First American Financial Corp (FAF) 2010 Q4 法說會逐字稿

Good morning, and thank you for standing by. (Operator instructions)

Copies of today's discussion materials are available on First American's website at www.FirstAm.com/Investor. Please note that the call is being recorded and will be available for replay from the Company's investor website, and for a short time by dialing 203.369.0604.

I will now turn the call over to Mr. Craig Barberio, Director of Investor Relations, to make an introductory statement.

Good morning, everyone, and thank you for joining us for our fourth quarter 2010 earnings conference call. Joining us on today's call will be our Chief Executive Officer, Dennis Gilmore, Max Valdes, Executive Vice-President and Chief Financial Officer, and Mark Seaton, Senior Vice-President of Finance.

At this time we would like to remind listeners that management's commentary and responses to your questions may contain forward-looking statements, such as those described on pages 4 and 5 of today's news release; and other statements that do not relate strictly to historical or current fact.

The forward-looking statements speak only as of the date they are made, and the Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made.

Risks and uncertainties exist that may cause results to differ materially from those set forth in these forward-looking statements. Factors that could cause the anticipated results to differ from those described in the forward-looking statements are also described on pages 4 and 5 of the news release.

With that, I will now turn the call over to Dennis Gilmore.

Thank you, Craig.

2010 was a difficult and volatile year for the mortgage and real estate markets. Operating within this environment, the Company delivered strong results.

Full-year revenues were $3.9 billion, with net income of $128 million, or $1.20 per share.

Earnings were higher in both our title and specialty insurance segments, as we continue to execute on our strategy of driving efficiencies throughout the organization.

The title segment achieved a full-year pretax margin of 6.3% -- Title's best year since 2006.

Throughout 2010, we continued to focus on our ongoing expense management initiatives. We also experienced a strong rebound in our commercial title business, as the size and number of transactions increased in our key markets. And in the second half of the year, low interest rates led to increased refinance activity.

Our specialty insurance segment also had strong full-year results, achieving a combined pretax margin of 15% due to improved cost and operations management.

Turning to the fourth quarter, our revenues were $1 billion; down 1% from the prior year. The Company generated $47 million of net income or $0.44 per share.

The title segments margin was 8.6, the highest since the fourth quarter of 2006, driven by strong commercial activity, a robust refinance market.

Although title revenues were down 1%, our expenses were down 4%, resulting in a pretax income of $81 million, a 39% increase from the prior year.

Revenues for our national commercial division were $98 million, its strongest quarter since 2007, reflecting favorable interest rates, improved access to credit, and the successful execution of their marketing strategy.

Revenues for our international division were $83 million, up 12% compared to last year, and driven by a strong improvement in the Canadian real estate market.

Revenues for our default business were $42 million, down 29% compared to last year, primarily due to a decline in foreclosure activity.

The specialty insurance segment had another strong quarter, achieving a pretax margin of 14.3%. Home warranty continues to deliver consistent results due to favorable operational and cost-management efforts.

The property-casualty business performed well, although claims from a severe hailstorm in Arizona put pressure on our margins.

During the fourth quarter, we also completed two acquisitions. NAZCA Solutions; the company that leverages web-based technology to extract and combine property information from multiple data sources. This acquisition augments our efforts to expand our title plant coverage, and will help us to serve a broader set of title information customers.

The second acquisition was Nationwide Posting & Publication, a leading regional company in the posting and publishing of trustee sale notices. This acquisition fills a product gap in our default business.

The outlook for 2011 is for lower mortgage originations. Overall, our cost structure is in a good position for the year ahead, and we will continue to drive operational efficiencies throughout the Company.

Specific to the current market conditions, we continued reducing expenses as order counts declined in the fourth quarter. Expense-management efforts have accelerated in the current quarter, as we keep a close watch on our accounts.

In February, our open orders are running slightly below January, and March will be the pivotal month for assessing the strength of the purchase market. Looking to 2011, we will continue to maintain a conservative balance sheet while pursuing organic growth and strategic investment opportunities in our core business.

I'd now like to turn the call over to Max Valdes, who will provide a more detailed review of our financial results.

Thank you, Dennis.

The Company generated total revenues of $1 billion for the fourth quarter, down 1% from the same quarter of the prior year.

Income before income taxes was $74.6 million, up 22% from the fourth quarter of 2009. Net income was $47.1 million, or $0.44 per share compared with $50.1 million or $0.48 per share in the same quarter of the prior year.

