Presurance Holdings Inc (PRHI) 2015 Q2 法說會逐字稿

Welcome to the Conifer Holdings second-quarter 2015 investor conference call.

(Operator Instructions)

Please note the event is being recorded. Now, I would like to turn the conference over to Heather Weitzel. Please go ahead, ma'am.

Thank you, Keith. Good morning, everyone. Thank you for joining us for Conifer's second-quarter conference call and webcast and the Company's first as a public Company. I'm Heather Weitzel. I work with Conifer on their investor outreach. On the Company's website, ir.cnfrh.com, you can find copies of the second-quarter release, the 10-Q and the presentation management will be discussing today.

But before we get started, the Company has asked that I note that except with respect to historical information, statements made in this conference call constitute forward-looking statements within the meaning of the Federal Securities Laws, including statements relating to trends, the Company's operations and financial results and the business and the products of the Company and its subsidiary. Actual results from Conifer may differ materially from the results anticipated in these forward-looking statements as a result of risks and uncertainties including those described from time to time in Conifer's filings with the SEC.

Conifer specifically disclaims any obligation to update or revise any forward-looking statements whether as a result of new information, future developments or otherwise. Also, a reconciliation of non-GAAP measures was provided with the news release. Statutory accounting data is prepared in accordance with statutory accounting rules and therefore is not reconciled to GAAP. We will open the call for questions, but first management will offer some prepared remarks. Let me turn the call over to Jim Petcoff, Chairman and Chief Executive Officer, to begin.

Thank you, Heather. Thanks to all of you for joining us today. I would especially like to thank all of the IPO investors for supporting us in our business plan. We talked about the exceptional opportunities in our pre-IPO presentations. We are now poised to execute on this business plan. The additional capital is helping us to further expand our platform and support the people on staff to deliver our specialty niche classes to the marketplace.

Our first six month's results demonstrated the trajectory of our business with gross written premiums up 20% and the net loss ratio of 57%. Explaining further the direction of the Company is Nick Petcoff, who with me founded Conifer in 2009 and is critical for the growth of Conifer. Nick?

Thank you, Jim. Since Conifer's founding, we've been focused on specialty classes in both commercial and personal lines. Within those specialities, we've assembled an experienced management and underwriting team. The executive team here at Conifer averages over 20 years of experience in the industry. In addition to the vast experience, the management team, including underwriters, owns 33% of the Company. We believe the significant ownership aligns our interests with investors.

The underwriting team has a strong track record of growing profitable specialty insurance in both the personal and commercial lines. We have years of experience within these niche classes and bring strong agency relationships. In many cases, these relationships with agents have led to agencies rolling entire books of business to Conifer. There is deep industry knowledge and experience in each of the major specialty classes as evidenced by the chart on slide 5.

Conifer targets under served specialty classes of business where we have experience in both the underwriting and claims areas. In commercial lines, these classes are generally small, commercial accounts that have less industry competition than larger accounts. The commercial multi-peril products provide property, liability and sometimes commercial auto coverages in one-package policies. We focus on providing these coverages for hospitality businesses like restaurants, bars, taverns and bowling centers.

We also target small businesses with some commercial auto exposure such as used car dealerships, auto repossession and towing operations. Within the hospitality classes, we will offer liquor liability coverage. In Michigan, we will supplement our commercial multi-peril and liquor liability coverages with workers' compensation coverage. Finally, we target some classes that are heavier on the general liability coverage like security guards, private investigators and alarm contractors. We will also write a book of realtor's errors and omissions coverage here in Michigan.

The commercial lines book of business has grown significantly in these areas since 2012, nearly doubling in premium volume each year. We continue to see significant growth from the first to second quarter of this year. The geographic makeup of the book is concentrated in the Midwest, Mid-Atlantic and Southeast. This geographic concentration coincides with underwriting offices in Michigan, Pennsylvania, Florida and Texas. The specialty personal lines business includes homeowners, dwelling and non-standard personal auto products.

The non-standard personal auto products are in run-off, with the vast majority of policies being non-renewed by the end of 2015. The specialty personal lines products are focused on wind-exposed books of business and low-value homeowners and dwelling products. We believe these products are generally under served by the broader marketplace and will offer less pricing sensitivity and competition. The low-value dwelling and homeowners products are located in Texas, Indiana and Illinois.

The wind-exposed products in both Florida and Texas continue to grow steadily. There has been increasing competition in these books of business due to increased reinsurance capacity. The wind-exposed book of business in Hawaii covers only losses from named hurricanes and continues to grow as agents are appointed. The growth experienced in personal lines since 2012 is primarily driven by the wind-exposed books of business in Texas and Florida.

