Cincinnati Financial Corp (CINF) — Q2 2023 Earnings Call Transcript

Hello. This is Dennis McDaniel at Cincinnati Financial. Thank you for joining us for our second quarter 2023 earnings conference call. Late yesterday, we issued the news release on our results, along with our supplemental financial package, including our quarter-end investment portfolio. To find copies of any of these documents, please visit our investor website, cinfin.com/investors. The shortest route to the information is the quarterly results link in the navigation menu on the far left. On this call, you'll first hear from Chairman and Chief Executive Officer, Steve Johnston; and then from Executive Vice President and Chief Financial Officer, Mike Sewell. After their prepared remarks, investors participating on the call may ask questions. At that time, some responses may be made by others in the room with us, including President Steve Spray; Chief Investment Officer, Steve Soloria; Cincinnati Insurance's Chief Claims Officer, Marc Schambow; and Senior Vice President of Corporate Finance, Theresa Hopper. First, please note that some of the matters to be discussed today are forward-looking. These forward-looking statements involve certain risks and uncertainties. With respect to these risks and uncertainties, we direct your attention to our news release and to our various filings with the SEC. Also, a reconciliation of non-GAAP measures was provided with the news release. Statutory accounting data is prepared in accordance with statutory accounting rules and therefore, is not reconciled to GAAP. Now, I'll turn over the call to Steve.

Good morning and thank you for joining us today to hear more about our results. Net income of $534 million for the second quarter of 2023 was quite a change from the net loss of more than $800 million for last year's second quarter. As we've noted in the past, large income swings can occur as gains and losses from securities still held in our equity portfolio run through net income. Last year, we saw a reduction in portfolio fair value. This year, we recognized a significant investment gain. We believe the value of our equity portfolio will continue to grow over the long term. As of June 30, it had $6.1 billion in appreciated value, increasing 8% since the end of the first quarter. Non-GAAP operating income of $191 million for the quarter more than doubled the $94 million from a year ago despite catastrophe losses that were $11 million higher on an after-tax basis. Our 97.6% second quarter 2023 property casualty combined ratio was 5.6 percentage points better than last year's second quarter, including a decrease of 0.4 points for catastrophe losses. The 90.4% ex-cat accident year combined ratio for the second quarter was 2.4 percentage points better than the same period a year ago and is another important indicator of improved performance. Despite the increase in catastrophe losses and ongoing elevated inflation effects, we continue to see reasons for confidence about performance for the second half of the year. Pricing continued to accelerate during the second quarter of this year and we also worked to address inflation in other ways, such as changing factors that adjust premiums to account for rising property costs. We reported improved underwriting performance ratios in just about every major line of business compared with the first quarter of this year. On a current accident year basis, measured at June 30 before catastrophe losses, our 2023 consolidated property casualty loss and loss expense ratio improved from 2022 by 4.5 percentage points on a case incurred basis which included 0.6 point improvement on a paid basis. For the same period, we increased the incurred but not reported or IBNR component of the ratio by 4.7 points as we continue to recognize uncertainty regarding ultimate losses remaining prudent in our reserve estimates until longer-term loss cost trends become more clear. Similar to the first quarter, we earned a small underwriting profit for our commercial umbrella line in the second quarter. Our commercial casualty line of business in total had an estimated combined ratio of approximately 90%. Our underwriters continue to do an excellent job in risk selection and pricing. Importantly, agents appointed by Cincinnati Insurance continue to produce profitable business for us in an outstanding fashion. Underwriters emphasize the retention of profitable accounts addressing ones that we determine have inadequate pricing while also seeking profitable new business. Estimated average renewal price increases for the second quarter were higher than the first quarter for each of our major lines of business. Our Commercial Lines Insurance segment averaged near the low end of the high single-digit percentage range, while our excess and surplus lines insurance segment moved higher in the high single-digit range. Personal Lines for the second quarter included auto in the high single-digit range and homeowner in the mid-single-digit range. In terms of net written premiums, consolidated property casualty growth was 9% for the second quarter of 2023. That included an 11% increase in second quarter renewal written premiums with a significant portion from higher levels of insurance exposures as we factor in elevated inflation. Next, I'll briefly highlight premium growth and profitability by Insurance segment. Commercial Lines grew second quarter 2023 net written premiums 3%, reflecting discipline, particularly for commercial umbrella risks. Its combined ratio was 9.4 percentage points better than a year ago, including 1.5 points from lower catastrophe losses. We see the second quarter 10% reduction in new business written premiums as an expected result of pricing and underwriting discipline. Personal Lines grew net written premiums 23%, with growth in middle market accounts in addition to Cincinnati Private Client business for the high net worth clients and our agencies. Its combined ratio was 4.5 percentage points better than a year ago despite an increase of 0.6 points from catastrophe losses. Excess and surplus lines had a combined ratio of 92.2% and net written premiums grew 16%. Its combined ratio was 7.1 percentage points higher than a year ago, including a 9.9-point increase in the IBNR component. Both Cincinnati Re and Cincinnati Global continued to enhance our profitability. Cincinnati Re had a strong 73.7% combined ratio for the second quarter of 2023. Its net written premiums essentially matched last year's second quarter, while casualty premiums decreased as a result of fewer attractive opportunities in certain segments of the market. Property net written premiums increased by 27% and largely due to a combination of higher pricing and market opportunities. Cincinnati Global's combined ratio was 88.3% with net written premiums continuing strong growth at 19%. Our life insurance subsidiary continued to report excellent results in the second quarter with net income up 91% from last year in term life insurance earned premium growth of 4%. As I usually do, I'll conclude with the value creation ratio, our primary measure of long-term financial performance. Our second quarter 2023 VCR was 4.0%, another strong result. Net income before investment gains or losses contributed 1.8%, while favorable valuation of our investment portfolio added another 2.2%. Now our Chief Financial Officer, Mike Sewell, will highlight other important factors about our financial performance.

