The PMI Group's CEO Discusses Q1 2011 Results - Earnings Call Transcript

| About: PMI Group, (PMIR)

The PMI Group, Inc. (PMI) Q1 2011 Earnings Call May 5, 2011 12:00 PM ET

Executives

Bill Horning – VP, IR

Stephen Smith – Chairman, President, CEO and COO

Donald Lofe – CFO, EVP and Chief Administrative Officer

Analysts

Douglas Harter – Credit Suisse

Donna Halverstadt – Goldman Sachs

Scott Frost – Banc of America – Merrill Lynch

Matthew Howlett – Macquarie

Ed Groshans – Height

Operator

Hello and welcome to the First Quarter 2011 Financial Results Conference Call for the PMI Group. (Operator Instructions) Today’s call is being recorded. If you have any objections you may disconnect at this time. Now I will turn the meeting over to Mr. Bill Horning, Vice President, Investor Relations. Sir, you may begin.

Bill Horning

Thank you, and good morning. Welcome to the PMI Group’s First Quarter 2011 Financial Results Conference Call. Today’s call will begin with comments from Steve Smith, PMI’s Chairman and Chief Executive Officer. Mr. Smith will discuss PMI’s overall financial results and other matters for the first quarter. After the prepared remarks, Steve along with Don Lofe, PMI’s Executive Vice President, Chief Financial Officer and Chief Administrative Officer, along with David Katkov, PMI’s Executive President and Chief Business Officer will be available to answer questions.

On today’s call we will be referencing non generally accepted accounting principal measures such as net operating income, which under SEC Regulation G we are required to reconcile to GAAP. These reconciliations of these measures with GAAP financial measures are available on our website.

Before we begin I would like to read the company’s Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. During this call we will be making forward-looking statements. Actual results may differ materially from the statements made during this call. The company’s business depends on investment considerations, which are highlighted in our Securities and Exchange Commission filings including our 2010 Form 10-K.

Forward-looking statements are made as of today May 5, 2011 and we undertake no obligation to update such statements except as may be required by law. Also, I’d like to note that for those interested in a reconciliation of our consolidated net loss to our consolidated net operating loss, to review the disclosure material posted on our website. At this time I will turn the call over to PMI’s Chairman and Chief Executive Officer, Steve Smith.

Stephen Smith

Thanks, Bill. Good morning, everyone, and thank you for joining today’s call. In the first quarter the PMI Group had a net loss of $126.8 million or a loss of $0.79 per share. This compares to a net loss of $157 million or $1.98 per share in the first quarter of last year.

Our results were driven by net loss of $136.3 million in our U.S. Mortgage Insurance operations, which had losses and loss adjustment expenses or LAE of $239 million. Now starting with our U.S. Mortgage Insurance operations, let me provide an overview of our new business writings and credit trends.

In the first quarter our U.S. Mortgage Insurance operations wrote approximately $1.5 billion of new insurance, a 53% increase from the $1 billion of new insurance written in the first quarter of 2010. Also CMG Mortgage Insurance Company, our credit union joint venture with CUNA Mutual wrote approximately $600 million of new insurance written. During the year we expect some improvement in purchase money mortgage activity, as well as gradual increases in the penetration rate for private MI.

PMI’s market share inclusive of CMG was 15.7% in the fourth quarter, which compares to 11.1% in the same period one year ago. While the first quarter data is not yet available, we believe our combined market share remained in the mid-teens. Therefore, we expect our combined PMI and CMG new insurance written to total $9.5 billion to $12 billion for the full year 2011.

Now moving to credit trends in the first quarter, we continue to see improvement with lower levels of new delinquencies and decreasing delinquent inventory. This is driven by the decline in new delinquencies from policies originated in 2006 and 2007, which we believe have peaked. Additionally, we now believe that the delinquency development from the 2008 book year has also peaked.

Furthermore, the subsequent books of business written in 2009 and 2010 are of high credit quality and are generating very few new delinquencies. For example, for book year 2010 we only have 34 defaults from approximately 29,000 policies in force. These two books of business are expected to produce on equity in excess of 20%.

Primary notices of default or NODs received in the first quarter totaled 24,754, down 28% from the first quarter last year and almost 14% from the fourth quarter. In the first quarter of 2011 we had 25,540 cures, which although larger than the number of new delinquencies, was below our expectations.

While we were pleased to see an increase in natural cures in the first quarter, our workout retention cures, which include HAMP and non-HAMP modifications as well as payment plan cures, were 5,644, representing approximately 258 million of delinquent risk enforce. This was below the 7,710 workout retention cures and 345 million in delinquent risk enforce reduction in the fourth quarter. Through our own Homeownership Preservation Initiatives, and our services efforts, we believe there are opportunities to increase these numbers.

