Greetings, welcome to the Homeowners Choice second quarter 2011 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, Mr. Jay Madhu, Vice President of Investor Relations. Thank you, Mr. Madhu. You may begin.
Good afternoon, welcome to Homeowners Choice's second quarter 2011 financial results conference call. On the call today from Homeowners Choice, Inc., are Paresh Patel, Chief Executive Officer, and Richard Allen, Chief Financial Officer. Before I hand the call over to Paresh, I wanted 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, and 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 filing with the Securities and Exchange Commission.
Should any risks or uncertainties develop into actual events, these developments could have material adverse effects on the company's business, financial condition, and results of operations. Homeowners Choice, Inc. disclaims all obligations to update any forward-looking statements. I will now turn over the call to Mr. Paresh Patel, Chief Executive Officer. Please go ahead, Mr. Patel.
Thank you, Jay. Oh, and by the way, happy birthday. Good afternoon, everyone, thank you for participating in today's conference call. As stated before, joining me today is our Chief Financial Officer, Richard Allen. Earlier today, we released our financial results for our second quarter of 2011. The press release and other materials are available on our website and also on EDGAR, we encourage investors to look at those materials. Let me first turn the call over to Richard to review the financials, I will then conclude with some additional thoughts before we take your questions.
Good afternoon, everyone. Thank you, Paresh. The second quarter was a good one for Homeowners Choice. Second quarter was our 15th consecutive quarter of profitability. For the quarter, revenue was $19,784,000, compared to $17,411,000 during the equivalent period one year ago. Second quarter net income was $2,301,000, compared to $1,282,000 for the second quarter of 2010. Basic earnings per common share for the quarter was $0.32, compared with $0.21 during the same period in 2010. Diluted earnings per common share was $0.30, compared with $0.19 in the second quarter of 2010. The second quarter earnings include a one-time bargain purchase gain of $575,000 net of income tax. The gain results from the company acquiring the assets and operations of the Tierra Verde Marina holdings and was due to the fair value of the net assets acquired exceeding the purchase price paid.
From a financial and business perspective, midway through 2011, we are in a very strong position, laying a solid foundation for the second half of this year and beyond. Second quarter contained several highlights. Gross premium earned of $31.2 million increased 4.1% year-over-year. Cash, short-term, and other liquid investments are at $123 million. We continue a conservative investment portfolio. Losses and loss adjustment expenses were $10.5 million in the quarter, compared to $10.9 million for the corresponding quarter of 2010. Policy acquisition and other underwriting expenses were $2.8 million for the current quarter, compared to $2.7 million for the second quarter of 2010. Other operating expenses for the second quarter of 2011 were $2.7 million, compared to $1.9 million for the second quarter of last year.
In summary, we had a very good quarter as we continued to execute against our strategic initiatives while investing in our future growth. We are proving the value of our business model, tuning our fixed costs, generating increased profitability and cash flow from operations. Thank you. Paresh.
Thank you, Richard. As Richard noted, we acquired nine acres of prime waterfront property at a bargain price. That's what led to the extraordinary $0.08 gain in the second quarter. We look forward to the value of that asset increasing in the future as the economy recovers. On another note, we continue to make progress towards entering the Alabama market by the end of this year. We also continue to pay dividends in order to provide a return to our shareholders for their investment. On a housekeeping matter, effective June 1, 2011, we entered into excess catastrophe reinsurance treaties, which provide approximately $345 million of coverage through non-affiliates and aggregate losses and loss adjustment expenses for the 2011-2012 hurricane season.
We expect to be charged approximately $35 million in annual premiums with respect to these new reinsurance treaties, with such costs to be recognized over the reinsurance treaty period covering June 1, 2011, through May 31, 2012. In comparison, our reinsurance treaty period covering the 2010-2011 hurricane season provided $390 million of coverage through non-affiliates for event losses and loss adjustment expenses for event at a cost of approximately $59 million, which we recognized over the period of June 1, 2010, through May 31, 2011. The slight decrease in premium applicable to the 2011-2012 reinsurance treaty year primarily results from our improved geographic dispersion of our policy base. As we enter the second half of 2011, Homeowners Choice is well-positioned for the future. Despite the continuing economic turbulence, we are enthusiastic about the opportunities that lie before us. With that, we are ready to take your questions. Operator?
Thank you. At this time, we will be commencing our question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate that your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For any 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 is coming from the line of Mr. Howard Halpern with the Taglich Brothers. Your line is now open. You may proceed with your question.
