Feb 22, 2012
Operator
Ladies and gentlemen, this telephone conference call relates to HCC Insurance Holdings Inc. Before we begin, the company has requested that I read the following statement, which will govern the telephone conference today.
Statements made in this telephone conference that are not historical facts including statements of our expectations of future events or future financial performance are forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties.
And we caution investors that a number of factors could cause our actual results to differ materially from those contained in such forward-looking statements. These factors and other risks and uncertainties are described in detail from time-to-time in our filings with the Securities and Exchange Commission.
This conference call and the contents thereof and any recording, broadcast or publication thereof by HCC Insurance Holdings Inc. are the sole property of HCC Insurance Holdings Inc.
and may not be recorded, rebroadcast, or published in whole or in part without the express written consent of HCC Insurance Holdings Inc. Your lines will again be placed on music hold until the conference begins.
Thank you for your patience. Ladies and gentlemen, thank you for standing by and welcome to the Fourth Quarter 2011 Earnings Release Conference Call.
All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session.
I would now like to turn the conference over to Mr. John Molbeck, Chief Executive Officer.
Sir, you may begin your conference.
John Molbeck
Thank you, operator. I think it is appropriate that we have this conference call on the first day of Lent after 2011.
Welcome everybody to our year-end conference call. Joining me today is Chris Williams, our President; Brad Irick, our Chief Financial Officer; Mike Schell, our Chief Property and Casualty Insurance Officer; and Craig Kelbel, our CEO of HCC Life.
Brad will follow my initial remarks with financial highlights, and then Chris will give some commentary on the quarter. HCC had a strong fourth quarter despite another $10 million in catastrophe losses from the Thailand floods.
Clearly 2011 was a difficult year for the industry. We faced record catastrophes, sustained low interest rates, economic unrest and more importantly a continued soft market.
Still HCC grew book value per share by 3.1% for the quarter and 10.3% for the year. And we declared a dividend of $0.60 a share.
Our GAAP combined ratio was 86.8% for the quarter, and 90.8% for the year. Our expense ratio was 25.5% for the quarter, and 25% for the year.
Our accident year combined ratio was 88.8% for the quarter and 91% for the year, including catastrophes, and 85.6% excluding catastrophes. Our 2011 paid loss ratio was 58.9%, compared to 2010’s 59.7%.
Earned premium was up 8% for the quarter, and 4% for the year, while net written premiums was up 7% for the quarter and 8% for the year. Our renewal retention remained strong at 83%.
Brad will now review a few of our financial highlights. Brad?
Brad Irick
Thanks, John, and good morning everyone. Net investment income in the quarter was $53.5 million, up slightly from the prior year.
The portfolio continues to benefit from our efforts to deploy short-term investments into the fixed income portfolio. Short-term investments and cash decreased $53 million in the quarter as a result of these efforts, and $347 million for the year.
Long-term tax equivalent yield was unchanged from the third quarter at 4.8%. It is down only 20 basis points from a year ago.
Long-term book yields are stable at approximately 4%. We are pleased with our continued success in maintaining yields in this difficult rate environment.
Duration decreased slightly to just under five years, and our realized gain position increased almost $40 million. Both were primarily impacted by municipals.
The quality of the portfolio remains very high with an average rating of AA. Our exposure to foreign government bonds was $281 million at year-end.
3 million of that exposure was from Spain, and none was from Greece, Italy, Ireland or Portugal. Exposure to foreign financial institutions totaled $150 million.
As a general commentary, we have held the view for quite a while that rates would remain low for an extended period. As a result, we have not kept the portfolio duration short in anticipation of an increase.
With the Fed’s recent announcements it is clear that rates will remain low into 2014. Our strong cash flows, underwriting profitability, and investment leverage continue to allow us to maintain an overall duration beyond that of many of our competitors.
This quarter, we completed the scheduled reviews of our reserves in the Accident and Health, U.S. Surety & Credit, and International segments.
We also evaluated all catastrophe reserves. Based on our review, we recognized net favorable development of $11.5 million, primarily in our U.S.
Surety & Credit and Accident and Health segments. At December 31, 2011, our recorded reserves exceeded the actuarial point estimate by 4.2%.
Fourth-quarter cash flow remained strong at $133 million. Operating cash flow, which excludes outflows from commutations was $465 million year-to-date, exceeding the prior year by more than $30 million.
Our debt-to-total capital ratio decreased slightly this quarter as we used a substantial portion of the dividends from our insurance companies to reduce the outstanding balance of our revolving credit facility. Liquidity remained strong with $407 million of available capacity under the facility, and $239 million of short-term investments and cash.
Finally, in the fourth quarter, we purchased 2.5 million shares of our common stock for $66 million at an average cost below $27. Since June 2010, we have purchased over 14 million shares at an average below book value.
We anticipate continuing to buy our shares opportunistically. Chris.
Chris Williams
Thanks Brad, and good morning. Now a brief overview of the segments.
