Essent Group Ltd. — 2018 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2018. This is an annual filing, not a standalone fourth-quarter filing; quarterly figures are included in the 10-K.
Business context
Essent provides U.S. private mortgage insurance, primarily for low-down-payment mortgages sold to Fannie Mae and Freddie Mac, and mortgage-related reinsurance through its Bermuda subsidiary. New insurance written (NIW) was $47.5 billion, and insurance in force (IIF) reached $137.7 billion at year-end. Essent Guaranty was licensed in all 50 states and the District of Columbia and remained compliant with GSE eligibility requirements.
Financial and operating performance
| Metric | 2018 | 2017 |
|---|---|---|
| Total revenue | $719.4 million | $576.5 million |
| Net premiums earned | $649.5 million | $530.1 million |
| Net investment income | $64.1 million | $40.2 million |
| Income before tax | $546.7 million | $398.6 million |
| Net income | $467.4 million | $379.7 million |
| Diluted EPS | $4.77 | $3.99 |
| Operating cash flow | $625.3 million | $368.6 million |
- Revenue rose approximately 25% and net income approximately 23%. Net premiums earned increased 23%, primarily reflecting growth in average IIF; the average net premium rate declined to 0.50% from 0.53%.
- NIW increased about 8% to $47.5 billion. Year-end IIF grew about 25% to $137.7 billion; risk in force was $33.9 billion.
- Loss ratio was 1.8%, expense ratio 23.2%, and combined ratio 25.0%, compared with 5.1%, 27.5%, and 32.6%, respectively, in 2017. Return on average equity was 21.7%, versus 23.1%.
- Year-end total assets were $3.15 billion and stockholders’ equity $2.37 billion. Investments totaled $2.79 billion; cash was $64.9 million. The investment income yield increased to 2.6% from 2.2%.
- Credit-facility borrowings were $225 million contractual principal ($223.7 million carrying value), with a 4.43% weighted-average rate and May 2021 maturity. The revolving component had $275 million of available capacity. Management stated liquidity was sufficient for operating needs and obligations over the next 12 months.
- Combined U.S. statutory capital was $1.89 billion and the combined risk-to-capital ratio 13.9:1. Essent Guaranty reported $1.91 billion of PMIERs available assets against $1.55 billion of minimum required assets.
- Other comprehensive loss was $25.7 million, principally reflecting unrealized investment losses. The filing attributes investment fair-value declines mainly to interest-rate and credit-spread changes; no other-than-temporary impairments were recorded in 2018.
Fourth-quarter results and comparison
In Q4 2018, net premiums earned were $173.3 million, income before tax was $152.1 million, and net income was $128.5 million, or $1.31 diluted EPS. Q4 2017 net premiums earned were $148.0 million, pretax income $105.4 million, and net income $162.6 million, or $1.65 diluted EPS. The lower year-over-year Q4 net income chiefly reflects the unusual 2017 tax benefit from U.S. tax reform, rather than lower pretax income. Q4 2018 included a $1.0 million reversal of provision for losses and LAE.
Material changes, outlook, risks and unusual items
- Loss provision declined to $11.6 million from $27.2 million. This included $24.9 million of favorable prior-year development, including a $9.9 million reserve reduction for hurricane-related defaults. Of 2,288 hurricane-related defaults identified at year-end 2017, 2,150 cured during 2018.
- The 2017 results included a one-time $85.1 million tax benefit from remeasuring deferred taxes after the U.S. corporate tax rate fell from 35% to 21%. 2018 income tax expense was $79.3 million, compared with $18.8 million in 2017.
- Management expects the expense ratio to decline in full-year 2019 compared with 2018 as earned premiums grow faster than operating expenses. No numerical earnings or revenue guidance is provided.
- Management expects defaults and claims to increase as the relatively young insurance portfolio seasons; 79% of year-end IIF originated since January 2016. Historical peak claim incidence is generally in years three through six after origination.
- Key risks include changes to GSE structure, practices or PMIERs; competition from other private insurers and government programs; reliance on large lenders (top ten customers accounted for 43.5% of flow NIW, and one customer exceeded 10% of consolidated revenue); economic, housing-price and interest-rate deterioration; reserve-estimation uncertainty; and regulatory, tax, reinsurance, and cybersecurity risks.
- Essent entered into excess-of-loss reinsurance arrangements in 2018, including up to $424.4 million of collateralized coverage for specified 2017-originated business and up to $165.2 million of additional coverage beginning November 2018. The filing reports no material legal proceedings. The auditor gave an unqualified opinion and concluded internal control over financial reporting was effective.
Important facts for investors to verify
- Whether favorable reserve development and hurricane-default cures persist, and how reported reserves compare with ultimate claims as the book seasons.
- PMIERs 2.0 implementation and Essent’s capital headroom after it takes effect; the company expected continued compliance.
- Trends in NIW, IIF, cancellations, persistency, premium rates and customer concentration, including the effect of reinsurance and pricing reductions on future net premiums.
- Credit-facility utilization, refinancing or repayment plans, and the availability of cash at the holding company versus regulated subsidiaries subject to dividend restrictions.
- Tax-rate comparability: 2017 included the $85.1 million one-time tax benefit, and the company disclosed potential tax-law and cross-border tax exposure.