Net income and earnings per share for the fourth quarter of last year benefited from a low effective income tax rate. The low rate reflected the release of certain tax liabilities associated with uncertain tax positions.

The results for the current quarter included $2.8 million in net realized investment losses, or $0.02 per share, compared with net realized investment losses of $8.3 million or $0.05 per share for the fourth quarter of '09.

In the title insurance and services segment, total revenues for the fourth quarter were $950 million, down 1% compared with the same quarter of the prior year.

Title premiums and escrow fees were $789 million for the quarter, down 2% compared with the same quarter of last year.

Direct premiums and escrow fees were up 10%, driven by higher average revenues per order closed, and a 2% increase in closed orders.

Average revenues per order closed increased 8%, to $1,382, compared to the same quarter of last year. This increase primarily reflected the strength of our higher-premium commercial title business, offset in part by the increase in lower premium refinanced transactions during the current quarter.

Agent premiums were down 11% in the quarter, primarily due to the normal reporting lag of approximately one quarter. As a result, lower agent remittances this quarter reflected weaker third-quarter mortgage origination activity in 2010 relative to 2009.

Information and other revenues totaled $146 million for the fourth quarter, up 3% compared to the same quarter of last year. This line item includes title plan information, search products, appraisal and other related revenues.

The increase in the fourth quarter was driven by increased demand for title plan information, and other non-insurance products in the commercial and international divisions, offset by reduced activity in the Company's default business.

Investment income totaled $18 million, down 37% compared with the same quarter of last year. Last year's number benefited from the sale of a membership interest in a title plan. Lower interest rates also reduced the income earned on the investment portfolio in the current quarter.

Total expenses in the title insurance and services segment were down 4% in the fourth quarter, compared with the same quarter of last year. While we continue our focus on managing expenses in line with revenue fluctuations, personnel costs and other operating expenses of $487 million for the quarter were up $14.7 million, or 3% compared with the same quarter of last year.

This increase reflected higher employee benefit costs, due primarily to changes in pension plan assumptions, resulting in a decrease in the expected return on plan assets and the discount rate. In addition, the improved financial performance of the Company led to a higher 401(k) Company match for the year.

We also incurred higher production and other costs, reflecting the higher revenues in our commercial and international divisions during the fourth quarter. These items offset the impact of the 6% decline in direct open orders quarter-over-quarter.

Agent-retention was 80.2% of agent premiums, compared with 81.3% in the fourth quarter of '09. The improvement in agent retention reflects both a favorable shift in the geographic mix of agent premiums, and the progress we made on improving our agent splits across a number of markets.

Our provision for title losses was $43 million for the fourth quarter, or 5.4% of premium and escrow revenue compared with 5.9% in the same quarter of '09. The loss-provision rate in the current quarter reflects an expected ultimate loss rate of 4.9% for the 2010 policy year, and a net increase in the loss-reserve estimates for prior policy years, primarily 2007.

The 2005 and 2006 policy years also had limited adverse development offset by favorable development in policy years 2008, 2009 and 2010. We continue our policy of booking to our actuary's best point estimate.

The Company's title insurance segment generated a pretax margin of 8.6% for the fourth quarter, compared to 6.1% for the same quarter of the prior year. The current quarter included net realized investment losses that reduced the pretax margin by 20 basis points, while the fourth quarter of 2009 included net realized investment losses that reduced our pretax margin by 90 basis points.

Moving on to our specialty insurance segment. Total revenues were $72.1 million, essentially flat compared with the same quarter of the prior year. Overall, expense control remained strong, with total expenses excluding the loss provision down 5% compared to the fourth quarter of '09.

The specialty insurance segment pretax margin was 14.3% for the current quarter, down from 17.5% for the same quarter of the prior year. The current quarter results included less than $100,000 of net realized investment gains compared with $1.7 million of gains for the same quarter of last year, which improved last year's pretax margin by 200 basis points.

The property & casualty business results were negatively impacted by a loss ratio of 66% as a result of claims related to a severe hailstorm event in Arizona. The impact of this event was mitigated by our reinsurance program which provides coverage for losses above a $5 million deductible for any one event.

Results in the home-warranty business were strong, with both revenues and margins higher in the quarter compared with the prior year.

To wrap up, corporate expenses were $17.1 million for the fourth quarter, which brings the full year to $60.1 million, which is in line with our standalone Company expectation we gave just prior to the June 1 spin-off transaction.

With that, I will turn the call over to Mark.

Thank you, Max.

I will provide a few comments on our capital and liquidity.

