Third Point Reinsurance's (TPRE) CEO John Berger on Q2 2014 Results - Earnings Call Transcript

Aug. 8.14 | About: Third Point (TPRE)

Third Point Reinsurance. (NYSE:TPRE)

Q2 2014 Results Earnings Conference Call

August 08, 2014, 09:00 AM ET

Executives

Rob Bredahl - CFO & COO

John Berger - Chairman & CEO

Daniel Loeb - CEO, Third Point LLC

Munib Islam – Partner at Third Point LLC & Head of Equities

Analysts

Brett Shirreffs - KBW

Jay Cohen - Bank of America-Merrill Lynch

Kai Pan – Morgan Stanley

Jay Cohen - Bank of America-Merrill Lynch

Operator

Greetings and welcome to the Third Point Reinsurance Second Quarter 2014 Conference Call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host Rob Bredahl, Chief Operating Officer and Chief Financial Officer. Thank you sir, you may begin.

Rob Bredahl

Thank you, Operator. Welcome to Third Point Reinsurance Limited's earnings call for the second quarter of 2014. Last night we issued an earnings press release, which is available on our website www.thirdpointre.bm. A replay of today's conference call will be available until August15, 2014 by dialing the phone numbers provided in their earnings press release and through our website following this call.

Leading today's will be John Berger, Chairman and CEO of Third Point Re. But before we begin, please note that management believes certain statements in the teleconference may constitute forward-looking statements under the Private Securities Litigation Reform Act of 1995. Forward-looking statements include statements about expectations, estimates, and assumptions concerning future events and financial performance of the company and are subject to significant uncertainties and risks that could cause current plans, anticipated actions, and the company's future financial condition and results to differ materially from expectations.

Those uncertainties and risks include those disclosed in the company's filings with the U.S. Securities and Exchange Commission. Forward-looking statements speak only as of the date they are made and the company assumes no obligation to update or revise them in light of new information, future events, or otherwise.

In addition, management will refer to certain non-GAAP measures, such as diluted book value per share, which management believes allow for a more complete understanding of the company's financial results. A reconciliation of these measures to the most comparable GAAP measures is presented in the company's earnings press release.

At this time, I'll turn the call over to John Berger.

John Berger

Thanks, Rob. Good morning and thank you for taking the time to join our second quarter 2014 earnings call. In addition to Rob Bredahl, CFO and COO of Third Point Re, with me today is Daniel Loeb, CEO of Third Point LLC, our Investment Manager. I will provide an overview of our financial results, Daniel will discuss the performance of our investment portfolio, and then Rob will discuss our financial results in more detail.

While reinsurance market conditions remain challenging through the second quarter, we maintained our focus on developing our total return platform and produced solid results. During the quarter we generated $31.3 million in net income or $0.29 per diluted share, compared to net income of $26.2 million or $0.33 per diluted share in the prior-year period.

Gross premiums written for the quarter increased by $45.8 million or 48.4% to $140.4 million. This increase was primarily due to strong new business production and increased premium on business renewed, partially offset by business not renewed. The new business was spread across different brokers and lines of business. I am very pleased with the flow of business that we are seeing given the competitiveness of the market, but I need to stress that we are still a young company and focus on larger deals and therefore quarter-over-quarter comparisons may not be meaningful.

Net premiums earned for the three months ended June 30, 2014, increased $16.1 million or 26.1% to $77.5 million compared to the prior year period. This increase is a result of larger inforce underwriting portfolio compared to the same period last year. We generated an underwriting loss of $2.1 million in our property and casualty segment in the quarter, compared to a loss of $3.4 million in the prior year period and our combined ratio decreased to 102.7% from 105.5%

Our Reinsurance portfolio continues to perform as expected and as we continue to gain scale, we remain on track towards generating underwriting profits. It’s important to note however that our PC segment is already contributing to profitability once net investment income on float is taken into account. In the second quarter, net investment income on float was $6.3 million.

Turning to our investment portfolio, Third Point LLC or investment managers successfully navigated market volatility during the quarter. Our investment portfolio was up 2.3% in the second quarter and 5.5% on a year-to-date basis. Daniel will discuss these results in more detail shortly.

