Kinsale Capital Group, Inc. (NYSE:KNSL) Q1 2024 Earnings Call Transcript

Kinsale Capital Group, Inc. (NYSE:KNSL) Q1 2024 Earnings Call Transcript April 26, 2024

Kinsale Capital Group, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Before we get started, let me remind everyone that, through the course of the teleconference, Kinsale’s management may make comments that reflect their intentions, beliefs and expectations for the future. As always, these forward-looking statements are subject to certain risk factors which could cause actual results to differ materially. These risk factors are listed in the company’s various SEC filings, including the 2023 Annual Report on Form 10-K, which should be reviewed carefully. The company has furnished a Form 8-K with the Securities and Exchange Commission that contains the press release announcing its first quarter results. Kinsale’s management may also reference certain non-GAAP financial measures in the call today.

A reconciliation of GAAP to these measures can be found in the press release which is available on the company’s website at www.kinsalecapitalgroup.com. I will now turn the conference over to Kinsale’s Chairman and CEO, Mr. Michael Kehoe. Please go ahead, sir.

Michael Kehoe: Thank you, operator. And good morning, everyone. As is our usual approach, Bryan Petrucelli, our CFO; and Brian Haney, our President and COO, and I will each offer a few remarks. And then we’ll move on to Q&A. In the first quarter of 2024, Kinsale’s operating earnings per share increased by 43.4% and gross written premium grew by 25.5% over the first quarter of 2023. For the quarter, the company posted a combined ratio of 79.5% and it posted an operating return on equity of 28.9%. The company’s strategy of disciplined E&S underwriting and technology enabled low costs drive these results and allows us to generate attractive returns and take market share from competitors at the same time. As just mentioned, growth in gross written premium in the first quarter to 25.5% from 33.8% in the fourth quarter of 2023 and down from the 40% growth we’ve experienced over the last several years.

This deceleration over the last couple of quarters is mostly driven by the property market’s return to a normal level of competition from the crisis like environment in 2022 early 2023. Property continues to be an attractive opportunity with favorable pricing and growth rates and we remain optimistic about this area of the E&S market looking forward. The casualty market remains attractive as well with levels of competition varying by product line. Our growth rate in casualty differs from one line to another, but in general we see this area as steady to slightly improving. Brian Haney will offer some additional commentary on the E&S market here in a moment. Overall, the P&C industry continues to work through challenges around frequency and severity, catastrophes, inflation in general and rising loss cost in particular, an expanding and at times unpredictable tort system, litigation financing and loss reserve adequacy in particular on longer tail occurrence lines.

All of these challenges and a variety of others should contribute to drive stability and growth opportunity in the market for the foreseeable future. Beyond the industry wide challenges noted above, it’s our own business strategy here at Kinsale that drives our confidence and prospects for significant future profit and growth. It’s the focus on smaller risks within the E&S market, the absolute control we exercise over our underwriting and claims management operations, the best-in-class service level and risk appetite we provide to our brokers, and our technology driven low cost operation that differentiate Kinsale from competitors across the industry. And in many ways, the competitive advantages we have become even more significant as the market becomes more competitive in the years ahead.

And finally, just a reminder that establishing conservative reserves to pay future claims is a fundamental part of our business strategy. As we have noted before, some of the original conservatism of the 2016 through 2019 accident years has been eroded away by inflation. Although with booked ultimate loss ratios in the low 60% range, these accident years remain highly profitable. These years have developed favorably on an inception to date basis except for the 2018 year which is slightly adverse. From the 2020 accident year looking forward, our pricing has exceeded loss cost trend and we have been more cautious for leasing reserves giving us full confidence that our overall reserves are in the best position in our company’s history. And likewise, investors should have confidence in the strength of our balance sheet and the prospects for continued favorable reserve development in the years ahead.

And with that, I’m going to turn the call over to Bryan Petrucelli.

Bryan Petrucelli : Thanks, Mike. Another great quarter from a profitability perspective with net income and net operating earnings increasing by 77.3% and 43.8% respectively. The 79.5% combined ratio for the quarter includes 2.7 points from net favorable prior year loss reserve development compared to 3.7 points last year with negligible cat losses in either period. As Mike mentioned, we’re taking a more cautious approach to releasing reserves and in setting current year loss ratio picks. The expense ratio continues to benefit from higher ceding commissions from the Company’s casualty and commercial property proportional reinsurance agreements as a result of growth in the lines of business ceded into those treaties. The expense ratio decreased by a point from 21.7% in the first quarter of 2023 to 20.7% this year, with almost all coming from lower net commissions.

