Old Republic International Corp (ORI) 2015 Q1 法說會逐字稿

Good day and welcome to the Old Republic International first-quarter 2015 earnings conference call.

(Operator Instructions)

I would now like to remind everyone that the conference is being recorded and to turn the conference over to your host, Scott Eckstein with MWW Group. Please go ahead, sir.

Thank you, operator. Good afternoon, everyone, and thank you for joining us for Old Republic's conference call to discuss first-quarter 2015 results. This morning we distributed a copy of the press release. If there's anyone online who did not receive a copy, you can access it at Old Republic's website, which is www.oldrepublic.com.

Please be advised this call may involve forward-looking statements as discussed in the press release dated April 23, 2015. Risks associated with these statements can be found in the Company's latest SEC filings.

Participating in today's call we have Scott Rager, President and Chief Operating Officer; Rande Yeager, Chairman and Chief Executive Officer of Old Republic Title Insurance Companies; Karl Mueller, Senior Vice President and Chief Financial Officer; and Al Zucaro, Chairman and Chief Executive Officer. At this time I'd like to turn the call over to Al Zucaro for his opening remarks. Please go ahead, sir.

Okay, thank you, Scott Eckstein. Thank you to everyone who have come to be with us in this latest quarterly update on our venerable Old Republic. We have a full contingent of the most senior executives who oversee and guide important parts and functions of the total Old Republic business with us today, as was just noted.

So this afternoon we'll start the ball rolling with Scott Rager, who will comment on our general insurance business. He'll be followed by Rande Yeager, who will address the business operations in title insurance. And I'll follow with some brief comments on the RFIG runoff business. Karl Mueller will then go over key numbers and other important financial data. And then we'll wrap it up and open up the visit to the Q&A session.

So as we've reported, and as we will now discuss this afternoon, we think that we have a very good start on 2015, with both our title and the runoff businesses producing somewhat better-than-anticipated results this early in 2015. General business is pointing to the real possibility, we think, that claim costs are not about to -- not likely to -- sting us to the same painful effect as they did last year.

So on that note, I'm going to ask you, Scott Rager, to give your remarks on the general insurance business. So why don't you take the ball and run with it.

Thank you and good afternoon. The general insurance group, our largest, experienced 7.1% growth in net premiums earned year over year for the first quarter. We think this is a very good start, given that this number contains elements of both pricing improvements and organic growth. And more currently we'd say that new business is a driver as well.

In most operations we're managing yet to reconfigure the general insurance line to achieve a much greater composition of loss-sensitive products. Generally speaking, the rate environment is moderated in most markets, but in operations or product lines we're in, we still need the most improvement. We're looking at mid single-digit rate increases just as we've planned for the year.

Customer retention rates continue to trend favorably and are in line with our expectations. We're not having to yield on legitimate price on considerations to either retain or gain business. For all these reasons, we fully expect our top-line growth to continue at or about the same level achieved in the first three months of this year.

Underwriting results for this year's first quarter were not adversely impacted by development of prior-year claim costs anywhere close to the adverse levels experienced in the final quarter of 2014. As you see in this morning's release, we're categorizing the development as being slightly deficient.

Year-to-date the loss ratio was up a point to 73.8%, while the expense ratio remained consistent at 23.5%. All this, of course, results in a composite ratio of 97.3% in this year's first quarter versus the 92.6% in the same period last year.

The increase in the commercial auto loss ratio of almost 6 points for this year's first quarter was the primary reason for the group's slightly deteriorated loss ratio in the first three months of the year. As you can see in the statistical exhibit posted on our website, the workers' compensation and general reliability ratios are both reflecting marginal improvements compared to the same interim period of 2014.

As for the greater commercial auto claims ratio, the results were basically spread across several operations. In a number of cases increased frequency or severity, or both, were the main culprits. Nothing points to any scenario requiring a significant corrective response across the board. At this juncture, we expect the claims ratio for all of 2015 to moderate and come in below the overall 2014 ratios.

As a financial supplement information indicates, the general insurance group has been a very consistent underwriting performer over many years. While it is still early in the year, it is comforting to see the workers' compensation and general reliability alliance registering much more acceptable claims ratios.

