You should read the following discussion and analysis in conjunction with our consolidated financial statements and the related notes thereto included in Item 1 of Part I. Unless otherwise indicated, all references to "we," "us," "our," "the Company," or similar terms refer to EHI, together with its subsidiaries. In this Quarterly Report on Form 10-Q, the Company and its management discuss and make statements based on currently available information regarding their intentions, beliefs, current expectations, and projections of, among other things, the Company's future performance, including the effects of the COVID-19 pandemic, business growth, retention rates, loss costs, claim trends and the impact of key business initiatives, future technologies and planned investments. Certain of these statements may constitute "forward-looking" statements as that term is defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts and are often identified by words such as "may," "will," "could," "would," "should," "expect," "plan," "anticipate," "target," "project," "intend," "believe," "estimate," "predict," "potential," "pro forma," "seek," "likely," or "continue," or other comparable terminology and their negatives. The Company and its management caution investors that such forward-looking statements are not guarantees of future performance. Risks and uncertainties are inherent in the Company's future performance. Factors that could cause the Company's actual results to differ materially from those indicated by such forward-looking statements include, among other things, those discussed or identified from time to time in the Company's public filings with theSEC , including the risks detailed in the Company's Annual Reports on Form 10-K and in Part II, Item 1A of this report. Except as required by applicable securities laws, the Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Overview We are aNevada holding company. Through our insurance subsidiaries, we provide workers' compensation insurance coverage to select, small businesses in low to medium hazard industries. Workers' compensation insurance is provided under a statutory system wherein most employers are required to provide coverage for their employees' medical, disability, vocational rehabilitation, and/or death benefit costs for work-related injuries or illnesses. We provide workers' compensation insurance throughoutthe United States , with a concentration inCalifornia , where 45% of our in-force premiums are generated. Our revenues are primarily comprised of net premiums earned, net investment income, and net realized and unrealized gains on investments. We target small businesses, as we believe that this market is traditionally characterized by fewer competitors, more attractive pricing, and stronger persistency when compared to theU.S. workers' compensation insurance industry in general. We believe we are able to price our policies at levels that are competitive and profitable over the long-term given our expertise in underwriting and claims handling in this market segment. Our underwriting approach is to consistently underwrite small business accounts at appropriate and competitive prices without sacrificing long-term profitability and stability for short-term top-line revenue growth. Our strategy is to pursue profitable growth opportunities across market cycles and maximize total investment returns within the constraints of prudent portfolio management. We pursue profitable growth opportunities by focusing on disciplined underwriting and claims management, utilizing medical provider networks designed to produce superior medical and indemnity outcomes, establishing and maintaining strong, long-term relationships with independent insurance agencies, and developing important alternative distribution channels. We believe that developing and implementing new technologies and capabilities will fundamentally transform and enhance the digital experience of our customers, including: (i) continued investments in new technology, data analytics, and process improvement capabilities focused on improving the agent experience and enhancing agent efficiency; and (ii) the further development of digital insurance solutions, including direct-to-customer workers' 24 -------------------------------------------------------------------------------- compensation coverage. We also continue to execute a number of ongoing business initiatives, including: achieving internal and customer-facing business process excellence; diversifying our risk exposure across geographic markets; and utilizing a multi-company pricing platform and territory-specific pricing.
The insurance industry is highly competitive, and there is significant
competition in the national workers’ compensation industry that is based on
price and quality of services. We compete with other specialty workers’
compensation carriers, state agencies, multi-line insurance companies,
professional employer organizations, self-insurance funds, and state insurance
pools
Coronavirus Disease (COVID-19) Update
The COVID-19 pandemic recently reached the two-year mark and challenges experienced during the recovery have continued to cause disruptions in business activity due to supply chain interruptions, challenges with the labor market, inflationary pressures, and overall general economic instability. All states, includingCalifornia , where we generated 45% of our in-force premiums as ofMarch 31, 2022 , have experienced adverse economic impacts from the lingering uncertainties of the COVID-19 pandemic. Certain classes of business that we insure, especially those related to the restaurant and hospitality industries, continue to be affected by these challenges. Nonetheless, we closed another quarter with a record number of policies in-force, which demonstrates that our policyholders have endured the pandemic and small businesses are actively shopping for workers' compensation coverage. Our year-over-year new and renewal business premiums have increased, in addition to audit premium increases, which are signs of overall Company growth. As labor market shortages improve, we expect that rising payrolls will continue to bring further improvement to our top line. Our strong balance sheet and operational flexibility have allowed us to successfully navigate through the ongoing impacts of the COVID-19 pandemic, and we have continued to pursue and advance the significant investments that we have made in delivering a superior customer experience for our independent and digital agents. We continually review and adjust to changes in our policyholders' payrolls, economic conditions, and seasonality, as experience develops or new information becomes known. Any such adjustments are included in our current operations and are made periodically through mid-term endorsements and/or premium audits. We increased our final audit premium accruals by a further$1.0 million during the three months endedMarch 31, 2022 , as our payroll exposure improved with the labor market strengthening. We continue to experience overall declines in the frequency of compensable indemnity claims versus those generally experienced before the COVID-19 pandemic. However, despite the emergence of vaccinations and businesses operating at more normalized rates, the continued impact of the COVID-19 pandemic, including any increases in infection rates, new variants and renewed governmental actions to combat the COVID-19 pandemic, cannot be estimated at this time. 25 --------------------------------------------------------------------------------
Results of Operations
Our results of operations are as follows:
Three Months Ended
March 31,
2022 2021
(in millions)
Gross premiums written $ 172.4 $ 148.3
Net premiums written $ 170.4 $ 146.9
Net premiums earned $ 150.2 $ 133.9
Net investment income 19.1 18.4
Net realized and unrealized (losses) gains on investments (17.3) 10.9
Other income - 0.4
Total revenues 152.0 163.6
Losses and LAE 94.2 69.6
Commission expense 20.9 16.8
Underwriting and general and administrative expenses 39.3 46.6
Interest and financing expenses 0.1 0.1
Other expenses - 2.9
Total expenses 154.5 136.0
Income tax (benefit) expense (0.2) 4.5
Net (loss) income $ (2.3) $ 23.1
Overview
Our net loss was $2.3 million for the three months ended March 31, 2022 ,
compared to net income of $23.1 million for the corresponding period of 2021.
