National General Holdings' (NGHC) CEO Barry Karfunkel on Q4 2016 Results - Earnings Call Transcript

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National General Holdings Corp. (NASDAQ:NGHC) Q4 2016 Earnings Conference Call February 27, 2017 11:00 PM ET

Executives

Christine Worley – Director-Investor Relations

Barry Karfunkel – Chief Executive Officer

Mike Weiner – Chief Financial Officer

Analysts

Matt Carletti – JMP Securities

Randy Binner – FBR Capital Markets

Meyer Shields – Keefe, Bruyette & Woods

Operator

Good morning ladies and gentleman, and welcome to the National General Fourth Quarter 2016 Earnings Call. At this time, all participants will be placed in a listen-only mode and we will open up floor for your questions or comments after the presentation.

It is now my pleasure to turn the floor over to your host, Christine Worley, Director of Investor Relations. Ma’am, the floor is yours.

Christine Worley

Thank you. Good morning, and welcome to National General Holdings Corp fourth quarter earnings call. My name is Christine Worley, and I am the Director of Investor Relations at National General. With me this morning are Barry Karfunkel, Chief Executive Officer; and Mike Weiner, Chief Financial Officer.

Before Mr. Karfunkel and Mr. Weiner review our results, please note the following with respect to forward-looking statements. Members of our management team may include statements other than historical facts in their remarks. Such statements may include the plans and objectives of management for future operations, including those relating to future changes in the Company’s business activities and earnings results or potential.

These statements are based on current expectations and involve assumptions that are difficult or impossible to predict accurately, many of which are beyond our control. There can be no assurance that actual developments will be consistent with those assumptions.

Actual results may differ materially from those expressed or implied in these statements, as a result of significant risks and uncertainties, including the factors set forth in our filings with the Securities and Exchange Commission. The projections and statements in this presentation speak only as of the date of this presentation, as we undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future developments or otherwise, except as may be required by law.

Finally, our management will refer to financial measures that are not derived from Generally Accepted Accounting Principles, or GAAP. Reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measurements and related information is provided in the press release for our fourth quarter 2016 earnings, which is available on the Investor Relations section of our website at www.nationalgeneral.com.

With that I present our CEO, Mr. Barry Karfunkel.

Barry Karfunkel

Good morning and thank you all for joining our fourth quarter 2016 earnings conference call. Well, our first quarter earnings results were lower than we would like to see primarily due to cash activity on our auto and lender-placed insurance lines of business, I’m extremely excited about how we’ve position National General for the future.

The personal auto insurance sector as a whole is facing pressure and by leveraging our superior technology, claims, and pricing capabilities we’re seeing a high organic growth rates both this quarter and for the year.

As a result of our Direct General acquisition, we now have the ability to market nonstandard auto directly to the consumer, while the Nationwide renewal rates transaction opens up the new marketing channel, where National General will be the first nonstandard option for their exclusive agents.

I’m pleased to report that was completed the migration of Direct General’s claims on to our platform, eliminating a significant expense and more importantly enabling us to have to required claims controls in place which drive our underwriting performance.

With respect to our Nationwide renewal rates transaction, we begin to receive their internet leads in the first quarter. We’re encouraged by the level of engagement of their exclusive and independent agents thus far and expect to see more meaningful topline benefit later in the year. As we complete the quote automation process between our respective platforms, which will enhance that ease of use for their agents to quote our products.

Our commercial vehicle book of business continues to do extremely well, we’ve added to our book of business with the Century-National transaction and we expect to get some added commercial vehicle protection as a result of the Nationwide transaction. While the commercial vehicle industry as a whole as struggle to maintain profitability, our commercial vehicle business is primarily focused on the personal use type vehicles, we were able to leverage our expertise from personal vehicle and it continues to perform very well.

We’ve had made significant progress in our homeowners business over the past year with growth coming from new partnerships as well as expanding our product offerings, including our premier line which serves as the high net worth market. In 2016 we diversified our book of business which has historically been highly concentrated in the Northeast. As a result of our Century-National and Standard Mutual acquisitions, we now have an established presence on the West Coast and in the Midwest.