Congratulations. Great quarter. My first question is, I guess, regards to the average cost of a policy or the average premium you're getting. Is that now with the 12.1% rate increase going to be closer to $2,000 than $1,800?
Howard, simple answer to that is, yes. Over the course of the next year, the average price of policy will increase by about 12%. It won't quite be a pure 12% because obviously some higher price policies may drop off more than lower price policies, et cetera. Roughly speaking, the average price of policy should go up by 12% starting August 1, running through the end of July next year.
Okay. If you could talk a little bit about, because I think we talked about it last quarter, the marketing program that you're using to inform and drive organic growth through independent insurance agents. Can you just add some color on how that is progressing and at what rate you're gaining new policies through that initiative?
Yes, Howard. One item about the thing is that we've always kept in mind that as we enter the summer months, we are now coming up on the main part of the hurricane season, we sort of reduce our expansion during that time. We are now in the third quarter, we are being extremely selective, shall we say, in adding any policies at this time. In terms of what our marketing capabilities are capable of at this point, before we started doing the drawdown over the summer, we had reached a point where we were getting 1,000 new applications a week, and we were taking about 100 policies a week. Clearly we have that kind of capability. We just choose not to activate that during the summer months, as you can imagine.
Right. Okay. That leads me into my next question, which, and it's, I guess, really a two-parter. With all in the news, all the rate increase requests and being granted, as well as talk of privatizing Citizens, how do you envision the landscape playing out over the next year or two, especially, that you might have actually a nice competitive advantage as the rates go up for those other companies compared to modest increases for you? Does that just open up the pool of potential high-quality policies?
Short answer is yes. What we are seeing when we sort of were getting 1,000 applications a week is a lot of people looking, shopping their business to other carriers because they're unhappy with their current carrier raising their premiums by 20%, 30%, which you can imagine causes quite a sticker shock to them. We have chosen to take a different tack, which is we appreciate the tough economic times our policyholders are going through, we have gone to great lengths to hopefully choose good policyholders. We're trying to minimize rate increases to have a much more stable and consistent book of business. Our strategy, we think, is much better for the long term, it does seem to open up more opportunities to us as we go forward.
The privatizing of Citizens, I know they're starting to talk about that, I think, again. If it were to come to pass, how long a process might that actually be before it would be privatized?
Interesting question. Obviously, there's politics and finances and legislation and all kinds of things involved in the matter. I guess my simple answer would be, if you're trying to privatize Citizens and somebody actually buys it, I guess it could be done as soon as a buyer comes along who's willing to take on all that risk, which everybody says is inadequately priced, in its entirety. Alternatively, I think the other thing that might be about to happen with Citizens is that they will actively look towards depopulating Citizens and having carriers take out policies. Sort of like how Homeowners Choice grew very rapidly in 2007, 2008, doing that. I am thinking the state, going forward, is going to look at one of those two alternatives. Whichever of the two is chosen or proceeded with, I think we look forward to participating in the process.
Okay. Just the final question. The conservative nature of your portfolio in these turbulent times. I guess, could you describe a little bit of what type of investments you hold? Is it still mostly treasuries?
Actually, I think if you look at the second quarter balance sheet. Dick, am I correct, about $80 million is in cash and cash equivalents?
Yes. We got $80 million in cash and cash equivalents, $23 million in fixed maturities.
Okay.
$5 million in equities. An extra $14 million in just time deposits.
If you sort of look at that situation.
Well
We're sort of out of most things, and we're mostly sitting in cash.
Okay. Well, just keep up the great work, guys.
Thank you, Howard.
Thank you.
Thank you. Our next question is coming from the line of Casey Alexander with Gilford Securities. Your line is now open. You may proceed with your question.
Yeah, thank you. First of all, just from housekeeping, I'm sort of coming up with a fully diluted share count of 6,575,000 shares, but do you have a number for that?
Not right with me at the present time, Howard. I've got to look and figure it out.
Casey.
Casey, I'm sorry.
That's okay. Secondly, this quarter seems to consistently evidence some strong control on the policy acquisition and underwriting costs. Is there a seasonal aspect to that, or is it just a coincidence that it was a very low number this year and a very low number last year?
Well, part of it, we're in line with generally accepted accounting principles, where the second quarter is one of our, probably our largest for writing of business premiums. Therefore, we're deferring a lot more than we do in any other quarter, which is going to tend to spread that cost out over the term of the policy as the premiums earn.
