W. R. Berkley Corporation (WRB) Earnings Call Transcript & Summary

Well, great. Good morning all. It's Meyer Shields of KBW. Our next session is with Executive Chairman, Bill Berkley; and President and CEO; Rob Berkley of W. R. Berkley Corporation. We also have CFO, Rich Baio; and IR Head, Karen Horvath, on the session. I want to thank the entire Berkley team for participating and sharing there, I would say, intellectual acumen and talk with us this morning. We're going to start off with brief introductory comments from Mr. and Mr. Berkley and then jump into Q&A. As always, if you've got questions, the best way to get them to me is to submit them in the actual chat, I don't actually have access to e-mail over the course of the session. And with that, let me turn the introductory comments over to the Berkley's?

Well, welcome to our call. This is a really exciting time for the insurance industry, especially the area that we focus on, specialty access and surplus lines in a whole array of niche markets. I've been involved in the business for more than 50 years. And there's only been, maybe 2, possibly 3 opportunities that have looked like this in that whole period of time. And it looked like this because the demand for the products outstripped the supply of reasoned and intelligent suppliers of insurance products. And that is important not because of normal supply/demand relationships, but brokers only have a limited amount of time. They have to find someone who they have confidence in, who can analyze, underwrite and place the business. So it's not just supply and demand, but it's knowledgeable markets that can respond promptly to brokers because the brokers don't want to miss the opportunity. That makes this a particularly unique chance to make profits and grow if you understand what you're doing in this environment. We think we're uniquely situated to do that. We think that will continue longer than usual because of the enormous amount of uncertainty in the economy and in the financial markets where people are unsure, uncertain. And that increases the likelihood of this opportunity extending for a longer period of time. That also creates better opportunities for the excess and surplus lines business because of the many businesses that have dramatically slowed down or closed, and then our new businesses starting or giving a new birth to the old business, which automatically mean they go into the E&S marketplace. So this is a great opportunity for us. We think it's going to be one of the best chances we have had to get great returns. And we think that this is a time where our company more than anyone that we know of in the business will shine. We have great leadership, and we have experienced people and we're confident that this is going to be a great opportunity. Robert?

I don't have much to add. Maybe just a couple of quick sound bites. If one takes a bit of a step back and you try and think about how did we get into this position as far as market conditions go? And I'm going to speak specifically around the commercial lines market ex-workers' compensation. Fundamentally, there are a few drivers that got us to the circumstance that we are facing in a firming market, that has been firming for some time now. One, it has been the realities of a low interest rate environment; two, the realities of social inflation, loss cost trends being driven by the awards that are coming out of the legal system very much on the rise. And then more recently, over the past few quarters, we're seeing the realities of another type of inflation, which we will refer to as financial inflation. All of these things, along with some other variables have been serving as a catalyst for change. It is wearing its head in a manner where we're seeing people revisiting their appetite, thinking about risk and return in a different way and quite frankly, bringing more underwriting discipline than we've seen in quite a number of years in these important product lines within the commercial line space. As we've talked about in the past, all product lines do not march together in perfect lockstep. We have a bunch of microcycles, if you will, where different product lines are at different points in the cycle. That having been said, again, with the exception of workers' compensation, there are some fundamental drivers that, from our perspective, have led to the hardening in the market that we are experiencing today. And those same drivers, we do not see them eroding. In fact, we see them continuing to persist and in some cases, strengthen, which will likely lead to further firming in parts of the overall marketplace. So this is a cyclical industry. One needs to recognize that and accept that, one needs to recognize that they cannot control the marketplace, but they can control their actions and how they optimize whatever the circumstance may be. In a cyclical industry, there are moments in time when you made each shrink. There are also moments in time like the one we are in now, where when the opportunity presents itself, you want to maximize that opportunity and grow as much as you responsibly can. And that's what we have been doing and expect we will continue to do. So Meyer, let me pause there, and we will hand it over to you and others to take the conversation anywhere you'd like it to go.

