Essent Group Ltd. — 2020 Form 10-K
Reporting period: Fiscal year ended December 31, 2020. The filing also reports unaudited fourth-quarter results. Essent provides private mortgage insurance and reinsurance, primarily for low-down-payment U.S. mortgages sold to Fannie Mae and Freddie Mac.
Financial performance and key metrics
| Metric | 2020 | 2019 |
|---|---|---|
| Total revenue | $955.2 million | $867.6 million |
| Net premiums earned | $862.6 million | $777.4 million |
| Net investment income | $80.1 million | $83.5 million |
| Provision for losses and loss adjustment expenses (LAE) | $301.3 million | $33.0 million |
| Net income | $413.0 million | $555.7 million |
| Diluted earnings per share | $3.88 | $5.66 |
| Loss / expense / combined ratios | 34.9% / 17.9% / 52.9% | 4.2% / 21.3% / 25.5% |
- Growth: New insurance written rose to $107.9 billion from $63.6 billion. Insurance in force increased to $198.9 billion from $164.0 billion; risk in force was $41.3 billion.
- Cash flow: Operating cash flow was $727.9 million, compared with $589.8 million. Investing activities used $1.15 billion; financing activities provided $458.0 million. Cash ended the year at $102.8 million.
- Liquidity and investments: Total investments were $4.65 billion, including $726.9 million of short-term investments; management reported $562.7 million of net cash and investments at the holding company. The investment portfolio was predominantly investment-grade.
- Debt and capital: Credit-facility borrowings were $325 million principal ($321.7 million carrying value), with $300 million of revolving capacity available. The facility matures in October 2023. Stockholders’ equity was $3.86 billion, versus $2.98 billion. U.S. mortgage-insurance subsidiaries’ combined risk-to-capital ratio was 11.1:1; Essent Guaranty reported $2.86 billion of PMIERs available assets against $1.65 billion required.
- Returns and shareholder distributions: Return on average equity was 12.1%, versus 20.8%. The company declared and paid $0.64 per share in 2020; it said it expected to continue a comparable quarterly dividend, subject to applicable restrictions.
Fourth-quarter snapshot
For the quarter ended December 31, 2020, net premiums earned were $222.3 million, net income was $123.6 million and diluted EPS was $1.10. The provision for losses and LAE was $62.1 million. In the fourth quarter of 2019, net income was $147.0 million, diluted EPS was $1.49 and the provision was $10.9 million.
Material changes versus 2019
- Net income fell 26%, principally because the provision for losses and LAE increased sharply with COVID-19-related delinquencies. Revenue growth and lower operating expenses partly offset the impact.
- Year-end defaults rose to 31,469, or 3.93% of policies in force, from 5,947, or 0.85%. Of the 2020 defaults, 28,922 were classified as COVID-19 defaults. The reserve for losses and LAE increased to $374.9 million from $69.4 million; the COVID-19-default component was $316.3 million.
- Premiums earned increased 11% as average insurance in force grew, while the average net premium rate declined to 0.46% from 0.49%. Lower persistency—60.1%, compared with 77.5%—was associated largely with refinancing at historically low mortgage rates.
- Net investment income declined despite a larger average investment portfolio, as the pretax yield fell to 2.1% from 2.8%. The June 2020 public share offering generated approximately $440 million in net proceeds and increased outstanding shares.
Outlook, commentary, risks and unusual items
- COVID-19 and claims: Management said forbearance and loan-modification programs could reduce the share of delinquencies that become claims, but acknowledged uncertainty about the pandemic’s duration, unemployment, borrower cures, claim severity and future reserve adequacy. A 100-basis-point change in the reserve rate applied to April–September 2020 COVID-19 default notices would change reserves by approximately $35 million.
- Reserving judgment: Reserves are established for loans in default, not for future losses on loans that are not yet delinquent. The auditor identified valuation of the $374.9 million loss reserve as a critical audit matter because of significant management estimation and judgment. The financial statements received an unqualified audit opinion; the auditor also opined that internal control over financial reporting was effective.
- Capital and liquidity: Management stated that available liquidity was sufficient for operating needs and obligations over the next 12 months. It also noted that additional capital could be needed if regulatory or GSE requirements change, claims increase, or the business grows. Essent Guaranty was subject to a GSE dividend-approval requirement through June 30, 2021.
- Reinsurance: Increased ceded premiums and losses reduced premium revenue. Certain insurance-linked note reinsurance transactions entered a trigger event in June 2020, suspending amortization of coverage while the trigger continues. Reinsurance availability, cost and counterparty recoveries remain risks.
- Business and regulatory risks: Results depend heavily on GSE policies and eligibility standards, private mortgage insurance demand, competition, loan persistency, housing prices, employment, interest rates and the performance of an increasingly large but relatively young insurance book. The filing also cites cybersecurity, regulatory, tax and litigation risks. The company reported no material legal proceedings.
- Guidance: The filing does not provide a specific numerical earnings or revenue forecast. Management’s outlook is qualified by uncertainty around COVID-19, claims, refinancing and future regulatory or capital requirements.
Important facts for investors to verify
- How COVID-19 delinquencies cure, transition into claims, and compare with the assumptions underlying the $316.3 million COVID-19 reserve.
- Whether reserve estimates remain adequate as the portfolio seasons; the auditor’s critical audit matter and the disclosed $35 million sensitivity merit attention.
- How persistency, refinancing and premium mix affect future premiums, especially alongside the lower average net premium rate.
- PMIERs asset headroom, state statutory capital, dividend restrictions and the terms or renewal economics of reinsurance arrangements.
- The effect of lower investment yields, credit-market changes and the $325 million facility borrowing on earnings and holding-company liquidity.