Good afternoon, ladies and gentlemen, and welcome to the Palomar Holdings, Inc. First Quarter 2019 Earnings Conference Call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be opened for questions with instructions at that time. As a reminder, this conference call is being recorded. Now to turn the conference over to your host, Mr. Chris Uchida, Chief Financial Officer. Thank you. You may begin.
Thank you, operator, good afternoon, everyone. We appreciate your participation in our first quarter 2019 earnings call. With me here today is Mac Armstrong, our Chief Executive Officer and founder. As a reminder, a telephonic replay of this call will be available on the investors section of our website through 11:59 P.M. Eastern Time on May 23rd, 2019. Before we begin, let me remind everyone that this call may contain certain statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These include remarks about future expectations, beliefs, estimates, plans, and prospects. Such statements are subject to a variety of risks, uncertainties, and other factors that could cause actual results to differ materially from those indicated or implied by such statements.
Such risks and other factors are set forth in our quarterly report on the Form 10-Q that will be filed with the Securities and Exchange Commission on May 17th, 2019. We do not undertake any duty to update such forward-looking statements. Additionally, during today's call, we will discuss certain non-GAAP measures which we believe are useful in evaluating our performance. The presentation of this additional information should not be considered in isolation or a substitute for results prepared in accordance with U.S. GAAP. A reconciliation of these non-GAAP measures to the most comparable GAAP measure can be found in our earnings release. At this point, I'll turn the call over to Mac.
Thank you, Chris, good afternoon, everyone. Before I get started, I would like to take a moment to thank all of those people who helped us through our initial public offering, which culminated in our first day of trading on the Nasdaq stock market on April 17th, 2019. The hard work of our employees and advisors, the loyal support of our customers and partners contributed to the success of our offering, and as a result, we were able to raise approximately $87 million in net proceeds to support the strategic plan of the company. This capital infusion will allow Palomar to take full advantage of the numerous growth opportunities, including geographic expansion of our specialty property product footprint, entry into new specialty lines of insurance and stroke-of-the-pen measures, such as increasing our participation in selected existing lines of business.
We see considerable white space for expansion and are excited by the opportunity that lies ahead. Turning to today's call, I would like to provide a brief overview of our company and our growth strategy for those investors who are unable to hear our story during the IPO roadshow. I will then briefly review the highlights of our first quarter performance before handing the call over to Chris for a more detailed discussion of our results. From there, we will open the call for your questions. To start, we founded Palomar in 2014 because we saw a unique opportunity to write profitable business in several specialty property insurance markets, including residential and commercial earthquake, commercial all-risk, and Hawaiian hurricane. We believe that these markets were largely underserved, with few direct competitors focused exclusively on specialty property risks.
In many instances, these incumbents were mispricing the risk and limiting the coverage available to insurers. As a result, we strongly believe that we would develop products that better meet the specific needs of both commercial and residential insurers. Once we rolled out these products, we would ultimately capture substantial market share. To take advantage of this opportunity, we invested significant time and resources, both human and systems, into developing an analytically driven product framework that creates innovative and unique product offerings. We are licensed as an admitted insurer in all 25 states where we operate, allowing us to provide our customers the certainty of admitted insurance products, typically in the form of a state guarantee fund backstop, and to eliminate certain administrative requirements of our distribution producers.
In addition, we offer specialty property products with flexible features, broad pricing capability, and coverages that are not typical of standard products, but rather the E&S market. By offering our customers the ability to choose deductibles and other à la carte coverage options, we believe we have created products that are attractive to not only those customers who have existing policies with our competitors, but also for those customers who have not historically bought insurance in our focus markets, most notably California earthquake, where we are currently the fifth largest writer of business in the state. Importantly, our specialty property products have a strong competitive moat as they have been improved by individual state regulators and are supported by proprietary data analytics and pricing models. We employ a highly granular and analytically driven underwriting process to assess and price each risk that we write.
As part of our process, we have developed sophisticated proprietary modeling tools that utilize extensive geospatial and actuarial data, enabling automated pricing of risks at the geocode, location, or ZIP code level. As an example, our 2016 residential earthquake rate and policy form filing with the Washington State Department of Insurance had over 20,000 distinct pricing zones that take into account nuanced regional differences in soil types, liquefaction potential, and distance from known faults. In contrast, most competing earthquake insurance rate filings in Washington are based on broad territorial pricing zones that ignore the aforementioned earthquake risk characteristics. We believe our analytically driven underwriting process, combined with the decades of specialty property underwriting experience embedded within our management team, provide better oversight of our exposure, and ultimately, a competitive advantage.
