AmTrust Financial Services' CEO Discusses Q2 2012 Results - Earnings Call Transcript

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 |  About: AmTrust Financial Services, Inc. (AFSI)
by: SA Transcripts

Operator

Good day ladies and gentlemen, and welcome to the AmTrust Financial second quarter year 2012 earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Hilly Gross, Vice President of Investor Relations for AmTrust. You may begin.

Hilly Gross

Good morning and thank you. And thank you everyone for taking the time out to join us with this, our second quarter earnings conference call at AmTrust Financial. With me this morning are Mr. Barry Zyskind, President and CEO of AmTrust and Mr. Ron Pipoly, Chief Financial Officer of AmTrust and as always we are delighted to acknowledge the presence of Mr. Michael Saxon, Chief Operating Officer of AmTrust and Ms. Beth Malone, Senior Vice President of Investor Relations and Corporate Development.

Before I introduce Mr. Zyskind and Mr. Pipoly to give you the overview and analysis of the second quarter results, I would need your indulgence to read into directly the obligatory [power rep] on forward-looking statements. Since this morning during this conference call will contain certain forward-looking statements that are intended to be covered by the Safe Harbor’s created by the Private Securities Litigation Reform Act of 1995.

All statements other than statements of historical fact included in this presentation are forward-looking statements including statements accompanied by words such as, could, believe, expect, anticipate, intend, estimate, plan, project and continue or future or conditional word such as will, would, should, could or may. These statements include the plans and objectives of the management for future operations including those relating to future growth of the company’s business activities and availabilities of funds and are based on current expectations that involved assumptions that are difficult or impossible to predict accurately many of which are beyond the control of the company. There can be no assurance that actual developments will be consistent with our assumptions.

Actual results may differ materially from those expressed or implied in these statements as a result of significant risks and uncertainties including the factors set forth in the company’s filings with the Securities and Exchange Commission including its Annual Report on Form 10-K and its quarterly reports on Form 10-Q. The projections and statements in this presentation speak only as of the date of this presentation and the company undertakes no obligation to update or revise any forward-looking statement whether as a result of new information, future developments or otherwise except as may be required by law.

Having dispensed with the lingual niceties, it is now pleasure to call upon AmTrust’s CEO and President Mr. Barry Zyskind. Barry?

Barry Zyskind

Thank you and good morning. I am pleased to report that AmTrust had a strong second quarter in 2012 with growth in each of our segments. The Small Commercial Business segment is writing a wave of improving pricing particularly workers compensation. The positive topline growth momentum is also benefiting from the strength of acquisition, major acquisitions including Majestic last year and more recently BTIS.

In our Specialty Program segment, a favorable pricing environment coupled with the success of our underwriting teams contributed to the topline growth. Specialty risk and extended warranty continues to experience gains in our targeted markets both domestically and internationally. Recent acquisitions including the purchase of the Captive Insurance agency’s Case New Holland combined the geographic and product expansions continued to create excellent opportunities for growth.

Our fees and services reported double digit growth benefiting from acquisitions and increased demand of our services. The higher margin business contributes to our strong ROE. We expect to continue growing our fees and services business.

In terms of acquisitions, we believe we are well positioned with our capital and infrastructure to take advantage of the opportunities that increasingly present themselves across all of our segments. The prospect for building on a profitable success through acquisition has never been more favorable in our opinion. We continue to see a lot of deal flow based on many of the things that are happening in the current marketplace.

In summary, our performance this quarter is a source of prime to everyone in our organization. We are confident we will continue to build shareholder value.

With that, I would like to turn the call over to Ron Pipoly for more detailed comments on the quarter.

Ron Pipoly

Thank you Barry, good morning. The second quarter of 2012 is the second consecutive quarter with gross written premium in excess of $600 million. Unless otherwise noted, my comments this morning will evolve around a discussion of our results this quarter compared with the second quarter of last year.

Gross written premium was $637.4 million, an increase of $79 million or 14.1% from the second quarter of last year. The second quarter of 2011 had a total of $45 million of one-time gross written premium events. Without consideration of these events, the increase in premium would have been a $124 million or 24.1%. We experienced growth in all four of our segments during the quarter.