We believe we currently have a solid state footprint to support strong growth into the future. Our lender-placed business declined through the loss of in auto collateral protection client, we maintain relationship with that client and our full tracking this year auto loans. However, they made a corporate decision to stop placing lender-placed insurance on their auto loans. In recent months, we’ve signed on few new accounts and [indiscernible] prospect that we expect to convert on in the future.

Turning to our A&H segment, we posted a wonderful Q4, which is indicative of future earnings potential to acquire to insurance lines of business proceed great results, and our agencies have experienced solid top line growth.

Turning to our outlook for 2017, we looked further enhancing our position within our respective markets. We look forward to emerging our legacy non-standard auto data with Direct General on a single database, which will enhanced our product offerings and enable us to enter certain states that perform very well for Direct General through the independent agency channel.

With our homeowners’ product, we look forward to continued growth and will be doing a fair amount of work to upgrade our product specification, while making progress on integrating the Century-National and Standard Mutual platforms. With our lender-placed lines of business, we’ll be investing in making our tracking platform more client centric, which will also reduce our expenses going forward. For 2017, our margins for this book of business should be below target, while we work to enhance our platform and our topline.

For Accident and Health, we’re completely of insurance platform and we will be investing and upgrading our platform to ensure that it is best-in-class. Our agency’s margins remain pressured in this environment of low commission rates in the Accident and Health segment. Nonetheless, they contribute the solid amounts of underwriting income for our carriers. We also see the potential opportunity to leverage our Direct General distribution to increased Accident and Health revenue in the future.

Lastly, with our acquisition of Quotit, a leading individual health insurance comparative rater. We see the opportunity to leverage that in some platform that could be a basis for strong independent agency technology offerings and provide us with strong software as a service licensing fee revenue. In terms of acquisitions as of now, I don’t proceed us having acquisitive year that we’ve had in 2016 rather we see a lot of opportunity for smaller tuck-in acquisitions, which have the potential to significantly enhance our existing business.

In closing, 2016 was the year of transformative growth for National General. We’ve had a fantastic top line results and position to Accident and Health for wonderful future results, while adding new capabilities with our acquisitions, which will play a significant role in our future growth. I’ve never been more excited about the future of National General than I’m today.

With that, I’d like to turn the call over to Mike Weiner, our CFO, for further detail on our financial performance.

Mike Weiner

Thank you, Barry. Fourth Quarter 2016 net income was $31 million versus $14 million in the fourth quarter of 2015. Operating earnings were $33 million versus $42 million in last year’s quarter. Operating EPS was $0.30 compared to $0.39 in the prior year’s quarter based on weighted average shares outstanding of $109 million as of December 31, 2016.

Our fourth quarter results were impacted by some unusual items, which I’d like to walk you through. Firstly, Hurricane Matthew, we’ve experienced $14 million in losses associated with Hurricane Matthew which struck the Southeastern close to United States in October of 2016. This fell below our previous announced expected range as losses from our lender-placed book where below our initial indications. The majority of the losses emanated from our order book which was impacted by the flooding that took place in North Carolina.

Development on the Louisiana flooding, we recorded an additional $2 million in losses related to the flooding in Louisiana that occurred in August 2016. A $5 million impact due to the runoff of that lender-placed auto clients Barry mentioned. We continue to see very strong organic growth within our auto line, which has resulted in a loss ratio being elevated by roughly one point in a new business.

Now I’d like to give you some additional detail on our two operating segments. Firstly, within Property and Casualty, net written premium grew 22% to $643 million driven by 17% of organic growth $59 million from the Direct General acquisition, $43 million from the Century-National acquisition, $12 million from Standard Mutual, and $13 million from the Assigned Risk Solutions, which we began right in the business on our own paper in the first quarter of this year.

