Greetings and welcome to the Homeowners Choice third quarter 2012 earnings conference call. At this time, all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Jay Madhu, Vice President of Investor Relations for Homeowners Choice. Thank you, sir. You may begin.
Thank you. Good afternoon. Welcome to Homeowners Choice third quarter 2012 earnings call. With me today are Paresh Patel, our Chairman and Chief Executive Officer, Richard Allen, our Chief Financial Officer, and Scott Wallace, the President of our Property and Casualty Insurance Division. Following Scott's opening remarks on the operations, Richard will review our financial information for the quarter, then turn the call over to Paresh for an update and outlook. Finally, we will open up the call to your questions. To access today's webcast, please go to the investor relations section of our corporate website at www.hcigroup.com. Before we begin, I would like to take the opportunity to remind our listeners that today's presentation and responses to questions may contain forward-looking statements made pursuant to the Private Securities Litigation Reform Act of 1995.
Words such as anticipate, estimate, expect, intend, plan, and project, other similar words and expressions are intended to signify forward-looking statements. Forward-looking statements are not guarantees of future results and conditions, but rather are subject to various risks and uncertainties. Some of these risks and uncertainties are identified in the company's filings with the Securities and Exchange Commission. Should any risks or uncertainties develop into actual events, these developments could have a material adverse effect on the company's business, financial conditions, and results of operations. Homeowners Choice, Inc. disclaims all obligations to update any forward-looking statements. I'll turn the call over to Scott Wallace, the President of our Property and Casualty Insurance Division. Scott.
Thank you, Jay. Good afternoon to all of our listeners. As Richard will expand upon later, we had a very successful quarter. However, we did experience an active storm season in which we incurred approximately $3.2 million in losses this quarter, which were related to tropical storms Debby and Isaac. Additionally, we were quite fortunate that Hurricane Sandy did not impact the state of Florida, and our thoughts and prayers go out to those up north who were indeed affected by the storm. We are currently in discussions with the State of Florida Office of Insurance Regulation with respect to implementing a rate increase which will likely average approximately 5.9%. We believe this increase is well below the 10.8% increase being implemented by Citizens Property Insurance Corporation. We believe this is quite adequate given our book and our current outlook on our business.
We are also encouraged by our third quarter results and remain focused on executing on our long-term goals, which include diversifying in Alabama, increasing market share, and providing exceptional service to our policyholders. At this point, I would like to turn the call over to our Chief Financial Officer, Richard Allen, to walk through the financial results. Richard.
Thank you, Scott. Good afternoon, everyone. Third quarter income available to common stockholders totaled $2.8 million, or $0.27 diluted earnings per common share. This compares with $1.9 million, or $0.27 diluted earnings per common share for the third quarter of 2011. For the nine-month period ending September 30th, 2012, income available to common stockholders was $16.8 million, or $1.79 diluted earnings per common share, compared with $4.6 million or $0.70 diluted earnings per common share for the nine months ended September 30th, 2011. Gross premiums increased 67% in the quarter ended September 30th to $53.1 million compared with $31.7 million in the same period last year. For the nine-month period, gross premiums earned increased 72% to $161.6 million versus $93.9 million for the same period of 2011.
Reinsurance costs for the quarter were 42.4% of the company's gross premiums earned, compared with 41.6% during the same period in 2011. For the nine-month period ended September 30th, 2012, reinsurance costs were 33.1% of gross premiums earned, compared with 44.3% in the prior year. Net premiums earned for the quarter increased 65% to $30.6 million from $18.5 million in the third quarter of 2011. Net premiums earned for the nine-month period reflect an increase of 107% to $108.1 million, compared with $52.2 million in the prior year. Third quarter 2012 loss and loss adjustment expenses total $15 million, compared with $10.4 million in the same period last year. It's important to note that third quarter of 2012 includes approximately $3.2 million related to claims from tropical storms Debby and Isaac.
Loss and loss expenses for the nine months ended September 30th, 2012, total $50.4 million, compared with $31.4 million in the same year ago period. The nine-month period of 2012 includes approximately $5.3 million related to the two tropical storms. Turning to the balance sheet. Investments in fixed income and equity securities total $50.9 million at September 30th, 2012 versus $39.8 million at December 31st, 2011. Cash, cash equivalents, and time deposits at the end of the third quarter, $149.2 million, compared with $112.8 million at December 31st. Unearned premiums are $120.8 million compared with $108.7 million at December 31st, 2011. Loss and loss adjustment expense reserves were $38.7 million compared with $27.4 million at December 31st, 2011.
