NMI Holdings, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018; comparisons are with the corresponding 2017 periods. NMI provides private mortgage insurance and outsourced loan-review services. The figures below are in U.S. dollars; financial statement amounts are in millions unless noted.
Business context and operating results
The company reported continued growth in insured business. At June 30, it had 1,313 master-policy customer relationships, $61.2 billion of total insurance in force (IIF), and $14.4 billion of gross risk in force (RIF). Primary IIF was $58.1 billion. Management attributed growth to increased production from existing and new customers and high policy persistency.
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Net premiums earned | $61.6 | $37.9 | $116.5 | $71.1 |
| Total revenue | $67.5 | $42.2 | $127.0 | $79.3 |
| Net income | $25.2 | $6.0 | $47.6 | $11.5 |
| Diluted earnings per share | $0.37 | $0.10 | $0.70 | $0.18 |
| Net investment income | $5.7 | $3.9 | $10.3 | $7.7 |
Margins, claims, cash flow, debt and liquidity
- Underwriting ratios: Q2 loss ratio was 1.0% versus 3.6%; expense ratio was 47.1% versus 74.0%; combined ratio was 48.1% versus 77.6%. First-half combined ratio was 51.2% versus 78.8%.
- Claims and reserves: Claims expense was $0.6 million in Q2 and $2.2 million for the first half. At June 30, reserves for insurance claims and claim expenses were $10.6 million, covering 768 primary loans in default. First-half results included $0.9 million of favorable development on prior-year defaults.
- Cash flow: First-half operating cash flow was $61.4 million, compared with $14.6 million in 2017. Investing activities used $142.2 million, principally for investment purchases; financing activities provided $78.1 million, including the stock offering. Cash and cash equivalents ended at $16.5 million.
- Liquidity and investments: The investment portfolio was $838.3 million at fair value; cash and investments totaled approximately $854.7 million, including $57.8 million held at the parent company. Portfolio pre-tax book yield for the first half was 2.6%. The portfolio had $14.9 million of gross unrealized losses; management said it did not consider securities other-than-temporarily impaired.
- Debt: In May, the company refinanced its prior term loan with a $150 million senior secured term loan due 2023 and established an $85 million revolving facility due 2021, which was undrawn at quarter-end. The term loan’s stated all-in rate was 6.84% at June 30. Balance-sheet term-loan carrying value was $147.3 million. First-half interest expense was $9.0 million, including $2.2 million of refinancing and extinguishment costs. The company reported compliance with debt covenants.
- Insurance capital: Insurer statutory surplus was $439.8 million and the reported risk-to-capital ratio was 13.7:1 at June 30. NMIC’s PMIERs available assets were $653.1 million against $587.2 million of risk-based required assets.
Material changes and management commentary
- Net premiums earned increased 62% in Q2 and 64% in the first half year over year, reflecting growth in IIF and monthly-policy production, partly offset by reinsurance cessions. Total IIF grew 45% year over year. First-half new insurance written increased 51%; 86% of first-half NIW was monthly-premium business.
- Management said claims experience to date had developed more slowly than historical trends, citing underwriting quality and favorable economic and housing conditions. It expects claims to rise as the portfolio matures; estimated lifetime loss ratio for the existing primary portfolio is 20%–25% of earned premiums.
- Defaults from areas affected by hurricanes Harvey and Irma and California wildfires had increased, but the company reported greater cure activity in Q2. It had 215 disaster-area loans among the 768 loans in default and used lower reserve assumptions for these defaults, anticipating higher cure rates.
- The company implemented its Rate GPS risk-based pricing platform on June 4, 2018, intended to better align pricing with individual loan risk. Management expects interest costs to decline following the refinancing, while noting that the new term loan has a variable rate.
- Management expected final revised PMIERs requirements in Q3 2018, with changes then expected to take effect March 31, 2019. It also expected a 2018 annual effective tax rate near the 21% federal statutory rate; the company said it currently paid no federal income tax primarily because of forecast use of net operating loss carryforwards.
Unusual items, contingencies and risks
- The March 2018 public offering issued approximately 4.3 million shares and generated $79.2 million net proceeds; the company contributed $70 million to NMIC in April.
- On July 25, 2018, after quarter-end, NMIC entered into an excess-of-loss reinsurance transaction providing up to $264.5 million of initial coverage on a specified existing portfolio, subject to a $125.3 million retained loss layer and transaction terms.
- Key risks include changes in GSE requirements or mortgage-insurance usage, maintaining PMIERs and state capital compliance, competition from other private insurers and government programs, housing and economic conditions, claims and reserve uncertainty, reinsurance counterparty performance, and variable-rate exposure. The filing disclosed no material legal accrual and said it did not currently expect pending matters to result in a reasonably possible material liability, while noting litigation outcomes remain uncertain.
Important facts for investors to verify
- Whether new-business growth and persistency support premium growth as the insured portfolio expands.
- How defaults, cures and claims develop—particularly disaster-area loans—and whether reserve assumptions and the stated lifetime loss estimate remain appropriate.
- Whether PMIERs changes require additional capital, and whether available assets continue to exceed required assets.
- The cost, coverage, performance and counterparty risks of quota-share and excess-of-loss reinsurance, including the July 2018 transaction.
- The effect of variable interest rates, refinancing costs and debt covenants on future interest expense and liquidity.
- How the new risk-based pricing platform affects customer adoption, pricing, loan quality and returns; the filing provides no specific earnings or revenue guidance.