As of March 31, 2011 approximately 18,800 of our delinquent loans went into retention or forbearance workout. This represents 16% of our delinquent loans. Total claims paid were approximately $205 million in the first quarter, which is down 23% sequentially and down 25% from the first quarter of 2010.

At the end of the first quarter, 52% of our total delinquencies were 12 payments or more in default. As these aged delinquencies work their way through resolution, our expectation is that our claims paid to increase during the year and approximate or be modestly below 2010 for the full year.

Of the $239 million of losses and loss adjustment expenses incurred in the first quarter of 2011, approximately $177 million was due to reserves or new delinquencies and $62 million was the net increase in prior year’s reserves related to increases in claim rates and our reserves related to pass claim denials.

The increase in claim rates was primarily due to fewer than expected cures of delinquent loans discussed earlier and the reserves for past claim denials increased primarily as a result of an increase in our estimate of the frequency of future reinstatements of claim denials.

At the end of the first quarter 2011, total gross reserves for losses and LAE was $2.68 billion. Our reinsurance recoverable from captive reinsurance agreements was $439.3 million which is supported by approximately $679 million in captive trust accounts.

The aggregate dollar amount of delinquent primary and pooled risk enforce rescinded or denied in the first quarter of 2011, was approximately $270.1 million. Our expectation remains that rescissions have peaked and will continue to decline and that claim denials will remain elevated.

As of March 31, 2011, the risk-to-capital ratio at our primary insurance company, PMI Mortgage Insurance Co. or MIC, was 24.4 to 1 and its excess over minimum policy holder position was approximately $39 million. We expect in the second quarter of 2011, MIC’s policyholder position will decline below the minimum and its risk-to-capital ratio increase above the maximum levels necessary to meet state regulatory capital adequacy requirements.

On March 30, the Arizona Department of Insurance advised that MIC is not required to obtain a waiver from the Department in order to continue to write new business in the event it does not meet the minimum level of policyholder position. The Department will continue to evaluate MIC’s minimum policyholder position along with other measures of PMI’s business in assessing its liquidity or financial resources.

Additionally, as you may recall from last year, BMI’s established a subsidiary to write business in states that ultimately do not permit PMI Mortgage Insurance Company to write insurance if it falls outside of the regulatory requirements. This subsidiary, PMAC, is an approved, limited mortgage insurer by both Fannie Mae and Freddie Mac. These approvals are subject to certain restrictions and could expire on December 31, 2011. PMI is operationally ready, capitalized and licensed in all 50 states and the District of Columbia.

Now, moving briefly to our International Operations, the segment reported a nominal loss of $974,000 compared to net income of $17,000 in the first quarter of 2010. Shortly after the close of the first quarter of this year we repatriated €10 million or approximately $14.5 million from PMI Europe to PMI Mortgage Insurance Co. In addition, we have requested an additional capital repatriation of €20 million from PMI Europe. Also subject to final regulatory approval, we expect to repatriate approximately $5 million from PMI Canada in the second quarter.

Our holding company, the PMI Group, has ended the first quarter with available cash and liquid investments of approximately $70.7 million. As in prior quarters, now let me update you on the value of the pledged note related to our sell of PMI Australia, or what we refer to as the QBE note.

Assuming full payout of the note, we will realize at maturity in September 2011 approximately $208 million. We don’t expect that the ultimate projected losses in this portfolio will trigger any reduction in the QBE note value.

Additionally, as we previously discussed, assuming full repayment of the QBE note, PMI Mortgage Insurance Company received $25 million from QBE as part of an excess of loss reinsurance agreement with the connection with the sale of PMI Australia. Assuming full payment of the QBE note and the profit commission on the reinsurance agreement in September of 2011 along with the effect of associated taxes, we expect to see an increase in our book value of approximately $0.94 per share at that time.

Now with regard to developments in Washington, D.C. that affect our industry, in late March, Federal Banking and Housing regulators in conjunction with the Department of Treasury and Housing and Urban Development released an advanced notice of public rule-making relative to qualified residential mortgages or QRM.

As you know, QRM is the first phase of what we expect to be a multi-year process to redefine key components within the nation’s housing finance system. Many market participants, including members of Congress and PMI believe that QRM as currently drafted, will unnecessarily deny access to otherwise credit-worthy buyers, and particularly first-time homebuyers, who will be unable to accumulate a 20% down payment.

