First American Financial Corp quarterly report, Q2 FY2023

First American Financial Corporation — Q2 2023 Form 10-Q

Reporting period: Three and six months ended June 30, 2023. Figures are unaudited and in millions of dollars, except per-share data and percentages. The company operates title insurance and services, home warranty, and corporate businesses; its results are significantly affected by real estate and mortgage transaction volumes.

Financial performance

Metric	Q2 2023	Q2 2022	Six months 2023	Six months 2022
Revenue	$1,646.9	$2,062.5	$3,093.0	$4,096.2
Income before tax	$178.1	$141.4	$237.7	$271.2
Net income attributable to company	$138.5	$108.8	$184.4	$206.7
Diluted earnings per share	$1.33	$1.01	$1.76	$1.89
Cash dividends per share	$0.52	$0.51	$1.04	$1.02

Revenue and drivers: Q2 revenue declined 20.2%; title insurance and services revenue fell 25.5%, while home warranty revenue rose 4.0%. Lower title premiums, escrow fees, and information revenue reflected weaker transaction activity. Higher investment income and improved investment results partly offset the revenue decline.
Profitability: Q2 income before tax increased despite lower revenue, supported in part by lower expenses and stronger investment income. Consolidated net margin was approximately 8.4%, versus 5.3% a year earlier. For the first half, net income attributable to the company fell 10.8%.
Segment margins: Title Insurance and Services pretax margin was 12.1% in Q2 versus 11.7% a year earlier; first-half margin was 9.5% versus 11.4%. Home Warranty Q2 margin increased to 13.4% from 8.7%; first-half margin increased to 14.4% from 12.1%.
Cash flow: First-half operating cash flow was $176.7, down from $229.6. Investing activities provided $245.9, compared with $194.8 used in the prior-year period; financing activities provided $595.1 versus $490.1. Cash and cash equivalents increased $1,022.4 to $2,245.9.

Balance sheet, debt and liquidity

At June 30, 2023, total assets were $15,730.9 and total equity was $4,786.9. Cash and cash equivalents were $2,245.9, compared with $1,223.5 at December 31, 2022.
Deposits were $6,309.4; notes and contracts payable were $1,393.3; and secured financings payable were $585.7. The company’s reported debt-to-capitalization ratio was 29.2%, or 19.9% on its adjusted, non-GAAP basis, which excludes secured financings payable and accumulated other comprehensive loss.
In May, the company replaced its $700.0 million revolving credit agreement with a $900.0 million unsecured facility maturing May 17, 2028, with a conditional $450.0 million expansion option. No amounts were drawn at quarter-end, and the company reported compliance with financial covenants. It repaid $250.0 million of 4.30% notes at maturity in February.
Holding-company cash was $67.6, with the full $900.0 million revolver available. Management stated that resources should be sufficient for anticipated needs and obligations for at least 12 months. The company expects to continue quarterly dividends at or above the current level, subject to board discretion and other conditions.
Available-for-sale debt securities had fair value of $7,454.5 against amortized cost of $8,413.5, including $968.9 of gross unrealized losses. Management attributed the losses to non-credit factors, did not intend to sell the securities in loss positions, and considered a forced sale before recovery unlikely.

Material changes and management commentary

Title transaction volumes remained sharply lower: Q2 domestic title orders closed by direct operations fell 37.4%; residential purchase orders closed per day fell 29.7%, and refinance orders closed per day fell 56.9%. Management linked the weakness to lower mortgage originations amid elevated rates.
Q2 direct premiums and escrow fees decreased 34.8%, and agent premiums decreased 33.3%. Higher short-term interest rates helped lift first-half net investment income 118.4% to $284.3.
The company repurchased 0.8 million shares for $45.7 in the first half and paid $107.4 in cash dividends. The $400.0 million repurchase authorization had $240.9 remaining at June 30.
Investment results remain volatile. The company recorded Q2 gains of $6.3, including gains related to marketable equities, while private venture-stage investments generated $39.7 of first-half unrealized losses, including $35.5 of impairment charges. The company also recorded Offerpad-related unrealized gains of $26.5 in the first half and purchased an additional $25.0 of Offerpad shares.
The title claims reserve was $1,322.2 at quarter-end. The first-half title loss provision rate was 4.0%; the current policy-year ultimate loss rate was estimated at 3.75%, with favorable prior-year reserve revisions.

Outlook, risks and contingencies

The filing provides no specific revenue or earnings guidance. Management noted that real estate and mortgage activity is cyclical and seasonal and that higher rates and reduced mortgage financing generally pressure residential activity and company revenue.
Key stated risks include interest-rate and real estate market changes, investment and venture-portfolio volatility, claims experience differing from estimates, financial institution failures and deposit movements, regulatory scrutiny, cyber incidents, data protection, fund-transfer fraud, and disruption from technology or artificial intelligence.
The company is involved in ordinary-course litigation and regulatory matters. It said pending matters were not expected to materially adversely affect financial condition, results, or cash flows, but actual losses could differ from recorded estimates. A New York Department of Financial Services matter concerning the 2019 information-security incident remains unresolved; the administrative hearing was postponed and not rescheduled.
Escrow, trust, like-kind exchange, and mortgage-subservicing deposits administered for customers are largely not company assets, but the company could be contingently liable for their disposition. The filing reports $9.8 billion in escrow deposits, $2.7 billion in like-kind exchange funds, and $1.5 billion in mortgage-subservicing cash deposits at June 30.

Important facts for investors to verify

Whether mortgage rates, order volumes, and real estate transactions improve or remain weak, and the resulting effect on title revenue and margins.
How much earnings depend on elevated investment income and volatile marketable and venture investment valuations, including Offerpad.
Whether the title claims reserve and home warranty claims assumptions remain appropriate as claims develop.
The liquidity and risk implications of customer deposits, subsidiary dividend restrictions, and exposure to financial institutions.
Developments in the New York DFS matter and other regulatory inquiries, and any material changes to contingencies or capital allocation.