medium fleet portfolios, excluding insureds with two-year rate guarantees. This level of the rate increase is in line with our targets, and we are no longer offering two-year policies. We are managing limits and thus volatility through account level reinsurance decisions using facultative reinsurance to reduce our net exposure while still offering clients competitive program structures.
As I said, our operating expenses are down $1.4 million from prior year and I anticipate further expense reductions over the next 12 months. This will enable us to take the necessary remedial actions without elevating the expense ratio and at the same time freeing up money for reinvestment in talent and technology, hardening our infrastructure and enabling us to on-board more risk management and analytics capabilities.
Ultimately, I believe that investments in data and data analytics will enable us to better advise our customers, to make their risks better, to make us more valuable to them and to decrease our loss ratio. I'm very optimistic for our future. This is a good time to be Protective. We have a strong balance sheet and excellent team of committed employees and a stable and loyal customer base. The wind is at our back from a rate and market standpoint, and we have a compelling and differentiated value proposition to the trucking community.
With that, I will now turn the call over to William, and I look forward to your questions following William's comments.
William C. Vens -- Chief Financial Officer
Thank you, Jeremy. As discussed in our press release, second quarter net income was $1.5 million or $0.11 per share, which compares to net income of $2.5 million or $0.17 per share for the prior year second quarter. For the first 6 months of 2019, net income totaled $4.3 million or $0.28 per share, which compares to net income of $2.8 million or $0.19 per share for the prior year period. Gross premiums written for the quarter increased 3.4% to $147.2 million compared to $142.3 million written during the second quarter of 2018.
Net premiums earned for the current quarter increased $115.6 million, up 3.3% compared to the prior year period. The increase was attributable to growth in our workers compensation business. Gross premiums written for the first 6 months of 2019 increased 1.7% to $296 million compared to $291.1 million during the 2018th period. Net premiums earned for the first 6 months of 2019 increased 3.8% to $225.6 million compared to $217.4 million during 2018. The difference in the percentage change for premiums written compared to earned is reflective of the normal differences in the financial statement recognition of earned premiums compared to written as well as differences in reinsurance ceding rates on the mix of business in force.
Our operations produced an underwriting loss of $7.4 million, resulting in a combined ratio for the second quarter of 106.4%. This compares to a combined ratio of 99.4% for the second quarter of 2018. For the first 6 months of 2019, our operations produced an underwriting loss of $16.2 million, resulting in a combined ratio of 107.2%, which compares to a combined ratio of 99.6% for 2018. The increase in the combined ratio during the second quarter and first 6 months of 2019 reflects an increase in the current accident year loss ratio related to severe commercial automobile claims, including continued emergence of severity.
We continue to maintain current accident year loss ratios at a level consistent with rising severity expectations in the commercial automobile sector. As more time passes, and we learn more about the ultimate performance of the current accident year, we'll adjust our loss picks accordingly, either down or up. But for now, we continue to maintain current accident year loss ratios at a relatively steady level as we observed the impact of our rate achievement relative to trend.
Second quarter net investment income increased 12.1% compared to the second quarter of 2018. The increase in net investment income reflects an increase in average funds invested, resulting from positive cash flow, as well as a reallocation from equity investments held in limited partnerships and to short-duration, high-quality bonds. For the first 6 months of 2019, net investment income increased 22% compared to 2018. We do continue to expect future increases in net investment income to be more modest.
However, we do continue to expect further increases due to higher invested assets resulting from expected future positive cash flows. Over the past year, our fixed income portfolio duration, including cash, has remained relatively level at an effective duration of approximately 2.2. Our high-quality fixed income portfolio has a weighted average rating, including cash, of AA-.
During the first 6 months of 2019, we reallocated approximately $34.8 million of equity investments, including distributions from limited partnerships into short duration fixed income securities. This reallocation is consistent with our actions throughout 2018 when approximately $122 million of equity investments were reallocated in the short-duration fixed income securities. These equity sales and predominantly low tax basis stocks were opportunistic as the company benefited from the new lower corporate tax rate of 21%.
Proceeds from these sales as well as the limited partnership distributions were reinvested into high-quality, short-duration fixed income securities, further shifting our investment portfolio to a still more conservative posture. In addition, these sales were accretive to income given the additional investment income from fixed income securities relative to assets held within limited partnerships.
Moving to our financial position at June 30, 2019. Operating cash flow was once again positive during the second quarter, resulting in $38.4 million of positive operating cash flow for the 6 months ended June 30, 2019. Book value per share on June 30, 2019 was $25.26, an increase of $1.31 per share or 5.5% during the first 6 months of 2019 after the payment of cash dividends to shareholders totaling $0.40 -- $0.20 per share. We do continue to note that our operating initiatives are supported by a very strong balance sheet. Our investment portfolio assets are high quality.
Half of our reserve liabilities are covered by Reinsurance treaties with stop-loss protection, which, in effect, now serve as a 75% adverse development cover on those reserves. The significant remainder of our reserves are for workers' compensation and occupational accident coverages, which are performing within expectations. As a reminder, we posted our press release, quarterly financial statements and a brief presentation reviewing our second quarter results on our website at www.protectiveinsurance.com. This concludes our formal commentary.
At this time, we'd be happy to take questions.
Questions and Answers:
Operator
[Operator Instructions] Our first question today is coming from Brett Reiss from Janney Montgomery Scott. Your line is now live.
Brett Reiss -- Janney Montgomery Scott -- Analyst
Good morning gentlemen.
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
Good morning.