Importantly the proposed QRM is inconsistent with the administration-stated goal of significantly reducing the role of government in housing and supporting the return of private capital. PMI, the mortgage insurance industry, and many other concerned industry participants will vigorously oppose many of the provisions of the draft QRM and we’ll be actively engaged through formal written comments, which are due by June 10, and communication with member of Congress. With that, let’s open up for your questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the Douglas Harter, Credit Suisse.

Douglas Harter – Credit Suisse

Thanks. I was just wondering if you could talk about the uses of cash up at the parent company, any other sources that you expect to have and just sort of how you are viewing the parent company liquidity and ultimately thinking as we move toward the 2016, ultimately move towards that maturity of debt.

Donald Lofe

Hi, Doug. It’s – thank you for the question. With respect to the holding company’s cash and liquidity resources for 2011, as Steve mentioned in his remarks, the most significant positive affect will be the QBE note that will be made as of September 30, obviously for the third quarter, $208 million.

As we’ve also mentioned in prior calls, $25 million of that amount is due and payable to MIC at that time. So that will be a reduction. And then with respect to the credit facility that will also be paid from the proceeds of the QBE note and that will be $50 million paid virtually right after the QBE note is paid to the holding company.

With respect to additional outflows, we would expect for the year that interest and financing costs will approximate $44 million and then there will be some minor intercompany settlements principally related to taxes and other nominal expenses. As far as actual cash expenses related to the holding company, there really is none as we’ve mentioned in prior calls, most of the expenses, if not all, are born by the operating company.

Douglas Harter – Credit Suisse

So just if I’m doing the math right, you’ll have, roughly, after you get the QBE note and make the required payments to the subsidiary and paying off the line you’ll have about $200 million of cash up at the parent company?

Donald Lofe

At that point in time, it would be a little bit more than that as of the third quarter. And you might remember as well, that we spoke before about the intercompany surplus note arrangement between the MIC company and the holding company. So the payments if you will for the convertible securities are borne if you will to the intercompany arrangement with MIC. So that would be an additional cash inflow to the holding company with then the interest payments coming from the holding company.

Douglas Harter – Credit Suisse

Great. And then I guess having the greater level of liquidity I guess how do you think about and balance the needs of keeping that versus dividending down to the insurance subsidiary to help the capital ratios there?

Donald Lofe

Good question. We will evaluate at that time upon full payment of the QBE note if and what amount of cash infusion we will make to the MIC Company and that obviously would be a Board decision at the TBG group level.

Douglas Harter – Credit Suisse

Great. Thank you.

Donald Lofe

Thank you, Doug.

Operator

Next question comes from Donna Halverstadt, Goldman Sachs.

Donna Halverstadt – Goldman Sachs

Good morning. I had a follow-up on one of your prepared remarks. You made the comment that reserves for past denials has increased because you’ve increased your estimate of reinstatements of denials and you very specifically just talked about denials but not rescissions. Is there a reason why you expect such an increase on denials but not on rescissions? I mean is there no expected increase in rescissions being overturned?

Stephen Smith

Donna, this is Steve. Let me start with rescissions. The rescissions are quite mature and looking at the patterns that we see there, they are developing as we kind of expected them to. Claim denials as you know have increased over the last year and elevated levels as we’ve discussed in recent conference calls. So that area’s a little bit more uncertain and it’s a little less developed than the rescission data. So we made the adjustment to reflect the information we got in the first quarter and we adjusted it upward. Don, do you want to add anything?

Donald Lofe

The only thing I’d add is just to emphasize Steve’s point, Donna, that there was little change with respect to the expectation for rescissions.

Donna Halverstadt – Goldman Sachs

Great. Thank you.

Stephen Smith

Thanks, Donna.

Operator

Thank you. Your next question comes from Scott Frost Banc of America – Merrill Lynch.

Scott Frost – Banc of America – Merrill Lynch

Hi. I wanted to talk about the claims paid number that you talked about and the 12-plus payment delinquency that you reserved against. That went up by roughly $1 billion and I’m guessing is that, could you give us sort of an idea of what percentage is going to turn to paid versus cured? Has it peaked? Should we expect it to go down since you’d made comments about delinquencies peaking?

And what your paid claims number seems to indicate is I think you made what, $1.3 billion in paid claims for the year in 2010. You should approximate that number this year. You say that implies an average of about $370 million per quarter going forward in paid claims. Do I have all that right, and are we expected to see that severe delinquent bucket reduce over the year? Is that what you’re telling us?

