Kestrel Group Ltd (KG) 2012 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Maiden Holdings fourth-quarter 2012 earnings conference call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions). As a reminder this conference call is being recorded.

I would now like to turn the conference over to Noah Fields, Vice President Investor Relations. Sir, you may begin.

Good morning, and thank you for joining us today for Maiden's fourth-quarter 2012 earnings conference call. Presenting on the call today we have Art Raschbaum, Maiden's Chief Executive Officer, along with John Marshaleck, our Chief Financial Officer. Also in attendance is Pat Haveron, Executive Vice President.

Before we begin, I would like to note that the information presented here today contains projections or other forward-looking statements regarding future events or the future financial performance of the Company. These statements are based on current expectations and future events and are subject to a number of risks and uncertainties that could cause actual results to differ materially from these expectations.

We refer you to the documents the Company files from time to time with the Securities and Exchange Commission, specifically the Company's Annual Report on Form 10-K and our Quarterly Reports on Form 10-Q.

Some of our discussions about the Company's performance today will include reference to those non-GAAP financial measures and information that reconciles those measures to GAAP, as well as certain operating metrics, and may be found in our filings with the SEC and in our news release located on Maiden's Investor Relations website.

I will now turn the call over to Art.

Thank you, Noah. Good morning and thank you for joining us on today's call. This morning we would like to review our full-year results for 2012. While the previously announced impact of Superstorm Sandy had a significant effect on our fourth quarter and our full-year results, not withstanding that event, 2012 was a year of continued progress as we strengthened our capital position, expanded our invested asset base and investment earnings, enjoyed continued strong growth in premiums, increased our client base and began to see the benefit of an improved primary insurer pricing environment.

Importantly our strategy and focus remains unchanged. As a unique highly differentiated reinsurer, Maiden remain focused on effectively serving the non-catastrophe reinsurance needs of our regional and specialty insurer clients.

In 2012, Maiden increased its book value per common share to $11.96 per share representing growth of 12.4% over the previous year. Despite the impact of Sandy, our full-year 2012 operating return on equity remained positive at 5.9% compared to 9.2% in 2011. Maiden's shareholders' equity at December 31, 2012, stood at just over $1 billion compared to $769 million a year ago and it reflects both organic growth as well as the successful completion of our preferred share issuance in the third quarter.

The growth in our shareholders' equity will serve to support our business development activities in 2013 and ultimately could be used to significantly reduce our cost of capital in early 2014. As we mentioned several times in the past, the call premium that is associated with our 14% coupon trust preferred securities expires early in 2014.

From an underwriting perspective and inclusive of the impact of Sandy, our combined ratio was 99.5% compared to 98.1% in 2011. As we have stated in the past, while Maiden does not write catastrophe reinsurance business we do write property-exposed business which can produce losses resulting from an extreme catastrophic event. While Maiden's losses were consistent with our expectation for a storm as significant as Sandy, going forward we are committed to further reduce our aggregate exposure, particularly from our Excess and Surplus lines property portfolio, Maiden Specialty, where the majority of the loss emanated.

In contrast, in our US treaty reinsurance portfolio, our losses from Sandy were favorable to model values and the portfolio performed very much in line with our lower volatility strategy. There was also a small impact to ACAC, which is captured in our current estimate. Absent this impact, our full-year combined ratio was 97.8%, an improvement from the 2011 combined ratio of 98.1% and our operating return on equity would have been 9.4%. Importantly, this reflects a favorable trend to the prior year and improvements in elements of the portfolio that are benefiting from primary insurer rate strengthening.

From an overall perspective net premiums for 2012 grew from $1.72 billion in 2011 to $1.9 billion in 2012. That is an increase of 10.3%.

Breaking it out by business unit, Diversified Reinsurance segment which includes our US underwriting unit, Maiden Re, our international business development team, IAS, and our Bermuda reinsurance company, Maiden Bermuda, produced net premiums written of $763.5 million in 2012. That is down 4.1% compared to 2011. The reduction in diversified net written premium resulted largely from the termination of a large underperforming Quota Share account and, to a lesser extent, from a client's decision to retain more premium.

