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FPIC Insurance Group, Inc. (NASDAQ:FPIC)

Q2 2008 Earnings Call Transcript

July 31, 2008 11:00 am ET

Executives

John Byers – President & CEO

Chuck Divita – CFO

Bob White – President, First Professionals Insurance Company, Inc.

Analysts

David Lewis – Raymond James

Mark Hughes – SunTrust Robinson Humphrey

Paul Newsome – Sandler O'Neill

Mike Grasher – Piper Jaffray & Co.

Operator

Good morning. My name is Mindy, and I will be your conference operator today. At this time, I would like to welcome everyone to the FPIC Insurance Group Second Quarter 2008 Conference Call. (Operator instructions) We're now ready to begin the call.

Unidentified Corporate Participant

Good morning, everyone. And thank you for joining the FPIC Insurance Group Quarterly Conference Call. The call this morning will include a brief presentation followed by an opportunity for questions and answers. Please be reminded that the call today is being recorded, and a replay will be available this afternoon at 2:30 p.m. A webcast replay will also be available.

Today's presentation and the discussion that follows may include statements about expected future events and future financial results that are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements are not guarantees of future performance, and actual results may differ materially as a result of risks and uncertainties that we describe more fully in our earnings release and in documents that we file with the Securities and Exchange Commission.

Our earnings release can be found in the Investor Relations section of our Web site, at fpic.com. We do not undertake to revise forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.

Today's presentation may also include certain non-GAAP financial measures which we explain more fully in our earnings release, including a reconciliation of reported non-GAAP measures to the most directly comparable GAAP measure.

Now let me introduce our participants this morning. We have John Byers, President and Chief Executive Officer; and Chuck Divita, Chief Financial Officer. Also joining us this morning is Bob White, President of our insurance subsidiaries.

We are now ready for our presentation. Here is John Byers.

John Byers

Thanks and good morning. The second quarter was another very strong quarter for us. We achieved operating earnings per diluted share of $1.17 for the quarter, which is 15% better than second quarter 2007 results. Our return on average equity from continuing operations for the four quarters ending with the second quarter was 15.6%.

These good results reflect our strong underwriting results, together with our solid investment returns and our capital management initiatives. By virtue of our very strong capital position, we've dividended to our holding company, a total of $21 million from our insurance operations from year-end through the second quarter to support our stock repurchase program.

Notwithstanding these dividends, our insurers remained well-capitalized and continue to write business at a very conservative net premium-to-surplus ratio.

Revenues for the quarter declined 12% compared to second quarter 2007. This was anticipated in light of decreasing premium rates in response to several years of significantly improved claims trend.

Our retention of existing business remained excellent during the quarter, reflecting our very strong longstanding relationship with our customer base and agency force. Our policyholder count grew 2% compared to second quarter 2007. While policyholder growth isn't necessarily linear, we're working diligently on growth opportunities and like the trends we're seeing.

Overall, claim strength remained solid during the quarter, highlighted by a continuing low level of claims frequency. And one other item – as we previously announced, in April, A.M. Best reaffirmed the A minus, or excellent, financial strength rating of our insurers.

All in, we're pleased with where things stand and how we're positioned in terms of our results and our prospects going forward, our strong capital and market positions, our opportunities, and the efficacy of our business strategies, which are designed to drive sustainable shareholder value.

With that overview, I'll now turn the discussion over to Chuck to review our second quarter financial results in more detail.

Chuck Divita

Thanks, John, and good morning, everyone. Our business continued to perform well in the second quarter, with our results reflecting the consistent execution of our business plan. I'll provide some highlights of the quarter, with comparisons to the second quarter 2007 unless otherwise noted.

Operating earnings per diluted share grew 15% to $1.17, driven by strong profitability and capital management initiatives. Net premiums written declined 10% as a result of lower rate in our Florida market. Overall, policyholder accounts grew modestly due to excellent policyholder retention level and new business initiatives.

Total revenues declined 12% as a result of lower rate and the impact of prior changes in business mix and premiums earned during the quarter. Overall, claims results for the second quarter of 2008 continued to be good.