This competitive advantage should result in attractive underwriting margins and superior risk-adjusted returns for our shareholders as we continue to scale our business. As we have refined our product framework and underwriting process, we have made substantial progress diversifying our business by product, market, and geography. As we launch new products, we look to borrow certain attributes of existing products, illustratively, granular pricing, flexible coverage, distribution network or systems. In 2014, our first year of operations, all of our premiums related to earthquake insurance. For the year ended December 31st, 2018, 67% of our gross written premiums were related to earthquake insurance. Additionally, we have looked to build a balanced portfolio of commercial and residential business to insulate us from shifting dynamics in the insurance market.
At year-end 2018, 77% of our gross written premiums were attributable to residential business, and 23% of our gross written premiums were attributable to commercial business. As our book of business grows and continues to diversify, we further use data analytics to manage risk at a portfolio level and inform our risk transfer strategy. Our risk transfer strategy is premised around three concepts. One, capping the loss potential from a major event. Two, minimizing earnings volatility. And three, positioning the company to capitalize on post-event demand for our products. To manage our exposure to catastrophe events, we utilize several risk mitigation strategies, most notably treaty and facultative reinsurance. Our reinsurance program enhances our business by reducing our exposure to potential catastrophe and shock losses, as well as reducing volatility in our underwriting performance, as we only retain $5 million of risk per catastrophic event.
Importantly, our use of reinsurance not only provides loss protection, but also superior visibility into earnings. Another critical component to our success in the market is our proprietary technology platform. One benefit of being a newly formed insurance company is the ability to build an operating platform that incorporates state-of-the-art technology and best practices derived from our team's extensive experience. Our technology philosophy is premised around providing ease of use to our distribution partners, portfolio management and integration, knowing our risk, as well as scalability. Our internally developed Palomar Automated Submission system, known as PASS, acts as the point-of-sale interface for our products, enabling our distribution partners to rapidly quote and bind policies via automated processing. Of note, several of our products enable our distribution partners to quote, bind, and issue policy in less than one minute.
Our systems also permit us to run detailed portfolio analytics for internal and external constituents, including distribution partners, carrier partners, and reinsurers. We believe that this real-time access to data and analytics offer advantages in distributing our products, managing our risk, and purchasing reinsurance. Importantly, we also pre-underwrite several of our products into our policy administration system, which allows us to minimize underwriting errors and scale these lines of business. Our technology platform has been a key factor in expanding our distribution network and moreover, growing the company. Our differentiated products and easy-to-use systems combine to generate high satisfaction from our producers and policyholders. This is demonstrated by our strong policy renewal rates, which offer visibility into future revenue. In 2018, our lines of business experienced average monthly premium retention of 84%, with our largest line, residential earthquake, above 93%, and Hawaiian hurricane line at 100%.
Looking forward, our growth strategy is to diversify our book of business by extending our geographic reach, broadening our distribution plan, and expanding our product portfolio. Today, we are licensed in 25 states, with California and Texas representing our largest exposures at 56% and 19% of our gross written premiums, respectively, at quarter end. We also have applications for certificates of authority submitted in three states and have notable new geographic extension initiatives underway, including the expansion of our specialty homeowners and flood products into several new states. Our first quarter results provide further evidence of the successful execution of our growth strategy and the competitive advantages that Palomar possesses. During the first quarter, our gross written premiums grew approximately 59% year-over-year.
This strong performance was paced by our residential earthquake products, which grew approximately 75% during the quarter, as well as our commercial all risk products, which grew approximately 158% for the same period. Other strong performing products included our Hawaii hurricane, flood, and commercial earthquake lines. One particular driver of growth in the first quarter was the continued success of our carrier partnership strategy. We work with over 20 other insurance companies who select Palomar to provide specialty property insurance products to their customer base. In the first quarter, we consummated a new partnership with a homeowners carrier, whereby Palomar assumed a diversified book of residential earthquake business that fit our underwriting criteria via an assumed reinsurance agreement. The partnership added approximately $6.6 million of in-force premium in the first quarter.
