Assured Guaranty Ltd. — 2018 Second-Quarter Form 10-Q
Reporting period: Three and six months ended June 30, 2018; comparisons are with the corresponding 2017 periods. Assured Guaranty provides financial-guaranty and other insurance through operating subsidiaries.
Financial performance and position
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Total revenue | $221 million | $308 million | $514 million | $835 million |
| Net income | $75 million | $153 million | $272 million | $470 million |
| Diluted EPS | $0.67 | $1.24 | $2.37 | $3.76 |
| Non-GAAP operating income | $74 million | $141 million | $229 million | $414 million |
| Net earned premiums | $136 million | $162 million | $281 million | $326 million |
| Net investment income | $99 million | $101 million | $200 million | $223 million |
| Loss and loss-adjustment expenses | $44 million | $72 million | $26 million | $131 million |
Quarterly pretax income was $87 million versus $150 million; the filing does not present a conventional operating-margin measure. Revenue and earnings include significant fair-value and foreign-exchange movements, so reported results are not solely indicative of underwriting performance.
- Cash flow: Six-month operating cash flow was $444 million, compared with $198 million. Investing cash flow was negative $14 million and financing cash flow negative $384 million. Cash and restricted cash ended at $189 million.
- Balance sheet at June 30: Total assets were $14.132 billion; shareholders’ equity $6.634 billion; long-term debt carrying value $1.264 billion. Cash was $185 million, with $911 million in short-term investments. The investment portfolio totaled $11.238 billion.
- Liquidity: Management said it expects sufficient liquidity for the next 12 months. This depends in part on distributions from regulated insurance subsidiaries and access to external financing. Dividend capacity is subject to regulatory, rating-agency and capital constraints.
- Capital returns: The company repurchased $250 million of common shares and paid $37 million of dividends during the first half. Shares outstanding were 109.6 million at June 30. A further $250 million repurchase authorization was approved in August; $298 million remained authorized as of August 2.
Material changes and key developments
- SGI transaction: On June 1, AGC assumed substantially all of Syncora Guarantee’s insured portfolio, generally on a 100% quota-share basis, and commuted a previously ceded book. Reinsured and commuted net par was approximately $12 billion. SGI paid $363 million and assigned future insurance and derivative installments. The transaction added $131 million of expected losses to be paid and generated an $18 million commutation loss.
- New business: Second-quarter gross written premiums were $393 million and present value of new business production (PVP, non-GAAP) was $454 million; both were described as decade highs, primarily because of the SGI transaction. Excluding SGI, U.S. public-finance PVP was 7% higher year over year. Six-month GWP and PVP were $466 million and $515 million, respectively.
- Portfolio risk: Financial-guaranty net par outstanding was $257.8 billion, down from $265.0 billion at year-end. Below-investment-grade (BIG) net par declined to $10.6 billion, or 4.1% of the portfolio, from $12.2 billion, or 4.6%. Net expected loss to be paid increased to $1.432 billion from $1.303 billion, principally reflecting the newly assumed SGI portfolio.
- Puerto Rico: Net insured exposure was approximately $4.967 billion, all rated BIG. Q2 public-finance economic loss development was $53 million, primarily related to Puerto Rico. The company disputes aspects of the Commonwealth’s and Oversight Board’s actions and fiscal plans and is pursuing litigation.
Management commentary, outlook and risks
- Management attributed lower year-over-year earnings to reduced earned premiums, foreign-exchange remeasurement losses versus gains in 2017, investment losses versus gains, the SGI commutation loss, and a higher Q2 effective tax rate. Higher credit-derivative fair-value gains and lower loss expense partly offset these items.
- Six-month 2017 results included one-time benefits from the MBIA UK acquisition, commutation gains and a release of tax reserves; these contributed to the year-over-year decline in 2018 comparisons.
- The company reported $82 million of net fair-value gains on credit derivatives for the first half. Management cautions that mark-to-market changes can be volatile and may not reflect changes in expected claims or economic credit performance. Valuations rely in part on Level 3 models and unobservable inputs.
- Puerto Rico restructuring outcomes remain uncertain. The certified Commonwealth fiscal plan projected $6.7 billion available for debt service over six years versus approximately $15.5 billion of contractual debt service. The company said it believes certain fiscal plans do not comply with PROMESA. Hurricane Maria, fiscal pressures, legal challenges and proposed debt restructurings add uncertainty.
- Other risks include insurer-rating actions, reinsurance recoverability and possible recapture of assumed business, investment and credit-market volatility, changes in interest rates and foreign exchange, and legal proceedings. The LBIE dispute against an affiliate continues; a remaining contract claim has triable factual issues, and the affiliate appealed. Management said no material changes to disclosed risk factors occurred during the first half.
- No specific earnings guidance was provided. Management’s stated liquidity outlook is for the next 12 months; business production and future loss outcomes remain subject to market conditions and estimates.
Important facts for investors to verify
- How the SGI portfolio performs relative to underwriting assumptions, including the $131 million expected-loss estimate and future premium collections.
- Updates to Puerto Rico restructuring plans, litigation, claim payments and the company’s approximately $5.0 billion net exposure.
- Drivers of the increase in net expected losses, especially U.S. RMBS assumptions and public-finance developments.
- Availability of subsidiary dividends, regulatory capital constraints and parent-company liquidity alongside continued share repurchases.
- Credit-derivative and other Level 3 valuation sensitivity, plus potential reinsurance disputes, recapture obligations and the LBIE litigation outcome.