Specialty Risk and Extended Warranty segments grew by $7 million or 2.7%. This segment’s premium growth was affected by a one-time $19 million premium event in the second quarter of 2011. Without consideration of this event, growth would have been $26 million or 10.5%.

Our Small Commercial Business segment produced an increase in gross written premium of $39.5 million or 22.6%. This segment was also affected by a one-time premium event in the second quarter of 2011 by $26 million. Without consideration of this one-time event growth would have been $65.5 million or 44%.

The growth was driven primarily by an increase in workers’ compensation premium. We continue to see increases in policy counts and have benefited from the effective rate increases in key states. Additionally, we have experienced growth in this segment as a result of expanding our product offerings through certain acquisitions.

Our Specialty Program Business increased by $28.5 million or 30.6%. As mentioned on previous calls, the growth in this segment can be primarily attributed to writing new programs, which has been driven by teams of underwriters that we have gotten on board over the past 18 months.

We've also recorded $28.8 million in premium in our Personal Lines Reinsurance segment which was an increase of $3.8 million or 15.3%. For the year, our gross written premium increased $236.7 million or 23.6% from $1 billion to $1.24 billion. Without consideration of the previously mentioned one-time premium events, growth in gross written premium would have been $281.7 million or 29.4%.

Specialty Risk and Extended Warranty segment increased by $13.4 million, Small Commercial Business by $131.2 million, Specialty Program increased by $83.2 million and Personal Lines Reinsurance increased by $8.8 million.

Our net written premium for the quarter rose to $391.6 million. For the six months, our net written premium is $751.4 million.

Net earned premium totaled $334 million for the quarter, up 34.5% from the second quarter of 2011. The largest contributor to our earned premium was our Specialty Risk and Extended Warranty which accounted for 42% of the total followed by Small Commercial Business at 28%, Specialty Program and Personal Lines Reinsurance at 21% and 9% respectively. For the six months, net earned premium is $648 million.

Our combined ratio came in at 88.9% for the second quarter compared to 90.3% last year. The loss ratio totaled 63.4% this quarter compared to 68.5% from the same period last year. Our expense ratio for the quarter was 25.5% compared to 21.8% for the second quarter of 2011. Expense ratio was impacted by both business mix as well as the impact of new accounting pronouncements regarding deferred acquisition costs. The expense ratio this quarter would have been 24.5% under the prior accounting guidance.

Our service fee income totaled $33 million which is an increase of approximately $8.4 million from the prior year’s quarter. The increase was driven by the acquisition of BTIS as well as the increase in fees associated with system licensing to ACAC. We earned $44.6 million of ceding commission from Maiden for the quarter compared to $35.4 million in the second quarter of 2011.

Our total revenues grew by 33.7% for the quarter compared to last year and 41.3% for the six months. We generated approximately $16.3 million investment income for the quarter and had $1.8 million of net realized gains after tax. For the year, we have generated investment income of $30.8 million and had net realized gains of $1 million after-tax.

For the quarter, we generated net income of $40.4 million or $0.64 per diluted share. We had operating earnings of $45.3 million or $0.72 per diluted share. Included in operating earnings was approximately $1 million or $0.02 per diluted share of income associated with gains on life settlement contracts.

For the six months, we have generated net income of $79.3 million or a $1.27 per diluted share. We had operating earnings of $89.3 million or $1.43 per diluted share. Included in the operating earnings was approximately $1 million or $0.02 per diluted share of income associated with gains of on life settlement contracts.

Our effective tax rate for the quarter was 22.9% and for the year it’s 22.5%. Annualized return on equity for the quarter was 16.5% and annualized return on equity from operating earnings was 18.5%. Total shareholders’ equity is approximately a $1 billion which represents a book value of $16.46 per share, the increase in book value per share since December 31, 2011 has been $1.64 per share.

We also declared quarterly dividend of $0.10 per common share. Total assets as of June 30, was $6.3 billion, total invested assets were $2.4 billion, six maturities comprised 76% of portfolio, cash and short investments 18%, equity securities 1% and other investments 5%.

Within our other investment category is our equity investment in ACAC. The average [geological] portfolio was 4.2% at the end of the quarter.

And with that I will turn it back to Hilly. Thank you.