Cash flow from operations in the fourth quarter was $130 million, driven by higher earnings and favorable movement in working capital accounts.

Capital expenditures during the quarter were $41 million, which is higher than the $16 million we've averaged during the first three quarters of the year. Capital expenditures were impacted by two one-time events this quarter.

First, we spent $14 million to buy copies of certain Land America title plants from Fidelity. Second, we bought out certain operating leases for office furniture and equipment, of which approximately $11 million was capitalized.

Prior to the June 1st spin-off, our former parent, The First American Corporation, had an operating-lease arrangement for certain furniture and equipment. This buyout effectively unwound that arrangement. Excluding these two items, capital expenditures were $16 million, which is in line with our recent run rate.

In terms of liquidity, we had $50 million of cash at our holding company at the end of the year. In addition to this cash, we have 5.2 million of our 12.9 million shares of CoreLogic at our holding company.

Based on yesterday's closing price, our stake in CoreLogic was valued at $259 million, $104 million of which is held at the holding company. We also have $200 million available on our $400 million line of credit, so liquidity remains very strong.

Our cash-and-investment portfolio totaled $3.4 billion as of December 31st. The portfolio is comprised of debt securities of $2.1 billion, cash and short-term deposits of $789 million, equity securities of $282 million, which is primarily related to our ownership interest in CoreLogic, and $197 million in less-liquid long-term investments.

Overall, we have a high-quality portfolio with 73% of our debt securities rated AAA, and only 2% rated below-investment-grade.

Debt on our balance sheet totaled $294 million as of December 31st. Our debt consists of $200 million funded on our credit facility, $48 million of trustee notes, and $46 million of notes primarily related to acquisitions.

Our debt-to-capital ratio as of December 31st was 12.8%.

In terms of our capital structure, we intend to remain conservative in 2011 as we position the Company for a challenging origination environment.

I would now like to turn the call back over to the operator to take your questions.

Thank you. (Operator instructions). Nat Otis.

Good morning.

Good morning, Nat.

Just a quick follow-up on your talk about the February order counts. And maybe just a little bit of color on January.

Is there any way to assess how much those orders were impacted by weather? There seemed to be a lot of tough weather around the country. Any way to assess any type of impact you had there?

Sure. Let me give you a bit of an overview on the question, Nat.

First, in the first quarter, we're opening on average 4,600 orders per day, right now. That's trending very close to our ending rate for the fourth quarter of 2009.

Our refinances are running right around 52% of our total residential book, or 35% of our total book.

When we look back to the fourth quarter, order counts are down about 18% and the mix -- refinances -- are down about 40%. But purchases are up about 15%, which is a key indicator for us.

We clearly think that the cold weather in January and February impacted our order counts. But as I said in my script, the key month for us will be March and April, to give us a better sense of the spring buying season.

Also, we're looking for a closing ratio in the first quarter of approximately 80%, and some lower drift down in our average revenue-per-order, probably in the 5% range.

That's very helpful.

Then one last little bit of commentary on orders.

First quarter would probably be maybe the weaker commercial quarter of the year. Any commentary on how commercial has transitioned from the fourth quarter to the first quarter?

You're correct. We do think that the first quarter will be a weaker commercial market. But we are confident that the commercial business will remain strong throughout 2011.

We saw increase in the business all through 2010. We do think that trend will continue in 2011.

All right. Great.

And then just lastly, and I'll jump back into the queue.

When do you think you might stop seeing very small -- it was certainly pretty immeasurable true up for some of the prior books for this quarter with '07. But when do you think you might stop seeing those true ups for on a loss standpoint, going forward?

I mean obviously things are improving, or they seem to be. And you talked about positive shifts in '08, '09 and 2010. Any thoughts on when you might just be getting to a run rate loss ratio and not necessarily having to true up any of those older books?

Nat, this is Max.

That's obviously a really hard question to answer, to answer it in absolute terms.

But we feel good about the last two or three years, now. And I think those older years, to your point, I think they are sort of settling down.

I would expect the loss rate to be staying around that 4.9 to low 5s for the next couple of years. But again, it's hard to say. That's what I think.

But, you know, we monitor the experience every week. If it comes in worse than we expect, we have to adjust. But I think the worst is behind us.

All right. Very helpful. Thank you.

(Operator instructions).

Our next question does come from Brett Huff. Your line is open.

Good morning.

Good morning.

I want to make sure that I heard the numbers that you just talked about, based on Nat's prior question.

You said that purchase for February or for quarter-to-date was up 15%?