During the quarter, like others in the market, we saw an improving pricing environment in the commercial line segment of our business. On the whole, our average commercial account increased approximately 5% of renewal in the first quarter, though it varied by product, geography, and whether the account was loss affected. This healthy pricing environment translated into sequential improvement in our monthly premium retention for the commercial lines and the book of business on the whole. Our commercial earthquake product saw average monthly premium retention of 80% in the first quarter, compared to 74% for full year 2018, and commercial all risk was 92% in the first quarter, compared to 81% in 2018. Average monthly premium retention in the first quarter across all lines of business was 86%, compared to 84% in 2018. During the first quarter, we also made two new strategic hires.
As previously announced, we hired Robert Beyerle as Senior Vice President of Underwriting. Robert spent the last 16 years at Great American Insurance Group, most recently as Divisional Senior Vice President of the company's Property and Inland Marine division. Robert is leading Palomar's new inland marine department, and his first product is a builder's risk program that we expect to have live in the second quarter. It will provide a new source of commercial lines growth and diversification, while at the same time leveraging existing Palomar infrastructure. The second key addition to our team, Jon Knutzen, joined Palomar as our new Chief Risk Officer subsequent to quarter end. Jon joined us from TigerRisk, where he was a partner leading the firm's property specialty in reinsurance solutions practice.
Jon will wear multiple hats for Palomar in his role as Chief Risk Officer, including contributions to the data analytics team and refining our assumed reinsurance strategy. The addition of both Robert and Jon further reinforce Palomar's commitment to growing our commercial specialty lines of business in a disciplined and analytics-informed fashion. Lastly, we continue to generate high returns as our business model is benefiting from scale. While the first quarter will show we generated an annualized return on equity of a -58.2%, that is primarily a function of the $23 million non-cash stock-based compensation charge that we incurred in the quarter related to our IPO. When adjusting for this one-time expense, we delivered an annualized first quarter adjusted ROE of 35.7%, which compares to an annualized 27.7% ROE for the first quarter of 2018.
Our results are a testament to our high retention differentiated products, thoughtful risk transfer strategy, and our commitment to predictable earnings. I would now like to turn the call over to Chris for a more detailed review of our financial results.
Thank you, Mac. During my portion, when referring to the per share figure, I'm referring to per diluted common share, unless otherwise specifically noted. For the first quarter of 2019, our net loss was $14.4 million, or a loss of $0.85 per share, as compared to net income of $5.6 million or $0.33 per share for the same quarter in 2018. For the first quarter of 2019, our adjusted net income was $8.8 million or $0.52 per share, as compared to net income of $5.6 million or $0.33 per share for the same quarter of 2018. First quarter of 2019 adjusted net income excludes the $23 million stock compensation charges that were incurred related to the IPO, as Mac discussed, plus other minor one-time items, including the tax effects of those items.
Our diluted book value per share at the end of the quarter was $5.99, which was an increase of $0.33 per share from December 31st, 2018, and an increase of $1.11 per share from March 31st, 2018. Our diluted tangible book value per share at the end of the first quarter was $5.95, which was an increase of $0.33 per share from December 31st, 2018, and an increase of $1.11 per share from March 31st, 2018. Gross written premiums for the first quarter were $54 million, representing an increase of 58.8% as compared to the prior year's first quarter. This growth was driven by new business across multiple lines, strong policy retention rates, and continued geographic expansion, as we are now an admitted insurance carrier in 25 states across the country.
As Mac previously mentioned, our increase in growth in premiums was largely driven by the strong performance of our residential earthquake products, commercial all-risk products, specialty homeowners products, and the addition of new partnerships. Ceded written premiums for the first quarter were $26.1 million, representing an increase of 89.7% as compared to the prior year's first quarter. The increase in ceded written premiums was primarily due to increased ceding of written premium related to our specialty homeowners operations in the state of Texas. Ceded written premiums related to excess of loss reinsurance also increased based on higher exposure from the growth of our overall portfolio for the respective period.
Net earned premiums for the first quarter were $18.4 million, an increase of 2% compared to the prior year's first quarter due to the growth and earning of higher gross written premiums, offset by the growth in earning of higher ceded written premiums. Commission and other income for the first quarter was $586,000, an increase of 8.5% compared to the prior year's first quarter, as we expanded our fee-related activities of underwriting on behalf of third-party capacity. Our expense ratio for the first quarter of 2019 was 192.1%, compared to 61.5% at the end of the first quarter of 2018. The year-over-year increase is largely due to the stock compensation charges and one-time expenses related to our IPO, as Mac discussed.
