Jan 23, 2014
Executives
Scott Eckstein - MWW Group Al Zucaro - Chairman and CEO Scott Rager - President and COO Karl Mueller - SVP and CFO Rande Yeager - Chairman and CEO, Old Republic Title Insurance Companies
Analyst
Steven Mead - Anchor Capital Advisors Christian Wehrly - JMP securities Thomas Han - Han Brothers Bill Laemmel - Divine Capital Markets
Operator
Good day and welcome to the Old Republic International Fourth Quarter 2013 Earnings Conference Call. Today’s conference is being recorded.
At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session.
Instructions will be provided at that time for you to queue up for questions. I would like to remind everyone that this conference is being recorded.
And I would now like to turn our conference over to Scott Eckstein with MWW Group. Please go ahead.
Scott Eckstein
Thank you operator, good afternoon and thank you for joining us today for Old Republic’s conference call to discuss fourth quarter and full year 2013 results. This morning, we distributed a copy of the press release.
If there is anyone online who did not receive a copy, you can access it at Old Republic’s website which is www.oldrepublic.com. Please be advised that this call may involve forward-looking statements as discussed in the press release dated January 23, 2014.
Risks associated with these statements can be found in the Company’s latest SEC filings. Participating in today’s call, we have Al Zucaro, Chairman and Chief Executive Officer; Scott Rager, President and Chief Operating Officer; Karl Mueller, Senior Vice President and Chief Financial Officer; and Rande Yeager, Chairman and Chief Executive Officer of Old Republic Title Insurance Companies.
At this time, I’d like to turn the call over to Al Zucaro for his opening remarks. Please go ahead.
Al Zucaro
Thank you, Scott and good afternoon to everyone on behalf of all of us at Old Republic. In this conversation we are going to follow the same approach as we have in recent quarters.
There are again four of us who will participate in discussing the major factors that bear on the results for the final quarter and the full year 2013. Scott Rager will cover our general insurance segment, Rande Yeager, our Title business, Karl Mueller will comment on significant financial matters and I’ll make a few remarks at the beginning and at the end of the call.
So, let me start by addressing the overall picture and the runoff business in particular that had such a large impact on both the final quarter and full year results of 2013. Now, the results for last year’s final quarter by the way represented the third consecutive quarterly period of profitability since the onset of the great recession in 2007 -- mid 2007 for us and the big drivers of course if there is renewed profitability are represented by the very dramatic turnaround in the mortgage guaranty runoff book of business and the very positive operating momentum that we have had for a while now in our Title business.
Since, Rande Yeager will cover the Title segment in a few minutes and of course as I said Scott will cover the general insurance business. Before that, I’ll just say a few words relative to the runoff book before turning the call over to my other associates.
Let’s see, with respect to the mortgage insurance line in particular which is as you know and you can see in the news release it’s by far the largest element in the runoff book. We’ve been experiencing a very steady decline in loss provisions applicable to previously reported defaults.
The last… We’re getting a buzz on our end here, I hope operator that we’re still connected?
Operator
Yes, you are. Please go ahead.
Al Zucaro
Let’s see, where was I? I was talking about the decline in the loss provisions that apply to the previously reported defaults at year-end 2012.
And in this regard the much lower claim provisions are largely caused by the rate at which previously reported defaults are being cured or are otherwise closed out without payment and thus eliminated from the inventory of open claims. And as most everyone knows, publically available data relating to housing and mortgage lending and employment trends are all moving in a generally favorable direction and these are the major big picture factors that are driving the positive trends in the MI claim costs.
Nonetheless, we’ve continued to maintain a relatively high average claim a relatively high average claim reserve per loan in default and we’re doing this in the face of a declining risk enforce inventory, which by the way is down by almost 20% year-over-year and a traditional primary default rate that’s down by something like 11% year-over-year. And you can see the statistics in the statistical exhibit that we have posted this morning on our website.
But we mention these particular factors because they are most explanatory of the lower claim costs we have experienced in 2013. Now in addition to the substantial reduction in these MI claim costs, we have continued to operate the runoff in MI as a very low expense ratio and we have done this in the context of a steadily declining earned premium base and all that that implies for the management of a business with a long-term profitability as a fundamental objective.
