Beazley plc (BEZ.L) Earnings Call Transcript & Summary

Good morning. Good morning, everybody, and welcome to our results presentation for 2019. For many of you who've read our full set of report and accounts, which happen to be on the website this morning, you'll have seen on the front page, it's talking about navigating change. And it -- within it, 3 areas of change, a reasonable number of management changes. And we're going to see Sally's first annual presentation. Appointed CFO in May last year, having been with the company since 2006, and Adrian, having had a first full year of Chief Underwriting Officer, shortly, so we'll see that. But we'll also talk about the market changing, and we'll be discussing the market changes. And finally, how the market needs to change in its use of data and technology, and we'll touch on that as we go through the presentation. So I'm going to give an overview. And then going to hand over to Sally, who's going to go through the financials. And then to Adrian who will give you an overview of how the underwriting is going, and I'll come back for the outlook of 2020. So if we just look at the numbers briefly, profit before tax up at $268 million, mainly an investment story, so we had great investment income this year driven by yields coming down or rates coming down, credit spreads narrowing, the equity market is having a good year, capital growth asset is doing well. So the perfect investment environment for making a good return. Small underwriting profit, combined ratio of rounding to 100%. Why is that? We flagged last year, there will be fewer reserve releases because of the catastrophe claims in 2019 -- 2018. We also saw some catastrophe creep in some of those claims, which we talked about in the half year. We're opening slightly higher as we see claims inflation come through areas of our liability book, particularly D&0, employment practices, liability and the health care book. So we're being reasonably conservative in our opening reserve position, and all of that has led to the combined ratio of 100%. Because of the claims environment, the rates are up by 6%. So profitability in the claims environment has driven rates up by 6% and because of that we've seen good top line growth of 15%. A couple of points of that of the facilities we're writing for third party capital and they get reinsured out of that gross premiums written. Prior year reserve releases, as we flagged, are going to be lower, driven by a number of things I just talked about, and in usual fashion the dividend grows between 5% and 10%. So the dividend is up 5% over last year. So a brief business update. It was great to hit $3 billion of premium. Not that we're targeting anything. So we want profitable growth, but on the back of the growth we managed to achieve our $3 billion of gross premiums written during the year and a couple bullet points down you can see that we are growing our non-U.S. premiums for Continental Europe, where we've been putting a lot of effort in growing our offices in Continental Europe, specifically in Spain, France and Germany, up 17%. The U.S. from a much larger base growing at a respectable 13%. Small management changes. So Anthony Hobkinson actually retired at the end of January, and Beth Diamond, who's been heading our third-party claims for a number of years who joined us in 2006 based in New York, has taken on Anthony's role. Some confusion this morning between Anthony's initials and mine, AH. And someone asked me, "Where am I going?" And I'd point out, I'm not actually going anywhere. It's Anthony rather than myself. Strategic initiatives -- oh, and Mike Donovan, sorry, retiring in June 2020. So Mike has built a fantastic cyber business over the years. He joined us in 2004 and he's going to retire in June 2020. Expectation is we will be announcing an internal appointment before the half year to take over from Mike. Strategic initiatives, just touching on 2 of the 4 key initiatives that we're focusing on, how we use technology and data better? So Beazley Digital run by James Eaton, Andrew Pryde looking at how do we actually do small risk better? And we're giving you some pointers here about having quoted 75,000 risks in 2019 on our e-trading platforms. And looking at these technology connections to brokers, which are becoming more and more to the fore. And the brokers are asking to connect with their systems more and more. And then the Faster, Smarter Underwriting that Ian Fantozzi and Adrian Cox lead, looking at how do we actually do our large complex risk better by looking at sources of data and use of technology. And we're partnering with 4 companies that have specific data that is useful to us to help us make underwriting decisions better. Tailwinds, we believe, are going to continue into next year, and we've seen that in the first month of 2020. So the rate environment is still positive into 2020. It's quite hard to tell where it's going to go into 2021. I was asked the question earlier on today. I think we just focus on sort of a 1-year outlook. We'll have a better view of 2021 when we hit the interims later this year. Looking at the charts over the past 5 years. A good, steady premium growth. A bit better over the past couple of years, mainly driven by prices going down, profitability issues, rating environment being better. Right-hand side. Combined ratio of 100. Catastrophe impacted '17 and '18, a combination of factors in 2018. Good expense controls. We have been focusing on our expenses. So we are getting the expense ratio down. There is more to be done on the expense ratio as we look into the future. Bottom left, so the interim and second dividend, total dividend is just going up 5% per annum, which is great. And return on capital is a respectable 15% post-tax, having had lower returns over the past couple of years. We have a long-term incentive plan, which has been in place since 2009. And the aim is to achieve if it tops out at 15% plus risk-free rate growth in net asset value, which is the gray triangle, is the top of the -- where the LTIPs kick in and the bottom of the gray triangle is where -- so the bottom is where the LTIPs kick in, and the top is where the LTIPs top out. The diamond is what we've actually achieved. So we've achieved very close over a 10-year run, 15% plus risk-free rate growth in net asset value. And our belief is if we do that, there will be good total shareholder return, which is the more volatile line above it. But good returns of 23% over the past 10 years for shareholders. I'll now hand over to Sally to go through the financials.

