Kingstone Companies, Inc. — Q1 2018 Form 10-Q
Business context and reporting period
Unaudited results cover the three months ended March 31, 2018, compared with Q1 2017. Kingstone underwrites property and casualty insurance through Kingstone Insurance Company, primarily through independent agents. The business remains concentrated in New York: 97.2% of KICO’s direct written premiums in the quarter came from that state. New Jersey and Rhode Island are expansion markets; management anticipated writing in Massachusetts during 2018 after filing for approval in February.
Financial and operating performance
- Revenue: Total revenue was $25.70 million, up 24.5%. Net premiums earned rose 39.5% to $22.84 million; direct written premiums increased 20.7% to $31.53 million and net written premiums increased 41.6% to $23.70 million.
- Profitability: Net loss was $2.72 million, versus net income of $1.47 million a year earlier; diluted loss per share was $0.25. The effective tax benefit was $0.79 million. Comprehensive loss was $4.80 million.
- Underwriting: Net loss ratio was 75.6% versus 50.7%; expense ratio was 38.7% versus 34.5%; combined ratio was 114.3% versus 85.2%. The 2018 combined ratio included a 25.6 percentage-point catastrophe impact. Management attributed the catastrophe losses to three severe winter-weather events; net catastrophe losses after reinsurance were approximately $5.55 million. Management reported a 51.8% core loss ratio excluding catastrophe losses and prior-year development.
- Investments: Net investment income increased 61.3% to $1.38 million. Net investment losses were $0.52 million, including about $0.31 million of unrealized equity-security losses recognized in earnings following adoption of new accounting guidance. Total investments were $152.65 million at quarter-end.
- Cash flow and liquidity: Operating cash flow was $0.38 million, down from $2.06 million. Investing activities used $15.44 million and financing activities used $1.73 million. Cash and equivalents fell $16.79 million during the quarter to $31.59 million. The company reported approximately $8.75 million of cash at the holding company. KICO had no FHLBNY borrowings; eligible collateral was approximately $6.23 million.
- Balance sheet and debt: Total assets were $254.41 million, liabilities $166.25 million, and stockholders’ equity $88.16 million at March 31. Long-term debt, net, was $29.16 million, relating to $30 million of 5.50% senior unsecured notes due December 2022. The notes are obligations of the parent, not guaranteed by subsidiaries. The company paid dividends of $0.10 per share during the quarter.
Material changes versus Q1 2017
- Premium growth reflected more policies in force, continued new-business growth, expansion outside New York, and a lower personal-lines quota-share ceding rate—20% versus 40% in the prior-year period. Policies in force rose 19.3% year over year.
- Higher catastrophe claims drove most of the increase in the net loss ratio. Excluding catastrophes, management cited higher claim severity and a modest increase in the core loss ratio.
- Ceding commission revenue fell 46.8% to $1.70 million. Management cited reduced provisional commissions under the lower quota-share cession and negative contingent commission adjustments associated with the treaty loss ratio, including catastrophe effects.
- Investment income benefited from a larger average invested-asset base. Investment losses increased partly because the accounting change moved equity fair-value changes into earnings rather than other comprehensive income.
- Equity declined from $94.58 million at year-end, alongside the quarterly net loss, dividends, share repurchases and a $2.08 million after-tax other comprehensive loss, largely reflecting unrealized available-for-sale securities losses.
Outlook, risks and unusual items
- No numerical earnings or premium guidance is provided. Management expected to begin writing business in Massachusetts during 2018. It cautioned that interim results may not indicate full-year results and that forward-looking statements are subject to risks.
- Key exposures include catastrophe losses, reserve-estimation uncertainty, reinsurance counterparty and recovery risk, and dependence on reinsurance arrangements. The quota-share structure does not relieve Kingstone of its obligations to policyholders. Management said it was not aware of unconsidered claims trends likely to cause future adverse development.
- The investment portfolio is exposed to interest-rate, credit and equity-price risk. At quarter-end, the fixed-income portfolio had a reported average credit quality of BBB and effective duration of 5.1 years; 2.7% of fixed-income securities were non-investment grade. Management considered identified unrealized losses temporary, but fair values may fluctuate.
- Accounting changes effective January 1, 2018 included fair-value changes on equity securities in net income; adoption produced an approximately $414,000 after-tax reclassification between retained earnings and accumulated other comprehensive income. Adoption of revenue guidance was not material.
- The IRS selected the 2016 federal tax return for examination; as of May 10, 2018, the examination had not commenced. The filing reports no other pending legal proceedings management believed likely to have a material adverse effect, and no material change in risk factors from the 2017 Form 10-K.
- A March 2018 employment agreement named director Dale A. Thatcher COO and KICO president, with a $500,000 annual base salary, minimum bonus of 15% of base salary, and a restricted-stock grant. The filing also reports a May 2018 approval of a $0.10-per-share quarterly dividend.
Important facts for investors to verify
- Whether catastrophe claims and loss-reserve development remain consistent with the company’s estimates, and how the combined ratio trends after the winter-event effects.
- How the 20% quota-share retention, treaty loss ratios and contingent ceding commissions affect net premium growth, earnings and risk retained.
- Capital and liquidity at both the holding company and regulated insurer, including access to collateralized FHLBNY advances and the capacity to service the 2022 notes.
- Investment-portfolio exposure to rate movements, credit deterioration and unrealized losses, including the effect of fair-value changes recognized in earnings.
- Execution and costs of geographic expansion, especially the timing and economics of Massachusetts entry, while New York remains the dominant market.
- Outcome of the IRS examination and any subsequent developments in reserves, reinsurance recoverables or other contingencies.