Old Republic International Corporation — Q1 2012 Form 10-Q
Reporting period: Quarter ended March 31, 2012. Old Republic operates primarily through General Insurance, Mortgage Guaranty, and Title Insurance; results below are compared with Q1 2011 unless stated otherwise. Amounts are in millions except per-share data.
Financial performance
| Metric | Q1 2012 | Q1 2011 |
|---|---|---|
| Total operating revenues | $1,155.1 | $1,123.0 |
| Total revenues, including realized gains | $1,158.0 | $1,129.5 |
| Net premiums and fees | $1,037.5 | $1,003.0 |
| Net investment income | $85.8 | $91.5 |
| Pretax income (loss) | ($2.6) | ($24.9) |
| Net income (loss) | $0.4 | ($12.9) |
| Operating income (loss) per diluted share, non-GAAP | ($0.01) | ($0.07) |
| Cash provided by operating activities | $49.0 | ($52.1) |
Consolidated underwriting ratios improved: the benefits and claims ratio was 59.4% versus 63.8%, the expense ratio was 47.6% versus 47.0%, and the composite ratio was 107.0% versus 110.8%. The composite ratio remained above 100%, indicating underwriting costs exceeded premiums and fees on this measure.
Segments and changes versus the prior period
- General Insurance: Operating revenue was $657.9 and pretax operating income was $71.0, up from $68.5. Premiums earned grew 5.4%; the composite ratio improved to 97.4% from 98.1%. Results included a roughly $10.5 pretax charge from prospective adoption of new deferred-acquisition-cost accounting guidance, which increased the segment’s expense ratio by about 1.9 percentage points.
- Mortgage Guaranty: Operating revenue was $120.2 and pretax loss was $81.8, compared with a $101.1 loss. Claim costs fell 15.7% and the claim ratio improved to 173.6% from 186.7%, but remained exceptionally high. Premiums earned declined 9.4%; investment income fell 37.9%.
- Title Insurance: Operating revenue was $362.2 and pretax operating income rose to $9.4 from $2.6. Premiums and fees increased 6.7%; the composite ratio improved to 98.7% from 100.8%, reflecting higher activity, lower claim costs, and expense rationalization.
- Net investment income declined 6.2%, which management attributed to persistently low market yields and a lower invested asset base in Mortgage Guaranty. Title and General Insurance revenue and operating results improved.
Financial position, cash flow, and liquidity
- At March 31, total assets were $16,164.8, total liabilities $12,391.5, and common shareholders’ equity $3,773.3. Equity was essentially unchanged from December 31, 2011, but below $4,050.1 at March 31, 2011.
- Cash and invested assets at fair value were $10,739.0; cash was $117.4. The investment portfolio was approximately 99% investment grade, and the company reported no European sovereign debt exposure or fixed-maturity investments in default.
- Debt was $910.1, versus $912.8 at year-end; the consolidated debt-to-equity ratio was 24.1%. The $316.2 of 8.0% convertible notes mature May 15, 2012; $550.0 of 3.75% convertible notes mature in 2018. Management said available liquidity was sufficient to redeem the 2012 notes and a substantial portion of the 2018 notes.
- Subsidiaries could pay up to $361.4 in dividends to the parent during 2012 without prior regulatory approval. Management considered permitted dividends adequate for expected parent-company cash needs. Cash dividends paid were $0.1775 per share, versus $0.1750.
- Operating cash flow improved to $49.0 from a $52.1 outflow, largely due to General Insurance cash generation and an increase in policyholder liabilities. The company reported a $92.7 deferred payment obligation related to Mortgage Guaranty claims; its accounting treatment increased reported operating cash flow.
Outlook, risks, contingencies, and unusual items
- Republic Mortgage Insurance Company (RMIC), the flagship mortgage insurer, ceased new underwriting after its regulatory capital waiver expired in August 2011 and is in run-off. In January 2012, North Carolina regulators placed RMIC under supervision and directed it to pay 50% of claims in cash initially, with the remaining 50% deferred. The accumulated deferred payment obligation was $92.7 at quarter-end.
- Management’s model projected ultimate profitability for the mortgage guaranty book through 2020, but anticipated 2012–2013 operating losses substantially exceeding RMIC’s statutory capital. The forecast depends on uncertain assumptions, including housing, employment, claim, rescission, and government-policy developments. Management stated that a future recapitalization could be facilitated by separating the combined mortgage-guaranty and consumer-credit-indemnity operations; the combination was expected to be completed in Q2 2012.
- RMIC is defined as a significant subsidiary under the convertible-note agreements. A court-ordered insolvency proceeding resulting in receivership could trigger a debt default and make outstanding note principal immediately payable. Management said supervision is not itself a default and believed it made statutory insolvency less likely, while acknowledging the order could change or lapse. Potential responses to a future default include amending the 2018 notes, raising capital, or using subsidiary dividend capacity; management gave no assurance these measures would succeed.
- Multiple lawsuits and arbitrations involve title insurance practices, mortgage-insurance rescissions, credit-indemnity coverage, and alleged RESPA violations. The company said it did not consider a material adverse effect probable, but could not reasonably estimate potential losses; it cautioned that RMIC’s run-off and capital depletion could affect litigation. A separate FDIC action was settled April 27, 2012, with termination of the policy; the filing does not state the settlement amount.
- No other-than-temporary investment impairment charges were recorded in either quarter. The company identified interest-rate and equity-price exposure as its principal market risks and said those exposures had not materially changed from its 2011 Form 10-K. Management reported effective disclosure controls and no material change in internal control over financial reporting.
- The filing reported no material changes to the risk factors in the 2011 Form 10-K. Management emphasized that insurance results depend on long-term claim development, reserves, housing conditions, competition, interest rates, and economic and regulatory changes.
Important facts for investors to verify
- RMIC’s statutory capital, claim-payment deferrals, regulatory supervision status, and the effect of any future receivership on the convertible notes.
- Actual redemption or refinancing of the $316.2 million notes due May 15, 2012, and the company’s liquidity after that maturity.
- Mortgage Guaranty claim trends, reserve adequacy, rescissions and denials, and whether the projected longer-term profitability remains supportable.
- The impact of the new acquisition-cost accounting guidance on General Insurance results through the remainder of 2012.
- Developments, potential costs, and any changes in the company’s ability to estimate losses in the disclosed litigation and arbitration matters.