Good morning, everyone. So to reinforce what Andrew just said, we've got a really encouraging story this year with strong growth continuing, along with a really impressive investment return. We'll come on to the fact that the reserving picture has definitely improved, and we end the year in a good position from a capital perspective. So just quickly before I go into the usual trio, we'll talk about a few KPIs. So we've talked about the growth written premium growing at 15%, slightly lower from a net perspective. And that's for 2 main reasons. Firstly, the market facilities business that goes into 5623, which is backed by third-party capital initially comes into our core syndicates. And so that impacts the gross growth, but the majority is reinsured, so that has a different effect on the net growth. Secondly, we've talked about U.S. trucking at the half year. In the second half of the year, we've chosen to reinsure the back book of that sector out. And that has also had an impact on the net premium as well. So they're the main differences for the gross to net relationship. Just a quick mention of expenses that Andrew has already said, there's a slight improvement here. I would not claim victory here at all. We're in a good position from a growth perspective, so we should be getting better. And secondly, the sterling versus U.S. dollar position is also really helping us on that. So definitely more work to do there. And finally, on the claims ratio, we'll come to the reserve releases, as that's really had an impact on the increase in the claims ratio over the year, and we'll come on to that. So firstly, on to investments. Stuart's in the back. So this is definitely his year. So big picture, let's look at the portfolio. Generally speaking, the 2 [ donuts ] that we look at haven't changed significantly over the last 12 months. We have 85% of our portfolio in fixed income investments, with around 15% focused on capital growth assets. One thing to note that Stuart's been working very hard on for a number of years is that our cash position is improving year-on-year as we aim to put the money that we have to work as much as possible, and get the returns working for the money that we have. So during the year, Stuart chooses to make decisions around increasing or decreasing certain asset allocations, depending on what's happening in markets at the time. And I think we'll all agree that he's made some really good ones this year. So what has that meant? We needed a bigger axis on the y-axis this year. And we can see that the overall return is 4.8%. The main driver of this is that we had some movement in our core portfolio of the interest rates reducing from 3.3% at the end of 2018, down to just over 2% at the end of 2019. As we mark-to-market, that comes through as a capital gain for the year. But the thing to note there is whilst it's a good thing for this year, it does change our expectation of future returns going forward as the yield on our -- on the majority of our investments is at lower position. Now on to reserving. So the main reason that we have a difference in our combined ratio this year is that we didn't release a great deal of reserves this year. And it's definitely lower than we would normally see from an average year at Beazley. Firstly, if I look at the positives, we had positive releases on our PAC division. Along with positive, albeit lower than average releases on specialty lines and cyber and executive risk. The reasons for that and we've discussed at length already, where certain books within these areas have seen continuing claims activity, especially in D&O, employment practice and health care. These positive releases have been almost entirely offset by strengthening on our -- some of our short-tail books. So firstly, our reinsurance book saw some loss creep from Jebi as well as some poor performance in some areas of the book in addition to that. Our marine book has seen some strengthening, mainly caused by U.S. trucking that we’ve talked about at the half year. And finally, our property book in the second half of the year also saw some loss creep, mainly driven by Irma. And also there was some strengthening required in our construction and engineering book, which we no longer write. Overall, that's led to a small positive release for the year. So that's the position looking back. How do we look going forward? So on to Sally's favorite graph. So as you can see, we're seeing an improving picture from a reserving perspective. To remind everyone what this graph is doing, it's looking at what we're holding in terms of reserves and comparing that to a bottom of actuarial estimates, which in itself has some prudence, and it's done consistently year-over-year, and we aim to hold between 5% to 10% above the actuarial estimate. So it's pleasing to see that this picture is improving. And the reasons for that is that we've been taking action on our opening position in many areas, especially in specialty lines and CyEx for 2 years now, and that's beginning to pay off. Now whilst this is an encouraging picture, we're not expecting the average reserve releases to go back to a more normalized position over the next 12 months. And the reason for that is because whilst we will see some benefit from the improving market in the short-tail business, the longer tail business takes longer to crystallize and we don't reserve -- release our reserves in those businesses until 3 years have passed from writing. So this is an encouraging picture, but we're not expecting normal service to resume immediately. And then finally, on to capital. So in very simple terms, as we grow, so does our capital requirement. And so as our net premium increases, so do the requirements that various people require of us. The Lloyd's economic capital requirement is a thing that we tend to talk about. And to remind everyone, this requirement is based on a slightly different view to what a lot of people are familiar with in Solvency II. It looks at ultimate position rather than 1 year, so it is higher from that perspective. And also Lloyds have an uplift of 35% that they apply. Now we target internally a 15% to 25% surplus over and above this number. And that's an internal target that we look to be in. And at the end of this year, prior to dividend we're at 22%. And then after dividend, we expect to be at 19%, so remaining right in the middle of that target range. To remind everyone, what we did in the second half of the year, we raised $300 million of Tier 2 debt. And that was for 2 reasons: one, to pay off a retail bond that became due at the end of September, which was done. But secondly, we're in a significant period of growth, and we wanted to increase our capital position from that perspective. It's also worth noting that we still have an undrawn banking facility of $225 million, which we have not used yet, but it remains there should we need it. So Adrian is now going to give an underwriting perspective.