The key factors that affected our financial performance during the three months
ended March 31, 2022 , compared to the same period of 2021 included:
•Net premiums earned increased 12.2%;
•Losses and LAE increased 35.3%;
•Underwriting and general and administrative expenses decreased 15.7%;
•Net investment income increased 3.8%; and
•Net realized and unrealized (losses) gains on investments were $(17.3) million
compared to $10.9 million .
Summary of Consolidated Financial Results
Gross Premiums Written
Gross premiums written were
2022
Year-over-year change was primarily related to our Employers segment. See
“-Summary of Financial Results by Segment-Employers”.
Net Premiums Written
Net premiums written are gross premiums written less reinsurance premiums ceded.
Net Premiums Earned
Net premiums earned are primarily a function of the amount and timing of net
premiums previously written.
Net Investment Income and Net Realized and Unrealized Gains and Losses on
Investments
We invest in fixed maturity securities, equity securities, other invested assets, short-term investments, and cash equivalents. Net investment income includes interest and dividends earned on our invested assets and amortization of premiums and discounts on our fixed maturity securities, less bank service charges and custodial and portfolio management fees. We have established a high quality/short duration bias in our investment portfolio. Net investment income increased 3.8% for the three months endedMarch 31, 2022 , compared to the same period of 2021. The increase was primarily due to higher bond yields. 26 -------------------------------------------------------------------------------- Realized and unrealized gains and losses on our investments are reported separately from our net investment income. Realized gains and losses on investments include the gain or loss on a security at the time of sale compared to its original or adjusted cost (equity securities) or amortized cost (fixed maturity securities). Realized losses are also recognized for changes in our current expected credit loss (CECL) allowance or when securities are written down as a result of an other-than-temporary impairment. Changes in fair value of equity securities and other invested assets are also included in Net realized and unrealized gains (losses) on investments on our Consolidated Statements of Comprehensive (Loss) Income. Net realized and unrealized (losses) gains on investments were$(17.3) million for three months endedMarch 31, 2022 , compared to$10.9 million for the corresponding period of 2021. The net realized and unrealized gains on investments for the three months endedMarch 31, 2022 and 2021 included$(17.0) million and$10.1 million of net realized and unrealized (losses) gains on equity securities and other investments, respectively, and$(0.3) million and$0.8 million of net realized (losses) gains on fixed maturity securities, respectively. The net unrealized investment losses we experienced on our equity and fixed maturity securities during the three months endedMarch 31, 2022 were primarily the result of significant volatility in financial markets resulting from increasing inflationary concerns, rising market interest rates and recent world events. The net investment losses on our fixed maturity securities for the three months endedMarch 31, 2022 included a$2.0 million increase in our allowance for CECL. The net unrealized investment gains on our equity securities during the three months endedMarch 31, 2021 were largely consistent with the performance ofU.S. equity markets. The net unrealized losses on our fixed maturity securities during the three months endedMarch 31, 2021 were largely the result of increases in market interest rates during the period. The net investment losses on our fixed maturity securities for the three months endedMarch 31, 2021 included a$0.5 million decrease to our allowance for CECL.
Additional information regarding our Investments is set forth under “-Liquidity
and Capital Resources-Investments.”
Other Income
Other income consists of net gains and losses on fixed assets, non-investment interest, installment fee revenue, and other miscellaneous income. Beginning in 2022, installment fee revenue was allocated to net investment income.
Losses and LAE
Losses and LAE represents our largest expense item and includes claim payments made, amortization of the Deferred Gain, LPT Reserve Adjustments, LPT Contingent Commission Adjustments, estimates for future claim payments and changes in those estimates for current and prior periods, and costs associated with investigating, defending, and adjusting claims. The quality of our financial reporting depends in large part on accurately predicting our losses and LAE, which are inherently uncertain as they are estimates of the ultimate cost of individual claims based on actuarial estimation techniques. Our current accident year loss estimate considered overall declines in the frequency of compensable indemnity claims versus those generally experienced before the COVID-19 pandemic while recognizing the impacts of the COVID-19 pandemic, including the potential for further expansions or permanent extensions of presumed compensability for COVID-19 in certain jurisdictions. Total claims costs have also been reduced by cost savings associated with increased claims settlement activity that has continued into the first quarter of 2022. We believe that our current accident year loss estimate is adequate; however, ultimate losses will not be known with any certainty for many years. See "-Summary of Financial Results by Segment -Employers".
Commission Expenses
Commission expenses include direct commissions to our agents and brokers,
Including our partnerships and alliances, for the premiums that they produce for
us, as well as incentive payments, other marketing costs, and fees. See
“-Summary of Financial Results by Segment-Employers”.