Looking ahead, we don't see material changes in the various marketplaces in which we participate. We believe premium growth above the mid single-digits remains achievable for the year.

As always, our focus is clearly on the achievement of favorable underwriting results over the term of the cycles. To do this, we remain prepared to sacrifice top-line growth.

Now I'll turn the meeting over to Rande Yeager for a Title Group update.

All right, thank you, Scott. As you can see, the title business posted significant improvement over 2014's first quarter. Operations produced about $16 million in pre-tax profits in the first quarter this year compared to $4.7 in 2014.

We booked about $428 million in premiums and fees this year compared to $393 million in 2014. The profit increase was about 233% and the premiums and fees rose at the same time about 8.7%. Our claims ratio declined as well from 6.1% to 5.6%, as claim trends continue to improve with the economy, and housing obviously, for us in particular. The expense ratio dropped from 94% to 92.1%, always a good sign.

Closed orders in our direct operations were up over 28% in the first quarter. The commercial business, to which we've committed greater resources for several years now, continues to exceed our expectations. Our various information technology units, which provide services to our own operations as well as other unaffiliated providers, are clearly enhancing their penetration of their respective markets.

So all in all, we're very happy with this year's first three months performance and what it portends for the rest of the year. We currently estimate that Old Republic Title's market share will most likely continue to hover around the 15% level when the final tallies come in for the year.

Generally speaking, the first quarter is the year's weakest. Most often heavier refinance activity can affect mortgage lending activity during this period. Because interest rates dipped a bit in January, we have what has been referred to as a boomlet, or a small increase in refinance activity, early in the year. This drove up order counts to some extent and should provide a base for some additional revenue in the second quarter.

For the economy as a whole there have been good job reports, offset by sluggish economic activity, low interest rates offset by tight mortgage credit. And there's continuing debate about Dodd-Frank legislation, federal reserve actions in terms of interest rates and the anticipated finalization of the new Consumer Financial Protection Bureau, as people probably know it, the CFPB, rules that will be released in August.

Mortgage Bankers Association has revised its 2015 forecast slightly upward from about $1.1 trillion to $1.2 trillion originations. And for our part, we agree that 2015 should show some moderate improvement over 2014 when the year is, again, tallied up.

As long as we've been in this industry, there have not been any periods when there wasn't a perception of an imminent crisis. It certainly didn't exist. As always we don't get too exercised by the possibility of change. Our managers simply prepare for it.

And in this light, we remain optimistic about both the near term and the long term. We should be able to produce good results for these future periods as long as housing and the economy in general prosper as we expect them to do.

That will be my report on Title. And with that good thought, I'll turn the meeting back over to Al Zucaro.

Okay. I want to say a few words about our RFIG runoff segment. It's been fairly quiet since mid-year 2014, in particular.

As we've once again reported or indicated in this morning's release, we finally closed the loop on our mortgage guarantee deferred claim obligations. And we did that by paying 100 cents on the dollar on all legitimate claims that had been settled. I must say, I know we've said this before, we take a great deal of pride in having discharged those claims obligations honorably and to the great satisfaction of all stakeholders.

And since July of last year when we did make those final payments, the mortgage guarantee part of the runoff has progressed pretty much as we've expected. We're managing the business with a great deal of efficiency and you can see that in one of the tables. You can see that efficiency is underscored by a very low expense ratio.

And then when it comes to claim costs, again as you can see, they do continue to decline in tandem with housing-related financial sector improvements in most parts of the nation. As I'm sure you all read, housing prices keep inching up in most areas, and all of that is good for the mortgage lending industry, for the title industry, and certainly for the mortgage guarantee business.

We're still incurring some pretty stiff legal expenses in mortgage guarantee. And those are related to now a single remaining piece of litigation that we've had with a major banking institution since the great recession started. And in this, we're still hopeful of resolving the dispute and to do so in a mutually acceptable manner.

So we are looking forward to moving on to more productive objectives for this mortgage guarantee business. And to do so in the best interests of all the stakeholders there, including most importantly, or at least just as importantly, our professional associates who have been steadfast in managing that business through the troubled times that it's gone through.