Stephen Smith

Let me start and mention that we’ve answered all your questions there. In terms of the age delinquency, it’s about 52% of our delinquencies at the end of the quarter. We do expect delinquencies to decline throughout the year, so obviously as we pay more claims those factors will decline and so we’ll get more modifications and we continue to have other loss mitigation results; those numbers will have the potential to decline, so the absolute amounts will decline.

The percentage rates is very difficult to predict, quite frankly. You have seen that number increase a bit as you see in the schedules and supplemental information, but the level of delinquencies that you also see relative to new delinquencies in cure – new delinquencies in the 4 11 bucket have declined. And we’ve indicated that we think the 2006 and the 2007 as well as the 2008 book year have peaked in new NODs, so kind of predicting that overall mix on a quarterly basis is difficult.

But we did see the claims paid at 2 0 5, and you’re right, we do expect to see the claims paid to increase in the second, third, and fourth quarters as lenders and our sales work through that age delinquency inventory and process those claims. And as we indicated, we do expect the total claim paid for the year to proximate or maybe be modestly below the actual 2010 level.

Donald Lofe

And Scott, I would just confirm your $1.3 billion for 2010 was the claim payment amount.

Scott Frost – Banc of America – Merrill Lynch

Okay. Thank you.

Stephen Smith

Thanks, Scott.

Donald Lofe

Thank you, Scott.

Operator

Your next question comes from Matthew Howlett, Macquarie.

Matthew Howlett – Macquarie

Hi, guys. Thanks for taking my question. Steve, did you say that 60% of your delinquent inventory was eligible for modern some type of forbearance plan?

Stephen Smith

Did you say 62%, Matt?

Matthew Howlett – Macquarie

Yes.

Stephen Smith

No. We didn’t quote that number. I think another MI company quoted a number like that. We haven’t quoted that number in quite some time. What we indicated was that 16% or about 18,800 of our delinquent loans were currently in a workout retention or forbearance plan as of March 31. I also indicated to you that the actual workout retention cures were lower in the first quarter than we expected. But we do think through our own homeownership preservation initiatives and outreach in addition to servicer improvements, we do expect that number to improve as we go through the year.

Matthew Howlett – Macquarie

And then just getting back to what the other MI said, I mean I think they did say the 62%. Is there any way to tell what could be eligible to go into those programs? And second part of the question is how does your reserving your methodology, how does it account for that, if any, of those potential markers for your late stage buckets?

Stephen Smith

When people began quoting that number last year, they really began to quote it relative to half programs, as you’ll recall. And because of the emergent of non-HAMP modifications and other payment plan modifications, we think that’s less relevant in terms of statistic, in terms of percentages of that. So that’s the reason we quit quoting it. Obviously with the scrutiny that is going on with all servicers in addition to our own outreach initiatives, we think there’s ample room for workout retentions and modifications throughout the entire portfolio, and we’re very focused on that.

Donald Lofe

And Matt, it’s Don. We do consider that in our reserve provisioning from an accounting perspective as well.

Matthew Howlett – Macquarie

Okay. Great. And just a last question, could you guys give us a cure ratio for April? Or some type of credit trend? Because typically March is sort of the best month from a seasonal perspective. I’m just trying to gauge what the setback was in April, if any, on the new defaults or the cures?

Donald Lofe

Matt, it’s Don. We’re just not in a position to give any type of forward-looking guidance with respect to that at this point in time.

Matthew Howlett – Macquarie

Okay. Great. Thanks.

Stephen Smith

Thanks, Matt.

Operator

Your next question comes from Douglas Harter, Credit Suisse.

Douglas Harter – Credit Suisse

Thanks. I just wanted to sort of follow up on your commentary that you’ve now seen through the 2008 vintage peaking. Is there any way you could help us think about what that might mean in terms of new notices going forward?

Stephen Smith

Doug, this is Steve. As you’ve seen, we’ve seen a substantial decrease in new notices that I’ve indicated in the prepared remarks, from the first quarter of last year as well as from reductions in the fourth quarter of 2011. I think it’s a good trend in terms of expectations, new delinquencies going forward, because as you look at our supplemental data, the risk in force or policies in force from 2008 and prior are a substantial portion of our overall risk in force.

So it’s good news that the ‘06, ‘07 and ‘08 books in our perspective have peaked. In addition, we highlighted the quality of the ‘09 and ‘10 book years, because we are getting very few new NODs. So we would expect new NODs to continue to decline in 2011 over 2010, and very good trends in that area.

Douglas Harter – Credit Suisse

Could we expect sequential declines or just continued sort of year-on-year declines?

