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HCI Group, Inc. (NYSE:HCI)

Q4 2013 Earnings Conference Call

March 4, 2014 4:30 PM ET

Executives

Kevin Mitchell – VP, IR

Paresh Patel – Chairman and CEO

Richard Allen – CFO

Analysts

Robert Paun – Sidoti & Company

Casey Alexander – Gilford Securities

Christine Valley – JMP Securities

Cliff Orr – JAM Capital Partners

Lee Matheson – Broadview Capital Management

Operator

Greetings and welcome to the HCI Group, Inc. Fourth Quarter and Full Year 2013 Earnings Conference Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder this conference is being recorded.

I would now turn the conference over to Mr. Kevin Mitchell, Vice President of Investor Relations. Thank you. Mr. Mitchell you may begin.

Kevin Mitchell

Thank you, and good afternoon. Welcome to the HCI Group’s fourth quarter and full year 2013 earnings call. With me today are Paresh Patel, our Chairman and Chief Executive Officer, Richard Allen, our Chief Financial Officer and Scott Wallace, President of our Insurance Division. Following Paresh’s opening remarks Richard will review our financial performance for the quarter and fiscal year and then turn the call back to Paresh for a brief update and business outlook. Finally we will open up the call for your questions.

To access today’s webcast, please visit the Investor Relation section of our corporate website at www.hcigroup.com.

Before we begin I would like to take the opportunity to remind our listeners that today’s presentation and responses to questions may contain forward-looking statements made pursuant to the Private Securities Litigation Reform Act of 1995. Words such as anticipate, estimate, expect, intend, plan and project and other similar words and expressions are intended to signify forward-looking statements.

Forward-looking statements are not guarantees of future results and conditions but rather are subject to various risks and uncertainties. Some of these risks and uncertainties are identified in the company’s filings with the Securities and Exchange Commission. Should any risks or uncertainties develop in to actual events these developments could have material adverse effects on the company’s business, financial condition, and results of operation. HCI Group, Inc. disclaims all the obligations to update any forward-looking statements.

Now I would like to turn the call over to Paresh Patel, our Chairman and Chief Executive Officer. Paresh?

Paresh Patel

Thank you, Kevin, and good afternoon everyone. As Richard will expand on shortly, we reported outstanding results for the three months and fiscal year ended December 31, 2013. Business highlights for the quarter were; one, we received approval from the Florida Office of Insurance Regulation to offer flood insurance coverage to our Florida’s policyholders. And in January of this year we sold our first policy with flood coverage.

Two, we raised $103 million through the issuance of senior convertible notes in December. The notes are unsecured, bear interest at a rate of 3.875% annual and are due in 2019. They are convertible into common shares at a price of $62.47 per share but only after the occurrence of certain events. This offering strengthens our cash position and may enable us to capitalize on further growth opportunities should they rise.

Three, additionally in November 2013 we assumed approximately 34,000 policies from Citizens Property Insurance Corporation, a Florida state-owned insurance company.

Fourth, we increased our regular common dividend by 22% to $0.27.5 per common share per quarter.

Before I go on I would like to turn the call over to our CFO Richard Allen to walk us through our financial performance for the fourth quarter and fiscal year 2013. Richard.

Richard Allen

Thank you, Paresh and good afternoon everyone. For the fourth quarter of 2013 income available to common stockholders totaled $15.5 million or $1.31 diluted earnings per common share. This is an increase of 19% and 10% respectively from $13.1 million or $1.19 diluted earnings per share for the fourth quarter of 2012. For the year-ended December 31, 2013, income available to common stockholders totaled $65.5 million or $5.63 diluted earnings per common share. This compares to $29.8 million or $3.02 diluted earnings per common share in 2012.

Net premiums earned for the fourth quarter of 2013 increased 28% to $63.4 million from $49.6 million in the fourth quarter of 2012. For fiscal 2013 net premiums earned increased 48.6% to $234.2 million from $157.7 million in 2012. For the fourth quarter and year 2013 a benefit of $5.7 million and $12.5 million was recognized respectively resulting from the multi-year retrospective reinsurance treaties as has been discussed in prior earnings calls.

Our loss ratio applicable to the fourth quarter of 2013, which we define as losses and loss-adjustment expenses related to gross premiums earned was 18.9% compared with 22.1% in the fourth quarter of 2012. For the full year of 2013 the loss ratio was 19.3% compared with 28.4% in 2012. The expense ratio applicable to the fourth quarter of 2013, which we define as underwriting expenses, interest and other operating expenses related to gross premiums earned totaled 24.8% compared with 19.6% in 2012.

The expense ratio applicable to 2013 was 20.6% compared with 20.2% in 2012. Expressed as a total of all expenses related to gross premiums earned, the combined loss and loss expense ratio to gross premiums earned in the third fourth quarter of 2013 was 43.7% compared with 41.7% in the previous year period. For 2013 the combined loss and expense ratio to gross premiums earned was 39.9% compared with 48.6% in 2012.

The improvements in these ratios reflect a significant increase in gross premiums earned and continued favorable trends in costs related to our loss and loss adjustment expenses. We constantly monitor claim activities for developments of trends and frequency, severity and causes of loss for the potential impact on incurred loss and loss expenses.

Investments in fixed maturity and equity securities totaled $129.8 million at December 31, 2013, an increase from $44.8 million at December 31, 2012. During the fourth quarter we added approximately $64 million to our investments in fix maturity securities. Total stock holders’ equity at December 31, 2013 was $160.5 million compared to $121.5 million at December 31, 2012, an increase of 32.4%.

