HCI Group, Inc. — Form 10-Q Summary
Reporting period: Quarter and six months ended June 30, 2013; filed August 7, 2013. Amounts are in thousands except per-share data. HCI, formerly Homeowners Choice, is primarily a Florida property and casualty insurer, with reinsurance, real estate, and information technology operations.
Financial performance and position
| Metric | Three months ended June 30 | Six months ended June 30 |
|---|---|---|
| Gross premiums earned | $81,952 vs. $53,772 | $164,499 vs. $108,470 |
| Net premiums earned | $57,335 vs. $37,070 | $117,886 vs. $77,501 |
| Total revenue | $59,333 vs. $38,855 | $121,144 vs. $80,507 |
| Income before taxes | $26,407 vs. $12,009 | $59,577 vs. $23,390 |
| Net income | $16,235 vs. $7,262 | $36,622 vs. $14,230 |
| Income available to common stockholders | $16,203 vs. $7,199 | $36,556 vs. $13,986 |
| Diluted EPS | $1.40 vs. $0.74 | $3.20 vs. $1.60 |
| Dividends per common share | $0.23 vs. $0.20 | $0.45 vs. $0.35 |
Gross premiums earned increased approximately 52% in the quarter and 52% year to date, primarily due to the November 2012 Citizens policy assumption, partly offset by policy attrition. Net premiums written were $107,830 in the quarter and $155,083 year to date.
Underwriting performance improved materially. The net-premiums-earned combined ratio declined to 57.4% from 72.4% for the quarter and to 52.2% from 73.7% year to date. On a gross-premiums-earned basis, the combined ratio declined to 40.2% from 49.9% for the quarter and to 37.4% from 52.7% year to date. Favorable prior-period reserve development was $1,017 in the quarter and $2,076 year to date; 2012 results included approximately $2,000 of Tropical Storm Debby claims.
At June 30, 2013, total assets were $461,781, including $296,812 of cash and cash equivalents and $66,468 of investments. Stockholders’ equity was $153,585, compared with $121,253 at December 31, 2012. Losses and loss adjustment expense reserves were $44,749, including $25,068 of estimated incurred-but-not-reported losses.
Net cash provided by operating activities was $42,541 for the first six months, compared with $23,974 in the prior-year period. Investing activities used $9,582, and financing activities provided $33,676. Ending cash increased to $296,812 from $230,214 at December 31, 2012.
Debt, liquidity, and capital
- In January 2013, HCI issued $40,250 principal amount of 8% senior unsecured notes due January 30, 2020. Net proceeds were approximately $38,690; carrying value at June 30 was $40,250 and estimated fair value was $42,182.
- Interest expense was $846 for the quarter and $1,532 year to date; the effective interest rate approximated 8.7%.
- Contractual obligations totaled $63,394, including $61,985 of principal and interest payments on the senior notes over their term.
- Management expects liquidity needs to be funded primarily by operating cash flows, including premiums and investment income. HCI may also consider future debt or equity offerings.
- HCPCI’s ability to distribute funds to HCI is subject to Florida insurance-law restrictions and may require regulatory approval for distributions above statutory thresholds.
Material changes versus the prior comparable period
- Revenue, net income, diluted EPS, and operating cash flow increased substantially, driven principally by the Citizens policy assumption and higher renewals.
- Loss and expense ratios improved despite higher absolute operating expenses. Other operating expenses increased to $7,358 for the quarter and $13,473 year to date, primarily from higher compensation and administrative costs.
- HCI incurred $1,532 of interest expense year to date versus none in 2012 following the senior-notes issuance.
- Available-for-sale securities increased to $50,454 from $44,829 at year-end, while accumulated other comprehensive income declined to $897 from $1,620 due primarily to unrealized investment losses.
- Series A preferred shares outstanding declined to 191,750 from 241,182 as 49,432 shares converted to common stock. Common shares outstanding increased to 11,434,216 from 10,877,537.
- The company purchased a $2,002 Ocala, Florida property for insurance operations and disaster-recovery purposes.
- The company changed its name from Homeowners Choice, Inc. to HCI Group, Inc. in May 2013.
Guidance, outlook, risks, and unusual items
- No quantitative earnings or revenue guidance is provided. Management intends to pursue additional product and geographic opportunities, including a pending application to write insurance in Alabama.
- The insurance business is seasonal, with hurricane and tropical-storm exposure concentrated from June 1 through November 30. A major catastrophe could materially affect quarterly results and disrupt operations.
- The 2013–2014 reinsurance program has estimated gross cost of approximately $134,000 before broker fees and expected net ceded premiums of approximately $113,000 assuming no losses. A $1,301 benefit recognized under retrospective provisions could reverse and reduce earnings if covered catastrophe losses occur.
- HCI remains liable for claims if reinsurers cannot perform, although management uses established, rated, or fully collateralized reinsurers. Related-party participants are involved in the Moksha and Oxbridge reinsurance arrangements; the filing states that the exposures are fully collateralized.
- Reserve adequacy, catastrophe frequency and severity, reinsurance pricing and collectability, premium-rate restrictions, regulatory changes, and premium-rate pressure are key risks.
- The company reports no material adverse pending legal proceedings, no off-balance-sheet arrangements, and effective disclosure controls. Environmental remediation liabilities include $39 remaining accrued, with possible additional costs not expected by management to be material.
- The consolidated statements report six-month income taxes of $22,955, while the MD&A text states $22,512; investors should verify this apparent filing inconsistency.
Facts investors should verify
- Whether premium growth from the Citizens assumption is sustainable after policy attrition and changing Florida insurance-market conditions.
- The sensitivity of reserves and earnings to hurricane losses, adverse claim development, and reversal of the $1,301 retrospective-reinsurance benefit.
- HCPCI’s statutory surplus, dividend capacity, and ability to transfer cash to the holding company to service the 8% senior notes.
- The terms, collateralization, and related-party governance of the Moksha and Oxbridge reinsurance transactions.
- The cause of the six-month income-tax discrepancy between the financial statements and MD&A.
- The effect of higher compensation, administrative costs, debt service, and stock-based compensation on future margins and cash flow.