Old Republic International's CEO Discusses Q1 2014 Results - Earnings Call Transcript

Apr.24.14 | About: Old Republic (ORI)

Old Republic International Corporation (NYSE:ORI)

Q1 2014 Results Earnings Conference Call

April 24, 2014 3:00 PM ET

Executives

Scott Eckstein - MWW Group, IR

Al Zucaro - Chairman and CEO

Scott Rager - President and COO

Mark Bilbrey - President, Old Republic Title Insurance Companies

Karl Mueller - Senior Vice President and CFO

Analysts

Christian Wehrly - JMP securities

John Deysher - Pinnacle

Operator

Please standby, we are about to begin. Good day. And welcome to the Old Republic International First Quarter 2014 Earnings Conference Call. Today’s conference is being recorded. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for questions.

I would like to remind everyone that this conference is being recorded. And I would now like to turn the conference over to Scott Eckstein with MWW Group. Please go ahead.

Scott Eckstein

Thank you, Operator. Good afternoon. And thank you for joining us today for Old Republic’s conference call to discuss first quarter 2014 results. This morning, we distributed a copy of the press release. If there is anyone online who did not receive a copy, you can access it at Old Republic’s website which is www.oldrepublic.com.

Please be advised that this call may involve forward-looking statements as discussed in the press release dated April 24, 2014. Risks associated with these statements can be found in the company’s latest SEC filings.

Participating in today’s call, we have Al Zucaro, Chairman and Chief Executive Officer; Scott Rager, President and Chief Operating Officer; Mark Bilbrey, President of Old Republic Title Insurance Companies; and Karl Mueller, Senior Vice President and Chief Financial Officer.

At this time, I’d like to turn the call over to Al Zucaro for his opening remarks. Please go ahead, sir.

Al Zucaro

Okay. Thank you, Scott, and good afternoon to everyone. And we appreciate again your attendance on this update of ours and this afternoon we will follow the same pattern as we have taken in recent quarter’s and that as Scott just mentioned, four of us will address the key factors that affected the results of this year’s first quarter.

Scott Rager will speak to our general insurance business and Rande Yeager is absence from the office, Mark Bilbrey will do the honors with respect to our Title Insurance business. Karl Mueller then will takeover and discuss the financial aspect of the business and I’ll say few words initially and then at the end of this presentation.

So not much more ado, I will begin by first addressing the runoff business which has had a large and positive impact on the most recent consolidated results of our company. So if we look at Old Republic’s operating earnings trends for the last four quarters, five quarters or so, since year end 2012.

We can see that two elements really standout, one is the continued emergence of our Title business as a very powerful earnings contributor during the current up leg of the housing cycle and secondly, the faster operational turnaround of the runoff mortgage guarantee business.

Mark Bilbrey, of course, again will speak to the Title part of this uptick in our earnings from those areas. So I will just make those comments right now of the mortgage guarantee business and let that turnaround implies for the foreseeable future.

As we have disclosed over the past several, this MI business has been in runoff operating mode and since 2012 we have operated it under the supervision of the North Carolina Department of Insurance, which is the main responsible regulator for this part of Old Republic’s business.

The regulatory solvency of the business has been maintained throughout the runoff period and we have been able to do this with necessary and I must say very positive regulatory considerations which have that altogether assured a very stable business environment in which our mortgage guarantee insurance subsidiaries have been able to fairly engage in the settlement of our legitimate claims and other obligations.

So if we look by the way at the statistical exhibit that we have posted on our website this morning as we do each quarter. We can see that one of the main elements which is -- which are driving the MI turnaround is the steady and fairly steep drop in the number of insured loans that are in various states of delinquency.

For instance, since year end 2012 these have dropped by just about 38% cumulatively and on a quarterly basis this averaged about 9% for the last five quarters, including this latest first of the year.

And as we also note in the release, there are several, of course, other beneficial factors that play here and all of these are converging to drive down claim costs and thus provide fuel to the turnaround that we have been experiencing.

Now why we’ve remained focused on the turnaround all this time? We have made a couple of attempts in the last two years. In the spring of 2012 and again in the spring of 2013 to recapitalize the mortgage guarantee business through the Wall Street capital market.

