Business context and reporting period
Radian Group Inc. filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2016. Its two segments are Mortgage Insurance, principally private mortgage insurance, and Services, which provides mortgage- and real estate-related services and analytics.
Financial performance and position
Amounts are in millions of dollars except per-share data. Comparisons are with the corresponding 2015 period.
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Total revenue | $330.2 | $330.4 | $643.1 | $621.1 |
| Net premiums earned | $229.1 | $237.4 | $450.0 | $462.0 |
| Services revenue | $38.3 | $43.5 | $69.9 | $74.1 |
| Pretax income from continuing operations | $156.5 | $80.0 | $258.9 | $217.4 |
| Net income from continuing operations | $98.1 | $45.2 | $164.4 | $136.9 |
| Diluted EPS | $0.44 | $0.20 | $0.73 | $0.59 |
| Adjusted pretax operating income, non-GAAP | $131.4 | $147.3 | $261.6 | $271.2 |
Mortgage Insurance adjusted pretax operating income was $137.3 million in Q2 and $277.5 million for six months; Services recorded a $6.0 million Q2 loss and a $15.9 million six-month loss. Services gross margin was 35% in Q2 and 34% for six months, versus 43% and 41%, respectively, a year earlier.
For the six months, operating cash flow was $154.5 million, compared with cash used of $68.6 million in 2015. Investing activities used $180.1 million and financing activities provided $34.0 million; cash increased $8.2 million to $55.1 million. At June 30, total investments were $4.64 billion, total assets $6.07 billion, total liabilities $3.26 billion, long-term debt $1.28 billion and stockholders’ equity $2.81 billion. Radian Group reported approximately $718 million of immediately available holding-company cash and liquid investments, including an $89 million IRS deposit that it said it could recall.
Material changes versus the prior comparable period
- Q2 net income from continuing operations more than doubled, while six-month income rose about 20%. The principal drivers included lower debt-extinguishment charges and higher investment income and investment gains. Adjusted pretax operating income, which excludes specified items including investment gains and debt-extinguishment losses, declined in both comparisons.
- Investment income rose to $28.8 million in Q2 and $56.0 million for six months, from $19.3 million and $36.6 million. Net investment gains were $30.5 million and $61.8 million, respectively; these include fair-value changes and are not a measure of recurring underwriting performance.
- Mortgage insurance premiums earned declined, partly reflecting increased ceded premiums under a new single-premium quota-share reinsurance agreement. The agreement ceded $3.5 billion of risk in force by June 30 and improved Radian Guaranty’s PMIERs asset cushion.
- Services revenue and profitability weakened, principally due to reduced activity in the single-family-rental securitization market and lower-margin service mix, alongside increased operating costs. Management said the SFR slowdown was expected to continue through the rest of 2016.
- The loss provision rose to $49.7 million in Q2 and $92.7 million for six months. Reserves for losses and LAE fell to $848.4 million from $976.4 million at year-end, as claim payments exceeded incurred losses. Claims paid were $218.4 million for six months, down from $419.1 million, which included $174.6 million associated with the BofA settlement in 2015.
- Capital actions included issuing $350 million of 7.0% notes due 2021, purchasing portions of convertible notes due 2017 and 2019, and repurchasing 9.4 million shares for $100.2 million. These purchases generated a $57.7 million first-half pretax charge. Radian Guaranty repaid its $325 million surplus note to the parent on June 30.
Outlook, risks, contingencies and unusual items
- Management expected 2016 new insurance written to exceed 2015’s $41 billion, and expected full-year 2016 claims paid of approximately $400 million. It projected lifetime returns on new mortgage insurance business of approximately 13%–14% unlevered and 16%–17% levered, subject to business mix, volume and reinsurance.
- Management expected fourth-quarter 2016 other operating expenses of approximately $60 million, including continued technology investment, and expected efficiency initiatives to be substantially complete by year-end.
- Radian Guaranty reported compliance with PMIERs, with Available Assets of approximately $4.0 billion, $183.9 million above Minimum Required Assets of approximately $3.8 billion. Its statutory risk-to-capital ratio was 14.0:1. Future PMIERs or state capital requirements, reinsurance credit, and housing-market or credit deterioration could affect capital and new-business capacity.
- The IRS dispute over 2000–2007 tax years remained in Tax Court. Notices asserted approximately $157 million of taxes and penalties, plus approximately $130 million interest; potential state taxes, penalties and interest were estimated at $33 million. The IRS also asserted approximately $105 million primarily related to a disputed 2008 NOL carryback. The company said it believes the carryback benefit will ultimately be preserved and that its tax provision is adequate, but noted the outcome could materially affect taxes, earnings and cash flows.
- Radian disclosed preliminary customer disputes over loss-mitigation and claim-payment practices; it could not estimate a possible loss. A Freddie Mac arrangement included approximately $57 million of reserves expected to be paid from collateral funds, subject to the agreement’s terms and 2017 measurement.
- After quarter-end, the company scheduled redemption of the remaining $195.5 million principal of its 9.0% notes due 2017 for August 12, 2016, estimating a payment of approximately $211 million including accrued interest. A new share-repurchase authorization of up to $125 million was approved; no shares had been purchased under it as of August 5, 2016.
- Management identified interest-rate exposure: a 100-basis-point increase was estimated to reduce fixed-income portfolio value by $217.1 million (4.68%); a 100-basis-point decrease was estimated to increase it by $234.9 million (5.07%).
Most important facts for investors to verify
- Whether mortgage insurance earnings, claims experience and reserve assumptions remain consistent with the improving default trend; the reserve is sensitive to changes in claim severity and default-to-claim assumptions.
- Whether Services revenue and margins recover from the SFR and securitization slowdown, and whether management’s cost-reduction targets are achieved.
- Whether Radian Guaranty sustains its PMIERs cushion and statutory capital position, including the continuing value and treatment of reinsurance.
- The eventual amount, timing and tax treatment of the IRS dispute, including the contested NOL carryback.
- The effect of the 2017-note redemption and new repurchase authorization on holding-company liquidity, debt costs and share count.
- How much reported earnings depend on investment gains and fair-value changes, compared with recurring segment operating results.