Frequency, adjusted for the composition of our book, remained near historically low levels, and payment severity measures were within expectations. Loss reserves continue to reflect our conservative reserving philosophy.

As a result of downward indications across multiple accident years, we recognized $4 million in favorable prior-year reserve development during the quarter. We'll assess claims results and loss reserves further as the year progresses.

Our expense ratio was 22% for the quarter, generally reflecting lower net premiums earned and our efficient underlying cost structure. The coverage related to a prior guarantee fund assessment, also a benefit of the ratio.

Our financial strength is evidenced throughout our balance sheet, with a high-quality investment portfolio, appropriately conservative reserves and a strong capital position. Book value per common share grew 2% from year-end 2007 to $33.83. Our insurance subsidiaries continue to be very well capitalized, riding in a ratio of net premiums written surplus of approximately 0.7 to 1.0 on a sales grow month basis.

As John mentioned, during the first six months of 2008, our insurance subsidiaries provided $21 million in dividend for the holding company, a further hint of our capital management initiatives. And finally, during the quarter, we repurchased approximately 491,000 shares to our common stock at an average price per share of $46.65. With that, we're now ready for questions.

Question-and-Answer Session

Operator

(Operator instructions) Your first question comes from David Lewis from Raymond James. Your line is open.

David Lewis – Raymond James

Thank you, and good morning.

John Byers

Good morning, David.

David Lewis – Raymond James

Congratulations on another solid quarter.

John Byers

Thank you.

David Lewis – Raymond James

Bob, I got a couple questions to start for you. Has there been any competitive changes in the Florida market worth noting during 2008?

Bob White

David, really nothing's changed since our first quarter call. And the only change that we reported in the first quarter call was the increased activity on the part of AIG that we noticed. That continues in the second quarter. But we are holding our own against the competitive pressure they've created, and we're quite satisfied with our retention in results on new business.

David Lewis – Raymond James

And Bob, remind me on that – are they starting to focus on some of the smaller specialty groups? They've always been heavy on the hospital groups, but are they kind of going down in size?

Bob White

Well, I think you have to bear in mind that the per-unit cost of insurance in Florida is a lot higher than it is in most other states. And their focus in Florida is on groups that are smaller in size than they might be in another state. Because the smaller groups still generate in Florida a higher premium volume for them. So we tend to see them willing to compete on groups of 10 or more in Florida, where might be a lot higher in another state.

David Lewis – Raymond James

Okay, that's helpful. And Bob, there was an article which you were quoted in this past week, talking about the large number of doctors that are bear in Florida, and that this clearly hurts patients' ability to sue these doctors. Are there any moves from the Florida legislature to force docs to buy minimum coverages?

Bob White

Well, the question of mandatory insurance keeps popping up. But it's an oversimplified fix, because the issue of mandatory insurance is linked in our minds to solving the problem with reimbursement levels for doctor services from governmental sources and third-party payers. And without addressing that issue, mandating mandatory insurance for physicians could have unintended consequences by driving out physicians who simply can't pay. They would either quit practicing or leave the state. And that could overburden the physicians who remain and could create consequences for our company by impacting our business and eroding our profitability. Because overburdened physicians tend to create more claims than physicians who are working with inadequate supply. So it would be easy for us to say we support mandatory insurance, because at least on the surface it appears as if it would benefit our business. But we feel the issue is far more complex than it appears. And absent steps to address physician reimbursements, which would increase the doctor's ability to purchase insurance, we can't support that solution. So it keeps popping up every year or so, but it really doesn't have much support in the legislature, and we don't think there'll be anything in the near-term that would change that.

David Lewis – Raymond James

That's helpful. And finally, Bob, any changes in Florida to potentially overturn tort reform? Are there any particular cases you see out there that are kind of making the headway to ultimately go to the Supreme Court?