As we have indicated in the past, as clients' balance sheets grow, their need for pro rata reinsurance at times can diminish. Additionally, 2011 revenue growth included one-time owner and premium reserve portfolios on several accounts that are nonrecurring in 2012. Notwithstanding the reduction in written premium in 2012, so our January 1, 2013 renewal season we have established reinsurance relationships with 17 new reinsurance clients in the US. And while these are relatively smaller revenue accounts, historically we have had significant success in expanding relationships with our clients. So for 2013, we are targeting the expansion of our US regional insurer client base through both the development of new client relationships as well as the augmentation of established reinsurance relationships.

In our international IAS business development unit, year on year revenue was essentially flat. Much of our efforts in this segment continue to focus on the expansion of our auto OEM branded insurance programs. Shortly after we acquired the business, we eliminated a number of poor performing accounts and while total revenue is flat year on year, the team has offset the impact of those terminated accounts with new and profitable opportunities. We recently added a business development executive in Latin America who will focus on expanding this business segment as well.

Across the IAS unit, we are evaluating a number of opportunities to increase the historically profitable credit life component of this portfolio in 2013. And going forward, one of the key growth opportunities for Maiden's IAS business is the replication of our regional and specialty focused reinsurance business as we target the needs of small to medium sized insurers in Europe. We are in the process, currently, of recruiting an experienced executive to lead this effort.

Our two largest clients, AmTrust and ACAC, continue to enjoy healthy growth. In 2012 net premiums written for the AmTrust Quota Share Reinsurance segment were $840.3 million and that is an increase of $171 million or 25.6% compared to 2011, which reflects growth in all segments. While continued successful acquisition activity drives some of the increase, importantly rate strengthening organic growth in active clients has also favorably impacted their growth. In particular, rate firming in the US is benefiting growth in all of their key segments.

With the recent announced acquisitions of Car Care Plan and Sequoia, we expect to see continued strong growth in this segment in 2013. As you may know, we are quite familiar with the Car Care team in Europe. Many of us work closely with them at GMAC and we are very excited about the addition of this team and their capabilities.

We are also quite familiar with Sequoia as a longtime Maiden client. We have a deep respect for their underwriting skills and capabilities.

Finally, net premiums written for the ACAC Quota Share rose 15.4% in 2012 to $295.6 million compared to 2011 as they continued their niche strategy of expanding their business in select markets. Much of that growth has been generated in the Agency segment of their business.

Turning now to our underwriting results. The Diversified Reinsurance business segment produced a combined ratio of 102.5% in 2012. The majority of Maiden's Sandy loss came from the Diversified segment. If we exclude the impact of Sandy, the Diversified combined ratio would be 98.7%, reflecting the adverse impact of our German Auto Quota Share in 2012 at IAS which we have discussed at previous calls, and largely recognized in the fourth quarter the impact of a large core performing commercial auto account at Maiden Re in the US. We anticipate that implementation of significant underwriting changes, enhanced claim process and rate increase will improve the performance of the German Auto Quota Share account in 2013.

With regard to the adverse performance of the Maiden Re commercial auto account, our participation on that account had already been terminated and we don't anticipate continued adverse impact from the business. Recently we completed a comprehensive audit of all of the remaining outstanding claims.

Going forward, we are targeting improved underwriting performance for these segments in 2013 and beyond. While I will comment later about our January 1 renewal activity, we have made progress in improving overall rate levels across the platform. Additionally, we are continuing to see solid growth in our lower layer highly profitable facultative casualty business and we anticipate further growth in this segment in 2013.

We continue to see pricing strength in AmTrust core markets, and underlying performance reflects favorable results. The AmTrust Quota Share segment recorded a combined ratio of 95.8% for 2012 which is well within our target expectation and it reflects improvement from the 97.3% combined ratio in 2011.

Importantly, the impact of pricing actions is having a favorable effect on performance. The ACAC segment reported a combined ratio of 97.2% for the year compared to 97.7% in 2011. As we have discussed in the past, the ACAC contract has a very low commission feature. However, the fourth-quarter combined ratio of 99.1% exceeded the upper end of that variable commission swing rate, primarily as a result of Sandy-related losses. We are confident that the actions that ACAC has taken will improve the results of their business over time.