Net book value per share has increased to $14.68 at the end of December 2013 from $10.93 per share at the prior year-end. We are pleased with these results for the fourth quarter and full year of 2013 and remain committed to increasing shareholder value in future periods.

Now I’d like to turn the call back over to Paresh.

Paresh Patel

Thank you Richard. 2013 was another record year for our company. As our results demonstrate the operational momentum we established in the past continued throughout the year. Our core business delivered profitable results as we remained focused on applying our strict underwriting standards and minimizing operating cost while providing our policy holders with the highest level of service.

Just to put this in the perspective I think the pretax earnings for 2013 are about two times the market cap of the company about three years ago, that’s an outstanding rate of growth. Our entry into the flood insurance space at a time while Florida residence are facing drastic increases in their flood premiums further distinguishes Homeowners Choice from other companies in Florida. It helps to build upon the image of the brand and we think it’s going to pay off dividends in the future.

Looking forward our consistent profitable core business coupled with our strong and ever growing cash position allows us to patiently seek accretive growth opportunities, while we are being amply rewarded for being patient until that opportunity arrives.

With that we are ready to open the call for your questions. Operator, please provide the appropriate instructions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question is from [Aras Sulemani] of KBW. Please go ahead.

Unidentified Analyst

Hi, thank you. I had a couple of questions, in terms of registration for flood I was just wondering if you could provide an update on that and more specifically if it turns out that rate increases they can’t bear will that significantly I guess prohibit you from operating in that space?

Paresh Patel

Good question, I don’t know if it’s – in terms of the legislation that’s pending. They keep saying it’s on again and off again so it’s an interesting situation to watch. So who knows what Congress will do. As far as let’s take the scenario where they push up the rate increases, the rates that we’ve set are actually [pretty good] at those rates so we would still be competitive with the NFIP even they repeal big at waters. If they don’t put in a glide path or any of those kinds of things we are just debating degrees of cost advantage that we would have over the federal flood programs.

So in most events our ability to offer flood insurance would be more competitive than NFIP in every scenario that is currently being considered.

Unidentified Analyst

Okay great thanks. And also just given the overall increase in your share price over the last twelve months is equity financing something that comes on your radar at all or you think that’s not in your future plans at the moment?

Paresh Patel

Again, good question, we never say never, but I think as the last two financing rounds that we have done would seem to indicate we tend to be looking more towards debt financing as it goes to equity financing and frankly speaking I think we look at with a very jaundiced eye at the – at the thought of diluting our existing shareholders, by doing more equity offerings et cetera.

Unidentified Analyst

Right, in terms of the increase within your fixed income investments during the quarter can you just provide the duration on that portfolio?

Paresh Patel

I think the duration of that portfolio is actually five to seven years, it isn’t really that far out. The other side of that obviously is that in terms of the numbers Richard put forward you are starting to see some increase in investment income as we put cash to work. As we’ve stated in previous calls it’s a work in progress and it will slowly build over time. But it’s a new profit center that will hopefully open up over the course of 2014 for us.

Unidentified Analyst

Okay, great and then just finally in terms of the expense ratio I know in the release you mentioned that went up a bit due to some compensation expenses. I just want to know if you could elaborate that a bit just because with the growth in earned premiums I hope that would offset some of that a bit but you can just elaborate a bit on that please?

Paresh Patel

Yeah and very basically I think personally speaking I am responsible for some of that, given the bonus, I think the Board granted me. So that’s part of it. The bigger – terms of it that also goes on is that we’ve been in order to find management interest along with shareholders we have been granting some restricted shares to basically everybody in the membership as a management team and that while it being a non-cash charge does accumulate in expense ratio, correct Richard.

Richard Allen

Correct.

Unidentified Analyst

Okay, great, thank you so much for the answer.

Operator

Thank you. The next question is from Robert Paun of Sidoti & Company. Please go ahead.

Robert Paun – Sidoti & Company

Good afternoon.

Paresh Patel

Good afternoon, Robert.

Robert Paun – Sidoti & Company

Can you talk about the loss experience in the quarter and more specifically about the absolute claim terms, if I remember correctly last fourth quarter you experience sizable drop in total claims. How was your experience this quarter compared to a year ago?

Richard Allen

When you consider the increase in overall exposures quarter-to-quarter there was a drop fourth quarter last year, a slight increase this year when compared to the fourth quarter of last year but it was commensurate, it was stable with the prior quarter this year. The actual severity of losses has not increased. In the fourth quarter the frequency was up a little bit but it was steady with rest of the year.

Robert Paun – Sidoti & Company

Okay, thanks. I also had a question on pricing. There’s been talk about downward pressure on Florida rates. What are your thoughts on industry pricing and given your profitability in the last few years have you had any push backs from agents on some of your rates?

Paresh Patel

Robert, its Paresh. The answer to that question really rates are set through a rate filing profits. Obviously we are a regulated entity and we are about due to put a rate file again even as we speak. Generally speaking, so rate price inflation do not so [inaudible] agents as much as either competition or regulated. Given where the industry is currently and given how 2013 has shaped up, I think the industry as a whole and us included are looking at probably flat to lower pricing in our next rate filings.

I think we should be seeing a similar number for us. Obviously it takes 90 days or so after we file to sort of really what the final agreed rate is with the regulators but I would expect our rates to be flat on a slightly downward trajectory going forward, at least at the current, given the current state of circumstances.