On an adjusted basis, our expense ratio reflecting significant expenses related to building out our team and systems to capture the market opportunity in front of us, but track more in line with our historical average at 65%. We continue to believe our business will scale over the long term. The combined ratio for the first quarter was 193.8%, in comparison to a combined ratio of 66.7% for the prior year's first quarter. The adjusted combined ratio, which we believe is a better assessment of our efforts during the quarter, was 66.7%, flat compared to the prior year's first quarter. Losses and loss adjustment expenses incurred in the first quarter were $316,000, a decrease of 66.3% compared to the prior year's first quarter. The decrease was driven by lower losses for the quarter, including modest prior year loss development compared to the amounts recorded through the end of 2018.
The decrease in the loss ratio was driven by the improvements in the attritional losses for the period, including the transition of our Texas homeowners program to a fronting arrangement during the second quarter of 2018. As of the first of this year, we retained approximately $5 million of risk per cat event and have $850 million of per event coverage in place. We continue to emphasize a conservative risk transfer strategy oriented toward limiting our exposure in the event of a major catastrophe and reducing volatility in earnings. Furthermore, we protect our balance sheet in order to capitalize on post-event market demand and dislocation. Net investment income for the quarter was $1 million, an increase of 55.6% compared to the prior year's first quarter. The increase was largely due to a higher average balance of investments during the first quarter of 2019.
Importantly, we take a conservative approach as our funds are generally invested in high-quality securities, including government agency securities, asset and mortgage-backed securities, and municipal and corporate bonds, which have an average credit quality of AA. The weighted average duration of our fixed maturity investment portfolio, including cash equivalents, was 3.9 years at quarter end and 3.9 years at December 31st, 2018. Cash and invested assets totaled $159.2 million at quarter end as compared to $156.9 million at December 31st, 2018. Effective January 1st, 2018, the company adopted a new accounting standard, which prescribed several changes, including eliminating the available-for-sale classification of equity investments and requiring changes in unrealized gains and losses and the fair value of equity investments to be recognized in net income. For the first quarter, the company recognized realized and unrealized gains on investments in a consolidated statement of income of $2.4 million.
The majority of the gains were monetized during the quarter through the sale of our equity index fund and the rotation into index funds that invest solely in corporate debt and fixed income securities. At quarter end, we have no exposure to the traditional equity markets. The effective tax rate for the three months ended March 31st, 2019 was -1% and -0.1% for the 2018 comparable quarter. For the quarter ended March 31st, 2019, the income tax expense increased to $151,000 due to positive taxable income during the quarter that was partially offset by the benefit from the reduction of a valuation allowance on our deferred tax assets. Following the completion of our IPO in mid-April, we had a total of 23,468,750 shares of common stock outstanding. Stockholders' equity was $101.9 million at March 31st, 2019, compared to $96.3 million at December 31st, 2018.
For the first quarter of 2019, annualized return on equity was -58.2%, which compares to 27.7% for the prior year's first quarter. However, over the same period, annualized adjusted return on equity increased to 35.7% from 27.7%. The increase in the annualized adjusted return on equity was due to improvements in underwriting performance and higher returns on the investment portfolio. I would now like to turn the call back to Mac for concluding comments.
Thank you, Chris. To conclude, we use an analytically driven framework that results in differentiated products and ultimately superior underwriting. This framework has enabled Palomar to rapidly grow premiums, capture market share, and importantly, put us in position to scale the business. Our strategy is best validated by the strong market acceptance of our products and the associated 75% compound annual growth rate in gross written premium from 2014 through 2018. The first quarter further exemplified this dynamic with gross written premium approximately 59% year-over-year. Additionally, our analytically driven underwriting and risk transfer strategy helped drive our performance this past quarter. We believe it will continue to limit downside risk and provide strong visibility into future earnings growth going forward. Our team sees numerous opportunities for profitable growth and are excited by our future prospects.
With that, I'd like to ask the operator to open up the line for any questions. Thank you. Operator?
