MGIC Investment Corporation — Q3 2013 Form 10-Q
Business and period: MGIC Investment Corporation is a holding company principally engaged in U.S. mortgage insurance through MGIC and other subsidiaries. This filing covers the quarter and nine months ended September 30, 2013; income-statement comparisons are with the same 2012 periods. Dollar figures below are in millions unless stated otherwise.
Financial results and position
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Net premiums earned | $231.9 | $266.4 | $716.7 | $771.5 |
| Total revenue | $254.4 | $306.2 | $787.5 | $1,007.0 |
| Losses incurred, net | $180.2 | $490.1 | $642.7 | $1,378.6 |
| Income (loss) before tax | $12.5 | $(249.9) | $(46.0) | $(544.9) |
| Net income (loss) | $12.1 | $(246.9) | $(48.4) | $(540.4) |
| Diluted EPS | $0.04 | $(1.22) | $(0.16) | $(2.68) |
- Q3 2013 combined insurance-operations loss ratio was 77.7%, expense ratio 18.1%, and combined ratio 95.8%, compared with 184.0%, 13.6%, and 197.6% in Q3 2012. For the first nine months, the respective ratios were 89.7%, 17.9%, and 107.6%, versus 178.7%, 15.6%, and 194.3%. The loss ratio excludes premium-deficiency effects.
- Investment income was $20.3 million in Q3 and $59.5 million year to date, down from $30.4 million and $100.0 million. Net realized investment gains were $0.2 million in Q3 and $3.9 million year to date, versus $6.2 million and $110.4 million in 2012.
- At September 30, total assets were $5.86 billion, including a $5.02 billion investment portfolio, $458 million cash and cash equivalents, and $60 million restricted cash. Shareholders’ equity was $703 million, up from $197 million at year-end 2012; accumulated deficit was $1.07 billion and accumulated other comprehensive loss was $159 million.
- Debt at par totaled $1.317 billion: $83 million senior notes, $345 million 5% convertible senior notes due 2017, $500 million 2% convertible senior notes due 2020, and $390 million 9% convertible junior debentures due 2063. Holding-company cash and investments were approximately $594 million. Senior-note covenants were reported in compliance.
- For the first nine months, operating cash flow was negative $693 million; investing cash flow was negative $1.008 billion; financing cash flow was positive $1.131 billion; consolidated cash declined $570 million to $458 million. Claims paid exceeded premiums received, a trend management expected to continue.
Material changes and operating trends
- Q3 returned to modest profitability, while the first nine months remained loss-making. The improvement chiefly reflected much lower losses incurred: Q3 losses fell to $180 million from $490 million; year-to-date losses fell to $643 million from $1.379 billion.
- Management attributed lower losses to fewer new delinquency notices, lower estimated claim rates on recent delinquencies, and favorable severity development. Year-to-date prior-year reserve development was favorable by $44 million, compared with $287 million unfavorable in 2012.
- Primary new insurance written increased to $8.6 billion in Q3 and $23.1 billion year to date, from $7.0 billion and $17.1 billion. However, cancellations meant primary insurance in force declined $2.9 billion year to date; direct primary insurance in force was $159.2 billion at September 30, versus $164.9 billion a year earlier.
- Primary default inventory fell to 111,587 loans from 148,885 a year earlier, but 60% of remaining primary defaults had been delinquent at least 12 months. Loss reserves were $3.353 billion, down from $4.057 billion at year-end 2012.
- The premium deficiency reserve declined to $57 million from $74 million at year-end 2012, primarily reflecting higher estimated ultimate premiums.
- The March 2013 financing raised approximately $663 million net from issuing 135 million common shares and $485 million net from $500 million of 2% convertible notes. The company contributed $800 million to MGIC to strengthen insurer capital.
Outlook, risks, contingencies, and unusual items
- Management expected average insurance in force to continue declining during 2013 because new business was not expected to exceed cancellations. It expected premium yields to decline slightly for the rest of 2013, partly because of quota-share reinsurance, and investment income to fall versus 2012. Nearly all borrower-paid monthly rates and most single-premium rates were scheduled to be reduced effective December 2, 2013, subject to regulatory approval.
- MGIC’s risk-to-capital ratio was 20.0:1 at September 30, 2013, below the commonly applicable 25:1 limit; combined insurance operations were at 22.7:1. MGIC’s policyholder position was $190 million above Wisconsin’s $1.2 billion minimum. The company expected compliance with current requirements but cautioned that compliance was not assured; revised NAIC and GSE capital standards remained uncertain.
- MGIC settled the CFPB’s captive-reinsurance investigation without findings of wrongdoing, paid a $2.65 million civil penalty, and agreed not to enter or reinsure new captive arrangements for ten years. Existing captive arrangements were in run-off. A new unaffiliated reinsurer quota-share agreement covers specified new business from April 2013 through 2015.
- Countrywide settlements are a key claims and legal item. By September 30, rescissions had been suspended on approximately 2,100 BANA-agreement loans with about $150 million of potential claims and 800 CHL-agreement loans with about $70 million of potential claims. BANA implementation began in November 2013; CHL implementation depended on investor consent and was not expected before Q1 2014. Management had recorded the estimated settlement effect in 2012. Other customer rescissions were also suspended on approximately 540 loans representing $38 million of potential claims.
- The IRS tax dispute concerns REMIC-related deductions for 2000–2007. Proposed federal taxes and penalties were $197.5 million, with approximately $151 million interest; estimated related state taxes and interest were $45.4 million. The company had $105.2 million of unrecognized tax benefits and expected litigation in 2014. An adverse resolution could materially affect earnings, cash flows, and statutory capital.
- Other material uncertainties include RESPA litigation and state investigations, the unresolved Minnesota draft consent order, a Countrywide curtailment dispute (approximately $40 million asserted; no loss accrued because management did not consider a loss probable), and one pending MERS-related lawsuit. Management also highlighted regulatory and competitive uncertainty, GSE/FHA market changes, QM/QRM rules, housing and unemployment conditions, and uncertainty in loss-reserve estimates and timing of claims.
- The company reported six consecutive annual losses through 2012 and a $48.4 million loss for the first nine months of 2013. It said it expected eventually to return to annual profitability but could not assure when or whether it would do so.
Important facts for investors to verify
- Whether improving delinquency and loss trends continue, especially given the aged default inventory and historically weaker second-half credit performance.
- Actual claims and cash outflows under the BANA settlement and whether required investor consents allow implementation of the CHL settlement.
- MGIC’s capital and GSE eligibility under new or revised standards, and the availability of further holding-company support or reinsurance.
- Resolution and financial effects of the IRS REMIC dispute, RESPA matters, and other litigation or regulatory investigations.
- Whether lower insurance in force, rate reductions, competition, and quota-share costs pressure premiums and investment income as management projected.
- Liquidity at the holding company versus insurance subsidiaries, debt service and potential conversion or interest deferral terms; insurance-subsidiary dividends were restricted and MGIC had not paid dividends to the holding company since 2008.