And as we have said in the past this achievement would not have been possible and we’re most grateful for having retained a very good and fine group of professionals who are fully committed to manage the RMIC business for both its current runoff state, as well as for its planed and we believe necessary reactivation in a financially sound and very competitive and cost efficient manner. With respect to the CCI run-off which you see in one of the tables in the release, the operating statistics reflect a similarly substantial reduction of year-over-year claim costs together there as well with a very low expense ratio.
The CCI coverage is obviously a much smaller portion of the RFIG runoff, but it is affected by the same positive housing and general economic factors that apply to the MI line. And while the CCI claim cost as such are in a downtrend, the line unfortunately remains burdened by a relatively high level of litigation costs which we currently believe will persist for a while longer.
But leaving aside these ongoing litigation issues we think that both MI and CCI claim costs should continue in a longer term downtrend and that the MI runoff line in particular should trend toward profitability for the foreseeable future. Now in speaking of MI and this morning’s news release, we once again mentioned our objective of essentially selling that business by having it access the capital markets to in affect recapitalize itself.
And as we speak the senior RMIC executives together with the investment banking firm we have retained to do that on making a good progress towards that objective, so that within the next several weeks we should be in a position to report on this capital raise and on RMIC’s ability to exit the ORI consolidation. And by the way as we have also indicated in the past, in a standalone RMICC company, Old Republic would retain a small minority interest and at some future date our intent has been that we would most likely sell or otherwise dispose of this interest in one fashion or another.
Now in all these regards I should also reiterate a basic objective we have had since placing the MI business into runoff under the supervision of its main insurance regulator in the person and the institution of the North Carolina Department of Insurance. Now that objective of course has been to remain focused on the fundamental obligation of an insurance institution to first and foremost address the legitimate interests of its policyholders, of its main stakeholders.
And for the MI business those stakeholders, the more important ones are obviously the regulator charged with overseeing insurance companies, as well as the lenders who have bought the MI subsidiary’s policies and expect to receive the benefits of those policies. Now for some time we have reported in our footnotes and what have you that there is modeling techniques we use to assess the ultimate financial outcome of the MI runoff that those models point to a realistic we think possibility that all or substantially all of the MI claim obligations could be met by the end of a 10 year period that in our case would extend through 2022.
Now again as is the case with all models, however there are always uncertainties when one tiers into such an extended period of time. So our conclusion is to and it remains that we can achieve and provide greater certainty of outcome for MI policyholder interests by effectively shortening the runoff period.
And in so doing accelerate the payment of the deferred claim payment obligations or DPO, as we refer to them, in shorthand, that we’ve accumulated during the runoff period to-date. Now as of year-end 2013, these DPO balances amount to approximately $550 million and they are held in the reserves of our MI insurance subsidiaries.
And with regulatory approval we do have the funds in hand to payoff these obligations. So we come full circle to the idea of recapitalizing the MI subsidiaries and in so doing we can at once eliminate the supervisory burden carried by the insurance regulatory authority and also enable a new shareholder group to reactivate the business for the greater good of an important part of the insurance industry.
So that’s how we come to the conclusion and the need of recapitalizing the MI business and in so doing exiting it and so far as Old Republic is concerned. Let’s see having said all this I guess I will now ask you Scott Rager to provide some comments relative to our general insurance business.
Good luck.
Scott Rager
Okay. Thanks Al.
For information I will be referencing numbers excluding the effects of the CCI runoff in my following comments, so everybody can follow on if they wish. The General Insurance Group’s numbers are definitely moving in the right direction as to both growth and composite underwriting ratios with net premiums earned up 9.9% for the quarter and 8.1% for the year.
Composite ratio was 96.7% for the quarter and 97.3% for the year, and being at that point it was down about a 1.5 from year-end 2012. The claim ratio kicked up a bit year-over-year, but was a little more stable in the fourth quarter, and we believe the positive premium rate developments we’ve experienced over the last 24 months or so will continue into 2014.