Our cat fund continues to perform well but due to challenging marketing conditions, we have limited the size of the fund to ensure we target appropriate returns for our investors. Net income from the cat segment during the second quarter was $0.2 million compared to a net loss of $0.3 million for the same period last year.

Overall, our total return approach has generated solid growth with diluted book value per share increasing by 2.2% for the second quarter and 4.6% for the first six months of the year. I will now hand the call over to Daniel Loeb who will discuss the performance of our investment portfolio during the second quarter of 2014. Daniel.

Daniel Loeb

Thanks, John, and good morning everyone. The Third Point Reinsurance investment portfolio managed by Third Point LLC returned 2.3% in the second quarter of 2014, net of fees and expenses, versus the S&P's 5.2% returns for the quarter. The Third Point Reinsurance account represents approximately 12% of assets managed by Third Point LLC.

Performance for the second quarter was driven by continued success in both corporate and structured credit and strength in U.S. equities. Credit investments accounted for more than 50% of Q2 total returns with roughly half the exposure of our equity portfolio, however, each of our strategies performed well contributing positive results for the quarter.

In the second quarter our equity portfolio returned 2.3% on average exposure despite weak results from several of our large dispositions. Performance in equity is varied according to sector selection and we saw a skew in returns across geographies.

Our U.S. equity portfolio has outpaced the S&P with significantly less exposure year-to-date, while our investments in Latin America has been stand out performers generating a ROA of nearly 30% in 2014. Japanese equity positions have caused our greatest losses for the year-to-date.

During the quarter, corporate credit returned 7% on average exposure, bringing the year-to-date ROA to 15.5% compared to 5% performance from iBoxx high-yield index. We took profits in several key investments and our net exposure decreased accordingly. In Q2, we saw strength across the strategy as our performing in distress credit portfolios returned 8.1% and 8.9% respectively.

Sovereign credit has continued to contribute meaningfully and returned 17.1% in 2014. Strength in our government debt positions offset losses in our tail risk and currency portfolio and our macro book was flat for the quarter.

Overall, our net high-yield exposure is close to zero. Our duration is hedged and we are looking for opportunities to reload the portfolio in the second half of the year. And mortgage portfolio continued to perform well in Q2, returning nearly 20% on average exposure in 2014 and contributing roughly one third of overall profits during the second quarter. Our long term investment approach coupled with a generally variant market perception has delivered strong returns for the last few years.

We remained asset class agnostic as we searched and cover the most compelling opportunities and have seen a significant shift in portfolio compositions since the interception of this strategy in 2009.

Currently portfolio construction has been influenced by our view that the global economy is relatively healthy. We added exposure heading into the second quarter and several of our new positions generated [alpha] during the period. Looking forward, we believe Q3 economic data will be decisive and likely drive action by the U.S. Fed during the second half of the year.

The environment for venture of an investing continues to be attractive and we have initiated several new investments recently. We expect the market volatility will create compelling entry points across the capital structure during the second half of the year. If this materializes, we expect exposure levels to modestly increase and are focused on increasing concentration within the portfolio.

Now, I’d like to turn the call over to Rob to discuss our financial results.

Rob Bredahl

Thanks, Daniel. As John mentioned, we generated $31.3 million in net income in the second quarter which translates into earnings per diluted share of $0.29. Diluted book value per share as of June 30, 2014, was $13.72, an increase of 4.6% for the six months of the year and 13.7% increase over the past 12 months since June 30, 2013.

In our Property and Casualty reinsurance segment, gross premiums written were $140.4 million for the three-months ended June 30, 2014, a 48.4% increase from the $94.6 million reported during the previous year's second quarter. The increase in gross written premiums was due to five new treaties written in the quarter and the increased premium on renewals.

Increases from new business and renewals were partially offset by business not renewed but this was primarily business that was not expected to renew. We rode a multi year deal and reserve cover in last years second quarter that were not subject to or up for renewal in the latest quarter.