On the investment side, net investment income increased by 59.1% over last year as a result of continued growth in the investment portfolio generated from strong operating cash flows and higher interest rates with a gross return of 4.3% for the year compared to 3.7% last year. We haven’t made any significant changes to our investment strategy and continue to monitor inflation, interest rates and related Fed policy commentary and we’ll adjust the circumstances warrant. New money yields are averaging in the low to mid 5% range and an average duration of 2.8 years consistent with year-end. And lastly, diluted operating earnings per share continue to improve and was $3.50 per share for the quarter compared to $2.44 per share for the first quarter of 2023.

With that, I’ll pass it over to Brian Haney.

Brian Haney : Thanks, Bryan. As mentioned earlier, premium grew 25.5% in the first quarter. We continue to see growth in most of our divisions. Casualty and Property continue to grow and we are seeing particularly strong growth in our small property, entertainment and general casualty divisions as well as in some of our newer divisions like high value homeowners and commercial auto. We operate in a wide range of markets, not one monolithic market, and there are some areas where there’s much more competition and growth that’s harder to come by such as our Life Sciences and Management Liability Divisions. Submission growth continues to be strong in the low 20s for the quarter consistent with most of 2023. This number is subject to some variability, but in general we view submissions as a leading indicator of growth and so we see the submission growth rate as a positive signal.

Turning to rates. We had in past quarters reported what we call real rate changes, which are nominal rate changes adjusted for trend. While we felt that that was a better measure of how rate adequacy was changing, given that the rest of the market reports a nominal rate change, we felt that our approach created the potential for confusion. That being the case, we are pivoting back to reporting nominal rate changes. So we see rates being up around 7% on a nominal basis, down from around 8%, again on a nominal basis last quarter. It’s important to keep in mind, as I said earlier, the market is in a monolith. In some areas, our rates are going up higher than 7%, in some areas, they’re going up less. And in some targeted areas, we may even cut rates because the margins are so high that we feel the tradeoff between rates and growth is worthwhile.

But overall, that 7% still puts us ahead of trend and we feel that the business we are putting on our books is the best priced business in our history. Turning to inflation, we feel that the adverse development you see in some, in the industry on some longer tail casualty lines is due at least in part to a spike in inflation. The difficulty with long tail lines is that you set prices and initial reserves with the knowledge you have at the time, but then there’s a long lag between the pricing of the business and the paying of the claims during which unforeseen events can affect the value of those claims. It’s fair to assume no one in the industry saw the pandemic coming and few could have foreseen the significant expansion of the money supply followed.

That additional money in the economy set up a wave of inflation that disproportionately hit some costs more than others such as construction costs. This had the effect of effectively repricing the reserves for longer tailed casualty lines. The uncertainty created by this longer payout pattern in some lines reinforces the wisdom of our conservative approach to reserves that Mike referred to earlier. There are a lot of unknowns in selling reserves. There’s a lot that can happen in between the setting of those reserves and the paying of the claims. So it’s incumbent on us to on the side of caution. And while inflation has moderated somewhat from its highs, it would seem that it will take longer to get back to the Fed’s target of 2% than many prognosticators would forecast.

And that may continue to cause reserving issues for those of our competitors in a weaker financial position. This gives us a sense of optimism, particularly around the capital, the biggest market. This was another good quarter and again, we are happy with the results. And with that, I’ll hand it back over to Mike.

Michael Kehoe : Okay. Operator, we’re ready for any questions in the queue.

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Q&A Session

Operator: [Operator Instructions] Your first question comes from the line of Michael Zaremski from BMO Capital Markets.

Unidentified Analyst : This is Jack on for Mike. Our first question is on the loss ratio. Historically, we’ve seen a pattern of seasonality and that reserve releases tend to be higher in the early part of the year and then decelerate. And the opposite trend occurs with the underlying accident year loss ratio, and then it starts out higher, and then improves. So, yes, given your comments about adding conservatism to reserves in light of inflationary trends, do you expect that to change the historical seasonality pattern?