On balance, we are very pleased with our continued progress in both growing the business and enhancing our underwriting performance.

I would now like to turn the discussion over to our Chief Financial Officer, John Marshaleck, to review the fourth quarter and provide some additional details. John?

Thank you and good morning. I would like to spend the next few minutes reviewing some of the details of our fourth-quarter results. The net operating loss for the quarter of 2012 was $10.1 million or $0.14 per diluted common share compared to the net operating earnings of $17.2 million or $0.24 per diluted common share in the fourth quarter of 2011.

The fourth quarter of 2012 was significantly impacted by Sandy with a net decrease in earnings of $31.1 million or $0.43 per common diluted share. Our losses for the event come mostly from our E&S property insurance business, Maiden Specialty.

Net [op] loss and loss adjustment expenses of $364.9 million were up $68.1 million compared to the fourth quarter of 2011. The loss ratio increased by 4.8 percentage points to 75.6% versus the fourth quarter of 2011. The increase in the loss ratio was primarily attributed to Sandy.

Net premiums written in the fourth quarter of 2012 totaled $442.6 million, an increase of 8.4% compared to the fourth quarter of 2011. Our Diversified Reinsurance segment had net premiums written of $139.1 million, down $53.5 million or 27.8% versus the fourth quarter of 2011 which is mostly due to the nonrenewal of one US treaty account.

For our AmTrust Quota Share Reinsurance segment, net premiums written increased by 52.3% to $232.4 million compared to the fourth quarter of 2011 with the most significant premium increases coming from workers' compensation.

Net premiums written from the ACAC Quota Share increased by 12.4% to $71.1 million compared to the same quarter in 2011. Year-over-year increases in net investment income continued with $21.1 million in the fourth quarter of 2012, an increase of 22.9% compared to the fourth quarter of 2011.

Total investments increased $598.7 million or 29.6% to $2.6 billion versus December 31, 2011.

The book yield at year-end 2012 on the fixed income portfolio excluding cash was 3.48% with the average duration of 3.55 years compared to a book yield of 3.59% and an average duration of 2.78 years at the end of 2011.

New money yield during the quarter was 3.01% compared to new money yield of 3.14% during the fourth quarter of 2011. The invested asset portfolio comprised primarily of corporate bonds and US agency mortgage-backed securities. Corporate bonds now make up 52% of our invested assets with US agency mortgage-backed securities representing 38% of the portfolio.

Despite the year-over-year increase in net investment income, the linked quarter comparison shows that net investment income fell 2% compared to the third quarter of 2012. This was influenced by significant prepayments on mortgage-backed securities during the fourth quarter of 2012. This resulted in receipt of approximately $164 million in cash which is $60.4 million more than the third quarter of 2012 and $14.4 million more than the fourth quarter of 2011.

Cash generated during the fourth quarter of 2012 was strong with operating cash flow of $51 million. This helped contribute to operating cash flow for 2012 of $319.1 million. Maiden continued to maintain a low G&A expense ratio of 2.9% for the year ended December 31, 2012, compared to 3.5% in 2011.

The combined ratio for the fourth quarter of 2012 was 103.7% compared with 98.3% in the fourth quarter of 2011, excluding the impact of Sandy, the combined ratio was 97.3% fourth quarter of 2012.

Total assets increased 21.9% to $4.1 billion at December 31, 2012, compared to $3.4 billion at year-end 2011. Total cash on hand at December 31, 2012 was $213.8 million compared to $303 million at the end of 2011. Total Maiden shareholders' equity was $1 billion, an increase of 32.1% compared to December 31, 2011. Book value per common share was $11.96 at the end of the fourth quarter of 2012 or 12.4% higher than December 31, 2011.

Before I turn the call back over to Art, I would like to provide you with some details regarding our capital management philosophy.

In 2012 we continued to build our balance sheet which is optimized to efficiently utilize capital for the benefit of the shareholder returns. Maiden's capital base was substantially strengthened in 2012 through opportunistic and diversifying capital raises as well as operating profits.