At this time, we'll be conducting a question and answer session. If you'd 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'd like to move 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 here is from Mark Hughes from SunTrust. Please go ahead.
Yeah. Thank you very much. Good afternoon.
Hey, Mark. Mac Armstrong. How are you?
Good, Mac. Question on the other expenses. Chris, you might have touched on this. You clearly did very well at the top line. I think your other underwriting expenses were pretty similar to what you had discussed at the time of the IPO. If you continue to outperform at the top line, do you think the absolute level of expenses will kind of hold steady with what you thought previously, or should we see some lift if you do get that faster top-line growth?
Hey, Mark. Yeah, this is Chris. No, that's a great question. When we look at our other operating expenses, obviously when you look at the quarter, there's the two main things in there that we need to back out. You need to back out the stock compensation expense and then also some of those one-time expenses related to the tax restructuring for the IPO. With that, I would say that we do expect the business to scale over time. We think that we've invested a lot in the systems and the people, and we think that those operating expenses from a pure dollar standpoint will definitely flatten out and definitely in comparison to the top-line growth that we are seeing.
We're not giving specific guidance on where those numbers are going to go, but we definitely feel that we've built a business that's going to continue to scale over the long term.
Mark, this is Mac, I would just add a little more color to what Chris has said. Just maybe better said in an anecdote. For instance, we brought on Robert Beyerle to lead our Inland Marine department, he generated no written premium in the first quarter. He was really focusing on developing rates, developing products, and investing in system infrastructure. We're going to start to get a return not just on the fixed cost, but we've also made investments in revenue or premium generative items, too.
Understood. On the Commercial All Risk, that was a strong contributor to growth. Is there some seasonality to that business? How much more momentum do you think you have? Where are we in terms of your kind of rollout on the Commercial All Risk?
Mark, this is Mac. That's a great question. We were very pleased with how that line of business performed. As Chris highlighted, it grew in excess of 150%. I think it's good to just provide a little backdrop on what's driving that growth. As you may recall, in the end of the third quarter, we entered into a new partnership where we had two quota share reinsurers supporting us and taking 60% of the risk on. The first quarter really reflected us being in the market broadly with those two quota share participants, Swiss Re and Ren Re that offered us the ability to write larger limits but not change our risk profile.
The first quarter kind of is emblematic of where we think the program kind of is and has the potential to even grow beyond as we broaden the distribution footprint and benefit from a higher financial size category post the IPO. I don't think there's much seasonality that's driving it. I think it's really just reaping the benefit of the broader limit that we can put in the market as well as the broader distribution, the bigger limit rather, and the broader distribution.
A final quick one on the investment gains. Was the tax rate on that similar kind of flat -1%, or was there a different tax rate you might think about for the gains?
No, for those gains, Mark, this is Chris again, yeah, we would say that the tax rate for the quarter reflects a couple of things. It reflects the release of the valuation allowance. The overall growth that we had in the first quarter allowed us to release the federal deferred tax asset valuation allowance. That is obviously deriving that rate down. We also have the stock compensation in there, so that's another big driver of the change in the rate. I would say that everything else on the book is probably averaging about 21%-22% effective tax rate if you back out those items, and there's a little more detail on that when the full 10-Q comes out, or I guess we'll file it later today, but I don't think you guys will be able to see it until tomorrow.
Very good. Thank you.
Thank you.
Our next question here is from David Motemaden from Evercore. Please go ahead.
Hi. Thanks for taking my questions. Just was wondering if you have a view or what you guys are seeing in the reinsurance market because you have a few layers renewing on June 1. Just wondering what you're seeing in terms of rates on some of those treaties that are going to be renewing up here in the next few weeks.
Yeah. Hey, Dave, this is Mac. Thanks for the question. I guess what I would tell you is we can't offer perspective on what's going on right now in the market because we are in the midst of the market. We have two different kind of treaties renewing at 61. One is finalized, the other is near to finalization.
We would expect to issue an 8-K on the reinsurance placement once indeed it does come to completion. What I would say is a good indicator in our eyes is to look to what happened at the four one renewals, where you had a lot of loss-affected business, and particularly in the Japanese market, come up for renewal, and loss-affected business did see an increase. Non-loss affected layers or lines of business did not see much in the way of an increase, if maybe a modest one. I think that is a good indicator of what we would expect. I think it's worth reiterating, the majority of our program is very unique and distinct, and is frankly non-loss impacted.