Michael Kehoe: I don’t think we expect it to change. I think the starting point is just slightly higher because we’re setting slightly higher loss picks and we’re releasing reserves at a slightly slower pace. And that’s purely kind of an additional measure of conservatism against a backdrop of inflation etcetera in the economy.

Unidentified Analyst : And then second question, so Kinsale has opportunistically grown in property in recent years and that’s paid off well for shareholders. I guess if property pricing decelerates, will it consider to grow less in those lines of business or absolute margin still excellent, even if pricing is less positive? And I guess, relatedly, is any property business expected to leave the E&S marketplace? And if it does, can Kinsale access it in the standard or non-E&S marketplace as well?

Michael Kehoe: I would say that property pricing is probably at a 20-year high and as we said in our prepared remarks, we see that as a very attractive opportunity for growth. We’re always going to prioritize profitability over growth. So, depending on where the market trends in the future, we’ll probably have a lot to do with how rapidly that line of business grows. We’re very optimistic. I don’t know we’re not seeing any kind of inroads from standard companies at the moment.

Bryan Petrucelli: We’re not. And I think to echo Mike’s point the business is really attractive right now. And so we’re still growing. To specifically answer one question you had, we do not have an admitted company. So no, we would not write admitted business.

Operator: Your next question comes from the line of Mark Hughes from Truist.

Mark Hughes: Mike or Bryan or Brian, what do you make of the state E&S data that seem to show a meaningful deceleration, particularly in March? What do you make of that? And did you see anything like that in your own experience, any kind of volatility at the end of the quarter?

Michael Kehoe: I don’t know what to make of it Mark other than the E&S market has grown at a double-digit clip for 6 years in a row. And so I think the 7% growth in Q1 is not a surprise. I don’t know how if there can be lags in the reporting of some of that data or not. So I don’t really have anything additional to add there. Our overall growth slowed slightly compared to where it’s been, but given the dramatic growth of 40% give or take over a 6-year period, it was not unexpected, right? We’re still growing at a very rapid rate and we’re still very optimistic about growth prospects looking forward.

Mark Hughes: Are you able to share the breakout in terms of growth, the growth rates in property versus the growth in casualty in the quarter?

Michael Kehoe: We don’t break it out, but it varies quite a bit from one division to the next. We’ve got 24 different underwriting divisions each of which is organized either around an industry segment or a coverage. And so you see a rapid growth or pretty material variance from one to the next. As Bryan was indicating, it’s really a mistake to look at E&S as one monolithic market. There’s a lot of submarkets within that and that’s I think reflected in the relative growth. You hit on some of the divisions that are growing more rapidly and some that are rapidly and some that are growing more slowly already.

Bryan Petrucelli: Yes. I mean, there are even one exercise you could go through is to look at the statutory data and that would show kind of the pattern Mike was talking about where property one of the reasons the growth rate was 40% for as long as it was, was property just had this extreme crisis market. And so, the underlying casualty market has been strong all along and that, as Mike said, continues to be strong.

Mark Hughes: Yes. How should we think about the 2Q? You had such a strong growth rate in this quarter last year. Should we assume that you’re going to renew all that business and grow on the side as well? Or does this present an unusual comparison and so Q2 might be slower just because of the tough comp?

Michael Kehoe: We don’t forecast growth. We don’t offer growth guidance, but I think that’s an interesting observation, Mark. Tough comp.

Mark Hughes: And then finally, the tax rate, what’s a good full year tax rate?

Bryan Petrucelli: Yes. So I think, Mark, if you take a look at our tax rate sort of over a 12-month period that will give you a better sort of guide as to what to pick. There were a fair amount of stock options exercised in the first quarter, so that drove it down. But I think, if you go back and look at the past four quarters and you can kind of you could come up with a pretty good pick from that.

Operator: Your next question comes from the line of Andrew Andersen from Jefferies.

Andrew Andersen: I think on the 4Q call recognizing you’re not really trying to give guidance, but I think you said you wouldn’t take issue with thinking flat underlying loss ratios for ’24. Does that still stand or does the increase in accident year picks this quarter, now I mean full year ’24 could perhaps be 1 point higher compared to ’23 is 57.4?