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ProSight Global Inc (PROS) Q4 2019 Earnings Call Transcript

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ProSight Global Inc (NYSE: PROS)
Q4 2019 Earnings Call
Feb 25, 2020, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:


Operator

Ladies and gentlemen, thank you for standing by, and welcome to the ProSight Specialty Insurance Q4 earnings conference call. [Operator instructions] And please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Dean Evans, head of investor relations. Thank you.

Please go ahead.

Dean Evans -- Head of Investor Relations

Thank you, Chris. Welcome to the fourth-quarter 2019 earnings conference call for ProSight Global, Inc. With me in the room today are Chief Executive Officer and President Larry Hannon; Chief Financial Officer Buddy Piszel; and Chief Underwriting and Risk Officer Bob Bailey. Following Larry and Buddy's opening remarks, the call will be opened for questions.

Yesterday afternoon, we issued our fourth-quarter 2019 earnings release, which is available on our website at investors.prosightspecialty.com. In addition, a replay of this call will be available on our website until February 24, 2021. Before we get started, let me remind everyone that through the course of this call, management may make comments that reflect their intentions, beliefs, and expectations for the future. The forward-looking statements use words such as anticipate, believe, estimate, expect, intend, plan, target, should, seek, continue and other words in terms of similar meaning.

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We caution you that forward-looking statements are not guarantees of future performance or outcomes and that actual performance and outcomes may differ materially from those made in or suggested by the forward-looking statements discussed on this call. For a discussion of some of the risks and important factors that could affect our future results and financial condition, see our filings with the Securities and Exchange Commission, including, but not limited to the risks and uncertainties, included under the caption Risk Factors in our annual report on Form 10-K for the period ended December 31, 2019, filed yesterday afternoon. 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.

The presentation of such information should not be considered in isolation or as a statute for measures prepared in accordance with U.S. GAAP. A reconciliation of these non-GAAP measures to the most comparable GAAP measures can be found in our 10-K and earnings release, which are available on the SEC's website and also available on the Investor Relations section of our website. With that, I'd like to turn the presentation over to our CEO and president, Larry Hannon.

Larry Hannon -- Chief Executive Officer and President

Thank you, Dean, and good morning, everyone. During today's call, I'd like to begin with a brief overview of our company and then touch on how we provide value to customers and how we expect to perform in the near-term against our long-term objectives. As a reminder, at ProSight, we are an agile, profit first, underwriting focused property and casualty insurer that specializes in specific industry niches. We offer innovative, differentiated product service and third-party solutions to our customers, often writing multiple coverage lines for a particular customer.

We deliver our offerings through a select and limited distribution network. And finally, we closely manage risk through our niche selection, strong execution, and purposeful limits management. Our goals are to generate a double-digit ROE along with double-digit growth in gross written premium and book value per share. To be clear, our entire organization is aligned to emphasize profit over growth.

And in any given period, we will only seek to grow by double digits when we can do so while maintaining an underwriting profit. I believe that current market conditions offer us the opportunity to get the appropriate prices and terms in both our existing niches and those that we seek banner. As such, we expect gross written premium growth to comfortably meet our longer-term objectives for the foreseeable future. With regard to social inflation, I would like to reemphasize that we do not write publicly traded D&O or med mal in our product lines, do not have exposure to opioid manufacturers or distributors, and we're early to identify concerns and take corrective actions in commercial auto.

In addition, we have always been focused on how we manage limits, evidenced by the fact that excluding only our workers' comp and surety books, approximately 85% of our policies have gross limits of $2 million or less. I will now turn to our results. For the full-year 2019, we are pleased with our operating performance, having produced record levels of gross written premium, adjusted operating income, and net investment income. We produced an underwriting profit of $16.4 million for the full year with a combined ratio of 98% and generated an adjusted operating ROE of 12.4%.

The fourth quarter was strong on multiple fronts as well, highlighted by top-line growth in our customer segments of 19.1%, no prior period development from our continuing operations and the annualized adjusted operating ROE of 11.9%. During 2019, we added five new niches that contributed $4 million of gross written premium during the fourth quarter and $21 million for the full year. Rates across our book increased 4.3% in the fourth quarter and 4.2% for the year. Excluding workers' comp, we achieved rate increases of 5% for the quarter and 5.6% for the year, and we believe rate was at or modestly in excess of our need.