Bob White

Well, David, the ones that get publicized are the trial judges who make a ruling in a case before a jury verdict has been rendered. We're focused in on the cases where the case has actually gone to trial, resulted in a verdict in excess of the cap amount. And in each and every one of those cases, the trial judges have applied the cap. And the case – there are two or three cases that we're watching that are now actually in the appellate court, where the trial judge has applied the cap, and the plaintiffs are challenging the application of the cap. None of them involve our company, but we are watching them very closely.

David Lewis – Raymond James

But still, that would be a couple years out before we'd actually probably get through the state Supreme Court, is that accurate?

Bob White

Yes, at least a couple years. We're probably at least a year away from an appellate decision. It could be as short as six months, but probably a year, and then another year after that for a Supreme Court appeal.

David Lewis – Raymond James

Great. And John, quick question for you – M&A discussions – anything new there, things picking up? Or would you say they're pretty status quo over the past six months?

John Byers

Pretty much status quo. I think the same thesis – there's still a lot of discussion of M&A activity. We see it in articles, we hear it from a lot of investment bankers about our sector. The investment thesis is understandable that there are a lot of companies in the insurance industry in other fields out there that have excess capital. They're having a hard time growing their top line because of the softening of their market. Also, in the case of some foreign entities, they have been expressed desire to get into the U.S. specialty market. So there's a lot of reasons. They've got the capital, they'd like to put the capital to work. MPL med mal has been performing better than most other segments of the property and casualty insurance market, so there's a lot of focus on our sector. So we continue to hear a lot. I think there are companies out there that probably have an interest in doing something. But really beyond that, that's similar to what I believe I said last quarter. We continue to see that, and that hasn't changed.

David Lewis – Raymond James

John, do you hear any rumblings that their ranchers might be interested in this space, given their excess capital?

John Byers

We hear from time to time that the Bermuda companies might be interested, yes.

David Lewis – Raymond James

Okay, great. Thanks very much.

John Byers

Thanks.

Operator

Your next question comes from Mark Hughes from SunTrust Robinson Humphrey. Your line is now open.

Mark Hughes – SunTrust Robinson Humphrey

Thank you. You suggested that your frequency was still low. And I think in historical terms, that seems very correct. Little bit of an uptick in claims and incidents in the quarter, though. How should we think about that?

John Byers

Let me just hit that at a high level, and then I'll ask either Bob or Chuck if they'd like to add to that. Frequency is very low based on historic levels. Our frequency over the last couple of years has probably been the lowest ever in the history of the Company over 30 years. Our frequency is still very, very low, and we're very comfortable with it. We're very happy with where our frequency is now. In terms of what we saw in the quarter in terms of claims – what I would tell you there is those numbers bounce around from quarter-to-quarter; sometimes they're a little lower, sometimes they're a little higher. We haven't seen anything that's a particular concern there. We, of course, watch them. But those numbers do bump around. And again, if you look at historic numbers, they're quite good. And Chuck, would you or Bob – either of you want to add anything to that, go right ahead.

Chuck Divita

Well, John, I would simply say that, Mark, our 2008 frequency looks very close to the frequency we had in 2005. And while that's not quite as good as it was in 2006 and 2007, as John said, those are the best years in the Company's history. And if we could end the year looking like 2005, we'd be very pleased with that result.

Mark Hughes – SunTrust Robinson Humphrey

I think that retention was very good in the quarter. Any particular programs, or any special reason for that better retention?

John Byers

Mark, no. We've had very good retention now for several years. It did happen to be – in fact, I think our Florida retention was at least the best that we've had since this group came in, in 2000 –

Mark Hughes – SunTrust Robinson Humphrey

Right.

John Byers

(inaudible) we've ever had. We suspect it's probably the best retention in the history of the Company. Our national retention was a little over 95%, which was also excellent. I think it's not a function of a particular program; we've had good retentions. I think it's a function of our very close relationship to our customer base, the medical community; and with our agency force. But that's really, I think, the driver of that continuing good retention more than anything else.

Mark Hughes – SunTrust Robinson Humphrey

Okay, great. Nice quarter. Thank you.

