Objectives
Profitability
Progressive’s most important goal is for our insurance subsidiaries to produce an aggregate calendar year underwriting profit of at least 4%. Our business is a composite of many product offerings defined in part by product type, distribution channel, geography, customer tenure, and underwriting grouping. Each of these products has targeted operating parameters based on level of maturity, underlying cost structures, customer mix, and policy life expectancy. Our aggregate goal is the balanced blend of these individual performance targets in any calendar year.
Growth
Our goal is to grow as fast as possible, constrained only by our profitability objective and our ability to provide high-quality customer service. Progressive is a growth-oriented company and management incentives are tied to profitable growth.
Aggregate expense ratios and growth rates disguise the true nature and performance of each business. As such, we report Personal Lines, Commercial Lines, and Property business results separately. We further break down our Personal Lines’ results by channel (Agency and Direct) to give shareholders a clearer picture of the business dynamics of each distribution method.
Our Business Model
For us, a 96 combined ratio is not a “solve for” variable in our business model equation, but rather a constant that provides direction to each product and marketing decision and a cultural tipping point that ensures zero ambiguity as to how to act in certain situations. Set at a level we believe creates a fair balance between attractive profitability and consumer competitiveness, it’s deeply ingrained and central to our culture.
With clarity as to our business constant, we seek to maximize all other important variables and support with appropriate axioms:
Grow as fast as we can
subject to our ability to provide high-quality service. Our preferred measure of growth is in customers, best measured by policies in force.
Extend policy life expectancy.
Our preference is for the flexibility of shorter policy periods, highlighting however, the importance of retaining customers at policy renewal. Our focus is inclusive of all points throughout a customer’s tenure and is a never-ending focus, tailored for every customer segment. Our use of Net Promoter® scoring provides for a much more dynamic measure, which is highly correlated to policy life expectancy, and is an internal acceptable proxy for our ultimate goal of extended life expectancy.
Clarity as to our objectives means other elements of the business model must be appropriately designed to strongly support, but not necessarily amplify, the risk of maximizing all things at the same time. Our articulation of our most critical investment objective is a good example:
Invest in a manner that does not constrain our ability to underwrite all the profitable insurance available to us at an efficient premiums-to-surplus leverage.
We often refer to underwriting capacity as the protected asset and for us it is a clear determination of where the risk of leverage is best allocated.
The importance of net income, earnings per share, and return on equity is never lost on us, but we view achieving strong, long-term performance of these measures as stemming from our consistent focus on the primary elements of our business model.
Financial Policies
Progressive balances operating risk with risk of investing and financing activities in order to have sufficient capital to support all the insurance we can profitably underwrite and service. Risks arise in all operational and functional areas, and therefore must be
assessed holistically, accounting for the offsetting and compounding effects of the separate sources of risk within Progressive.
We use risk management tools to quantify the amount of capital needed, in addition to surplus, to absorb consequences of events
such as unfavorable loss reserve development, litigation, weather-related catastrophes, and investment-market corrections. Our financial policies define our allocation of risk and we measure our performance against them. We will invest capital in expanding business operations when, in our view, future opportunities meet our financial objectives and policies. Underleveraged capital will be returned to investors. We expect to earn a return on equity greater than its cost. Presented is an overview of Progressive’s Operating, Investing, and Financing policies.