Thank you, Steve, and thanks for all of you for joining us today. Investment income continued at a strong pace of 13% for the second quarter of 2023 versus last year's second quarter. As expected, dividend income decreased 3% for the quarter due to 2 items we touched on last quarter. First, we are seeing dividend rates increase more slowly. Second, in last year's second quarter, we received a $5 million special dividend from 1 of our stockholdings that didn't repeat this year. Net equity security purchases for the first half of 2023 totaled $93 million. Bond interest income rose 19% in the second quarter compared with the second quarter of 2022. We added more fixed maturity securities to our investment portfolio with the net purchases totaling $732 million for the first 6 months of the year. The second quarter pretax average yield of 4.34% for the fixed maturity portfolio was 34 basis points higher than a year ago. The average pretax yield for the total of purchased taxable and tax-exempt bonds during the second quarter of 2023 was 5.88%. Valuation changes in aggregate for our equity portfolio during the second quarter of 2023 were favorable but were unfavorable for the bond portfolio. Before tax effects, the net gain for the equity portfolio was $459 million, while the net loss for the bond portfolio was $158 million. At the end of the quarter, total investment portfolio net appreciated value was approximately $5.3 billion. The equity portfolio was in a net gain position of $6.1 billion, while the fixed maturity portfolio was in a net loss position of $838 million. Strong cash flow again contributed to investment income growth in addition to rising bond yields boosting interest income. Cash flow from operating activities for the first 6 months of 2023 was $825 million, up 9% from a year ago. We continue to emphasize expense management with a balance between controlling expenses and making strategic investments in our business. The second quarter 2023 property casualty underwriting expense ratio was 0.2 percentage points lower than last year as premium growth outpaced growth in total expenses. Next, I'll comment on loss reserves. We continue to use a consistent approach that targets net amounts in the upper half of the actuarially estimated range of net loss and loss expense reserves. As we do each quarter, we consider new information such as paid losses and case reserves and then updated estimated ultimate losses and loss expenses by accident year and line of business. For the first half of 2023, our net increase in property casualty loss and loss expense reserves was $452 million, including $358 million for the IBNR portion. During the second quarter, we experienced $101 million of property casualty net favorable reserve development on prior accident years that benefited the combined ratio by 5.5 percentage points. On an all-lines basis by accident year, net reserve development for the first 6 months of 2023 included: favorable $99 million for 2022; unfavorable $5 million for 2021; favorable $49 million for 2020, and a favorable $17 million in aggregate for accident years prior to 2020. Regarding capital management, our approach remains consistent as we pay dividends to shareholders and repurchase shares that include maintenance intended to offset shares issued through equity compensation plans. We still believe our financial flexibility is outstanding and that our financial strength is in excellent shape. During the second quarter of 2023, we repurchased approximately 398,000 shares at an average price per share of $104.48. We also paid $117 million in dividends to shareholders during the quarter. As usual, I'll conclude with a summary of second-quarter contributions to book value per share. They represent the main drivers of our value creation ratio. Property casualty underwriting increased book value by $0.24. Life insurance operations increased book value $0.15. Investment income other than life insurance and net of noninsurance items added $0.86. Net investment gains and losses for the fixed income portfolio decreased book value by $0.81. Net investment gains and losses for the equity portfolio increased book value by $2.31 and we declared $0.75 per share in dividends to shareholders. The net effect was a book value increase of $2 per share during the second quarter to $7.33 per share.

