Stewart Information Services Corporation — 2011 Form 10-K
Reporting period: Fiscal year ended December 31, 2011. The filing also reports unaudited fourth-quarter results. Amounts below are in U.S. dollars; financial figures are generally in millions unless stated otherwise.
Business context and reporting period
Stewart provides title insurance and settlement services, along with real estate information (REI) services such as mortgage loan support, loss mitigation, REO asset management, tax-deferred exchanges and real estate technology. Its reportable segments are Title and REI. Results are highly sensitive to real estate transaction levels, mortgage financing conditions and title claims.
Financial performance and position
- Revenue: Total revenue was $1,634.9 million, down 2.2% from $1,672.4 million in 2010. Title segment revenue was $1,532.6 million, down 3.7%; REI revenue was $102.3 million, up 26.1%.
- Profit: Pretax earnings before noncontrolling interests were $18.0 million, versus $2.9 million in 2010. Net earnings attributable to Stewart were $2.3 million, or $0.12 per diluted share, compared with a $12.6 million loss, or $0.69 per share, in 2010. The approximate attributable net margin was 0.1%, versus negative 0.8% in 2010.
- Segment results: Title reported a $24.3 million pretax loss, improving from a $29.9 million loss. REI pretax earnings increased to $42.3 million from $32.8 million.
- Cash flow: Operating cash flow was $23.4 million, down from $41.2 million. Management said 2010 included a $50.9 million income-tax refund; excluding that receipt, 2011 operating cash flow improved by $33.1 million. Investing activities used $29.2 million and financing activities used $7.0 million.
- Margins and costs: Title loss provisions were 9.4% of title operating revenue, down from 9.6% in 2010. Combined employee costs were nearly flat; other operating expenses declined 6.2%, contributing to total expenses falling faster than revenue.
- Liquidity and debt: Cash and investments, including amounts subject to statutory restrictions, totaled $635.0 million. Cash and cash equivalents on the balance sheet were $140.8 million. Total notes payable and convertible senior notes were approximately $76.2 million; the $64.5 million convertible notes carry a 6.0% coupon and mature in October 2014 unless converted. A $10.0 million credit line was undrawn and expires in June 2013.
- Capital and equity: Total assets were $1,156.1 million and stockholders’ equity was $463.5 million, up from $448.3 million. Common-share cash dividends remained $0.05 per share.
Changes versus 2010 and notable items
- Direct title orders closed fell 7.7%, while revenue per file increased. Commercial title revenue rose 11.1% to $103.0 million and international title revenue rose 11.7% to $108.7 million; title-office direct revenue declined 4.6%.
- REI growth reflected increased demand for loan-modification services and the third-quarter acquisition of PMH Financial. The largest REI customer generated 75.9% of segment revenue, creating significant customer concentration.
- Title claims paid declined to $134.3 million from $158.3 million. The year included $24.6 million of charges for large prior-year claims, partly offset by $2.4 million of insurance recoveries. The reported title loss reserve was $502.6 million.
- Investment and other gains, net, fell to $2.3 million from $21.8 million. 2011 included $10.7 million of realized investment gains, offset in part by a $4.3 million loss on a third-party loan guarantee and a $3.5 million cost-basis investment impairment.
- Net income attributable to Stewart improved despite lower revenue, reflecting lower operating expenses and title loss provisions. The effective tax rate was unusually high at 79.9%; management cited foreign and state taxes, taxes at certain non-consolidated-return subsidiaries, tax claims and a reduction in the deferred-tax valuation allowance.
Outlook, risks and contingencies
- Outlook: Management expected REI revenue to increase in 2012, citing recently awarded contracts and a full-year contribution from PMH Financial. It expected 2012 capital expenditures near, or slightly below, 2011’s $17.7 million. Management anticipated some first-quarter cost increases to support new REI contracts. These are expectations, not formal earnings guidance.
- Management cited industry forecasts for increased purchase transactions but lower refinancing and total mortgage originations in 2012; it expected this mix could support higher revenue per closed order. The filing emphasizes continued weakness and uncertainty in real estate and mortgage markets.
- Liquidity is constrained by insurance regulation: most consolidated cash and investments are held by underwriting subsidiaries, and statutory reserves and transfers to the parent are restricted. Guaranty paid no dividend to the parent in 2009–2011 and did not anticipate a 2012 dividend.
- Key risks include real estate market weakness, interest-rate and credit changes, title-loss reserve uncertainty, agency fraud or escrow defalcations, competition, regulatory changes, technology risks, dependence on regulated subsidiary cash flows, and possible difficulty obtaining financing on acceptable terms.
- Legal matters: The filing describes multiple class actions and other claims. In a California case, a jury returned a verdict against an underwriter in March 2012 for approximately $6.5 million; judgment had not been entered, and Stewart expected to seek post-trial relief and appeal. The company stated it could not predict the outcome but did not expect the matters discussed to materially affect consolidated results.
- Approximately $730.2 million of customer escrow funds and $332.3 million of Section 1031 exchange funds were held off the balance sheet, with related contingent obligations. The company also reported $4.2 million of third-party indebtedness guarantees, primarily for workers’ compensation coverage.
Most important facts for investors to verify
- Whether the $502.6 million title-loss reserve adequately covers known and future claims, particularly large claims and agency defalcations.
- Whether REI growth and recently awarded contracts are sustainable, and how much the business depends on its largest customer.
- How much of the reported $635.0 million in cash and investments is freely available to the parent or for non-insurance uses.
- The company’s ability to meet the 2014 convertible-note maturity and other obligations without relying on restricted subsidiary funds or dilutive financing.
- Developments in the approximately $6.5 million California jury verdict and other material litigation, and any resulting reserve or cash-flow effects.
- Whether the deferred-tax valuation allowance and reported tax benefits remain supportable as profitability evolves.