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Amerisafe (NASDAQ:AMSF) Q4 2018 Earnings Conference CallFeb. 28, 2019 10:30 a.m. ET
Contents: Prepared Remarks Questions and Answers Call Participants Prepared Remarks:
Operator
Good day, ladies and gentlemen, and welcome to the Amerisafe 2018 fourth-quarter and full-year conference call. [Operator instructions] And as a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Ms. Kathryn Shirley, general counsel.
Ms. Shirley, you may begin.
Kathryn Shirley -- General Counsel
Good morning. Welcome to the Amerisafe 2018 fourth-quarter and year-end investor call. If you have not received the earnings release, it is available on our website at www.amerisafe.com. This call is being recorded.
A replay of today's call will be available. Details on how to access the replay are in the earnings release. During this call, we will be making forward-looking statements. These statements are based on current expectations and assumptions that are subject to various risks and uncertainties.
Actual results may differ materially from the results expressed or implied in these statements if the underlying assumptions prove to be incorrect or as a result of risks, uncertainties and other factors, including factors discussed in today's earnings release, in the comments made during this call and in the Risk Factors section of our Form 10-K, Form 10-Qs and other reports and filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statement. I will now turn the call over to Janelle Frost, Amerisafe's president and CEO.
Janelle Frost -- President and Chief Executive Officer
Thank you, Kathryn, good morning, everyone. Another year has come to a close in the soft workers' compensation cycle. In 2018, for the industry, approved loss costs continue to decline. Most customers saw overall rate decreases at renewal.
Multiline carriers were drawn to workers' compensation, and industry expectation is that 2018 will be the fourth consecutive year of underwriting profits. For Amerisafe, these factors led to increased focus on retaining possible accounts, adjusting pricing gradually to be competitive while remaining disciplined, further developing our agent relationships, highlighting our valuable Amerisafe services and deploying capital tools such as dividends both regular and special for shareholder returns. The combination of those efforts by our experienced employees resulted in Amerisafe's consistent financial stability and strong returns for our shareholders. We are pleased that the company reported a combined ratio of 82.9% and a return on average equity of 17.2% in the midst of a soft and highly competitive market.
That's a quick overview of the environment for the year, and now I'll be more specific about the fourth quarter. In the fourth quarter, we did see an increase in competition. I believe that it's best reflected in our policy renewal retention rate, which was down slightly from 93.4% in the fourth quarter of 2017 to 92.5% in the fourth quarter of 2018. The slippage in retention primarily came from larger policies, which we classify as greater than $100,000 in premium and in less hazardous classes in the industries in which we operate.
Overall pricing was also down as our ELCM for the quarter was a 163 compared to 165 in the fourth quarter of 2017. Coupled with a decline in new business activity, our premium per policies we wrote in the quarter was down 7.9%. To add perspective, voluntary premium written was down just 1.5% for the full year. Additive to the overall premium total was audit premium and other adjustments.
In the fourth quarter, audit premium and other adjustments increased gross premiums written $2.3 million, up slightly from the fourth quarter of 2017. There was a onetime negative adjustment in the quarter of $2.3 million to account for an extraordinary error in Pennsylvania loss costs. Due to incorrect data submitted to the rating bureau, not by Amerisafe, Pennsylvania disclosed at year end that loss costs were overstated by 10%. The adjustment to premium was made in December as we decided to voluntarily endorse those policies for the corrected rates.
I believe highlighting this onetime adjustment is important to emphasize that audit premium remains strong in the fourth quarter, consistent with previously reported quarters of 2018. In total, gross premiums written for the quarter were down 7.1% and relatively flat with 2017 full year. Now onto losses. Our loss and loss adjustment expense ratio for the quarter was 58.6%, down from 66.7% in the fourth quarter of 2017.