So that hopefully the MI business could have once retain its fidelity to the runoff obligations and secondly, to possibly reestablish itself as an underwriter of new mortgage guarantee risks, obviously, for those who of you follow Old Republic, we announced a successive order that we were successful in either attempt, four reasons that we have given in past new releases that, as well as in the published reports that we sent out as a publicly held company.

So in any event without delivering the points and disclosures we have already made, let me just say this about the mortgage guarantee situation at this time. First of all, we feel reasonably comfortable that this runoff is going to play out just fine and it will do so to the end of enabling us to payout most if not the full amount for all legitimate mortgage guarantee claims resettled.

And secondly, that we -- we believe that we can do this by obtaining some necessary regulatory approvals to amend the existing runoff terms. This will require a couple of changes in the permitted regulatory financial accounting practices. In addition to also -- in addition to our adding a reasonable amount of new capital in our flagship mortgage guarantee subsidiary.

We truly believe that this additional capital should later become retrievable as the business runs its costs and we think that in culmination all of this together with what we believe are well-founded expectations, particular at this time, having gone through five consecutive quarterly improvements in the mortgage guarantee business, that our expectations are well-founded for the continuation of a profitable runoff and that this should enable us to accomplish our main objective. And then of course, that objective has been and is to exit the business with us complete and permanent a settlement of legacy obligations as possible.

Now on this day, let me reiterate a point we’ve made several times over the last couples of years and that is that, Old Republic’s long-term objectives for the business remained just as I have said.

We think that the IM industry is a good one that we can serve a useful societal purpose. But that Old Republic’s involvement in it can no longer be and we just, I mean, there is simple reason for it, is that we just do not have the kind and amount of capital that would be needed to at once reestablish the business as a viable competitor that can safely operate for the long-term with adequate coverage of possible future catastrophic exposures similar to those that we have accounted and that the industry at large has accounted during the great recession years and the ones that I followed.

So now that we have resolved this plan of ours, we still believe that, nonetheless, that some time during the next couple of years as the runoff becomes as stabilized as we think it can be that some appropriate acceptable external sources of capital can be brought to there and reinvigorate what is still in our opinion and believe a very well-organized and reputable business charter under the RMIC nameplate, which has been around for more than 35 years as I recall.

So it would be a good thing to be able to recapitalize this thing down the road. We’ve got good staff in place, very knowledgeable people and with right amount of capital and right pedigree of that capital the business can be reinvigorated we believe.

Now I’ll just say few words, [I want to speaking of runoff] (ph) about the other part of the runoff, which is represented by are the consumer credit indemnity or CCI credit line as we refer to it in short.

Now this run off is proceeding a placement in the dynamics that drive it are similar to those that affect the MI line. Loans in default continue to drop and all the legitimate claim settlements are being made at 1000 cents on the dollar in that business.

Now the lingering exposure that’s sliding up and continues to drive up one quarter to another, claim costs that I must say they are being driven to a great driven anticipated level and that’s the -- these are that the cost of residing in the continuing litigation expenses we have relating to just one bank in particular which we disclosed fully in our 10-K and 10-Q reports.

We truly believe that cooler heads should ultimately prevail in this situation which is really lawyered up and that’s key thing and it’s simply key thing of bunch of lawyers at the heating trough. So we are looking forward to the time in the -- hopefully in the near future when we can, in fact, we read of this run-off and go on to better and more useful things at Old Republic.

So as we previously arranged, I’m going to now turn the mike over to Scott Rager here, one of my colleagues, esteemed colleagues, I must say…

Scott Rager

Thank you.

Al Zucaro

…. to speak to the General Insurance Business and its prospects. So Scott.

Scott Rager

Hand it over. Okay. Moving along, I’ll now address some key points about our General Insurance business. First quarter of 2014 numbers played about as we had expected for the General Insurance Group before. Gross written premiums were up by 10.2% over first quarter of 2013 while the net earned premiums grew by 9.4%.

We earned premium growths, M&A narrowing from the moderate rate strengthening but also new business than the organic growth of the book that’s been in place throughout the cycle. Customer retention levels are steady in most operations. And obviously the growth dynamics supported by specialty market place served by our respective operations but the books are growing in line with our expectations.