We finished 2012 with $1.3 billion in capital. We are pleased to be able to complete two capital market transactions totaling $250 million. In March we issued $100 million of 30-year 8% senior notes to support our growth and further strengthen our balance sheet. In August, we saw an opportunity to access the preferred share market for the first time and issued $150 million of non-accumulative perpetual preferred shares.

Along with this offering, the Board of Directors authorized a common share repurchase authorization of up to $75 million. To date we have not repurchased any common shares. However, we are always monitoring the trading in our common shares to identify opportunities in the market. The share buyback authorization provides us with an additional tool with which to manage our capital position.

Separately in November the Board of Directors increased Maiden's common share dividend by 12.5% to $0.09 per share.

An important aspect of our prospective capital management activities is the potential to repurchase our 14% trust preferred securities. We therefore weigh all capital management actions, including share repurchases, against the meaningful and permanent impact of repurchasing the remaining trust preferred securities.

I will now turn the call back over to Art for some additional comments.

Thank you, John. Before concluding our remarks, I would like to spend a few minutes discussing current market conditions. In our Diversified segment we had an active January 1 renewal season. We are seeing increasing primary insurance rates. However as we commented before, there is a bit of inconsistency by geography and line of business. But in general property exposed business, particularly loss impacted property business, is seeing the greatest level of increase.

But importantly, we are encouraged by continuing signs of improvement in casualty lines. In the US we are seeing continuing rate improvements being gained at the primary client level which, over time, should benefit us. We are cautiously optimistic at our prospects for the balance of 2013 as we anticipate continued increased demand.

In Europe we are finally seeing some rate strengthening in the German auto market. This is our largest market for our IAS business and we are optimistic about the future performance of the segment.

In the UK which is our second largest IAS market, while we are still seeing rate level increases in the personal auto market, the rate of increase appears to be slowing. To a large extent our affinity auto relationships are somewhat insulated from the broader market but clearly improving trends create opportunities for us to expand our business.

For our AmTrust segment, we expect to see continued rate level improvements in 2013 particularly in the US workers' comp and US Commercial Line segments. For the Hospital Liability segment, hard market conditions continue in Italy through year-end 2012 although we have some concerns of potential increased competition in 2013.

We and AmTrust are collectively committed to maintaining underwriting and pricing disciplines in this segment.

For ACAC, we expect the Personal Line segments to remain relatively stable. ACAC has been able to strengthen rate levels as necessary. In 2013, we anticipate the implementation of next-generation pricing tools, which should significantly assist the Company in targeting the best business. And while we don't expect significant growth in the ACAC segment, we believe that their focus and underwriting discipline will serve us well.

On balance, we are encouraged with the improving market environment in the majority of the markets that we operate in.

Overall, 2011 was a successful year for Maiden as we continued to build out our platform and strengthen our capital position. While Sandy was a significant event for the insurance and reinsurance industry and did impact our overall performance, we believe that our results again highlight the lower volatility nature of our business model despite the enormity of the storm.

On a relative basis, Maiden's storm-related losses were among the lowest in the reinsurance sector. As mentioned earlier, we are taking further appropriate action to significantly reduce catastrophe-exposed elements which should mitigate exposure with a similar event in the future.

Maiden's differentiated business model is focused on delivering value to our shareholders by serving the unique needs of regional and specialty insurers while maintaining underwriting discipline, leveraging our operational and balance sheet efficiency and effectively managing our capital. As we consider our prospects for 2013, we are confident that we are beginning the year from a strong foundation and with positive momentum.

In 2013, we will continue to focus on delivering shareholder value, through enhancements to our earning streams and effective capital management activities.

This concludes our prepared remarks. Operator, could you please open the line for Q&A please?

(Operator Instructions). Randy Binner, FBR.

Good morning. I had one detail question. I apologize if I missed it, but did you call out the amount of cat in ACAC? But in particular (multiple speakers) could you break that out just so we can see what the underlying [combined] issue was there in the fourth quarter?

It was $2 million.

So, let me just --

The rest of the balance would be in Diversified.

Well, so the combined ratios then was still high outside of cat activity I think in the quarter. Is that fair?

That's correct.

So what drove that?