Underwriting and General and Administrative Expenses
Underwriting expenses represent those costs that we incur to underwrite and maintain the insurance policies we issue, excluding commissions. Direct underwriting expenses, such as premium taxes, policyholder dividends, and those expenses that vary directly with the production of new or renewal business, are recognized as the associated premiums are earned. Indirect underwriting expenses, such as the operating expenses of each of the Company's subsidiaries, do not vary directly with the production of new or renewal business and are recognized as incurred.
General and administrative expenses of the holding company are excluded in
determining the underwriting expense ratios of our reportable segments.
27 --------------------------------------------------------------------------------
Interest and Financing Expenses
Interest and financing expenses include credit facility fees and interest,
Letter of credit fees, finance lease interest, and other financing fees.
Other Expenses
During the three months ended
million
reduction-in-force. This action was taken to better align our expenses with our
revenues.
Income Tax (Benefit) Expense Income tax (benefit) expense was$(0.2) million for the three months endedMarch 31, 2022 , compared to$4.5 million for the corresponding period of 2021. The effective tax rates were 8.0% for the three months endedMarch 31, 2022 , compared to 16.3% for the corresponding period of 2021. The effective rates during each of the periods presented included income tax benefits and exclusions associated with tax-advantaged investment income, LPT adjustments, and deferred gain amortization.
Summary of Financial Results by Segment
EMPLOYERS
The components of Employers' net income before income taxes are set forth in the
following table:
Three Months Ended
March 31,
2022 2021
(dollars in millions)
Gross premiums written $ 171.2 $ 148.0
Net premiums written $ 169.2 $ 146.6
Net premiums earned $ 149.6 $ 133.9
Net investment income 17.6 17.6
Net realized and unrealized (losses) gains on investments (15.6) 10.8
Other income - 0.4
Total revenues 151.6 162.7
Losses and LAE 95.9 71.7
Commission expense 20.9 16.8
Underwriting expenses 32.8 37.3
Other expenses - 2.9
Total expenses 149.6 128.7
Net income before income taxes $ 2.0 $ 34.0
Underwriting income $ - $ 8.1
Combined ratio 100.0 % 93.9 %
Underwriting Results
Gross Premiums Written
Gross premiums written were $171.2 million for the three months ended March 31,
2022 , compared to $148.0 million for the corresponding period of 2021. The
year-over-year increase was primarily driven by increases in new business
premiums and final audit premiums, partially offset by declines in average
policy size. We also increased our final audit premium accruals by a further
$1.0 million during the three months ended March 31, 2022 , as our payroll
exposure improved with the labor market strengthening. We have experienced
year-over-year increases in new business submissions, quotes and binds in the
majority of the states in which we operate. In addition, our retention rate has
remained strong throughout the first quarter of 2022.
Net premiums written were
2022
Reinsurance premiums ceded were
28 --------------------------------------------------------------------------------
Net Premiums Earned
Net premiums earned were
2022
The following table shows the percentage change in Employers' in-force premiums, policy count, average policy size, and payroll exposure upon which our premiums are based, overall, forCalifornia , where 45% of our premiums were generated, and for all other states, excludingCalifornia : As of March 31, 2022 Year-to-Date Change Year-Over-Year Change All Other All Other Overall California States Overall California States In-force premiums 1.1 % 0.5 % 1.6 % 4.3 % 3.4 % 5.0 % In-force policy count 2.5 1.6 3.0 8.3 5.5 10.0 Average in-force policy size (1.3) (1.0) (1.4) (3.7) (2.0) (4.5) In-force payroll exposure 3.0 2.4 3.4 12.6 13.7 12.1 In-force premiums represent the estimated annual premium on all policies that are active and in-force on such date. More specifically, in-force premiums include policy endorsements but exclude estimated final audit premiums. We focus on in-force premium because it represents premium that is available for renewal in the future. The following table shows Employers' in-force premiums and number of policies in-force for each of our largest states and all other states combined for the periods presented: March 31, 2022 December 31, 2021 March 31, 2021 December 31, 2020 In-force Policies In-force Policies In-force Policies In-force Policies State Premiums In-force Premiums In-force Premiums In-force Premiums In-force (dollars in millions) California$ 259.8 41,349$ 258.4 40,704$ 251.2 39,199$ 262.0 39,610 Florida 40.9 8,159 41.1 7,989 38.5 7,255 37.9 6,898 New York 24.7 7,215 24.5 7,307 25.5 6,681 26.7 6,657 Other (43 states and D.C.) 251.0 56,199 245.9 54,164 237.5 51,155 251.1 50,124 Total in-force$ 576.4 112,922$ 569.9 110,164$ 552.7 104,290$ 577.7 103,289
Final audit premium 15.6 - 13.1 - 6.5 - (5.8) - Total in-force, including final audit premium$ 592.0 112,922$ 583.0 110,164$ 559.2 104,290$ 571.9 103,289 We continue to actively seek new partnerships and alliances to foster organic growth within our target classes of business. Alternative distribution channels generated$163.9 million and$147.6 million , or 28.4% and 26.7%, of our in-force premiums as ofMarch 31, 2022 and 2021, respectively. We believe that offering payroll-related products and services through these relationships contributes to higher retention rates than business generated by our independent agents. These relationships also allow us to access new customers that we may not have access to through our independent agent distribution channel. We continue to actively seek new partnerships and alliances.
