KINGSTONE COMPANIES, INC. quarterly report, Q2 FY2011

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Business context and reporting period

Kingstone Companies, Inc. provides property and casualty insurance to individuals and small businesses in New York through Kingstone Insurance Company (KICO). This unaudited Form 10-Q covers the quarter and six months ended June 30, 2011; comparisons are to the corresponding 2010 periods unless noted.

Financial performance and position

  • Second quarter: Revenue rose 32.1% to $6.713 million; net income increased 116.3% to $774,000, or $0.20 per diluted share. Net premiums earned rose 34.1% to $3.517 million and ceding commission revenue rose 38.4% to $2.728 million.
  • First six months: Revenue increased 30.2% to $12.889 million; net income grew 52.3% to $901,000, or $0.23 per diluted share. Net premiums earned were $6.885 million, up 42.2%; ceding commission revenue was $5.040 million, up 20.5%.
  • Underwriting: Six-month net loss ratio rose to 63.5% from 53.9%; the filing’s key-measures table reports a net combined ratio of 77.3% versus 65.2%. Six-month underwriting income declined to $1.561 million from $1.682 million. For Q2, the net loss ratio was 51.8% versus 44.9%, while the reported combined ratio improved to 63.5% from 67.5%.
  • Cash flow and liquidity: Six-month operating cash flow was $2.027 million, compared with $1.623 million. Investing activities used $1.553 million and financing activities used $714,000, including debt principal payments. Cash and equivalents fell to $87,000 from $327,000 at year-end 2010. Management said expected cash flows should cover company-wide working capital needs over the next 12 months.
  • Balance sheet: Total assets were $65.070 million, versus $58.683 million at December 31, 2010; stockholders’ equity was $14.129 million, versus $12.944 million. Investments totaled $22.128 million. Reinsurance receivables were $23.043 million and premiums receivable were $6.239 million.
  • Debt: Notes payable and capital lease obligations totaled $747,000, down from $1.461 million at year-end. The company prepaid $703,000 of principal during Q2, including $407,000 owed to related parties.

Material changes versus the prior period

  • Direct written premiums increased 21.3% for the first half, with policies in force up 19.3% year over year; management also cited a shift toward policies with higher premiums. Net written premiums grew more slowly, partly because more business was in quota-share-reinsured lines.
  • Higher earned premiums and ceding commissions supported earnings, while net losses and LAE rose 67.6% for the first half. Management attributed the higher loss ratio primarily to increased commercial auto losses; commercial auto was not subject to a quota-share treaty in 2011.
  • First-half ceding commission revenue included $1.756 million of contingent commissions, compared with $959,000 in 2010. These depend on estimated ultimate treaty loss ratios and may vary as estimates develop.
  • Investments available for sale had net unrealized gains of $553,000 at June 30, 2011, compared with $220,000 at year-end. Management judged the portfolio’s unrealized losses temporary and recorded no other-than-temporary impairment.

Outlook, risks and unusual items

  • No earnings or revenue guidance was provided. Management cautioned that first-half results may not indicate full-year results and that forward-looking statements are subject to risks and uncertainties.
  • Reinsurance treaties were renewed effective July 1, 2011. The program includes quota-share and excess-of-loss coverage, plus $54 million of catastrophe coverage with a $500,000 company retention per occurrence. Reinsurance does not release KICO from obligations to policyholders; recoveries and counterparties remain important exposures.
  • Loss reserves rely on actuarial estimates, including incurred-but-not-reported claims, and ultimate liabilities may differ materially from estimates. Prior-year loss development added $233,000 to first-half incurred losses, versus a $339,000 reduction in 2010.
  • In June, remaining noteholders agreed to extend the $747,000 debt balance’s maturity from July 10, 2011 to July 10, 2014 and reduce the interest rate from 12.625% to 9.5% effective July 11, 2011.
  • After quarter-end, the board declared a $0.03-per-share cash dividend payable September 15, 2011. KICO also paid a $175,000 dividend to the parent on August 12; the filing says this had no effect on consolidated earnings, equity or cash flows.
  • The IRS selected the 2009 federal tax return for examination in July 2011; the audit had not commenced. Management said it was confident in its tax positions. The filing reports no other pending legal proceedings believed likely to materially affect the financial statements.
  • Management concluded disclosure controls were effective as of June 30, 2011, and reported no material change in internal control over financial reporting during the quarter.

Important facts for investors to verify

  1. Whether commercial auto loss trends and the elevated first-half net loss ratio persist, and how they affect reserve development.
  2. The collectability and timing of reinsurance recoverables and the durability of contingent ceding commissions as treaty loss estimates change.
  3. Cash levels and liquidity at the holding company and regulated insurer, including any regulatory limits on upstream dividends.
  4. Compliance with the extended debt terms and the effect of the lower interest rate and scheduled maturity.
  5. The outcome of the IRS examination and any subsequent changes to tax expense or liabilities.
  6. The filing presents differing expense-ratio figures in its narrative and key-measures table; confirm the intended definition when comparing underwriting ratios.