Quarter-to-date. For quarter-to-date, we're up 15%.

Okay.

And then the mix on the total book for refi was about 1/3? 35%?

On the total book, our refinance mix is running at 35%. As a percentage of our residential book, running approximately 50%.

Okay. And then the 5% drift down on average, in fee-per-file, is that sequentially or year-over-year?

Sequentially.

Okay. Thanks.

In terms of commercial, congrats on a great commercial quarter. Was there a particularly large deal that skewed what looks to be like a very high fee-per-file? Just based on what we were looking for. Or is that just a general lots of big buildings are changing hands? Can you give us any color on the spread of those?

The answer is, we didn't have one large deal that moved the number. But we had a number of larger deals in the fourth quarter.

And we're just becoming more optimistic on the overall commercial book as we went through 2010, going into 2011.

And do you continue to see the same size properties changing hands? The same kind of fee-per-files you had in the 1Q? And is there any reason to think that trend stops?

I don't think the trend stops, but I do think that the first quarter will typically be a little lighter quarter for commercial. We typically have a lot of pressure to close transactions at the end of the year.

Okay.

But through the year, aside from the seasonality of 1Q, the size of transactions and not the rev-per-tran for you guys -- you don't see a reason that'll change?

Again, at this point, we don't see any reason why the commercial momentum will change. Time will tell on that, but we're optimistic that will be one of our stronger segments, going into 2011.

Great.

And then can you also tell us a little bit about -- you mentioned Canada helping international. Can you just give us more color on that? I mean, it seems like that is a business that really suffered during the downturn, and is now a bright spot.

What are your expectations for that as we look into the rest of '11, in terms of growth?

Overall, we are looking for a large contribution from our international group over the next number of years. But specifically, we've seen stability and some strength in the Canadian market.

And what we're looking for in 2011 is stability and some build in our UK operations. Those were the most impacted from the credit crisis from a few years ago.

So, strength from commercial --- I mean strength from Canada right now. Stability and ultimately growth out of the UK in the years ahead.

Okay.

And then lastly, just on the info services business. Can you just give us a sense of how did that perform for the quarter? And then just a little color on what you guys are assuming as you look out in '11.

Again, I'm looking for growth out of this group as we move forward. It's where we handle -- it's where we keep a lot of our different business. It's where our title information businesses are, some of our default businesses and some of our other miscellaneous smaller businesses.

We will look for continued growth out of our let's call it the title plant and information business segments. What impacted us in the fourth quarter and other quarters was a reduction in some of our default services.

I think that they'll continue to be trending down, as we've seen the default cycle lengthen.

As we go forward, I'm going to look for continued growth again out of our title plant businesses in that group.

So, overall, would that be flattish as those two -- are those two together kind of a push?

Probably overall up, actually.

Okay. That's what I needed. Thanks for your help.

Thank you.

(Operator instructions). Nat Otis.

Just quickly following up.

Can you just remind us where you are on your pricing increases and/or your efforts to change the agent splits? Are you kind of completed all of your pricing increases? And where are you in trying to move the split?

Sure. Two questions, there.

We have done the bulk of the price increase across the organization through the last 18 months. Now that effort will be ongoing, but at a much smaller level than it was historically.

But just as a normal course of business, we make sure our prices are adequate across our states, and make sure that our returns are appropriate.

On the agent split, again, ongoing effort. We've made significant progress in certain key states over the last six to eight months. That effort, again, will be ongoing.

What we've looked for is our return on not only a state basis, but on an agency basis. And we'll look to adjust splits, deductibles, et cetera, where we think it's appropriate, and where the returns need to change.

All right. Very helpful.

And then just a last question. I hate to ask you, but just any comments? There's a New York Post article out there this morning just on the head of your commercial operations in New York. It seems to be more of a personal issue as opposed to underwriting or anything like that. But is there any commentary you can have on that?

I really can't. I can't comment on personnel matters. It has nothing to do with underwriting of that nature.

It was a personnel decision we made, and we'll move forward. We're very committed to the New York market, and we look to grow that market over the next few years aggressively.

Great. I'll just need to hear that it was nothing to do with underwriting. Thank you.

Jason Deleeuw.

Hey, guys. Good morning.

I was a little surprised that you're expecting the revenue-per-order to be down 5%, sequentially, just with the purchase becoming a much larger percentage of the mix.

Is that just because the commercial is expected to be less in the first quarter? Is that what's driving that primarily?

Really, two issues.