In separating that ratio into current accident year and all prior accident years, I believe Amerisafe's disciplined approach to risk selection, safety and managing claims become even more evident. Our current accident year loss ratio was 71.5% and remained unchanged from the previous 2018 quarters and up 1 percentage point from the full year of 2017. The increase of 1 point reflects the fact that we collected less premium for increasing exposures, that is frequency, and moderate increases in severity over a multiyear trend. As we experienced claims throughout the year, there were no trends that caused us to vary from our assumptions that we made at the beginning of the year.
As for prior accident years, we had $11.5 million or a 12.9 loss ratio percentage points of favorable development as we were able to close and make cost-saving progress on older claims. The major contributors to the favorable case development were accident years 2016, 2015, 2011 and 2009. In this extended period of declining loss costs in the industry, I believe Amerisafe's intensive claims management is an important distinction in our success. Neal will now discuss the financial results.
Neal?
Neal Fuller -- Chief Financial Officer
Thank you, Janelle. For the fourth quarter of 2018, Amerisafe reported net income of $18.8 million or $0.98 per diluted share compared with $649,000 or $0.03 per diluted share in last year's fourth quarter. Last year, you will recall that net income was impacted by tax reform due to a revaluation of our net deferred tax assets at the new lower corporate rate of 21%. This created a noncash charge of $12.6 million last year, which lowered net income by $0.66 per share.
Operating net income, which excludes unrealized and realized gains and losses on our investment portfolio, was $20.7 million for the quarter or $1.07 per share, an increase from $0.69 in the fourth quarter of last year. For the full year 2018, Amerisafe produced net income of $71.6 million or $3.71 per share. Operating net income for the full year 2018 was $74.5 million or $3.86 per share. This level of operating income is our second best year ever, only slightly behind the record operating earnings we achieved in 2016.
Revenues in the quarter were down 0.3% to $94.7 million compared with the fourth quarter of 2017. Net premiums earned increased 1.7% to $88.8 million when compared to last year's fourth quarter. For the full year, net premiums earned were up 1.2%, totaling some $350.3 million. Turning to net investment income, we saw an increase of 10.2% in the fourth quarter to $8.1 million compared with $7.3 million in the fourth quarter of 2017.
The increase was due to higher yields on investments compared with last year. Net investment income for the full year was up 4% to $30.5 million compared with $29.3 million in 2017. The tax equivalent yield on our investment portfolio was 3.15% at year end. The pre-tax yield on the portfolio at year end was 2.81%, up 27 basis points from 2.54% 1 year ago.
There were no impairments on any of the securities held in the portfolio during the quarter or for the full-year 2018, and there were no significant realized gains or losses during the quarter. The investment portfolio is high quality, carrying an average AA rating with current duration of 4.16, and the portfolio is composed of 58% in municipal bonds, 24% in corporate bonds, 11% in U.S. treasuries and agencies and the remainder in cash and other investments. Approximately 56% of our bond portfolio is comprised of held-to-maturity securities, which were in an overall unrealized gain position of $2.9 million at year end.
These gains are not reflected in our year-end book value as these bonds are carried at amortized costs. We have a small investment in equities, about 1.6% of our investment portfolio. During the volatile fourth quarter in the stock market, these securities declined by $2.3 million in value. And with these changes in value now running through the income statement, this impacted net income by about $0.10 per share.
Moving now to operating expenses, our total underwriting and other expenses were $19 million in the quarter compared with $18.1 million in the fourth quarter of 2017. The increase was primarily due to higher premium-based insurance assessments compared to the same quarter last year. By category, the 2018 fourth quarter expenses included $7.2 million of salaries and benefits, $6.6 million of commissions and $5.1 million of underwriting and other costs. Our expense ratio for the quarter was 21.4% compared with 20.7% for the fourth quarter of 2017.
For the full-year 2018, operating expenses increased $2.4 million or 3%, primarily due to an increase in commissions compared to 2017. Our expense ratio for the full year was slightly higher at 23.2% compared with 22.8% in 2017. Our tax rate for the fourth quarter was 17.4% and 18.2% for the full year, much lower than in 2017 due to the benefit of the new lower federal corporate tax rate of 21%. Return on equity for the fourth quarter of 2018 was 17.3% compared to 0.6% for the fourth quarter of 2017, which was impacted by tax reform.
