Palomar Holdings, Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended September 30, 2020; filed November 13, 2020. Palomar is a specialty property insurer focused on earthquake, wind, and flood coverage. Unless stated otherwise, figures below are in U.S. dollars.
Financial results and key metrics
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Gross written premiums | $103.0m | $66.2m | $258.3m | $178.6m |
| Net earned premiums | $42.0m | $27.7m | $116.1m | $69.2m |
| Total revenue | $45.0m | $30.5m | $126.2m | $78.7m |
| Net income (loss) | $(15.7)m | $7.5m | $8.1m | $(0.3)m |
| Diluted EPS | $(0.62) | $0.31 | $0.32 | $(0.01) |
| Combined ratio | 157.1% | 73.4% | 99.1% | 103.9% |
| Net cash from operating activities | — | $44.2m | $35.7m |
Q3 losses and loss adjustment expenses were $41.1m, including $36.5m of catastrophe losses, primarily from Hurricanes Hanna, Isaias, Laura, Sally, and Beta. The Q3 loss ratio was 97.7%; the expense ratio was 59.4%. The company reported a non-GAAP adjusted combined ratio of 155.8%, or 68.9% excluding catastrophe losses. For the nine-month period, catastrophe losses were $36.5m; the reported loss ratio was 40.4% and the non-GAAP adjusted combined ratio was 96.8% (65.4% excluding catastrophe losses). These adjusted measures are company-defined and are not GAAP results.
Net investment income was $2.1m in Q3 and $6.3m for the nine months. Net realized and unrealized investment gains were $0.02m and $1.2m, respectively. Nine-month adjusted net income was $10.1m, down from $26.4m; this non-GAAP measure excludes specified items, including the unusually large 2019 stock-compensation charge.
Balance sheet, cash flow, and capital
- At September 30, 2020, total assets were $699.8m, total liabilities $337.9m, and stockholders’ equity $361.9m, compared with $395.5m, $176.9m, and $218.6m, respectively, at December 31, 2019.
- Investments totaled $435.8m: $390.8m in available-for-sale fixed maturities and $45.0m in equity securities. Cash and cash equivalents were $14.0m; cash, cash equivalents, and restricted cash together were $14.2m.
- Loss and LAE reserves were $132.1m gross of reinsurance recoverables; recoverables on unpaid losses were $92.5m, leaving $39.5m net. Total reinsurance recoverables were $103.0m. Management cautions that reserve estimates are inherently variable and could materially affect equity.
- Operating cash flow was $44.2m; investing activities used $191.4m, mainly for net purchases of securities; financing activities provided $128.0m, mainly from January and June stock offerings. Cash, cash equivalents, and restricted cash declined $19.2m during the nine months.
- The company had no debt at September 30, 2020; its $20.0m floating-rate notes were redeemed in May 2019. Management said liquidity and expected cash sources were sufficient for foreseeable needs and at least the next 12 months. It cited $450.0m of cash and investment securities available at quarter end.
Material changes and management commentary
- Premium growth was strong: Q3 gross written premiums rose 55.4% year over year and nine-month premiums rose 44.6%. Management attributed growth to existing and new partnerships, retention, and broader distribution. Nine-month premium retention was approximately 90% overall; residential earthquake, flood, and Hawaii hurricane retention exceeded 90% on average.
- Q3 shifted to a substantial GAAP loss from prior-year profit, chiefly because catastrophe losses drove the combined ratio above 100%. The nine-month combined ratio improved to 99.1% from 103.9%, while adjusted net income fell year over year.
- In Q2, Palomar capitalized its new Arizona surplus-lines subsidiary, PESIC, with approximately $100m in initial surplus. It began writing surplus-lines business, notably commercial earthquake, nationally in Q3.
- Palomar raised approximately $125.5m net through January and June 2020 stock offerings. The increased equity and investment balance contributed to higher investment income, partly offset by lower yields.
- The investment portfolio’s fixed-income book yield fell to 2.33% from 2.90% at year-end 2019. Management reported that unrealized fixed-maturity losses were primarily interest-rate-related, and that no securities were considered other-than-temporarily impaired.
- COVID-19 had not significantly changed premium growth through the reporting date, but the company reported more business-interruption claims. It said all-risk policies include an ISO virus exclusion and its difference-in-conditions policies require physical damage from covered perils. Management noted possible future effects on demand, claims, investments, counterparties, and operations.
- Effective June 1, 2020, reinsurance coverage extended to $1.4bn for earthquake events and $600m for hurricane events; stated event retention was $10m, plus $3m vertical co-participation in selected layers. Reinsurance recoverables and reinsurer performance remain material exposures.
- After quarter end, Palomar completed a purchase of renewal rights to GeoVera’s Hawaii residential hurricane policies. The company estimated potential written premiums of approximately $17m over the following 12 months, but renewals by those policyholders are not assured.
Outlook, risks, and other notable items
The filing provides no quantified earnings or premium guidance. Management expressed confidence in liquidity and long-term growth, while emphasizing that results are not necessarily indicative of full-year performance and that catastrophe frequency and severity are unpredictable. Key risks include severe catastrophe events and climate-related weather patterns; insufficient or delayed reinsurance recoveries; reserve-estimation uncertainty; concentration in California and Texas; reliance on two program administrators, which represented 54.4% of nine-month gross written premiums; COVID-19 effects, including business-interruption coverage disputes; investment-market and interest-rate risk; and execution risk in scaling PESIC. The company reported an A.M. Best “A−” rating for PSIC and a July 2020 “A−” rating for PESIC. Ordinary-course legal proceedings were not expected by management to have a material adverse effect. Disclosure controls were judged effective, with no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- How much of the $36.5m catastrophe loss estimate is ultimately recoverable, and how quickly reinsurers pay claims.
- Whether reserve development, especially in assumed reinsurance and attritional lines, changes materially as claims mature.
- Whether strong premium growth and retention continue, and whether growth translates into underwriting profitability after reinsurance and acquisition costs.
- Whether GeoVera policyholders renew and the stated potential $17m of premiums is realized.
- How the COVID-19 business-interruption claims develop, including coverage litigation, and whether the pandemic affects policy demand or investment performance.
- Whether investment yields, portfolio credit quality, and liquidity remain adequate as claims and premium flows change.