Lancashire Holdings Limited (LRE) Earnings Call Transcript & Summary

Hello and welcome to the Lancashire Holdings Limited Q1 2024 Earnings Call. [Operator Instructions] Please note this call is being recorded. Today, I'm pleased to present Alex Maloney. Please begin your meeting.

Thank you, operator. Good morning, everyone. Thank you for joining our call today. I'll just give some brief highlights on the progress that we've made through the quarter and the priorities we have for our business. Paul will then focus on some underwriting progress and then Natalie will cover the financials and then we'll go to Q&A. I'm delighted that with the continued momentum in our business, delivering another record first quarter. Our long-term strategy is to grow when the underwriting opportunities are strong, and we did that again this quarter. We continue to grow our premiums in excess of the positive rate change we see, demonstrating real momentum at the right time in the underwriting cycle. Underwriting margins continue to be attractive. Our aggregate rate change of 104% is achieved on the back of multiyear compound rate increases. And as you know, with insurance accounting, the way it is, this bodes well not just for this year's profits but also for the future. I want to touch on the tragic impact of the Baltimore bridge disaster. In the past, events like this would have had a substantial impact on our ability to deliver strong shareholder returns. Thanks to the work we have done over the last 5 years to 6 years, this type of event is business as usual with healthy profit contributions from our diversified product suite. And it means that we are able to -- we're in a position to affirm our full year guidance for an undiscounted combined ratio of the mid-80s and a return on equity of around 20%. As I look to the rest of the year, we continue to see attractive underwriting opportunities. One of these, Lancashire U.S., commenced underwriting at the end of the first quarter. You have heard me speak about the attractiveness of the E&S market and I'm pleased to say that the team are making excellent progress already. These risks are well -- these risks are the ones we know well. We see the strongest levels of underwriting profitability and we have trusted people to run the operation for Lancashire in the world's largest insurance market. As I've said before, I'm extremely pleased at this stage in the cycle that we have a healthy balance sheet to allow us plenty of flexibility to underwrite the opportunities we see. We continue to deliver what we said we would do. I'll now hand over to Paul.

Thanks, Alex. From the underwriting perspective we're extremely pleased with the start of 2024 and there are a number of reasons for this. Firstly, market conditions have remained favorable. As we expected, rate increases have slowed, but importantly remain positive. Our portfolio of 104% is a testament to this. Also, we continue to grow ahead of rate. Gross written premiums are up 8% and insurance revenue is up 25%. Finally, all underwriting segments grew premiums year-on-year. This is important as for as long as we can grow profitably and take advantage of the stronger pricing cycle, we will do so. We specifically identified property insurance and specialty reinsurance as 2 areas of continued growth in 2024 and both had really strong growth opportunities in Q1. We have guided to approximately 10% growth for the full year and given the renewal shape of the portfolio, remain confident in this full year guidance. Lancashire U.S., another avenue of profitable growth for us, is now open and underwriting business, a real achievement for all those involved to get the operation up and running so quickly and importantly in time for Q2 renewal season. More broadly, what has been pleasing to see is that on the whole market discipline is being maintained. There is certainly more willingness to deploy in certain classes which does bring increased competition, but thus far not at the expense of underwriting discipline. As ever, our primary focus will be on rating adequacy. If we believe that rate inadequacy exists, then we're prepared to increase our underwriting footprint. Given the compound rate increases we've seen over the past few years, we still see plenty of opportunity to profitably grow our portfolio and add further resilience to the book. I'll now pass over to Natalie.

