ASSURED GUARANTY LTD quarterly report, Q1 FY2017

Assured Guaranty Ltd. — Q1 2017 Form 10-Q

Business and period. Bermuda-based financial guaranty insurer Assured Guaranty reported unaudited consolidated results for the three months ended March 31, 2017, compared with Q1 2016. It provides credit protection primarily in U.S. and international public finance and structured finance. The quarter includes MBIA UK, acquired by AGC on January 10, 2017.

Key financial results

Metric	Q1 2017	Q1 2016
Total revenues	$527 million	$245 million
Net earned premiums	$164 million	$183 million
Net investment income	$122 million	$99 million
Net income	$317 million	$59 million
Diluted EPS	$2.49	$0.43
Operating income (non-GAAP)	$273 million	$123 million
Operating income per diluted share (non-GAAP)	$2.14	$0.89
Operating cash flow	$102 million	$(90) million

Revenue growth and higher net income reflected the MBIA UK acquisition, a $73 million gain from reassuming previously ceded business, and a $54 million net fair-value gain on credit derivatives versus a $60 million loss in Q1 2016.
Q1 2017 also included a $58 million pre-tax bargain-purchase and settlement gain related to MBIA UK. The acquisition contributed approximately $118 million of revenue and $92 million of net income from acquisition date through quarter-end, including the bargain gain and related activity.
Net earned premiums declined mainly because premium accelerations from refundings and terminations were lower. Loss and LAE expense was $59 million, down from $90 million.
Economic loss development was a $47 million loss, chiefly from public finance and Puerto Rico, partly offset by structured-finance improvements. It is a portfolio measure and does not equal current-period GAAP loss expense.

Balance sheet, capital and liquidity

At March 31, 2017, total assets were $14.675 billion and shareholders’ equity was $6.637 billion, up from $14.151 billion and $6.504 billion, respectively, at December 31, 2016.
Investments totaled $11.341 billion, including $10.479 billion of fixed-maturity securities and $689 million of short-term investments. Cash was $147 million; cash and restricted cash totaled $148 million.
Long-term debt had a carrying value of $1.307 billion and principal outstanding of $1.589 billion. Interest expense was $24 million, compared with $26 million a year earlier.
Financing cash outflow was $294 million, including $216 million of common-share repurchases and $19 million of dividends paid. The quarterly dividend was $0.1425 per share. The company repurchased 5.43 million shares during the quarter.
Management said holding-company liquidity should be sufficient for the next 12 months, while noting reliance on dividends from regulated insurance subsidiaries and restrictions on those distributions. The company reported no outstanding draw on its $225 million intercompany revolving facility.

Portfolio, material changes and outlook

Net par outstanding under financial guaranties was $298.243 billion, compared with $296.318 billion at year-end; the increase included $12.2 billion from MBIA UK. Approximately $13.228 billion, or 4.4%, was internally rated below investment grade (BIG).
Puerto Rico net insured exposure was $4.937 billion, all rated BIG, versus $4.786 billion at year-end. The company reported defaults and claim payments on several credits. Its projected net expected loss on troubled U.S. public finance credits rose to $970 million from $871 million, primarily because of Puerto Rico.
Puerto Rico’s oversight board-approved plans included no PRHTA debt service at least through 2026 and PRASA debt service of approximately 65% through 2026; the effect on the company’s insured PRASA senior-lien debt was unclear. The oversight board filed a Title III petition for the Commonwealth on May 3, 2017. Assured Guaranty challenged the Commonwealth fiscal plan in court, and stated that the plans’ compliance with PROMESA was uncertain.
The PREPA restructuring support agreement was supplemented in April 2017. As described, it contemplated surety support of approximately $113 million, additional relending financing, payment deferrals and a consensual Title VI restructuring. Completion and implementation remained subject to conditions and uncertain.
The company reported $1.244 billion of present-value net expected losses to be paid, up from $1.198 billion at year-end. Loss estimates depend on assumptions and are subject to significant uncertainty. The company also had $2.1 billion of net par excluded from exposure tables due to loss-mitigation strategies.
New-business production increased: gross written premiums were $111 million versus $19 million, present value of new business production (non-GAAP) was $99 million versus $38 million, and gross par written was $4.691 billion versus $2.749 billion. Management cited improved demand in some municipal and international public-finance markets, while noting low interest rates and renewed competition as constraints.
No formal earnings guidance was provided. Management cited potential volatility from credit spreads, interest rates, claims, loss recoveries, ratings actions, regulation, market conditions, Brexit, and acquisition outcomes. It noted that the IRS closed its 2009–2012 audit without additional findings and expected to release approximately $34 million of tax reserves and accrued interest in Q2 2017.

Investor verification priorities

Assess Puerto Rico exposure, claim-payment assumptions, litigation outcomes and the potential effect of Title III proceedings and fiscal plans on insured obligations.
Review the assumptions behind the $1.244 billion expected-loss estimate, especially public-finance deterioration and recoveries, and distinguish expected losses from GAAP loss expense.
Separate recurring operating performance from MBIA UK acquisition effects, the bargain-purchase gain, the $73 million commutation gain and fair-value movements.
Evaluate liquidity available at the parent and regulated subsidiaries, dividend restrictions, collateral requirements and the sensitivity of claims and reinsurance recoveries.
Check the terms and execution of the PREPA restructuring, the remaining share-repurchase authorization, and whether the expected $34 million tax-reserve release occurred in Q2.