Losses and LAE, Commission Expenses, and Underwriting Expenses
The following table presents calendar year combined ratios for our Employers
segment.
Three Months Ended
March 31,
2022 2021
Loss and LAE ratio 64.1 % 53.5 %
Commission expense ratio 14.0 12.5
Underwriting expense ratio 21.9 27.9
Combined Ratio 100.0 % 93.9 %
Loss and LAE Ratio. We analyze our loss and LAE ratios on both a calendar year
and accident year basis.
The calendar year loss and LAE ratio is calculated by dividing the losses and
LAE recorded during the calendar year, regardless of when the underlying insured
event occurred, by the net premiums earned during that calendar year. The
calendar year loss and LAE ratio includes changes made during the calendar year
in reserves for losses and LAE established for insured events
29
--------------------------------------------------------------------------------
occurring in the current and prior years. The calendar year loss and LAE ratio
for a particular year will not change in future periods.
The accident year loss and LAE ratio is calculated by dividing cumulative losses and LAE for reported events that occurred during a particular year by the net premiums earned for that year. The accident year loss and LAE ratio for a particular year can decrease or increase when recalculated in subsequent periods as the reserves established for insured events occurring during that year develop favorably or unfavorably. The accident year loss and LAE ratio is based on our statutory financial statements and is not derived from our GAAP financial information. We analyze our calendar year loss and LAE ratio to measure our profitability in a particular year and to evaluate the adequacy of our premium rates charged in a particular year to cover expected losses and LAE from all periods, including development (whether favorable or unfavorable) of reserves established in prior periods. In contrast, we analyze our accident year loss and LAE ratios to evaluate our underwriting performance and the adequacy of the premium rates we charged in a particular year in relation to ultimate losses and LAE from insured events occurring during that year. The loss and LAE ratios provided in this report are on a calendar year basis, except where they are expressly identified as accident year loss and LAE ratios.
The table below reflects prior accident year loss and LAE reserve adjustments
and the impact to loss ratio.
Three Months Ended
March 31,
2022 2021
(dollars in millions)
Losses and LAE $ 95.9 $ 71.7
Prior accident year favorable development, net - 13.9
Current accident year losses and LAE $ 95.9 $ 85.6
Current accident year loss and LAE ratio 64.1 % 63.9 %
The increase in our total losses and LAE during the three months ended March 31,
2022 , as compared to the same period of 2021, was primarily due to higher earned
premium and this amount was not impacted by any prior year loss reserve
development. Favorable prior year accident loss reserve development totaled
$13.9 million during the three months ended March 31, 2021 , which included $0.5
million of unfavorable development on our assigned risk business.
The favorable prior accident year loss development recognized during the three
months ended March 31, 2021 was primarily the result of observed favorable paid
loss cost trends across related primarily to accident years 2017 and prior.
Our current accident year loss and LAE ratio was 64.1% for the three months
ended March 31, 2022 , compared to 63.9% for the corresponding period of 2021.
The increase in our current accident year ratio during the three months ended
March 31, 2022 was primarily due to a slight decrease in our rate on voluntary
business. However, our current accident year loss and LAE ratio continues to
reflect the impact of our key business initiatives: an emphasis on the
accelerated settlement of open claims; diversifying our risk exposure across
geographic markets; and leveraging data-driven strategies to target, underwrite,
and price profitable classes of business across all of our markets.
Commission Expense Ratio. The commission expense ratio was 14.0% for the three
months ended March 31, 2022 , compared to 12.5% for the corresponding period of
2021. Our commission expenses were $20.9 million for the three months ended
March 31, 2022 , compared to $16.8 million for the corresponding period of 2021.
Our commission expense ratio increased 1.5 percentage points, or 12.0%, for the
three months ended March 31, 2022 , compared to the same period of 2021,
resulting from: (i) a higher concentration of partnership and alliance business,
which is subject to a higher commission rate, higher agency incentives and
increased commission expense on new business writings; and (ii) a reversal of
commissions relating to non-compliant and uncollectible premium recorded in the
first quarter of 2021.
Underwriting Expenses Ratio. The underwriting expense ratio was 21.9% for the
three months ended March 31, 2022 , compared to 27.9% for the corresponding
period of 2021. Our underwriting expenses were $32.8 million for the three
months ended March 31, 2022 , compared to $37.3 million for the corresponding
period of 2021.
During the three months ended March 31, 2022 , our compensation-related expenses
decreased $3.1 million and our professional fees decreased $0.5 million , each
compared to the same period of 2021. These decreases in our fixed underwriting
expenses resulted from continued targeted expense reductions and employee
reductions and departures that occurred in 2021.
Underwriting Income
Underwriting income for our Employers segment was zero for the three months endedMarch 31, 2022 , compared to$8.1 million for the corresponding period of 2021. Underwriting income or loss is determined by deducting losses and LAE, commission expense, and underwriting expenses from net premiums earned. 30 --------------------------------------------------------------------------------
Non-Underwriting Income and Expenses
For a further discussion of non-underwriting related income and expenses, including Net Investment Income and Net Realized and Unrealized Gains and Losses on Investments, Other Income, Interest and Financing Expenses and Other Expenses see "-Results of Operations -Summary of Consolidated Financial Results".