We are making headway on market share in most operations but the economy and the competitive environment in some specialty areas still pose some issues. For example, market places with respect to professional liability in general aviation are saturated with participants on the rate environments for each remained challenging.

We continue to grow these books slowly on a risk-by-risk basis and as a result the underwriting results remain excellent. We are seeing risk selection standards are what we perceive as rate adequacy would give us more growth but we’d be sacrificing the bottom line to go over the top which cornered our philosophy as an underwriting institution managed for the long run.

As for economic impacts, we are seeing increased payrolls in the energy and commercial constructions fields growing on more pronounced basis. Although we expressed some marginal increases in our (indiscernible) book, it was not attributable to organic growth. That’s unusual for us at this stage in the economic cycle and we believe this results more from the effect of severe winter weather that we incurred rather than a slowing economy.

Industrywide, we see rate levels moderating. From an Old Republic General Insurance Group perspective, our various operations are experiencing flat-to-high single-digit rate increases, depending on the market place served in our particular position in it.

From a claims cost perspective, loss ratio edged up etched up 72.7%, on the other hand, our expense ratio moved down to 23.5%. In the aggregate, composite ratio came down to 96.2% contrasted to last year’s 96.4% at the end of the first quarter and 96.7% for the final quarter of 2013.

Claims severity and medical cost still seem to be the main drivers in the upward tilt of our claim ratio trends. At this point in time, we still feel the year end 2014 composite ratio ending year 2013 levels.

Knowing what we have today, we still see the five-year growth objective posted on our website, it was very achievable by the Old Republic General Insurance segment. And now I’ll ask Mark Bilbrey to report on our title operations. Mark?

Mark Bilbrey

Thank you very much, Scott. Good afternoon everyone. It’s my pleasure to report on our Title Group. As reported this morning, our earnings were positive at $4.7 million. This happened in spite of a significant downturn in the real estate and the mortgage markets recent quarters.

Mortgage bankers association projected that the refinance business could be cut off by -- could be out by 70%, 75%. To counter that we obviously need to purchase many mortgage transactions to pick up this lag. Seasonally we’re challenged in the first quarter every year on the purchase money side of our business. It was never expected that sales of new and existing homes or commercial business would make up further steep decline to refinance transactions.

Next in the weather that interest rate increase in a lingering uncertainty about the availability of the credit compounded problem. Our numbers were also impacted by the fact that as an agency-centric company, our premiums are reported on a three to four month lag which added to this.

Our overall premiums and fees were down 14.5% year-over-year. Our long-term strategic emphasis on the agency side of the title business has allowed us to maintain the degree of profitability in a very weak market. While we see a slow but improving real estate market for the near term, we’re excited by the long term prospects of our business.

There is certainly a great deal of pent-up demand for homes, new home wires, historically low interest rates and the moderation of rising home prices should allow us for steadily improving housing and mortgage market for our title services.

Our commercial business has remained strong. We had a lot going on with our technology units that should enable our business units, both agency and direct could be better than ever than we had before. Our market share continues to increase, rising to 15.1% in quarter four of 2014 versus 13.5% in quarter four of 2013.

Year-over-year Old Republic’s title market share rose from 13.5% in ‘13 to 14.9% in 2014. Our managers have made some hard decisions on expense management in the past few months, especially in those units that were most affected by the decline in our refinance activity.

At the same time, we continue to emphasize strong financial in underwriting controls to minimize the risk inherent to the Title business. We will now get back on our commitment to assuring long-term security of our company.

Our refinanced activity is likely to remain slow throughout 2014. We are witnessing recovery signs in the purchase market. We continue to be proud of the Old Republic Title Group’s progress and optimistic about our prospects going forward.

Thank you very much and I now would like to turn it over to Mr. Karl Mueller.

Karl Mueller

Okay. As Al stated in his opening remarks, I will comment briefly on Old Republic financial condition as of March 31st. This morning’s news release reported that consolidated assets grew to $16.8 billion, which is up slightly from year end 2013.

The cash and the invested asset balance of $11.3 billion and it continues to reflect modest growth resulting I would say predominantly from the investment of a positive operating cash flows that we reported.

The fair value of our bond portfolio increased slightly from right at 102.8% of book value at year end to 103.6% at the end of March. I would add that the realized gains from the sales of equity securities that were recognized through net income had the offsetting effect of reducing the amount of unrealized investment gains at the end of March.

