Radian Group Inc. — Q1 2014 Form 10-Q
Reporting period: Three months ended March 31, 2014; financial statements are unaudited. Radian is a credit enhancement company focused primarily on U.S. residential mortgage insurance, with mortgage insurance and legacy financial guaranty segments. Amounts below are in U.S. dollars unless stated otherwise.
Financial performance and position
| Metric | Q1 2014 / March 31, 2014 | Comparable period / prior year-end |
|---|---|---|
| Total revenue | $346.3 million | $42.4 million in Q1 2013 |
| Net income (loss) | $202.8 million; diluted EPS $0.94 | Net loss $187.5 million; diluted EPS $(1.30) in Q1 2013 |
| Adjusted pretax operating income (loss), non-GAAP | $91.1 million | Loss of $15.2 million in Q1 2013 |
| Operating segments’ adjusted pretax income (loss) | Mortgage insurance $101.3 million; financial guaranty loss $10.2 million | Mortgage insurance loss $11.4 million; financial guaranty loss $3.8 million in Q1 2013 |
| Cash flows from operations | $(137.0) million | $(166.0) million in Q1 2013 |
| Total assets / investments | $5.53 billion / $4.86 billion | $5.62 billion / $4.93 billion at December 31, 2013 |
| Loss and LAE reserves | $1.92 billion | $2.19 billion at December 31, 2013 |
| Long-term debt, carrying value | $938.4 million | $930.1 million at December 31, 2013 |
| Stockholders’ equity | $1.06 billion | $939.6 million at December 31, 2013 |
| Radian Guaranty risk-to-capital ratio | 19.2:1 | 19.5:1 at December 31, 2013 |
The filing does not present a single consolidated operating margin. Earnings were substantially affected by investment and derivative fair-value changes: Q1 included $64.5 million of investment gains and $50.1 million of derivative gains, versus losses of $5.5 million and $167.7 million, respectively, in Q1 2013. Management says some derivative fair-value movements are expected to reverse over time; adjusted pretax operating income excludes specified market-driven items and is not a GAAP measure.
Material changes versus Q1 2013
- Mortgage insurance provision for losses fell to $49.2 million from $132.0 million. Management attributed the improvement to fewer new defaults and favorable development on prior-year defaults.
- New primary mortgage insurance written declined to $6.8 billion from $10.9 billion, reflecting a smaller origination market and increased competition. Net insurance premiums earned rose to $205.7 million from $192.6 million.
- Primary default inventory was 53,119 loans, down 37.6% year over year; the first-lien primary default rate was 6.3%, versus 10.9%. Claims paid were broadly similar at $306.9 million versus $309.9 million.
- Total adjusted pretax operating performance improved, primarily due to lower mortgage insurance losses. Financial guaranty adjusted pretax loss widened, reflecting higher loss provision, lower earned premiums and investment income, and higher interest expense.
- Total liabilities declined to $4.38 billion from $4.68 billion at year-end, while equity increased. The balance-sheet equity increase includes a $91.0 million reclassification of a convertible-note equity component to temporary equity.
Outlook, risks and unusual items
- Management expected 2014 mortgage insurance new business volume to be modestly below $40 billion and new defaults to decrease approximately 16% from 2013. It expected claims paid of $900 million to $1.0 billion in 2014. These are estimates, not guarantees.
- Management expected to keep Radian Guaranty’s risk-to-capital ratio at or below 20:1 under then-current requirements. Proposed GSE eligibility rules could impose tighter capital standards; the filing estimates that an 18:1 limit, absent other relief and an implementation period, could require about $200 million of additional capital over the next 12 months.
- Radian Group reported approximately $615 million of immediately available unrestricted cash and liquid investments at March 31. The May 6, 2014 agreement to acquire Clayton for $305 million, a subsequent event, was expected to be financed with debt and equity issuance. Completion was anticipated in summer 2014, subject to closing conditions; financing and completion were not assured.
- Radian Asset Assurance sought NYSDFS approval for an extraordinary dividend to Radian Guaranty. Approval, timing, amount and conditions remained uncertain; an ordinary dividend of approximately $32 million was expected to be available in Q3 2014.
- Mortgage insurance reserves depend on estimates of claims, cures, rescissions, denials, reinstatements and severity. A significant portion of IBNR reserves related to settlement discussions with one servicer; management said additional loss was reasonably possible but could not estimate it.
- The IRS was challenging tax positions for 2000–2007. If proposed adjustments were sustained, additional tax of approximately $128 million, penalties of approximately $42 million and interest could be due. Radian was contesting the matter.
- Other risks include lender and servicer disputes over loss mitigation, RESPA captive-reinsurance litigation and a Minnesota regulatory inquiry. The CFPB settlement barred new captive reinsurance arrangements for ten years and required a $3.75 million penalty. Separate Spanish surety claims were disputed; the filing estimated possible exposure of €9.1 million to €16.5 million before considering defenses and recorded no liability.
- Public finance risks included Puerto Rico exposure of $452.2 million net par, all rated below investment grade by Radian after 2014 downgrades. Management did not then anticipate claims on this exposure but warned of restructuring and further deterioration risks.
Important facts for investors to verify
- Whether GSE and state capital requirements change, and the resulting capital needs, reinsurance options and eligibility status of Radian Guaranty.
- Whether mortgage insurance default, claim, cure and loss-mitigation trends support the reserve estimates, particularly the assumptions for disputed denials, rescissions and reinstatements.
- Whether Radian secures financing and completes the Clayton acquisition on the stated terms, and how the acquisition affects liquidity, debt and results.
- The outcome of the IRS examination, servicer settlement discussions, captive-reinsurance matters and other legal or regulatory proceedings.
- Whether financial guaranty performance and regulatory approval permit dividends from Radian Asset Assurance to support mortgage insurance capital and liquidity.
- The composition and sustainability of reported earnings, distinguishing core segment performance from investment and derivative fair-value gains.