First American Financial Corporation — Q1 2012 Form 10-Q
Reporting period: Three months ended March 31, 2012; unaudited. First American provides title insurance and related services, specialty insurance, and banking, trust and investment services. Figures below are in millions except per-share amounts and percentages.
Financial performance
| Metric | Q1 2012 | Q1 2011 |
|---|---|---|
| Revenue | $966.8 | $931.7 |
| Income (loss) before tax | $51.6 | $(23.4) |
| Net income (loss) attributable to First American | $31.3 | $(15.3) |
| Diluted earnings (loss) per share | $0.29 | $(0.15) |
| Cash used for operating activities | $(7.3) | $(51.5) |
- Revenue increased 3.8%. Direct premiums and escrow fees rose to $413.8 million from $361.1 million; agent premiums declined to $377.0 million from $399.9 million.
- Pre-tax margin improved to approximately 5.3% from a loss margin of approximately 2.5%. Title Insurance and Services earned $60.8 million before tax versus a $15.7 million loss; Specialty Insurance earned $12.8 million versus $12.4 million. Corporate pre-tax loss widened to $22.1 million from $20.6 million.
- Cash and cash equivalents were $672.5 million at quarter-end, up from $418.3 million at December 31, 2011. Cash increased $254.2 million during the quarter, largely reflecting a $293.4 million increase in deposits at banking operations and other financing flows.
- Notes and contracts payable were $276.7 million, down from $300.0 million at year-end. Total assets were $5.65 billion and total equity was $2.09 billion. Deposits were $1.39 billion; these include customer-related balances and should not be treated as ordinary corporate debt.
- Title Insurance and Services revenue rose 3.4%, while Specialty Insurance revenue rose 7.8%. Their pre-tax margins were 6.8% and 17.3%, respectively; Specialty Insurance margin eased from 18.0%.
- Title loss provision fell to $52.2 million, or 7.2% of title premiums and escrow fees, from $96.4 million, or 13.9%. Q1 2011 included a $45.3 million reserve strengthening for the Canadian guaranteed valuation product.
Material changes and notable items
- Management attributed improved results to higher mortgage activity and order volumes, lower title claims provision compared with the prior-year reserve charge, and savings from an expense reduction program expected to yield about $40 million in annualized savings.
- Direct title operations opened 377,200 orders, up 31.4%, and closed 261,300, up 15.8%. Management cited refinancing as the main driver; purchase originations declined nationally, while refinance originations increased, according to the MBA forecast cited in the filing.
- Unfavorable development of $7.2 million on prior title policy years was included in the current-quarter title loss rate, including $4.3 million related to the Canadian guaranteed valuation product. The company warned that loss emergence for this product is unusually uncertain.
- Q1 included $2.6 million of credit-related other-than-temporary impairment losses on non-agency mortgage-backed securities, compared with $0.3 million in Q1 2011. The company also reported a $1.2 million corporate investment impairment.
- Unrealized investment gains contributed to a $30.4 million increase in other comprehensive income. The $8.9 million CoreLogic shareholding had a $167.6 million cost basis and $145.8 million fair value; the company did not consider the decline other-than-temporary at quarter-end.
- The company contributed $7.1 million to pension plans in Q1 and expected a further $27.2 million of contributions during the rest of 2012. The pension plan was underfunded by approximately $129.2 million as of March 31.
Liquidity, outlook, risks and contingencies
- Management stated that resources were sufficient for anticipated operational cash requirements and obligations for at least the next 12 months. It expected to continue quarterly dividends at or above the current level, subject to board discretion and other factors. The Q1 dividend was $0.08 per share.
- On April 17, 2012, after quarter-end, the company replaced its $400 million revolving credit agreement with a $600 million senior secured revolver maturing in 2016. It repaid and reborrowed the $200 million outstanding balance. The new facility includes collateral pledges, covenants and rating-dependent terms.
- Insurance regulations limited 2012 dividends, loans and advances available to the holding company from insurance subsidiaries to $207.9 million. The holding company depends on subsidiary distributions to meet its obligations.
- Escrow deposits totaled $4.1 billion and trust assets $3.0 billion at quarter-end; like-kind exchange funds held for customers totaled $721.5 million. Much of these customer funds is not recorded as company assets, but the company may be contingently liable for their disposition or transfer.
- The company disclosed $23.3 million of contingent guarantees of affiliate and third-party indebtedness, with no related liability recorded. It also faces numerous lawsuits and regulatory audits, including matters involving title rates, agent relationships, competition and settlement practices. Outcomes and potential losses are often not estimable; management did not believe the disclosed lawsuits or audits would materially harm overall financial condition or liquidity, while acknowledging possible material effects in a period or from changes to business practices.
- Key risks include real estate and mortgage-market weakness, foreclosure-related claims and volume uncertainty, title-agent conduct, regulated pricing, investment and interest-rate risk, CoreLogic share concentration, pension funding, regulatory scrutiny, and cybersecurity or data-disclosure events. Management noted that foreclosure-related developments had not materially harmed the company and did not expect a material future effect at that time.
Important facts for investors to verify
- Whether improved title order volumes and refinancing activity continued, and how much results depend on seasonal or market-driven volume changes.
- Whether title loss reserves remain adequate, particularly for recent policy years and the Canadian guaranteed valuation product.
- Cash flow quality and the composition of the quarter-end cash balance, including deposits associated with customer banking activity.
- Terms and availability of the $600 million revolver, collateral and covenant requirements, and holding-company liquidity after the refinancing.
- Developments in significant litigation and regulatory investigations, and any resulting changes to business practices or recorded liabilities.
- Performance and valuation of the CoreLogic investment, credit quality of non-agency mortgage-backed securities, and pension funding needs.