Hilly Gross

Thank you, Ron and thank you Barry. Both Mr. Zyskind and Mr. Pipoly have indicated a willingness to respond to your questions. So to facilitate your assess to us, I will momentary turn you back to our moderator for specific instructions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) The first question is from Randy Binner of FBR. Your line is now open.

Randy Binner - FBR

I just wanted to kind of try and breakdown service and fee income a little bit if you could, $33 million is a good result kind of comparing 2Q '11. But it was lower than 1Q '12 and you know, as the company is growing, there is different drivers in there. So I just kind of wondering if there was anything unusual in this quarter with the fee and service income line and if you could give any breakout if the Warrantech or some of the other arrangements what kind of notably different this quarter is, that would be helpful for modeling?

Ron Pipoly

Good morning Randy, it's Ron. Relating to the service and fee income, it was lower than the first quarter but we have a lot of positive momentum in service and fee income. There is a certain seasonality associated with it, in terms of some of the administrative fees we earn from warranty administration.

If you compare the first quarter, second quarters, the second quarter tends to naturally be a smaller quarter when it comes to that. The integration of BTIS as we continue to migrate BTIS premium and our platform were earning a little bit less than service and fee revenue but again its very, very positive in terms of some of the positive fees that they are able to generate.

I guess my comment is surrounding service and fee income on an overall basis is that, currently we are at $73 million through six months it could annualize to about $156 million and I think that we are on that run rate and I would expect that we achieve final integration on the ACAC operating system.

We are on a full run rate there. We will see that pick up in the third quarter. Our acquisition which sure we will speak about in terms of what case New Holland is going to be additive to our service and fee income, so we really have a lot of positive momentum when it comes to that line item within our income statement.

Randy Binner - FBR

Great, and then so on case New Holland that at least a portion of that's kind of just go into Warrantech. So Warrantech continues to kind of grow quarter-over-quarter, is that correct?

Barry Zyskind

Yes, this is Barry, some of that's going to go into Warrantech administration fees, related to the business and some of it will be in general fee business that will go into the general line.

Randy Binner - FBR

And then I guess just to clarify, was there any significant reserve activity in the quarter either plus or minus?

Ron Pipoly

In terms of reserves in total, no there was no significant development. As we said in the prior calls, we are constantly evaluating what our ultimate picks in our reserves are by line of business and we certainly have movement within lines of business on a quarterly basis whether it's adverse or whether it's positive. But from our perspective fortunately in total, we have not had any adverse development.

Randy Binner - FBR

Let me ask one more on reserves and I will drop back in. With the growth in California what actually accident loss ratio are you running in California combat kind of in the first half of the year?

Ron Pipoly

In California, we were being cautious with California. Right now our estimate for accident year 2012 in California we are going to carry a probably around 71% from a loss ratio perspective. And again, California is something that we talk about at our monthly business review meetings, obviously, a great deal but we are seeing very positive momentum in California in terms of rates, we have right sized that book of business in terms of average policy size and risk profile and I think that the claims operations that we acquires as part of the Majestic Renewal Rights acquisition does an excellent job and we continue to look at the trends and continue to be encouraged.

Randy Binner - FBR

That’s great just one more if I could on California and what in the first half of the year, do you have a kind of a sense of where your average rate increase you have been able to get on cases there?

Ron Pipoly

No, give me one second, California for the second quarter our average increase in rate was by 19.2% which was --- I believe at the end of the first quarter. I believe we commented that was around 18% during our first quarter call.

Operator

Thank you. The next question is from Mark Hughes of SunTrust. Your line is open.

Mark Hughes - SunTrust

That’s interesting California data as you look more broadly within workers' compensation, any comment you can make about 2Q price increases as compared to 1Q or end of last year?

Ron Pipoly

Hi Mark its Ronald. In terms of overall, all states in the average price increase in the second quarter was merely very consistent with the first quarter which was about 5.7%. Within the vast majority of the states, we are seeing rate improvement, there is a few notable states such as Montano which is dramatically lowered its rates in both of the states we are obviously very cautious in.

When you look at our largest three states being California, Florida and New York, our rate increases are pretty consistent this quarter over second quarter with New York coming in at a little over 8% for the six months and Florida being right around 7% for the six months. So we are obviously very encouraged with those three states and encouraged by what we see overall from the workers' comp perspective.