Good morning, everybody. Okay, so an underwriting profit last year of $4 million, just under, which was slightly less than our business plan. And slightly below the standards that we set ourselves. But as the slide mentions, this is against the backdrop of claims activity that has been higher post 2017 than we had enjoyed before that. That is the claims environment that we expected to continue going forward, and our underwriting strategy reflects that. Whilst we've grown across much of the business, all of the divisions have elements within them that are both growing and where we're very, very defensive. And we expect that to continue also. And whilst our treaty team, for example, grew this year, they wrote significantly less than the original business plan because the marketplace disappointed us a little bit last year. That sort of action isn't new for us. We've been talking about and dealing with cycle management and a changing claims environment for a long time now. The good news, I think, though, is that the mood music has changed considerably over the last 12 months. I said this time last year that we expected to be able to beat the rate change plan that we had for 2019, which we did. And the market has indeed evolved quite a lot since then. Amongst carriers, brokers and customers alike, I think, there's now a shared view and understanding of the issues that we all face, and they need to do something about it. So we finished last year with a rate change of 6% on average. So that single number covers quite a lot of variation. And at the one end, our terrorism book lost another 6 points of rates and -- minus 6. But at the other end, we had 31% on our D&O book and 27% on our aviation book. So there's quite a spread of rate change across the portfolio. And I think that really reflects the relative loss activity in those books. So again, we'd like to reiterate. This is not a hard market in the traditional sense, but it is one that's reacting relatively proportionately to loss activity. But this combined with the underwriting actions we've taken over the last few years, did give us the confidence to grow and all teams and all platforms did so encouragingly. And the most growth in dollar sense came on our London platform for the first time in a while, where we had a number of tailwinds. We have a changing marketplace. We had an increase in demand. So we saw an increased submission flow onto our London platform last year. And we saw a slight contraction in supply as businesses and teams either withdrew from activity or shrank slightly or stopped altogether, either voluntary or through regulatory action. And that combination of tailwinds contributed to some good growth on our London platform. The increase in reserve strength, I think, is also a positive, and it's a result of a number of factors as well. So the underwriting action that we've taken, rate increase in loss picks limited prior year exposure and so on and so forth. And our expectations for next year are for the market to continue where it left off this year. If we look at the rate change, this is the combined action since 2015. You can see, once again, the benefit of a diversified portfolio. I think the thing to take from this is that we are above where we were in 2015 in aggregate, which is encouraging, led by property, which in itself was led by the D&F books, so the large open market business is leading the rate change there. And PAC at the bottom has flattened out. Again, the terrorism rate change has been depressing that despite significant activity in Chile and the like, that market remains quite competitive. So we do expect the tailwinds that we've talked about to continue this year, and hopefully, longer, but we'll see. Which does give opportunity for more double-digit growth, I think, both here in London internationally and onshore in the U.S. But many of our lines and teams have significantly increased underwriting controls in place, an oversight, to continue to ensure that we evaluate and act appropriately to contain and manage the existing issues and new ones that will undoubtedly emerge. We've been in a period of heightened underwriting action for the last few years. And that remediation has revised -- and it has resulted in revised risk selection, pricing, business mix and unfortunately, from time to time the closure of some businesses. So since 2018, we've exited from construction and engineering. Last year, we exited trucking in the U.S. And earlier this year, we announced the closure of our U.K. marine regional book. We do use other tools to manage volatility. So as Sally mentioned earlier, we reinsured out our trucking book, once we decided to put it into runoff, it made sense to cauterize that wound. So we contained a tail by reinsuring it, and we also passed over the management of the claims to the reinsurer, which saves us from management distraction over the next few years. Again, as Sally mentioned, we expect reserve releases to be slightly below average this year. The difference in reserve release patterns between our short and our long tail business. That means that it will take longer to reach our average again. So all in all, I think, we need to be -- continue to be disciplined and prudent. But there is some opportunity for sustainable, profitable growth across all our platforms, which is a better position, I think, than we found ourselves in this time last year. Got a question earlier about the coronavirus. So to anticipate that, it might be useful to share some of that. We've done some investigating across our portfolio. I think our main exposure to this is in our contingency book where we write a number -- where we right some event cancellations, some conference cancellation. And pandemic cover is not given a standard in contingency. It's something you have to buy back especially. And we have a limited aggregate capacity for that. It's a coverage that – it’s a class that's covered by our casualty catastrophe reinsurance. So if we do have a number of losses coming from the coronavirus, it does stack into a single loss with an attachment point of $25 million, so it's relatively contained. When we look at the number of events we're exposed to over the next 6 months, we don't expect that much activity. There may come a time if this pandemic gets worse, that people will begin to sue each other for not behaving or acting appropriately which will give us other exposures. But we can't really identify them yet. So as we look at it now, the coronavirus has some fairly limited impact.