Stephen Smith

Well, you do have seasonality as you go throughout the year. But we do expect very good improvement on a year basis versus ‘10. In terms of calling a particular quarter you do – you know there’s seasonal variances by quarter.

Douglas Harter – Credit Suisse

Right. And just sort of the detail of the new notices you’re seeing, are you seeing any sort of change in whether it’s repeat notices or if it’s sort of never been delinquent borrowers? What are you kind of seeing in that area?

Stephen Smith

Well, you do have a combination of new as well as repeat. I don’t have the statistic in front of me right now, Doug, but we can certainly follow up with you on that. What I will tell you, though, is that the percentage of re-defaults relative to previously modified loans is actually below what we expected of the quarter.

Douglas Harter – Credit Suisse

Thank you.

Operator

(Operator Instructions) Your next question comes from Scott Frost Bank of America – Merrill Lynch.

Scott Frost – Banc of America – Merrill Lynch

Sorry. I had a follow-up. I wanted to make sure on the – on the default information I had the explanation correct. You were saying that you rolled down approximately 3,500 loans rolled out of the 4 to 11 bucket; 1,300 rolled to the 12 plus bucket. Your loss reserves for the 12 plus rose by a billion. Is that – is that – can you sort of – is that reflect more severity as well as the 1,300? Or is that how to think about this, the role? Just to make sure I understand how it broke down. It’s Page 14 of the...

Donald Lofe

Got it. Just as a clarification we just rose by $1 billion, but are you looking at the...

Scott Frost – Banc of America – Merrill Lynch

In reserve amount. Reserve for losses in early payment status went up from $1.8 billion to – well, close to $2 billion, right?

Stephen Smith

So about $130 million.

Donald Lofe

Yeah, $150 million, that’s correct. We’re sorry. We just didn’t know what you meant by the billion dollars there. But that is correct to cover it up. And then you see the count. As you see your numbers there’s account move from 12/31/2010 to the bucket and the roll down, as you said, went from 60,492 up to 61.8 in units.

Scott Frost – Banc of America – Merrill Lynch

Okay. All right. Okay. Thanks.

Operator

Your next question comes from Ed Groshans, Height.

Ed Groshans – Height

Good afternoon, and thank you for taking my call. I guess, Steve, you mentioned in your comments that you’re going to vigorously fight against some of the QRM definitions that are in there. I guess I had a little more optimistic view relative to the MI industry in that it seems – my reading of the proposed rule is that there’s three opportunities for the MIs to prove that they can get designated – as a QRM loan outside the scope of the GSEs. And it seems like you might have a different view, so I was just wondering what are you seeing in there that you think needs to be addressed more vigorously?

Stephen Smith

Yeah. Let me start with that. You’re right, there are alternatives in that rule and there are ample opportunity for our industry to comment on a variety of alternatives. What I meant vigorously, it really is the part of the questions that they ask relative to frequency in addition to severity.

They can see the value of the industry relative to the severity, but we have excellent studies that are done from the 2002 to 2007 period on alternative executions, primarily the piggyback loans versus the MI industry that clearly support, and we will more clearly present a refined information to the regulators, that also prove, in our view, that the MI industry not only has a huge effect on improving severity, but also frequency.

One of the – so we will highlight it by data. We will also highlight it by process. If you think about our industry we are involved in every process of the origination cycle, from origination to disposition and we add value, independent value at each of those points in the cycle. And we will discuss that as well. So basically I was responding to that part of it.

Ed Groshans – Height

Okay. Because it does seem like – with that data that you’re talking about, it seems like there’s an opportunity for the industry to show that even without the GSE resonation that high LTV with MI loan has enough credit quality criteria to then be designated QRM and not have risk retention requirements attached to it?

Stephen Smith

Yes. Ed, we agree with that.

Ed Groshans – Height

It seems like that would be good for the whole industry, because them you don’t need the GSEs to – that whole concern of the fate of the MIs is tied to the GSEs kind of gets put to the side a little bit because then there is a pool to operate in ex the GSEs?

Stephen Smith

Well clearly we think the data and our comments will reflect the value of MI and also private capital intake and risk, absolutely.

Ed Groshans – Height

Okay, fantastic. Thank you very much, Steve.

Stephen Smith

Thanks, Ed.

Donald Lofe

Thanks, Ed.

Operator

Currently at this time there are no further questions. And I’ll turn it back over to Mr. Horning for closing comments.

Bill Horning

Thanks, operator. This concludes the question-and-answer portion of our conference call today. Thank you for joining us on today’s call and as always, we thank you for your ownership, support and interest in the PMI Group.

Stephen Smith

Thank you.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!