John Byers

Thanks Mark.

Operator

(Operator instructions) Your next question comes from Paul Newsome from Sandler O'Neill & Partners. Your line is now open.

Paul Newsome – Sandler O'Neill

Good morning. It's not often I get called nuisance directly, but I guess I should accept that. Most of my questions have been addressed quite nicely. I was hoping you could just remind us how you think about capital. You did mention obviously that your statutory surplus-to-premiums level is pretty low. I would imagine you have a more sophisticated method of looking at it than that yourself. But could you remind us, just to give us a sense of kind of where you are from a pure capital perspective?

John Byers

Chuck, why don't you take that?

Chuck Divita

Sure. Well, we are very well capitalized, as you mentioned, riding at a very conservative leverage. We also have a conservative debt position as well. So we are very well-capitalized. We've been able to put that capital to work in generating very nice returns – 15.6% for the trailing 12 months. So all of those have performed well. In terms of what we do with that capital, we obviously the highest and best use is writing good, profitable med mal business and supporting other growth initiatives. And beyond that, if we feel like the best use of the capital is to return it to shareholders through share repurchases, we've obviously done a fair amount of that as well. So we look at all those things. We look at our capital position, our outlook, and certainly where the shares are created.

Paul Newsome – Sandler O'Neill

Do you have any targets for that premium-to-surplus level?

Chuck Divita

Well, a typical target for the industry is one-to-one net premiums written-to-surplus. We've been on the lower end of that, and the industry, actually, is on the lower end of that – probably in that 0.6 to 0.7 range. Longer term, we would look to move that up closer to one-to-one.

Paul Newsome – Sandler O'Neill

Great. Thank you very much.

John Byers

Thank you, Paul.

Operator

Your next question comes from Mike Grasher from Piper Jaffray. Your line is open.

Mike Grasher – Piper Jaffray & Co.

Thank you. Good morning, gentlemen.

John Byers

Morning, Mike. How are you?

Mike Grasher – Piper Jaffray & Co.

Doing fine, thanks. A few questions – first of all, wondering, Chuck, if you could share with us what drove the – which accident years drove the favorable development in the quarter?

Chuck Divita

Sure. Well, it's very similar to what we said in the first quarter. We're seeing downward development really 2004 through 2007. That continued in the second quarter. All those years have developed very nicely. In terms of the favorable development that we've recognized, that's been more based on those earlier accident years, because they're more mature.

Mike Grasher – Piper Jaffray & Co.

Earlier implying '04, '05?

Chuck Divita

Yes, '04, '05, and maybe some '06, but really '04 and '05.

Mike Grasher – Piper Jaffray & Co.

Okay. And then, I think you had mentioned – or actually, I guess, in the Q, were talking about – had received dividends of $21 million for the first six months, and permitted to receive up to $48 million. How do you decide on a quarterly basis, the amount? Or what are you restricted to on a quarterly basis?

Chuck Divita

Well, we have no restrictions on a quarterly basis. We obviously can go up to $48.2 million without additional authorization. What we really look to is sort of the cash flow position of the holding company and what our objectives are from a capital management front. So we have the flexibility to take that capital when we need to.

Mike Grasher – Piper Jaffray & Co.

Okay. So it's going to vary some degree on a quarterly basis, then?

Chuck Divita

It can, but we try to be thoughtful about when we take it out. But I think that since we've taken roughly half of it so far this year that would give you a good indicator.

John Byers

Right. There's no systematic – we're not on a quarterly basis taking a set amount; we're doing it on really a case-by-case basis based on the capital needs of the insurance companies, or the uses for the capital that we might have at the holding company.

Mike Grasher – Piper Jaffray & Co.

Okay, that's helpful. And then, I think it was in May where you maybe switched from utilizing collars over to swaps – interest rate swaps. Wondering if you could just discuss that decision or philosophy a little bit in terms of how that changes your risk or certainly introduces a counterparty risk – but from the standpoint of that, compared to the savings you might receive going with an interest rate swap versus a collar.