Okay. Absolutely, we'll do. And again, obviously, we welcome questions from people that are listening. And I just want to thank you for the introduction because I think the overview is -- the overview of the opportunity right now is something that, frankly, I find sometimes gets lost and communicating on some of the nuances of the pace of rate increases and stuff like that. And I think that there is an unusual forest that can be lost in those trees. So I really appreciate the clarification. I want to start off by going into one point that you brought up in your introductory comments with regards to financial inflation, as something distinct from social inflation is that -- can you share your thought processes about how long that lasts? What's driving the financial inflation component and how you're incorporating that in your underwriting and in your pricing for exposed lines of business.

So from our perspective, first on financial inflation is real. And I know the term transitory has been thrown around by many, both in Washington, D.C. as well as in the media and others. Whether -- I'm not sure exactly what the definition of transitory is, but it certainly has been going on for quarters and there's nothing at this stage that leads us to believe that it is not going to be a reality that one needs to grapple look for some period of time going forward. We need to appropriately take that into consideration and how we think about our costs or our loss cost and what that means for our trend going forward. So one of the discussions that we are constantly having -- issues that we are constantly examining and reexamining is around loss costs. It's one of the reasons why we, as an organization, we're out pushing for rate earlier granted than some of our peers. And it's one of the reasons why we have not wanted to prematurely start to move loss picks down in spite of the rate increases because those rate increases potentially are going to get gobbled up by certain types of inflation, financial or social. So when we look at the situation today, our assumption is that inflation is real, it rears its head in a variety of different ways. There is no question that, quite frankly, the costs of products, goods services today are by and large more today than they were yesterday, and we expect that trend will continue. And we need to obviously be responding to what does that mean for our claims costs and other costs and how we affect that in our pricing.

Okay. One of the earlier comments you made that I thought was interesting is that there are a number of like mini-cycles that manifest themselves as sort of a bigger cycle right now. Broadly, we've seen better-expected profitability than in a while. But one area where we've seen Berkley pull back a little bit is on reinsurance. Recently, you commented about a couple of deals that you were withdrawing from because of your concerns about their adequate returns. Can you talk not necessarily about the specific deals, but broadly, what your thoughts are for the reinsurance marketplace. And the context of the question is the resilience of third-party capital, which is predominantly property capacity, but probably leaking into other lines. How does that affect your overall thoughts or for participating in reinsurance?

Well, we think the reinsurance marketplace is an important marketplace, and we are pleased to have the opportunity to participate. We recognize that there are some places where we are clearly able to differentiate based on our knowledge and expertise. And those are relationships, if you will, that we own throughout the cycle. We also understand that there are relationships that are more, if you will, where we rent the relationship, where people are looking to utilize our capital in an opportunistic way. And in those circumstances, we have our eyes wide open. Regardless, we approach the business with a focus towards risk-adjusted return and we look at every deal and how it stands on its own merits. And when we do not feel as though that the opportunity that is in front of us is going to generate an appropriate risk-adjusted return, then we will conclude typically that, that is not a good use of our shareholders' capital, and we'll elect not to participate. Again, as discussed earlier in the discussion today, we are focused on what we can control. We cannot control the market. The reinsurance marketplace, as I suggested earlier, is an important one. It plays an important role for the industry overall, which obviously plays an important role for society. Has it changed clearly? Has the impact of third-party capital coming in without a doubt, change to the landscape, clearly, in certain product lines much more so than others. But from our perspective, it is still an important activity for the industry. It's an important activity for this group. And we applaud our colleagues for operating with a discipline towards risk-adjusted return and deploying shareholders' capital when we think it makes sense. That having been said, we think that there is still a lot of opportunity for the reinsurance market, particularly in select niches within the marketplace over the next few years.

Great. I want to switch topics slightly and talk about the expense ratio. We've had some, I would say, cautiously optimistic expectations and phenomenal execution. I was hoping you could talk about the drivers, maybe how you think about the expense ratio improvement over the medium term? And if you could also describe some of the Berkley-specific technologically driven capabilities that are contributing to your expense ratio improvement?