If you look at our what's up for renewal at six one outside of our $10M xs $5M layer, there's nothing that's been loss affected, and it's driven by residential earthquake in Hawaiian hurricane. Again, we are really the only buyer of reinsurance which prevailing exposure is earthquake and Hawaiian hurricane. We feel four one is a good indicator, and that's what I'd point you to for now, and we'll let you know as soon as it's wrapped up what we saw.
Okay, great. Then, there were a few severe weather events, wind events in the Southeast U.S., Texas, Mississippi, and Louisiana. Just wondering if you have any initial view in terms of any losses that you guys may have from those events?
Yeah, Dave, this is Mac again. What I would tell you is nothing that's material at this point. It's worth reiterating that in Texas, the majority of our book, we act as a front. While there could have been tornado hail damage in the residential segment of our book, we're really not on risk there because we do act as a front. Going back to it, the severe weather activity, we've been mindful of it. We've had claims, but nothing that's material.
One thing I'd add is what Mac was talking about with the fronting arrangement that we put in place in Texas. You can see in the quarterly results that the losses for 2019 performed a lot better than the losses in 2018. I think if you even factor in the fact that in 2018, the first quarter loss results reflected a prior year benefit of about $1.5 million. That Texas front and the reinsurance arrangements that we put in place to minimize the volatility in earnings really shows a lot more if you weigh that in. You're talking about a $300,000 number versus a number that's closer to $3.4 million with the $1.5 million added to it.
Yep.
Okay, great. Just my last question. Just thinking about your rating at AM Best, and just wondering, following the IPO, if you guys have any visibility in terms of when you think that might be changed at AM Best.
Hey, Dave, this is Mac. What I would say is, we're focusing right now on the A minus eight financial size category, so an A minus eight rating. That is really triggered by the size of your capital base and surplus. Once the 10-Q is filed, we will have breached that threshold, which will put us in the A minus eight rating. As it relates to the long-term rating of the company, I think we want to continue to execute to put us in position for a change in outlook and subsequently an upgrade in the rating. I think we'll try to get back to AM Best, to walk them through the first half of the year's results in the summer, and then go back for our annual review.
It's really the financial size category that's more germane to us being able to write or opening up commercial distribution sources.
Okay, great. Thanks for the answers.
One quick correction. I said $3.4 million, should have been $2.4 million for the total losses in first quarter of 2018. Sorry about that.
Our next question here is from Jeff Schmitt from William Blair. Please go ahead.
Hi. Good afternoon, everyone. Question on the $8 million residential earthquake book that came over from a homeowner's carrier. Was that kind of a one-time thing, or do you expect more premium from that relationship?
Hey, Jeff, it's Mac. Yeah, that's a great question. I think that partnership, first and foremost, we were thrilled to bring that onto the books. We think it's a ringing endorsement of our partnership strategy. It shows that people are coming to view us as a specialty property specialist, for lack of a better term. Embedded in the $8 million from that partnership is $6.5 million or $6.6 million of unearned premium that is one time, but the delta in there is kind of recurring. We believe that that partnership, a good way to look at that is if you take that unearned premium and double it, that's a good proxy for the recurring premium base associated with it.
I think it's also worth pointing out that the residential earthquake business, it grew 74% in the first quarter. Even excluding this UEP pop, if you would, the unearned premium transfer pop, it grew 36%. Very healthy organic same-store growth
Mm-hmm. Are there other books that could come over from that relationship, I guess what I meant more? Is that just that book?
That relationship is specifically a residential earthquake partnership. That doubling the $6.6 million, that is kind of a good frame of reference for that specific partnership.
Okay.
We have partnerships with over 20 companies at this point. We continue to pursue incremental partnerships. It's been a great channel for us. We think it will remain a great channel. There are a lot more in our pipeline. They're very hard to handicap when they will come on, because it is such a long sales cycle and then a long onboarding process. There are multiple of them out there. We just don't predict when they come online.
Got it. Okay. Looking at some of the smaller products, Hawaii hurricane and flood, obviously you're pretty early stage there, but do you expect to ramp those kind of like the commercial all risk? I mean, can they be ramped that type of rate?
