Assured Guaranty Ltd. — Q2 2019 Form 10-Q
Business context and reporting period. Bermuda-based financial guaranty insurer providing credit protection in public finance, infrastructure and structured finance markets. This unaudited filing covers the quarter and six months ended June 30, 2019; comparisons are with the corresponding 2018 periods unless noted. Amounts are in U.S. dollars.
Financial performance and position
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Total revenues | $266m | $220m | $461m | $513m |
| Net earned premiums | $112m | $136m | $230m | $281m |
| Net investment income | $110m | $98m | $208m | $198m |
| Loss and loss-adjustment expenses | $(1)m benefit | $44m expense | $45m expense | $26m expense |
| Net income | $142m | $75m | $196m | $272m |
| Diluted EPS | $1.39 | $0.67 | $1.90 | $2.37 |
The filing does not provide a conventional operating-margin measure. Q2 GAAP earnings improved, while six-month earnings declined. Six-month non-GAAP operating income was $227m versus $229m; management’s non-GAAP measures exclude specified fair-value and other items and should not be treated as GAAP results.
- Balance sheet at June 30: assets $13.581bn; liabilities $6.859bn; shareholders’ equity $6.722bn. Long-term debt was $1.233bn carrying value (reported principal was $1.454bn before debt held within the group and other adjustments).
- Investments and liquidity: investment portfolio $10.793bn, including $1.159bn of short-term investments; cash $190m and restricted cash $4m. The company said it expects sufficient holding-company liquidity for the next 12 months and targets liquid assets at insurance subsidiaries of 1.5 times projected operating cash needs over the next four quarters. Some assets are restricted or held in trust.
- Cash flow, six months: operating cash flow was $(198)m, compared with $444m provided in 2018; investing cash flow was $631m provided and financing cash flow was $(343)m. Cash and restricted cash ended at $194m. The operating cash-flow decline reflected, among other items, the prior-year SGI transaction proceeds, higher claim payments (including COFINA) and lower premium collections.
- Portfolio and reserves: net insured financial-guaranty par outstanding was $235.367bn, down from $241.802bn at year-end 2018. Below-investment-grade exposure was $8.863bn, or 3.8% of net par. Net expected losses to be paid were $960m, versus $1.183bn at year-end; this estimate is management’s probability-weighted projection, not a maximum-loss figure.
- Capital returns: the company repurchased $190m of shares and paid $39m in dividends during the first half. It reported a $0.36-per-share dividend for the period and 99.8m shares outstanding at June 30.
Material changes versus comparable periods
- Q2 revenue rose 21% and net income rose to $142m from $75m. The loss-and-LAE line shifted to a $1m benefit from a $44m expense; improved U.S. RMBS results and higher fair-value gains on financial-guaranty VIEs contributed. Q2 credit-derivative fair-value results moved to an $8m loss from a $48m gain.
- Six-month revenue fell to $461m from $513m and net income to $196m from $272m. Lower premium accelerations from refundings and terminations, higher loss expense and a $30m credit-derivative fair-value loss (versus an $82m gain) weighed on results.
- Economic loss development for the first half was a $39m benefit overall, but included $154m of loss development in U.S. public finance, primarily Puerto Rico, partly offset by a $184m benefit in structured finance, mainly U.S. RMBS.
- The prior-year comparison includes the June 2018 assumption of substantially all of Syncora Guarantee’s insured portfolio, which contributed $330m of gross written premiums then; this makes year-over-year new-business comparisons less representative. First-half 2019 gross written premiums were $90m versus $466m, and present value of new business production was $96m versus $515m.
Outlook, commentary and principal risks
- No formal earnings or revenue guidance is provided. Management described low interest rates and tight municipal credit spreads as dampening bond-insurance demand, while defaults among municipal issuers have increased awareness of the product. U.S. bond-insurance penetration by par was 5.9% in the first half of 2019.
- Puerto Rico exposure was $4.494bn net par, all rated below investment grade; the company had paid claims on all such exposures except PRASA, MFA and the University of Puerto Rico. Restructuring outcomes, claim recoveries, pledged-revenue priorities and ongoing PROMESA litigation remained uncertain. PREPA’s proposed restructuring support agreement was subject to court, creditor and documentation conditions.
- On August 7, 2019, after quarter-end, the company agreed to acquire BlueMountain for approximately $160m, subject to adjustments and customary approvals and consents. It also plans to contribute $60m at closing and an additional $30m within a year, and expects to invest $500m in BlueMountain-managed vehicles and accounts within three years of closing. Completion, integration, client retention, investment performance and funding are risks.
- Reported results can be volatile because of credit-derivative and VIE fair-value changes, foreign exchange, investment marks, claim estimates and recoveries. All liabilities measured at fair value were Level 3; management noted valuation uncertainty and limited market inputs for certain instruments.
- Other exposures and contingencies include litigation, reinsurer collectability and recapture rights, possible collateral demands, and approximately $740m of gross potential liquidity claims on leveraged-lease strip policies if all relevant leases terminated early and obligors failed to pay. Management said none of these transactions had generated a claim to date.
Important facts for investors to verify
- Progress and final outcomes of Puerto Rico restructurings, litigation, and recoveries, particularly for general-obligation, PRHTA and PREPA exposures.
- Whether actual claims, recoveries and RMBS performance support management’s $960m net expected-loss estimate and its assumptions.
- Underlying drivers of cash generation and the availability of unrestricted funds, given negative first-half operating cash flow and regulated-subsidiary dividend constraints.
- BlueMountain closing approvals and client consents, total funding and investment commitments, and subsequent operating and integration performance.
- Repeatability of earnings excluding one-off or non-cash fair-value movements, including the distinction between GAAP results and company-defined non-GAAP measures.