Sure. So there was a fair amount there, Meyer. So when we think about expense ratio and the improvements, there are really 3 drivers. Driver number one, as we've chatted with some in the past, are the benefits from, quite frankly, COVID on -- we have not been traveling and entertaining and doing a variety of things. And the benefits associated with that, I think are somewhere between 40 and 50 basis points on the expense ratio. That's how it's been running. And quite frankly, over time, we expect -- certainly some of that we'll be giving it back. The other 2 areas of benefit have to do with, as you refer to, efficiency that we have been able to create as an organization through sharing of resources as well as the use of technology. And we think that you will see more of that over time as the plans that we have continue to unfold and we continue to execute against that. And then number three, which is not to be glossed over, the growth that we've had over the recent past -- surpassed many quarters is really adhering to the benefit on multiple levels, including the expense ratio. You can see our growth, you can project what that means for earned premium. As that higher earned premium comes through, we are able to leverage our fixed expenses more and more. Whereas you and I would suspect others are aware, of the 54 operating units in a group, 47 of them, we started from scratch. And there are different points in their maturity or development. Some of them are very early on. And because they had underwriting discipline, they may have not gotten scale and really gotten a certain level of critical mass. As market conditions have improved, over the past several quarters, the opportunity to scale has presented itself. And as a result of that, they are growing and we are able to leverage their fixed expenses. So that's a meaningful contributor as well. Going forward, how do we think about expenses? We pay attention to not just every dollar, but to every penny. We are not going to be shortsighted. We are always willing to invest in the business and we want to make sure that we get good returns of those investments. But we pay attention to the money that is spent and we want to make sure that we are getting good value for it. So long story short, what does that mean? Some of it's going to depend on market conditions. We have been and will remain a disciplined underwriter. And if that means market conditions are such that the market moves away from us due to competition, we will be prepared to shrink the business or allow the business to shrink. And as a result of that, our expense ratio may drift back up a bit. I don't see that happening anytime soon. Where do I think our expense ratio is going to run? I think you should expect the expense ratio to be, give or take, between 30 and 28 for -- in the short term. The longer term, we are going to continue to try and be as efficient as we possibly can without letting the desire of efficiency undermine the value proposition to stakeholders, particularly customers. On the data and analytics front, there are some folks that think when you get on the topic of data and analytics and things of that nature that -- well, that may be a tool for actuaries, from our perspective, the investments that we're making on those fronts, in particular, we think, have broader applicability than just for actuaries and quite frankly, broader than just underwriting. There's applicability in the claims space. There's certainly applicability as well in distribution management and a variety of other things. While we do have 54 separate operating units, one of the things that we are trying to do is think about how we can create both systems as well as data sets that allow us to leverage the scale of the group overall, at the same time, not undermine the local economy and the ability to be nimble and responsive at a more local level in a specialized manner. So again, we continue to look to optimize that balance between the scale of the group as well as making sure that the organization locally remains nimble.

If I can follow-up on that, how do you cultivate that ability to balance what is -- as I understand, it's a decentralized underwriting philosophy. In other words, there's a depreciation for the fact that the local experts are the local experts, there are also some big picture takeaways from data and analytics. How do you ensure that you're getting the right balance of the science and the art in underwriting decision-making.

I think it boils down from my perspective to people and whether you have the right people, both locally as well as at the group level. My observation is that everyone wants to be on a winning team. Everyone likes to win. And to the extent that we can bring value by working in a collaborative way and bring better tools that will lead to better decision-making by the local people, then we think that, that is a win. And by and large, colleagues think that's a win. The desire is not to centralize or take the baton out of colleagues that are running the businesses locally. The desire is to give them better tools, better information to ensure that their decision-making process about a variety of different activities is as sound and well informed as possible.

