MBIA Inc. — Q2 2011 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2011; unaudited. MBIA provides financial-guarantee insurance and asset-management services. Its insurance businesses had written no meaningful new business since 2008, and the asset/liability products and conduit businesses were in run-off.
Financial results and position
| Metric | Q2 2011 | Six months 2011 | Comparable 2010 |
|---|---|---|---|
| Total revenue | $98 million | $(1.510) billion | Q2: $2.077 billion; six months: $221 million |
| Pre-tax income (loss) | $(147) million | $(1.910) billion | Q2: $1.968 billion; six months: $(291) million |
| Net income (loss) | $137 million | $(1.138) billion | Q2: $1.295 billion; six months: $(185) million |
| Diluted earnings (loss) per share | $0.68 | $(5.70) | Q2: $6.32; six months: $(0.90) |
| Adjusted pre-tax income (non-GAAP) | $161 million | $185 million | Q2: $48 million; six months: $(43) million |
MBIA’s reported revenue and earnings were highly affected by fair-value changes in insured derivatives and consolidated variable-interest entities; conventional operating margins are not meaningful for this business. The Q2 tax benefit was $284 million, compared with a $673 million tax provision in Q2 2010. The six-month tax benefit was $772 million, versus $106 million in 2010.
- Cash flow, six months: Operating cash used was $681 million; investing activities provided $2.241 billion and financing activities used $1.329 billion. Cash and cash equivalents increased $231 million. At June 30, cash was $626 million outside consolidated VIEs and $1.361 billion including VIE cash.
- Balance sheet, June 30: Total assets were $31.668 billion and total liabilities $29.763 billion. MBIA Inc. shareholders’ equity was $1.881 billion; total equity including noncontrolling interests was $1.905 billion.
- Debt and funding: Balance-sheet amounts included $1.843 billion of long-term debt, $1.763 billion of medium-term notes, $1.632 billion of investment agreements and $10.449 billion of VIE notes. These obligations arise in different entities and run-off businesses; they should not be treated as a single comparable corporate-debt measure.
- Insurance and liquidity: National reported statutory capital of approximately $2.6 billion and MBIA Insurance Corporation approximately $2.9 billion. Reported liquidity was $333 million at National and $1.1 billion at MBIA Corp. The company stated it was meeting obligations and believed resources adequate, while warning of material liquidity risks.
- Other key measures: Reported book value per share was $9.56; management’s non-GAAP adjusted book value per share was $37.22. MBIA’s net deferred tax asset was $1.6 billion, net of a $366 million valuation allowance.
Material changes versus comparable periods
- Q2 net income fell to $137 million from $1.295 billion, principally reflecting the reversal from $1.474 billion of net insured-derivative fair-value gains in Q2 2010 to a $75 million net loss in Q2 2011. For the first half, net insured-derivative fair-value losses were $1.853 billion, compared with $772 million of losses in 2010.
- The six-month net loss widened to $1.138 billion from $185 million. Premiums earned declined to $286 million from $313 million, net investment income to $209 million from $229 million, and fees and reimbursements to $25 million from $133 million; the prior-year fee figure included a nonrecurring reinsurance-termination payment.
- Loss and loss-adjustment reserves on the balance sheet decreased to $865 million from $1.129 billion at year-end. The broader aggregate reserve measure, which also includes statutory reserves for insured derivatives and VIE amounts, declined to $3.248 billion from $3.981 billion.
- During Q2, MBIA identified a model-input error that understated Q1 2011 pre-tax mark-to-market loss by $207 million. The company revised the March 31, 2011 financial statements, concluding the error was not material to that quarter but that recording the cumulative correction in Q2 would be material. The correction did not affect cash flows.
- MBIA Inc. shareholders’ equity declined to $1.881 billion from $2.832 billion at year-end, mainly due to the first-half net loss, partly offset by improved investment-related other comprehensive income.
Outlook, management commentary and principal risks
- Management did not expect significant new insurance business before upgrades to the insurance subsidiaries’ ratings. At June 30, National was rated BBB (developing) by S&P and Baa1 (developing) by Moody’s; MBIA Insurance Corporation was rated B (negative) and B3 (negative), respectively. Timing and achievement of upgrades were uncertain.
- MBIA continued commutations and liability-reduction efforts. It commuted $3.7 billion of gross insured exposure in the first half. A further $2.7 billion commutation agreed in Q2 settled in Q3; Q2 results reflected the transaction, but settlement payment and exposure reduction occurred in Q3. In Q3, MBIA also reached agreements in principle to commute another $5.6 billion. Management said the agreed amounts were within aggregate statutory loss reserves for those transactions.
- Expected recoveries on RMBS put-back claims were $2.7 billion gross, including $1.8 billion recorded as insurance loss recoverable and $905 million in consolidated VIE loan repurchase commitments. The company reported $4.6 billion of cumulative incurred losses on the related ineligible mortgages. Recoveries are disputed, largely subject to litigation, and depend on counterparties’ ability to pay; actual collections may be lower or delayed.
- MBIA Corp. had approximately $33.5 billion of insured CMBS-pool exposure and $7.0 billion of CRE CDO exposure. Estimated credit impairments on structured CMBS pools and CRE CDO portfolios were $1.5 billion through June 30, including an estimated $363 million increase in the first half. Management cited uncertain foreclosure and loss severities, but also slower delinquency growth and loan modifications. A prolonged or renewed downturn could cause substantial additional losses.
- Other risks included RMBS losses exceeding reserves; remaining ABS CDO exposure (about $11.2 billion gross par); volatile Level 3 valuations and insured-derivative marks; litigation over RMBS recoveries and National’s formation; and the possibility that loss experience or taxable-income projections could require additional deferred-tax-asset valuation allowances. The company reported a roughly $486 million liquidity deficit in its asset/liability products segment and expected positive cash flows through 2012, while acknowledging that its plans to address the deficit might not succeed.
- Management described U.S. economic growth as sluggish and expected reported results to remain volatile and uncertain for the rest of 2011. The filing provides no specific earnings or revenue guidance.
Most important facts for investors to verify
- Progress, timing and collectability of the $2.7 billion RMBS recovery asset, including court rulings, settlements and seller/servicer capacity to pay.
- Subsequent-period cash payments and exposure reductions from the Q3 commutations, and whether the recorded reserve benefits prove adequate.
- Actual claims, delinquencies and loss severity in CMBS/CRE, RMBS and ABS CDO exposures versus management’s assumptions and reserves.
- Liquidity and statutory-capital trends at National, MBIA Insurance Corporation and the asset/liability products segment, including repayment of the secured affiliate loan and the reported deficit.
- Fair-value assumptions for insured derivatives and other Level 3 instruments; the company reported $12.0 billion of Level 3 liabilities at June 30, with insured derivatives a major component.
- Whether the $1.6 billion net deferred tax asset remains recoverable, given earnings volatility and uncertainty about the tax treatment of insured CDS losses.
- Final outcomes of material litigation and the Q1 financial-statement revision; also distinguish GAAP results from management’s non-GAAP adjusted pre-tax income and adjusted book value.