Brown & Brown, Inc. — 2014 Q1 Form 10-Q Summary
Business context and reporting period
Brown & Brown is a diversified insurance intermediary providing retail insurance, wholesale brokerage, national insurance programs, and insurance-related services. This unaudited Form 10-Q covers the three months ended March 31, 2014, compared with the three months ended March 31, 2013.
Financial performance and liquidity
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Total revenues | $363.6 million | $335.0 million | 8.5% |
| Income before taxes | $86.8 million | $99.5 million | (12.7%) |
| Net income | $52.4 million | $60.1 million | (12.8%) |
| Diluted EPS | $0.36 | $0.41 | Down $0.05 |
| Operating cash flow | $67.1 million | $137.0 million | Down $69.9 million |
| Cash and cash equivalents at period end | $250.0 million | $340.2 million | Prior-year comparison |
| Total debt | $480.0 million | $480.0 million | Flat |
Revenue growth was driven by core commissions and fees of $327.3 million, up 6.8%, profit-sharing contingent commissions of $31.7 million, up 26.8%, and guaranteed supplemental commissions of $2.9 million, up 32.0%. The reported net margin was approximately 14.4%, compared with approximately 18.0% in Q1 2013. The effective income tax rate was 39.6% in both periods.
Cash flow from operations was reduced by working-capital movements, including increases in premiums, commissions and fees receivable and decreases in accrued liabilities and premiums payable. Investing cash outflows were $5.3 million, including $4.7 million of capital expenditures. Financing cash outflows were $14.8 million, including $14.5 million of dividends paid. The current ratio improved to 1.22 at March 31, 2014 from 1.02 at December 31, 2013.
Debt consisted of $480.0 million of unsecured senior notes and term loans. The company was in compliance with its debt covenants. Contractual cash obligations totaled $867.1 million, including debt, leases, interest, other liabilities, and maximum future acquisition contingency payments.
Material changes versus the prior comparable period
- Reported revenue increased 8.5%, but income before taxes and net income declined because of the absence of prior-year Hurricane Sandy claims revenue, acquisition-related seasonality, and higher earn-out charges.
- Core organic commissions and fees declined 1.6% on a reported basis; excluding $16.2 million of Hurricane Sandy-related Colonial Claims revenue in Q1 2013, internal growth was 3.9%.
- Employee compensation and benefits rose 15.4% and increased to 50.6% of revenue from 47.6%. Non-cash stock compensation nearly doubled to $7.5 million, primarily because of new grants.
- The change in estimated acquisition earn-out payables increased to a $6.1 million expense from $1.5 million. The March 31, 2014 earn-out liability was $48.8 million, with maximum future contingent payments of $125.0 million.
- The Retail Division produced $202.7 million of revenue and $41.2 million of pretax income. Wholesale Brokerage revenue and pretax income increased 13.0% and 22.9%, respectively.
- National Programs revenue increased 7.6% and pretax income increased 15.1%, while Services revenue declined 25.8% and pretax income declined 79.8%, primarily because Q1 2013 included significant Hurricane Sandy claims activity.
- The company completed one insurance intermediary acquisition during the quarter for aggregate consideration of $1.3 million, including $1.0 million of cash and $0.3 million of earn-out consideration.
Guidance, outlook, commentary, and risks
Management stated that, if the gradual increases in insurance premium rates and insurable exposure units continue, it expects positive quarterly internal revenue growth for the remaining nine months of 2014. The filing does not provide formal earnings guidance.
On April 17, 2014, after quarter-end, the company entered into a $1.35 billion unsecured credit facility consisting initially of an $800.0 million revolving facility and $550.0 million of term loans, with potential expansion of up to $500.0 million. Management expected to use the facility to finance the planned acquisition of The Wright Insurance Group and refinance existing debt. No amounts were outstanding under the facility as of the filing date.
Brown & Brown agreed to acquire Wright for $602.5 million in cash, with potential additional consideration of up to $37.5 million tied to specified acquisitions before July 15, 2015. Management expected the transaction to close in the second quarter of 2014, subject to regulatory and other closing conditions.
Key risks include insurance premium rates and exposure units, economic conditions, competition, regulatory changes, policy cancellations, acquisition integration and performance, liquidity and refinancing needs, earn-out estimates, legal proceedings, tax-rate changes, and adverse events in states representing significant business. Management stated that pending legal matters were not expected to materially affect consolidated financial position, but unfavorable resolutions could materially affect results or cash flow in a particular period.
Important facts for investors to verify
- Whether the Wright acquisition closed as expected and the final purchase price, financing mix, and integration performance.
- Actual borrowings, interest costs, covenant compliance, and refinancing of the $100.0 million Series B Notes and other existing debt under the new facility.
- Whether underlying organic growth remains positive after excluding Hurricane Sandy comparisons and acquisition contributions.
- The sustainability of higher contingent commissions and guaranteed supplemental commissions.
- Services Division recovery absent catastrophe-related claims revenue and the effect of seasonality in acquired businesses.
- Changes in the $48.8 million earn-out liability and the potential $125.0 million maximum future acquisition payments.
- Cash conversion and working-capital trends, particularly receivables, premiums payable, accrued liabilities, and operating cash flow.