Robert Paun – Sidoti & Company

Then just one more, I know your due process is approaching and I wanted to ask about the upcoming reinsurance contract. I am sure you are starting to begin discussions with some reinsurers. I was wondering if you could comment on how those discussions are coming along and has your thinking changed at all with the softening of pricing in the reinsurance market? Any comments there would be helpful.

Paresh Patel

Simple comments in terms of upcoming conversations, yes there was a general belief that reinsurance base in [June 1] would be softer than last year, obviously depending on your perspective as to what degree of discount is going to be over last year on a per unit of reinsurance so the prices are coming down.

Against that, from our perspective you also have other things playing out such as we have a bigger book, so we will probably be buying more units of reinsurance. Third item that’s been talked about I think in some of the other conference calls has been about the new demo tech memo that came out in December which is I think, compelling everybody to buy more units of insurance on an apples-to-apples basis for last year.

And then finally what’s the fourth item that plays in our reinsurance expenditure on June 1 is going to be the ongoing effects of our multi-year contracts that we already have in place which as reinsurers all over actually contribute positively towards ordinary reinsurance expenses. So given all of those different things falling in different directions at least our initial expectations are that as a percentage of growth revenue we do not expect reinsurance to change that much year-over-year.

Robert Paun – Sidoti & Company

Okay, thank you.

Paresh Patel

Obviously subject to contract negotiations and all the caveats that are controlling that, yeah.

Robert Paun – Sidoti & Company

Right, right. Thank you very much.

Operator

Thank you. The next question is from Casey Alexander with Gilford Securities. Please go ahead.

Casey Alexander – Gilford Securities

Hi, good afternoon.

Richard Allen

Good afternoon, Casey.

Casey Alexander – Gilford Securities

Now that you have the 34,000 policies from Citizens on the books for a few months, how is it selling out in terms of the retention of those policies and what is working out to be sort of the average premium per policy?

Paresh Patel

Casey off hand we are doing our usual stuff of retaining approximately 90%. So when we assume 34,000 we do take a first month hit because people still have 30 days to opt out. So I think we are down to what we would expect around 32,000 mark, 32,500 mark and I think if past experience is anything to go by we will probably retain approximately at the end of the year, flat 30,000 of these people still as customers. Just roughly that kind of range we’re looking at.

In terms of the average price per policy I think it came in around 2,250, yeah something like that, in that nature. It’s slightly different lower number than it was in the 2012 take out and the reason for that is the policy mix in this case includes lot more dwelling and fire policies than 2012 did.

Casey Alexander – Gilford Securities

Okay. All right, great. Secondly, in the other operating expense line is there any one time to sort of the increase in other operating expense or is this number that we are looking at sort of reasonable go forward rates?

Richard Allen

What’s in the other operating expense line for this year Casey is…

Casey Alexander – Gilford Securities

I am looking for the quarter.

Richard Allen

For the quarter?

Casey Alexander – Gilford Securities

Yeah.

Richard Allen

For the quarter, Paresh kind of hit it on the head when he answered the gentleman from KWB’s phone call. There are some things in there for bonuses for some staffs, some stock compensation cost.

Paresh Patel

So I think what Rich is trying to say I don’t expect that that’s the number that’s going to be the same number going forward.

Casey Alexander – Gilford Securities

Okay well, that’s what I am trying to figure out is, are you accruing for that over the course of the year or did the vast majority of that get dumped into one quarter?

Richard Allen

We accrued for some of it and a large portion of it got accrued in the fourth quarter.

Casey Alexander – Gilford Securities

All right, that’s helpful. On Florida underwriting assume that there is no change in legislation and things go as you expect, at what point in time would you expect the flood business to start to show up in sort of the revenue and earnings of the company and start to make a tangible difference, because really you wrote the first policy that was one policy, so this is not like you take down from Citizens where you know a massive amount of policy comes online at one time, this is more of an organic growth. How long is it going to take for that to make a measureable difference for you, gross premiums and earnings per share?

Paresh Patel

Probably by the end of the year. It depends at what would you define as meaningful. There was a time when we used to think $10 million is very meaningful. The numbers keep growing bigger but I think if they don’t repeal anything, assuming [seamless] us enforcing Biggert-Waters it is going to start having an effect. And the reason I am saying all these things in that category the way the business is being written by us and how we are getting the business is that people are aware of Biggert-Waters and everything else and it’s an interesting conversation piece. When they received the flood renewal bill some of them will become very [pricey] for the company to have around. It becomes an urgent matter.

So as this thing rolls out it’s going to gather steam, what we have done in January up to now has really been the first the tip of the iceberg, sorry the tip of the spear.

Casey Alexander – Gilford Securities

All right. Last question is since the stock was $16, $17, $18 this year it has been a pretty persistent around $2.2 share short position in the stock which is a pretty high percentage, not only of shares outstanding but certainly a very high percentage of the flow when you think of management positions. Do you have any thought on the short position or explanation for the size of the short position and the persistence of the short position?

Paresh Patel

Casey, generally speaking we tend not to talk about share positions et cetera and as far as the size and rationale of those people unfortunately I think most of them have their own view point so I can’t really comment about but there is one item that I wanted to point out about the short position, are we aware of them? Yes we are because they did a pretty nice article about us right? So we do get back.