For the full year, ROE was 17.2% compared with 10.5% last year. Operating ROE for the quarter was a very strong 19%. Operating ROE for the full year was 17.9% compared with 13.3% in 2017. And now to capital management.
During the fourth quarter, the company paid its regular quarterly cash dividend of $0.22 per share, as well as an extraordinary dividend of $3.50 per share. This quarter, the board has declared a quarterly cash dividend of $0.25 per share, payable on March 22, 2019 to shareholders of record as of March 8, 2019. This represents a 14% increase in the regular quarterly dividend. And finally, just a couple of other noteworthy items.
Book value per share at December 31, 2018 was $21.26, down slightly compared with last year's $22.10 per share. And we paid out $4.38 per share in dividends to shareholders during the year. Our statutory surplus in the insurance subsidiaries was $384 million at December 31, 2018 compared with $382 million at the end of 2017 after paying a $65 million dividend up to the parent company. And finally, we will be filing our Form 10-K with the SEC today after the market close.
That concludes my remarks, and now we would like to open up the call for the question-and-answer session. Operator?
Questions and Answers:
Operator
[Operator instructions] Our first question comes from Randy Binner from B. Riley FBR.
Ryan Aceto -- B. Riley FBR, Inc. -- Analyst
This is actually Ryan Aceto on for Randy. I wanted to touch on the voluntary business, down about $6 million year over year in 4Q '18. I don't know if its due to competition or any specific business line you're seeing decreasing.
Janelle Frost -- President and Chief Executive Officer
So the decrease that we saw in the fourth quarter is what we perceived to be increased competition simply because we saw it. We saw some slippage in our renewal retention in terms of policy count, and at least in the first half of 2018, we were seeing record renewal retention. So there was definitely slippage there in the fourth quarter, which we attribute to increased competition. We don't see -- I haven't seen any new entrants in the space.
It's the same, as we've been talking about the last few quarters, multiline carriers that are picking up workers' comp premium due to poor results in other lines. And keep in mind, part of the reason the premium is lower is because loss costs have declined. So we still are getting double-digit rate decreases so the underlying rates they were allowed to charge is lower as well. So our specific industries -- I don't want to give away any competitive information.
But when we think about workers' comp, there's hazard group, hazard classes A to G. And where we've seen slippage or I should say, what we tend to write is more the E to Gs, F to Gs. And where we saw the slippage was in the D and E classes of business without getting into specific industries or states.
Ryan Aceto -- B. Riley FBR, Inc. -- Analyst
I appreciate that color, and then one more on the accident year 2017. Just wondering could you give initial thoughts as -- or continuing to see 2015 and 2016 come through favorably?
Janelle Frost -- President and Chief Executive Officer
Yes. At the end of calendar year '17, I think we have reported out that we had, I'm looking at Neal, 18 large claims, if that was the right number, at the end of '17 -- for accident year '17. And if you recall, at the end of first -- in the third quarter, we said we had 18 for accident year 2018, and we ended the year with 18 in accident year 2018. So that kind of gives you a comparison from '18 to '17 in terms of the severity of the larger claims.
But for '17 itself, I think at the end of the year, as you recall, we increased our loss pick for that accident year because we saw an uptick in severity that concerned us. Enough that we thought, is this an outlier? Is this a trend? And so I feel more comfortable about '17 now than I did at the end of '17.
Operator
Our next question comes from Mark Hughes from SunTrust.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
I may have some background music. I apologize for that. The $2.3 million premium audit, is that net of $2.3 million? So otherwise, it would've been $4.6 million for auto premium?
Janelle Frost -- President and Chief Executive Officer
Right. So the $2.3 million from the Pennsylvania loss cost error came out of the auto premium. So you're right. You would have to gross that back up to get to what have been a normalized reporting number that we normally would report on.