Well, as we have seen historically, there is variability in their performance. I think they are seeing, as we saw in at least one previous quarter, some increased severity. I think some of it is a function of their growth in select markets. I think their focus for 2013 is really kind of holding their own and strengthening pricing and being more selective in terms of their underwriting activity.

But in general, I mean -- well, okay. It was maybe a hair high, but as far as (multiple speakers).

Yes, that's right.

So, as far as the outlook there on ACAC it seems like while there is a risk in new markets as you said, the data systems that have come on board should enable results generally to be more consistent in 2013. (multiple speakers).

One of the issues, I think, when ACAC acquired GMAC insurance personal lines was they had some very sophisticated rating analytics that had not been integrated in their system. So a lot of the focus has been on completing that integration and they are at the point now where that integration is largely completed. So we should start to see the benefit of more sophisticated multivariate pricing.

Understood. And then, I had -- just on the -- if you could just expand a little bit on the treaty that got lost in the Diversified Reinsurance segment. I think you touched on it a little bit in your commentary, but it is a notable decline and it makes ballparking the growth rates for 2013 tough with that big dip here in fourth-quarter '12.

So I guess, just a little more color on was it the competition that led to the loss? If there are other large treaties that might backfill and how we should think about the production there going into 2013?

Sure. Largely, it wasn't competition. I would say that the large -- I mentioned a Quota Share that didn't buy as much this year. And that had a fairly significant impact on our full-year revenue. And that happens. As Company balance sheets strengthen, their need for Quota Share may reduce. It may come back at some point, but our focus is on really providing long-term and responsive solutions.

With respect to probably the largest loss, it was an underwriting decision to non-renew a fairly significant account, the commercial auto account that I mentioned that performed poorly. And then the balance of the difference is that when we write new business, many times there are unearned portfolios that come in with a new business. Those existed -- we had a fair amount of growth as you may remember in 2011. And so there were a number of 2011 accounts that had [under premium] portfolios, those were not repeated in 2012.

So nothing that we see that fundamentally in the underlying business that tells us that we are deeply competitively disadvantaged or that we see a limitation to our ability to continue to grow. I think these are all at points in time, I think we have even seen similar effects over the last several years.

Okay, but I guess, is that -- I hear your last statement, but in general that reads like the market is a little soft. Should we not be taking it that way?

Well, I would say -- we've said before that in terms of large Quota Shares which has generated a significant amount of our revenue growth, I think the market has been more competitive for large Quota Shares and we have commented on that. That said, I do think we will have the opportunity this year to grow our business with a select number of large Quota Share opportunities.

But it is early stages. 1/1/13 typically represents a, or excuse me, January 1 typically represents about 40% of our portfolio. So a lot of our business development is focused on continuing to grow the business through the balance of the year.

But it all depends on the competition in the marketplace. Our opportunity flow is strong. I mentioned we add 17 new client relationships in the 1/1 renewal season. That's very significant -- that is probably a record for us. Although they are relatively small by size, some of those are lower layer access accounts. That does create a placeholder for us to continue to expand our relationships with those customers. I think that is a pretty good sign sort of for future development.

But by all measures, our focus is on maintaining a disciplined approach to underwriting. And as we have always said, if we don't have an opportunity to develop business opportunities at what we think are reasonable returns, we are not going to support the business.

One other clarification. That is all very helpful. On the commercial auto nonrenewal, now that is -- is that the German book or is that a domestic book?

That is a domestic book. It is a program we had been on for several years and we noted some adverse experience over the last 12 months, and we terminated that relationship.

And is that adverse experience kind of consistent with what others have seen in the industry where it is medical severity which is probably exacerbated by attorney involvement in the claims? Or is it large semi-truck losses or is it any kind of color you can give us on what [they saw] adverse there?

It is fairly unique to that account. We have other commercial accounts that continue to perform well. In fact I referenced our facultative casualty business where we have a fairly good component of buffer layer access Commercial Auto which has performed extremely well. Probably one of the best performing segments of our overall portfolio. So I think there are some unique characteristics to this account that drove that experience that we don't see as prevalent across the market.

Okay. I'll leave it there. Thank you.

Amit Kumar, Macquarie Capital.