Thanks for that, Adrian. So let's just have a look at the overall outlook for the year. We've obviously been preparing for Brexit for a number of years now, and it is going to happen at some point. So we feel we're fully prepared with our European insurance company out of Dublin. And we are keen to grow our European business. So it's important to us. And of course, we're using Lloyd's Brussels. So the combination of the platform in Dublin and Lloyd's Brussels means we can continue to grow in Europe, which is important to us. As we talked about growth earlier on in Europe, we continue to invest in technology, which is quite key. So looking at our initiatives, Beazley Digital, and Faster, Smarter Underwriting and then linking that to the future at Lloyd's. So those 2 initiatives link very closely with the complex underwriting and the risk exchange, which Lloyd's is looking at. And they're going to announce, I think, sometime this month, what the details behind what they want to do. We're big supporters of what they're trying to achieve. Trying to get business placed more cheaply and more effectively into the London market. And thereby, bring more business into London. Adrian talked about some people withdrawing from areas, and that's always a great opportunity for an organic growth company to pick up some of their business and to pick up some of their people. So we do see an opportunity in 2020 to continue to do that. Sally mentioned, the running yield is now at 2.1%, which is lower than it was at the beginning of last year. So that's what we expect, plus whatever we get on the capital growth assets in 2020. And last topic, again, those people who manage to read the whole report and accounts will have moved on to the responsible business report, which was also issued this morning, which is talking about some of the things we're doing around climate change. We're recruiting a sustainability officer who's going to be that focal point of the opportunities around climate change, the threats of climate change, the things we should be doing for our clients as well as our own impact as a company and our strategy around climate change. So there'll be more to come throughout 2020 on that. We are now open to questions. There is a mic wondering around.

