Heritage Insurance Holdings, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2015. Unaudited consolidated results. Heritage primarily writes personal and commercial residential insurance in Florida; it operates as one business segment.
Financial results and position
Amounts below are in millions of dollars except per-share data and ratios.
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Gross premiums written | $135.6 | $99.3 | $269.6 | $168.2 |
| Net premiums earned | $94.8 | $44.3 | $196.3 | $86.5 |
| Total revenue | $99.1 | $46.5 | $204.2 | $90.4 |
| Losses and loss adjustment expenses | $33.9 | $19.2 | $66.4 | $39.8 |
| Net income | $25.4 | $9.6 | $55.5 | $17.5 |
| Diluted EPS | $0.84 | $0.39 | $1.84 | $0.80 |
- Underwriting ratios: Q2 combined ratio was 71.1% gross and 61.3% net, compared with 79.9% and 71.0%. For the first half, it was 67.8% gross and 58.5% net, versus 81.6% and 73.4%. Lower ratios indicate improved underwriting results.
- Cash flow: First-half operating cash flow was $85.1 million, investing cash flow was negative $116.8 million, and financing cash flow was $3.0 million. Cash and cash equivalents declined $28.8 million to $131.7 million; restricted cash was $12.8 million.
- Balance sheet at June 30: Total assets were $854.1 million, total liabilities $542.0 million, and stockholders’ equity $312.1 million. Investments totaled $438.7 million; cash plus investments was approximately $570.4 million. The balance sheet presents no borrowing or debt balance.
- Liquidity and capital: Management said it considered liquidity sufficient for claims, expenses, and anticipated working capital, while noting there can be no assurance about future needs. Statutory capital and surplus at the insurance subsidiary was $200.3 million, up from $172.7 million at year-end 2014.
Material changes versus the prior comparable period
- Growth reflected renewals of policies previously assumed from Citizens and SSIC, SSIC policy acquisitions, and new voluntary business. In-force policies rose to approximately 221,700 from approximately 171,000 a year earlier; about 73% were assumed from Citizens, 12% from SSIC, and 15% voluntary.
- Higher premiums earned drove revenue and earnings growth. The company also introduced commercial residential business, which management said had a lower loss ratio than personal residential business.
- First-half loss expenses increased with policy growth, but the gross loss ratio improved to 26.3% from 31.9%. Prior-year reserve development was favorable by $4.4 million in the first half of 2015, compared with a $0.2 million deficiency in the first half of 2014. Q2 2015 included a $0.1 million prior-year deficiency.
- Investment income rose with invested assets. First-half net investment income was $3.7 million versus $1.3 million; investments at fair value increased to $438.7 million from $331.2 million at December 31, 2014.
- First-half cash flow benefited from operating activity, while substantial investment purchases used cash. Financing inflows were much lower than in 2014, which included IPO proceeds.
Outlook, risks, contingencies, and notable items
- Outlook: The filing provides no specific earnings or revenue guidance. Management cited expected growth and described its capital and liquidity as adequate for currently anticipated needs, subject to uncertainty.
- Reinsurance: The 2015–2016 catastrophe program took effect June 1, 2015, with approximately $1.77 billion of first-event protection, including the company’s retention, and up to $440 million of reinstatement protection. The program’s stated cost was approximately $177 million, versus $100 million for the prior program. Heritage selected 75% participation in the Florida Hurricane Catastrophe Fund, compared with 90% in 2014–2015. The higher reinsurance cost and timing of its recognition affect results and cash requirements.
- At June 30, prepaid reinsurance premiums were $168.8 million and reinsurance payable was $177.9 million, compared with $43.1 million and $17.1 million, respectively, at year-end. These balances reflect the renewal timing of the catastrophe program.
- Key risks: Florida hurricane and other catastrophe exposure; reinsurance cost, availability and collectability; claim and loss-reserve estimation; dependence on Citizens policy assumptions; changing legal or coverage trends; investment-market risk; and maintaining financial stability ratings. The filing identifies no material change to previously disclosed risk factors.
- Unpaid losses and loss adjustment expenses were $70.1 million, including $39.5 million of IBNR reserves. Management stated that estimates reflect its best assessment, but catastrophe frequency and severity are not predictable.
- The company reported ordinary-course claims-related legal actions and said pending proceedings were not expected to have a material adverse effect. It reported no significant uncertain tax positions and no current examination of its 2012–2014 federal or state returns.
- Subsequent events: Heritage completed the acquisition of BRC Restoration Specialists on July 31, 2015, for $6 million cash and $2 million in common stock. It also announced plans to seek authorization to operate in North Carolina, South Carolina, Massachusetts, and Rhode Island, and filed a $400 million shelf registration statement.
- Management said disclosure controls were effective at quarter-end and that remediation of previously reported internal-control material weaknesses had been successful.
Important facts for investors to verify
- Whether premium and policy growth can be sustained without weakening underwriting discipline or increasing catastrophe exposure.
- Actual catastrophe losses, reserve development, and the adequacy of the $70.1 million loss reserve, particularly the IBNR component.
- The cost, limits, exclusions, reinstatement terms, and counterparty security of the new reinsurance program, and the effect of its renewal timing on quarterly results and liquidity.
- Whether operating cash generation and statutory capital remain adequate through hurricane season and as the business expands.
- The financial contribution and integration costs of the BRC acquisition, and the capital or dilution implications of the shelf registration and equity issuance.