The item that has become an mathematical item is that with the issuance of the convertible debt basically in order to raise that debt with certainly the 1.6 million shares of common stock, roughly that works to about $52.47 a share, so we did that in the convertible debt offering and obviously we took that money in, we’ve already bought back about $600,000 shares. So basically the net dilution to the shareholders that will occur out of this transaction on a worse case basis right now is about a million shares. But against that we received about $70 million in cash that we still have.

So if you look at it from that perspective, we clearly can do things such as buy shares at $48 a share and it would be a net positive transaction for the long shareholders, which are the people obviously that we are supposed to take a look at. So one of the interesting things about the short position I think the thesis has been the stock’s overvalued, which is always leaving our people short stuffed ultimately. The industry situation we find ourselves in is that you have – in the hands of management the ability to do a substantial buyback at current share prices and it actually will be beneficial for shareholders.

Casey Alexander – Gilford Securities

Okay. All right. That’s great. Thank you very much and thank you for taking my question.

Paresh Patel

Thank you.

Richard Allen

Thank you.

Operator

Thank you. The next question is from Matt Carletti of JMP Securities. Please go ahead.

Christine Valley – JMP Securities

Hi. This is actually Christine Valley for Matt. I have a couple of sort of numbers questions. First of all on the policy fee income side, it sort of seemed to take a pretty precipitous drop off. Is there anything driving that, is that sort of the sustainable level going forward?

Richard Allen

The big change in 2013 on that was we are recognizing that over the term of the policy now. In 2012 we were recognizing it has received; it was pointed out to us by our auditors that proper method is to recognize it over the term.

Christine Valley – JMP Securities

Okay. So something sort of that 85 level would be a go forward number?

Richard Allen

Correct.

Christine Valley – JMP Securities

Okay. And then sort of same thing but other side of the coin on the other income line, it seemed to take a pretty decent uplift is there anything driving that?

Richard Allen

A large part of the income is fully disclosed in our K, which hasn’t been filed yet is a large piece of the real estate operations and we showed a profit in some of the real estate pieces for this last quarter.

Christine Valley – JMP Securities

Okay. So that was of a one-time nature.

Richard Allen

Yeah. That also includes the results of the Aon settlement that was received in the fourth quarter.

Christine Valley – JMP Securities

Okay. Thank you very much. That’s all I have.

Operator

Thank you. The next question is from [Ted Hamilton of Shefford Investments]. Please go ahead.

Unidentified Analyst

Yeah I had few questions here. First of all how many policies were in force at the end of the year?

Paresh Patel

I believe that number was around 163,000 or so, have cropped out from the November take out.

Unidentified Analyst

Okay. And then in terms of just as a follow up on the policy fee income, did you basically did you just take – was the only recognized 85,000 in quarter was that kind of like a catch up to because of the fact that we took greater amounts in the prior quarter scenario average in the future it’s going to average over a – so it should be fairly equal number. You recognized it all with the term going forward of the policy?

Paresh Patel

Well it should be I guess what I was trying to say is it should be basically as opposed to having the number bounce around like it did in the fourth quarter in 2013 it will be fairly average of all these numbers in the future…

Unidentified Analyst

And then okay one more – couple of more questions. In terms of the cost of the reinsurance group in this coming year I think you indicated that you didn’t expect the rate or the reinsurance to change much. Are you talking about the absolute dollar amount that you pay or the rate that you are going to pay?

Paresh Patel

I’d say the way we tend to think about it on parity is on a percentage of premium in force as of June 1.

Unidentified Analyst

Okay. So you are talking about the rate there. Okay. And then so you would expect it to go up because you are going to have more premiums in force effective June 1?

Paresh Patel

On a dollar basis, yes.

Richard Allen

But the absolute dollar will probably increase somewhat but the rate will be relatively stable.

Unidentified Analyst

Okay. And then lastly how are going to grow in 2014?

Paresh Patel

The question everybody keeps wondering about and I know it causes any degree of concerns out there and people talk about this because how do you do this in the world of Citizens clearinghouses et cetera. I’d like to point out a few basic facts. Citizen clearinghouse is actually having a reverse effect at least from our perspective. We are seeing a lot more quote activity and people wanting to do business voluntarily with us because getting a quote out of this clearinghouse takes so much effort. So we are actually seeing a quite different version of that on a voluntary basis.

The second item that everybody is sort of just concerned about is the Citizens farm [inaudible] out and the interesting thing if you look at our history over the last five years this is a company that has usually strengthened from January from all the way through the end of September even October, but it always finishes the year bigger than it was a year before and fundamentally that hasn’t changed. And I say it that way because if you look at some of our biggest wins, if you like, if you had asked us in March about that event occurring nobody would have said so, for example [Home] wasn’t even on anybody’s radar till mid-August or even in early September in 2011 and there it was a 70,000 policy acquisition by early November.

We had the same situation occur in 2012 and ‘ 13 regarding take outs et cetera. So I think one of these concerns everybody has is about where will you grow from, we ourselves are not worried about it because what we know about the business is March things look one way by the time you get to September the world usually looks very different, because what hasn’t changed is we are about to go through our hurricane season and the interesting thing at this point is whatever we should be aware of is we are positioned to grow really well after our hurricane. So the concerns everybody seems to have about how will you grow is – seems to rely on the fact that there will not be a hurricane, this is Florida we are talking about.

Unidentified Analyst

No, no, no. I was just curious what your claims were so you would expect to be continue to be opportunistic and you think those opportunities will arise?