Part of the benefit of our whole structure is exactly the question you raised, and Rob brought up now. And that is, we have people who challenge the thinking on every level all the time. So it's not a one box, use every answer. It's not here it is. Someone is always asking, have you thought about this? Have you thought about that? So this is constant dialogue and challenge, which really is extremely beneficial to our structure.

And I think we've certainly seen that in the results, and it's an important differentiator. If we can zoom in on one of the business units, it gets a fair amount of attention. I don't know whether it's disproportionate, but it's Berkley One, right? There was a market opportunity in high net worth personal lines because I will say because of consolidation. Can you update us on agency receptivity to the Berkley One product and maybe the status of the business unit now?

Look, the business is doing terrific. And we are every day gaining more and more momentum. It's -- the business is doing great because it's led by a terrific team of people. And along with them, they have a terrific team overall. I think the business is being very well received these days because the value proposition to both agents and insurers is one that they are, quite frankly, starved for. And I think that there are some market participants that had a value proposition that once upon a time existed and it has eroded. And the people that are running Berkley One today understand what that historic value proposition has been to customers, and they are delivering it to them today. And ultimately, it's a void, if you will, Meyer, and we are filling that void because, within the marketplace, people are starved for that value proposition, which really is very customer-centric. The recognition that we are partnering with the distribution to serve the customers and to make sure that the customers understand that we are in business to serve them. And that we are not just capacity, but we have intellectual capital and expertise that we bring to bear that I think others once upon a time did but are -- it's much less the case. So that's allowing us to shine. And I think that's what's really driving the growth. So I'm not going to refer specifically to any one name or other within the marketplace. But I would tell you that the growth rate that we're experiencing, I believe, is due to what I just described.

I think one of the great examples in this case was we have a staff meeting once a week. The staff meeting didn't report on our losses. What they did is the Berkley One's report out was, we've already settled 70% of our claims. That was what was their attitude, not how bad the losses were. But of all those reported losses, we settled 70%. So that tells you what makes them such a terrific group of people.

Right. That makes sense. We always hear how critical service is in that particular product. So it's a very encouraging number. I know you've been, I would say, appropriately shrinking workers' compensation as a relative part of the book because pricing hasn't been anywhere near as robust as in other commercial lines. Can you weigh out your expectations for both how losses and pricing for workers' compensation play out over the medium term?

It's a good question that we grapple with on this end quite a bit. There are a lot of moving pieces there. You're clearly, during the height, if you will, of COVID, workers' compensation, while there was a lot of concern about people falling ill on the job and what that would mean. The fact of the matter is that frequency was down considerably for the broader comp marketplace and there was a benefit for the industry there. From our perspective, it is possible that temporary benign frequency may have glossed over some other challenges around severity. We, as an organization, have been beating the severity drum for some period of time when it comes to a lot of product lines, including workers' compensation, and it's something that we are very focused on and we're concerned that others are not appropriately focused on that severity trend. And we think it's going to potentially come back and bite them because they're busy celebrating the short-term benefit around frequency during COVID. The one big wild card, and I think we may have mentioned this on our last earnings call is, what type of benefit is going to come along with the wage inflation that we are seeing in the broader economy these days. And if all other assumptions when you build out your loss costs are spot on and wage inflation is significantly above what people had anticipated, will that prove to be a benefit for the workers' comp line for the industry? I don't know. We'll have to see how wage inflation matches up with other types or components of the equation for loss costs within the product line. That all having been said, from our perspective, the industry overall is not paying enough attention to severity trend within the workers' comp line.

That's interesting. I would say I know Berkley doesn't write personal auto as a major line of business anymore. We've seen that experience where you had great underwriting results, over the course of COVID. And in the aftermath, we've seen some negative surprises on severity in workers' compensation. Obviously, the catalysts are different, but the time line and the surprises could be the same, only playing out both more fully and therefore, to a greater extent.