Thanks, Mike. We are in the challenging insurance market, and I'm proud of the way our associates are navigating it. We believe we are taking the necessary actions to continue delivering profitable growth through all insurance cycles. In the last month, third-party organizations agreed. S&P affirmed our high financial strength ratings, and we were also again included in the Property Casualty Awards 50 list, recognizing our growth, profitability, and shareholder return. We are one of only four companies named 32 times to the Property Casualty Awards 50 since the analysis began in 1991. As a reminder, with Mike and me today are Steve Spray, Steve Solaria, Marc Schambow, and Theresa Hopper. Vaishnavi, please open the call for questions.

Congrats on the quarter. I wanted to ask maybe a little detail on the source of the competition that's been hampering the new business production in commercial. Happy you name many names but if you give us a sense of just kind of what kind of companies sort of products, etcetera, that are keeping you more disciplined.

Paul, Steve Spray. I would reiterate kind of what Steve said there in his closing prepared remarks, just that it's a challenging market. This business, as I've said in the past, it's local. You get various competitors in different states that just have a different view of risk. I think from my perspective, it's been more about our underwriters and our field reps just continuing to execute working with our agents on disciplined pricing and underwriting. It's profit first here in segmenting the business. But from time to time, you'll see carriers that maybe have a different view of the risk. And we've just got the tools today that we didn't have in the past to be able to be disciplined about it. And I couldn't be more proud of the team, both on the new business front, our field reps, and our renewal underwriters and the way they're executing. And I would add that it's a dynamic market; we're seeing it change daily. At the end of the second quarter, we did see, I would say, the market coming more to us on the pricing side and on new business. It's one month at the end of a quarter, so it may not make a trend, but we did see some improvement in new business towards the tail end of the second quarter. Hopefully, that answers your question, Paul.

It's definitely getting there. Just maybe a little bit mistaking, but I was kind of going through the supplement and I noticed that recent commercial business, there's a little bit less of a loss IBNR booked up in the quarter. Anything anomalous there that you want to call out on that number?

Sure, Paul, this is Steve. Our IBNR did increase in dollar terms, but it was outpaced by the increase in our premium. Last year, during the second quarter, we noticed the impact of inflation, particularly its leveraged effect on higher limits and umbrellas, and we addressed that issue effectively. So, we added more dollars to IBNR this quarter, but the ratio relative to earned premium was just slightly lower.

I'm going to focus on the first question regarding the commercial casualty component of your financial supplement. If you examine the total loss and loss expense ratio, it showed significant improvement in the second quarter. This is obviously a longer-tail line of business. I'm curious why, with the loss ratio improving, it seems like this would be a time to increase writing more of that business, yet we see it moving in the opposite direction. Perhaps you could provide some added context, as I know you've shared some comments on this previously.