Okay. Secondly, the Marina deal is kind of an unusual transaction. Paresh, can you give us some color on how that came about and how the company was introduced to it, got involved in it, and determined to take advantage of it?
Absolutely. This is a great follow-up question to the one that Howard asked about our balance sheet and being conservatively invested. Clearly, sitting $80 million in cash, earning zero interest is not an optimal position to be in, equally well, we tend to be conservative. What that does give us on the flip side is flexibility to respond quickly when opportunities come along. What basically happened was, the property in question, it's a prime piece of property that everybody in our area of Florida is well aware of, and it's literally a jewel in Pinellas County. The property, as you can imagine, in tough economic times, ended up in foreclosure. The county held a foreclosure sale, we showed up, and lo and behold, we walked away winning the auction.
As was stated about the $0.08 was owing to earnings, it was because when appraisals, et cetera, were done, the price we bought this thing for was such a bargain that we actually, from an accounting perspective, had to mark it up to put it on the books.
What was the purchase price at auction?
$5 million plus $100. $5,000,100.
Got it. I understand. We'll call it $5 million for rounding purposes.
Yes, exactly.
Okay. It was appraised at near $6 million almost immediately.
Actually, I think it may have been appraised at slightly more than that, accounting has different ways of how much you absolutely have to book, et cetera.
Right. I'm sure you had some costs to close and things like that.
Yeah. To provide some yardstick for those not familiar with the property, et cetera, two items that may provide some color. The outstanding loan on the property when it went into foreclosure was something in the nature of $16 million. Okay. Within a week of owning this property, we actually had three offers of six and a half million for it. If that provides some yardstick as to how much of a bargain this was.
Yeah.
Okay.
All right. Well, if you guys can send me an email later with the fully diluted share count, and also if you have an adjusted book value that's adjusted for the preferred offering earlier this year, that would be helpful too.
Okay. The fully diluted shares, just a moment. For the quarter, it's 7,730,000 . For the six-month period, it's 7,000,215.
Okay. All right. Thank you.
Thank you.
Thank you. Our next question is coming from the line of Steve Rudd with USIP. Your line is now open. You may proceed with your question.
Hi. First, thanks for the hard work. I know you've been working very hard, and we really appreciate it as shareholders and admire you for it. I wasn't sure if I heard correctly. Last year, we had $390 million of reinsurance or 319?
390.
$390. We've skinnied that down by $45 million.
Yes. The question I think you're looking at is how do you arrive at $390 was the right number last year. How did you arrive at $345 million being the right number this year? The way that is done is that we submit our portfolio to third-party models, RMS, AIR, that kind of thing, and they mark the 1-in-100 year PML, as it's known in the industry, and that's the limit to which we buy to. The other criteria that we always use is we try to buy 2.5% of our total insured value. We use both criteria, and whichever the criteria is higher is what we buy to. Last year, while we bought $390 million, it was $390 million on $15 billion of TIV.
This year, it's $345 is the open market spend. The 100-year PML is $360 because we put some held in our captive, but the $360 compares to a $14.1 billion TIV equivalent.
Okay.
We reduced it not because we bought less, we reduced it because of dispersion, we had to buy less, and the exposure is slightly less this year.
Okay, I got you. We're seeing some in the reinsurance market. Are you seeing no pricing firming? Which is bad for us, but are you seeing that as well?
You mean for reinsurance?
Yeah, for reinsurance. I'm sorry, for reinsurance. Yeah.
Yeah. Two comments on that. When we look at the reinsurance market, from our perspective, there's two pieces. There's the state-provided reinsurance, and then there's the private market, open market reinsurance, as we call it. Due to legislation passed a couple of years ago, state-provided reinsurance is getting less plentiful and more expensive each and every year. There's a layer called a TICL layer, which used to be $0.025 rate-on-line four years ago. Now it's $0.10 rate-on-line. It's quite a rate increase.
Yeah.
That's just automatically mandated that it's going to go up. We sort of see those increases. On the open market stuff, yes, the prices did go up, and we've been very aware that lots of people have said the rates went up this year over last year, but our own experience was much better than that. I think we bought more open market limits for lower total $ spend than we did last year.
Okay. I stumbled and said reimbursement. We are supposed to at some point get or hopefully we'll get that premium reimbursement from these Citizens' policies that we acquired. When does that kick in, at what level, and how far are we from that, both in time and amount?
Actually, I think that was not in the cards at this point because how that works is it's dependent on how many policies you take out under one particular contract, which lasts a span of 18 months.