Net premiums earned in the P&C segment during the second quarter of 2014 increased 26.1% to $77.5 million reflecting the fact that our in-force portfolio continues to grow. As a result of the increase in earned premium, our general and administrative expense ratio decreased 40 basis points to 7.3% compared to the second quarter of 2013.

G&A expenses allocated to the P&C segment were $5.7 million in the quarter and should remain relatively stable in the near term and therefore as earned premium continues to grow, we expect to see additional improvements in our G&A expense ratio.

The combined ratio improved to 102.7% from 105.5% due to the G&A expense ratio decrease, and a change in the mix of business from the second quarter of 2013. In the second quarter of 2013, we wrote a $22.3 million reserve cover that’s booked at a 100% composite ratio where all the premium was earned at its interception, in this years second quarter there was no similar deal

After attributing income to non-control of interest, the net income from the catastrophe risk management segment was $203,000 for the second quarter of 2014 compared to a net loss of $347,000 in the second quarter of 2013.

Net assets under management for the catastrophe fund were $11.4 million as of June 30, 2014. As Daniel mentioned, return on investments managed by Third Point LLC was 2.3% during the second quarter of 2014 compared to 3.2% in the same period in 2013. This solid performance led the investment income of $40.5 million in the latest quarter and $32.8 million in the last year’s second quarter.

I will now hand the call back to John Berger.

John Berger

Thanks, Rob. Our strategy is the same today as it was when we started company nearly three years ago when we completed our IPO one year ago to write reinsurance contracts with attractive risk adjustment returns and invested float generated from this activity in a separate investment GAAP managed by Third Point, LLC. I am pleased with our results for the second quarter and optimistic for the remainder of 2014.

I will now open the call up to questions. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from the line of Brett Shirreffs with KBW. Please proceed with your question.

Brett Shirreffs - KBW

Good morning and thanks for taking my questions. First one, John, I was wondering if you could just expand a little bit on the five new treaties in the quarter. It sounds like they were diversified in terms of lines of business, but could you provide a little more detail?

John Berger

Sure, Brett. We wrote its one [homeowner] quota share new and the other ones are new nonstandard auto and the Florida homeowner quota shares where the Cat is limited really premium relief deals.

Brett Shirreffs - KBW

Okay, great. And then, on the business that you did renew in the quarter, can you just comment on how pricing or terms and conditions change from the prior year?

John Berger

A Lot of the nonstandard auto and the homeowner quota shares that we do, are necessary for the companies, because they are good companies, but they don’t have the scale to keep as much business as they would like for the various rating ratio, so they buy quota shares. And since the Cat part is very limited or in the case of nonstandard auto, there’s a Cat part, but they are other exposures there.

The relatively small margin deals to begin with. So the margins on those types of deals have been very steady overtime. They are anywhere between 3%, 4%, 5% underwriting margins and there isn’t a lot of erosion on those margins overtime.

Brett Shirreffs - KBW

Okay. So you’re not seeing additional pressure on ceding commissions or anything like that?

Daniel Loeb

We’re seeing some but again the purpose of these contracts are really premium relief. There is risks transfer in them, but it’s really to take care of attritional losses during the case of nonstandard auto. They are relatively low limit again, almost attritional loss type business. So its not the case of professional liability that historically has carried 15% or 20% return in the ceding commission is going from $27.5 to $35, it’s a different, it’s really a different sector of the marketplace.

Robert Bredahl

Hey, Brett, it’s a Rob Bredahl. We track the composite ratio and deals very closely at renewal. And so far the composite ratios have been very consistent. We haven’t seen them maturing.

Brett Shirreffs – KBW

Okay. Thanks very much.

Operator

Our next question comes from the line of Jay Cohen with Bank of America-Merrill Lynch. Please proceed with your questions.

Jay Cohen - Bank of America-Merrill Lynch

Thank you. I guess just to maybe a follow-up on that last one. I did notice that the acquisition expense ratio did go up over the past several quarters. That could be business mix thing. I’m wondering really what’s driving that and if you can, any sense of what we should think about going forward for that ratio?

John Berger

Rob, why don’t you handle that one.