Essentially, we took investment gains that were previously unrealized and converted them into realized gains as reported in the first quarter. Consequently, the overall decline in the value of the net realized investment gains resulted in a $0.21 per share reduction in book value. I would note, however, that this was more than offset by the $0.48 per share net realized gains that were recognized in the quarter.

Investment income continued its upward trend as new investments are, say on average being made market yields, generally higher than those applicable to bonds that were sold or matured. In addition, investment income benefited from the shift in the equity portfolio into higher yielding common stocks and equity funds during the quarter. This should also be moderately additive to investment income in the upcoming periods.

Claim costs in both years quarterly results reflect the continuation of favorable development of the prior year end consolidated lost reserves. Similar to last year’s first quarter, our General Insurance Group reserves have trended slightly favorable. The Title Insurance reserves have developed pretty much in line with original estimates and the RFIG run-off segment reserves developed most favorably due, I would say to all other factors that we listed in this morning’s release.

As of March 31st, the debt-to-equity ratio stood at 14.6% and the debt-to-total capital ratio was 12.8%. Both of these ratios have consistently trended downward over the past several quarters due to modest maturities of outstanding debt as well as growth in the shareholders’ equity account.

Shareholders’ equity at the end of March was $3.86 billion or $14.97 per share, which is a $0.33 per share increase from the year end 2013. Our operating earnings per share in excess of the shareholder dividend added $0.09 to the book value for the quarter and on top of that, investment activity added another $0.27 per share as already noted.

And finally, we continue to maintain sufficient liquidity at the ORI parent company through a combination of cash and readily available liquid securities to meet our foreseeable operating needs and that would include the anticipated capital contribution to our mortgage runoff operations.

So with that, those were the highlights of our current financial situation and I will turn this call back to Al for closing remarks.

Al Zucaro

Okay. Well, there you have it. We look forward to our General Insurance business for the rest of year to percolate so to speak and we expect a gradual drop in the claims ratio as the year wears on, I think we’ve got our arms around most of our whatever claims issues had developed over the last several years. So that should start to see look good as the year wears on as I say.

Our Title business is, as Mark says, such is now is only good and again, it’s a long-term business and a single quarter does not necessarily indicate what the entire year is going to be. But it stands to a reason that at this time in the cycle, this year looks like it’s not going to be as much of a bond during the year as 2013 was, but nonetheless should be a good year.

And then finally, I think our Mortgage Guaranty business runoff in particular is going to continue on the same wavelengths and we do expect it to be a positive contributor to overall earnings this year. We are looking forward to hearings that will be announced shortly to be sponsored by the North Carolina Department of Insurance, whereby a revised plan of action will be submitted for all interested parties to see.

And the plan, we will describe what it is that we proposed to accelerate the payment of previously deferred claim obligations to the edge of, in fact, together with our additional capital to be injected into the business does raise the flagship companies capital to be more than adequate solvency levels. So we are looking through all of them as positive developments for rest of this year.

I guess that’s about it. So as was initially indicated, we will now do what we normally do which is to turn this meeting over to any questions that you may have and we will do our level best to address those questions.

Question-and-Answer Session

Operator

(Operator Instructions) And we will go to Christian Wehrly with JMP securities.

Christian Wehrly - JMP securities

Hi, good afternoon. A couple of numbers questions. First, in general, insurance on the loss ratio side. I know that picked up a little bit versus the first quarter of ’13. And I was wondering if there are specific lines that were driving that?

Al Zucaro

Actually the -- Christine the loss ratio of first quarter ’13 was 96.4% and the composite ratio for first quarter this year was 96.2%, so the tab that below.

Scott Rager

She is asking about the loss ratio.

Christian Wehrly - JMP securities

On the loss ratio side specifically, not the composite?

Al Zucaro

Yes, it picked up, yes. As has been the situation in the past, the workers compensation and you can see from the supplemental that we provided, just up a bit over first quarter and that it’s down from third and fourth quarter in ’13 and we hope to continue that trend downward. We continue with the loss ratios and development in the quarter mainly and make those adjustments on loss provisions as appropriate. But as you know, our objective with respect to that particular line of business is to get it down somewhere in the low 70s where it has done. But that’s the workers compensation.