Thanks Paul. Hello everyone. It has been a positive quarter from a financial perspective. The significant premium growth over the last couple of years is now benefiting our own premium and insurance revenue, which increased by 24.6% compared to the first quarter of 2023. The loss environment was far from benign for the industry. However, for Lancashire, aside from the Baltimore bridge disaster, it was a quiet quarter from a loss perspective. Our exposure to the Baltimore bridge loss is within our expectations for a loss of this nature and does not impact our overall guidance for the year. The diversification efforts we have successfully implemented over the last 5 years mean that losses such as this are much less impactful. As a reminder, we have guided for an undiscounted combined ratio around the mid-80s for 2024, resulting in RoE in the region of 20%. It is the work we have done over the past 5 years to ensure a more sustainable return profile that gives us the confidence to be more definitive in our guidance, and I am pleased to say that we are well on track to deliver on our guidance for this year. The investment portfolio returned 0.9% during the quarter. Our book yield is now 4.3% compared to 3.3% at Q1 2023, generating strong investment income that was somewhat offset by rising interest rates. The investment portfolio remains conservative with an overall credit rating of A+. We have still short duration at 1.7 years and we look to slowly increase this to be close to the duration of the insurance liabilities. Our capital position is in line with expectations at our year-end results with a BSCR ratio as of 31 December, '23 standing at 328%. As a reminder, the year-end ratio is struck using 1 January PMLs to encapsulate the bulk of the growth you've seen in Q1. Importantly, taking into account the capital actions announced last quarter, it leaves us with approximately 305%, more than sufficient to withstand the material net catastrophe loss event and take advantage of any opportunities that may present themselves over the course of the year. And with that, I'll now hand back to Alex to conclude.

Okay. Thanks, Natalie. So there's no change to our long term strategy. We've always said we would grow at the right time in the underwriting cycle, which we continue to do. We have plenty of capital to fund the opportunities that we see ahead. And as Natalie said, when losses happen, our business can just absorb those losses much better than it could in the past. So just delighted with the progress we make, we're making and we'll continue to grow for the rest of the year. So we'll now go to Q&A, please.

And our first question comes from the line of Alexander Evans from Citi.

Firstly, just on the really strong insurance revenue growth. Could you just help us understand what's driving that this quarter and how we should think about that for the rest of the year? Secondly, as well, you just make a comment on casualty reinsurance that there was some exposure reductions on contracts written in previous years. Could you just help flesh it out a little bit? I'm assuming that you're still comfortable with the business that you've written and experienced there is good. But what about appetite for new business? And then finally, just on sort of the RPI levels of 104%, how do you view that developing through the year and just a bit of an outlook into the summer renewal season, please?

Hi, Alex. I'll take the first 2 and then I'll hand over to Paul. On the insurance revenue, the strong growth that you're seeing is really a reflection of the business we've written over the past couple of years, which as you all know, takes a few years to come through. So we're seeing the benefit of the increased premium over the last few years coming through. I think the best way for you to think about it is, if you look at the most recent quarter and I project that forward and probably little bit more on each quarter. If you look over last year by quarter, you can see the trend there. So that's kind of probably the easiest way for you to think about projecting that revenue number. And then on the casualty RI, I'll start -- the comment that you were alluding to, it's really more of just an accounting adjustment that we're seeing in Q1 and it's nothing strictly to be concerned about. And Paul can talk more about the actual business.

Yes. No, on the -- as Natalie said, it's an accounting thing as opposed to anything we've seen on the underwriting side. We're still very happy with the margin that we believe is in that portfolio. The market is probably a little bit more stable than we anticipated, to be honest, in Q1, predominantly a function of the continued pain that you're seeing on prior year development. Obviously, noting that we don't have exposure to those years. So there's nothing in the underlying business that we're concerned about. I think we said at the last quarter, we won't see the same level of growth in the casualty reinsurance book, because we've got a lot closer to maturity on that, but there will still be -- we'll still be growing that book by a modest amount this year, particularly if the current conditions continue. I'll move on to question 3 on RPI. Look, we're very happy that -- with a Q1 RPI of 104% across the portfolio. To be honest, it's pretty much in line with our expectations. I think as I alluded to in my script, there is certainly more willingness to deploy in kind of most areas of the portfolio. The underwriting discipline is being maintained. I think that each quarter will be different because there's different renewal periods. I think there's definitely a little bit more competition in some of the property reinsurance lines, for example. I think that's been well documented in the press. But we're very -- we've just got to be very clear, the rate and adequacy we have in those lines is really strong. And the normalization of rates is nothing to be concerned about. And we're just very happy with the overall rating environment. So look, in some lines, we may get closer to flat renewals as we move through the year, but just reiterating the point, the great level that most lines of business are currently at from a rating adequacy perspective.

Our next question comes from the line of Tryfonas Spyrou from Berenberg.