Additionally, as many of you may have seen in the past few weeks, we announced our expansion into the captive insurance market. This strategic decision marks the natural evolution of ProSight's product offerings and capabilities, all of which are designed with the purpose of providing customers with solutions that address their unique business challenges. As our customers seek or require alternative solutions in the current market environment, we will do what we do best, find ways to profitably, efficiently and creatively meet those needs. I'd like to now spend a moment on how we think about our combined ratio.

On the loss ratio side, our current annual target is 62%. We believe our renewal will continue to perform better than that, but we plan for our new business to be a few points higher since it is not as well-known or predictable as our renewal. When you factor in our growth rate, approximately 25% of our business each year will be new. And we, therefore, believe 62% is appropriately prudent.

On the expense front, we will lower our expense ratio while continuing to add talent, enter new markets and invest in technology. In 2019, we reduced our expense ratio by 40 basis points as compared to year-end 2018, and we expect more progress in 2020 and beyond. I would like to reiterate the 200-basis-point improvement guidance that I shared in our third-quarter call, which we plan to achieve by year-end 2022. Our baseline for this improvement is our 2019 full-year adjusted expense ratio of 36.6%.

While the 200-basis-point improvement will not come in evenly over the three-year period, in 2020, we would expect a 60- to 80-basis-point improvement. In sum, 2019 was a solid year for us. We were able to transition to being a publicly traded company, while profitably growing our business and preparing for our future success. I would like to thank our employees for all of their efforts and grateful for the support of our Board and our new shareholders, and I'm committed to delivering profitable growth with the results in the ROE, gross written premium and book value per share metrics that I discussed at the beginning of my comments.

Looking ahead, I expect 2020 to be a good year for ProSight. We will stay focused on finding niches where our differentiated offering matters to customers and expect our growth to come from both new and our existing niches. We will continue to prioritize and invest in technology to achieve operational efficiencies and to enhance the experience for our customers and distribution partners. You will see us add top talent to our organization, adding individuals who embody ProSight's unique performance-driven culture and are as committed as I am to providing an awesome experience for our customers, partners, employees, and shareholders.

I will now hand the call over to Buddy, who will further discuss our results and financial position.

Buddy Piszel -- Chief Financial Officer

Thanks, Larry. For the fourth quarter of 2019, our adjusted operating income was $16 million, or $0.36 per diluted share, as compared to adjusted operating income of $15.7 million, or $0.40 per diluted share for the same quarter of 2018. Fourth-quarter 2019 adjusted operating income excludes certain nonrecurring costs. Specifically, there were $1.4 million of one-time IPO-related investing expenses, $0.4 million of transition costs for our former CEO and $0.3 million of realized investment gains during the quarter, all of which are excluded from adjusted operating income.

Going forward, we expect the remaining approximately $13 million of unvested IPO-related costs to be expensed over the next 10 quarters. For the fourth quarter of 2019, our net income from continuing operations was $14.7 million, or $0.33 per diluted share, as compared to $13.5 million, or $0.34 per diluted share for the same quarter of 2018. Gross written premium for the quarter was $249 million for our customer segments, representing an increase of 19.1% from the fourth quarter of 2018. Including other premium, which excludes exited niches, total gross premium, which includes exited niches, the total gross written premium was $249.9 million, an increase of 12.7% over '18.

Gross written premium increased across all customer segments in the quarter and year to date. Growth in the quarter was largest in our real estate and consumer services segments where we continue to see increased opportunities and generally favorable market conditions. New niches added in 2019 contributed $4 million of gross written premium during the fourth quarter and $21 million year to date. I would again note that premium from new niches is often unpredictable and lumpy in nature.

Before I touch on the details of quarterly underwriting results, let me note that the whole account quota share, we refer to as WAQS, which was terminated in early 2018, does cause a fourth-quarter reclassification of 0.4 percentage points between the loss and the expense ratio, all related to prior periods. In order to provide more meaningful insight into our comparative underwriting results, the numbers and the ratios I will quote will exclude the impact of WAQS, and the impact of WAQS is fully disclosed in our press release and the 10-K we filed with the SEC. The company generated underwriting income of $5.7 million and a combined ratio of 97.2% in the fourth quarter of 2019 compared to $9.5 million and 95.1% in the fourth quarter of last year. The loss ratio for the fourth quarter of 2019 was 61.5% and included no net prior-year development from our continuing operations.