Having said that about the mortgage guarantee business, something similar can be said about the consumer credit indemnity, or what we refer to as the CCI portion of the RFIG runoff. There again, premiums and claims are trending down. And they're doing so at a steady pace and that's just as expected in the context of a declining book of business on the one hand, as well as the improving situation in housing finance and lending and people's ability to make payments on their obligations.

Our remaining challenge in this business still is to rid ourselves of a couple of pieces of litigation, the major one of which I might say, is with the same banking institution with which we have a dispute on the MI side of the business, as I mentioned a couple minutes ago. So we think that this should also happen in the foreseeable future, or certainly as soon as both sides come to reason together and quit the lawyer-driven posturing that always stands in the way of a handshake.

So leaving this litigation baggage aside, we think that the RFIG runoff can proceed on an even keel, and can in fact throw off a modicum of profits, albeit on the declining scale, as the policies enforce both in MI and CCI fade away over the next several years.

So having said this, I think we're now at a point for Karl Mueller to take over and speak to some of the key financial matters, as we indicated before. Karl?

Okay. As shown in today's news release, Old Republic's financial condition reflects a continued focus on the strength and stability of the balance sheet. The cash and invested asset balance of roughly $11.5 billion increased slightly from amounts reported at the end of December.

As discussed in previous calls, the composition of the investment portfolio evolved throughout 2014 to reflect a greater allocation to high-quality dividend-paying common stocks. This shift was made in order to create greater diversification, and at the same time, to enhance the overall yield on the portfolio.

As a result, the composition of the investment portfolio at year-end 2014 consisted of approximately 82% allocated to fixed maturity and short-term investments and 18% toward equity securities. I would say that these allocation percentages remained relatively unchanged at the end of the first quarter.

At March 31 the equity portfolio was comprised of approximately 13% invested in various indexed mutual funds, 66% in blue chip stocks that have a long history of increasing dividend payments to their shareholders. And the remainder was committed to utility stocks.

Investment income rose by a little more than 10% in this year's first quarter to $91 million, up from $83 million in the first quarter of last year. This higher investment income is attributable to larger investment, or invested asset balances, along with an increase in the yield on the portfolio in total.

The credit quality of fixed income portfolio remains unchanged at quarter-end, with an overall A rating. And its average life remains shy of five years.

Consolidated claim reserves were relatively flat at the end of March compared to the most recent year-end. For the quarter, consolidated claim costs have developed slightly favorable, although somewhat less so than last year's first quarter.

As we noted in the release, and as mentioned briefly by Scott in his earlier remarks, the General Insurance Group's prior-year reserve development, however, was slightly deficient this quarter compared to a slight favorable development in the first quarter of 2014. I would just add that the prior-year development did not have any significant impact on the composite underwriting ratio reported for either quarterly period.

We experienced favorable development in the RFIG, prior-year reserves, in both periods as we quantified on the bottom of page 3 in the news release this morning. And finally, the title reserves developed pretty much in line with prior year end estimates, which is typically the case with those reserves.

Moving on, shareholders equity as of March 31 was $4 billion or $15.48 per share, which is an increase of $0.33 per share or 2.2% for the quarter. Together with the quarter's $0.185 share dividend, the total book return for the quarter was 3.4%.

And finally, the capitalization ratios that are shown on the top of page 6 reflect a small reduction in the debt-to-capital ratio, and that results predominantly from growth in the equity account. So that covers the highlights of our current financial condition.

At this point I'll turn it back to Al for a few closing remarks before we head over to Q&A.

Okay. So to conclude, again, we think we've got a very good start on the year. In general insurance, as Scott mentioned before, premium growth will more likely than not be a little less than last year's. But nonetheless, the underwriting and investment income parts of the business should continue to trend higher, as we have seen in the first quarter.

I think that a great deal of the underwriting improvement in General Insurance has got to be driven by the much stronger claim reserve base that we closed 2014 with. I think that Rande gave a very good explanation of the basis for our optimism in the title business. And we've also pointed out that absent an unexpectedly adverse non-recovering resolution of litigation in the RFIG runoff business, that that also should produce positive results, again, in the context of a runoff operation.

So when you wrap all of this together, we are an optimistic bunch here. We're confident that we should be posting a good set of operating numbers as this year evolves and as it concludes in December.