This should result in a return to historically lower claim ratios in the workers’ compensation and general liability lines in particular on a going forward basis. Still, the workers’ compensation claim ratio continues to run two points higher than we’d like, but we think we’ll see a gradual improvement in the next several quarters as to that matter.
We continue to experience moderate premium rate increases in the various books of our several operations and in the aggregate and also as a Group, we have continued to manage our operations efficiently as demonstrated by the rather stable expense ratio even after considering the near 2% added variance we experienced in 2012 relative to that year’s treatment of deferred acquisition costs. In our view the composite ratio of 97.3% is a good benchmark of how the business performed in 2013.
We are still seeing opportunities for new business in almost all parts of the general insurance group of companies. Customer retention levels remain within or even exceed our expectations and the economy in general is providing additional support for some organic growth within the book as well.
Our current expectation is that the growth patterns we have seen in 2012 and 2013 should likely continue into 2014. So, I guess in summary we are about where we thought we would be at this point considering the general economic and competitive influence in our various markets and we firmly believe we are well positioned to meet the future underwriting performance and growth expectations in the five-year plan we posted on our website earlier in 2013.
So, having highlighted the general insurance operation, I will now turn the phone over to Rande Yeager for his comments on our title business, Rande?
Rande Yeager
Great, thanks Scott I appreciate it. Title group capped off the year with another good quarter, each of the four quarters beat the previous year’s results something that we are very proud of here.
In the most recent quarter we reported a pre-tax income of $25.7 million compared to $20.2 million in 2012’s fourth quarter. Pre-tax income for the year was 124.3 million compared to 73.8 million last year.
For the quarter premium and fee revenues were up 3.5% over 2012 and for the year premiums were up 19%. We are continuing to experience favorable claims development and for the quarter the claims ratio dropped from 7.0 in 2012 to 6.1 in 2013.
The expense ratio as well dropped slightly to 89.7%. Our agency revenue made up the bigger percentage of our total premium it has served a factor in that.
Interest rates ticked up over the past few months and that has slowed refinance activity a little. Purchase money transactions are helping to mitigate the reduction in that refinance activity, so that’s why our results are better than they were last year.
Moreover, we continue to gain market share and in the third quarter which is the most recent information that we have it indicates that we had 15.2% of the national market. I think personally there will be more challenges in 2014, but we are very optimistic about the Title business’s progress and our opportunities, there is a lot of excitement amongst our people with regard to the near and long-term prospects of our operations.
And with that I will turn the discussion over to Karl Mueller.
Karl Mueller
Okay, thanks Rande. This morning we reported total assets of $16.5 billion as of the end of December and that’s largely unchanged from both the September 30th balance and up just slightly from year-end 2012.
The make-up of the balance sheet is also substantially unchanged from earlier quarters in 2013, as well as year-end 2012. The year-end 2013 cash invested asset balance of 11.1 billion reflects a modest growth resulting from the investment of positive operating cash flows.
This growth was offset to some degree by reductions in the fair value of the bond portfolio in particular. This was due to the modest rise in interest rates that the U.S.
economy began to experience in 2013. Also as noted in the earnings release this morning, investment income has continued in a downward trend, as new investments are being made at market yields that are generally lower than those applicable to bonds that have either been sold or matured during the year.
Looking into the liability side of the balance sheet, the year-end 2012’s consolidated loss reserves have developed favorably throughout 2013. Taking it by the pieces, the general insurance reserves have trended slightly favorable, Title insurance reserves as Rande noted have developed pretty much in line with original estimates and the RFIG runoff segment reserve has developed most favorably in 2013 by comparison to deficiencies that were reported during 2012 and for several years prior to that.
This morning’s release does in fact quantify the effect of this favorable development on the 2013 mortgage insurance claim ratios. We ended 2013 with a debt-to-equity ratio of 15.1% and a debt-to-total capitalization ratio of 13.1%.
These ratios have trended downward consistently during 2013from the comparable ratios set year-end 2012 of 15.9% and 13.7% respectively. Al commented earlier on the standards of the recapitalization plan for the mortgage insurance companies.