Total gross written premium volume has almost doubled every year since 2012 with the expiration of non-competes, additions of experienced underwriters and increased distribution. The specialty commercial lines has been driving the premium growth in 2015 due to the run-off of the personal auto business and increasing competition in the wind-exposed business in Florida and Texas. The specialty commercial lines of business growth has been driven primarily by the hospitality, security guard and auto repossession and towing classes.

There is some seasonality in both the personal lines and commercial lines premiums as exhibited by slide 10. The premium volume is higher in the fourth quarter versus the first three quarters. This increase is driven by the seasonality of the bowling center book in November and December in the commercial lines area. The personal lines growth is driven by Florida homeowners takeout of Citizens policies which was accomplished in December of 2014.

I'll now hand over the call to our CFO, Harold Meloche, to provide a financial review.

Thank you, Nick. I would like to begin by highlighting how we are executing on our plans. Starting with a look at how our expense ratio has declined as our premium volume has grown. Necessarily, we initially built the platforms and expensed the infrastructure that would generate the business. As a result, we experienced higher expense ratios in our earlier years. That infrastructure is now in place and will allow us to write substantially more premiums without a proportional increase in expenses. We can see the benefits of the growing premium as our expense ratio has decreased almost 25 percentage points since 2012 to 39.5% in the second quarter of 2015.

The quota share reinsurance agreements that we entered into at year-end 2014 was designed to provide capital support so we could continue our growth initiatives on our existing capital base. The quota share increased the expense ratio by 1.1 and 0.6 percentage points in the first and second quarters of this year. The graph reflects the expense ratio before the impact of the quota share to make it comparable to prior years, because we terminated the quota share on August 1. As we continue to grow premium volume, we expect the expense ratio to decrease further toward the 35% target.

Turning now to our loss ratio. Historically, we have generated loss ratios close to our target of 55%. We were pleased to see weather-related property losses revert back to more historic norms this year. However, we continually reassess our risk exposure in all areas and make adjustments in our pricing and underwriting guidelines as appropriate. The quota share also impacted our loss ratio, increasing it 1.1 and 0.5 percentage points in the first and second quarters of this year. In the graph, the loss ratios in 2015 are also presented before the impact of the quota share.

Our personal auto line, which is now in run-off, contributed 4.8 and 3.1 percentage points to our loss ratios in this year's first and second quarters. This impact however was not backed out of the graph. We expect personal auto to have little effect on these loss or expense ratios in 2016. Without the impact of the quota share and the personal auto line, we would already be below our target loss ratio of 55%. The combined ratio tells the complete story as we see both the expense and loss ratios coming in line with our plan.

I'll point out again the impact of our personal auto in the first half of this year reduced earnings by $0.17 per share and the quota share reduced earnings by another $0.18 per share. Without the personal auto and quota share impacts, our earnings per share would have been $0.35 higher than the $0.15 reported so far this year.

Now to talk a little more about our first-half results and to add to Nick's comments on gross premium volume. Personal auto, which is in run-off, was down $4 million. It was largely responsible for the decline in personal lines premium in the first half of 2015. There will be no more premiums written in the non-standard automobile lines going forward.

There was also a $1 million decline in gross premiums written in the low-value dwelling line as we made underwriting and pricing changes in 2014 to address the higher loss ratios in the Midwest homeowners line. We expect the low-value dwelling line to resume growing as we have recently added a low-value dwelling program in the Southeast. With the expansion in our lines, our gross written premiums were up; however, our net written premiums were lower because of the quota share.

Now turning to reserves. For the first half of this year, we had overall unfavorable reserve development on prior accident years of $204,000, as compared to favorable reserve development of $972,000 for the same period in 2014. This year, there's was $331,000 of adverse development in the personal auto line. We otherwise experienced favorable development in most other lines, which partially offset that adverse development in the personal auto. It is our goal to consistently maintain adequate reserves in our unpaid losses and loss adjustment expenses. We have historically experienced favorable reserve development each year.

Turning to investments. The growth in net investment income in the first half was largely due to growth in our investment portfolio. We maintained a conservative investment philosophy with 96% of our investment portfolio currently in fixed income securities with an average credit quality of AA on average duration of 3.5 years and a tax equivalent yield of 2.2%. In addition to our prudent investment philosophy, we protect capital through our reinsurance programs. Beyond the change in the quota share reinsurance I mentioned earlier, our reinsurance structure is unchanged and follows a consistent and robust risk management approach.

Turning to taxes. There has been a valuation allowance against 100% of our deferred tax assets over the last several years. As a result, we would expect little to no income tax expense in 2015. It is also likely to reduce the effective tax rate in 2016. The amount of the allowance that can be utilized against future earnings is approximately $4.4 million at June 30, 2015. That equates to $0.58 per common share using the post-IPO share count.

So now let's take a look at how we used the IPO proceeds and what the pro forma balance sheet looks like. We received net proceeds of approximately $30.6 million from the IPO. We used $17 million to reduce debt and $6.4 million to buy back all of the outstanding preferred.