So with this thought in mind, we're on the table as Karl just mentioned, we'll open up the table to any questions you may have. So let's get going with that.

(Operator Instructions)

Vincent DeAugustino, KBW.

Good afternoon, everyone.

Hi.

To start out, to make sure I understand clearly your comments around the litigation. Does that suggest that you'd like to settle both the suits on the RFIG and CCI side?

I'm sorry, the question was which one do we want to settle first?

I'm sorry. In many cases on litigation, you have the typical response of pursuing that aggressively. And of course like generally the response is companies tend to believe that they're not, frankly, in the wrong. And therefore there's no adverse impact to them and hopefully they'll be successful in the litigation.

In this case it seemed like it was more that your conversation had indicated that reaching a mutual agreement and settling these suits would be in both companies' interests. I wanted to see if it was -- you're saying you're continuing to litigate these or you do want to settle?

Well, it all depends on how reasonable we can all be, right? If people are unreasonable, if we cannot come to terms, or as President Johnson used to say, if we cannot reason together, then we're not going to sell this thing. We're just going to keep pounding away and both sides will be spending lots of money on the lawyers and make them happy.

But we think that this thing has been lingering for such a long time now, and the particular institution that we have the disputes with is one which, as you can read in the papers, has been assiduously resolving its litigation with the US Treasury and what have you. So we think that perhaps it is going to have an interest in coming to the table and attempt to resolve this thing on mutually acceptable terms, as I say.

Thank you for that. And then coming out of the North Carolina hearing, I think the bank that we're all talking about, that spoke during the intervening period, I came away, I'd say, a little unsure of what Old Republic's potential reserves for any litigation there would be. So the question here is, if you were to settle, does Old Republic already have some reserve set aside for any estimated liability there?

As you know, our reserves are our reserves, Vincent. And you can look at the balance sheet and you can see the totality of our reserves, which represents the totality of our exposure for each and all of our businesses.

Okay, got it. And then shifting over perhaps to more productive discussion here. On workers' comp, very glad to see that the adverse reserve amount there is not a big deal this quarter. The accident year pick looks to come down pretty nicely.

Generally I'm -- pay close attention to when you see big shifts from last quarter to this quarter on workers' comp trends. I wanted to hone in on anything on the paid side or anything on the loss cost side specifically, that underpins those changes.

No, I think it's been pretty quiet on the waterfront, as the movie titles read. Things are very stable. As Scott mentioned before, we're getting good pricing and the small slight adverse development we have this quarter is not giving us any indigestion in terms of its portending to point to a need to do any significant amount of reserve strengthening.

So right now we feel very good. We felt very good as of year-end 2014 that we had done everything we needed to do to address our perception of any weakness that was in the reserves, not just comp, but everything else for that matter. That's the best answer I can give to your question right now, Vincent.

Sounds good. Then on commercial auto, again, more of a clarification question. My takeaway from the prepared comments was that some of the loss ratio left on commercial auto was something that was contained in the quarter and it's not a broader trend that you would foresee being an issue throughout 2015. Is that basically the takeaway there?

I think that's a fair assumption.

Anything discreet that pressured results? Looking to see if there's anything in particular there that stands out.

You mean as to the commercial auto?

Yes, please.

Yes, I think that it was actually a -- when you look across the line, the entire group, it was four or five entities that seemed to have poor commercial auto experience. And some were driven by frequency and some were driven by less frequency and more severity.

That's what it appeared to be for the quarter. As I indicated, I don't think there's any one that thing we could do system-wide or by entity, that would be called for appropriately at this point in time.

Just fortuitous, I guess that's the best way to describe what happened to us in that line and those claims this past quarter.

Right. It's fortuitous business. That's our take on it at this point in time, based on all the information we have.

All right, thanks for the answers. I'll let somebody else take a shot. Thanks.

Christine Worley, JMP Securities.

Thank you for taking my question. Many of them have been answered, but one cleanup question. I know in the general insurance group, you said that rates are running in the mid single-digits. Looking at the group overall, how is that relative to loss cost trends?

Reasonable.

I mean, about keeping up with loss cost trends, there's no cushion on either side, really?

