HCI Group, Inc. — Form 10-Q Summary
Business context and reporting period
HCI Group, Inc. is a Florida-based property and casualty insurance, reinsurance, real estate, and information technology company. Its principal business is Florida homeowners insurance, with additional flood products launched through HCPCI and TypTap Insurance Company. The filing covers the unaudited three months ended March 31, 2016, compared with the three months ended March 31, 2015. Dollar amounts are in thousands unless otherwise stated.
Key financial metrics
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Gross premiums earned | $98,819 | $109,567 | Down $10,748 |
| Net premiums earned | $58,447 | $81,728 | Down $23,281 |
| Total revenue | $60,747 | $82,210 | Down $21,463 |
| Income before taxes | $9,697 | $41,046 | Down $31,349 |
| Net income | $6,056 | $25,378 | Down $19,322 |
| Diluted EPS | $0.60 | $2.21 | Down $1.61 |
| Operating cash flow | $27,291 | $59,003 | Down $31,712 |
| Loss ratio on net premiums earned | 46.33% | 23.30% | Up 23.03 points |
| Expense ratio on net premiums earned | 41.01% | 27.07% | Up 13.94 points |
| Combined ratio on net premiums earned | 87.34% | 50.37% | Up 36.97 points |
| Effective tax rate | 37.5% | 38.2% | Down 0.7 points |
Total revenue declined primarily because gross premiums earned decreased and ceded premiums increased. Net income represented approximately 10.0% of total revenue, compared with approximately 30.9% in the prior-year quarter. Income before taxes represented approximately 16.0% of total revenue, compared with approximately 49.9% in Q1 2015.
At March 31, 2016, total assets were $629,927, stockholders’ equity was $237,237, cash and cash equivalents were $277,913, available-for-sale securities were $178,817, and total liabilities were $392,690. Long-term debt was $127,397 on the balance sheet, with principal debt outstanding of $139,403 before unamortized discounts and issuance costs.
Material changes versus the prior comparable period
- Gross premiums earned declined 9.8%, reflecting policy attrition and rate reductions on new and renewal policies effective January 2016. Policies in force declined to approximately 158,000 from approximately 176,000.
- Premiums ceded increased to $40,372 from $27,839, or 40.9% of gross premiums earned versus 25.4%. The increase primarily reflected the timing and cost of reinsurance coverage and lower retrospective reinsurance benefits.
- Net premiums earned decreased 28.5%, materially reducing operating leverage and increasing ratios calculated using net premiums earned.
- Losses and loss adjustment expenses increased 42.2% to $27,080. Management attributed approximately $5,000 of the increase to weather-related events and the remainder to normal loss activity. Prior-period claims developed unfavorably by $463, primarily relating to the 2015 loss year.
- Net investment income increased modestly to $1,490, but limited partnership investments generated a net loss of $869 versus a $265 loss in Q1 2015.
- Other-than-temporary impairment losses declined to $675 from $1,690. Q1 2016 impairments related to one fixed-maturity security and 11 equity securities.
- The company repurchased $13,010 of principal of its 3.875% convertible senior notes for $11,347 cash and recognized a $153 gain. It also repurchased 186,858 common shares under its $20,000 share repurchase authorization for $6,007.
- The company issued a $9,200 secured 4% promissory note in January 2016, while total principal debt declined from $143,250 at year-end 2015 to $139,403 at March 31, 2016.
- Cash increased by $10,175 during the quarter to $277,913. Operating cash flow was partly offset by $5,586 of investing outflows and $11,531 of financing outflows.
Guidance, outlook, commentary, risks, and unusual items
- No formal financial guidance was provided in the filing.
- Management expects the flood products offered by TypTap and HCPCI to become a significant contributor to future financial results. TypTap began writing standalone flood coverage in Florida in March 2016.
- Management expects to receive approximately $37,800 in June 2016 under two retrospective reinsurance contracts terminating May 31, 2016.
- The company’s 2015/2016 reinsurance program was described as covering a modeled probable maximum loss from a one-in-260-year event, compared with one in 182 years for the prior program.
- Reinsurance contracts with retrospective provisions produced $40,399 of accrued benefits at March 31, 2016. A major catastrophe could reduce or eliminate these benefits and adversely affect earnings.
- Insurance results are seasonal, with hurricane and tropical storm exposure concentrated from June 1 through November 30. The company also experienced weather-related activity during Q1 2016.
- Loss reserves totaled $53,271, including $30,482 of estimated incurred-but-not-reported losses. Reserve estimates are inherently uncertain and may change materially as claims develop.
- The company remains liable if reinsurers fail to perform. Reinsurance pricing, availability, catastrophe frequency, rate restrictions, regulation, and claims severity are significant risks.
- Unfunded limited partnership commitments were $16,556, and minimum reinsurance premiums of $10,905 were payable in April 2016.
- Long-term debt obligations, including principal and interest over the life of the instruments, totaled $167,275. Approximately $135,093 was scheduled for payment in the three-to-five-year period.
- The company paid a $19,000 dividend from HCPCI to HCI during the quarter. Insurance subsidiary dividends are subject to Florida regulatory and surplus restrictions, which could affect future parent-company dividends.
- Management reported effective disclosure controls and procedures and no material changes in internal control over financial reporting. No material changes were reported to previously disclosed risk factors.
Most important facts for investors to verify
- Whether policy attrition, rate reductions, and competition continue to reduce gross and net premium growth.
- The adequacy of loss reserves, particularly the $30,482 estimate for incurred-but-not-reported claims and the impact of unfavorable prior-year development.
- The renewal cost, structure, and modeled protection of the reinsurance program beginning June 1, 2016.
- The collectability and accounting treatment of the $40,399 retrospective reinsurance benefit and the expected $37,800 receipt.
- HCPCI’s statutory capital and surplus, dividend capacity, and ability to upstream funds to HCI.
- The liquidity impact of debt maturities, unfunded investment commitments, reinsurance premiums, dividends, and share repurchases.
- Whether TypTap and HCPCI flood products achieve the expected scale and profitability.
- The exposure of the investment portfolio to credit, equity-price, and interest-rate risk, including $6,215 of gross unrealized losses on available-for-sale securities at March 31, 2016.