Good morning. Two quick questions. First of all, just going back to the discussion on capital management and the $35 million in buyback. If I sort of think about the growth expectation your debt to tangible capital, your premium to equity wouldn't it be fairly difficult for you to divert any meaningful capital towards buyback in 2013?

I don't -- we don't anticipate at this point with the stock price where it is to do that. Certainly that is something we just monitor from time to time. Obviously, there could be some changes in the future, but at this point we feel comfortable with our capital position where it is now. We certainly have other options if need be to enhance that, but we are -- really it is going to depend on the market going forward.

When you say the market going forward, you mean anticipating your stock price to go down?

No. We don't expect that at all. We have the opportunity though with this authorization if something would happen we could take advantage of that.

Could you --?

As we have always said we didn't expect that we would be generating large amounts of buyback activity and, frankly, the stock has performed quite well over the last several months. And so from a shareholder perspective, we think that shareholder value is improving. I think it does give us an extra tool. There have been periods of time where the market has been down in the aggregate and we follow the market and it does give us that flexibility. But I don't anticipate, foresee opportunities to aggressively use that capability.

Got it. And going back to your rating, how much buffer do you have for your rating above the required capital as per A.M. Best?

It is kind of a -- it is not quite black box. It is sort of a combination of their analytics as well as their perceptions of the business. The business model, the management, et cetera. We have not had any adverse commentary from A.M. Best. They have affirmed our ratings. We are actually hopefully moving into a position since our five-year, initial five-year period has passed where we might be able to see some improvement in that rating over the next year or so. But we don't have any feedback that says we have got big concerns with your capital base.

And the final question, just going back to the discussion on margins from the previous questions, was there any reserve movement in this quarter?

There was. Overall for the year we had a little over $20 million reserve movement. Now not all of that does fall to the bottom line. There are commission adjustments that offset a substantial portion of that. There was a small amount in the quarter. And we typically have that, $1.7 billion of reserves. There is always going to be some movement up and down. So it was not -- it was certainly not exceptional by any means and kind of in line with other quarters in our expectations.

That's helpful. That is all I have for now. Thanks.

(Operator instructions). Bob Farnam, KBW.

Good morning. I want to go back and touch on the nonrenewed accounts again. Can you describe what your growth would've been if you take that out of the picture? I am trying to figure out what I should be expecting in terms of growth going forward. And is there going to be any further impact from that account in the next few quarters?

Sorry. What was the second part of that? If there is going to be --.

Will there be a [premium] impact in the next few quarters and what would have -- what would your growth have been in the fourth quarter if you basically normalize for that?

Yes, I think probably about 5% in the fourth quarter would have been the run rate growth without that. And I mentioned also the unearneds that -- the unearned portfolios that are not part of the year as well. So if you took out those unearned portfolios from the prior and you took out the effect of this particular contract as well as the decision of a client to raise, obviously we would have a pretty strong growth rate.

But we find -- I mean, we are accountable for the quarter and what actually happened and at the end of the day it doesn't change our view about our opportunity to build the business.

Right and should like in the first quarter this year will there still be an impact from that one account? Negative to premium?

Yes, there will be some. Because obviously the premium flows through the next few quarters.

Next few quarters. Right. Okay. And in terms of the G&A expenses, pretty good quarter for that.

Just, was there anything in particular that was going on in the fourth quarter? I know you look for something below 4% and below 2.5% is pretty good. So what's been going on there?

Well, overall, as you would expect a component of the G&A expense as it relates to our biggest component is employee compensation and there is a variable component to that and, obviously, the fourth quarter was not good performance. So there was an adjustment made in the accrual in that quarter.

Overall for the year, we have seen a reduction in the G&A which was good and part of that is based on our volume increases as well. So, nothing unexpected there. You would expect some adjustment with that type of performance.

Yes. We wouldn't expect to see the G&A at that low a level in subsequent quarters. But I think on a run rate is definitely below 3.5%.

Thank you.

Thank you. There are no further questions in the queue at this time I will turn the call back over to management for closing remarks.

Thank you all for joining us today and we look for to speaking with you in the future. Have a great day.

Ladies and gentlemen, this concludes today's program. You may now disconnect. Good day.