RLI CORP – 10-Q – Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934 appear
throughout this report. These statements relate to our current expectations,
beliefs, intentions, goals or strategies regarding the future and are based on
certain underlying assumptions by the Company. These forward looking statements
generally include words such as "expect," "predict," "estimate," "will,"
"should," "anticipate," "believe" and similar expressions. Such assumptions are,
in turn, based on information available and internal estimates and analyses of
general economic conditions, competitive factors, conditions specific to the
property and casualty insurance and reinsurance industries, claims development
and the impact thereof on our loss reserves, the adequacy and financial security
of our reinsurance programs, developments in the securities market and the
impact on our investment portfolio, regulatory changes and conditions and other
factors. These assumptions are subject to various risks, uncertainties and other
factors, including, without limitation those set forth in "Item 1A. Risk
Factors" within the Annual Report on Form 10-K for the year ended December 31,
2022 and Part II within this report. Actual results could differ materially from
those expressed in, or implied by, these forward looking statements. We assume
no obligation to update any such statements. You should review the various
risks, uncertainties and other factors listed from time to time in our
Securities and Exchange Commission filings.

OVERVIEW

RLI Corp. is a U.S.-based, specialty insurance company that underwrites select
property and casualty insurance through major subsidiaries collectively known as
RLI Insurance Group (Group). Our focus is on niche markets and developing unique
products that are tailored to customers' needs. We hire underwriters and claim
examiners with deep expertise and provide exceptional customer service and
support. We maintain a highly diverse product portfolio and underwrite for
profit in all market conditions. In 2022, we achieved our 27th consecutive year
of underwriting profitability. Over the 27-year period, we averaged an 88.2
combined ratio, allowing us to provide shareholder returns from three possible
sources: the underwriting income itself, net investment income from our
investment portfolio and long-term appreciation in our equity portfolio.

We measure the results of our insurance operations by monitoring growth and
profitability across three distinct business segments: casualty, property and
surety. Growth is measured in terms of gross premiums written, and profitability
is analyzed through combined ratios, which are further subdivided into their
respective loss and expense components.

The property and casualty insurance business is cyclical and influenced by many
factors, including price competition, economic conditions, natural or man-made
disasters (for example, earthquakes, hurricanes, pandemics and terrorism),
interest rates, state regulations, court decisions and changes in the law. One
of the unique and challenging features of the property and casualty insurance
business is that coverages must be priced before costs have fully developed,
because premiums are charged before claims are incurred. This requires that
liabilities be estimated and recorded in recognition of future loss and
settlement obligations. Due to the inherent uncertainty in estimating these
liabilities, there can be no assurance that actual liabilities will equal
recorded amounts. If actual liabilities differ from recorded amounts, there will
be an adverse or favorable effect on net earnings.

The casualty portion of our business consists largely of commercial excess,
personal umbrella, general liability, transportation and executive products
coverages, as well as package business and other specialty coverages, such as
professional liability and workers' compensation for office-based professionals.
We also assume a limited amount of hard-to-place risks through a quota share
reinsurance agreement. The casualty business is subject to the risk of
estimating losses and related loss reserves because the ultimate settlement of a
casualty claim may take several years to fully develop. The casualty segment is
also subject to inflation risk and may be affected by evolving legislation and
court decisions that define the extent of coverage and the amount of
compensation due for injuries or losses.

Our property segment is comprised primarily of commercial fire, earthquake,
difference in conditions and marine coverages. We also offer select personal
lines policies, including homeowners' coverages. Property insurance results are
subject to the variability introduced by perils such as earthquakes, fires,
hurricanes and other storms. Our major catastrophe exposure is to losses caused
by earthquakes, primarily on the West Coast, and wind storms to commercial
properties throughout the Gulf and East Coast, as well as to homes we insure in
Hawaii. We limit our net aggregate exposure to a catastrophic event by managing
the total policy limits written in a particular region, purchasing reinsurance
and maintaining policy terms and conditions throughout insurance cycles. We also
use computer-assisted modeling techniques to provide estimates that help the
Company carefully manage the concentration of risks exposed to catastrophic
events.

                                       22

  Table of Contents

The surety segment specializes in writing small to medium-sized contract surety
coverages, including payment and performance bonds. We offer a variety of
commercial surety bonds for medium to large-sized businesses across a broad
spectrum of industries, including the financial, healthcare as well as on and
offshore energy, petrochemical and refining industries. We also offer
miscellaneous bonds including license and permit, notary and court bonds. Often,
our surety coverages involve a statutory requirement for bonds. While these
bonds typically maintain a relatively low loss ratio, losses may fluctuate due
to adverse economic conditions affecting the financial viability of our
insureds. The contract surety product guarantees the construction work of a
commercial contractor for a specific project. Generally, losses occur due to the
deterioration of a contractor's financial condition. This line has historically
produced marginally higher loss ratios than other surety lines during economic
downturns.