Robert Bredahl

Yes. Sure, Jay, the breakdown between loss ratio and acquisition cost ratio are deals completely relates to the mix of business. So we are seeing movement from one quarter to the next. It just means the mix of business has changed. It -- we’re writing most of quota share contracts, so we look at the overall composite ratio and where we have a lower expected loss ratio, we typically have a higher acquisition cost ratio and vice versa.

Jay Cohen - Bank of America-Merrill Lynch

Yeah, that makes sense. Second question, one of your closest comps I guess had a big drop in premium. One of the issues was a return on unearned premium. I guess when they do quota share deals they bring in, these unearned premiums when they unfortunately get rid of one, they go out the door creating some volatility. My question to you, I know to come on that company, but the question to you, how do you guys account for unearned premium when you do a quota share deal?

Rob Bredahl

So when we book a quota share contract that has UEP premium coming into it. We book it net of that UEP premium. And so -- and we do so because typical when the deal non-renews, we have to send the UEP back. So if you’ve booked it on the way in you have to book negative premium on the way out. And so, there is no potential for us to book negative premium related to UEP.

Jay Cohen – Bank of America-Merrill Lynch

That’s helpful. Thanks a lot.

Operator

(Operator Instructions) Our next question comes from the line of Kai Pan with Morgan Stanley. Please proceed with your questions.

Kai Pan – Morgan Stanley

Good morning. Thank you for taking my calls. And first question for Dan, on the investment side. It looks like…

John Berger

Hi, Kai, before you ask the question. I just want to tell you, Dan Loeb had to step out. He was traveling. He left out. He left and in his place we have Munib Islam who was a partner at Third Point LLC and Head of Equities. So you know that when the answer comes it would be Dan, it will be Munib answering.

Kai Pan – Morgan Stanley

Okay. Great. Thanks. So, the heads up on that. So Munib on the sort of Longshore side, equity side, it looks like the gross ticking up, but the net is – it’s probably lowest in the year. Just wonder is that you’re finding more opportunities on both sides?

Munib Islam

Thanks for the question. Actually the gross is picking up exactly for the reason that you identified that we found two new investments in particular that have potential to be pretty large. And so, that was increased in the long exposure, while we continue to hedge at -- we continue to hedge via indices and so the gross exposure went up as net probably trended down a little bit and has continued to trend down since the end of the quarter.

Kai Pan – Morgan Stanley

So this adding on the shore size is hedge, index hedge?

Munib Islam

Correct.

Kai Pan – Morgan Stanley

Okay. Then on the sort of like if you look at your second quarter letter, it looks like its different between Japan and Argentina. In Japan you think that the model backdrop is hurting your investment waiting to pull back is not improving by year-end. And Argentina, actually you are more optimistic about bond settlements and you’re trying to find more investment opportunity there. Could you elaborate more on these two markets?

Munib Islam

Certainly, so in Japan I think that, what we wanted to iterate in our letter was that, while Japan remains an interesting place to find individual securities. I think the more bullish macro scenario that’s existed ever since economics started is really now getting to the point where it gets tested, and it get tested both because of structural reform and the ability to implement structural reform, but also because we’re nearing the point where they maybe a requirement for the BOJ to do more, right. The BOJ was very aggressive last year and since that time its been on hold, and I think with the more recent economic performance in Japan we now are at the point where I think BOJ might require incremental QE, so that sort of the Japan thesis.

On Argentina, I think that we do remain bullish obviously the more recent default has is at least in our opinion a roadblock in what otherwise is a 2015 story -- 2015 story on two counts. The first one is the potential for government change there. And secondly, on the default issue we think this is more of a delay and there are legal reasons why Argentina is unable to pay right now, but will happily pay post New Year to avoid an issue that would result in a big increase their debt to GDP. So on Argentina we remained optimistic, but I would say on Argentina that the ways for us to play Argentina are somewhat limited such given the size of the equity markets and so, the majority of the exploration Argentina comes via bonds.

