Old Republic International Corporation — Q1 2017 Form 10-Q
Reporting period: Quarter ended March 31, 2017; comparisons are with Q1 2016 unless stated otherwise. Old Republic is an insurance holding company operating through General Insurance, Title Insurance, and the RFIG mortgage guaranty and consumer credit run-off businesses.
Financial performance
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Operating revenues | $1,429.9 million | $1,369.3 million | +4.4% |
| Total revenues, including realized investment gains | $1,444.8 million | $1,413.5 million | +2.2% |
| Pretax operating income (non-GAAP) | $149.8 million | $138.1 million | +8.5% |
| Net income | $113.1 million | $122.9 million | -8.0% |
| Diluted earnings per share | $0.39 | $0.43 | Down |
| Operating cash flow | $146.1 million | $125.9 million | +16.0% |
Operating income and net operating income are non-GAAP measures identified by management; net income is the GAAP result. Operating improvement reflected stronger underwriting and related services, while lower realized investment gains reduced net income. Realized gains were $14.8 million versus $44.1 million; no impairment losses were recorded in either quarter.
- Revenue and margins: Net premiums and fees earned rose 4.4% to $1,301.0 million; net investment income increased 5.1% to $101.2 million. The consolidated composite underwriting ratio improved to 94.7% from 95.5% (below 100% indicates underwriting profit under the reported ratio definition).
- Segments: General Insurance pretax operating income increased 7.6% to $93.7 million, with a 95.9% composite ratio versus 96.9%. Title Insurance income rose 89.0% to $40.4 million, aided by 9.2% growth in premiums and fees and lower claims. RFIG run-off income declined 47.7% to $14.5 million as its premium base contracted and its claim ratio rose.
- Balance sheet and liquidity: At March 31, total assets were $18,905.4 million and shareholders’ equity was $4,596.6 million, up 1.7% and 2.8%, respectively, from year-end 2016. Cash and investments totaled $13,071.6 million; cash alone was $177.2 million. The filing reports a 33.2% consolidated debt-to-equity ratio.
- Debt: Carrying debt was $1,525.5 million, compared with $1,528.7 million at December 31, 2016. Debt includes $548.2 million of 3.75% convertible senior notes due in 2018, as well as senior notes due in 2024 and 2026. Management said permitted subsidiary dividends of up to $473.3 million in 2017, without prior regulatory approval, were sufficient for expected parent-company needs.
- Shareholder returns: Q1 cash dividends were $0.19 per common share. Book value per share was $17.62, versus $17.20 at year-end 2016.
Material changes and management commentary
- Excluding RFIG, pretax operating income increased 22.6%, according to management. Title Insurance delivered the strongest year-over-year earnings improvement; RFIG’s decline limited consolidated operating-income growth.
- General Insurance premiums earned grew 3.3%. Management described growth as uneven across coverages and cited competitive conditions and reduced opportunities in energy services as constraints. Its Q1 claim ratio was 71.0%; management said, absent significant dislocations, it expects reported claim ratios to fall within a targeted high-60% to low-70% range and expense ratios of 23% to 25%.
- Title Insurance benefited from generally favorable housing and commercial property conditions and lower claim activity. Management described Q1 earnings as better than expected; this is not formal full-year guidance.
- RFIG is in run-off and no longer writes new mortgage guaranty business. Mortgage insurance premiums fell 29.3%; management cited declining delinquencies and improving cures, but also less favorable prior-year reserve development than in Q1 2016. A partial facility-lease termination increased run-off expenses.
- Interest and other charges rose to $16.4 million from $10.7 million, reflecting higher debt levels. Management said proceeds from the 2016 debt issuance were invested in fixed-maturity and equity securities.
- Cash flow from operations excluding the MI and CCI run-off businesses was $193.1 million, compared with $152.8 million in Q1 2016.
Risks, contingencies, and unusual items
- Insurance reserves: Claim reserves depend on estimates of ultimate losses and may develop adversely. Q1 prior-year reserve development was unfavorable by $24.4 million net overall, including $61.8 million unfavorable in General Insurance, partly offset by favorable development in Title ($3.9 million) and RFIG ($33.7 million). Management cautioned that reserve development could materially affect results in an individual reporting period.
- RFIG regulatory and debt risk: RMIC and its affiliate remain under North Carolina regulatory supervision and operate in run-off. RMIC was statutorily solvent at March 31, 2017, and management expected it to remain solvent. A court-ordered insolvency proceeding involving RMIC could potentially trigger a default under the notes and accelerate repayment; management believed the current regulatory order made this unlikely in the foreseeable future.
- Legal matters: A Countrywide-related insurance coverage case had a multi-phase trial scheduled to begin September 25, 2017. RMIC faced an Ocwen lawsuit alleging contract, bad-faith, and claims-handling violations; RMIC intended to defend it. The company did not consider material adverse effects from the described actions probable, but said additional costs could arise and outcomes were uncertain.
- Investments and market risk: The portfolio is exposed principally to interest-rate and equity-price movements. Unrealized losses totaled $73.5 million at March 31, 2017; the company recorded no other-than-temporary impairment in the quarter. Most fixed-maturity securities were investment grade (92.8%).
- The filing reported no material change in risk factors from the 2016 Form 10-K and no material change in market-risk exposures. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether General Insurance reserve development, especially in workers’ compensation and general liability, changes from the reported Q1 pattern.
- Whether RFIG claim trends, run-off expenses, and mortgage-insurance regulatory status affect future earnings or the company’s debt obligations.
- How Title Insurance results respond to changes in housing, mortgage, and commercial property activity.
- Whether the investment portfolio’s realized gains, unrealized values, and investment income remain consistent with management’s long-term strategy.
- Developments in the Countrywide and Ocwen litigation, and any resulting costs or reserve changes.
- Debt refinancing or repayment plans for the $548.2 million carrying amount of convertible notes due in 2018, and the sustainability of dividends relative to statutory subsidiary dividend capacity.