Brett Reiss -- Janney Montgomery Scott -- Analyst
Good morning. Mr. Johnson, the combined ratio went from 112.2 in the fourth quarter to 108 in the first quarter to 106.4 in the second quarter, so it's great. It's trending where we want it to trend. But is the continued decline in the combined ratio sort of like losing weight, the first 5 pounds are easy and then it gets tougher and tougher? Now what pace of decline do you think we can look forward to?
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
Look. Great question. What I would tell you is we've seen fairly significant escalation in the amount of rate that we've been able to get during the first 6 months of this year. So the rate increases in the second quarter were greater than the rate increases in the first quarter, were greater than the rate increases in the fourth quarter of 2018, et cetera, et cetera. So as the business that we've put on the books, the business that we renewed earns through, so we should be recording a lower accident year loss ratio and therefore, combined ratio, all things being equal. And there will be more higher-rated premium earning through in Q3 of 2019 and in Q4 of 2019 than there was in Q1 of 2019 and Q2 of 2019. Do you get what I'm saying? The big rate increases have already been accelerating over the last 6 months.
Brett Reiss -- Janney Montgomery Scott -- Analyst
Okay. Were you pleased that it went from 108 to 106.4?
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
Well, I'm certainly pleased it didn't go the other direction. I think mathematically, it was quite logical for the combined to do what it did in the second quarter. The majority of the rate increases just haven't earned through yet. We're getting -- we need and we're getting significant rates on our commercial auto portfolio, that's about 60% of our total portfolio. So we're getting significant rate on 60% of our commercial portfolio, but it's going to earn in each quarter. So the amount of earnings in this quarter of that effective rate increase is fairly de minimis. So I would not have expected a significant decrease in the loss ratio. If it was only due to rate, I would not have expected that to have come through in the second quarter yet.
Brett Reiss -- Janney Montgomery Scott -- Analyst
Okay. And a question on the ability to continue to do share buybacks. We've got plenty of room without it impeding our ratings?
William C. Vens -- Chief Financial Officer
Mr. Reiss, it's William. So we certainly -- we certainly don't want to be speaking for A.M. Best, but we absolutely bear our ratings in mind in the context of how we allocate capital. And as we've talked about in prior calls, we see our stock as very attractive at these levels. And consistent with prudent capital management, we don't see that changing.
Brett Reiss -- Janney Montgomery Scott -- Analyst
Okay. And just what is remaining on the share buyback authorization?
William C. Vens -- Chief Financial Officer
That was actually renewed by the Board just yesterday. So they've allocated $25 million for the next 12 months. That, of course, does not mean that we will repurchase $25 million. We just want to make sure we have plenty of room to continue repurchases if and when we decide to continue doing so.
Brett Reiss -- Janney Montgomery Scott -- Analyst
Great. Thank you for answer my questions. I am going to drop back in queue.
William C. Vens -- Chief Financial Officer
Thank you.
Operator
[Operator Instructions] Our next question is coming from Ron Bobman from Capital Returns Management. Your line is live.
Ron Bobman -- Capital Returns Management -- Analyst
Hi thanks. Jeremy, could you talk about how retentions, I guess, really on the commercial auto book, are playing out relative to what you thought they would be as you and the underwriting team sort of planned for rate increases?
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
Yes. They are now at an acceptable level. Given the amount of rate, our retentions are, give or take, mid-70s from both a policy count and a premium. That's an improvement on where they were in the first quarter, where I think there was quite a lot of noise. So our ability to drive the rate increases on the portfolio and retain the business that we want has improved, and I think it's improved as well, one, market conditions continue to harden.
So most of the competitive environment is talking about and seeing the same trends in their books as we are, which is a heightened litigation environment somewhat driving and pushing for more rate. So we're not surprising our customers and our distribution partners when we ask for rate. And also, frankly, I think our value proposition is strong and stronger, and as we, one, emphasize our commitment to the book in the business with the hiring of a CEO; and two, continue to demonstrate responsible behavior in the market.
Ron Bobman -- Capital Returns Management -- Analyst
And I just had sort of a follow-up on the prior questioners and the answer on the buyback. Listen, I'm very much aware and appreciative of the role that our ratings play and the role of A.M. Best and the respect and adherence that one has to play. But I'm a little bit surprised by what I thought was like a little bit of a wishy-washy answer about the buyback plan given the valuation relative to tangible book.
It would seem that it's candidly a return opportunity that really dwarfs even the underwriting opportunity. So I'm surprised that there wasn't a little bit more of a forceful position in that regard. Did I misunderstand or would you take another shot at it?
William C. Vens -- Chief Financial Officer
No, you did not misunderstand, and thank you for your candor. It's actually a delight to have someone call me something other than exceedingly direct. So we just don't -- how we allocate our capital is going to be relative to our opportunity set at the time, and we've continued to maintain consistently and more importantly, our actions have continued to maintain that we see value in our shares at these levels, and it is an appropriate and the very attractive way to allocate capital. But the wishy-washy part, if you want to call it that, is you're right. We're not going to commit to a particular amount per quarter or over the next year. We will take it relative to our opportunity set in both the underwriting and the repurchase side at the time. Thank you.
Operator
Thank you. [Operator Instructions] Ladies and gentlemen, we reached the end of our question-and-answer session. I'd like to turn the floor back over to management for any further or closing comments.
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
Thank you again for the time and the support from our shareholder base.
Operator
[Operator Closing Remarks]
Duration: 25 minutes
Call participants:
Han Huie -- Investor Relation, MWW Group
Jeremy D. Edgecliffe-Johnson -- Chief Executive Officer
William C. Vens -- Chief Financial Officer
Brett Reiss -- Janney Montgomery Scott -- Analyst
Ron Bobman -- Capital Returns Management -- Analyst
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