Andrew Ritchie from Autonomous. I have a lot of questions but I'll try and restrict myself. So for Sally, the specialty lines loss pick, it actually was reduced on the opening for 2019. I was looking at the triangles at the back. I think there's some commentary in the text about this is mix. So maybe just give us the breakdown? Because presumably, there's parts of that where the loss pick has gone up and there's parts where the loss pick’s gone down or there's a mix effect? So that would be the first question. Secondly, I had expected your capital surplus to go up a bit more with the benefit of the debt issue. I appreciate the debt isn't -- you can't count it in Solvency II, but you can count it in your kind of ECR measure. So what -- was there any sort of moving parts? Looked like the Solvency II equity must have come down a bit in the second half. The only other question, could you just clarify what the total sort of reserve adjustments were for short-tail in 2019? As in -- I'm not describing it as one-off, but the Jebi effect, the trucking effect. I think there was more of a trucking effect also in the second half because of the reinsurance you bought. I think there was an Irma effect. I can't remember if I'm missing anything, but just the quantum of that sort of short-tail negative would be useful?

Okay. So the -- taking those in order. So the SL loss picks. So we are opening each type of -- each line of business that we write consistently year-on-year. But we hold different parts of specialty lines and other areas at different levels each year. So the 3 things that are held differently and the mix that's factored that is that we open our, what I call, the medium tail traditional business at the same loss ratio. We do have cyber in our specialty lines division as well as in the cyber division. I have to take another question on that. And then we also have our market facilities in there as well as I spoke about earlier on. So those 3 things are being opened at a similar level between '18 and '19. But the addition of them depends on how much premium is written. So that's the effect that's happening.

But presumably, the health care D&O, EPL is higher loss picks?

So yes. And they're opening at the same level, but they're all grouped together with other things bringing a different premium feature.

This was -- we already recognized that last year. So we already...

Yes.

So in other words, there's no adjustment. There's no additional raising versus what you raised the 2 points -- 3 points in aggregate in 2018.

No. Our only change is mix.

Is mix. Okay.

The only change is mix.

So the key issue for this year is we're not taking the benefit of the rate increase on those lines in the loss picks. We continue to hold them until we see where this claims inflation goes.

And then on to the debt. So we raised debt in order to use it. And so we were planning to grow as we did. And so we've taken -- we've taken advantage of the market that we've got. And we've remained in a good position in the range. We're happy to pay our dividend and where we are is a strong position for capital going forward. So it's -- we were expecting to use it when we did it. So generally speaking, the capital has grown up in line with what we expect to grow, our growth rate.

I guess, the only issue there is the final business plan was probably slightly larger growth than we originally thought back in June, July when we were thinking about it and we raised the debt. So the growth may be marginally higher.

Yes. Possibly. Yes, good point. And then the last one...?

All the short-tail reserve prior year. I just wanted to know the quantum to sort of back that out as you're...

Yes. So I do need a ruler. It looks, if I just look at Page 13, the -- below looks about -- all those aggregate look about $60 million to me. All those things together.

All the adverse. All the adverses. All these...

Yes. All those things together. Yes all of that together that we're strengthening.

So there was no underlying release? Do you see what I mean?

So in each division, there'll be ups and downs that add up.

Sure. Yes. But you think $60 million is the Jebi and the trucking book?

Yes. Yes. To the nearest 5.

Johnny Urwin, UBS. So just back to the reserving buffers, surprise-surprise. Just how should we think about the opening loss picks for 2020? It sounds like you're going to hold the line a bit and keep a bit of conservatism just to be sure? In which case, would we expect under your business plan for the reserve buffers to grow again in a normalized claims environment for 2020? It's basically the same question as last year. And then just on 1 Jan pricing, what's your experience been?