Scott Rager

If you look at the totality of the three lines where is the commercial, automobile and workers comp in general might be which is the way we look at it from an underwriting standpoint the total account basis. You’re looking compared to 2013 at 78.0 versus 78.0 for the first quarter of this year.

Al Zucaro

Things are moving along as I tried to say before Christine. You know we’ve had a tough time particularly in the comp line for at least two years now. And again, as I said, I think, we have finally got our arm around this thing. I think it’s going to (indiscernible) down and leave a little bit, but I think you are going to start seeing improvements in comp as the year wears on and as some of the proactive actions we have taken in the last couple of years as well as rate increases which have permeated the business that we should be in to see improvements there.

Christian Wehrly - JMP securities

Okay, great. And in the workers comp line specifically on the loss ratio side, was there any development, and if so -- prior year development, and if so, could you quantify it?

Al Zucaro

Well, Christine, as I stated, in my comments, the general insurance group overall developed slightly favorable. When you take it by the pieces, I think you would not be surprised that we took a little hit in workers comp in GL and that was offset by favorable developments on the other lines. Yes, it was pretty consistent with where we have been over the past several quarters.

Scott Rager

Yes, but you know again, and correct me if I am wrong on this comp. Over time our general insurance business as typically for all lines combined produced a 2% to 3% of reserve redundancy year-over-year. And in the last couple of years that has really been impacted very steadily all this time down to the part we are in today. We had maybe three-tenths, two-tenths, four-tenths of redundancy as opposed to 200 or 300 basis points of redundancy.

Al Zucaro

That’s correct, yes.

Scott Rager

That’s been a gradual evolving thing over the last two years in particular I would say and that’s what our focus is on and that’s where I think you are going to start seeing a resumption of those longer trends in loss reserve development.

Christian Wehrly - JMP securities

Okay, great. And then on the general insurance side, I know you attributed part of the weaker volume in the first quarter to adverse weather. Is that something that now to-date in the second quarter you’ve seen sort of pick up of that as we’ve gone past some of the weather troubles?

Al Zucaro

Mark, would you like to take that?

Mark Bilbrey

Yes, I would be glad to, Al. Thank you. Christine, this is Mark. You are exactly right, with the weather trends going back in, you recall the weather was incredibly challenging in January, February, specifically it’s improved greatly. The other thing is inventory in some areas where we have some areas that were not as impacted directly by the storms and the weather of the winter. There is just really in some areas not enough supply and there is pent-up demand for that. So it is -- we’re very favorable order trends right now. So I think that is hopefully that is past.

Al Zucaro

But again here Mark right, because we have got some of our business on the agency side production-wise that it’s going to take yet another quarter if not a longer right, so that pipeline to get refilled and in fact hit the books right.

Mark Bilbrey

That’s correct, Al. we have typically 90 days around the number lag and is that quarter gets turned, but we have already results and comments from our agent community that that corner is being turned for them. So we are anticipating that to turn in within 30 to I would say three to four months.

Christian Wehrly - JMP securities

Okay, thanks. And then final question, are you disclosing roughly how much capital you’ve earmarked to contribute to the MI subsidiary?

Al Zucaro

We should be able to do that Christine in the next couple of weeks as I tried to say before we are in process of studying a date. I believe that hearing date will be set for June 11th in Raleigh, North Carolina. And in anticipation of attending that hearing, we will be submitting a revised plan, which will reflect all the changes that need to be made in order to accelerate that deferred payment obligation set of claims. And it is at that time in the context of that plan that we’ll put some number down on what is required about way of the capital objection.

Christian Wehrly - JMP securities

Okay.

Al Zucaro

As we said and as I think intonated before, all of that money is going to be well within our means of dispersing to be -- without having to borrow or do anything like that.

Christian Wehrly - JMP securities

And that’s something you released it in a press release or is that something we likely have to wait until the second quarter?

Al Zucaro

No, no, it will be released when we issue this plan, okay.

Christian Wehrly - JMP securities

Okay.

Al Zucaro

That should take place. Karl, do you know, I mean, within a week or so?

Karl Mueller

I think, it’s within a couple of three weeks at the outside.

Al Zucaro

Okay. At the outside, couple of three weeks concept.