Barry Zyskind

Just to add on Ron's comments obviously our book of business is lower hazard class of business and it's something we have been [profitable] through the cycle. We do have an opportunity we look at bigger business, we see it come through the system and obviously rates on that are going up much higher but on the smaller stuff you know, if we can get these rate increases we are very comfortable that the line is going to be even that much more profitable.

Mark Hughes - SunTrust

Any change in behavior among competitors and I am thinking over the last three months folks that might be pulling back from the business or across the board rising rates?

Barry Zyskind

I think you know there is two, we look at the business and there is two clearly two different segments of the business, smaller low hazard stuff I think has performed well for anyone who has been overall so that really has, and we have always said that through most of the cycle stays in a very tight pricing range obviously you benefit in a hard market could you see a lot more business with package writers not being so easily willing to right the business.

And then the higher stuff, the more hazard stuff and just the higher number numbers you are seeing clearly competitors a lot of competitors pulling out of the market, pricing going up and some of those competitors also have smaller book and we feel that’s why we are seeing I would say the momentum in the small compass is very strong in terms of submissions, buying, successive buying, pricing, elimination of discounts, it is very, very strong.

This is something we have talked about last quarter and quarter before that, but clearly the wind is blowing in our back and this is something that you could see how we move around the capital but clearly, we see a lot of opportunity to write the small comp now and many of the states and we are pushing very hard because it is something that we think we are very good at and we know how to do it and we think now is the right time to write time to as much of it and we can in the classes that we think we know well.

Mark Hughes - SunTrust

Ron, you would suggest that the fee business annualizing if I heard you correctly the $156 million, was that right off of the $73 million in the first half or did you mean a $140 million.

Ron Pipoly

I apologize, yes I did mean a $146 million, but again just to comment on that again I think if you look at the momentum there that I think a $146 million to $150 million is very reasonable for the fee income especially when you consider the acquisition of Case New Holland.

Mark Hughes - SunTrust

Okay, so bouncing back off of a Q2 seasonality.

Ron Pipoly

Yes.

Operator

Thank you. The next question is from Ken Billingsley of BGB Securities.

Ken Billingsley - BGB Securities

Just a quick question on premium, is the pattern, has it slightly because of the mix of business that obviously top line growth was pretty solid but it seemed like maybe the earn pattern maybe getting pushed out a little bit further. Could you talk about that?

Ron Pipoly

In terms of -- first of all I didn't quite broke up, the first part was net release and net retention. I would think that the second quarter of 2011 was probably a representative quarter when you look at net retention by segment. For example, the second quarter of 2011 I mentioned $45 million of one-time gross premium events.

Gross premium events did not flow through as part of the maiden quarter share. So you had $45 million more of retained premium in the second quarter of 2011 than you would on kind of a normal run rate. The one thing that is served to reduce retention from a small commercial business segment perspective, when you look at net written premium is the fact that we act as a sourcing carrier in eight stage for the NCCI reinsurance pool and the premium growth in the pool has been substantial in the first six months of this year and net premium is 100% ceded out to the NCCI.

So you would probably see a slight fall off of in our retention related to small commercial business and that's really product mix driven. In terms of earned premium I think we are really very much on budget in terms of what our expectations were for second quarter earned premium of $334 million and again this is the second consecutive quarter we had over $600 million of gross written premium and that’s certainly going to continue to translate into earned premium as we move forward into the third, fourth quarter of this year.

Ken Billingsley - BGB Securities

Okay. On the fee income side following up on Randy's question. I know he talked about where the revenues are going to come from but the expenses associated with that have that how to stick them obviously maybe some with integration, but you talk about maybe the pattern that we expect to see with expenses associated with commission fee income generated.

Barry Zyskind

In terms of the margin that we achieve on the fee and service income, it’s been pretty consistent. I think what you see on that line though is that there are some other expenses such as some depreciation and certainly amortization that gets characterized on that line item, that obviously isn’t necessary attributable service and fee income, but is classified on that line.

So in terms of the margin of our service and fee income it’s been pretty consistent and we expect that to continue going forward.

Ken Billingsley - BGB Securities

Can you talk about the depreciation and amortization, maybe that rolled through that might be we could exclude to get a closer look at the true margin?