Kai Pan – Morgan Stanley

Great. Thank you Munib for the various sort of answer there. If I may turn back to John and Rob, so if you look at your G&A ratio have improve quite a bit and at the same time your composite ratio improve 240 basis like year-over-year. I just wonder in order to breakeven if we keep the same composite ratio around 95%, then which means your G&A ratio need to lower to around like 4% or 5%, which imply given our current run rate about like $20 million, $22 million a year G&A expense that imply a $500 million net earn premium, we’re now at $300, do you think we can reasonable growing over to the $500 in a period of time that you can breakeven?

John Berger

That’s clearly our goal. We will get there, it’s just a matter when.

Kai Pan – Morgan Stanley

So you have been talking about like a breakeven talking breakeven by end of 2014 and early 2015, is that still valid in this current market?

John Berger

Yeah, our business we write a smaller number of larger deals. We’re very happy with the pipeline of details we have in the third quarter, but we have to see how many of these we can bring home. But we stay with our hopes and projections of at the 2014 beginning into 2015.

Rob Bredahl

Hey, Kie, it’s Rob. I agree with your analysis of what happens as we gain scale, remember, we wrote $400 million of gross premium last year as that premium takes a little bit time to earn it. And so, we’re not all that far away from 500 but as John says we’ll see what happens in the next several quarters.

Kai Pan – Morgan Stanley

Great. If we just step back last question for me is, John for your 30 years career if you step and watch what happening in the reinsurance market right now. Do you feel how changes in the current market especially for startup company like yours?

John Berger

I think the startup or existing companies. I think the most extreme changes been in the property catastrophe space which we’re in a small way in our Cat fund, but in a very smaller way what alternative capital has done to that market and its rate levels. Clearly, on our model Greenlight model, Hamilton Re model where with the advent of more aggressive investment strategies is going to have an impact. So I think the change over the last 12 months has been enormous. I like our position in the market. I’d like being clearly being new has its challenges, but being a new with a differentiated strategy and having Third Point LLC as our Investment Manager I think puts in a very advantages position compare to other new companies and existing companies.

Kai Pan – Morgan Stanley

Great. Well thanks so much for all the answers.

John Berger

Thank you.

John Berger

(Operator Instructions) Our next is a follow-up question from Jay Cohen with Bank of America-Merrill Lynch. Please proceed with your question.

Jay Cohen - Bank of America-Merrill Lynch

I guess, maybe just a follow-up on the last question. You are seeing more companies turn to your point taking a more of total return approach to reinsurance. My sense is that some of these companies are certainly building in the expected return in to the price, the premium rate that they are charging. Obviously you think that too far and that could be kind of dangerous. My question to you is, are you seeing that from some of your competitors.

And then secondly, how much do you guys do that? My sense is you really don’t know that much, but are you starting to say build in the expected returns into your pricing giving back some of that to your clients?

John Berger

Clearly we are – now the question implied in your question is, are you writing business above 100% combined ratio, building in that way and to-date we have not done. We have seen instances of that happening. We’ll see if that’s one off kind of deals of it is that really become a trend. That’s a tough game to play.

Casually business is volatile. Although the experience over the last several years has been has been stable. Those of us who been in the business for a while have seen what can happen in the casualty market. So we’ll monitor that. I think more likely is to happen -- what happen if there is a class of business and let’s just say, directors and offices liability for example where and maybe historically you think you need to write at that somewhere between 85% and 90% combined ratio because of the potential volatility in the results. Now with the increased investment returns maybe you can write that business now at 95% and 97%, so we’ll see, we’ll see how this all plays out.

Jay Cohen - Bank of America-Merrill Lynch

Great. Thanks John.

Operator

Mr. Berger it appears we have no further questions at this time. I would like to turn the call back over to you for any closing comments.

John Berger

Well, we thank everybody for calling in. As we’ve said in the call, we’re very happy with the amount of business we’ve seen so far, where we like the pipeline of deals in the works for the third quarter. Third Point LLC continues to do a good job for us and we think are the combination of underwriting skills and relationships with our senior staff people have in the marketplace and our investment strategy bodes well for us for the future. Thank you very much.

Operator

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation and have a wonderful day.

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