The loss ratio for the fourth quarter of 2018 was 58.6%, which included $1 million or 0.5 points of net favorable prior-period development. Our fourth-quarter 2019 loss ratio is in line with our expectations. The fourth quarter of 2018 was lower, largely due to the underlying business mix and the exit of excess workers' comp. As a reminder, our strategic decision to exit excess workers' comp results in $64 million of nonrecurring premium written in the first quarter of 2019, which will impact our premium base as we move into the first quarter of 2020.

There was no cat activity in the fourth quarter of '19, compared to $3.6 million of cat losses in the fourth quarter of 2018, which were driven by the California wildfires. We normally expect cat losses of approximately 1% per quarter. However, no losses met that reportable threshold during the current quarter. Next, I'll move to the expense ratio.

For the fourth quarter of 2019, the expense ratio was 35.7%, compared to 36.5% for the fourth quarter of 2018. The 80 basis point improvement was primarily driven by continued disciplined expense management and the benefits of scale as we grow our premium base. Our net investment income for the fourth quarter of 2019 of $17.4 million increased by 37.1% over 2018, reflecting growth in the average assets of the investment portfolio, as well as improved performance on our limited partnerships. The fourth-quarter portfolio book yield was 3.32%, down from our third quarter of 2019 yield of 3.35%.

The small decline was primarily attributable to the lower yield from our limited partnerships. Our investment portfolio at year end stood at $2.2 billion and had an increase in portfolio book value of $285 million or 15% during 2019. The duration of our portfolio was 3.4 years, up from three years as of the end of the third quarter, and the average credit quality remains an A. The portfolio is in a net unrealized gain position at the end of 2019 of approximately $41 million.

We took several significant actions in the fourth quarter to strengthen the investment portfolio positioning. We followed through on our strategic plan to shift to a multi-manager investment management model effective January 1, 2020. We also began tactical actions in the fourth quarter to improve the positioning of the portfolio in the current environment including, one, reallocating away from corporate credit; two, securitized assets; and three, reducing the percentage of floating-rate securities in the portfolio. We were able to accomplish these tactical shifts with a modest duration extension and a slight credit enhancement, making the portfolio more resilient to persistent low rates and credit spread conditions.

Turning to our capital position, our debt-to-capital ratio was 23.3% at year end, which provides us financial flexibility. Our balance sheet remains strong as stockholder equity grew $12.4 million to $543 million during the fourth quarter of 2019. Our net income of $8.5 million during the fourth quarter of 2019 was the largest driver of the increase in book value. Net income was net of a $6.2 million loss from our U.K.

discontinued operations. The $6.2 million loss in the quarter from the U.K. discontinued operations was largely due to strengthening our reserves related to our reinsurance on this runoff book. This followed our annual deep-dive review of these reserves.

Recall, we stopped writing business in Lloyd's nearly three years ago, and the remaining runoff reserves are approximately $45 million, down 18% since the end of last year. We have increased our committed resources in this area and for the duration of the runoff, which we estimate to be about three years. Our diluted book value per share at the end of the quarter was $0.121, an increase of 21.6% from December 31, 2018. Excluding the impact of capital raised through the IPO, book value grew by 26.3% from December 31, 2018.

Our ROE was 11% for the fourth quarter of '19 and 9.8% for the full year, both depressed by nonrecurring charges I previously mentioned related to the IPO. Our adjusted operating ROE for the quarter of 2019 was 11.9%, while the full-year 2019 adjusted ROE was 12.4%. And with that, I'll turn it over to the operator to open up the line for questions.

Questions & Answers:


Operator

Thank you. [Operator instructions] The first question is from Mark Hughes with SunTrust. Your line is open.

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

Yes. Thank you very much. Good morning. The $64 million in other, that was written entirely in the first quarter and is the earned premium in 2019, consistent with that amount to mid-60s?

Larry Hannon -- Chief Executive Officer and President

Correct. So the $64 million was all excess work comp in our book in January, February, March of last year. The biggest impact of that is the February number, but it's all first quarter.

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

And do I see right that the loss ratio associated with others was 88%, so pretty high loss ratio?

Buddy Piszel -- Chief Financial Officer

Mark, I don't -- where are you getting that from Mark?

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

It's out of the K, there is a table on Page 57.

Buddy Piszel -- Chief Financial Officer

That's related to a small amount of earned. Mark, I think that's related to a small amount of earned.

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

Relative to losses, I guess, the point being that that'll be running off as you lap that. In the real estate segment, likewise using the same table on 57. It looks like the real estate end market, you got very good growth, had kind of above the average loss of 65% loss. Can you just talk about that?