Ron Pipoly

Let me get back to you that I can --because we break out the amortization in a couple of pieces, so I don’t want to give you an incorrect number.

Ken Billingsley - BGB Securities

The on the Specialty Risk and Warranty business the combined ratio looks good. Obviously the business that you are shrinking that, there is still, can you just kind of talk about is this because of pricing just you know quite where it needing with getting 18% and 19% quarter-to-quarter like rate increase made just kind of thought process there?

Barry Zyskind

Could you ask the question again? We didn’t get the whole question Ken.

Ken Billingsley - BGB Securities

Sorry about that. On the specialty risk and warranty business, the combined ratio looks good, but the business is declining. Could you just talk about kind of the thought process of maybe that it not and no good opportunities to keep good margins in the business or just the economy in general. Could you just kind of p talk of what's going on, the thought process there.

Ron Pipoly

Well from a specialty risk and extended warranty perspective, again without consideration of that one-time event which was an unearned premium transfer of $90 million in second quarter 2011, we would have had growth of 10% and when you think about from our European operations and in particularly Italian med mal.

We continue to be bullish on the market place, but we continue to be very firm in pricing and have had few opportunities to expand our business into that particular segment which is a big driver of growth in 2011 and going back into 2010.

So again from an extended warranty and specialty risk perspective, we are excited about the opportunities that we see. Unlike workers' comp, it takes a little bit longer for those opportunities to come to fruition but we certainly are still very optimistic about our growth and potential in that segment.

Barry Zyskind

I think if you took out the medical malpractice which sort of was flat to a little growth year-over-year which we feel very comfortable what we are in that line. I think you, the specialty risk and extended warranty did grown with the other business with ex-med mal and that's something like Ron said we have a lot of opportunities. We are knocking at a lot of doors, we've a lot of sales people. So that's something, we are very bullish on that line of business. And we think it's really an important core line for us and we continue to put lot of efforts to grow it and we hope to continue growing it with very healthy margins.

Ken Billingsley - BGB Securities

On the Italian med mal side, I saw that one of the competitors I guess was shut out there, are you seeing any opportunity there from an opportunity standpoint?

Barry Zyskind

Yeah, I think that was a smaller non rated competitor, some of the business went to them because they were below our pricing clearly. So hopefully that will just take one weaker player out of the market and will make the pricing discipline last even longer in the marketplace.

Ken Billingsley - BGB Securities

Next question for Ron, what's the duration on the portfolio.

Ron Pipoly

4.46 years on the fixed maturities.

Operator

The next question is from Matthew Heimermann of JPMorgan.

Matthew Heimermann - JPMorgan

A couple of questions if I may just in small commercial, would you mind giving us a sense of the $65 million growth year-over-year x the assumption of premium last year, kind of how much of that is policy count, how much of that is priced, how much is exposure, acquisition and then also the NCCI business.

Barry Zyskind

In terms of policy counts, overall we are up about 9% in our policy count and as I mentioned earlier our rates were up about 5%. So from the workers’ comp perspective in the second quarter of that $65 million workers’ comp, without the assigned risk business accounted for about $32 million of that $65 million of growth, assigned risk business accounted for about $14 million of growth.

And then the other growth would have come through a combination of prior acquisitions that we announced whether it is BancInsure which was right around $11 million in the second quarter and then you had BTIS in there in the second quarter of right around $12 million premium.

Matthew Heimermann - JPMorgan

And then just in specialty programs, can you give us a sense of, is the growth you are getting this quarter or this year much different than what we saw last year just in terms of the products written or geography and things like that.

Barry Zyskind

No I think it's more of the same. I think we've done a good job of the last couple of getting rid of some of the under performing programs. We bought in some new teams. We have a clear focus on where we want to grow the business. I think some of our partners have been with us for a long time and I think we've improved those books of business in terms of pricing and underwriting and as well as bringing on new programs.

So I think it's more of the same but it's one of the markets that we always said if you looked at last six years for the first five years we did not grow it. We did not feel that the pricing and the underwriting was -- the discipline was there in the marketplace.

There was a lot of competitors. It was a easy line of business to get into. The last I would say 18 months and especially the last 12 to six months we are seeing some of weaker guys have stopped or pulled back or have had results that were unacceptable. So you are suddenly starting to see a lot more opportunities in the marketplace, the discipline.

