Tiptree Financial Inc. — Q2 2016 Form 10-Q
Business context and reporting period. Unaudited results cover the quarter and six months ended June 30, 2016. Tiptree is a diversified holding company with five reporting segments: insurance and insurance services, specialty finance, real estate, asset management, and corporate and other. Comparisons are affected by the July 2015 acquisition of Reliance, whose results were not in the 2015 comparative periods, and the June 2015 sale of Philadelphia Financial Group (PFG), reported as discontinued operations in 2015.
Financial performance and position
- Revenue: Q2 revenue was $133.8 million, up 32.4% year over year; first-half revenue was $265.6 million, up 39.7%. Growth reflected insurance premiums and fees, mortgage activity including Reliance, real-estate acquisitions, and investment results.
- Profit and EPS: Q2 pretax income from continuing operations was $11.0 million, versus a $1.6 million loss in Q2 2015. First-half pretax income was $16.0 million, versus a $7.4 million loss. Net income available to Class A stockholders was $6.1 million ($0.17 diluted EPS) in Q2 and $11.7 million ($0.33 diluted EPS) for the first half. Prior-year reported net income included PFG discontinued-operations income of $21.0 million in Q2 and $23.3 million for the first half, including a $16.3 million sale gain.
- Non-GAAP results: Adjusted EBITDA from continuing operations was $17.4 million in Q2 and $32.8 million for the first half, compared with $7.2 million and $12.0 million, respectively. Total Adjusted EBITDA was lower year over year because PFG contributed $25.0 million in Q2 2015 and $33.2 million in first-half 2015. EBITDA and Adjusted EBITDA are non-GAAP measures.
- Cash flow: First-half operating cash use was $5.9 million, investing cash use was $179.5 million, and financing cash provided was $172.2 million. Cash and equivalents declined $13.2 million to $56.2 million; restricted cash was $15.1 million. Investing outflows included NPL and other principal investments, real estate, Siena lending, and CLO warehouse activity.
- Balance sheet and debt: Total assets were $2.70 billion and total stockholders’ equity was $380.5 million at June 30. Debt, net, excluding consolidated CLO debt, was $655.2 million, down from $667.0 million at year-end. Consolidated CLO liabilities were $936.4 million; the filing states CLO debt is non-recourse to Tiptree and CLO assets are not available to general creditors. Tiptree’s unrestricted cash was $56.2 million.
- Liquidity: Management said cash, subsidiary distributions, principal-investment proceeds, and subsidiary financing were expected to be adequate for at least the next 12 months. The company depends on subsidiary cash distributions and access to financing, subject to lender, regulatory, and other restrictions. Mortgage businesses use short-term, often uncommitted warehouse facilities.
- Equity and dividends: Subsidiaries bought 5.596 million Class A shares for $36.4 million, described by management as a 29% discount to March 31 book value per Class A share. The shares are held as treasury shares and are not outstanding for accounting or voting. A $0.025-per-share quarterly dividend was declared after quarter-end, payable August 29, 2016.
Material changes versus the prior comparable period
- Insurance and insurance services pretax income increased to $8.1 million in Q2 and $17.1 million for the first half. Growth in premiums and fees and investment income was partly offset by higher claims and commissions; lower purchase-accounting amortization also benefited reported earnings.
- Specialty finance pretax income rose to $2.3 million in Q2 but was only $1.3 million for the first half. Mortgage originations increased to $432.0 million in Q2 and $764.8 million in the first half; margins improved, but hiring, payroll, marketing, and integration costs weighed on first-half results.
- Real estate pretax losses narrowed to $1.2 million in Q2 and $5.0 million for the first half. NOI increased to $5.1 million and $10.0 million, respectively, supported by added senior-housing properties and rental growth. The reported first-half results included a $1.4 million unrealized loss on interest-rate swaps.
- Asset management pretax income increased to $1.1 million in Q2 and $2.7 million for the first half, though CLO management fees declined as older CLOs ran off and newer CLOs carried lower fees.
- Corporate and other improved to $0.7 million pretax income in Q2 and a $0.1 million pretax loss for the first half. Investment gains, CLO performance, and credit investments helped; corporate payroll and professional costs rose amid control and reporting improvements.
- Assets increased from $2.49 billion at year-end to $2.70 billion, driven mainly by real-estate acquisitions, loans, insurance receivables, and CLO consolidation. Parent-company equity fell from $312.8 million to $287.5 million, primarily reflecting the share purchase and dividends.
Outlook, commentary, risks, and unusual items
- No specific earnings or revenue guidance was provided. Management noted that results for the six-month period are not necessarily indicative of full-year results.
- Management highlighted lower interest rates, a flatter yield curve, Brexit-related market uncertainty, and volatility in leveraged-loan and CLO valuations. Fair-value movements can materially affect reported earnings; CLO issuance and fees may be pressured by market terms and spreads.
- Management expected mortgage refinancing activity to benefit from lower rates, while recognizing that mortgage staffing costs can precede production as new loan officers ramp up. Care acquired another senior-housing community on August 1, 2016, for $29.4 million; the company’s stated equity contribution was $8.4 million.
- Telos 7 launched in April. Tiptree retained its subordinated notes and some warehouse assets amid market pressure, sold most of the retained assets at a net gain, and continued to hold the subordinated notes at quarter-end.
- Material weaknesses in controls remained at Care’s managed properties and Luxury Mortgage, and in controls over the annual income-tax provision. Disclosure controls were deemed ineffective at June 30 because remediation was not fully implemented and tested. Certain control weaknesses relating to business combinations, cash-flow reporting, and interim tax accounting were reported as remediated.
- Fortegra faces a certified class action concerning the duration of coverage under certain policies. The company is defending the case, believes the ultimate resolution should not be materially adverse, but cannot estimate a reasonably possible loss range. Other ordinary-course proceedings were not expected by management to have a material adverse effect.
- The first-half effective tax rate was 9.8%, including $4.0 million of discrete tax benefits, primarily from the January 2016 tax restructuring; management reported a 35.5% rate before the restructuring effect. The lower reported rate may not represent a recurring tax burden.
Important facts for investors to verify
- Whether insurance claims, reinsurance recoverables, and commission costs remain consistent with premium growth, and the collectability and collateral protection of major reinsurer balances.
- Whether mortgage origination margins and volumes can sustain profitability as the enlarged sales force matures, and whether warehouse facilities are renewed on acceptable terms.
- The valuation assumptions and realized performance of Level 3 loans, NPLs, CLO subordinated notes, and other fair-value investments.
- Debt maturities, covenant compliance, available liquidity, and the distinction between Tiptree obligations and non-recourse CLO liabilities.
- Progress in remediating Care, Luxury, and annual tax-provision control weaknesses; confirm whether remediation is implemented and tested before subsequent filings.
- The ultimate outcome and potential exposure in the Fortegra class action, for which the filing provides no estimable loss range.
- The sustainability of earnings excluding PFG, the discrete tax benefit, purchase-accounting effects, and other fair-value or non-GAAP adjustments.