MTG

MGIC Investment Corp. 10-Q Summary: Period Ended June 30, 2002

Business Context and Reporting Period

This report covers the quarterly period ended June 30, 2002, for MGIC Investment Corporation, a provider of private mortgage insurance. The filing includes unaudited consolidated financial statements and management's discussion and analysis (MD&A) for the three and six months ended June 30, 2002, compared to the same periods in 2001.

Key Financial Metrics

Material Changes vs. Prior Period

• Profitability: Net income increased 7% to $340.1 million for the six months ended June 30, 2002, compared to $319.1 million in 2001. Diluted EPS rose 8% to $3.19.
• Revenue Growth: Total revenues increased 15% to $759.4 million, driven by a 15% increase in net premiums earned and a significant 83% increase in "other revenue" (primarily equity earnings from joint ventures C-BASS and Sherman).
• Losses: Net losses incurred surged 89% to $124.1 million, attributed to increased notice inventories, bulk default activity, and the seasoning of the 2000 book of business. The loss ratio for the first half of 2002 was 21.7% compared to 13.2% in 2001.
• Investment Yield: While investment income rose slightly, the average pre-tax investment yield declined to 4.9% from 5.7% in the prior year period.
• Debt: Total debt increased to $613.9 million from $472.1 million at year-end 2001, following the issuance of $200 million in Senior Notes in March 2002.

Guidance, Outlook, and Risks

• Bulk Insurance Volume: Management expects the volume of insurance written on bulk transactions to decline materially in the third quarter of 2002 compared to the second quarter, citing reduced supply of mortgages for securitization and competition from other credit enhancement methods.
• Default Rates: The Company anticipates that default rates on bulk and subprime loans will increase materially due to the anticipated decline in bulk volume and the continued seasoning of this business. The default rate on bulk loans was 8.97% at June 30, 2002.
• Joint Venture Outlook: C-BASS, a major joint venture, expects lower income before tax for the third quarter and second half of 2002 compared to the first half, partly due to higher prices for subprime whole loans.
• Refinancing Activity: Strong refinancing activity has led to increased cancellations, reducing the persistency rate to 59.5% at June 30, 2002, down from 71.7% in June 2001.
• Litigation: A settlement regarding the Downey et al. v. MGIC case (alleging RESPA violations) was approved in June 2001, with a $23.2 million charge recorded in 2000. Payments are delayed pending appeals. Management believes the ultimate resolution will not have a material adverse effect, but notes uncertainty if the settlement is not fully implemented.
• Regulatory Risk: Proposed HUD regulations regarding referral fees could adversely affect revenues if adopted. Additionally, GSE capital stress tests favor "AAA" rated insurers, creating a competitive disadvantage for MGIC's "AA" rating.

Investor Verification Checklist

• Bulk Loan Performance: Verify the trajectory of default rates and claim severity for the bulk and subprime loan portfolios, which are expected to deteriorate.
• Joint Venture Valuation: Review the valuation methodologies and cash flow projections for C-BASS and Sherman, as their equity earnings significantly impact "other revenue."
• Persistency Trends: Monitor the impact of low interest rates on refinancing and policy cancellations, which directly affects premium revenue stability.
• Litigation Status: Track the status of appeals regarding the Downey settlement to ensure no additional liabilities arise beyond the recorded $23.2 million charge.
• Debt Covenants: Confirm continued compliance with the $285 million credit facility covenants, specifically the $2.25 billion shareholders' equity requirement and the 22:1 risk-to-capital ratio.