CERITY
The components of Cerity's net loss before income taxes are set forth in the
following table:
Three Months Ended
March 31,
2022 2021
(in millions)
Gross premiums written $ 1.2 $ 0.3
Net premiums written $ 1.2 $ 0.3
Net premiums earned $ 0.6 $ -
Net investment income 0.7 0.7
Net realized and unrealized (losses) gains on investments (0.4) 0.1
Total revenues 0.9 0.8
Losses and LAE 0.4 -
Underwriting expenses 3.2 3.7
Total expenses 3.6 3.7
Net loss before income taxes $ (2.7) $ (2.9)
Underwriting loss $ (3.0) $ (3.7)
Combined ratio n/m n/m
n/m - not meaningful
Underwriting Results
Gross Premiums Written and Net Premiums Written
Gross premiums written and net premiums written were
months ended
period of 2021.
Net Premiums Earned
Net premiums earned were
compared to less than
Underwriting Expenses
Underwriting expenses for our Cerity segment were
months ended
period of 2021. During the three months ended
compensation-related expenses decreased
corresponding period of 2021.
Underwriting Loss
Underwriting losses for our Cerity segment were
months ended
period of 2021. Underwriting income or loss is determined by deducting losses
and LAE, commission expense, and underwriting expenses from net premiums earned.
Non-Underwriting Income
For a further discussion of non-underwriting related income, including Net
Investment Income and Net Realized and Unrealized Gains and Losses on
Investments, see “-Results of Operations -Summary of Consolidated Financial
Results Consolidated.”
31 --------------------------------------------------------------------------------
CORPORATE AND OTHER
The components of Corporate and Other’s net loss before income taxes are set
forth in the following table:
Three Months Ended
March 31,
2022 2021
(in millions)
Net investment income 0.8 0.1
Net realized and unrealized losses on investments (1.3) -
Total (losses) revenues (0.5) 0.1
Losses and LAE - LPT (2.1) (2.1)
General and administrative expenses 3.3 5.6
Interest and financing expenses 0.1 0.1
Total expenses 1.3 3.6
Net loss before income taxes $ (1.8) $ (3.5)
Losses and LAE - LPT
The table below reflects the impact of the LPT on Losses and LAE, which are
recorded as a reduction to Losses and LAE incurred on our Consolidated
Statements of Comprehensive (Loss) Income.
Three Months Ended
March 31,
2022 2021
(in millions)
Amortization of the Deferred Gain related to losses $ 1.7 $ 1.7
Amortization of the Deferred Gain related to contingent
commission 0.4 0.4
Total impact of the LPT $ 2.1 $ 2.1
General and Administrative Expenses
General and administrative expenses primarily consist of compensation related expenses, professional fees, and other corporate expenses at the holding company. General and administrative expenses were$3.3 million for the three months endedMarch 31, 2022 , compared to$5.6 million for the corresponding period of 2021. During the three months endedMarch 31, 2022 , compensation-related expenses decreased$2.3 million compared to the same period of 2021. This decrease related primarily to the acceleration of share-based awards in connection with the retirement of our prior Chief Executive Officer, which served to increase our compensation-related expenses during the three months endedMarch 31, 2021 .
Non-Underwriting Income and Expenses
For a further discussion of non-underwriting related income and expenses, including Net Investment Income and Net Realized and Unrealized Gains and Losses on Investments, and Interest and Financing Expenses see "-Results of Operations -Summary of Consolidated Financial Results".
Liquidity and Capital Resources
The COVID-19 pandemic disruptions on theU.S. economy, our current operations and our investment portfolio have, at times, been significant. Nonetheless we believe that the liquidity available to our holding company and its operating subsidiaries remains adequate and we do not currently foresee a need to: (i) suspend ordinary dividends or forego repurchases of our common stock; (ii) seek a capital infusion; or (iii) seek any material non-investment asset sales. Furthermore, the holding company has no outstanding debt obligations and its operating subsidiaries have minimal interest-bearing debt obligations.
Holding Company Liquidity
We are a holding company and our ability to fund our operations is contingent
upon existing capital and the ability of our subsidiaries to pay dividends up to
the holding company. Payment of dividends by our insurance subsidiaries is
restricted by state insurance laws and regulations, including laws establishing
minimum solvency and liquidity thresholds. We require cash
32
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to pay stockholder dividends, repurchase common stock, provide additional
surplus to our insurance subsidiaries, and fund our operating expenses.
Our insurance subsidiaries’ ability to pay dividends and distributions to their
parent is based on reported capital, surplus, and dividends paid within the
prior twelve months.
During the first quarter of 2022, ECIC made a$120.0 million return of capital payment to its parent company, who in turn distributed that amount to the holding company. As a result of that distribution, ECIC cannot pay dividends throughFebruary 15, 2023 , without prior regulatory approval. During the first quarter of 2022, EICN made a$9.7 million dividend payment to its parent company, who in turn distributed that amount to the holding company. As a result of that payment, EICN cannot pay any dividends for the remainder of 2022 without prior regulatory approval.
Total cash and investments at the holding company were
million
OnDecember 15, 2020 , EHI entered into a Credit Agreement (the Credit Agreement) with a syndicate of financial institutions. The Credit Agreement provides EHI with a$75.0 million three-year revolving credit facility. Borrowings under the Credit Agreement may be used for working capital and general corporate purposes. Pursuant to the Credit Agreement, EHI has the option to request an increase of the credit available under the facility, up to a maximum facility amount of$125.0 million , subject to the consent of lenders and the satisfaction of certain conditions. EHI had no outstanding advances under the Credit Agreement atMarch 31, 2022 . The interest rates applicable to loans under the Credit Agreement are generally based on a base rate plus a specified margin, ranging from 0.25% to 1.25%, or the Eurodollar rate (which will convert to an alternative reference rate once LIBOR is discontinued) plus a specified margin, ranging from 1.25% to 2.25%. Total interest paid and fees incurred pursuant to the Credit Agreement during the three months endedMarch 31, 2022 totaled$0.1 million . The Credit Agreement contains covenants that require us to maintain: (i) a minimum consolidated net worth of no less than 70% of our stockholders' equity as ofSeptember 30, 2020 , plus 50% of our aggregate net income thereafter; and (ii) a debt to total capitalization ratio of no more than 35%, in each case as determined in accordance with the Credit Agreement. AtMarch 31, 2022 , we were in compliance with all debt covenants.
