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

Hello, and welcome to the Beazley Q3 trading statement call. My name is Molly, and I'll be your coordinator for today's event. Please note that this call is being recorded. [Operator Instructions] I would now like to hand the call over to your host, Andrew Horton, to begin today's conference. Thank you.

Good morning, everyone, and I have with me this morning Sally Lake, our CFO; and Sarah Booth, our new Head of Investor Relations. So what I'm going to do is pick up some of the highlights in the trading statement, and then we will [Audio Gap] So we've seen good growth in gross written premiums for the 9 months of 16%, and that's driven mainly by rate increases of 14%. And you can see that we've seen rate increases across every line of business [Audio Gap] exposure growth because we have continued to take evasive action in the more recession-prone lines, such as our employment practices liability. The growth, we believe, will continue into 2021 where we're expecting mid-teens growth again next year in gross written premiums and continued rate increases, but probably not at the level we've seen in 2020. [Audio Gap] [ insurance ] next year for the more volatile lines, such as D&O, where we have seen great rate increases over the past couple of years. So net premium growth, we're expecting to grow by around 10%. The Lloyd's part of the plan, which is the major part of our business, has been approved by Lloyd and the capital has been agreed. So the capital is in place for that. The plan will obviously be dynamic as it was this year because when we started this year, we didn't know that this was going to happen, and we have moved things up and down [Audio Gap] continue to be dynamic in 2021. We've highlighted in the statement that our COVID-19 claims remain estimated at $340 million. And the second U.K. lockdown has no impact on our event cancellation estimates because we weren't estimating anything to be happening at this point in time, and we have little exposure to the U.K. property and BI, business interruption, market. We've estimated our net claims to the catastrophes to the end of Q3 at $80 million net, including reinstatement premiums, which is around our planned loss for the 9 months. We've mentioned before the increase in ransomware claims where frequency increased in 2019, and we've continued -- what we've actually seen in 2020, particularly this quarter, that severity has increased. So the cost of each ransomware claim has increased. What we haven't seen is frequency increase, which [Audio Gap] the world being in this lockdown environment. And 3 major things that we are doing to respond to that. We've been looking at and implementing technology to help identify our clients' vulnerabilities and point out those to the [Audio Gap] remediate that. We've also been restricting coverage through managing limits, and the market is moving and repricing is taking place. We've been market-leading in cyber for over 10 years. It makes up around 15% of our book because that's the maximum that we allocate to it. And that includes the professional [ negatives ] part of cyber for software companies. [Audio Gap] very short-tail to [Audio Gap] of our actions very quickly. Our capacity is actually shrinking in this area, and the market is moving incredibly rapidly. To recognize the increased ransomware claims, we have increased our 2019 and 2020 opening loss ratios to maintain our level of [Audio Gap] our reserves. And finally, [Audio Gap] capital is in place for our growth next year, and we will be within our range of 15% to 25% as we are usually. That's all I had. Those, in my view, are the highlights [Audio Gap] that. We -- as always, we have given estimate of our combined ratio. Of course, we estimate our combined ratio not to the exact number. We said that the combined ratio will be around 110% mark for the year. So [Audio Gap] to questions.

[Operator Instructions] Your first question comes from the line of Kamran Hossain calling from RBC.

A couple of questions. The first one is, I guess, on the additional reinsurance spend or kind of additional reinsurance [ you're ceding ], do you expect this to be on a 1-year basis? Or do you think it will carry on beyond that? My assumption is that once your capital base recovers, you'd probably keep a little bit more of that. The second question is on, I guess, on your capital position. What have you factored in on the dividend there? Are we assuming flat year-on-year? Comments around that would be really helpful.

Look, Kamran, thanks for those questions. The additional RI spend, we would do anyway. D&O and our financial institutions, where the extra RI spend will be, tend to be more capital-intensive and more volatile lines. And although the market is moving well for us, we just think it's too risky keeping all of it gross on our balance sheet. So I'm not sure the overall amount will reduce because D&O and FI tend to be volatile lines and always have been and may always be. So it's purely the fact that it's great to make the most of D&O going up, and it's grown quite a lot in -- the rate has gone up for the third year in a row next year. But it is a volatile line, and we don't want too much of it in case there are further claims because you can get claims in those lines. So I'm not sure it will reduce going forwards. On the second one, the dividend, of course, comes out of our capital next year. So it's not within our ratio when we announced at the end of this year because the dividend comes out of capital into 2021. So there's no assumption as far as dividends within that capital number.

Okay. Got it. And I mean, if I was going to follow up on that, I mean, what -- given you've got a great market backdrop, pricing improving substantially, how would you kind of rank the importance of the dividend versus growth?

That is a great question, and what -- just on the dividend, what we will do with the dividend for next year is review it when we get to the end of the year, as we always do, and we'll assess that. It's almost impossible to answer because we do want to grow, and we have a great track record of paying dividends. So it's a difficult one to balance. We do want to make sure we make the most of the growth opportunity. We have the plan in place. So we'll [ tap to assess ] the capital, Kamran, when we get to the end of the year and see where we are for this year. So [Audio Gap] trying to predict what we're going to do at the end of the year before we got there, and I'm not sure I can do that yet.