We don't have a contract that's active at this moment in time. All accounting pretty much with all Citizens takeouts that we've done in the past is pretty much settled at this point.
Okay. I got you. Hopefully, that means we've been so selective that we didn't need to bother with it. It wasn't worth it, is basically what you're saying.
Yes. I mean, a different way of putting this is, if you look, we acquired about, and I'm doing this off the cuff, about 20,000 policies in 2007 from Citizens.
We probably did about 70,000 in 2008. We only did 25,000 in 2009, and we did 8,000 in 2010. You can sort of see that trend, yeah?
Yeah. Okay. Got you.
It may change very quickly if they decide to privatize Citizens as Howard was asking earlier, but I'm just giving you what the past has been, yeah.
On this, I don't know the Tierra Verde Marina. I looked it up as we were talking because I was pretty thrown. That's a $5-plus million that you're describing as equity right now?
Yeah.
On the balance sheet, or is that separate and apart?
It's shown on the balance sheet as property and equipment.
Oh.
It's part of the $15,770,000.
Okay. Now we are the owners. Are we going to operate that marina? What are you going to do with it? Are we just going to hold it and wait for better offers to sell, which probably is not a bad idea?
Yeah.
What are you going to do?
The simplest answer to that is Because I've been asked that question quite a bit for the last three months. We happened to buy a good piece of real estate. It happens to come with a shopping plaza on it, a boat dealership, and a marina. These are things that came along with the purchase. While we obviously got a great deal longer term, let me assure you, we're not getting into the marina business. We've basically made a good real estate investment, and we will, at appropriate time, monetize on that, whether it's by selling it or leasing it out or whatever the case may be. It may be a long-term investment because I don't necessarily know the real estate market is recovering immediately.
We're collecting rents. We have to pay, I guess, just property taxes and operations on it. Is it cash flow positive right now?
Let me answer it this way. Let me talk about the other piece of real estate that we also own, which is our corporate headquarters. If that experience sort of may serve as a guideline as to what's going to happen with the Tierra Verde acquisition. When we bought our corporate headquarters, the building was 85% vacant and needed a couple of million dollars of investment to refurbish it to current standards. When we did this, obviously, it was cash flow negative in the short term because we're investing capital in cleaning up the property. Having done that, 15 months later, the appraisals that we're getting on the same piece of property are almost double what we paid for it.
It sort of becomes more of a capital appreciation play where you, in the short term, make some investments, then the place becomes cash flow positive, and when it becomes cash flow positive, the appraised value of the property increases significantly. I think that the marina is going to go through the same transformation as we go through it. Clearly, only three months into this, we are still assessing the needs of the marina and then beginning the investment, which we estimate to be about $1 million to refurbish it to its optimal state. Because clearly, when you buy something from foreclosure, it's not going to be in pristine condition.
Sure. It's becoming interesting a little bit because, in a sense, we're almost getting an insurance company with some form of REIT attached to it that maybe you'd spin off at some point. I don't know. Is that where you're headed? You're probably one of the brightest guys I've ever come across, so you're not just a flipper. You're pretty much a long-term thinker and delving in there if you would like to just share with us what your thinking is.
Thank you for the kind words.
Usually, I cut with some nasty remark after.
Yeah. Yes. Look, as we look at this investment, as the insurance company is now operating in a very healthy position, but obviously, along with it, we sort of have this investment portfolio that we also need to manage. With that in mind, you would try to do investments in items that hopefully increase shareholder value over the medium and long term.
The real estate investments are obviously headed in that direction because there are things that can be bought at such great prices currently, if you have the capital, which we do. What we do with them long term is going to be interesting because as long as these assets stay on our books, as I understand the accounting principles, we have to put them on our balance sheet at our purchase cost, not the current market value. There's no mark to market on real estate. Ultimately, in order to get mark to market on real estate, you're going to have to do one of two things, either sell it, which we may not be too inclined to do, or as you pretty much hit the nail on the head, spin it off in some form of a REIT or something. Yeah.
Mm-hmm. Okay. I have to say, really my stomach dropped when I saw that you bought a marina because I said, "Oh, my gosh, this guy's got his feet on the ground, likes boating, and he's buying toys with our money." The fact is that you've got a plan in mind, and you're buying it on the cheap, and you're fixing it up, and you've got a bigger plan in mind, which is put a few of these together and spin it off, and we'll really make some dough. I'll keep my dollars on the table with you, and I hope you'll keep buying things on the cheap. I'm okay with that.