Paresh Patel

Yeah. We’ll continue to be opportunistic and we’ve got a track record now of – and a history there of that these opportunities do seem to come out on a periodic basis, the only unfortunate part about these opportunities is that they are tough to predict any more than a two or three months in advance. But do they show up with some frequency, they do.

Unidentified Analyst

Okay, great. Thanks.

Operator

Thank you. The next question is from [Brett Hickey from Hickey & Company]. Please go ahead.

Unidentified Analyst

Yes. Actually my first question is your gross [policies] written was up 26% and then your policy acquisition cost were up about 51%. Will that probably start coming down next year went from 6.2 million up to 9.5 million?

Paresh Patel

It should stabilize.

Unidentified Analyst

It’s at 9.5?

Paresh Patel

Around 9.5, at that percentage based on our premium volume.

Unidentified Analyst

Okay. Thanks. And then my last question is you always expected to earn that $1.45, did it quite nicely, can you give any reasons in the sense or two, why?

Paresh Patel

That’s an interesting situation $1.45 I think actually seems to have occurred because I think my good friend Casey upgraded the estimate a few months, few weeks ago. Before that I think the estimate was around $1.32 or so. So we were right in line with that.

Part of the way our business works and we’ve already said that is that there is some degree of volatility to earnings, but we are now in that situation whereby what is considered a, to use a better phrase, a mess for most people, we have fantastic outcomes right. And we have always on the company to look at in the sense of making sure we get a good risk reward blend and we continue to do so as part of the other things that’s we have done on the earnings for the fourth quarter has been, given what a banner 2013 we had.

We wanted to make sure that we sort of took whatever we could in 2013 expenses as you would be part and you would expect to do in these kind of situations. And we weren’t really trying to hit $1.45 about or $1.50 or $1.60, we were trying to make sure that the company well positioned for 2014 which it is.

Unidentified Analyst

Okay and then the last question, your operating expenses you mentioned they went up 50% from a year ago and they’ve started to come down little bit, next quarter or this quarter we are in?

Richard Allen

Yes.

Paresh Patel

Yeah I think the other thing if you’d look at those operating expenses when you get the K I should try to drill down as to how much of it is cash expenses versus…

Richard Allen

How much cash, how much is related to the stock compensation, there is a myriad of things in that category.

Paresh Patel

And a large chunk of that is because of non-cash expenses in those costs, grants et cetera. Part of the situation we are seeing in that is we are taking big charges of that because the share prices aren’t so well. And if you are granting the same amount of shares with the share price at $10 it will be a very different number.

Unidentified Analyst

Right, are you all getting – is it on the number of shares is that weighted so a $1.05 just primarily?

Paresh Patel

I think it’s to do with what the share price is at the date of the grant regardless of the duration of the grant et cetera. It’s basically a mathematical calculation is done, based on number of shares and the share price and obviously the projected share price. And once that’s locked in, it’s locked it and amortized over some length of time.

Richard Allen

Depending on the conditions of the grant there is either a Black-Scholes or a Monte Carlo method that are used to value these as of the grant date. And there is a lot of variables that go into those.

Paresh Patel

Yeah, and an interesting manner this is being done on the grant date as opposed to at a date when….

Richard Allen

Vesting date.

Unidentified Analyst

Okay, thank you very much.

Operator

Thank you. The next question is from Cliff Orr of JAM Capital partners. Please go ahead.

Cliff Orr – JAM Capital Partners

Good afternoon, thanks for taking my call. First question how does book value decrease by about $6 million, what was going with the [Epic]?

Richard Allen

Epic, partially due to the long term debt that was issued in December.

Cliff Orr – JAM Capital Partners

On the book value or the share back.

Richard Allen

Yeah, the buyback that was $29 million impacted on Epic that’s offset by a $15 million deferred tax and then a – no, excuse me, yeah that’s correct equity component on the convertible debt and the deferred taxes on the debt discount all amounted to decreasing that approximately $15 million.

Cliff Orr – JAM Capital Partners

Okay so this $29 million buyback those were in open market?

Richard Allen

Yes.

Paresh Patel

Actually let me clarify that, I think it was done through a forward contract, prepaid forward contract.

Richard Allen

Yeah, prepaid forward contract.

Paresh Patel

Yes and I am sort of clarifying that because I don’t want anybody to sort of have the impression that somebody was out there on our behalf actually buying back the appropriate 600,000 shares. We just did a forward contract with Deutsche Bank, I believe was the party and so where they’ve gone in and bought back shares in either – whatever we wouldn’t be preview to that.

Cliff Orr – JAM Capital Partners

Okay, all right, so the form that you executed with them sort of resulted in them offsetting that in the open market.

Paresh Patel

They may or may not – where they did buy those shares in the overall market or not of would be speculation on our part.

Cliff Orr – JAM Capital Partners

Okay fair enough. Paresh you had made a comment about – from the deals of the Clearinghouse you’ve notice it’s becoming given some sort of voluntary quotings from customers who may be been dissatisfies with that process. Could you define a little bit that further?

Paresh Patel

Sure I can the part of the thing with the Clearinghouse is that the Clearinghouse isn’t a quoting mechanism as much as it is an offer of coverage mechanism. It seems like the difference between those two statements what it is, is that in a quote you are just trying to give somebody an idea as to what something would cost. An offer of coverage basically says here is my price and if you sign here you at least have that for 30 days. So consequently to do that offer of coverage they get into a lot – each carry involvement with Clearinghouse that’s a lot more concern and focus on making sure all the questions have they need answer are answered before they offer – before this offer of coverage is made.