I'll ask you in February.

Yes, exactly. That's right. Thank you.

Your next question comes from the line of Emanuele Musio calling from Morgan Stanley.

Just a quick one on capital. I mean the market is hardening. Today, you reported a very strong rate improvement across your book. And then you said you want to grow in the mid-teens, but some of that will be [ ceded to ] reinsurers, right? So I was wondering whether -- or actually, under which circumstances would you consider maybe to raise more capital to retain a little bit more of those good prices, a little bit more of these good opportunities? I was just wondering, so any color on that will be helpful. And secondly, on capital requirements. It looks like that the Lloyd's has become a little bit more onerous when it comes to capital requirements in the last year or so, and this is partly reflected also in the movement of your group Solvency II ratio. So I was wondering, at this point, would you expect Lloyd's to take into consideration the benefits of this pricing improvement and maybe reduce its stance in defining capital requirement?

Okay. I think that's a really good question. So I think on the FI and D&O, I mean, what we do every year with the planning process is try to optimize the overall plan on a net basis. So we look at where the growth is going to be gross, and then we look at how we can come up with the most efficient capital structure every single year and this is no different in 2021 than it is in any other year. And FI and D&O do have a track record of being very volatile in terms of their claims ratios. And therefore by default, they tend to be more capital-intensive lines. So our view is we want capital-intensive lines and make the overall picture as efficient as possible and gives the best return on capital in total. So for FI and D&O, we needed to do -- we wanted to do that, and we'll do that [ whatever ] the company it was in. So we're not buying more reinsurance specifically to increase or lower our capital position. We're buying more reinsurance to increase our potential return on our capital. And if we look back, and we've got lots of data on FI and D&O, you can see that they are very volatile in terms of where their claims ratios can be at the bottom of a cycle and top of a cycle. So that's important to us. And the gross premium growth in both FI and D&O is going to be considerably greater than 15% gross premium growth [Audio Gap] considerably greater -- considerably greater than that. From a Lloyd's point of view, I don't know -- we haven't found it that much more onerous. We have obviously our capital model, and Lloyd's approved our capital model, having had a minimum amount of challenge this year. So that's fine. I think they'll start taking the rate increases. I mean your point is a valid one. I mean they're quite conservative and expect us to be conservative with our capital modeling. So they don't allow initially to take all rate increases through. So I think into next year and maybe the end of 2021, [ 2022 ] [Audio Gap] increases we'll see will start feeding through more into capital models.

The next question comes from the line of Nick Johnson calling from Numis.

Just another question on the reinsurance purchase increase for next year. It sounds like that's mainly -- the change is mainly in FI and D&O. Is that -- that's likely to be quota share reinsurance, I assume. I just wondered if -- are there any profit share arrangements in that structure? And also, do you anticipate spending more or buying more excess of loss and cash cover, increasing limits in those areas, for example? And second question, if I may, on casualty claims trends. Could you just perhaps discuss the latest in what you're seeing, for example, in employers' liability in health care? And with that in mind, how comfortable you are on your current loss ratio picks for specialty lines, obviously mindful that the cyber loss ratio pick increased. So it'd be good to know whether specialty lines is going to plan or whether it's better or worse.

Okay. Thanks, Nick. Hopefully, I cover them all. So yes, the -- if we're buying reinsurance for D&O and FI, it's likely to be on a quota share basis. Yes, when you do, do quota share reinsurance, you normally have some sort of overrider or commission arrangement, which means you don't end up being penalized for ceding it away. In other words, you end up in a neutral or minorly positive position in terms of a return on capital point of view. So that's just sort of a standard quota share position. From a clash point of view, I think we're aiming to buy very similar cover as we have done in 2020. Although, as you may remember, the clash cover is a certain balance and then on top of that, there is an extra top-up for cyber. So there is a [Audio Gap] a cyber clash than if there's any other form of clash cover. On the casualty claims, we talked, I think, at the beginning of this year about a claims inflation term, social inflation. We haven't seen any further moves in that. So we haven't seen social inflation tick up during the year. In effect, it's been a reasonably steady year, no major changes in it. On the Employment Practice Liability, I'd like to highlight because we're taking evasive action in case recession-prone claims come through in that line. So historically, we are still seeing some EPL and health care claims in the past because we would always do that, but that's not out of the ordinary to us. But on EPL, we're trying to take evasive action in case more recession-prone lines come through in the future. So that's our action on EPL rather than worrying about what happened in the past. Obviously, everything is done on a claims-made basis. So we have the opportunity to make evasive action before the claims are made.

The next question comes from the line of Ben Cohen calling from Investec.

I had 2 questions. Firstly, could you give us a little bit more color in terms of the additional conservatism that you're building into the cyber reserves? What would be the downside risk now given the raised loss picks that you've chosen? I appreciate you said it's a short-tail line. So maybe you could put that into context and maybe in terms of context, what you've seen before when there've been spikes? And the second thing is could you say anything about the outlook for third-party COVID-related claims, whether your view on that has changed, whether the sort of the IBNR part of what you've already reserved has shifted in the quarter?