And of course, that includes endorsements, cancellations, those sort of things. We're still seeing strong audit premium, just stand-alone audit premium even in the fourth quarter. But obviously, we wanted to highlight the adjustment because it was a onetime adjustment, and it was for rates dating back to April 1st. So it was impactful to us.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
In light of your commentary about '18, you were making sure that any uptick in severity or frequency, you had that covered in the loss pick for '18. So when we think about '19, prices still coming down a bit. It came down a bit, but loss costs -- underlying loss costs are down. Any early thoughts on 2019? Maybe another point higher in 2019 or...
Janelle Frost -- President and Chief Executive Officer
Mark, I agree with your comment. We saw loss costs continue to decline in '18. I don't see anything stopping that from happening in '19. So as we look forward, those are very similar thoughts to what we thought coming into '18 as far as I don't see any improvement coming from the loss cost side of things the rates were able to charge.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
Is that, let's say, more steady? Or maybe being a little conservative and going up is the better approach?
Janelle Frost -- President and Chief Executive Officer
I would say this, I think my position looking -- at the end of '17 looking into '18 is very similar at the end of '18 looking into '19.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
Very good. The new business activity, I think you said it was down. Is that just part and parcel of the stepped-up competition? Or were there any new initiatives that somebody else did? Or you were in a low in that new business? Any additional insight there?
Janelle Frost -- President and Chief Executive Officer
No. It's the same battle. We can appreciate that agents were in the same position as Amerisafe is, and that there's just not a lot of books of business moving around out there. People are happy with their renewals, and they get a price.
They may switch based on the price. But new business -- again, we're talking about new business to us, which is typically someone else's renewal business. It's just really hard to come by. So we've really taken a concerted effort of just developing relationships with our agents, trying to make sure that they're successful, and their success is based on where we've been successful, where we've been able to put quotes our there that as a price that the customer and both the agent agree with, and more importantly, that we can sail the value proposition of Amerisafe services.
Because as I said in my prepared remarks, that's where the key is for us in terms of the way we handle our claims, how important safety is to our policyholders and our agents and getting that message out there and selling that as part of the quote. But that's the challenge we face with new business. Our renewal customer has experienced those things. So it's selling that to new customers.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
Right. On the reserve. I think you've been pretty clear that it's in case development that has really driven the gain. Presumably, there's a lot of IBNR out there as well if the -- you continue to see improvement on the case.
When does the IBNR kind of kick in, in terms of your ability to get comfortable? But that may be redundant as well.
Janelle Frost -- President and Chief Executive Officer
Yes. Go ahead, Neal.
Neal Fuller -- Chief Financial Officer
Yes. Mark, this is Neal Fuller. I think you know our sort of pattern that we do with reserves and looking, we'll let you make your own judgment about our reserve. So we just recently filed our statutory statements with the NAIC, so you can look at the triangles and see.
But as those accident years age, typically, Amerisafe get more and more comfortable. Each quarter or each year, they get a little bit older, and so we're more likely to take down IBNR as those accident years age. Similar to our pattern in the past.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
Right, and I'm right in thinking that most of what you've been booking in terms of gains the last year led to that and its largely case development. Is that right?
Neal Fuller -- Chief Financial Officer
I think particularly in 2018, we commented, I think, on several of our quarterly calls that primarily what was driving the reduction in the estimate for reserve was case reserve development, driven really significantly by favorable case reserve development.
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
And I'll ask one more. The ceded premium ratio, that's fractionally higher this quarter. Anything to that?
Neal Fuller -- Chief Financial Officer
No. I think if you look at the full year, that's a good guide for future. There's no significant changes in our reinsurance program.
Operator
[Operator instructions] Our next question comes from Christopher Campbell from KBW.