However, there were a number of preferred shareholders mainly in Company's Management who chose to reinvest the proceeds they received from the preferred share buyback into common shares at the IPO price. This generated an additional $3.1 million of capital immediately following the IPO. That leaves us with $10.3 million to either contribute to subsidiaries to support the growth or to leave at the holding Company for general corporate purposes.

In addition, we have a completely untapped $17.5 million line of credit. Post-transaction, we have $1.5 million(sic --"$10.5 million") in outstanding debt in the form of two term notes and a pro forma debt to total capital ratio of only 11.8%.

Finally, just a quick note. The post-IPO share count will be 7.644 million. Using our June 30 book value and taking into account only the effect of the IPO and preferred share transactions, our pro forma book value per share would have been $10.28.

At this point, I'd like to turn it back over to Jim.

Thank you, Harold. I'd like to clarify one thing. Harold may have said $1.5 million of term debt, it's really $10.5 million. But I'm hoping you saw it on the slide deck. It's clear we have the platform and products to grow Conifer significantly in the specialty niche areas our people have focused on for most of their careers. We are very excited to execute the plan and thankful to our investors who gave us this opportunity.

Along with myself and Harold, Brian Roney, President of Conifer is available to answer any questions you may have. Thank you.

(Operator Instructions)

Charles Sebaski, BMO Capital Markets.

So, just want to get a little more clarity on the growth, both in the commercial and the personal lines. I guess the first: On the commercial book, just wondering how the security guard business is playing out? I know you said in the release some percentages, but without there being a base level, just wondering to get a little more detail on the security guard business growth, and where you see that going maybe over the next year?

Okay. I think that should be answered by Nick.

Sure. Yes, John Bures is the primary underwriter for the securities book -- continues to go back to a really select group of agents that he had the strongest relationships with. In some cases, they're moving over parts of their book -- the growth trend is in line with our projections so far this year -- our internal projections. So, we're happy with the growth; the loss ratios so far on that business have been very -- within our projections as well. So, his gross written line was what we had expected.

Okay. So, the size of the security guard book today is -- I know there's some charts in there, but there's not kind of numbers. I was wondering if you could just give us an idea what the size of that book is, and where you might think it would be in premium level for 2016, or roughly?

Well, sure. Again -- this is Jim Petcoff. John Bures started writing in December, but really in January. He's grown the book. I think gross written premiums are still below $5 million for the first half of the year. But we expect that to be kind of a run rate to see in the future of $5 million every six months for the next few months, or few half years I guess, to give you an idea.

We're not sure how big that book would grow. He was responsible, at one point, for over $80 million in that book. So, we expect that kind of growth to continue for a little bit. Obviously, you can't get all of that business back, but you should be able to get a significant share.

Okay. Then, I guess in the personal lines on the Florida versus Texas and how those books are playing out, and how you think they're going to -- and what the pricing dynamics of each of them are? Just curious on Florida -- it seems like Florida's catching up or exceeded Texas here. Just trying to get some thoughts or any other clarity on what the growth prospects are, and what the pricing looks like on that book, as it stands now?

Okay. Nick, why don't you -- Andy's not here, but Nick will talk to the Florida.

Yes. On the Florida side, I think we've done a very good job on the Citizens take-out. The attrition rate was less than we expected.

On the voluntary business, that's where we're seeing more of the competitive pressure. We had a slow rollout of our systems and agency force, so we kind of had a very measured approach. But I'd say the voluntary side of that book has experienced the most pressure.

Texas -- we experienced some pressure earlier this year from a pricing standpoint. We made a couple adjustments to our rates, but now we believe we've kind of hit that balance point. We're starting to grow again at a rate level that we're happy with.

Okay. You see any pickup in Hawaii business with the El Nino season and kind of wind events that are going on out there in the Pacific?

I don't think the wind -- this is Jim. I don't think the wind events have impacted any of that. Our growth is consistent in Hawaii.

We have a different pricing model and reinsurance model than Zephyr. Because of that, we're competitive in certain areas that we think have lower probabilities of loss. Therefore, we have consistent growth out there. We see that continuing. It's not dynamic, incredible growth, but just consistent, steady growth.

Excellent. Thanks a lot for the answers, guys.

Thanks.

(Operator Instructions)

[Jeff Schmidt], William Blair.

A quick question on the expense ratio -- the target of 35%: What's the timing do you think on that, or what size of premium level would you need to get to, is that assuming?

Well, from a timing perspective, obviously you've seen the decline. We talked about it. Harold mentioned it -- this is Brian Roney, by the way -- mentioned, obviously, it's down 25 percentage points from roughly 65% in 2012.