Yes, good question, Greg. The improvement is a result of the discipline we are demonstrating in pricing and underwriting, especially in our umbrella line of business. On the other hand, as Steve mentioned, our greater discipline in the market makes it a bit tougher for us to compete on price with others who don't have the same view of risk. I believe these aspects are interconnected, and I can't add much to Steve's earlier comments about how we are addressing the competitive market.

I wanted to shift the conversation to property, whether in commercial or personal lines, because I believe the rate is influenced by various factors, including adjustments to insured to value numbers. For instance, in your personal lines, your net written premium in homeowners increased by 27% in the second quarter. I'm curious about how much of that is due to pure rate changes versus simply getting the insured to value numbers correct. Alternatively, I might be viewing this incorrectly. It seems like a reasonable question to consider.

Yes, Greg, Steve Spray. In terms of commercial property, personal property, and homeowners, roughly two-thirds is exposure and about one-third is rate, which is a helpful way to understand it.

Okay, that's helpful. I have one final question. Before others ask their questions, I wanted to address the combined ratio expectation you previously outlined for the year. How are you viewing that range in light of the second quarter results as we consider the second half of the year? That's my last question.

Greg, this is Steve Johnston. And I think we're still where we were when we first came out with it at the first quarter; we don't think it's unreasonable that we would be able to be in the low to mid-90s combined ratio, 8% growth. But we have those caveats that the weather and the market conditions are volatile and that will play out over the second half. I think the key point is we are just very confident in the movement of the ex-cat core portion of the book. It's improving nicely, and that's really our focus at this point. But again, I think we're still where we were with the information that we gave in the first quarter.

Do you have any insights on pricing power going into July? Additionally, have you been surprised by the level of pricing power you've seen, considering the strong tailwinds from interest rates? Or does it make sense that we're observing an increase in pricing across the broader industry?

This is Steve Johnston. It's an execution of our business model that makes us feel good, and we have great relationships with our agents. We tend to communicate where we are risk by risk early in the renewal process, and we feel proud of our field people as they balance discipline with being responsive to our agents' needs. This approach has been beneficial for us, and we expect it to continue as we move into the second half.

You mentioned that the umbrella components of your portfolio managed to achieve a small underwriting profit. I'm curious, considering what you've experienced over the last year or two, whether the umbrella is more susceptible to social inflation. Are you aiming for a better combined ratio for that compared to the broader segment it belongs to?

Yes. Over the end of 2022 and prior, our combined ratio in umbrella was around 80%. The last couple of years have been challenging. It's determined by jurisdiction, varying state by state and risk by risk. The loss ratio has shown that we've been profitable in the first half and the second quarter. We are focused on improving that line of business and expect the loss ratio to improve from its current level. In the second quarter, our commercial umbrella net written premium decreased by 9 points, which impacted the overall Commercial Lines net written premium by 2 points. We have proactively engaged with our agents to avoid surprises and collaborate on pricing terms, conditions, and reducing limits in certain jurisdictions or specific risks that have posed challenges for us.

That's helpful. Doug, could you provide an update on Personal Lines? In a previous call, you mentioned that you are now one of the largest writers of new business in California as other companies have been scaling back. Can you share your insights on the current industry dynamics and competition in Personal Lines? Why do you feel optimistic about expanding into states where competitors are struggling to achieve the pricing necessary to manage loss inflation, especially considering your strong profitability in Personal Lines?

Yes, we feel optimistic about personal lines, particularly in high net worth and middle market segments. The high net worth segment, specifically Cincinnati Private Client, now constitutes about 55% of our business. Our team, which includes both external experts and long-term associates, has built significant expertise in product development, marketing, and claims. We have received positive feedback from our agents across the country, especially in states experiencing industry disruptions. We've managed to navigate these changes, particularly in California, where we've adapted by offering homeowners coverage on an excess and surplus lines basis. Cincinnati has consistently supported our agents and policyholders, providing what we believe to be reliable capacity. Our focus on the high net worth business is long-term, and we are well-positioned to continue growing profitably. Although inflation has affected our entire portfolio, we are confident in our underwriting and the pricing strategies we have implemented to enhance our results.

A couple of quick questions, I guess. Steve, you talked about pricing accelerating pretty much every line of business sequentially. Was there any change in your internal view of trend from first quarter to second quarter?