Yes. I think one other thing that people should keep in the back of their mind, which certainly could impact frequency as well as severity, is tight labor market. Now you can say, why is there a tight labor market when there's plenty of people that are unemployed and when are we going to start to see the unemployment level or the number of people unemployed and the number of jobs that are vacant start to match up a little bit? And that's a different conversation. But in the meantime, it is a real challenge for employers to get talent. And as they are stretched on that front from a staffing perspective, oftentimes, you get less well trained, less qualified people in roles where as a result of that lack of training, they may be more susceptible to injury. And in addition to that, you get people working a lot of overtime. Nothing wrong with overtime, but if people work too much over time, they may not be rested. And as a result of that, they may also be more susceptible to on-the-job injury. So that's just one other factor that is, in our opinion, worth keeping in the back of one's mind.

Yes, that was very helpful. We got this question from the audience and it's, I think, an important question because people greatly respect Berkley for its investment approach. I am hoping you could give your broad thoughts about the investment market. And we've got currently low interest rates, somewhat elevated equity valuations. What is that -- what opportunities and challenges does that present? And what are your expectations maybe for the next 24 months?

Do you want to lead off with that?

Sure. I think that, first of all, there's a strange balance with lots of movement going on about interest rates, inflation and the flow of excess funds searching for a place to go. And fed policy, which seems to be following a course of be careful, we think interest rates will move higher. We don't think they're going to move a lot higher. And we think stock prices probably are reasonably fully priced. So we're searching for what we call those unusual opportunities, which are hard to come by. But be especially conscious of risk and liquidity. So our portfolio is shorter duration than it's been and it's gotten shorter. So our portfolio duration is about 2.25 years versus a liability duration of more than a year longer than that. And we're constantly looking for something with a little bit of a work where we don't really need instant liquidity and what we need is high quality. So we're giving up a little short-term liquidity to get high quality and a little better yield. And we're trying to find what we think are stable opportunistic investments and other kinds of things that offer opportunities. So whether they're buying containers or railcars or ships, we're looking for things. We own -- we've owned a lot of real estate, some of which we've been selling. So it's a very hard and cautious market for us with an emphasis on risk more than on return at the moment because of so much uncertainty. Rob?

I think, by and large, you covered it. But I think, Meyer, as you suggested, some of the more traditional obvious places where you can put a lot of money is, it's just not really attractive for an insurance company in these days, particularly where the interest rates are. But we've been reasonably successful historically finding niche opportunities to generate good returns and some gains for shareholders, and we continue to do that. So I think the harvesting is more visible than the planting, but it is a constant process on both sides. So again, from our perspective, there will continue to be a flow of gains coming out of niche opportunities that was mentioned a moment ago, but we continue to find new opportunities as well. And we'll -- as suggested, we are very focused on -- from a risk-adjusted return perspective on the investment side just as on the underwriting side.

Okay. Is it fair to -- I know real estate has been a strength for a long time. Should we expect that portfolio to continue to decline on a relative basis? Or are there opportunities there as well?

It will ebb and flow as opportunities present themselves, both to acquire and sell.

Okay. One of the things we've been dealing with, obviously, we've seen nationally, probably internationally, is the delta variant. How is that impacting business flows? I'm primarily focused on new business formation, which has historically been a contributor to excess and surplus line market growth. Is that manifesting the way you would have expected 6 months ago? Anything unusual happening there?

Yes. From my perspective, we're very happy with the flow, particularly in the E&S space. We are seeing lots of opportunity. You saw that in the prior quarter where we grew considerably, I think we were up about 27%. There is a lot of momentum then from -- I don't have a crystal ball, but my sense is that there continues to be reasonable momentum. So when we think about the marketplace, there are a lot of things that are happening. Yes, we have challenges with the delta variant and the 2 steps forward and half a step back. Well, we'll have to see and we will all together continue to work through that. But we are not seeing the delta variant acting as an obstacle, let alone a barrier to opportunity for this business to continue to prosper and that certainly is in the E&S space. And you tend to see the opportunity within the E&S space on the property front. It may spike, but it tends to be shorter-lived. On the liability side, you will see it grow and grow at a healthy pace but it has much more staying power, if you will, than the property market. So we are more -- much more of a liability market than a property market, but we do write some property on the E&S front. But again, at this stage, there is nothing that gives us a reason to pause that there's not going to continue to be opportunity, both in an improving economy overall compared to where we were a year ago. And in addition to that, as you referenced, we're getting the benefit from new businesses, which typically are buying their insurance in the specialty market.