So Ben, I could do the second one first. There's been no change in the quarter. So we haven't seen anything happen in the quarter that changes our view on third-party COVID-19 claims. It is going to take quite some while to see that appear. And I think we said probably a couple of years before we probably see whether we're going to get anything or not. I mean what we're doing is trying to model it based on, to some extent, on the last financial crisis. But in other areas, it's obviously not like the financial crisis and therefore trying to come up with estimates based on what we've seen historically. And that's particularly health care because the last time, financial crisis [Audio Gap] much, but maybe [ like ] COVID-19 or may not be. So we've estimated based on that. So no change. It is going to take a while before that -- before we see anything, and we haven't seen anything in this quarter. Cyber deterioration. The cyber deterioration sort of 2020 here on in will, if it deteriorated further, will go into a reinsurance program. So it's not going to have an impact -- oh, my phone's down -- will not have an impact on us going forward. So it will be reinsured from here on out.

The next question comes from the line of Andrew Ritchie calling from Autonomous.

Apologies if I ask a question that's been asked. I've been cut off twice. To clarify, what have you said in terms of the various moving parts on the reserve buffer in terms of where you think that might land at the end of the year? And I guess looking forward, given you've more or less used the cat budget, you've talked about increasing the picks on cyber. Would that lead us to lower expectations for any kind of normalization of PYD development in '21? Now second question. Just to clarify, Andrew, you said that the additional reinsurance wasn't a capital management tool. But is that the same as saying your year-end projected capital position assumes no benefit from the increased reinsurance? Could you just clarify that?

Yes -- okay. Go on.

Third question, I'm struggling -- you talked about optimizing your capital structure. But is it optimal right now to have as much debt in your capital structure, including the drawn bank facilities as you have? And maybe just clarify, what -- would the priority not be to pay back some of those facilities as you generate capital? I think that -- sorry, the final question was can you remind us -- I think it's the case that the reinsurance attached into the cyber book is separate from the rest of the casualty book or the specialty book because one of the reassurances you gave us at the half year on subsequent COVID impacts for casualty or specialty was obviously the volatility protection you have in the reinsurance arrangements there. Has any of that being used up by the cyber claims? And just clarify that, that is or is not the case.

Okay. Let me see if I can -- make sure I cover them all, Andrew, as I go through. So if we go back to the capital management tool, yes, it's a capital management tool. It's a capital optimization. So we're trying to get the business plan, as I said, ensuring we're managing the actual -- sorry, someone typing as I go along -- managing the -- so we're trying to manage the -- we're trying to manage the overall plan that gives us the best return on capital. So obviously, it is a capital management tool in a way because we're lowering that volatility. What I was suggesting, though, is we didn't do it to ensure that it stays within the capital range. But to your second point about the optimal capital structure is somewhat different from ensuring we're optimizing use of capital. So we're optimizing use of capital to give us the best return, which is what the business plan does, and then the capital structure [Audio Gap] how much equity, I feel, is a separate debate. And at this point in time, we're comfortable with the amount of leverage we actually have. I think we'd be uncomfortable to take on too much more [Audio Gap] our capital structure, and we still think there is scope to take on a bit more. So overall, we're comfortable with our debt and position. The surplus over actuarial, we always have the challenge with surplus over actuarial when we have catastrophes because we don't have a surplus of the actuary and the business tend to hold the same reserve. So that always has a bit of a dampening effect over surplus over actuarial. But our aim of increasing the cyber loss reserves is to ensure we -- and we did have a similar amount of prudence that we like having in it. But to be very specific, when we come to the end of the year, we will have that dampening effect as we've had before where there is a 0 surplus when you look at catastrophe losses because there's very limited information at this point in time on them. And I don't think there'll be a lot more information at the end of year than there is now [Audio Gap] issue. And the RI, yes, we have a set of some reinsurance, which actually kicks in when the overall loss ratio of CyEx and specialty lines goes above a certain number. So the cyber move has nibbled into that reinsurance, but there is [Audio Gap] left in it, and it's on an annual basis. So there is a reinsurance cover for every underwriting year, and it is already in place for 2021. It's bought on a 3-year basis. I hope that's clear. I mean I think we -- I think [ at the end of the year ], we need to explain that more clearly, but that wasn't really the aim of the trading statement to go into that depth.

Okay. That's very helpful. So I guess the point is, though, it's clean for '21 as it were -- as you're resetting...

Yes. Exactly. Yes. I [ think it's been ] -- yes, for 2021. So if the recession claims start coming through on a claims-made basis in 2021, it's all there.

Can I just add something on the -- just quickly on the recession claims as well, as we're not seeing the recession claims coming through as Andrew mentioned earlier. The other thing to note is that since the beginning of this year, we've been looking at our underwriting in those areas and amending our underwriting, expecting a recession to come. And the longer that it takes for those claims to come in, the further away from -- the more impacts that re-underwriting has had. So that's something else to note when we think about how the third-party COVID and recession claims act.