This is Mac again, Jeff. What I would tell you is, the Hawaiian hurricane grew approximately 38% year-over-year, in the first quarter. We think that is a terrific growth rate. The one thing that will govern our ability to grow at the same rate as we did in the all risk is just the size of that market, we think that we can continue to grow it at an attractive level.
The flood, which grew in excess of 100% year-over-year in the first quarter, we think that one will continue to grow at a nice rate. The thing that we are excited about that product is, you kind of have a bit of a regulatory option on it in the sense that we are growing that on a state-by-state basis, on an agent-by-agent basis, there could be some type of a regulatory shift that would allow the NFIP to potentially re-underwrite its book, would allow greater options for banks to accept private market flood, and particularly Fannie and Freddie. We like to view that as kind of a nice blocking and tackling product that's growing at a very nice rate, has great upside potential if there is some type of regulatory change.
Any update on new products in development, the builders risk or inland marine?
Sure, Jeff Schmitt, this is Mac Armstrong again. What I would say, the builders risk and inland marine, we spent the entirety of the first quarter working on rate filings, system development, distribution partnerships, building out a distribution network to put us in a position where we think that we will write business in Q2. We would expect the builders risk to start to see some premium in the second quarter. Then inland marine, in particular, contractors equipment, and installation floaters and things of that sort would follow from there. We've got pretty good traction as it related to rate filings and state approvals and the like.
Okay. Thank you.
Our next question is from Meyer Shields from KBW. Please go ahead.
Great. Thanks. Two questions on acquisition expenses, if I can. The first is whether the unearned premium transfer or just the initiation of that relationship, does that involve any unusual level of acquisition expenses? Second, how should we think about that particular line item scaling or being affected by continued scale-up?
I think the acquisition expenses, just specifically to that one partnership, the unearned premium transfer that comes on does have acquisition expense associated with it. For that, it is earned very similar to the premium. Let's call it $1 of premium is earned. There's acquisition expense for a similar percentage of that to any other type of business. Whether it be if it's a 20% acquisition expense for a piece of business, that would be $20 of expense. It's earned pro rata very similar to how that premium will be earned over time. I wouldn't call it anything unusual or specific in nature that's going to cause a pop or a drop in acquisition expense. It should just be smooth as the earned premium is.
Meyer, this is Mac. On the second question that you asked, I would say, as we continue to grow the all risk, that's going to help drive down the acquisition expense. You'll see in the 10-Q that the acquisition expense in the first quarter of 2019 was 17.1% versus I think it was 23% in the first quarter of 2018. That reflects the fact that we are getting ceding commissions from these quota share partners that we use as a counter expense to the acquisition expense. That will allow us to drive the acquisition expense down on a prospective basis as all risk continues to grow, and more of these quota share arrangements increases the percentage of the overall premium. I think the other component is the acquisition expense on all risk, as well as our commercial earthquake can be a little bit lower.
As commercial business grows, we should see the acquisition expense tick down from that dynamic as well.
The other big quota share that's in there is the Texas front. This is the first quarter of 2019 compared to the first quarter of 2018. That front was put in place on June 1st of 2018. This is the first time you're seeing that show up. That's also helping to drive the overall acquisition expense down as that includes the ceding commission from those quota share partners.
Okay, fantastic. That's very helpful. Chris, I didn't catch whether you disclosed the impact of prior period reserve development on losses in the quarter.
We did not disclose that in the earnings release, it will be in the Q. I can tell you that for 2019, it's a minimal increase in prior year reserves. I think it's about $38,000. Like I said earlier, if you look at comparing quarters, the 2018 quarter has about $1.5 million of beneficial development, it's reduced by $1.5 million. When you're comparing apples to apples, you can really see how good 2019 looks compared to 2018 with those quota shares in place and minimizing the overall net losses that we have to recognize on our books.
Yeah. This is Mac. The good thing about it being $38,000, we can tell you through the claims which one they were, and they were handful. It's a pretty modest amount, like Chris said.
Yeah, completely got it. Thank you so much.
Our next question is from Sue Lee, from Barclays. Please go ahead.
Hi. Thanks for taking my question. How would you see your business mix and catastrophe exposure as well kind of evolving over time as you guys add these new products and expand into other states?