Christian Wehrly - JMP securities

Okay. Great. Thank you very much.

Al Zucaro

You are welcome.

Operator

And we’ll go next to John Deysher with Pinnacle.

John Deysher - Pinnacle

Hi. Al, I had a question on your comment that I think you said in the next …

Al Zucaro

John, can you speak a little more, a little louder?

John Deysher - Pinnacle

Sure. Can you hear me now?

Al Zucaro

Yeah. Very good.

John Deysher - Pinnacle

Okay. Great. I believe you said in the next couple of years, you’re going to be looking for external sources of capital to recapitalize, reinvigorate the business because I think you feel it has good prospects going forward. And I was just curious, does the capital source have to be external, does it have to come from outside of Old Republic?

Al Zucaro

Well, John, let me just at least restate what I intended to say and what I believe I did say. One, Old Republic is committed to exit the mortgage guaranty business because the amount of capital that would be required to reinvigorate that business is much higher than we have the ability to generate internally.

And given our capital allocation model, we can no longer envision having that amount of capital dedicated to that one line of insurance. We have also said that another issue for us being long term players in the business is that we’ve not been enable to get our arms around.

The potential [Technical Difficulty]. I’m sorry. We have not been able to get our arms around the issue of potential catastrophic events, which have to be provided for conflict. And as we understand it from just reading the press and what’s going on in the development quarters in terms of its attending to the needs of the continuity of Fannie Mae and Freddie Mac, that’s an issue that needs to be addressed as to how you provide for that potential. So now we’re being able to address both of those issues concurrently we say, no, there’s no place in it for us.

That does not however mean that we’re going to be looking to raise capital on ourselves. What I believe, I’ve said, okay, or should have said is that our intent is to run off the business, to maximize the amount of deferred payment obligations that can be paid out hopefully at the 100 cents on the dollar or as close to it as we can get, okay. And that will led the business stabilize itself for the next couple of years. And at that point, sometimes during that interim period, somebody with a right capital pedigree can come off with sufficient money to reestablish that company as a viable competitor in the industry. That’s what I believe I said and I should have said.

John Deysher - Pinnacle

Okay. I understand what you’re saying. But I’m just suggesting that as shareholders, we would be interested in the possibility of contributing capital to the company via rights offering or some other way because we agree, we think the RMIC business has a good future going forward. And I think for us to flat out say, we’re willing to exit the business in a couple of years, is perhaps a little bit shortsighted. And I want to be on record saying that I feel strongly that at the appropriate time, if you need capital, you should come to your shareholders and your significant shareholders, outside shareholders and see how they feel about this.

Al Zucaro

Correct. And we will take that into consideration obviously. But as you know first things first, the first thing we need to do is to beat our key objective, which is to satisfy as best and as fully as possible our obligations on the legacy fronts, first things first. Once we’ve done that then we sit back and take a look at what’s happened and we will deal with it accordingly in the best interest of our shareholders. And I submit to you, John and all other shareholders that what we are doing from a capital injection standpoint is inside into best interests of shareholders. Because as I said again, I think that the business can turn around sufficiently that we can retreat that mugging and use that capital elsewhere at the system.

John Deysher - Pinnacle

Okay.

Al Zucaro

But we have not given up on the idea of allowing RMIC to be resurrected. It deserves to get back into business, one way or the other with the right amount of capital and the right pedigree for that capital. Those two things must be in place, ledger balance and the right amount and the right stewardship.

John Deysher - Pinnacle

Okay. Fine. As long as you’ll consider outside shareholders at the appropriate time.

Al Zucaro

Look, that’s it. Okay.

Operator

And there are no further questions at this time. I will turn the conference back over to management for any additional or closing remarks.

Al Zucaro

Okay. Well, we don’t have any other comments. We appreciate the questions and hopefully, we provided handful responses to them. Having said that, we look forward to the next announcement that I suspect the next announcement will be confirmation by us of an agreement with the North Caroline Insurance Department to in fact establish a propagate for hearing relative to the changes in the runoff plan for our Mortgage Guarantee business events Karl said before, that should occur in the next couple of weeks or so. Okay, having said that, we wish you a good afternoon. Thank you again for attending.

Operator

This does conclude today’s conference. Thank you for your participation.

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