Upon a successful completion of the plan Old Republic will no longer have the controlling interest in the mortgage operations and will thus deconsolidate the mortgage insurance subsidiaries. At that point in time the potential risk of an accelerated maturity of our convertible debt securities attributable to our MI subsidiary, Republic Mortgage Insurance Company will have then mitigated.
Shareholders’ equity as of year-end was just shy of 3.8 billion or $14.64 per share which is an increase of $0.61 per share from the prior year-end. Operating earnings per share in excess of shareholder dividend added $0.19 and $0.65 to book value for the quarter and for all of 2013 respectively.
All other changes in book value for the year are included in the table on Page 7 of this morning’s release. From a parent company liquidity perspective, we ended the year with approximately 216 million of cash and highly liquid securities that are readily available to the ORI holding company.
This balance is in fact down from September as we have made additional investments in our general insurance group of companies during the fourth quarter to support their continued growth. We do remain confident that the sources of cash to the holding company are sufficient to meet our foreseeable operating needs.
So there you have the financial highlights and saying that I will now turn it back to Al Zucaro for closing remarks before we go to questions and answers.
Al Zucaro
Okay, so again there you have it, and so far as our comments, and highlights of what’s happened in this latest quarter and for the whole year. The bottom-line pressures and the potential threats to the parent company liquidity as Karl just mentioned, that were of some concern in recent years we believe that are now clearly behind us.
So now we are I must say happily looking forward to growing Old Republic’s business on a very solid ground in its core areas that would remain after the MI sale so to speak, and of course those two core areas are the general insurance business and its multiplicity of subsidiaries engaged in various niche markets, as well as our fast growing and orienting title insurance business under Rande’s leadership. So, on this note I suspect we will now proceed with the question-and-answer period that we’ve provided for in this discussion.
So operator if you can turn it on to whoever has questions, that’ll be great.
Question
and
Operator
Thank you. (Operator Instructions) We’ll go first to Steven Mead with Anchor Capital Advisors.
Please go ahead.
Steven Mead
Hello Al.
Anchor Capital Advisors
Hello Al.
Al Zucaro
Yes sir, how are you Steve?
Steven Mead
I’m alright. Can you talk a little bit more in terms of the insurance business and provide a little bit of sort of color as it relates to the different sort of lines of business and talk about from the terms of volume and price?
Anchor Capital Advisors
I’m alright. Can you talk a little bit more in terms of the insurance business and provide a little bit of sort of color as it relates to the different sort of lines of business and talk about from the terms of volume and price?
Al Zucaro
You’re talking about the general insurance business in particular, right?
Steven Mead
Yes.
Anchor Capital Advisors
Yes.
Al Zucaro
And you’ve seen, Steve you’ve seen the statistical exhibit I take it that we posted on the web this morning. And as you look at that you will see that, we had some pressure from a lost cost standpoint in the workers comp area and that’s a continuation of pressures we’ve experienced since 2011 in effect and those continued to about a similar extent in 2013 as they did in 2012 and as I think Scott estimated before, we think that those should start to abate as 2014 moves along and as we get further help from the rate increases that are flowing through the system with respect to comp as well as the general liability line in particular.
I think Scott also indicated we think we’ve got very good growth opportunities in general insurance, that the competition seems to be relatively reasonable and stable. So we don’t have any [indiscernible] and particularly in the initial areas in which we play.
We don’t seem to have any crazies out there that are undermining the fundamental need for rate support in a risk necessary in a very relative part. So, things look good.
I can’t think of single part of our business or single industry that we serve that does not have good opportunities for growth and growth at a profit. If you look at the statistics, as I say in the exhibit as well as in the brief table that’s shown in the news release this morning, you will see that when you eliminate the CCI product from the general insurance business, the business is beginning to clock in with a 96% moving towards a 95% composite ratio.
We’re going to get some help, I think ultimately from the investment side on the business, as rates start to increase and we’ve got a very liquid investment portfolio, which can be easily repositioned to take advantage of rate improvements as they come down the pipe . So, things look good in the general insurance business going forward.