Keep in mind, that was back when we had the people rolling on. Jim Petcoff's non-compete came off. But as we've looked at the decline, you're just inside of 40%, ex a quota share, you're at 39.5%. We're probably feeling like we should be on pace to be there by the end of next year, if not sooner.

Got you. How do you -- how is that broken out between commercial and personal line? Is it pretty similar?

Yes. This is Jim Petcoff. I would say the marginal costs or the variable cost in the commissions and acquisitions are similar in both lines. We do have some wholesale relationships. We do not have very many, if any, MGA relationships. So, that's true in both the commercial and the personal.

So, with the variable cost being the same, from an internal standpoint on the expense ratio side, we don't see much difference. On the claims side, obviously, the frequency is higher in the personal line. So, our ULAE may be higher on the personal line side versus the commercial, but on the expense side we really don't see much variation.

Yes, okay. On operating income, I just noticed in the press release, it was a higher number, $543,000 versus $366,000 of net income. But then the operating income per share was lower at $0.07 versus $0.09. What's driving the higher operating income, lower per share amount? Or is that --?

I think Harold's going to take a shot at answering that.

Yes, I can take a shot at answering that. Actually, I'm trying to actually figure out why that is.

Doesn't it have to do with the minority-owned subsidiary?

Well, the net income per share of $0.09 obviously backs out the dividends and the non-controlling interest. The operating income per share may not be backing out some of that. But I'd have to get back to you on that to tell you exactly why.

Yes, okay. Yes, I'll follow up there. Just one last question on the take-out: How do you guys go about taking out that business? Are you hiring an outside modeling, or are you doing your own?

Well, Nick's going to handle this. But I want to point out that we're pretty much through with take-out business. We only did those two. But go ahead, Nick.

Yes. As Jim mentioned, those were kind of -- that's probably it for the take-outs for now. Yes, we leverage our reinsurance brokers and their modeling capabilities, working with them. Obviously, we layer the data set on with our current portfolio. We have some commercial business in Florida, but also the homeowners in Texas and some of our other coastal states. So, we really try to optimize the portfolio. And with that we also use our outside actuaries on the rates -- the rates that we're going to come out with.

So, it's a combination of using actuaries outside our partners on the reinsurance broking side to model that out, look at the best portfolio as it sits within our book, and really target those policies. We found the best success when we can really make -- either reconnect with agents that we know in Florida in the past who have those policies within that data set or kind of re-establish relationships with the agents.

That's the point, Chuck. We did a take-out, but we had -- oh, Jeff, I'm sorry.

That's all right.

Sorry about that, Jeff.

That's all right.

We have relationships with those agents because the people on staff had prior written homeowners in Florida. So, when we did the take-out, we targeted the agencies where we had relationships prior on the take-out policies, and modeled that obviously with our reinsurance brokers and our actuaries to come up with the most efficient portfolio. That's why we have a little bit less attrition rate from the take-out than other people would, because we had prior relationships with those agents.

Got you. Okay. Thank you. That's all I had.

Good. Thanks, Jeff.

I think I can explain why the operating income per share is lower now.

Okay.

Sorry for the slight delay. Basically, the main difference is we're just backing out realized gains on an after-tax basis.

Is that -- but if you back that out, wouldn't that drop your -- it would drop operating income by --

We're starting with net income, which is fully consolidated.

Oh, I've got you.

We're not backing out some of those other pieces.

Got you. Okay. Thanks.

Paul Newsome, Sandler O'Neill.

The offering was a little bit smaller than was originally filed for. I was wondering if you could talk about sort of prospective capital management a little bit more and the tradeoff of cash uses as you look forward over the next year or two?

Well, I'm going to start this, but Brian can talk to our capital management. We have enough capital, in our minds, to execute on our plan for the next couple years. So, the less capital, but the fact that we have leverage in our debt as well, puts us in a pretty good position.

Brian, do you want to make any comments on that?

Yes. Paul, this is Brian. I think I'd tell you it's more about the opportunities for us. It's all about organic growth. What we have right now by delevering the balance sheet -- we're poised for that growth. So, the cash that Harold talked about that's there, the access under our line, this allows us to be a lot more selective and a lot more focused in terms of where we want to be from a growth perspective.

So, right now, we're actually in pretty good shape. If you look at it with the high inside ownership, you could argue that obviously coming out at a smaller deal in kind of a tough market you wouldn't want to sell as much either. But from our standpoint, we're just firmly aligned with everybody else going forward. So, I would tell you right now, like Jim said, I would echo it: We're probably good for the next year or two.

Great. Thanks.

Thank you. At the present time, there are no more questions, so I would like to turn the call back over to Management for any closing comments.

Well, thank you. I want to thank all the investors one more time for helping us to get in the position to execute on our business plan. We are truly very excited. We are in bed with you guys, so-to-speak, from a capital standpoint. We are totally focused on executing on our plan. So, thanks again, and appreciate all your help.

Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.