All premium figures that follow are net earned. U.S.
Property and Casualty was down 2% for the year, but up 9% for the quarter. Primary and excess casualty lines came on-stream during the quarter, with gross annual written premiums of $9 million, but little in the way of earned premium.
And net loss ratio increased from 56.3% in 2010 to 60.3% in 2011, largely the result of catastrophes. Professional liability premium was down 3% for the year, but flat for the fourth quarter.
US D&O processing was down 7% for the year, but down only 4% for the fourth quarter. Based on our experience and that of others, it looks like the US D&O pricing is stabilizing.
Our Accident and Health continues to produce excellent results in this short tail line of business, with a combined ratio of 88%. Our effective rate exceeded trend on the renewing business.
In addition, we were successful in growing the business by 50 million this year, as employee bases stabilized. Most importantly, this segment produced $100 million in pre-tax underwriting profits.
U.S. Surety & Credit continue as the economy and market conditions allow, growing 5% for the year and 11% for the quarter.
The loss ratio for this segment continued in the mid-20s. The International segment absorbed $112 million of our $118 million net pre-tax catastrophe losses.
Our property treaty business absorbed $54 million, and direct and facultative another $41 million. Despite these losses, our International segment was still in profit.
The brightest spots were energy and liability, each with mid-30s loss ratio, which contributed to an overall 63.4% full year loss ratio for this segment. Finally a few words about reinsurance.
A substantial number of our reinsurance programs have renewed. We are very pleased with the terms and conditions that we are able to achieve, but it is related to the limits that we are able to purchase as well as the pricing, despite a reinsurance market that has hardened in the catastrophe exposed reinsurance lines.
John.
John Molbeck
Thanks Chris. HCC performed well in 2011 with a return on equity of 7.7%, despite $118 million in pre-tax catastrophe losses.
As Brad said, operating cash flow remained strong at $465 million for the year, compared to 2010’s $431 million. As we look ahead to 2012, and beyond, we expect to see a continuation of the positive price movement we have been experiencing in the fourth quarter of 2011, and a return to double-digit returns.
I promised on the last call to update you on the reunderwriting of our private equity portion of our diversified financial products book. We began the reunderwriting process in the fourth quarter, but because we quote well in advance of the renewal date, the impact began in full with the December renewals.
In December, we wrote two new primary accounts with limits of $3 million. We renewed 37% of the business.
I’m sorry, we non-renewed 37% of the business. The average limit on the expiring accounts was $5.7 million.
The average limit on the renewed accounts was $5.2 million. The average deductible increase on the renewed accounts was 38%, with an average rate increase of 14%.
In January, we wrote two new private equity accounts with limits of $1 million and $5 million respectively. We non-renewed 45% of the accounts.
The average limit on the expiring accounts was $5.5 million. The average limit on the renewed business was $4.3 million.
The average deductible increase in January on the renewed policies was 57%, with an average rate increase of 13%. These stats reflect our strategy to return this book to profitability and quickly.
We estimate the company will achieve net earnings of $2.80 to $3.10 per share for 2012. The estimated results assume net written premium of $2.2 billion, a combined ratio range of 86% to 89%, average shares outstanding of 100 million shares.
These assumptions also include a loss ratio that assumes 2.6% of catastrophe losses, and do not include any reserve development, OTTI, currency or capital gains or losses. We are very pleased how we ended the year 2011, but I don’t think anyone in any industry was unhappy to 2011 draw to a close.
We are optimistic about the positive trends that we see in 2012, and accordingly, we are going to be hosting an Investor Day in Houston on June 7. This will provide an opportunity to meet with the leaders of our major businesses, and executive management, as well as a real-time update on the market.
We hope you will be able to join us. With that, operator, I like to open up the call to questions.
Operator
(Operator instructions) Your first question comes from the line of Michael Nannizzi with Goldman Sachs.
Michael Nannizzi
Thanks. You just – one question, can you touch on the favorable development that you saw in the third quarter in professional lines, and I don’t know if you did some additional work around those lines as well in the fourth quarter, and just kind of talk about those trends and how we should think about those from here?
Thanks.
John Molbeck
Well, in the third quarter, we had positive development on US and international D&O. We had adverse development D&P, which we talked about last quarter.
Nothing really has changed in the fourth quarter. The expected losses and the actual losses in the fourth quarter were in the range we expected them.
So things continue to run as we expected.
Michael Nannizzi
Got it. And then, in terms of, you mentioned buybacks in the fourth quarter, have you continued to buy back stock here in the first quarter and you know, how should we think about your capital position relative to the opportunities you are seeing out there and your buybacks into that?
John Molbeck
We bought about $4 million worth of stock so far this quarter. We are in a blackout period now.
So that kind of hampers our ability to buy stock back. We haven’t changed our view on buying our stock back and we will continue to be opportunistic in the process of buying the stock back.