On what, sorry?

1st of January pricing.

So we haven't decided how we're opening 2020 yet. But I would probably think that at the moment, we wouldn't have any reason to change as yet depending on what happens during the year. So if we're looking to start [indiscernible], I would probably say it would be in line with what we've done over the last couple of years, unless my colleagues disagree with me. And then in terms of the reserve buffer, I've spent 14 years. So at Beazley not predicting what's going to happen over the year. So -- but if we're continuing to do the right thing and opening at a prudential margin, then we should remain in a good place in the buffer. I'm not going to give you any more than that.

The buffer has too many elements driving it because it's the end of a very detailed process of looking at 4 to 5 different business lines across a number of underwriting years. It's very difficult for Sally to predict, and we don't predict. So we're going through a very consistent process. And therefore, we expect the buffer to come somewhere between 5% and 10%, mainly because the process is consistent. So we're not trying to target a certain number. It's the output of the process. Now we do know it's lower in the past couple of years, mainly because of the catastrophe claims where we're holding no buffer from catastrophe losses. Where the actuary in that business -- were the same. And by default, if you've got no buffer, you're going to lower the overall average buffer.

Is it fair to say that you're more comfortable like at 6.8%, i.e., would you say this is a normal-ish point?

We've been in a similar place in the past, which is what I'd say.

Or you can say, in the summer that we were going to -- we hope to end the year higher than we started and we did. January 1 prices, I think the marketplace started where it continued or where it left off at the end of the year. And so I don't -- I don't think the mood has shifted at all in January. I think it's a continuation of what we've seen. And largely speaking, what the market is doing is in sync with what we wanted to do. So we're more -- yes, we are more in sync with the market than we were a couple of years ago. I think the only area where we're a little more disappointed was on the catastrophe treaty side. Where, although there was some rate in the U.S., in Europe and the U.K., there was -- it was still flat to down, which is not what we were hoping for.

It's Kamran Hossain from RBC. I'll just ask about the -- in your statement in the Q&A, there's a discussion around the combined ratio and what we should expect for 2020. Can I -- I guess we sat here this time last year. And from memory, the number was something like 93% for the year with slightly lower reserve releases than we'd anticipated. We're now sitting here a year later with 6 points of rate rise reserve releases to be lower again next year. How we kind of square, starting at 93% last year, 6 points of rate, a similar reserve release picture to mid-90s?

So just starting point. We're just not taking the benefit of the rate through the combined ratio yet by just reserving conservatively for it. So that benefit is not really feeding through into the combined ratio. Now we hope it will at some point. So when Adrian talked about the spread of rates, we're just not taking that benefit through. I mean any other comments on it? I don't think and obviously, since then, we have seen some more claims inflation in some lines, which we didn't recognize a year ago and have recognized this year.

Ben Cohen from Investec. I had 2 questions. Firstly, just to follow up. Can you be more explicit on those -- on the specialty lines, the sort of the delta between the price rises that you're seeing versus the loss cost inflation that you're observing? And any forward-looking view that you'd like to give on that would also be helpful. And the second question was, if you achieve the double-digit top line, I think, that you're talking about, would you expect your expense ratio to improve further this year?

So the rate change that we show is a risk-adjusted rate change based upon the pricing tools that we have. And all the pricing tools we have, have elements in them, which adjust for inflation. They do it in different ways according to what we think the exposure base is or what's happening to the losses, but we do try to adjust for inflation in our pricing tools. The inflation that we have reacts in different ways. So is it going to be exactly the same as the inflation that we end up experiencing? Probably not, but we do try to think about inflation as we do our pricing tools. And we do think about inflation as we set our loss reserves. So the 6% that you see, and it is a risk-adjusted rate change. Might it be that the inflation you've seen particularly outweighs the long-term average? Yes, it can, from time to time. And I think that's why we're seeing rate changes of 31 for example, in D&O because there's some catch-up to be done because inflation may have jumped a little bit.

And on the expense ratio. I would definitely like to see the expense ratio improve. There are things that are under our control. There are other things as I've spoken about with the sterling that can go the other way against this. But yes, we would definitely be looking to -- on an annual basis, improve our expenses position.