So consequently one of the things that’s happening in the Clearinghouse is that somebody applying for – looking for a coverage has to go through 80 questions before they get a quote. When they call a quote, what citizens would call an offer of coverage. Clearly this takes a long period of time and you get asked a lot of questions when you go – I just want to know what the price is, why are you asking me these other questions, all these causes that an consternation of how to use it.

It isn’t to say it’s good or bad, this is a fact of life yeah. So in that environment the fact you can come to Homeowners Choice and get a quote in five minutes creates a different kind of differentiation yeah?

Cliff Orr – JAM Capital Partners

Okay so dissatisfaction with the Clearinghouse process is driving people to you guys…?

Paresh Patel

I would say that we are seeing early signs of that right. The Clearinghouse has only been in effect for a month, but so far Clearinghouse opens up, we see an uptick in business.

Cliff Orr – JAM Capital Partners

Are you – any thoughts of going in – entering the Clearinghouse house as a participant?

Paresh Patel

Sorry can you repeat the question?

Cliff Orr – JAM Capital Partners

Any thoughts of entering the Clearinghouse as a participating company?

Paresh Patel

See this is on a plan whereby they are bringing people on a staggered basis, they brought the first four carriers on that, they will bring the rest, the next chunk and then so on. The first 20 carriers that have been scheduled have been laid all the way I think someone to late July and we are not on that list. So somewhere down the road may – would we join the Clearinghouse, quite possibly but it is at a minimum several months away.

And to put that into perspective why for us that also make sense and we did this in conjunction with Citizens, so I don’t want to give this impression that we didn’t want to join or they said no or whatever. We run a business model, as I said it before that our business tends to be stable or on a slightly downward trajectory from January through the – from the end of September. So given that kind of period of time it will be very unlikely that we would be sitting there taking lots of the policies from the Clearinghouse even if we were already timed on onboard and there was lots of available business, it’s just doesn’t fit our business model.

We had a conversation with Citizens and we sort of moved towards the end or back of the queue, yeah.

Cliff Orr – JAM Capital Partners

Okay and then lastly, you gave that your previous commentary around really the sort of intra year trajectory in policy counts and how it all naturally adds into the call phase out right? I wanted to understand on the logically the dynamics [will stay the] same – has changed somewhat particularly how one, we are going to have less policies and two those that are new out of Citizen are going to leave a smaller policy count within Citizens and third policies should be relatively like attractive from a price risk perspective.

And so given that dynamics how do you think about being opportunistic and this is admittedly different operating dynamic whereby Citizen’s may not have large policies are the equivalent attraction in that [Inaudible]?

Paresh Patel

Great question. We have sort of accomplished staying hedged in a number of different ways. If you go with the scenario you are suggesting that Clearinghouse is a great success, policies don’t go in there, enters and shrinks, oh my god what will we do next. Couple of counter points to that; one, is this whole idea of Citizen shrinking Clearinghouse et cetera all of this is being projected in a straight line assuming that there is no storms.

One storm and Citizens is going to increase in size very, very quickly. It’s just what tends to happen in storm. This is not a great prediction on my part. You just got to go back and look after every storm what has happened in Florida over the last 20 years. This idea was approved in fixed out or not fixed out changes in the space of 10 days if there is a storm. So that item says what you are looking at this moment in time is not something you should be there for projecting forward for any length of time especially with wind season coming up. So that’s item one.

Item two is we have already taken steps to move in a different direction. When we are doing this combined flood, wind policy the folks that are now starting to be affected and that number is going to grow assuming Congress doesn’t repeal this thing just by that sheer nature of that we are seeing a market differentiation of the Homeowners Choice brand. Now if Biggert-Water doesn’t get repealed obviously there will be a group of customers who will come to us because they need us to desperately help them out and we’ll be glad to do so.

What is even bigger and that is also occurring is because we took the initiative to step up and solve this flood problem and actually stand up for these folks when everybody in Congress and everybody just sat around the matter it is creating a tremendous wave of goodwill for the company in Florida because people seem to understand that do you want to be with an insurance carrier who looks at whenever you have an issue and say it’s not my problem or is trying to say my policyholders are people that we care about and we try to take care of whenever we can.

So this whole thing of going in the flood business has ramifications and opportunities which go beyond the simple economics of the flood business itself. We are being finally perceived as the insurer of first choice. As [inaudible] tries to be the insurer of last choice we are trying to go the other way. So all of these items do add up. And then the final item is imagine all of these things don’t happen and then what will you do? Well I do point out that as I said earlier in my opening commentary that we are looking at a business that last year, if we just continue on into this year just from that pulling through projections is on a pre-cash basis earning a number that is significantly greater than even what the market cap was a few years ago.

Given this degree of cash flow you just got to be very patient till the next opportunity comes along and it will come along.

Cliff Orr – JAM Capital Partners

And following up on the flood insurance just to understand the distribution strategy there, that’s through the insurance policy holder base?

Paresh Patel

Sorry. You were breaking. Can you repeat the question?

Cliff Orr – JAM Capital Partners

Just to understand the distribution strategy around flood insurance that is targeting the current HCI policy base as a retention mechanism in large part?

Paresh Patel

Actually, since we announced that we are doing this people are randomly calling us up because they hear about it and they say we would like to switch to HCI. So we are getting as many phone calls, not from our customer base as we are getting from the other 96% of the Florida marketplace that is not our customer base.