Operating
Maintain pricing and reserving discipline
- Manage profitability targets and operational performance at our lowest level of product definition
- Sustain premiums-to-surplus ratios at efficient levels, and at or below applicable state regulations, for each
insurance subsidiary - Ensure loss reserves are adequate and develop with minimal variance
Investing
Maintain a liquid, diversified, high-quality investment portfolio
- Manage on a total return basis
- Manage interest rate, credit, prepayment, extension, and concentration risk
- Allocate portfolio between two groups:
- Group I: Target 0% to 25% (common equities; nonredeemable preferred stocks; redeemable preferred stocks, except for 50% of investment-grade redeemable preferred stocks with cumulative dividends; and all other non-investment-grade fixed-maturity securities)
- Group II: Target 75% to 100% (short-term securities and all other fixed-maturity securities)
Financing
Maintain sufficient capital to support insurance operations
- Maintain debt below 30% of total capital at book value
- Neutralize dilution from equity-based compensation in the year of issuance through share repurchases
- Use underleveraged capital to repurchase shares and pay dividends (special or variable based on annual underwriting results)
Objectives and Policies Scorecard
| Six Months Ended June 30, |
Years Ended December 31, | ||||||
|---|---|---|---|---|---|---|---|
| Target | 2017 | 2016 | 2015 | 2014 | 5 Years1 | 10 Years1 | |
| Financial Results | |||||||
| Underwriting margin | |||||||
| –Progressive2 | 4% | 7.5% | 4.9% | 7.5% | 7.7% | 6.2% | 6.6% |
| –Industry3 | na | ||||| | ||||| | (4.1)% | (1.8)% | (2.1)% | (0.4)% |
| Net premiums written growth | |||||||
| –Progressive | (a) | 13% | 14% | 10% | 8% | 9% | 5% |
| –Industry3 | na | ||||| | ||||| | 5% | 5% | 4% | 2% |
| Policies in force growth | |||||||
| –Personal auto | (a) | 8% | 8% | 5% | 2% | 4% | 4% |
| –Special lines | (a) | 2% | 4% | 2% | 1% | 2% | 4% |
| –Commercial Lines | (a) | 4% | 9% | 8% | 0% | 4% | 2% |
| –Property | (a) | 11% | 12% | nm | nm | nm | nm |
| Companywide premiums-to-surplus ratio | (b) | na | 2.7 | 2.7 | 2.9 | na | na |
| Investment allocation | |||||||
| –Group I | (c) | 17% | 18% | 20% | 23% | na | na |
| –Group II | (c) | 83% | 82% | 80% | 77% | na | na |
| Debt-to-total capital ratio | <30% | 27.3% | 28.3% | 27.1% | 23.8% | na | na |
| Return on average shareholders’ equity | |||||||
| –Net income attributable to Progressive | (d) | 16.6% | 13.2% | 17.2% | 19.1% | 16.3% | 15.8% |
| –Comprehensive income attributable to Progressive | (d) | 18.9% | 14.9% | 14.2% | 20.1% | 17.0% | 16.6% |
(a) Grow as fast as possible, constrained only by our profitability objective and our ability to provide high-quality customer service.
(b) Determined separately for each insurance subsidiary.
(c) Allocate portfolio between two groups:
Group I – Target 0% to 25% (common equities; nonredeemable preferred stocks; redeemable preferred stocks, except for 50% of investment-grade redeemable preferred stocks with cumulative dividends; and all other non-investment-grade fixed-maturity securities)
Group II – Target 75% to 100% (short-term securities and all other fixed-maturity securities)
(d) Progressive does not have a predetermined target for return on average shareholders’ equity.
na = not applicable.
nm = not meaningful; Property business written by Progressive prior to April 2015 was negligible.
1 Represents results over the respective time period; growth represents average annual compounded rate of increase (decrease).
2 Expressed as a percentage of net premiums earned. Underwriting profit is calculated by subtracting losses and loss adjustment expenses, policy acquisition costs, and other underwriting expenses from the total of net premiums earned and fees and other revenues.
3 Industry results for 2015 and 2014 represent private passenger auto insurance market data as reported by A.M. Best Company, Inc. The industry underwriting margin excludes the effect of policyholder dividends. Final comparable industry data for 2016 will not be available until our third quarter report. The 5- and 10-year growth rates are presented on a one-year lag basis for the industry.
Achievements
We are convinced that the best way to maximize shareholder value is to achieve these financial objectives and policies consistently. A shareholder who purchased 100 shares of Progressive for $1,800 in our first public stock offering on April 15, 1971, would have owned 172,456 shares, including dividend reinvestment, on December 31, 2016 with a market value of $6,122,188, for a 19.5% compounded annual return, compared to the 10.2% return achieved by investors in the S&P 500 during the same period.
In the ten years since December 31, 2006, Progressive shareholders have realized compounded annual returns, including dividend reinvestment, of 7.8%, compared to 6.9% for the S&P 500. In the five years since December 31, 2011, Progressive shareholders’ returns were 17.1%, compared to 14.6% for the S&P 500. In 2016, the returns were 14.7% on Progressive shares and 11.9% for the S&P 500.
We have consistently paid dividends since we went public in 1971. Assuming dividends were not reinvested, a shareholder who bought 100 shares at the initial public offering would now hold 92,264 shares and would have received cumulative dividends of $818,240, including $81,949 in 2016. In addition to paying dividends, over the years when we have had adequate capital and believed it to be appropriate, we have repurchased our shares. As our Financial Policies state, we will repurchase shares to neutralize the dilution from equity-based compensation programs and return any underleveraged capital to investors. During 2016, we repurchased 6,093,814 common shares. The total cost to repurchase these shares was $192 million, with an average cost of $31.59 per share. Since 1971, we have spent $8.9 billion repurchasing our shares, at an average cost of $7.38 per share.