Operator
At this time, we have one question remaining in queue. [Operator Instructions].
We’ll go next to Christian Wehrly with JMP Securities. Please go ahead.
Christian Wehrly - JMP securities
I had a couple of numbers questions, for starters on the general liability line. It looks like your last ratio ticked up a bit in the quarter.
I was just wondering what was driving that?
Al Zucaro
Well, of the two lines that have been challenging to us -- comp is the biggest of course but the GL [ph] line, because it doesn’t have the kind of volume and the number of accounts that we have in the comp tends to be very, very volatile. It is also the line that’s got some remaining A&E types of claims in there and sometimes those claims can’t be called correctly from a reserving standpoint.
So, when we settle them or pieces of them, sometimes we do get hit. And so we feel the combination of the relatively small number of accounts, relatively small number of the claim accounts is what makes the line particularly volatile.
That’s why you’re seeing what you see. I wouldn’t be surprised if this year you experience a complete turnaround and we will be at a loss to explain why all of a sudden it’s got so much better.
Christian Wehrly - JMP securities
Okay. So, I mean was there specifically an A&E sort of claim in the quarter then or you’re just sort of speaking a little bit more globally?
Al Zucaro
This is more of combination of several claims throughout the system that just turned up -- became a severity issue as the individual claims for the most part.
Christian Wehrly - JMP securities
Okay. And sort of on the other side of the claim, financial indemnity outlined in the quarter, you had a negative loss ratio.
So, I was wondering what was driving that?
Al Zucaro
That came mostly or substantially -- correct me if I am wrong Scott – from the surety operation where, when we get a claim in surety, particularly if it applies to contractor business, which is one of the areas that we play in, that we do not necessarily recognize the salvage opportunities that may be there until we’ve got them well in hand. And I believe again, correct me if I am wrong Scott, that in the 4Q we did recognize some of these recoveries that had not previously been booked, as I say until we had greater confidence that they would be there.
That’s the main reason you see the negative. It’s a takedown of reserves by virtue of recoveries of salvage.
Operator
We’ll take our next question from Thomas Han with Han Brothers.
Thomas Han - Han Brothers
I am sitting here with two perplexed ORI shareholders, Bill Knox and Andrew Con. And we’re trying to figure out how the disposition of the business that you are going to dispose of in the next few weeks benefit shareholders more than just keeping it?
In other the words, they are saying why not keep it and it will create more shareholder value as it runs itself off, as opposed to disposing of it, as you described in your comments and I was unable to help them with an intelligent answer, so I thought we’d lateral it all back to you.
Al Zucaro
Okay. Well, as I think we tried to explain, what is occurring, what has been occurring with that business in these terms; that business, as you know the business operates by virtue of regulatory rules.
And from a regulatory standpoint the only reason why the company is in existence is because of special regulatory considerations having to do with the treatment of the so called DPO, Deferred Payment Obligation, claim users. Were it not for that treatment, the company would be insolvent.
So what has occurred by putting the company in run-off has been that we have bought a time together with insurance regulators, we have bought time to in fact generate profits to offset the deficit that exists in its capital account. There is never any assurance that a regulator would in fact give us the time and I believe I mentioned this 10 year period extending to 2022, that would be extended for us, so we don’t know that.
More importantly however, again as I tried to say, we have to be focused on the needs of policy holders, and in our case the policy holders for the mortgage guarantee business are basically the major lenders, the major banks that in fact made real estate loans to individuals, purchase loans or what have you, and indirectly Fannie Mae and Freddie Mac, which as you know, the major purchases and securitizes of mortgages in this country. So that’s what I tried to say in my remarks and that is that we have to be focused on the basic obligations of an insurance institution to its policy holders, as opposed to the shareholders.
Thomas Han - Han Brothers
Once the policy holders, let’s take two scenarios, one scenario Al is you effectuate the plan that you are talking about and that’s plan one. And plan two is just let the situation stay as it is and continue to improve.
How do the policy holders and the stakeholders compare with those two scenarios?