Cliff Orr – JAM Capital Partners

All right, well thank you. I appreciate your time and answers.

Paresh Patel

Thank you.

Operator

Thank you. The next question is from Lee Matheson of Broadview Capital Management. Please go ahead.

Lee Matheson – Broadview Capital Management

Good afternoon guys.

Paresh Patel

Good afternoon.

Richard Allen

Good afternoon.

Lee Matheson – Broadview Capital Management

So couple of questions, I guess just to summarize on some of the things you said about where you take this business next I mean in the event that the clearing housing eliminates the ability for you to do large, large take out transactions. I guess at this point in terms of running voluntary business in Florida do you guys have and you are currently not really writing any voluntary business, do you have the relationships in place to get the broker’s community on site to get that going?

Paresh Patel

We have 4,000 agents under contract who we send a commission check to every month. I think we have network.

Lee Matheson – Broadview Capital Management

Okay but I mean you are obviously not. What you miss with that obviously is you are never going to take a call it 15% commission that you are now currently paying on the take out policy and you are not going to be able to recognize the take out in [one chunk] and kind of the play seasonal arbitrator you are able to do under the depots. And I guess from how do you back, obviously you guys have come a long way and have been tremendously successful but how do you back in from being you know 3.5 times tangible book stock to just going to be kind of a run of the mill traditional loan carrier, reinsurance underwriter in the Florida markets?

Paresh Patel

Let me answer the question in number of different ways. One, if you were to look at what our run of the mill numbers look like, look at our third quarter numbers because that was our full reinsurance load and a full commission load and everything else, that’s a recurring revenue stream. That isn’t exactly – we are not exactly running at 96% loss combined ratio or anything else, this is very profitable business just on the renewal basis.

We have already crossed that threshold. So we have got that as a basic item. Second item I think you said that you know when we write a voluntary business we will pay 15% commission but we will not pay that in Citizens. In reality, all renewals that we are trying to get – pay a commission advantage is the first year of an assumption. As soon as the policy renewals we are paying the agents the same commission rate as they voluntary drive the business with us so there isn’t really that huge of a price differential.

Now third item is yeah, do we have a – doing a take out more advantages than doing voluntary? Absolutely. Interesting situation about this is we have been saying that for seven years and for five and half of the seven years everybody else sort of told you how bad that business was and now everybody is concerned that that terrible business is going away. By the time everybody has jumped on board we will already have fished out Citizens for the stock that we needed.

So in reality for us we have an advantage of most of the competition that we can really post very good numbers just by maintaining the status quo. Everybody else has to do something to have an incremental growth outlook. And as far as pipe to book et cetera, look at ROE. You have a business that’s putting in ROE that is of a very, very different nature and this is in a world with the 40% tax bracket.

Lee Matheson – Broadview Capital Management

Sure.

Paresh Patel

So when you look at all of things yes at this moment in time do you think the business, if you had given the number we just posted for 2013 are you expecting 2014 – and 2013 was double 2012, are you expecting 2014 to double on a pretax basis, just imagine.

Having said that even if and I am just saying even I am not making a projection here, even if you only make $80 million pretax in 2014, it would be the second best year in the company’s history and run rings around anybody else in the state and if this is what we’re worried about I think we should step back and take a deep breath because that assumes we sit here and we find no opportunities, nothing happens this thing just rolls along. You do sit – look at our management team that somehow inevitably though has managed to find something to do over the course of the 12 months – nine months that are given here.

Lee Matheson – Broadview Capital Management

Right. I think I guess at the end of the day do you feel that the amount of – to some degree that you – because of your profitability and doing this transaction you may be attracted capital to this space so there’s some degree of arbitrage there with your opportunity to continue exploit that nature of those transactions?

Paresh Patel

Yeah, I think yes we have attracted a certain amount of capital in this space but it hasn’t inherently – the capital coming to our space hasn’t destroyed our profitability it has basically may be limited some degree of our growth, but the interesting thing about this business is one storm can change that in a hurry, a hardening in the market can change this in a hurry as well, yeah.

Lee Matheson – Broadview Capital Management

Yeah. And I guess whenever we look at let’s say the 35,000 in policy takeout that you did more recently versus say, I think it was 60,000 the year before, 70,000 even on a capital base is materially higher than it was. I mean was that an issue just not being able to find enough policy that met your criteria?

Paresh Patel

Absolutely, see this is the way of saying the majority of [inaudible] from our perspective, other people are probably are looking at it as a great opportunity. We could have taken out – we could have 50,000 policies in 2012, we have the capability and the expertise to do it in 2013. The only reason we would have done such a thing is because we also have a discipline of maintaining our underwriting standards, right. It’s not about policy standards it’s about maintaining underwriting discipline because you are about to go into a world where everybody is suddenly going to say value me just because of my growth in the policy count. It isn’t the top line growth that’s important thing it’s your bottom line, right.

Lee Matheson – Broadview Capital Management

So your ideal scenario is essentially – sorry to interject, your ideal scenario is essentially that a big storm comes through in hurricane season, knocks some of the undercapitalized players on to their butts and you sit in and are able to do a very accretive transaction kind of like the Homeowners, one year or a couple of years ago. Is that sort of the best way of summarize how you would kind of move the value needle in a quantum leap in this environment?