So it's something that we believe that we would grow in a hardening improving market and that's what we are seeing right now. So that's something that we think over the next couple of years would clearly if the market allows us will grow it and again if the market changes and starts going more competitive that's the one line where we will start pulling back again.

Matthew Heimermann - JPMorgan

And just in terms of I believe you have, you are making a little bit of foray into Lloyd's, I guess why is the platform that you are dealing with the right way to go given kind of outside ownership as well as kind of turnkey management.

Barry Zyskind

I think like everyone else, long term we think there's just lot of benefits to be within the Lloyd's marketplace especially for our specialty risk and extended warranty. As our customers go more and more global, manufacturers and bigger retailers and specialty resellers of products, that's something where we think having the Lloyd's capability will help us in new markets, some of Brazil and so on and so forth and China and Asia those markets we think it’s important to have it, but we want to do it in a slow way where it’s not very expensive.

So this was a way that we looked at it to enter and overtime we hope with Lloyd’s approval and with the solid business plan to be able to have everything we need with our own management and our own capital and so on and so forth. But we are not in a rush to do it, so we will do it in a way that we think is the most efficient and has the best return for us in terms of outlay of capital.

Matthew Heimermann - JPMorgan

Okay, so the reality is to kind of think about this is, it will probability take two to three years to get it set up the way you want and then whatever growth trajectory thereafter and once you are actually fully in control?

Barry Zyskind

Yes.

Matthew Heimermann - JPMorgan

Okay. And then just a numbers question, can you give us the dollar value of TPD, the acquisition expenses before the ceded premium, paid losses and also just the AOCI balance at the end of the quarter?

Ron Pipoly

The paid losses, I am going to have get that for you, because I don’t (inaudible) total incurred value. The OCI at the end of the quarter if that was the question is the balance we have is about $40 million positive for us which has been pretty consistent since year-end in terms of OCI and I am sorry what was the third part of the question?

Matthew Heimermann - JPMorgan

And also just the dollar value of prior of year development and I thought you said it wasn’t material, so just to refer the number. And then also just your gross – well not your gross, but your acquisition expenses either with or without the ceding commission?

Ron Pipoly

The total acquisition expenses, if you can just give me a second. Total acquisition cost for the second quarter is approximately $172 million, total acquisition cost. Now that excludes salaries and some of the other miscellaneous expenses that would have been total acquisition cost.

Matthew Heimermann - JPMorgan

That doesn’t sound quite right?

Ron Pipoly

Are you referring to total acquisition cost?

Matthew Heimermann - JPMorgan

Yeah, its that gross?

Ron Pipoly

That's gross. And you would reduce $44.5 million of commission. And then you would need that salaries and then…

Matthew Heimermann - JPMorgan

That’s fine. Okay, sorry that’s what I meant those. That was the gross number. And then just the prior year dollar value?

Ron Pipoly

Well actually we didn’t have any prior year I mean again, if you look at the total from prior year accident in some of the reserve perspective we didn’t have any adverse development. So at the end of the day, we had more positive movements than we had negative but we certainly didn’t take anything down.

Matthew Heimermann - JPMorgan

So it was zero?

Ron Pipoly

It was zero.

Operator

The next question is from Adam Klauber of William Blair. Your line is open.

Adam Klauber - William Blair

Could you just give us the organic, any segment excluding the unearned premium transfer?

Ron Pipoly

The organic growth?

Adam Klauber - William Blair

Yeah.

Ron Pipoly

I mean if you look at small commercial business again without the one-time transfer, we had $65 million of growth and then if we remove the acquisition between BancInsure and BTIS which was around $23 million, you would have $42 million of growth there. I characterized all of the growth within the Specialty Middle-Market or specialty program segment is being all organic.

Barry Zyskind

Especially risk as well.

Ron Pipoly

Especially risk as well, really I mean the only acquisition that drove growth would have been within the small commercial business segment.

Adam Klauber - William Blair

And then on the specialty risk extended warranty, the combined ratio for the first half is running roughly 4.5 points better than last year; I guess what's the main driver of that improvement?