We reported $47 million in net written premium from our Lender Services product, down from $126 million in the fourth quarter of 2015 with the majority of that decline related to the previous mentioned auto client. The top line impact in this quarter was artificially high as the product is high cancellation rates and includes the refund of premiums from previous quarters. Moving forward, we will continue to provide loan tracking services for that client. As Barry mentioned in his remarks, we have recently signed a few lender-placed clients, which should have a positive impact on the top line results in the near future.

Service and fee income grew 49% to $82 million, driven by underlying premium growth acquisitions completed in the past year particularly Direct General and the growth of fees earned by the attorney-in-fact that managed the reciprocal exchanges. The Property and Casualty combined ratio was 98% compared to 92% in 4Q 2015 excluding amortization of intangibles assets with the increase in both the loss ratio and expense ratio driven by the aforementioned items. The loss ratio was 67% compared to 65% in 4Q 2015 with the majority of that increase was driven by catastrophic losses from both Hurricane Matthew in the fourth quarter as well as the operating adjustment and losses from the Louisiana flood that occurred in the third quarter.

The expense ratio was 31% compared to 27% in 4Q 2015 with the uptick driven by less lender-placed product to spread the fixed expense base over as well as increased incorporate and integration expenses. Within Accident and Health segment, net written premium grew 9% to $97 million, which benefited from strong growth in our domestic operations with a total of $39 million in net premiums written compared to $13 million in 4Q 2015 as we continue to transfer business previously written on third-party carriers onto our own paper.

Service and fee income declined $27 million to $44 million in the fourth quarter of 2015, primarily driven by a shift in products written during the quarter in response to changes in short-term medical regulations, which will earn in on a deferred basis throughout the year 2017. Accident and Health combined ratio was 85% versus 104% in 4Q 2015 excluding cash amortization of intangible assets. The loss ratio was 63% versus 93% in the prior year’s quarter.

The results reflect a more normalized level of the small group self-funded product and strong results from our supplemental products and our European accident books. The expense ratio was 22% versus 12% in the prior year’s quarter, partially driven by lower fee income in the quarter, which is a contra-expense item. In our earnings release, we disclosed that we expect to file a Form 12b-25 with the SEC on or before March 2, which states that we will be unable to file our 10-K in a timely manner. We are delayed in our filing due to more time needed to complete our year-end audit. We do not anticipate any changes from the previously reported results and expect our 10-K to be filed on or before March 16.

I would now like to turn the call over to the moderator and open it up for questions.

Question-and-Answer Session

Operator

Thank you, ladies and gentlemen. The floor is now open for questions. [Operator Instructions] Your first question is coming from Matt Carletti [JMP Securities]. Sir, please announce your affiliation. Your line is live.

Matt Carletti

Hi, thank you. I’m Matt Carletti with JMP. Good morning.

Barry Karfunkel

Good morning.

Matt Carletti

Couple of questions: first one, just talking about the health side of the business, your potential impacts or potential changes coming through ACA. I know that we don’t know what those are going to be, but I just curious if could give us a little color on how you are thinking about how your business is situated for kind of some of the changes that are at least being discussed?

Barry Karfunkel

On the carrier side of things, we should be pretty unchanged, don’t first see a lot of impact. It’s more on the agency side of things. We’re again depending on what kind of change happens exactly with Affordable Care Act if we were to enter into an environment where the minimum loss ratios from selling major medical were to go way or be decreased then that would ultimately provide more room for commission payments and allow commission payments to go back somewhat to what they were historically before the Affordable Care Act that should potentially be able to provide a boost otherwise don’t foresee a significant impact.

Mike Weiner

Yes, I would add to that, we wiped – it out every possible alternative that we can think about now using everything that’s out there in the market. Unfortunately, it’s says everyone knows a little gray and we’re following things very, very closely. I think the key thing that I alluded to earlier was that we have acquired through these years and the acquisitions and whatnot a phenomenal distribution force.

And that distribution force for whatever product becomes available that we think will be able to utilize that quite substantially. And then be in a situation to sell on to the top of that those supplemental products. So I think we’re well positioned to pay that – to no matter what happens going forward, which is a good place to be.