Paresh Patel

Well, let me just say one thing about that. The portion [you sort of] say in an ideal situation right, Florida ever getting hit by a hurricane is not something that we ever look forward look forward to or whatever…

Having said that but it does raise all the right conversation pieces. If you are running an insurance company in Florida and if you look back at our business for years gone by, the biggest concern everybody had about being an investor in this company was oh my god what happens if a hurricane hits right. This is always the concern, a knock against Florida insurance carriers. We heard what our shareholders were worried about that and we set out on a step-by-step mission to sit – find a way of putting their minds at ease. And ironic enough I guess we succeeded too well, because the angst in our shareholders at this point is what if Florida doesn’t get hit by a hurricane, right. IF that is your worse concern about this company, right I think you got a pretty good investment.

Lee Matheson – Broadview Capital Management

Okay that’s all from me. Thanks guys.

Paresh Patel

Thanks.

Operator

Thank you. The next question is from [Chris Starkly of Clear Farms]. Please go ahead.

Unidentified Analyst

Hi guys. Thanks for your time today. I appreciate it.

Paresh Patel

Hi.

Unidentified Analyst

I am relatively now to the company here but I was wondering if you could break out how much of the net income you had over the last four, five quarters had been arbitraged out of the Clearinghouse?

Paresh Patel

Clearinghouse only went into business a month ago. So…

Unidentified Analyst

Yeah, the Citizens, sorry I misstated the question, the Citizens policies that you got, what was the contribution of those to the net income line over the last four, five quarters? Just trying to get a sense of normalized net income versus kind of the favorable higher margin policies?

Paresh Patel

Yeah Chris that kind of tough to break out, but let me tell you a simple way that we look at ourselves and I think look at our competitors and everybody else. If you look at everybody’s third quarter numbers that tends to be fully normalized quarter because you have – write the same amount of premium throughout the year – throughout the quarter and it’s been fully reinsured. So if you only take those third quarter numbers and the only thing you have to allow for is there has been any one time storms or anything else in the quarter.

But in the third quarter 2013 there was none of that. Third quarter 2013 would give you a very good understanding of our normalized earnings before the latest take-out but beyond that it gives you a pretty good core underlying business, the new take out would be adding to that. Yeah very simple way of looking at it.

Unidentified Analyst

I guess maybe I am confused here but isn’t that the really the number that you guys provide but what’s the difficulty in just breaking out the line item for your investors?

Paresh Patel

It is actually lot more complicated than that because how much of management overhead dealing applies to your takeout versus your core business?

Richard Allen

How do you want to allocate all the expenses?

Unidentified Analyst

Okay. Great well. I appreciate the perspective there. You mentioned that combined ratio before is – you guys have in front of you, you are in the 70s I think?

Richard Allen

The growth premium, our combined ratio for the year was 39.9 compared to 48.6 for the year 2013. On a net basis it’s approximately – it’s in the upper 60, low 70s approximately.

Unidentified Analyst

Okay, yet I was referring to the net. Is that sustainable relative to the company’s history or do you expect that to revert back to sort of industry standards overtime?

Paresh Patel

Well I think from where we are and where industry standards are there is a huge, miles and miles of [disparity], there is a huge disconnect. Will that number move up or down a little bit, yeah, it can move around and it obviously has been a very good number, it has more room to move to the less favorable side than the more favorable side given how well it’s done but having all of said on balance we are not talking about it getting cut in half or anything else in the near future.

Unidentified Analyst

Yeah, certainly a credit to you folks for doing the great job of managing the company. I guess the question on everyone’s mind is sort of what makes HCI capable of sustaining better than average industry combined ratios overtime by a really wide margin as you just said. So I was trying to understand I guess how do you guys overtime will be able to outpace the industry by such a margin?

Paresh Patel

It’s an interesting question, interesting, only observation I have is largely we have gotten the more – the more efficient combined ratio is that. So stay tuned we’ll try to keep working and see how much we can improve it but as we do every day I am blessed with a staff who shows up every morning trying to figure how to make that number even better, no matter how great it is. One of these days they won’t succeed but I look forward to them trying every day.

Unidentified Analyst

Okay. Great. And then I am a little bit confused I guess on the hurricane discussions so maybe you guys can help me understand, that. I have always thought that having hurricanes were a negative for the insurers, particularly if you are insuring marinas in Florida. So it sounds like maybe you guys have a different perspective. Just trying to understand why that would be positive in 2014 for your folks?

Paresh Patel

First thing we are not insuring marinas in Florida, there’s people who bet against the stock but let’s [figure] that up. The second item is where that conversation and dialogue has come from has been the fact that we said that all of these conversations about Clearinghouse and Citizen’s drying up et cetera, those are all conversation and functions of a world where people – industries are hit by a hurricane. When the industries going to be hit by hurricane what history will tell you in Florida you will have any number of companies of various sizes decide to pullback from the states and/or shrink their book of business which creates a tremendous opportunity for those people who want to grow, to take on additional policies.

So we seem well poised for that, so that would be an opportunity for us. The concern on the call obviously is what if that hurricane doesn’t happen and nobody wants to get rid of policies, how will you grow then hence the reverse conversation.

Operator

Thank you. Ladies and gentlemen that is all the time we have for questions. I’d like to turn the call back over to Mr. Mitchell for closing remarks.

Kevin Mitchell

On behalf of the entire management team, I would like to express our appreciation for the continued support we receive from our shareholders, employees, agents and most importantly, our policyholders. We look forward to continue our success in 2014. Thank you.

Operator

Thank you. Ladies and gentlemen this does conclude today’s teleconference. You may disconnect your lines at this time and thank you for your participation.

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