The combined loss and loss expense ratio, key measure of underwriting performance traditionally used in the property and casualty industry, was 86.1% for the third quarter of 2012 compared with 88.5% for the third quarter of 2011. Our combined ratio for the nine-month period ending September 30th, 2012 was 77.2%, compared with 93.5% the prior year. As you can see, we have had successful underwriting results for the three and the nine-month periods ending September 30th. I would like to turn the call over to Paresh Patel, our Chairman and Chief Executive Officer. Thank you.
Thank you, Richard. Good afternoon, everyone, thank you for joining us on today's call to discuss our third quarter results. Our third quarter this year marked our 20th consecutive profitable quarter. This, despite being an active storm season with Tropical Storm Debby and Tropical Storm Isaac, which impacted earnings, we still remained profitable. Recent notable events include the transfer of our common shares to the New York Stock Exchange. We are now listed under symbol HCI. We also canceled our IPO warrants, which resulted in the exercise of nearly all of those warrants and the addition of over $4.5 million in equity capital. We increased our regular quarterly common dividend by 12.5% to $0.225 per share and declared a special common dividend of $0.10 per share for the fourth quarter.
As you may have seen in the following press release, I am pleased to announce that we successfully completed our ninth and largest Citizens assumption transaction, through which we assumed approximately 60,000 policies effective today. That equates to approximately an additional $150 million in additional annualized gross premiums. In summary, as we enter the last month of the 2012 hurricane season, a very active season, we believe that we are well-positioned from a leadership, infrastructure, and financial perspective to maintain momentum for the remainder of 2012 and beyond. Before we open the call to your questions, on behalf of the entire management team, I would like to express our appreciation for the continued support we receive from our policyholders, employees, and shareholders. With that, we're ready to open the call to your questions. Operator, please provide the appropriate instructions.
Thank you. We will now be conducting the question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment please while we poll for questions. Our first question comes from the line of Robert Cohen with Dodson & Company. Please proceed with your question.
Good afternoon.
Afternoon, Robert.
First question's about the storm losses. The $3.2 million was related to both Debby and Isaac. Is that correct?
Correct. Yes.
The losses from Debby are on top of the $2 million recorded in the second quarter, and you're adding to that total? Is that the right way to look at it?
See if I can clarify for you, Robert. If you remember, we put aside about $2 million for Debby in the second quarter because it was right at the end of the quarter.
Yeah.
We now combine the effect of Isaac, which were obviously entirely a third quarter event, but you also are doing adjusting on Debby as it rolls into the third quarter. Overall, you could say across the two storms, and I think it says so in the press release, that the combined cost of the two storms was, I think, $5.3 million. It was $2 million in the second quarter for Debby and another $3.2 for Isaac in the third quarter.
Okay.
You're getting adjusting going on for both storms, but we were trying to clarify as to what the cost of the two storms were individually and combined, yeah?
Okay. Thank you. Were there any other loss reserve adjustments from prior periods made in the quarter?
No.
Okay. I also had a question on the new assumption of policies. Can you talk a little bit more on maybe the policy size in terms of average premiums. Looks a little higher than your current book of business. Maybe the geographic regions where these policies are located, and maybe just overall comments on what made these specific policies attractive to you guys.
Okay. In terms of the overall average premium, clearly, yes, this seems to be higher than our existing book, and there's a very simple explanation for it. The assumption is very heavily focused on homeowners policies as opposed to HO4s, which are renters policies, or condo insurance policies, HO6s. The overall mix of the portfolio in type of policy, not through geographic dispersion, the type of policy resulted in a higher average premium. That's why the number is higher. I think it's averaging around $2,500 a policy as opposed to a nominal average, which is just over $2,000. What was the second part of the question, by the way?
Maybe just some overall comments on what made these policies attractive to you guys.
The simple answer, it's unfortunately too complicated to go into here. We always have a guideline as to what policies we will accept and what we won't. Basically, what made these policies attractive was that they passed our underwriting filters to make them seem appropriate risks that we would consider taking on, yeah?
Okay. Thank you. That's helpful. Just maybe one last question. Following the most recent Hurricane Sandy that came up in the Northeast, there's been some talk of possibly some new regulatory changes, maybe some changes to the terms and conditions of homeowners policies and potential for rate increases. Can you talk about any new updates in Florida on regulatory issues coming up or any changes to underwriting standards?