Thank you.
Thank you very much. I do appreciate it. It's not easy. The path you're taking is not easy, and it could be disconcerting to investors who don't get it. Assuming you're on the up-and-up, which for the moment looks to be the case, and explain it to us like you just did, that's very helpful, and we'll keep our dough in there. One last question. The $0.23 net that we're seeing, on an earnings basis, we've noted that this is a better quarter than typical, can we see that now? Is that a reasonable expectation for the balance of the year or slightly better? How's it going to look? Put aside storms and the like.
We tend not to give out big forecasts on earnings estimates et cetera, because there is some volatility to the business.
Yes.
Having said that, if you try to do year-over-year comparisons, as Howard had pointed out, because of rate increases, our revenue seems to be increasing. As I pointed out on our reinsurance contract that went into effect on June 1, reinsurance costs on a combined basis are down. Clearly, hopefully, you're going to get some degree of margin expansion. That should flow through the bottom line in terms of earnings per share.
Yeah. We should take this, given that nothing's given, but basically, $0.23 could be a reasonable baseline because we got $4 million on 7 million shares that we can spread over the next four quarters, $1 million per quarter.
Yeah.
Which is what? Like $0.10 after tax, probably?
Yeah.
We could even say 33. Mm-hmm.
Yeah.
Right?
Yeah.
Yeah. Okay. All right. Again, thanks so much, and we'll see if I continue with my kind statements on the next call. We appreciate it, really do.
Thank you.
Thank you. Our next question is coming from the line of Bernie Harris with BJ Harris. Your line is now open. You may proceed with your question.
Oh, congratulations for two reasons. You're one of the few stocks that was up today.
Thank you.
That's always a good thing.
It closed, according to my computer, was $6.90. I missed the date. What day was the rate increase, to what part of the month, or when did that happen?
August one.
Pardon me?
August one is the next rate increase.
The 12% rate increase basically has gone into effect with all renewals starting August one.
Okay. We'll actually see it coming up then.
Yes. Just by the very nature of how it rolls through the book, it'll take a year for it to fully work its way through our policy base. Yeah.
Okay. The second question is that the increase of roughly $500,000, $575,000 on the marina, is that taxable?
It's all deferred taxes.
Sure.
It won't be recognized until it's sold.
Till it's sold.
Disposed of.
Okay. It's just a book entry.
Correct.
Okay. In this case, and as market conditions warrant, do you see you maybe getting a little more aggressive on the investments?
I would say yes, except we're now looking today at the 10-year Treasury as being at 2.5%.
Oh.
Yeah.
You want to short those.
Yeah. It doesn't make sense to invest in those, yeah?
All right. No, I'll talk to you privately about the other things.
Yeah.
Well, congratulations. Thank you.
Thank you.
Thank you. Our next question is coming from the line of George Berman with J.P. Turner & Company. Your line is now open. You may proceed with your question.
Good afternoon, gentlemen, and congratulations for another great quarter.
Thank you.
There's not much for me to ask. The caller previous to the last one has extracted, as he said, all information that I think is necessary. I, too, will leave my money on the table with you.
Thank you.
Look forward to a further profitable future with your company.
Thank you, Mr. Berman.
Thank you. Our next question is a follow-up question from the line of Casey Alexander with Gilford Securities. Your line is now open. You may proceed.
I'm sorry to keep harping on this, the fully diluted share count you gave me can't be right. You gave me 7,730,000, and that would result in fully diluted earnings per share well below what's reported. Can you give me the correct number?
How about if Jay and I and Paresh will give you a call after this is over?
Okay. That would be fine, because that's not the right number. The headquarters building, even though it's real estate owned, it does count as an admitted asset for regulatory purposes. Isn't that correct?
That is true currently, yes.
The marina probably does not count as an admitted asset?
Yes. The marina was not purchased as part of the investment portfolio.
Right
of the insurance subsidiary, yeah?
Right. Okay, great. Thank you.
Thank you. At this time, there are no further questions in the queue. I would like to turn the floor back over to Jay Madhu for any closing comments.
Thank you, operator, and thank you, everyone, for your questions and time today. This is an exciting time for the company, and we're glad to have you be part of it. We're looking forward to a strong remainder of 2011 and keeping you appraised of our progress. Thank you and goodbye.
Ladies and gentlemen, this does conclude tonight's teleconference. You may disconnect your lines at this time. Thank you very much for your participation, and have a wonderful evening.