Heritage Insurance Holdings, Inc. — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. This is an annual report, not a standalone Q4 filing; fourth-quarter figures below are unaudited. Heritage is a property and casualty insurer focused on personal and commercial residential property in coastal states and Hawaii. The 2018 results include a full year of NBIC, acquired in November 2017.
Financial performance
| Metric | 2018 | 2017 |
|---|---|---|
| Gross premiums written | $923.3 million | $625.6 million |
| Net premiums earned | $454.2 million | $379.6 million |
| Total revenue | $480.2 million | $406.6 million |
| Operating income | $69.5 million | $49.5 million |
| Net income (loss) | $27.2 million | $(1.1) million |
| Diluted earnings (loss) per share | $1.04 | $(0.04) |
| Net combined ratio | 90.4% | 94.1% |
| Operating cash flow | $95.4 million | $7.5 million |
Gross premiums written rose 48%, mainly because of a full year of NBIC operations. Ceded premiums increased to $472.1 million from $263.7 million, reflecting NBIC’s reinsurance program and a full year of coverage. The net combined ratio improved; below 100% generally indicates underwriting profit. Net income improved substantially, primarily because 2017 included a large non-operating charge related to the convertible-note conversion option. In 2018, refinancing and debt-extinguishment costs included $9.8 million of non-operating expense.
For Q4 2018, net premiums earned were $118.6 million, total revenue $124.9 million, operating income $22.4 million, and income from continuing operations $3.9 million, or $0.15 per basic and diluted share.
Balance sheet, liquidity and capital
- At year-end, total assets were $1.77 billion and stockholders’ equity was $425.3 million, versus $1.77 billion and $379.8 million, respectively, at year-end 2017.
- Cash and cash equivalents were $250.1 million; investments were $526.1 million. Restricted cash was $12.3 million. The company reported $262.4 million of cash, cash equivalents and restricted cash in its cash-flow statement.
- Long-term debt was $148.8 million net of issuance costs, representing $155.8 million of principal. The company entered a five-year $125 million secured credit facility in December, comprising a $75 million term loan and $50 million revolver; $20 million was drawn on the revolver at year-end. The facility matures December 2023 and has financial and other covenants.
- Operating cash flow increased to $95.4 million, substantially reflecting the timing of reinsurance premium payments. Financing cash outflow was $32.0 million, including debt repayments and convertible-note repurchases.
- Insurance subsidiaries reported combined statutory surplus of $375.1 million and RBC ratios above 300%. However, the subsidiaries’ combined statutory results were a $64.5 million loss in 2018, compared with $50.6 million statutory income in 2017.
Material changes and unusual items
- Hurricanes Florence and Michael produced estimated gross losses of $22.7 million and $43.5 million, with estimated consolidated retentions of $16.5 million and $16.0 million, respectively. Retained losses from Hurricanes Lane, Florence and Michael totaled $32.9 million for 2018; an additional $1.7 million of Hurricane Irma retention was recorded.
- 2018 loss and loss-adjustment expense included $13.3 million of adverse prior-year development, mainly involving Florida litigated claims, attorney fees and Assignment of Benefits (AOB) activity. The company also strengthened Florida personal-lines reserves and reserves for the 2018 accident year.
- The 2018–2019 catastrophe program provided stated first-event coverage up to $1.6 billion for Heritage P&C, $801 million for Zephyr and $1.0 billion for NBIC. The company reported approximately $3.5 billion of potential coverage for multiple events, including retentions; coverage available after an event depends on severity and exhaustion of reinsurance layers. Estimated net program cost was approximately $252 million.
- Debt refinancing replaced the 8.75%-over-LIBOR senior secured notes with the new credit facilities; the company also repurchased or exchanged convertible notes. After year-end, it announced a further $10 million revolver paydown and a $0.06-per-share quarterly dividend.
- The board authorized a share repurchase program of up to $50 million through December 31, 2020. The company paid $0.24 per share in dividends for 2018, down from $0.30 in 2017.
- Management reported effective disclosure controls and internal control over financial reporting as of year-end. The independent auditor gave an unqualified opinion on the 2018 financial statements but did not audit or opine on internal-control effectiveness.
Outlook, commentary and principal risks
Management’s strategy is to grow and diversify geographically, improve the profitability of Florida business, manage claims costs through in-house services, and optimize reinsurance. The filing provides no numerical earnings or premium guidance. Management stated that available liquidity was expected to support operations for at least the next 12 months, while noting that acquisitions, growth and unexpected losses could require additional financing.
- All premium in force was in coastal states, leaving the company exposed to hurricanes, winter storms and concentrated regional losses. Reinsurance may be unavailable, more costly, insufficient, or not collectible; losses above coverage remain the company’s responsibility.
- Reserve estimates are inherently uncertain. Continued adverse development, Florida AOB and litigation trends, attorney fees, inflation or legal changes could increase claims costs and reduce earnings and capital.
- Reinsurance is a significant cost: ceded premiums were 51.0% of gross premiums earned, up from 41.0%. The company also depends on the Florida Hurricane Catastrophe Fund and on private reinsurers’ ability to pay.
- Other risks include rate-approval limits, competition, agent concentration, catastrophe-model uncertainty, operational and cyber risks, and regulatory capital and dividend restrictions.
- Variable-rate borrowing exposes the company to interest-rate increases and LIBOR transition risk. The new credit agreement includes leverage, fixed-charge coverage, net-worth and catastrophe-retention requirements.
Important facts for investors to verify
- Whether post-year-end claims emergence changes estimates for the 2018 hurricanes or the $13.3 million prior-year reserve development, particularly Florida litigated and AOB claims.
- Actual collectibility and remaining limits of reinsurance, including coverage after multiple events, the FHCF’s capacity, and the company’s exposure above program limits.
- Whether NBIC’s full-year contribution, quota-share economics and reinsurance costs support sustainable underwriting profitability, rather than growth primarily from acquisition consolidation.
- Current debt balances, variable-rate expense, covenant headroom, revolver utilization and the effect of the 2019 paydown and convertible-note exchanges.
- Whether statutory losses affect subsidiary surplus, permitted dividends to the parent, growth capacity or financial-strength ratings; also monitor the distinction between GAAP earnings and statutory results.