Al Zucaro
Well because the policy holder is beneficiaries of the policy is here to force [ph] , since we put the company in run-off operating mode have taken a hit on their income statement and balance sheet therefore by virtue of not getting paid the so called deferred payment obligation. As you may know, from what you’ve heard in the past or what you read in our footnotes, the run-off plan with the insurance department approval was put in place to allow the MI companies to pay 60% of all claims settled and retain the 40%.
Those policyholders cannot recognize that 40% until they get it.
Thomas Han - Han Brothers
But are we seeing in scenario one, where we do nothing, they continue to get paid only a portion; but in scenario two, where two weeks from now you sell the company, they’re going to be in a position to get a 100% of their claims paid.
Al Zucaro
Correct.
Thomas Han - Han Brothers
In other words, if a transaction or whatever you are contemplating takes place, these policyholders should say this is great because now we’re going to get all of our claims paid to us, because there is new capital in the company and the company is in a position to pay what they were deferring in the past?
Al Zucaro
Correct.
Thomas Han - Han Brothers
So the policyholders are much better off doing a transaction. Now what about the shareholders?
Al Zucaro
The shareholders are in a no win-no loss position. It doesn’t mean anything to the shareholders.
Thomas Han - Han Brothers
In other words, if the shareholders retain this business for 10 years and it works its way down versus doing a transaction that you’re contemplating next few weeks, it’s indifferent in terms of shareholder value?
Al Zucaro
Because as I try to say Tom before, in my comments the profits that with a new [ph], so to speak to the shareholders would have to be plowed back into the company in order to make it right because the company without that DPO accounting treatment is not solvent.
Thomas Han - Han Brothers
Okay. And so what I can tell these two neophytes who are sitting here with me, you folks have done a careful analysis of this, cognizant of your long time and friendly shareholders and that this in no way disadvantages -- we’re not giving away something that they may think we’re giving away?
Al Zucaro
No. We’re not giving anything away.
We are focused on what we should be focused on, primarily as an insurance organization and that is to focus on policyholder rights, first and foremost.
Thomas Han - Han Brothers
That I appreciate. But as money managers, these two gentlemen here are focused on -- their focus is a little somewhat different -- tied into each other, you know?
Al Zucaro
I know, I know. But the point is that whether you invest in a bank or in an insurance company, both of which are institutions invested with a public interest, as a shareholder you have to recognize that your interests are secondary to those of the depositors or the policyholders, whatever the case may be.
Thomas Han - Han Brothers
Right. Well, this has been very helpful, and I’m sure we’ll come back to you offline because they still have a little perplexed look on their faces.
Thank you, Al.
Al Zucaro
Okay.
Operator
We’ll take the next question from Bill Laemmel with Divine Capital Markets. Please go ahead.
Bill Laemmel - Divine Capital Markets
Thank you guys for finally getting the stockholders equity going, on the upside.
Al Zucaro
We’re getting there Bill.
Bill Laemmel – Divine Capital Markets
Yes. Well, it was a long that turn down trend and it looks like it’s in the process of reversing.
Rande, you had incredible opportunities to pick up agencies in the Title business, and my goodness, I noticed that one opened up down the street here in New York. So I just wondered are those opportunities still like they were or do you think that they’ll diminish somewhat?
Rande Yeager
No, they still exist and there is a smaller pool of underwriters or the companies with capital to make deals with those companies. So, as the market kind of shrinks for opportunities for agents who are looking for exit strategies, we’re getting more and more context relative to agents that would like to make deals with us.
So I honestly – we’ll see them picking up.
Operator
And it appears there are no further questions. At this time, I would like to turn the call back to management for any additional or closing remarks.
Al Zucaro
We’ve pretty much gone through our list here of points we wanted to make and we appreciate quite the few questions that were raised, very edifying. And as always, we appreciate everybody’s interest in our company and the long term support that we have been truly blessed with by our shareholders.
So on that note, I will bid you good afternoon and look forward to our next visit, sometime in April when we will be discussing 1Q, 2014 results. So, you all have a good afternoon.
Operator
Ladies and gentlemen that does conclude today’s conference and we thank you for your participation.