No, I wouldn't say that. I would think that rates, especially with respect to workers' compensation, are not only specific to the specialty operating unit that serves a given marketplace, Christine, but they're also specific to state and the particular occupations that might be served by that operating unit.

I think if they're performing well, Christine, we've had good experience, and things are rolling along well, you might see flat to single-digit increases. And if they're not performing as well, you would be more inclined to see mid single-digits to high single-digits. So it really depends on the marketplace being served and the product line that's under discussion. Does that help at all?

Yes, it does. Thank you.

Good.

Stephen Mead, Anchor Capital.

Yes, hi.

Hi, Steve.

Going back to the workers comp and looking at the --

Excuse me, Steve, can you speak a little more loudly, please?

Yes, can you hear me now?

Fantastic.

Yes, that's much better.

Looking at the history of workers' comp and the composition of the business today, in terms of the underwriting ratio or the improvement in the business, where's a reasonable level to get back to in terms of as you look at it from a couple years standpoint, in terms of how profitable that business can be for you?

I think you can look at the -- I don't know if you have access, Steve, to the statistical exhibit that Scott referred to earlier in this conversation. But when you look at that statistical exhibit specifically --

You talking about page 4?

On page 4. Exactly. If you look at the far right, for the past several years we've been putting a 10-year average number for these three key lines as well as the individual lines. And you can see that the comp is at a 77.6%.

We think, given the cost, the production cost structure of comp sitting by itself, which is not necessarily the best way to look at it because as you know, comp is typically sold in tandem with the automobile liability and the general liability. But if you look at it on its own merits and you look at the cost structure, we think that if you can achieve, over time, a 74%, 75% loss ratio in comp, you're in good shape. And that's what we aim to do, again, looking at that line by itself.

Again, bearing in mind, however, that we're not just writing comp in your typical account. We're writing a combination of the three lines. And when you look at that, again, for the last 10 years, you see that the overall ratio for those three lines is 75% for claim ratio standpoint.

But again, to a larger degree, that 10-year average is also colored significantly by the bad experience we've had since 2011, 2012, 2013. I think those were particularly bad years for us. And I think, therefore, longer-term-wise the overall ratio should be in that 72%, 73% for the three combined lines.

So long-term, 75% for comp we think is very good. Long-term for the three lines combined, 72%, 73% max ratio is very acceptable. Particularly when, as could happen in the foreseeable future, you've got some investment income kicking in and helping with the discounted aspects of those claim reserves.

Okay. And then, as you look at the capital base of the Company now, and as you start to, in a sense, retain earnings relative to the organic growth of your businesses, where do you see yourself today in terms of capital relative to the different business segments? And if it stays at the current steady state, when do you start to, in a sense, generate in a sense, excess capital relative to the underlying business itself? Do you follow my question?

Yes, I do. Long history with us will pay on an average, on the moving average basis maybe 35%, 40% of the earnings in terms of dividends, which implies that we'll keep 55%, 60% of the earnings added to the capital account. We also focus on the effect on the capital account of our equity holdings, common stock holdings, which as you know, tend to create some volatility in the capital accounts.

So that leads us to keep a little more capital, a little more cushion to absorb that potential down draft in common equity evaluations. As you know, if those impact your capital significantly, it does impact your ability to do business.

Then the remaining portion of what we add on to the capital on a regular basis takes in to account our expectations as to how quickly this business can grow. And as a minimum, we assume a 7% or 8% average growth rate of the top line, and therefore what it contributes to the reserve levels.

Again, you've heard us say this. Our main focus in the general insurance business, which is oriented to a long tail, so called long-tail lines of insurance, is on the ratio of claim reserves to capital and surplus. And right now that ratio is at the midpoint-- right Karl? -- between the bottom and the high side.

So I would say that the long-winded answer to your question, Steve, is that we're going to need a couple of years before we get to the point where we may feel we have more than enough capital in that business. Right now we are still going to maintain a capital building posture in general insurance, for all the reasons I've just given.

Okay, thanks.

Vincent DeAugustino, KBW.