I don't see there's anything unusual or different occurring because of Sandy to that effect. I think the stuff you are mentioning is occurring because I think New York, New Jersey, and Connecticut are getting used to what happens in the case of a hurricane. I know they're not calling it a hurricane, they're calling it superstorm, but it's a huge wave of water washing the shore. I think down here, we went through those soul-searching days probably in the 2004, 2005 season when we were hit by eight hurricanes over two years.
Yes. Okay. Thank you for the answers.
Okay.
Our next question comes from the line of Casey Alexander with Gilford Securities. Please proceed with your question.
Hi, good afternoon. First of all, congratulations on your inclusion to the New York Stock Exchange. I think that's a great milestone for you.
Thank you.
First of all, can you give me some color on the rate increase? Assuming it's approved, when will it start to take effect? Strategically, how do you position this? Is this a strategic maneuver versus the most recent takeouts, or could you just give me some color as to strategically how you're fitting this into the program?
Okay. The first part of the question is very easy to answer. It's currently slated to go into effect on February 1. We haven't got the final paperwork yet, and that date could slip back further. Right now it's slated to be February 1 of next year, obviously. As far as the strategy and thinking, clearly we're a regulated insurance subsidiary, and we did the rate filing. Actuaries decide what number should be appropriate. There's a range of it. I think we always try to stay at the low end of the range because generally speaking, we like our policyholder base, and we are trying in these troubled times to ensure that rate increases tend to be hopefully as small as possible because we like keeping our customer base steady. I think we've talked about that in previous calls.
In terms of your retention of the new policies that you've just taken down, do you communicate any of that strategy of your rate increase versus the Citizens rate increase as a lever to try to get people to stay with you? What other methods are you using to try to make sure that as many of those policies stick with you as possible?
Casey, look, this is our ninth takeout. We've done this eight times before. We do have talking points and the stuff that we talk to policyholders for. One of the things that we are making sure we are very balanced about is that we don't overpromise and underdeliver. We tell them the facts as they are, and where we don't have an exact number, we tell them we don't have an exact number. We try to make sure that the way we approach this is that the customers we get are the people who want to be with us and have basically made an informed decision to come with Homeowners Choice. That, we'd rather sort of make sure we get this right up front as opposed to have, how shall I put this? Angst by the policyholder later on.
Now, we try to do that to the best of our abilities. There will always be a few people who will unfortunately be unhappy later on, et cetera. We try to minimize that by trying to be as forthright and balanced in our communications as possible.
Okay. I think that's fair. Secondly, this new stack of policies and your new size, how do you expect that to affect your reinsurance negotiations for next year? I am sure you already have an eye on that because that's one of the biggest variables that you're in. While I think I already know the answer, how does a superstorm such as Hurricane Sandy factor into that as well?
By the way, Casey, just so you know, the reason I am talking about the assumption, et cetera, is obviously because of Scott's former involvement with Citizens. We have clearly made sure that Scott was not involved in any of the assumptions, et cetera. Hence, all the details of this unfortunately rest with me. Scott is going to take over the operations of the policies now that we've assumed them. All this information about taking them and getting them and how we picked them was basically my remit because we had to keep Scott at arm's length away from that, yeah? Just for the record, for everybody.
Understood.
Yeah, in terms of reinsurance, et cetera, it'll be the usual annual dance. We feel that reinsurance rate should go down because we've gone six hurricane seasons without a claim so far. One would think that there should be a reduced rate. I am sure there are reinsurers who will explain to us how dangerous the world is and look at the losses, and therefore the rates have to go up, and we will have our usual negotiated answer somewhere in between, yeah?
Okay. This is a question for Scott. If we X out the storm losses that you had that fell into your loss and loss adjustment expense for the quarter, if you take those unusual losses out, you actually had a very low run rate of losses versus your gross premiums earned. Is that a reasonable sort of base run rate, or were things actually especially good this quarter? Because even when you factor in the unusual losses that you had, your loss and loss adjustment expenses were not a very high percentage of your gross premiums earned.
That's correct. That's, I think, a reflection of our additional efforts in activities, in properly dealing with the claims activities, especially those associated with loss adjustment expense and our efforts to keep that within a reasonable expenditure, which will help the entire ratio overall.
