STEWART INFORMATION SERVICES CORP quarterly report, Q1 FY2013

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Stewart Information Services Corporation — Q1 2013 Form 10-Q

Business context and reporting period. Unaudited results for the three months ended March 31, 2013, compared with Q1 2012. Stewart provides title insurance and related services, mortgage services, and corporate functions. Management said the first quarter is typically the least active season for title insurance.

Financial performance

  • Revenue: Total revenue was $423.7 million, up 10.1% from $385.0 million. Operating revenue rose 11.3% to $423.4 million. Title revenue was $381.3 million versus $342.9 million; mortgage services segment revenue was $42.3 million versus $37.8 million.
  • Profit: Net earnings attributable to Stewart were $3.2 million, or $0.15 per diluted share, versus a net loss of $12.2 million, or $0.63 per share. Earnings before taxes and noncontrolling interests were $7.1 million, compared with a $7.9 million loss. The reported figures include a $5.4 million noncash charge related to early retirement of convertible notes and a $1.7 million gain on non-title insurance proceeds.
  • Costs and title claims: Employee costs rose 6.7%, slower than operating revenue growth, and were 32.3% of operating revenue versus 33.7%. Other operating expenses declined 1.6%. Title-loss expense fell 24.9%; provisions were 6.1% of title revenue versus 9.1%. The estimated title-loss liability was $508.8 million, including $119.2 million for known claims and $389.6 million for claims that may be reported in the future.
  • Segments: Title pretax earnings increased to $30.0 million from $14.4 million. Mortgage services pretax earnings increased to $10.2 million from $8.0 million; its pretax margin was 24.1% versus 21.1%. Corporate pretax loss widened to $33.0 million from $30.3 million.
  • Cash flow: Operating cash use was $3.4 million, improved from $20.3 million used in Q1 2012. Investing activities used $25.2 million, compared with $0.5 million; financing activities used $3.7 million, compared with $6.0 million. Cash and cash equivalents ended the quarter at $175.4 million, down from $208.5 million at year-end.
  • Liquidity and debt: Cash and investments, including statutory-reserve amounts, totaled $733.9 million. The filing reports $142.5 million of unrestricted cash and investments, excluding equity-method investments, and $455.8 million funding statutory premium reserves. Total debt was $34.2 million, including $27.8 million of convertible notes, compared with approximately $71.2 million at December 31, 2012. Stewart exchanged $37.1 million of convertible notes for 3,037,430 common shares and cash for accrued interest. A $10.0 million credit line, expiring June 2013, was undrawn.
  • Equity: Stockholders’ equity was $621.1 million versus $580.4 million at year-end. Book value per share was $27.70 versus $29.91, reflecting the increase in shares outstanding in part due to the note exchange.

Material changes versus Q1 2012

  • Revenue growth reflected higher title and mortgage-services activity. Independent-agency revenue increased 16.0%; direct-title revenue increased 5.5%.
  • Management cited improving home sales and prices: existing-home sales were up 10.3% year over year, new-home sales up 18.5%, and median home prices up 11.2% in Q1. Residential lending estimates increased to $464 billion from $380 billion, mainly from refinancing.
  • Investment and other results shifted from a $1.4 million gain to a $3.3 million loss, principally because of the convertible-note retirement charge.
  • Other comprehensive income shifted to a $2.4 million loss from $6.3 million of income, mainly reflecting foreign-currency translation.

Outlook, risks, and contingencies

  • Management said it expects operating cash flows and cash available from underwriting subsidiaries, subject to regulatory restrictions, to fund operations and claims. It described liquidity and capital resources as sufficient for ongoing needs, while noting that additional borrowing or equity funding could be needed in unforeseen circumstances; financing may be unavailable or dilutive.
  • Mortgage-services revenue declined 11.5% sequentially, largely because certain distressed-loan service contracts expired. Management said new servicing-support offerings are being introduced and expects these services to be sustainable across market cycles.
  • Management expects agency retention rates to remain around 82%–83% in the near to medium term, while noting that the mix may normalize as markets stabilize. It did not expect the Texas title-rate increase effective May 1, 2013 to have a material effect.
  • Key sensitivities include real-estate and mortgage activity, interest rates, refinancing, title claims and reserve adequacy, agency conduct, regulatory changes, litigation, technology execution, and access to financing. The filing states risk factors were unchanged from the 2012 Form 10-K.
  • Pending matters include appeals in litigation concerning title policies on Mexican properties and multiple California lawsuits related to loans made through Hurst Financial. A California trial involving selected plaintiffs was scheduled to begin July 29, 2013. Stewart said it was vigorously defending the cases and did not expect the matters to materially affect its consolidated financial condition or results; outcomes remain uncertain.
  • Management reported effective disclosure controls and internal control over financial reporting as of March 31, 2013, with no material control changes during the quarter.

Investor verification priorities

  1. Track whether the improvement in title-loss experience and the $508.8 million claims reserve remain adequate as claims develop.
  2. Assess cash generation against the quarter’s operating cash outflow and the liquidity restrictions on insurer-held funds.
  3. Verify the remaining convertible-note balance, the effect of share issuance and dilution, and the status of the June 2013 credit-line expiry.
  4. Monitor whether new mortgage-services work offsets expiring distressed-loan contracts, and whether title and agency revenue growth persists beyond the seasonal first quarter.
  5. Follow the California and Mexico litigation, regulatory inquiries, and any changes in potential exposure or reserves.