NMI Holdings, Inc. — Q2 2014 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2014. NMI is an early-stage private mortgage insurer; it began writing policies in April 2013 and reported results in a growth and infrastructure-building phase.
Business context
Through its subsidiaries, NMI provides mortgage insurance, primarily for loans eligible for purchase or guarantee by Fannie Mae and Freddie Mac. At June 30, 2014, primary insurance in force was $939.8 million and pool insurance in force was $4.9 billion. Primary risk in force was $220.9 million and pool risk in force was $93.1 million. NMI obtained its final state insurance license in Wyoming in April, completing nationwide licensing.
Financial performance and position
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net premiums written | $5.1 million | $1 thousand | $10.2 million | $1 thousand |
| Net premiums earned | $2.1 million | $1 thousand | $4.0 million | $1 thousand |
| Total revenues | $4.5 million | $0.7 million | $8.8 million | $1.2 million |
| Total expenses | $18.7 million | $17.0 million | $38.0 million | $29.4 million |
| Net loss | $12.9 million | $16.3 million | $27.9 million | $28.2 million |
| Basic and diluted loss per share | $0.22 | $0.29 | $0.48 | $0.51 |
- Operating losses continued. Management said operating profitability was not expected through at least 2014. Expenses rose year over year as the company expanded staffing and operations; first-half other underwriting and operating expenses increased to $37.9 million from $29.4 million.
- Net investment income was $3.0 million for the first half, up from $1.8 million. A $1.8 million first-half gain from revaluing warrant liabilities also contributed to reported results; the warrant liability was $4.6 million at June 30.
- First-half operating cash outflow was $18.0 million, versus $22.9 million a year earlier. Cash and cash equivalents were $34.7 million at June 30, down from $55.9 million at year-end 2013.
- Total assets were $466.2 million, including $413.3 million of available-for-sale investments; shareholders’ equity was $443.9 million. The balance sheet reports no debt.
- Combined statutory policyholders’ position was $189.4 million against $314.0 million of risk in force, a 1.7:1 risk-to-capital ratio. NMIC’s ratio was 1.5:1, below the stated GSE and regulatory limits.
- The company reported one primary-book default notice and a $28,000 claims reserve. It recorded no pool claims reserve, citing the transaction deductible and low reported defaults.
Material changes versus comparable periods
- Premium activity expanded substantially as NMI grew its customer base and primary writings. Q2 primary new insurance written rose to $429.9 million from $354.3 million in Q1 2014; primary insurance in force reached $939.8 million, versus $161.7 million at December 31, 2013.
- Net loss narrowed year over year in both Q2 and the first half, despite higher operating expenses. Higher earned premiums and investment income, along with favorable warrant-liability remeasurement, contributed to the improvement.
- Investment fair value rose to $413.3 million from $409.1 million at year-end. Unrealized investment losses declined to $2.1 million from $7.3 million.
- Cash declined by $21.3 million in the first half of 2014, compared with a $459.9 million decrease in the prior-year period, when the company had substantial investment purchases.
Outlook, risks and unusual items
- Management targeted a long-term expense ratio of 20%–25% of premiums written, while noting the ratio would remain substantially higher during the start-up period. It expected premiums to grow, operating costs to grow more slowly over time, and liquidity to fund anticipated growth and expenses through 2015; capital options were expected to be considered thereafter.
- FHFA published proposed Private Mortgage Insurer Eligibility Requirements (PMIERs) on July 10, 2014. The draft called for available assets of at least $400 million or a higher risk-based amount. NMI reported approximately $448 million of consolidated assets meeting the draft definition, but only $209.1 million at NMIC and Re One. NMI said substantially all parent capital might need to be contributed to NMIC if the draft applied immediately, and anticipated seeking a transition plan that could include raising additional capital before the compliance date.
- Failure to meet final PMIERs or obtain an acceptable transition plan could threaten GSE eligibility and materially impair the business. Requirements were still proposed; timing, final terms, and the company’s eventual funding needs were uncertain.
- NMIC’s GSE arrangements required at least $150 million of capital, a risk-to-capital ratio no greater than 15:1 through 2015, and prohibited dividends to NMIH through December 31, 2015. Insurance-subsidiary dividends are also subject to regulatory restrictions.
- Effective July 1, 2014, NMI and its insurers settled the PMI litigation; the court dismissed the complaint with prejudice on July 28. The company said its share of the settlement was recorded in Q2 and would have an immaterial impact on annual financial statements; the filing does not provide a clear settlement amount.
- Other risks include changing GSE practices and regulation, competition, housing and interest-rate conditions, claim experience, geographic concentration, and execution of the company’s growth and technology plans. California represented 21.3% of primary risk in force and 28.0% of pool risk in force.
Important facts for investors to verify
- Final PMIERs terms, compliance timetable, NMIC’s required capital, and the feasibility and cost of any transition plan or capital raise.
- Whether premium growth and customer allocations continue, and how the mix of single-premium versus monthly-premium business affects future earned premiums and cash flow.
- Development of claims and default experience as the relatively new primary insurance book seasons, including the adequacy of reserves.
- Liquidity available at the holding company versus assets restricted within insurance subsidiaries, and the timing and amount of any further capital contributions.
- The settlement payment amount and any remaining obligations, and the effect of warrant remeasurement and other non-operating items on reported losses.