Matt Carletti

Great. And then one other question just shifting businesses – and your up market homeowners product, I mean you guys were I’d say an early mover there in the sense that when there’s a lot of consolidation took place a couple of years ago, you guys really kind of put your foot on the gas building that business. More recently at least on the outside office is analysts and investors have heard some of your peer companies talk about trying to push into that market I’m just curious, what if anything have you seen for – that happening from a competitive standpoint.

I recognize you guys are only in certain geographies which over there, so maybe you’re not seeing them, but I just be curious kind of how the competition is sits, now it’s changed, from where you stand.

Mike Weiner

Yes, we’ve heard the same things as well but we continue to go to market and we continue to look at the other companies that are being quoted against and those new competitors just turn out there yet. So it’s the same competitors that we all heard of, they were there quite frankly prior to us. I think the key for us in this space and that’s been something that Barry and myself have been very pleasantly surprised with is that, or while we think we’ve a phenomenal product as we know, we have phenomenal product and we focused on that mass outflow in space as opposed to the high, high value.

It’s really what our technologies being allowing us to do in terms of – excuse me, a real time quoting and binding and working with the agents, that’s really propelled growth that we’ve add in there. Still small in the business but the growth rate has been phenomenal with us. And as we have, we’re bringing on additional states and we have both East Coast and West Coast marketing teams out there. So we still feel very bullish about that and getting back to original question. We haven’t really seen those competitors yet potentially later in the year where they might be out there.

Matt Carletti

Okay, great. Thank you very much for answers. Congrats on a nice year and best of luck in 2017.

Mike Weiner

Thank you.

Barry Karfunkel

Thank you.

Operator

Your next question is coming from Randy Binner. Please announce your affiliation. Your line is live.

Randy Binner

Hi, Randy Binner with FBR. And I’ve had a little bit of connection issues earlier on the call. So, could you just repeat, what the nature of the decline loss was in lender-placed and maybe provide a little bit more color on, did the new accounts that you’ve been able to write there?

Mike Weiner

Sure. Let me talk about the first one. This was obviously a lender-placed business the vast majority of the business it is placing a lender-placed property business, would you owe a CPI business that focuses on working with both small and very large banks in terms of placing auto on a lender-placed side. One particular client of ours has decided to continue to track the business, but has decided to stop lender placing the business, which is not regulatorily required as in you have in the mortgage business, which are required to maintain any chance to different regulatory scheme on that.

So what’s happens to us financially on that is that we don’t have the new business that goes forward and remember how these businesses work, is in many cases your lender placing the business and you have cancellations that come up. So those cancellations are moving through now as well as some fixed costs that we had in the quarter to finish up that book of business. So that’s a smaller piece of the business, actually the lowest of all the margins of the businesses that we operate under.

But the good news in part of the businesses, as far as integration continues to go well in terms of what we’re doing and investing in it. We’re now at the point and it’s taken us longer so, than we anticipated to winning some new accounts we have actually signed some new accounts in the current quarter and are working on RFPs quite aggressively on some additional accounts that will come in later in the year.

The problem is is that there’s a long leave time even from the clients that we’ve signed in the quarter until we have meaningful premium earnings on that. In addition to it, as Barry alluded to in his original comments, we’re investing in our state-of-the-art platform in that space to be a key competitor out there in the industry if not become at one point in the industry later.

Randy Binner

And just to clarify that. So that client – these are – did you say it was automobiles –

Mike Weiner

That’s correct.

Randy Binner

So they want to track on, but others does this like take the collateral risk themselves basically, is it right?

Mike Weiner

That’s correct. You got it.

Randy Binner

Okay. Okay, that’s fine. So they didn’t put it to your competitor?

Mike Weiner

Absolutely not.

Randy Binner

Yes. Okay, that’s good. And then, in commercial auto, I guess I’d kind of like to dig into this a little more. Why you all – I think your commercial auto books is different than what we see generically in the market in part because you focus on ours and contractors and other vehicles that don’t move around the same way like a long-haul truck would. And so, is that kind of the key difference and why you haven’t had issues there like the rest of the industry?