Operating Subsidiaries’ Liquidity
The primary sources of cash for our operating subsidiaries, which include our insurance and other operating subsidiaries, are premium collections, investment income, sales and maturities of investments, proceeds from FHLB advances, and reinsurance recoveries. The primary uses of cash for our operating subsidiaries are payments of losses and LAE, commission expenses, underwriting and general and administrative expenses, ceded reinsurance, repayments of FHLB advances, investment purchases and dividends paid to their parent. Total cash and investments held by our operating subsidiaries was$2,598.0 million atMarch 31, 2022 , consisting of$49.1 million of cash and cash equivalents,$2,261.6 million of fixed maturity securities,$243.7 million of equity securities,$40.4 million of other invested assets, and$3.2 million of short-term investments. Sources of immediate and unencumbered liquidity at our operating subsidiaries as ofMarch 31, 2022 consisted of$48.9 million of cash and cash equivalents,$221.4 million of publicly traded equity securities whose proceeds are available within three business days,$791.0 million of highly liquid fixed maturity securities whose proceeds are available within three business days, and$3.2 million of short-term investments whose proceeds are available within three business days. We believe that our subsidiaries' liquidity needs over the next 24 months will be met with cash from operations, investment income, and maturing investments.
EICN, ECIC, EPIC, and EAC are members of the FHLB. Membership allows our
subsidiaries access to collateralized advances, which may be used to support and
enhancement management. The amount of advances that may be taken is
dependent on statutory admitted assets on a per company basis.
During the first quarter of 2022, our insurance subsidiaries received advances of$60.0 million under the FHLB Standard Credit Program. These advances are collateralized by eligible investment securities. The interest rate on these advances is adjusted daily per the Secure Overnight Funding Rate (SOFR), published by theFederal Reserve . As ofMarch 31, 2022 , the Company's weighted average daily interest rate on these advances was 0.33%. Interest paid during the three months endedMarch 31, 2022 was less than$0.1 million . Furthermore, these advances can be repaid at any time without prepayment penalties or additional fees. During the second quarter of 2020, the FHLB announced its Zero Interest Recovery Advance Program (the FHLB Advance Program). The FHLB Advance Program is a zero percent interest, six-month or one-year credit product that members can use to provide immediate relief to property owners, businesses, and other customers struggling with the financial impacts of the COVID-19 pandemic. Each member was allocated up to$10.0 million in advances under the FHLB Advance Program. 33 -------------------------------------------------------------------------------- OnMay 11, 2020 , our insurance subsidiaries received a total of$35.0 million of advances under the FHLB Advance Program. The advances were secured by collateral previously pledged to the FHLB by our insurance subsidiaries in support of our existing collateralized advance facility, which has been reduced by the amount of these outstanding advances. Our insurance subsidiaries repaid$15.0 million of such advances onNovember 4, 2020 ,$5.0 million onMarch 31, 2021 , and$15.0 million onMay 4, 2021 . As ofMarch 31, 2022 , we have no outstanding advances. FHLB membership also allows our insurance subsidiaries access to standby Letter of Credit Agreements. OnJanuary 26, 2021 , EPIC chose to amend its existing Letter of Credit Agreement to decrease its credit amount to$10.0 million . OnAugust 13, 2021 , EAC and ECIC chose to amend their existing Letter of Credit Agreements to decrease their respective credit amounts to$25.0 million and$35.0 million . The amended Letter of Credit Agreements will expire onMarch 31, 2023 . The Letter of Credit Agreements may only be used to satisfy, in whole or in part, insurance deposit requirements with theState of California and are fully secured with eligible collateral at all times (See Note 10). We purchase reinsurance to protect us against the costs of severe claims and catastrophic events, including pandemics. OnJuly 1, 2021 , we entered into a new reinsurance program that is effective throughJune 30, 2022 . The reinsurance program consists of one treaty covering excess of loss and catastrophic loss events in four layers of coverage. Our reinsurance coverage is$190.0 million in excess of our$10.0 million retention on a per occurrence basis, subject to certain exclusions. We believe that our reinsurance program meets our needs and that we are sufficiently capitalized. We further believe that we will not trigger a recovery under our current excess of loss reinsurance program in connection with the COVID-19 pandemic. Various state laws and regulations require us to hold investment securities or letters of credit on deposit with certain states in which we do business. Securities having a fair value of$819.9 million and$861.4 million were on deposit atMarch 31, 2022 andDecember 31, 2021 , respectively. These laws and regulations govern both the amount and types of investment securities that are eligible for deposit. Additionally, standby letters of credit from the FHLB have been issued in lieu of$70.0 million securities on deposit at bothMarch 31, 2022 andDecember 31, 2021 . Certain reinsurance contracts require company funds to be held in trust for the benefit of the ceding reinsurer to secure the outstanding liabilities we assumed. The fair value of fixed maturity securities held in trust for the benefit of our ceding reinsurers was$3.0 million and$3.1 million atMarch 31, 2022 andDecember 31, 2021 , respectively.