The insurance marketplace is competitive across all of our segments. However, we
believe that our business model is built to create underwriting income by
focusing on sound risk selection and discipline. Our primary focus will continue
to be on underwriting profitability, with a secondary focus on premium growth
where we believe underwriting profit exists, as opposed to general premium
growth or market share measurements.

Key Performance Measures

The following is a list of key performance measures found throughout this report
with their definitions, relationships to GAAP measures and explanations of their
importance to our operations.

Underwriting Income

Underwriting income or profit represents one measure of the pretax profitability
of our insurance operations, and is derived by subtracting losses and settlement
expenses, policy acquisition costs and insurance operating expenses from net
premiums earned, which are all GAAP financial measures. Each of these captions
is presented in the statements of earnings but is not subtotaled. However, this
information is available in total and by segment in note 6 to the unaudited
condensed consolidated interim financial statements in this quarterly report on
Form 10-Q, and in note 12 to the consolidated financial statements in our 2022
Annual Report on Form 10-K, regarding operating segment information. The nearest
comparable GAAP measure is earnings before income taxes which, in addition to
underwriting income, includes net investment income, net realized gains or
losses, net unrealized gains or losses on equity securities, general corporate
expenses, debt costs and our portion of earnings from unconsolidated investees.
A reconciliation of net earnings to underwriting income follows:

                                                       For the Three Months
                                                         Ended March 31,
(in thousands)                                          2023          2022
Net earnings                                         $    98,811   $   47,923
Income tax expense                                        23,980       10,602
Earnings before income taxes                         $   122,791   $   58,525
Equity in earnings of unconsolidated investees           (3,923)      (8,759)
General corporate expenses                                 4,214        3,363
Interest expense on debt                                   2,008        2,010
Net unrealized (gains) losses on equity securities      (15,496)       27,810
Net realized gains                                      (14,620)      (5,588)
Net investment income                                   (27,084)     (17,883)
Net underwriting income                              $    67,890   $   59,478


Combined Ratio

The combined ratio, which is derived from components of underwriting income, is
a common industry performance measure of profitability for underwriting
operations and is calculated in two components. First, the loss ratio is losses
and settlement expenses divided by net premiums earned. The second component,
the expense ratio, reflects the sum of policy acquisition costs and insurance
operating expenses divided by net premiums earned. All items included in these
components of the combined ratio are presented in our GAAP consolidated
financial statements. The sum of the loss and expense ratios is the combined
ratio. The difference between the combined ratio and 100 reflects the per-dollar
rate of underwriting income or loss.

                                       23

  Table of Contents

Critical Accounting Policies

In preparing the unaudited condensed consolidated interim financial statements,
we are required to make estimates and assumptions that affect the reported
amounts of assets and liabilities and the disclosures of contingent assets and
liabilities as of the date of the financial statements and the reported amounts
of revenues and expenses for the reporting period. Actual results could differ
significantly from those estimates.

The most critical accounting policies involve significant estimates and include
those used in determining the liability for unpaid losses and settlement
expenses, investment valuation, recoverability of reinsurance balances, deferred
policy acquisition costs and deferred taxes. For a detailed discussion of each
of these policies, refer to our 2022 Annual Report on Form 10-K.

There have been no significant changes to critical accounting policies during
the year.

RESULTS OF OPERATIONS

Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022

Net premiums earned for the Group increased 14 percent, driven by growth from
our property and casualty segments. Positive market performance resulted in $15
million of unrealized gains on equity securities in the first three months of
2023, while overall market declines resulted in $28 million of unrealized losses
in our equity portfolio in 2022. Investment income was up 51 percent, due to an
increased average asset base and higher interest rates relative to the
prior year. Realized gains during the first three months of 2023 were comprised
of $2 million of realized gains on equity securities, primarily due to
rebalancing within our equity strategies, $2 million of realized losses on the
fixed income portfolio and $14 million of realized gains from the payout of the
working capital escrow from our sale of Maui Jim, Inc (Maui Jim). This compares
to $6 million of realized gains on the equity portfolio and less than $1 million
of realized losses on the fixed income portfolio in the previous year.