Hello again, and thanks for taking the followup. Just one quick one. Al, to your earlier comments, I think it went something along the lines you're getting close to being able to seek productive objectives in RFIG. I'm just curious if anything has changed on the strategic front. Or if there's any implication in your comments of other options for RFIG emerging. Thank you.

No, we need to resolve these issues, see them through, and then we'll take another look.

Got it, thank you.

Right now as we've said repeatedly, Vincent, we're perfectly happy to stay with that runoff to the end, when all or substantially all of the business is off the books. We think we've got good staffing in place, good infrastructure, and certainly a commitment on our part to see things through if we don't do anything with that operation.

All right, sounds good. Thanks for all the answers. Best of luck.

Adam Liebhoff, Loomis Sayles.

Hello. It's Adam Liebhoff with Loomis Sayles. Thanks for taking the question.

You'll have to forgive me. I'm relatively new to your business, but I've heard in the past you refer to the concept of risk transfer versus risk management in the workers' comp business. So I'm wondering whether you could help me understand the difference, number one.

Number two, to the extent you can, help me understand how the general insurance business, or the workers' comp business is split between risk transfer and risk management. And the relative profitability of the two types of contracts, or types of approaches. That would be great.

Well, the difference between risk transfer and risk management, to start with, is that under risk transfer we're at risk from ground up all the way. And in compensation, as you know in workers' compensation, by law the policies we issue have got unlimited liability, whether it's a large account or small account.

In risk management, the approach through various mechanics, those mechanics including, for example, the ownership of a so-called captive insurance company by an assured, typically an assured with a substantial balance sheet and an appetite for risk. So such an assured, for example in comp, to use it as an example, might retain the first $1 million of each and every workers' comp claim. Then we come in and are fundamentally are providing reinsurance protection over and above that, in addition to providing the various levels of services.

A captive insurance, again, is only one of the mechanisms that we use. We can use retrospective premium adjustments to attenuate the cost. And by that I mean we that may offer a dollar rate to an account which is predicated on having an ultimate loss ratio of 60%, let's say, on the book of business.

And if the loss ratio turns out to be 55% down the road, we'll kick back some of the premium. If the loss ratio is higher than the 60%, we'll charge the account an additional premium. In both cases there's a high and a low or top and a bottom to the amount of the adjustment that can be secured.

So typically the risk management business, or sometimes it's referred to as alternative market approaches, involves those kinds of participations by an assured in the underlying risk. So acting, as you can I'm sure detect, acting more or less as an reinsurer, puts us in a position where we don't have to deal as much with the frequency of claims, as much as we have to do with the severity of claims. That's what reinsurance companies do. Through the reinsurance mechanism, they attenuate severity of claims.

We do risk management business, alternative market approaches for basically the three lines of insurance: workers' compensation, general liability and automobile liability, with workers' comp being a significantly larger piece of the equation. As to how much of our total business falls in the traditional ground-up risk transfer part of the business versus the risk management or alternative portion, it varies.

But over time it's been about a 55% to 45% configuration, with 55% being risk management, 45% being risk transfer. Again, on comp you have that, it's a little more accentuated. In AL, for example, automobile liability, it may be as low as 30% being in risk management and 70% in alternative, in risk transfer. Does that address your question?

Yes. And the other thing is, is there a way to determine which of those businesses is more profitable? I would imagine risk transfer, but I'm certainly no expert.

No, to us it's one book of business, because again, in risk management, we are at risk as a reinsurer. It's just a matter of the quality of the risk, whether you're downstairs or whether you're upstairs.

And that's why I say in the risk management portion we act more like a reinsurance company than a traditional primary company with a ground-up exposure. But to us it's all risk, and it's just a matter of how much you charge for our perception of that risk.

Okay, understood. Thanks so much for the time.

Yes, sir.

That concludes today's question-and-answer session. At this time I will turn the conference over back to our management team for any additional and closing remarks.

Okay. We don't have closing remarks. As always, we appreciate the back and forth of the questions asked. We sure as hell appreciate your being on this call and participating in it on a regular basis, as you all do.

Having said that, we'll bid you a good afternoon or good morning or good evening, wherever you are. You all take care now. Look forward to visiting with you again next quarter.

Thank you.

Ladies and gentlemen, that does conclude today's presentation. We appreciate everyone's participation.