HCI Group, Inc. — 2014 Form 10-K Summary
Business context and reporting period
HCI Group is a Florida-based holding company primarily engaged in property and casualty insurance through Homeowners Choice Property & Casualty Insurance Company. The company principally insures Florida homeowners, condominium owners and tenants, with additional information technology and real estate operations. The filing covers the fiscal year ended December 31, 2014; fourth-quarter figures are included in the filing but are unaudited.
Growth continues to depend heavily on assuming policies from Citizens Property Insurance Corporation. Following a December 2014 assumption of primarily wind-only policies, HCI reported approximately 175,000 policies in force and approximately $435 million of annualized gross premiums.
Key financial metrics
| Metric | 2014 | 2013 | Change |
|---|---|---|---|
| Gross premiums earned | $365.5 million | $337.1 million | +8.4% |
| Net premiums earned | $252.1 million | $234.2 million | +7.6% |
| Total revenue | $266.1 million | $241.1 million | +10.4% |
| Income before taxes | $101.0 million | $106.5 million | -5.2% |
| Net income | $62.7 million | $65.6 million | -4.4% |
| Diluted EPS | $5.36 | $5.63 | -4.8% |
| Net cash from operating activities | $88.7 million | $55.5 million | +60.0% |
| Cash and cash equivalents | $314.7 million | $293.4 million | +7.3% |
| Total investments | $168.8 million | $146.0 million | +15.6% |
| Total assets | $602.2 million | $526.3 million | +14.4% |
| Stockholders’ equity | $182.6 million | $160.5 million | +13.7% |
The 2014 loss ratio was 31.5%, compared with 27.8% in 2013. The expense ratio increased to 34.0% from 29.7%, and the combined ratio increased to 65.5% from 57.5%. Measured against gross premiums earned, the combined ratio increased to 45.2% from 39.9%.
Interest expense increased to $10.5 million from $3.6 million, primarily because of the 3.875% convertible debt issued in December 2013. Net investment income increased to $4.8 million from $1.5 million, while net realized investment gains increased to $4.7 million from $0.1 million.
Fourth-quarter 2014 total revenue was $64.8 million and net income was $14.6 million, compared with $65.3 million and $15.6 million, respectively, in the fourth quarter of 2013. Fourth-quarter diluted EPS was $1.30, compared with $1.31.
Liquidity, debt and capital
- Operating cash flow was $88.7 million. Investing cash flow used $18.7 million, and financing cash flow used $48.7 million.
- Financing uses included $38.4 million of common-share repurchases and $11.7 million of common dividends paid.
- Long-term debt had a carrying value of $129.5 million at year-end, consisting primarily of $40.25 million of 8% senior notes due 2020 and $103 million principal amount of 3.875% convertible senior notes due 2019, carried at a net $89.3 million.
- Contractual obligations totaled $285.5 million, including $178.1 million of long-term debt principal and interest, $89.4 million of minimum reinsurance premiums, $9.9 million of unfunded limited-partnership commitments and $7.0 million of unused real estate financing commitments.
- HCPCI reported statutory capital and surplus of approximately $168.0 million versus a required minimum of $24.8 million and exceeded applicable risk-based capital requirements.
Material changes versus the prior comparable period
- Premium growth was driven primarily by the November 2013 and December 2014 Citizens policy assumptions. Net premiums written increased to $294.2 million from $251.9 million.
- Losses and loss adjustment expenses increased to $79.5 million from $65.1 million. The company recorded $3.7 million of unfavorable prior-year loss development in 2014, compared with $2.5 million of favorable development in 2013.
- Reinsurance premiums ceded increased to $113.4 million from $102.9 million. Retrospective reinsurance provisions reduced ceded premiums by $23.5 million in 2014, compared with $12.5 million in 2013.
- Available-for-sale securities increased to $142.6 million from $129.8 million, with a substantial increase in equity securities. The company recognized a $107,000 other-than-temporary impairment charge on one equity security.
- HCI completed a $40 million share-repurchase authorization substantially during 2014, repurchasing 990,701 shares for $38.4 million. Year-end common shares outstanding declined to approximately 10.2 million from 10.9 million.
- All Series A preferred stock was eliminated through conversions and a small redemption; no Series A preferred shares remained outstanding at year-end.
- The company expanded into flood endorsements, Alabama insurance operations and new real estate and investment activities, including a limited partnership and a Melbourne, Florida joint venture.
Guidance, outlook, commentary and risks
The filing does not provide specific earnings, revenue or premium guidance. Management expects future liquidity needs to be funded primarily from operations and investment income, while continuing to evaluate additional policy assumptions, geographic expansion, new products and larger real estate and limited-partnership investments.
- Catastrophe exposure: The business remains concentrated in Florida and is exposed to hurricanes, tropical storms, tornadoes and other catastrophic events. Reinsurance may not fully protect against severe or multiple events.
- Reserve uncertainty: Loss reserves are inherently judgmental and may be adversely affected by claim severity, litigation, legal developments, inflation and changes in claim patterns.
- Reinsurance risk: Coverage costs, availability and collectability from reinsurers may change. The company had accrued $28.1 million of benefits from retrospective reinsurance provisions that could be charged to earnings if specified catastrophic losses occur.
- Regulation: Florida regulators control rates, policy forms, capital, dividends, reinsurance and market conduct. Regulatory changes could limit pricing or growth.
- Competition and ratings: HCI competes with larger insurers and does not have an A.M. Best rating, although HCPCI had an “A Exceptional” Demotech rating.
- Investment and concentration risk: Investment results are exposed to interest rates, credit quality, equity prices and the liquidity limitations of private real estate and partnership investments.
- Related-party reinsurance: Certain reinsurance arrangements with Oxbridge Reinsurance involved company executives, directors or their family members as shareholders or participants.
- Contingency: A Florida premium-tax dispute was being resolved in principle, with approximately $140,000 accrued at December 31, 2014. Routine litigation was not expected to be material.
The independent auditors issued unqualified opinions on the consolidated financial statements and internal control over financial reporting. Management concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2014.
Important facts for investors to verify
- Whether unfavorable loss development and higher claim severity persist, particularly after the December 2014 wind-only policy assumption.
- The adequacy, structure and renewal pricing of catastrophe reinsurance, including the effect of retrospective provisions and reinsurer credit quality.
- Whether policy growth from Citizens assumptions can continue without weakening underwriting margins or increasing regulatory constraints.
- The conversion terms, potential dilution and cash-versus-share settlement alternatives associated with the 3.875% convertible senior notes.
- The liquidity and expected returns of the limited partnership, ADC real estate arrangement and Melbourne joint venture.
- The sustainability of dividends and share repurchases given insurer capital requirements, catastrophe exposure and parent-level debt service.
- The impact of Florida rate, renewal, assessment and dividend regulations on future premium growth and capital transfers.