Christopher Campbell -- KBW -- Analyst
Great. So I just kind of have some high level -- I just have a few high-level questions. I guess, just as rates are -- as you're getting the rate declines via the state bureaus, I guess what defenses do you guys have against these rate declines? And what levers are you pulling behind the scenes so that it's not as big of an impact on your book?
Janelle Frost -- President and Chief Executive Officer
Yes. I'll say this about the experience of our underwriting department and the way we go about our risk selection. I think our underwriting, coupled with the way we do our safety, surveys and go out and see these accounts before we've actually put the price on, I think we really do a really quality job at risk selection. And given our history and our consistent history, more importantly, I think we know going in when we're putting those quotes out what price we need for these accounts.
And it's individually underwritten. So it's not, "Oh well, we know loss costs in the state are down 10%. So let me figure out how that's going to factor into this policy." It's more of what -- individually underwriting this account, what is the price that we need to get for this account. And of course, we all report that in the aggregate out to the public in our ELCM.
But the defense is making sure that we're just not following the leader. The defense is not letting our competition set our price. That's what kept the long-term profitability of Amerisafe. It's in that risk selection criteria that we have, and the fact that we're just not willing to compromise that.
We want to work with our customers. We want to work with our agents. We want to do the right thing. But at the end of the day, they're all better off if we're financially stable as well.
And just chasing that dollar all the way down is not the right answer, and our long-term history has proven that.
Christopher Campbell -- KBW -- Analyst
OK. Great. And then just digging a little bit more just on your pricing, new business, ELCMs. All of those things.
I guess just like in terms of like the new business, I guess you're "not winning." I guess, why are you losing that? Is it price? Or is there other features that these -- the multiline carriers, are they broadening their product offerings to kind of offer more of what Amerisafe does? I guess just tell us that whole competitive milieu development.
Janelle Frost -- President and Chief Executive Officer
I would definitely think or I believe the multiline carriers probably had the most impact there simply because they can put that together as a package, and that's attractive to the end customer. If they haven't had an experience with the mono-line, that they can draw that in because they're packing the policy as a whole, and so they're not really looking at just what is the workers' comp pricing. So I'm assuming part of that is probably pricing, but that's a little hard for me to compare because it's really not an apples to apples. We're now competing against the multiline because they're going to give and take on various lines to get the overall price that they want.
But yes, I believe it's more so the multiline carrier.
Operator
I'm not showing any further questions at this time. I would now like to turn the call back over to Ms. Janelle Frost, CEO, for any further remarks.
Janelle Frost -- President and Chief Executive Officer
Thank you. Earlier in the call, I highlighted claims management as a distinction for Amerisafe, and so I'd like to conclude by focusing on distinctions. First, as previously mentioned, we intensely manage claims to achieve maximum medical improvement and return to work for injured workers while managing costs for employers and, ultimately, all stakeholders; secondly, we are experienced, disciplined underwriters with a high-hazard small to midsized employer focus; third, we emphasize safety to our policyholders, making safety an integral part of our risk selection process; fourth, we're frugal with operating expenses; and lastly, service is embedded in our culture, whether it's service to a policyholder, an agent, a claimant, a fellow employee or the communities in which we live and operate. These are just a few of the distinctions that have made and will continue to make Amerisafe a success.
We are built on a foundation that withstands the ups and downs of the instrument cycle over the long term. And finally, yesterday, Amerisafe announced the retirement of one of our long-serving board members, Danny Phillips, who will leave the board at the end of his term in June. Danny has served our company and our shareholders very well over 11 years. On behalf of the board and the Amerisafe employees, we thank him for his service, and wish him continued success.
Thank you for joining us today.
Operator
[Operator signoff]
Duration: 29 minutes
Call Participants:
Kathryn Shirley -- General Counsel
Janelle Frost -- President and Chief Executive Officer
Neal Fuller -- Chief Financial Officer
Ryan Aceto -- B. Riley FBR, Inc. -- Analyst
Mark Hughes -- SunTrust Robinson Humphrey -- Analyst
Christopher Campbell -- KBW -- Analyst
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