Okay. There's one entry here on the income statement that I can't quite wrap my arms around, that is last quarter, the company had $300,000 of net investment income, and this quarter it was $47,000. Yet, when I looked at the fixed income portion of investments on the balance sheet, it's pretty much the same. I don't quite understand how the net investment income could have dropped quite that much.
Casey, let me answer that as the manager of the investment portfolio. Some of the stuff you're seeing in that line item, if I'm correct, and I'm looking at Richard, who's going to nod his head hopefully, is that when we bought all the real estate on the south end of John's Pass, obviously, having just acquired it's basically still losing money. Those losses are offsetting the bond portfolio income, shall we say.
Okay.
That's why that number is moving down, yeah?
All right. Well, that answers that for me. Actually, you ran me right into my next question, which is.
Casey.
Yes, Casey.
Without the property, investment income would have been almost flat with prior year.
Okay. Okay. Got it. Flat with prior year. Okay. That leads me to my next question, which is, can you give us some color on how things are progressing with the isolated real estate opportunities that you've taken advantage of, the Marina, Johns Pass, and if worthwhile, the headquarters building?
Okay. Very simple answer. Headquarters building, which is the oldest piece of property, is cash flowing positively and has been for quite a while at this point. If you remember when we got it was negative cash flow.
Right.
Turning around, and now it's positive. The Marina is basically break even, slightly positive at this point. That's been 18 months or so. The Johns Pass properties, which we just acquired six months ago, they haven't quite got to that point yet. They're the ones losing money. Having said that, as you also recall, all of these properties are less about cash flow income as they are more about capital appreciation. We carry them on our books at purchase cost. The real value is somewhere down the road. You're going to have a capital appreciation out of them somewhere. Yeah.
Correct. Okay. All right. Great. I will turn it over to someone else now. Thank you very much.
Thank you, Casey.
Our next question comes from the line of Howard Halpern with Taglich Brothers. Please proceed with your question.
Good afternoon, guys.
Hey, Howard. How are you?
Okay. Doing okay. Surviving on Long Island.
Hopefully you have electricity.
Yeah, I actually had electricity through the storm. I was one of the lucky ones. With the assumption of the 60,000 policies, how many policies do you currently have in force?
I believe the number right now is 160,000. It will drop from here because in the assumption, there's still an opportunity for people to transfer and opt out, all that kind of stuff. At this moment in time, I would say it's 160,000.
Okay. With that current base of customers, which is over that 150,000 mark, is 2013 the year where you're going to, I know you probably already started looking at it, but is that going to be the year where maybe you start expanding into different verticals to leverage that customer base that you currently have?
I think, Howard, one of these days we will do that, right? Whether it's next year or whether it's 2014, I don't know. Obviously the size is enabling that to become easier and easier every day.
Okay. Thanks, guys.
Thank you.
Our next question comes from the line of Gregory Macosko with Lord Abbett. Please proceed with your question.
Yes. Thank you. Could you talk to me just about the turnover that you've had over maybe the last year or so in terms of or maybe as policies are turning over of the Citizens policies. Can you give us any color on that?
You mean like in terms of retention, that kind of thing?
Right. Exactly. That's what I meant, retention.
Yeah. Okay. Roughly speaking now, obviously we've got a new assumption going forward. Looking back, if you look over the last year, you've had two books of business. You had the homeowners HCI book, obviously the book we just acquired from HomeWise. Roughly speaking, the HCI book had a retention rate in the high 80s. The HomeWise book was probably, I'd say, in the low 70s, maybe even the high 60s. That's usually what we see typically in the first round of renewals. Typically how the business tends to work is you assume a group of policies. You have some concern about losing some of those customers at the first renewal. Usually if they stay with you past the first renewal, they tend to be pretty loyal. That's just been our historical track record. Do we still lose customers?
Yes, you do, because there will always be people who are selling their homes or changing agents or something or the other. Generally speaking, people tend to stick with us after that first renewal cycle.
You're suggesting that what might apply to the new 60,000 would be something along the line of 85%. Am I understanding that correctly?
No, I'm implying that the Citizens policy, the 60,000 we've assumed, right?
Yes.
They will suffer a higher attrition rate. They get a lower retention rate than our existing book for the upcoming year, because as we renew them from the assumed policies onto HCI paper, there will be a higher drop-off. Yeah?
Of course.
There will be a higher drop-off and adjustment as these policies are assumed. As the book or the majority of the book does renew the policies, it does tend to be far more stable and have less turnover in the years subsequent to that.