No, that's helpful. I always worry, mostly over the last 1.5 years, that we've got quarterly results and maybe the world has changed so dramatically because of these exogenous issues like COVID that maybe that's not as predictive. So I really appreciate the clarification. I wanted to talk a little bit more about the Berkley strategy. We tend to hear and see a lot about pricing, about underwriting acumen. I was hoping you could talk about how Berkley differentiates itself in some of the other aspects of an insurance enterprise, agency relationship management, claims handling, et cetera. Can you talk about your strength in those particular arenas?

Look, from my perspective, ultimately, the world makes the insurance industry a commodity industry unless you are able to figure out a way to decommoditize your offering in the eyes of both distribution as well as the customer. Ultimately, in order for that to happen, you need to have a value proposition beyond price that you demonstrate value. For us, we look to do that through what I would define as intellectual capital and expertise, which presents itself on the underwriting side, will present itself on the claims side, will present itself in a variety of different functions between those 2 bookends. When the day is all done, we are bringing value to customers because we have knowledge and expertise that we can bring to bear and helping them manage their risk by not just transferring it to us, but also helping them understand their risk better. And we have a variety of different ways. So when the day is all done, I am sure any policyholder with Berkley at any moment in time with any -- within any part of this organization can find a competitor that will write it for less. But ultimately, more often than not, people are doing business with us not because we're cheap, but because of the value proposition that we bring to through knowledge and expertise as well as the predictability and the continuity that we offer both distribution and customers. So in addition to the expertise, there is that predictability piece. Some people like to shop their insurance every 12 months. Most people are looking for a relationship so they can focus on their other activities. Continuity and predictability and, of course, financial strength are other pieces that complement the expertise.

Great. One area that, at least, the industry has struggled with for a number of years now has been commercial auto. And I was hoping you could talk about what your experience has been with commercial auto and the opportunities that the industry challenges have presented for Berkley?

Commercial auto has been, I think, challenging for the industry over the past, call it, decade. I think the industry overall got caught flat-footed, particularly when it came to loss cost trend, much of it is stemming from social inflation. I think frequency ticked up, I think severity went through the roof. Obviously, during COVID, there was a short break on the frequency front. I think the industry didn't pay close enough attention in a timely enough manner. We, as an organization, will probably call a little flat-footed, too. That having been said, I think we began to adjust before others did, which is one of the reasons why you saw that product line a few years ago shrink considerably for us because we draw a line in the sand as far as what we thought we needed as far as rate goes. The rest of the marketplace wasn't there with us and our portfolio shrank. That's okay. We're in the capital management business. We're not going to make a good risk-adjusted return. The capital will not be deployed. What has happened more recently is those that may have not seen the issues as early, that has started to become more and more focused for them, and there has been more discipline that has entered the commercial transportation space. How long that will continue? We will see. Probably depends on whether you're thinking about truck versus bus, exits versus primary. But it is a competitive marketplace. There has been more discipline recently. Hopefully, that will continue.

Okay. I'm getting signal that say that our time is coming to an end. I want to thank you, as usual, for just a phenomenally thoughtful session. Again, thank you for participating in the conference, and look forward to speaking with you and more importantly listening to you soon.

Meyer, thank you for the invitation. We greatly appreciate the opportunity to participate. And again, as people ever have any questions, please feel free to reach out to Karen Horvath. We're happy to talk.

Thank you very much.

Thank you.

Thank you. Bye-bye.