Business Context and Reporting Period
Company: Kingstone Companies, Inc. (KING)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2018
Business Overview: Kingstone operates through its wholly-owned subsidiary, Kingstone Insurance Company (KICO), underwriting property and casualty insurance for small businesses and individuals. The company is licensed in eight states, with approximately 94.5% of direct written premiums for the nine months ended September 30, 2018, originating from New York policies. The company is classified as a smaller reporting company and an accelerated filer.
Key Financial Metrics
| Metric | Nine Months Ended Sep 30, 2018 | Nine Months Ended Sep 30, 2017 |
|---|---|---|
| Net Premiums Earned | $74,476,138 | $54,837,883 |
| Total Revenues | $84,133,965 | $66,986,098 |
| Net Income | $3,973,093 | $8,054,893 |
| Net Loss Ratio | 56.0% | 41.6% |
| Net Combined Ratio | 94.1% | 76.8% |
| Cash and Cash Equivalents (Sep 30, 2018) | $29,893,676 | $48,381,633 (Dec 31, 2017) |
| Long-Term Debt (Net) | $29,251,206 | $29,126,965 (Dec 31, 2017) |
| Operating Cash Flow | $18,197,327 | $20,889,623 |
Material Changes vs. Prior Period
- Revenue Growth: Net premiums earned increased 35.8% to $74.5 million, driven by a 19.9% increase in direct written premiums and a reduction in the quota share reinsurance ceding rate from 20% to 10% effective July 1, 2018.
- Profitability Decline: Net income decreased 50.7% to $3.97 million. This was primarily due to a significant increase in the net loss ratio (up 14.4 points) and a decrease in ceding commission revenue.
- Catastrophe Impact: The nine-month period included $6.1 million in net catastrophe losses (primarily winter weather events), which increased the net loss ratio by 8.2 percentage points. No catastrophe losses were recorded in the comparable 2017 period.
- Investment Performance: Net investment income increased 55.7% to $4.54 million due to higher average invested assets. However, net gains on investments turned to a loss of $277,835 (vs. a gain of $96,915 in 2017) largely due to an accounting standard change (ASU 2016-01) requiring unrealized gains/losses on equity securities to be recorded in net income.
- Expense Increases: Interest expense of $1.37 million was incurred in 2018 related to $30 million of Senior Unsecured Notes issued in December 2017. Other underwriting expenses increased 18.7% due to business growth and expansion into new states.
Guidance, Outlook, and Risks
- Reinsurance Strategy: The company reduced its quota share ceding rate to 10% to retain more profitable business, which increased net written premiums but reduced ceding commission revenue. Catastrophe reinsurance coverage was increased to $445 million for the 2018 treaty year.
- Management Commentary: Management attributes the increase in the underlying loss ratio (excluding catastrophes) to a higher impact from large claims and increased severity on smaller claims. The company continues to expand into New Jersey, Rhode Island, Massachusetts, and Pennsylvania.
- Dividends: The Board declared a quarterly dividend of $0.10 per share on November 7, 2018, payable December 14, 2018.
- Risks and Contingencies:
- Loss Reserve Uncertainty: Ultimate liability for claims may differ substantially from estimates due to the inherent uncertainty in projecting claim amounts over many years.
- Catastrophe Exposure: The company remains exposed to weather-related catastrophes, which significantly impacted results in the current period.
- Reinsurance Counterparty Risk: The company relies on reinsurers to cover a portion of its risk; failure of a reinsurer could impact financial results.
- Interest Rate Risk: The company holds a significant portfolio of fixed-maturity securities, which are subject to interest rate risk.
Investor Verification Checklist
- Catastrophe Loss Adequacy: Verify the adequacy of loss reserves for the $6.1 million in net catastrophe losses recorded in the first nine months of 2018.
- Reinsurance Settlements: Monitor the settlement of contingent ceding commissions, as the company recorded negative contingent commissions due to higher loss ratios on the 2017/2019 treaty.
- Investment Portfolio Quality: Review the composition of the $166.7 million investment portfolio, noting that $3.6 million in unrealized losses on fixed-maturity securities have been held for more than 12 months.
- Debt Service: Confirm the company's ability to service the $30 million Senior Unsecured Notes (5.50% interest) maturing in 2022, particularly given the reduction in net income.
- Expansion Costs: Assess the return on investment for expansion expenses ($1.24 million for the nine months) in new states (MA, NJ, RI) relative to the growth in net premiums earned from those regions.