So, on the Baltimore bridge, can you maybe share a little bit more on where your exposure come comes from, i.e., P&I club or mostly or more direct related to the bridge or BI? And I guess in terms of trying to come up with a number ballpark, should we think something like the South Africa rise, $40 million, sort of one large risk to be in the region of that given the appetite you have previously? The second one is on property growth across reinsurance and property insurance. You mentioned that a couple of times in the release. Maybe can you share a little bit more on which areas you've grown? And I guess, how do the P&Ls look like both in sort of the 1 in 100 and maybe lower return periods? Just help us understand a little bit more on how you've grown this year. And then on -- lastly, on capital, my understanding is, the strain of growing from January renewals is included in that BSCR, but the capital generation to come to the forward looking earnings are not in there. So I just want to clarify that. And clearly, it's very early to talk about anything [ public ] side. But if we sit here instead of 9 months' time with the same level, is it too early for us to start expecting and more to come back to all this?

So I will take the first part of the first question. I think -- well, the majority of any potential loss for us from the bridge will come from the marine element of our portfolio on the reinsurance side. Some of that is via reinsurance of a reasonably well known market contract and the other would be from our specialty reinsurance portfolio. So that's the -- that for us, that will be the principal drivers of any loss that we have. In terms of -- I think, we can only reiterate what Alex said in his opening lines, which is that this is very much a business as usual type loss for us. It, obviously, has -- there's a lot of unknowns at the moment, but it obviously has the potential to be a reasonably significant market loss. But we're comfortable with the potential exposure we have. And as both Natalie and Alex have already alluded to, it doesn't change our guidance for the year. So that should give you some comfort around quantum.

Yes, we always say that, these types of claims, as always, they are exactly what we do. So we're very used to looking at complex claims and we have a very good way of looking at various different ranges. And on any range, this is totally within our expectations. But I think it's just a great example of the business we are today versus what we were 5 years ago that this doesn't change our guidance, it doesn't change our view of the year. And so yes, we'll assess the claim like we always do. At the appropriate time, we'll put an appropriate reserve as we always do and then we'll update the market accordingly.

On the second question, I think it's fair to say that you should assume a similar type shape to our catastrophe portfolio. We're not making any fundamental changes. We are -- we've, obviously, been reasonably clear on this. We will be guiding our property in insurance exposure. Obviously, we have the U.S. office now open. And underwriting business, we opened effectively the kind of last week of March, so there'll be some growth there through Q2. It's, obviously, a big renewal season for the property portfolio. We'll, obviously, still be growing our [Technical Difficulty] on the property side. Reason for that is fundamentally the rating inadequacy is still really strong. There were some good opportunities in property reinsurance as well. But again, the shape of the portfolio is broadly similar to what you'd have seen last year. I think our next set of numbers, you'll get an updated set of PMLs, so you'll be able to see. But I don't anticipate any significant changes there. I always caveat PMLs isn't an exact science, so there may always be some movement. But in terms of shape, just I think it is broadly similar to last year.

I'll take the question on the BSCR. So you're right, the forward earnings are not in the year-end 2023 BSCR. It also doesn't incorporate any 1.6 years, 1.7 years renewals that we might do this year or any of the U.S. business. So we do have a lot of capital at the moment, but there's no change to our strategy where we say we match capital to underwriting. And the fact that we're holding quite a lot of capital really means that we're very positive about the underwriting opportunities that we see. And we want to have the flexibility to write good business if we -- even when we find it. So yes, no change to the strategy recapital. So too early to say anything about special dividends, but you can look at what we've done historically and we decide from that.

Our next question comes from the line of Kamran Hossain from JPMorgan.

A couple of questions for me. The first one is just around operational leverage. As I look at your business and think you've brought some quite a lot of new teams in recent years. The U.S. operations just starting up. Just interested in when you think kind of if you stop now and kind of let everyone get on and grow kind of where they should be growing, how long until we see like full operational leverage coming through in the business? The second question is just on casualty. It seems like you on the reinsurance side, you came into the market at a very opportune time. Some of the kind of news flow we're seeing from some of the U.S. players have suggested maybe kind of 2020 and later years are maybe slightly worse than had been hoped at the time. So just interested in kind of any view on that and kind of what your appetite is in that class of business.