Sources of Liquidity
We monitor the cash flows of each of our subsidiaries individually, as well as
collectively as a consolidated group. We use trend and variance analyzes to
project future cash needs, making adjustments to our forecasts as appropriate.
The table below shows our net cash flows for the three months ended:
March 31,
2022 2021
(in millions)
Cash, cash equivalents, and restricted cash provided by (used in):
Operating activities $ 16.8 $ (10.8)
Investing activities (6.1) (39.8)
Financing activities
44.7 (24.4)
Increase (decrease) in cash, cash equivalents, and restricted cash
For additional information regarding our cash flows, see Item 1, Consolidated
Statements of Cash Flows.
Operating Activities Net cash provided by operating activities for the three months endedMarch 31, 2022 included net premiums received of$157.3 million and investment income received of$16.7 million . These operating cash inflows were partially offset by net claims payments of$90.4 million , underwriting and general and administrative expenses paid of$45.8 million , and commissions paid of$20.9 million . Net cash used in operating activities for the three months endedMarch 31, 2021 included net premiums received of$135.7 million and investment income received of$18.0 million . These operating cash inflows were more than offset by net claims payments of$101.9 million , underwriting and general and administrative expenses paid of$44.1 million , and commissions paid of$19.0 million .
Investing Activities
Net cash used in investing activities for the three months endedMarch 31, 2022 andMarch 31, 2021 was primarily related to the investment of premiums received and reinvestment of funds from investment sales, maturities, redemptions, and interest income. These investing cash outflows were partially offset by investment sales, maturities and redemptions whose proceeds 34 --------------------------------------------------------------------------------
were used to fund claims, underwriting and general and administrative
expenses, stockholder dividend payments, and common stock repurchases.
Financing Activities
Net cash provided by financing activities for the three months endedMarch 31, 2022 was primarily related to FHLB advances received partially offset by common stock repurchases and stockholder dividend payments. During the three months endedMarch 31, 2022 , we also borrowed and subsequently repaid$10.0 million under the Credit Agreement. Net cash used in financing activities for the three months endedMarch 31, 2021 was primarily related to common stock repurchases, stockholder dividend payments, and repayments of FHLB advances. During the three months endedMarch 31, 2021 , we also borrowed and subsequently repaid$12.0 million under the Credit Agreement. Dividends We paid$7.4 million and$7.7 million in dividends to our stockholders for the three months endedMarch 31, 2022 and 2021, respectively. The declaration and payment of future dividends to common stockholders will be at the discretion of our Board of Directors and will depend upon many factors including our financial position, capital requirements of our operating subsidiaries, legal and regulatory requirements, and any other factors our Board of Directors deem relevant. OnApril 27, 2022 , the Board of Directors declared a$0.26 dividend per share, payableMay 25, 2022 , to stockholders of record onMay 11, 2022 . OnApril 27, 2022 , the Board of Directors also declared a special dividend of$1.00 per share. The dividend is payable onJune 15, 2022 to stockholders of record as ofJune 1, 2022 . Share Repurchases We repurchased 174,172 shares of our common stock for$6.7 million during the three months endedMarch 31, 2022 . Future repurchases of our common stock will be at the discretion of our Board of Directors and will depend upon many factors, including our financial position, capital requirements of our operating subsidiaries, general business and social economic conditions, legal, tax, regulatory, and/or contractual restrictions, and any other factors our Board of Directors deems relevant. Capital Resources
As of
Contractual Obligations and Commitments
Other than operating expenses, current and long-term cash requirements include
the following contractual obligations and commitments as of
Leases
We have entered into lease arrangements for certain equipment and facilities. As ofMarch 31, 2022 , we had lease payment obligations of$18.1 million , with$3.4 million payable within 12 months.
Other Purchase Obligations
We have other purchase obligations that primarily consist of non-cancellable obligations to acquire capital assets, commitments for information technology and related services, software acquisition and license commitments and other legally binding agreements to purchase services that are to be used in our operations. As ofMarch 31, 2022 , we had other purchase obligations of$19.7 million , with$10.3 million payable within 12 months.
Unfunded Investment Commitments
We have investments in private equity limited partnerships that require capital distributions to fund the investments and can be called at any time deemed necessary. As ofMarch 31, 2022 , we had unfunded investment commitments of$44.7 million . InApril 2022 , we entered into an additional investment in a private equity limited partnership with an unfunded commitment amount totaling$15.0 million .
FHLB Advances
We received advances of
These advances can be repaid at any time without prepayment penalties or
additional fees.
Unpaid Losses and LAE Expenses
We have developed unpaid losses and LAE expense payment patterns that are
computed based on historical information. Our calculation of loss and LAE
expense payments by period is subject to the same uncertainties associated with
determining the level of reserves and to the additional uncertainties arising
from the difficulty of predicting when claims (including claims that have not
yet been reported to us) will be paid. Actual payments of losses and LAE by
period will vary, perhaps materially, to
35
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the extent that current estimates of losses and LAE expense vary from actual
ultimate claims amounts due to variations between expected and actual payout
patterns. As of March 31, 2022 , we had unpaid losses and LAE expense payments
patterns of $1,981.9 million , with $304.6 million payable within 12 months.