Yes, it's commercial down somewhat. And the orders that I referenced up are purchase, but they're just openings. We won't close those orders for 60 to 90 days.

Okay.

And then the volumes are softer here, but you guys have improved operational efficiency. What do you think? I mean, what are you guys expecting for title margins for next year?

Is it possible that you guys can expand title margins even in 2011? Even if the volumes are down meaningfully?

You know, when I look back, 2010 was a good year. I'm satisfied. I think we had strong performance in our business, our core businesses, in a pretty volatile market.

When I look forward to 2011, I think it's going to still be very volatile. And I'd look for an opportunity for us to at least maintain our margins in 2011. Now that'll be a very difficult objective to achieve, but that's what we're striving for in the Company right now.

Now it's going to come down to a few things. But we based our forecast on the NBA forecast of a $1 trillion market. And sitting here today, we think that's an accurate forecast.

Inside that forecast, they are forecasting a 60%-65% reduction in refinances. But the key to the forecast is a 30% increase in purchase. Now if that comes to be reality for us, optimistic on the year.

And I mentioned it earlier in my script, we need to look for March and April and see spring's buying season kick off. Early indications are that our purchase business is up. But again, time will tell on that.

Regardless of what the market throws at us, though, I want to make sure everybody's clear on a couple points. One, we're going to continue to drive efficiencies across this organization, as aggressively as we can, like we have for the last couple years.

And then the last corporate focus that we've changed or re-energized is our growth focus. We've run very aggressively over the last couple years, and been very focused on our expense initiatives. We're going to continue those activities.

But we think there are opportunities to grow. And we've identified key strategic markets and segments that we think were under-represented before. And we'll look to grow those segments over the next two years.

So it'll be a tough year ahead, but we're optimistic we'll perform well.

Okay. That's helpful.

And you also, in addition to the organic opportunities and growth opportunities that you guys are going to be targeting, you also mentioned some strategic investment opportunities. Are those --- are you specifically --- I mean, are there possible acquisitions you're looking at?

Arguably, you're underlevered right now. You could probably take the debt up potentially. Would you be willing to do that if you saw some strategic acquisition opportunities that were accretive and enticing?

We would.

And let me give a little insight on our acquisition viewpoint right now.

Post-separation, we've laid out an acquisition roadmap over the next two to three years; so, short-term. We've really identified three key areas we're focused on.

First, any type of opportunistic acquisition in the core title space that would be priced right, the returns would be adequate and we can get the necessary synergies. We'll be very interested in that.

Second, post-separation, we created a few product gaps in our offering. And we're focused on the default space right now and our settlement service space.

Okay.

I guess can you give us a sense for the opportunities out there in the core business for potential acquisitions? I mean, has the environment improved recently? Or is it something that you expect to improve as the volumes soften?

I'm not sure I can predict it. We are continuing to maintain, as you referenced, a very conservative capital base. I think if the year turns out to be more difficult than we may anticipate, there potentially will be more acquisition opportunities. And we're just going to be opportunistic, as they play out.

Okay. Thanks. And then my last question is on the provision. The book of business you guys are putting on right now is very healthy. Low provisioning needs for that.

And it looks like you've got to be getting very close to cleaning up the stuff from the '05 through '07 and '08 book. What can we expect going forward for provision rate?

This is Max, again. At this point, I'd say it'd be very close to what we're putting up for Policy Year 2010. So I would be expecting a loss provision of right around a 5% range.

Okay. That's a nice improvement. Thank you.

Brett Huff.

Hey. Thanks for taking my follow-up.

I just wanted to make sure, Dennis. In your opening script, you mentioned that you guys had done some trimming on costs in 4Q, and then I think you said accelerated a little bit into 1Q. And I want to make sure I heard that right.

And if so, it sounded like that was a function of just looking at some of the tougher volumes. Can you just give us -- make sure that I got those numbers right? And just give us some more color on that?

Absolutely.

Throughout the fourth quarter, we actually trended down slightly, approximately 50 FTEs, even though we were in a rising order environment.

In the first quarter, orders have dropped off and we've been more aggressive at managing the expense levels. We're down approximately 200 at this stage in the quarter, both temps and full-time employees. And we're going to just continue to match our expenses to our order levels.

Okay. That's what I needed. Thank you.

Thank you.

At this time, we show no further questions.

We would like to remind listeners that today's call will be available for replay on the Company's website or by dialing 203.369.0604. The Company would like to thank you for your participation. This concludes today's conference, and you may disconnect at this time.