Kamran, I'll take question 2 on casualty first, if that's okay. Look, I think we can only talk from our perspective. I'm, obviously, not privy to other people's positions. What I can say with absolute certainty is the pricing that we've seen on the portfolio since we entered in the first quarter of 2021, we're still very confident in. We're still actually seeing on the underlying portfolio some good rate improvement on the general liability portfolio. There are some well-publicized exceptions, but they don't -- such as D&O, that doesn't necessarily form a large of our overall book. But the general rating environment, margin that we believe is there, we remain really confident on top of that, obviously. And as we've said many times, we're reserving this book incredibly prudently. So we've certainly not seen anything to change our view on that portfolio. If anything, it's probably better than we thought it was going to be when we first entered. So we're really happy with that book. We're really happy with where it's going. As I think I mentioned earlier, Q1 was probably marginally better than we anticipated in terms of pricing environment, terms and conditions, et cetera. So we're really confident. We, obviously, do not have a back book to worry about, so that puts us in a pretty good shape. So look, we're very happy with the book as it sits.

Sorry, just to add to that. I think exactly as Paul said, look, we can only talk for our book, but we can only talk for how we run our book, how we reserve our book, how we think about our pricing. So if you're a different business, it depends where you started, your view of pricing and risk and reserve. And at that point, you might be changing that now, but it just depends where you start. We've always been super conservative on this book. So we're very happy where we are. So we don't believe we need to change anything. But as I said, a different company may have a view because of the assumptions they made at the time. So that's why it's hard for us to answer.

Kamran, on the operational leverage question, I assume what you're saying is, if we didn't write any more -- didn't get any more new underwriting teams in, our expenses kind of -- would they stay flat from what they are now? And I think you're right. If you think about last year, we started setting up the U.S. office about 9 months ago, so there's a lot of operational cost of setting up that office included in the '23 expenses, including actually a lot of the underwriters that we brought in. And there was no associated revenue with that. So this year you are going to see revenue say from the U.S. office and they shouldn't be on that revenue. We've already incorporated the expenses in last year. Is that what you were getting at?

Yes. It's more kind of when you're being like full flight in terms of kind of something like -- measure like revenues to equity. So you've got a lot of new people who start up who obviously aren't as productive at the beginning, because there's lots of setup involved in doing that. It's just when you'd be seeing them writing probably the portfolio size you'd expect to do. So whether this is like -- it's more of a kind of how many years question. Yes, if you stop now and let everyone build up the book that you expect them to.

It's more of an earnings question, right? So let's just put the U.S. as an example. As Natalie said, you have like any product line, you have the expense to start, to start running business and it takes you a while to get those earnings through. So it's probably -- well, it's just going up from here, isn't it?

I mean, it depends on what type of business. As you've seen, like the revenue coming through from last year is pretty strong in the insurance revenue line. And even in the U.S., we start writing business this year that the actual -- a lot of the revenue will come through next year. So, yes, it does take a few years…

'25.

Yes, to build from a revenue perspective.

Probably the best way to think about it, Kamran, is when we talk about guiding into new lines and whilst the U.S. isn't a new line, let's look at it in that respect. We always say you're not going to be fully up to speed really for 3 years. And I think you need to think about it like that, it will take 2 years to 3 years to build up. Then from that point, you'll start to get the benefit of earnings start coming through. So obviously, what we can't predict is what happens in the next couple of years. There might be other things that we can add, et cetera, et cetera. But from that point of view, I think of it in that way, if that's helpful.

I mean, we're sticking to our guidance, Kamran. And going forward, we'll then change that combined ratio guidance at the start of every year is the intention. So it will be incorporated that way.

Yes. I was just thinking about the upside from here. It seems like there's plenty.

And our next question comes from the line of Will Hardcastle from UBS.

I guess the first one is, Paul, you mentioned that you still see plenty of opportunities to grow the portfolio and add further resilience to the book. I guess, does this mean the growth from here is more likely skewed to non-property lines? Or am I reading that a little wrong? The second one is there's been lots of investor discussions. I'm certainly having lots of people expecting low to mid-single digit year-on-year price declines come the mid-year renewals. I guess, would you be surprised with that level of decline? And one of the interesting discussion points coming out on some of the international conference calls is whether the insurers actively incorporate the headline forecast of active wind seasons into pricing or not at this stage? I guess, I wondered whether you guys do or not.