The unpaid losses and LAE expense payments patterns are gross of reinsurance
recoverables for unpaid losses. As of
recoverables on unpaid losses and LAE of
Investments
Our investment portfolio is structured to support our need for: (i) optimizing our risk-adjusted total returns; (ii) providing adequate liquidity; (iii) facilitating financial strength and stability; and (iv) ensuring regulatory and legal compliance. These investments provide a steady source of income, which may fluctuate with changes in interest rates and our current investment strategies. As ofMarch 31, 2022 , our investment portfolio consisted of 87% fixed maturity securities. We strive to limit the interest rate risk associated with fixed maturity investments by managing the duration of these securities. Our fixed maturity securities (excluding cash and cash equivalents) had a duration of 3.8 atMarch 31, 2022 . To minimize interest rate risk, our portfolio is weighted toward short-term and intermediate-term bonds; however, our investment strategy balances consideration of duration, yield, and credit risk. Our investment guidelines require that the minimum weighted average quality of our fixed maturity securities portfolio be "A+," using ratings assigned byStandard & Poor's (S&P) or an equivalent rating assigned by another nationally recognized statistical rating agency. Our fixed maturity securities portfolio had a weighted average quality of "A+" as ofMarch 31, 2022 . Other securities within fixed maturity securities consist of bank loans, which are classified as AFS and are reported at fair value. Our investment portfolio also contains equity securities. We strive to limit the exposure to equity price risk associated with publicly traded equity securities by diversifying our holdings across several industry sectors. These equity securities had a fair value of$296.8 million atMarch 31, 2022 , which represented 11.5% of our investment portfolio at that time. We also have a$5.6 million investment in FHLB stock which we record at cost. We receive periodic dividends from the FHLB for this investment, when declared, which can vary from period to period. Our Other invested assets made up 2% of our investment portfolio as ofMarch 31, 2022 and include private equity limited partnerships. Our investments in private equity limited partnerships totaled$40.4 million atMarch 31, 2022 and are generally not redeemable by the investees and cannot be sold without prior approval of the general partner. These investments have a fund term of 10 to 12 years, subject to two or three one-year extensions at the general partner's discretion. We expect to receive distributions of proceeds from dividends and interest from fund investments, as well as from the disposition of a fund investment or portion thereof, from time-to-time during the full course of the fund term. As ofMarch 31, 2022 , we had unfunded commitments to these private equity limited partnerships totaling$44.7 million .
We believe that our current asset allocation meets our strategy to preserve
capital for claims and policy liabilities and to provide sufficient capital
resources to support and grow our ongoing insurance operations.
The following table shows the estimated fair value, the percentage of the fair value to total invested assets, and the average ending book yield, (each based on the book value of each category of invested assets) as ofMarch 31, 2022 . Estimated Fair Percentage Category Value of Total Book Yield (in millions, except percentages) U.S. Treasuries $ 63.2 2.5 % 1.8 % U.S. Agencies 2.3 0.1 2.9 States and municipalities 372.9 14.5 2.9 Corporate securities 1,045.1 40.6 3.3 Residential mortgage-backed securities 289.4 11.3 2.3 Commercial mortgage-backed securities 66.5 2.6 3.2 Asset-backed securities 67.5 2.6 3.7 Collateralized loan obligations 183.3 7.1 1.8 Foreign government securities 11.6 0.5 2.9 Other securities 169.2 6.6 3.8 Equity securities 296.8 11.5 2.4 Short-term investments 3.2 0.1 0.1 Total investments at fair value$ 2,571.0 100.0 % Weighted average yield 3.0 % 36
-------------------------------------------------------------------------------- The following table shows the percentage of total estimated fair value of our fixed maturity securities as ofMarch 31, 2022 by credit rating category, using the lower of the ratings assigned by Moody's Investors Service or S&P. Percentage of Total Rating Estimated Fair Value "AAA" 9.7 % "AA" 33.8 "A" 30.0 "BBB" 14.5 Below Investment Grade 12.0 Total 100.0 % Investments that we currently own could be subject to credit risk and subsequent default by the issuer. We regularly assess individual securities as part of our ongoing portfolio management, including the identification of credit related losses. Our assessment includes reviewing the extent of declines in fair value of investments below amortized cost, historical and projected financial performance and near-term prospects of the issuer, the outlook for industry sectors, credit rating, and macro-economic changes, including those caused by the COVID-19 pandemic. We also make a determination as to whether it is not more likely than not that we will be required to sell the security before its fair value recovers to above cost, or maturity. In addition to recognizing realized gains and losses upon the disposition of an investment security, we also recognize realized gains or losses on AFS debt securities for changes in CECL. As ofMarch 31, 2022 , we have a$2.2 million allowance for CECL on AFS debt securities. During the three months endedMarch 31, 2022 , we recognized a$2.0 million increase to our allowance for CECL on AFS debt securities. The remaining fixed maturity securities whose total fair value was less than amortized cost atMarch 31, 2022 , were those in which we had no intent, need, or requirement to sell at an amount less than their amortized cost.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements.
Critical Accounting Estimates
The unaudited interim consolidated financial statements included in this quarterly report include amounts based on the use of estimates and judgments of management for those transactions that are not yet complete. We believe that the estimates and judgments that were most critical to the preparation of the consolidated financial statements involved the reserves for losses and LAE and reinsurance recoverables. These estimates and judgments require the use of assumptions about matters that are highly uncertain and therefore are subject to change as facts and circumstances develop. Our accounting policies are discussed under "Critical Accounting Estimates" in Management's Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report.