Yes, Meyer, this is Steve. I don't really think so. We are observing it in detail, by line and by state, and you'll notice some movement in various directions at a very granular level. However, for the most part, I believe we're seeing a consistent view of trends from the first quarter to the second quarter.

Okay, perfect. I'm not 100% sure this is a good question. But when I look at the loss ratio detail, vastly higher provision for IBNR in Personal Lines than Commercial Lines. And I was wondering, is that a function of just bad weather? Or is there something else driving that?

I think probably, Meyer, it's the growth as much as anything. There's faster growth in the Personal Line space right now.

Okay, perfect. That makes sense. And then one last question, if I can, it's a little more detailed. But have you disclosed which lines of business saw the reserve release from accident year '22?

That has not been part of our disclosure, Meyer.

Hi, everyone. Looking at the commercial property underlying loss ratio, that experienced quite a bit of improvement, both sequentially and year-over-year. Obviously, that line can be really volatile but I was just curious the extent to which that was maybe impacted by the classification of cat versus non-cat in the quarter and pricing flowing through and just the extent to which we should extrapolate that going forward?

I can address that. We have individual state plans for all lines and segments. In Commercial Lines specifically, the first thing we evaluate in every state is the catastrophe profile. We believe it is essential to underwrite and price for catastrophes. We're seeing improvement due to the discipline we've implemented for both catastrophic and non-catastrophic events. I'm not sure if anyone else would like to add anything regarding the numbers.

I think you handled it quite well, Steve.

Okay. And I guess, looking at the workers' comp underlying loss ratio. That ticked up a bit versus what we're used to seeing. I was curious if there is anything kind of one-off there or if you've seen a change in loss trend or if that's just the accumulated impact of lower pricing in that line over time.

Grace, this is Steve Johnston. I do think that just accumulation of the lower pricing over time does have a compounding effect. We've been very disciplined. As you can see, there have been a decrease in our writings there as we've maintained discipline over a period of time so that we feel particularly as an account underwriter that we're in a good spot overall.

Finally, regarding commercial casualty broadly, both umbrella and the underlying loss ratio showed some improvement along with a favorable impact from reserve releases. I'm trying to reconcile that with the cautious commentary we've received in recent quarters about this part of the business. Did you gather any new insights this quarter about loss cost trends that enhance your confidence in that line's direction? Or is this simply the result of the actions taken in that area over the past few quarters?

I think your last point is what it is. It's been the action over the last several quarters and trying to get out early and start to address the inflation and the leveraged effect of inflation.

Yes. Two things that are really all of you that are on the call have worked with the company need to know that the philosophy of Cincinnati Financial of rising dividends and integrity and honesty. I cannot tell you the number of people that have told me that it's allowed them to do things in their lives with their kids, their grandkids that they never dreamed possible. And I think we're going to say thank you to all of you for that philosophy because it's really, really important in our country. The thing that I'd like to know is the number of shares outstanding at the end of the period? It says you divide the shareholders' equity for the number of shares out there to get the book value, and I would appreciate if you could tell me how many shares are outstanding at the end of the period to get the book value.

Well, thank you, Fred. This is Steve Johnston. And first off, I really want to thank you for your comments. It just really makes my day. It makes all of our days. You're talking to everybody here at the company. We really appreciate your comments. I believe the number of shares outstanding is 158.6 million.

At the end of the period?

At the end of the period.

You divide how many shares?

I think it's 158.6 million.

And if you divide that by the shareholder equity value, do you get $70.33?

I believe that's right.

That's right, Fred.

I may have made a mistake. I think it's 156.8 million, not what I mentioned earlier. I was relying on my memory, and someone handed me some information here. I apologize for the confusion regarding the shares.

I appreciate what you just said because that's the figure I got with my old math.

Okay, good. The old math is always the best, Fred.

One of my people that live with Cincinnati but sense said was TYG; thank you, God.

Here you go. Thank you so much.

Thank you, Vaishnavi, and thank you all for joining us today. We look forward to speaking with you again on our third quarter call.