Larry Hannon -- Chief Executive Officer and President

Sure. The difference that you have obviously -- go ahead, Bob.

Bob Bailey -- Chief Underwriting and Risk Officer

Yes. Unfortunately, in the real estate segment, we took a very large tornado loss on a specific apartment building that on a gross basis will probably end up at around $25 million. It's already pretty much up to that limit by now. On a net basis, it's obviously, three.

But that's what you're seeing is that spike in the cat loss.

Buddy Piszel -- Chief Financial Officer

Yes. Mark, remember those disclosures are all gross, not net. We're not able to report them on a net basis. So Bob's point is accurate.

But in the second quarter, we took a pretty big tornado loss in Dayton on the roof, and it was a gross loss, that was huge. But again, on a net basis, it was only $3 million.

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

Fair enough. The tax rate for 2020, did you give guidance on that?

Buddy Piszel -- Chief Financial Officer

We didn't give guidance, but generally, it's going to be around 21%. We don't have a lot of items that will fluctuate the tax rate in any really meaningful ways, either in a quarter on a full-year basis.

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

Thank you.

Operator

[Operator instructions]. The next question is from Sean Reitenbach with KBW. Your line is open.

Sean Reitenbach -- KBW -- Analyst

Good morning.

Buddy Piszel -- Chief Financial Officer

Good morning.

Sean Reitenbach -- KBW -- Analyst

How does the termination of the excess workers' comp impact the loss and expense ratios year over year?

Buddy Piszel -- Chief Financial Officer

Well, the excess comp book ran lower than the general overall loss ratio for the book. So it did have the impact of increasing the loss ratio as those are in premiums write-off. On the expense ratio, they reduced the earned premium pretty substantially. So until we started to grow that portfolio again, we're finding a little bit of a headwind related to getting the expense ratio down.

But those are the biggest factors.

Larry Hannon -- Chief Executive Officer and President

On a yearly basis, it's worth about half a point. When you look at the percentage of the book, the excess comp was compared to where we are without it. So, it would have adjusted the loss ratio by about half a point.

Sean Reitenbach -- KBW -- Analyst

OK. Thank you. That's helpful. And then in terms of we're hearing a lot about the accelerating loss costs in the broader casualty market.

Does the niche focus you guys have, have a different loss trend carrier stick than the kind of what we're hearing from the broader market?

Bob Bailey -- Chief Underwriting and Risk Officer

This is Bob Bailey. We obviously believe so. I think in addition to sort of a niche by niche approach, which again those trends will vary niche by niche, I think the most important issue, the most important point is what Larry pointed out, is that we really just aren't in these high excess lines, the med-mal lines. I think you mentioned something on the order of 85, our premium was under knowledge.

So these massive jury verdicts and things like that, I would argue that's more of an insulating feature for us than so much of a niche strategy. But the niche strategy certainly has its own trend patterns, niche by niche.

Larry Hannon -- Chief Executive Officer and President

If we had niches that were exposed to the things that we're seeing as the primary causes, then we would be subject to those same things. We simply selected those niches that haven't had the same thing materialize. We still watch very closely on what's going on an individual case basis, as it has been speculated for decades. There are always going to be individual cases that will surprise us.

But we have not seen anything consistently becoming a trend inside our book at this point.

Sean Reitenbach -- KBW -- Analyst

OK. Thank you very much.

Operator

[Operator instructions] I'm showing no further questions at this time. I'll turn the call back over to Mr. Hannon, for any closing remarks.

Larry Hannon -- Chief Executive Officer and President

Thank you, Chris, and thank you, everyone, for joining us today and for your interest in ProSight. We expect to be meeting with many of you at conferences and other events in the near future. I look forward to having an open dialogue with all of our investors. Thanks very much for the time today.

Operator

[Operator signoff]

Duration: 25 minutes

Call participants:

Dean Evans -- Head of Investor Relations

Larry Hannon -- Chief Executive Officer and President

Buddy Piszel -- Chief Financial Officer

Mark Hughes -- SunTrust Robinson Humphrey -- Analyst

Bob Bailey -- Chief Underwriting and Risk Officer

Sean Reitenbach -- KBW -- Analyst

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This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see our Terms and Conditions for additional details, including our Obligatory Capitalized Disclaimers of Liability.

Motley Fool Transcribing has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.


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