Mike Weiner

Yes.

Randy Binner

Any commentary on why you assumed you may be having a different result than a lot of the big riders that would be helpful.

Mike Weiner

Yes, because it’s – we’re using the word commercial auto. And perhaps, may be we shouldn’t, may be we should think of creating something new, but the vast majority of the book is these audition vehicles. So we’re not doing long-haul trucking, we’re not doing short-haul trucking, we’re not doing box trucking, right; the vast majority of the business are individual entrepreneurs, plumbing – plumbers and roofers and that type of thing. It’s just a different business than we’ve seen.

In addition to it is we had a relatively small, very well underwritten book. So we bought this business back in 2010, we acquired a book and we spent probably close to two to three years, manually underwriting every risk there in developing a phenomenal underwriting team. And we’ve grown that organically and maybe through some acquisitions like on the nation-wide thing which will start showing some sign of it, but again, it’s an audition small commercial book which is just different.

Barry Karfunkel

And we’re really able to leverage our auto insurance – private passenger auto insurance data, it’s really be able to price that book more effective lease and larger commercial riders that are not necessarily heavy for expertise and pricing auto.

Mike Weiner

Yes. And we’re also using the segmentation in all of our auto underwriting tools that we’re doing on now which is really applying that to it. That’s why it’s much more came to our auto business than to the market commercial auto.

Randy Binner

All right, that makes sense. Let’s jump into just cover more items there [indiscernible] and I think it seems like a one-time some – one-time issue maybe there where you paid out some incentive fees. Can you just elaborate on that kind of what that was and what the size of the impact was?

Mike Weiner

Yes, I don’t think it was that material, it was really just we have some performance-related fees that we paid it out – we paid out in the current quarter. So we expect that to get back to a normal run going forward.

Randy Binner

Well, how much did you payout though?

Mike Weiner

I don’t have the number off the top of my head. It wasn’t that material.

Randy Binner

Okay. And then finally on the – yes, I guess on just the 10-K delay. I guess I take it from your comments that this is its like a volume of work problem was all the M&A that closed in the back half of last year’s. Is that kind of a fair way to characterize what the delay is?

Mike Weiner

Yes, absolutely. We just have a lot of work and a lot of volume; it’s not one thing in specific that we’re dealing with here. So we just need more time to work with our auditors through the auto process and we don’t expect any changes with the reported results. And there’s also some new disclosures out there that insurance companies are dealing with that have slowed down the process a bit.

Randy Binner

All right. Thanks a lot.

Operator

And your last question is coming from Meyer Shields. Sir, your line is live.

Meyer Shields

Good morning. Can you hear me?

Mike Weiner

Yes.

Meyer Shields

Okay. Sorry, I’m having some phone trouble. Mike, can you elaborate a little more on sort of like the basic personal auto pressure that most of the industry has seen in terms of frequency and severity in terms of what you guys are?

Mike Weiner

Yes, absolutely. We’re a little unique versus others in that. What we’ve really seen is we’ve seen an increase as – same really story as I told last quarter, but it hasn’t really subsided. We’ve seen an increase in BI severity which has really impacted our book.

Frequency, so we’ve seen an increase in BI frequency which is kind of unique to versus others. We’ve taken on a lot of, I’d like to call it, early claims in the programs that allow us to settle these things earlier. But we’re seeing some continuing increases in BI frequency that’s continued, but the trend is in line again what we saw in the prior quarter and we continue to grade that as equal to it as we move forward.

Meyer Shields

Okay, that’s helpful. And Barry, you’ve gave some I guess optimistic expectations for Accident & Health. Were you using the fourth quarter results or the full year 2016 as that base?

Barry Karfunkel

Fourth quarter results.

Meyer Shields

Wow! Okay, fantastic. Thanks much.

Barry Karfunkel

Sure.

Operator

And you have no more questions in queue.

Christine Worley

Great. Thank you all for joining us and we look forward to speaking with you on our next quarter call.

Operator

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

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