Is the objective of the lower increase relative to the Citizens increase, is the idea to reduce that reduction or increase that retention of those 60,000?
Well, it's partly that, but partly we've also got to worry about the other 100,000 people who are already customers, yeah? One of the things you want to do in terms of retention is you don't want those 100,000 people shopping around either, yeah?
Yes. Just compared to years past, how does that differential compare to earlier or previous increases by Citizens?
I think Citizens is on a glide path, and I think this will be their third year, where they've had basically about a 10% increase every year. In the same time, clearly we are going for a lower rate increase, yeah?
Okay. This seems like perhaps a lesser than the current one planned. Am I not right on that, or?
You mean that we are taking a lower rate increase?
Much, perhaps lower than you have in years past.
Yes, we are. Equally well, don't forget, we are regulated. The numbers basically suggest that we should take a lower increase because we are clearly having a better performance outcome than Citizens is.
Okay. The point being that that's part of the filing and important to being approved.
Yes, exactly. We are a regulated company. The OIR does a very good job both of making sure that we charge adequate rates but not excessively high rates either, right?
Right. I saw on the balance sheet that the cash has risen quite a bit. Is that a normal cash level that you expect to keep?
No. There's two aspects to the cash side. One is cash just does grow because we tend to keep 50% unearned premiums because everybody pays the premiums up front. On a balance sheet basis, the assets do grow. The reason why such a high portion of it is in cash is because of the low interest environment we find ourselves in. It doesn't necessarily make sense to invest cash to make 1% or 1.5% on a 10-year treasury, yeah?
I see.
Rather than take that chance, we tend to leave it in cash.
I see. Should we expect the cash to build a bit going forward then?
The assets will build themselves. Just what portion of them in cash versus, let's say, bonds is really a function as much of the interest environment that's out there, yeah? If we could suddenly be able to buy 10-year treasuries with a 5% yield, I think you would find a lot of that cash would get turned into 10-year treasuries, yeah?
Okay. Finally, with regard to the other investments, that includes the real estate on the balance sheet?
Yes, it does.
Okay. All right. Thank you very much.
Just a reminder, it is star one if you would like to ask a question. Our next question comes from the line of Ron Bobman with Capital Returns. Please proceed with your question.
Hi. Congrats on the quarter. I know the first one's a simple question. I'm sorry, I don't know it. On this 60,000 takeout from Citizens that's effective today, you receive the unearned premium that Citizens was holding and you're on risk today sort of coincident with that. Is that how it works?
Yes, that is correct.
As those policies come to maturity tomorrow, the next day, a month from now, et cetera, you present a new Homeowners Choice policy and obviously a corresponding rate premium for that. How does your premium level basically, and I know we're talking about averages here or generalities, but how does your rate level compare to the rate level that these homeowners are coming off of, in effect, or have had in force most recently by way of Citizens?
Well, Ron, that last part of the question gets to be very difficult to answer. In the old days, it was much easier to answer. What has happened over the last 12 to 18 months is Citizens has started changing its policy forms. It's not only just a question of price. You also run into questions of coverage as to what you provide and what they provide, et cetera. I'll give you a couple of examples. We provide liability up to 300,000. Citizens only provides 100,000. We cover pool cages, Citizens does not. There's a few other coverages like that that we get into these questions.
Even if you get premiums, they're not really apples to apples comparisons, yeah?
Got you.
These are the kinds of things we try to educate the policyholders who are assuming as to what the differences are.
Are the nominal dollars a sticker shock?
Huh?
I'm sorry. Are the nominal dollars a sticker shock? They say, "Oh, I was paying X, and now it's this mammoth increase." I know it's not apples to apples, but is there a sticker shock element that they face?
No, we try to avoid the sticker shock element. The part that we can't do is give you a, your premium was this with Citizens and it's Y with us, right? Amongst other things, we've got that rate increase going through as well. Do I tell you today's price or the rate increase price? You see the number of moving parts, yeah?
Right.
Do I compare it to Citizens today's price or Citizens premium that will be there at renewal, yeah?
Exactly. Okay. Thanks a lot for the help. Appreciate it.
There are no further questions at this time. I would like to turn the floor back over to management for closing comments.
Thank you very much. Thank you for attending the call today. It's been, again, an exciting quarter. We appreciate everybody calling in. Thank you.
Thank you.
Thank you.
Thank you.
This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.