Brown & Brown, Inc. — Form 10-Q Summary
Business context and reporting period
Brown & Brown is a diversified insurance intermediary operating through Retail, National Programs, Wholesale Brokerage, and Services segments. The company markets property and casualty insurance and provides related brokerage, program administration, claims, and other insurance services. This unaudited filing covers the three and nine months ended September 30, 2016, compared with the same periods in 2015.
Financial performance and key metrics
| Metric | Q3 2016 | Q3 2015 | Change | 9M 2016 | 9M 2015 | Change |
|---|---|---|---|---|---|---|
| Total revenues | $462.3 million | $432.2 million | 7.0% | $1,333.0 million | $1,255.9 million | 6.1% |
| Income before taxes | $117.0 million | $112.8 million | 3.7% | $328.6 million | $307.5 million | 6.9% |
| Net income | $71.5 million | $67.4 million | 6.1% | $199.9 million | $185.4 million | 7.7% |
| Diluted EPS | $0.50 | $0.47 | 6.4% | $1.41 | $1.29 | 9.3% |
| Operating cash flow | Not separately reported | Not separately reported | $270.6 million | $290.6 million | (6.9%) |
Commissions and fees increased 6.9% in the third quarter to $461.7 million and 6.1% for the first nine months to $1,329.6 million. Core commissions and fees increased 8.0% in the quarter and 6.3% year to date. Core organic internal growth was 4.3% in the quarter and 2.8% for the first nine months.
Net income margins were approximately 15.5% in Q3 2016 versus 15.6% in Q3 2015, and 15.0% for the first nine months versus 14.8% in the prior-year period. The effective tax rate was 38.8% in Q3 and 39.2% year to date, compared with 40.2% and 39.7%, respectively, in 2015.
Cash and cash equivalents were $488.7 million at September 30, 2016, compared with $443.4 million at December 31, 2015. Restricted cash and investments were $278.3 million. Total assets were $5.52 billion, up from $5.00 billion at year-end 2015. Shareholders’ equity was $2.32 billion, compared with $2.15 billion at year-end.
Total debt was $1.11 billion at September 30, 2016, down from $1.14 billion at December 31, 2015. The company had $495.0 million outstanding under its term loan and no borrowings under its $800.0 million revolving Credit Facility. Management stated that available cash, investments, operating cash flow, and revolver capacity should meet normal liquidity needs for at least the next twelve months.
Capital expenditures were $13.1 million for the first nine months, compared with $12.8 million in 2015. Cash used for acquisitions was $113.2 million in the cash flow statement; acquisition disclosures report cash paid of $115.3 million, including related acquisition funding items. Cash dividends paid were $51.3 million, and the quarterly dividend declared increased to $0.12 per share from $0.11.
Material changes versus the prior comparable period
- Growth was supported by acquisitions and net new business. Six acquisitions were completed during the first nine months of 2016, including Social Security Advocates for the Disabled and Morstan General Agency.
- Acquisitions contributed $12.6 million of Q3 revenue and $21.5 million of nine-month revenue. Goodwill increased by $85.7 million from current-year acquisitions, reaching $2.67 billion.
- National Programs was the strongest profit-growth segment, with pretax income up 27.8% in Q3 and 40.8% year to date, aided by revenue growth, expense management, premium-tax credits, and lower intercompany interest charges.
- Wholesale Brokerage revenue rose 14.4% in Q3 and 9.7% year to date, but pretax income declined 6.3% and 2.7%, respectively. Lower contingent commissions, higher compensation, operating costs, and acquisition-related interest expense offset revenue growth.
- Retail pretax income increased 7.4% in Q3 and 5.3% year to date. Services pretax income declined 0.8% in Q3 but increased 11.6% year to date.
- Employee compensation and benefits grew faster than revenue in Q3, rising 9.9% and increasing to 51.4% of revenue from 50.0%. Year-to-date compensation increased 7.3% and represented 52.0% of revenue versus 51.4%.
- Profit-sharing contingent commissions declined $3.8 million in Q3, primarily in Wholesale Brokerage due to carrier loss experience, partially offset by higher Retail commissions. Year-to-date contingent commissions and guaranteed supplemental commissions increased $1.8 million.
- The charge for changes in estimated acquisition earn-out payables increased to $3.6 million in Q3 and $6.8 million year to date, versus $0.5 million and $2.2 million, respectively, in 2015. Earn-out payables totaled $61.5 million at September 30, 2016.
- Operating cash flow declined despite higher net income, primarily because of increases in reinsurance recoverables, restricted cash, receivables, and prepaid reinsurance premiums associated with Wright Flood activities.
Guidance, outlook, risks, contingencies, and unusual items
Management did not provide formal quantitative earnings guidance. It expects positive quarterly internal revenue growth if exposure-unit growth continues and premium-rate changes remain similar to 2015. The company continues to emphasize net new business, acquisitions, and a decentralized sales and service model.
Wright Flood’s premiums are substantially reinsured. At September 30, 2016, reinsurance recoverables were $332.0 million and prepaid reinsurance premiums were $334.0 million, with corresponding loss reserves and unearned premiums. Wright Flood’s statutory capital and surplus was $22.0 million, above the $7.5 million minimum, and its maximum ordinary dividend without prior approval was $4.1 million.
Contractual cash obligations totaled $1.73 billion, including $1.12 billion of long-term debt, $216.9 million of operating leases, $200.8 million of interest obligations, and maximum future acquisition contingency payments of $116.4 million. The company was in compliance with debt covenants. A $25.0 million senior note was scheduled to mature in December 2016, and a $13.8 million term-loan principal payment was due December 31, 2016.
Key risks include economic conditions, premium-rate pressure, changes in exposure units, competition, regulatory developments, acquisition integration and valuation, personnel retention, policy cancellations, liquidity forecasting, legal proceedings, reinsurance counterparty performance, and interest-rate and foreign-exchange exposure. Management stated that no pending legal proceeding was currently expected to have a material adverse effect, although unfavorable developments could affect results, cash flow, or liquidity.
The company adopted the debt issuance cost presentation guidance effective January 1, 2016, reclassifying $8.3 million from other assets to long-term debt in the prior-year balance sheet. Several new accounting standards were under evaluation, including revenue recognition, leases, share-based compensation, and cash-flow classification. Disclosure controls were determined to be effective, with no material changes in internal control over financial reporting.
Important facts for investors to verify
- Whether organic growth remains positive as property premium rates, particularly in catastrophe-prone areas, remain under pressure.
- The sustainability of contingent commissions, especially in Wholesale Brokerage, given carrier loss ratios.
- Integration performance and earn-out exposure from acquisitions, including the $61.5 million recorded earn-out liability and $116.4 million maximum future contingency payments.
- Wright Flood’s reinsurance recoverability, statutory capital, dividend restrictions, and exposure to claims or reinsurer nonperformance.
- Debt maturities, floating-rate exposure on the $495.0 million term loan, and the company’s planned repayment of near-term obligations.
- Whether compensation growth continues to outpace revenue and affects consolidated margins.
- The effect of pending accounting standards, particularly revenue recognition and lease capitalization, when adopted.