Hi, Sue. This is Mac. Yeah, that's a good question. We continue to look at diversification as a sound strategy, for several purposes. One, insulating us from swings in the broader insurance market. Two, not being overly concentrated in a specific region or a product. We're going to want to continue to espouse that philosophy. I think kind of directionally, we've always said we want a balance of commercial and residential business. I'd like to see our commercial business, especially with the current pricing environment, increase as a percentage of the total book of business. I would expect that to happen, especially on the heels of us reaching a new financial size category, and rolling out new products like builders' risk and in the marine. I'd like to see commercial business increase as a percentage.
Similarly, I think if we continue to look at other geographies, outside of California is approximately, I think, 53% or so of our total business. We wouldn't mind seeing that come down, at the same time, we love the fact that that's really residential earthquake. It's our bellwether programs or products, and we have a ton of conviction in what we're doing in that segment. I'd like to see us diversify and California come down as a percentage of total business over the long term.
Great. Would you guys envision any sort of change to your reinsurance strategy as you grow in scale?
Sue, that's a terrific question as well. What I would say is there's some sacrosanct principles, and it starts with where we're projecting to. We want to make sure that we always have a cushion that is beyond the 1 in 250 year PML. That is something we will not deviate from. I think the one thing that we'll continue to look at as we grow capital through earnings, and certainly on the heels of the IPO, is just how we participate in the risk. That could inform how we participate in quota share reinsurance arrangements. It could inform how we participate in per risk reinsurance arrangements, and then also what our retention is. We like having the optionality that a bigger balance sheet affords us.
That will be a little more fluid, but again, fundamentally, and to use the term, the sacrosanct principle is maintaining the cushion above the 250, the 1 in 250 year PML, that is.
Great. If I can just sneak in 1 last one. Just in terms of that A- 8 category that you guys are looking to get from AM Best, any sense of how much additional distribution you could get through some of the big alphabet broker houses and how you guys think about that?
Sue, this is Mac. That's a good question. What I would say is it's a little too early to handicap. I can tell you anecdotally, we have some distribution sources that have been kind of nipping at our heels asking about when that was going to be triggered. Others, we've kind of let them know, and they're saying, "Terrific. That's great." I think a good rule of thumb is just if you look at the normal quoting process for our commercial business, it's anywhere from 60-75 days out for certain lines and maybe a little bit inside of that for others. I don't see us really reaping the benefit of broadening that distribution until hopefully the third quarter, but maybe even the fourth, because some of it's going to be incumbent upon us to go out and market to people, too.
Got it. Understood. Thanks for the answers.
Our next question is from Paul Newsome from Sandler O'Neill. Please go ahead.
I almost had a question. The only follow-up I had was, is there any change in sort of how you think of the business mix prospectively with the new people on board? Does that change your plans, or is it just kind of the same plans you had pre the IPO?
Hey, Paul. It's Mac. I would say, no, I don't think it's going to change vis-a-vis pre the IPO. As we get traction in builders risk, we could pivot to different geographies based on what the distribution is telling us. I don't think it's going to be a departure from the specialty property focus.
All right. Thanks. That's all I had left. Appreciate it.
Thank you.
As a reminder, if you'd like to ask a question, it is star one. Our next question here is from Mark Hughes from SunTrust. Please go ahead.
Any update on the commercial quake? Just sort of curious. You still got good growth there, but a little lower than your other lines. Pricing, competition, demand.
Mark, yeah, you're right. This is Mac. It looks like it is lower growth. I think quarter-over-quarter it points to 12%. It's worth pointing out that in the first quarter of 2018, we terminated one distribution partnership that resulted in us non-renewing in Q1 2019 over $1 million of premium. If you exclude that and kind of do it on a same store basis, it's 26% growth. Pretty close to our other lines. I will tell you, that's the line that we think there is the greatest potential upside for growth on the commercial business because of the A- financial size category. I think we might see a bit of a lift. I view it, we did pretty well growing 26% on a same store basis, if you would.
Got it. Thank you.
This concludes the question and answer session. I'd like to turn the floor back to Mr. Armstrong for any closing comments.
Terrific. That concludes Palomar's inaugural earnings call. We hope you walked away with a keen sense of what we believe was a strong quarter. Moreover, we hope that you got a keen sense of how this quarter was emblematic of our near term and long term strategy. The management team at Palomar is really excited about what the future holds. With that, thank you, and see you next quarter.
This concludes today's teleconference. You may disconnect your lines at this time. Thank you again for your participation.