Michael Nannizzi
And just one last one, reinsurance, you mentioned that program renewed, what have you seen in terms of dispersion in pricing for whether it is casualty or the pure property CAT business, and is that – is there a big spread in terms of changes in required pricing that you are seeing from the reinsurers?
John Molbeck
Well, I will let Chris talk about the property CAT, but on the liability, the original pricing, the price that we get has been slightly moving up. So that is attractive.
We continue to be supported by our panel of reinsurers as we have for the last decade, and they pretty much participate in everything that we do. We haven’t seen a reduction in ceding commissions as far as HCC is concerned, or we haven’t seen terms and conditions that have materially changed in the renewal process.
I understand that is not true for everybody, but that is where HCC is.
Chris Williams
In regard to the reinsurance account that we’re writing on the property treaty side, we have elected not to increase our aggregate exposure. On the business that we are writing, we are seeing a 10% to 15% rate increase.
Michael Nannizzi
Great. Thank you.
Operator
Your next question comes from the line of Ray Iardella with Macquarie Research.
Ray Iardella
Thanks. Good morning.
So just I guess a quick one, I know, you talked a little bit and you gave some useful statistics around the PE, professional liability book, but I mean, I guess one question I had was regarding the deductibles and the rate increases. Were the rate increases you quoted for December and January excluding the deductibles, or is that including that?
John Molbeck
No, those were excluding the deductibles. So that is a combination of two things going on.
One, the rate increase, two, we get the increase in deductible, which is what we said we were targeting for when we talked about our strategy in the third quarter call.
Ray Iardella
Great. So all in it is probably in that 30% to, you know, 40%, maybe even 50% range in terms of rate per exposure?
John Molbeck
It will take smarter people than I am to tell you what that number is.
Ray Iardella
Got it. Got it.
And then I guess maybe on the development side, one quick question, as far as aviation is concerned I know there was a little bit of development, I think probably in the second or third quarter. I’m not sure if that was really highlighted anywhere.
Was there anything material going on in that book?
John Molbeck
We had some – you know, we are in the aviation business, and we are subject to large losses, and we had a couple of large losses in the second and third quarter, and we have been blessed in the previous year by not having any frequency of large losses. So what you are seeing is a reflection of those.
Ray Iardella
Got it. And then, as far as the line of credit, I know you guys paid down some of the outstanding balance there.
But it looks like you guys drew on that again. I mean is there anything to read into that, or did you guys use that to buyback stock, or maybe any more color would be useful?
John Molbeck
Well, I think, when you buyback stock that is paying a dividend of 2.2%, you can buy it back at an interest rate, sort of significantly – well, let us say, 50 basis points lower than that, than I think it is a good strategy to use the line of credit to buyback the stock. So we have been able to use the line of credit facility to give us that increased flexibility.
And frankly that is one of the reasons why we put it in place.
Ray Iardella
Okay. That is helpful, and then, the last one if I could, just on the guidance and the combined ratio, so if I back out catastrophe losses, the 2.6 points, you get to an accident year combined ratio of about 84.9%, 85% roughly, and that is really in line I think with what you guys have reported in the past couple of years.
I mean is there anything to think about I mean is that improving on the professional liability side, I mean what are the moving pieces as far as being able to keep that so static over the past couple of years? Thanks.
John Molbeck
I think we have built a book of non-correlated businesses that function differently depending on the market, and we feel looking at it on an overall basis that we can achieve the guidance that we put forth in our press release, that I commented on earlier.
Ray Iardella
Okay. Thanks.
John Molbeck
You are welcome.
Operator
(Operator instructions) Your next question comes from the line of Doug Mewhirter with RBC Capital Markets.
Doug Mewhirter
Hi, good morning. Most of my questions have been answered.
First of all, I don’t know if you can comment on this. But do you anticipate having any exposure to the Costa Concordia incident?
John Molbeck
As our practice has been, we really don’t talk about individual losses. I would just say that in our marine book in the UK, we haven’t had any significant losses so far this quarter.
Doug Mewhirter
Okay. Thanks for that.
John Molbeck
Sure.
Doug Mewhirter
Second. Just I guess a small getting into the segments [ph] a little bit, could you refresh my memory on what the other segment of international is, is that just stuff that is hard to classify, or stuff that you have been expanding into.
I just noticed that the premiums fluctuate quite a bit, quarter-to-quarter, I didn’t know, just wanted to get a better understanding of what is in that?
John Molbeck
Well, really it is lines of business that each and of themselves are not significant from a premium perspective. Unfortunately, we include in the property and D&F, and so while the premium wasn’t significant, the losses were significant in 2011.
So that is the big driver of the move in this segment.
Doug Mewhirter
Okay. It is helpful.
Thanks. It is all my questions.
Operator
At this time, there are no further questions.
John Molbeck
Well, thank you operator, and thanks for joining us on the year-end conference call, and we look forward to visiting with you at the end of the first quarter and hopefully many of you will attend our Investor Conference in Houston on June 7. Thank you.
Operator
Thank you. This concludes today’s conference.
You may now disconnect.