Ron Pipoly

I think at the end of the day one of the biggest drivers is an improvement in the overall loss ratio from the US perspective, also coupled with improvement in the European operations that were a few programs that were underperforming in Europe that we've been able to move away from them and replace them with program structures that better suit our loss ratio profile. So I would characterize as just really kind of a business mix and a constant review and re-underwriting of our books of business.

Adam Klauber - William Blair

So with a, I am not sure I would pin you down to a target, but does that business seem to be that sustainable for the near term at least?

Ron Pipoly

Yeah, I mean, I think at the end of the day, we view that as very strong performing segment. There was nothing really from a one-time nature that affected the combined ratio of that segment, so certainly I think that will continue to be a very solid performing segment.

Adam Klauber - William Blair

And then the reverse of small commercial is up, combined ratio is you roughly 300 basis points, is that mainly higher workers’ comp accident year in particular California?

Ron Pipoly

Well, you know accident years move around, I mean, we are still evaluating 2012 and I mean its always been a tendency that as we move through the years and continue to see the trends throughout the year that our accident year loss [fix] tend to be higher in the first six months and gradually move down over the second six months, don't forget also component of the combined ratio as it relates to small commercial business segment, there's going to be the expense ratio for the new accounting pronouncements in how companies actually calculate and what goes into determining successful acquisitions in the alike is sure to drive up the expense ratio on an overall basis by nearly a point for the second quarter on standalone basis. So that has rippled through to a combined ratio.

Operator

Thank you. The next question is from Bob Farnam of KBW. Your line is open.

Bob Farnam - KBW

I think just one more kind of going along the same question there. So it looks like the 5.7% rate increase in worker’s comps doing great, just want to know what you see in terms of loss trend and how much in excess is the premium trend?

Ron Pipoly

Hi Bob its Ron again. In terms of loss trends we have seen -- from a frequency perspective we have seen a slight flattening and actually a slight decline in frequency. Severity has been manageable certainly within our expectations. So especially when you look at the overall business mix and our continued focus on small low heads of business, business in which 77% of our clients continue to be medical only. We feel that the 5.7% overall rate increase is going to lead the very startled results for that segment and worker’s comp in particular.

Bob Farnam - KBW

Do you see the combined ratio coming down or at least the loss ratio coming down?

Ron Pipoly

Well I think from a loss ratio, I mean we'll continue to see. We evaluated on a monthly basis all lines of our business not just comp but everything that we do regardless of whether it’s domestically or in internationally and we will continue to what we see in trends. I mean I am encouraged by what we've seen through July.

But again we are not going to start comment on monthly movements or monthly activity. And then also I think from a loss ratio perspective, I think or almost right now, the loss ratio, expense ratio perspective I think the third quarter will probably show improvement over the second quarter, just in fact that you are starting to run through all the changes of the DAC and it’s making its way through the income statement.

Bob Farnam - KBW

And one question for Barry, it sounds like there is still lot of M&A opportunities out in the pipeline, since like it's pretty good, anything in particular seeing there that's been shopped?

Barry Zyskind

And anything particular. In general, I think you have two things going on. I think as you mentioned in the last call obviously some of competitors having some issues with reserves and that I think trickles down to lot of the smaller players at all as well some of the MGAs out there or some of the wholesalers are looking to replace markets. I think there's a lot of momentum, lot of the deal flow.

In Europe particularly I think people are little bit scared because of all of the economic euro issues. I think we see that as an opportunity to sort of in a contrarian play for the lines of business we are in and for the infrastructure we have, we think we could be able to do acquisitions and nearly, be able to put them on our infrastructure and gain some higher percentage of market share.

And some of the extended warranty and specialty risk. So I think we are very busy looking at lot of things and we hope to put our capital to work and we think this is the time in the next couple of years after an extended soft market. We think that's when there is really opportunities to buy things well, buy them at the right price and really get the economies of scale and be able to put in our infrastructure and have a low expense ratio. So that's something we are looking at very aggressively and we hope to be able to execute on that.

Operator

There are no further questions at this time. I will turn the call back over to Mr. Gross for closing remarks

Hilly Gross

Thank you and that concludes second quarter earnings conference call. We at AmTrust Financial’s thank all of you for taking the time out to join us this morning and we wish you a very pleasant day. Thank you

Operator

Ladies and gentlemen this concludes the program. You may now disconnect. Good day.

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