John Byers

The decision – we've been watching the debt markets for some time and had explored all the options you'd think of in terms of paying it down, paying it off, replacing it with fixed income debt, or putting a synthetic fix in place. And at the end of the day, because of the turbulence in the capital markets and other things, we determine that it was best to lock in the rate, if you will, on $35 million of the debt. We've been very happy with that trust-preferred debt; it carries no covenants, it's long term. And so the decision was that that was the best thing to do relative to the cost of capital on that debt. You're right that obviously when you have a derivative instrument, there is counterparty risk. But we're very comfortable with SunTrust Bank, and the thought process and the analysis that we did there. It will, as I said – when those swaps become effective; there's a couple that come effective later in the year – it will fix the rate, if you will, on $35 million of our $46 million in debt.

Mike Grasher – Piper Jaffray & Co.

Okay. And is there any sense, or anything you could share with us, in terms of what your interest rate – or your interest savings might be going down this path versus the collar?

John Byers

Well, the collar, as you noted, floats around. Right now, the three-month LIBOR has continued to be at low levels. We've benefited from that. And part of our debt will continue to be floating. So we will benefit to the extent that the LIBOR rate is lower than where we fixed the rate. But all in, we're looking at probably in the neighborhood of 8, 8.1% all-in cost of debt under the new arrangements, whereas before, we had been as high as 9% plus.

Mike Grasher – Piper Jaffray & Co.

Okay, that's helpful.

John Byers

And that's pretax.

Mike Grasher – Piper Jaffray & Co.

Okay. Thank you very much, and congratulations on the quarter.

John Byers

Thank you, Mike.

Operator

Your next question comes from David Lewis from Raymond James. Your line is open.

David Lewis – Raymond James

Thanks. Couple of questions, probably for you, Bob. Are we still seeing growth in policyholder counts coming from lower-risk, lower-premium doctor groups? Or is that something that's kind of worked its way out here over the last 12 or so months?

Bob White

Well, we're seeing a stabilization in our business mix. Previously, we'd seen a lot of growth in the podiatry area and some of our other smaller programs. But right now, we're seeing an influx of physicians. And currently, we're seeing a lot more from physicians outside state of Florida, particularly in Georgia and Arkansas right now.

David Lewis – Raymond James

Yes, that was my next question. Talk about some of the opportunities you see in Georgia, Arkansas or any other markets that you might be looking at. Is that somewhere you might put a little more focus on in the second half?

Bob White

Well, I wouldn't call it more focus, David. We've been very focused on those markets all along in trying to grow our business. It's just like pushing a big, heavy wheel uphill – once you get the momentum behind you and going, it gets a little easier to push the wheel. And I think that's what we're seeing – is all the things that we've done over the course of the last 12 to 18 months are finally coming to fruition. And we're seeing opportunities we weren't seeing before, and we're converting those opportunities at a little higher rate than before.

David Lewis – Raymond James

That's helpful. Thanks very much.

John Byers

Thanks.

Operator

Since there are no further questions, I'll turn our call back over to John for his closing remarks.

John Byers

Thanks. As I said earlier, we're pleased with our second quarter results and where things stand. Looking ahead, we'll remain focused on the business principles that have brought us to this point, including strict underwriting, disciplined pricing, aggressive, effective claims management and systematically assessing and taking advantage of opportunities that make sense for our organization and our shareholders.

With that, we'll close the call. Thanks for participating and your support. We look forward to speaking with you again on our next call.

Operator

Our conference will be available for replay beginning at 2:30 p.m. today and will run through Thursday, August 7th. Callers in the U.S. and Canada may access the replay by dialing 800-642-1687, and international callers may dial 706-645-9291. The access code for both U.S. and international callers is 55768034. A replay of the conference call webcast will also be available on our corporate Web site, fpic.com, beginning at 2:30 p.m. today.

This concludes our call for today. Thank you for joining us. We hope you'll join us again next quarter. You may now disconnect.

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Source: FPIC Insurance Group, Inc. Q2 2008 Earnings Call Transcript

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