HCI Group - Q2 2023
August 8, 2023
Transcript
Operator (participant)
Good afternoon, welcome to HCI Group's second quarter 2023 earnings call. My name is John, and I will be your conference operator. At this time, all participants will be in a listen-only mode. Before we begin today's call, I would like to remind everyone that this conference call is being recorded and will be available for replay through June 8th, 2023, starting later today. The call is also being broadcast live via webcast and available via webcast replay until May 9, 2024, on the Investor Information section of HCI Group's website at www.hcigroup.com. I would now like to turn the call over to Matt Glover, Gateway Investor Relations. Matt, please proceed.
Matt Glover (Senior Managing Director)
Thank you, John. Good afternoon, everyone. Welcome to HCI Group's second quarter 2023 earnings call. On today's call is Karin Coleman, HCI's Chief Operating Officer, Mark Harmsworth, HCI's Chief Financial Officer, and Paresh Patel, HCI's Chairman and Chief Executive Officer. Following Karin's operational update, Mark will review our financial performance for the second quarter of 2023, and then Paresh will provide a strategic update. To access today's webcast, please visit the Investor Information 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, 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 filings with the Securities and Exchange Commission. Should any risks or uncertainties develop into actual results, these developments could have material adverse effects on the company's business, financial conditions, and results of operations. HCI Group disclaims all the obligations to update any forward-looking statements. Now, with that, I'd like to turn the call over to Karin Coleman, Chief Operating Officer. Karin?
Karin Coleman (COO)
Thank you, Matt, and welcome everyone. HCI Group reported another strong quarter, with pretax income of $20.3 million and diluted earnings per share of $1.28. Operating earnings improved over last quarter, again reflecting positive contributions from each of our business segments. In insurance, gross premiums earned were stable, while losses and expenses declined, driving increased profitability in the quarter. Our consolidated loss ratio was approximately 34%, down from 47.9% last year, and consistent with our expectations. Homeowners Choice continued to generate healthy earnings, while TypTap Insurance Group reported its second straight quarter of GAAP profitability. In May, we finalized our reinsurance program for the coming year, with rates and terms that were consistent with our expectations. We filed an 8-K detailing this program with the SEC on May 31st.
In investments, net investment income totaled $8.8 million, almost entirely derived from interest on our cash and fixed income holdings. Our portfolios continue to generate steady streams of income, benefiting from higher interest rates, short duration, and reinvestment yields above 5%. Finally, HCI Group continued to deliver on its commitment to shareholders, paying a dividend of $0.40 per share, our 51st consecutive quarterly dividend. To summarize, this quarter highlighted the underlying strength of our diversified businesses and the true earnings power of HCI Group. Now I'll turn it over to Mark to provide more details on our financial results.
Mark Harmsworth (CFO)
Thanks, Karin. As Karin mentioned, pretax income for the second quarter was $20.3 million, and diluted earnings per share were $1.28. The pretax income was similar to that of the first quarter this year, with one significant difference. In the first quarter, we had a gain of almost $9 million from the sale of real estate, this quarter's profit was driven simply from the regular ongoing operations of our insurance businesses in what we see as a strong, repeatable operating quarter. In the past few quarters, we've highlighted several positive trends, as you can see from the results, these trends continue to support sustained profitability. The trends we've discussed are higher average premium per policy, increasing investment income, lower policy acquisition costs, and most important, a lower gross loss ratio. Let's take a look at each of these.
First, as was the case in the first quarter, gross premiums earned are up despite policies in force being down, driven by rate adjustments made over the past few quarters, combined with the natural attrition of the book. Our consolidated average premium per policy is about 25% higher than it was a year ago, which helps reduce the loss ratio and improve earnings. The second positive trend is that investment income is up. Investment income of $8.8 million is more than double what it was in the same quarter last year, driven by increasing interest income on fixed-term investments and on cash. Our investment strategy is working, and while our yield is up considerably, we still have a short term to maturity, which gives us the opportunity to further increase investment income in the coming quarters.
The third positive trend is that policy acquisition expenses are declining as a percentage of gross premiums earned. In Q2, policy acquisition expenses were 12.4% of gross premiums earned, down from 14.8% in the same quarter last year because of lower commissions and the transition of the UPC book. The last and most important trend is a decline in the consolidated loss ratio, which is following the glide path we've been discussing over the past few quarters. On previous earnings calls, we've said we expected a material, beneficial impact from the new legislation in Florida, that impact is starting to show up in our results.
The consolidated growth loss ratio was 34% this quarter, down considerably from 47.9% in the same quarter last year, driven by lower claim frequency, flattening claim severity, lower litigation frequency, and higher average premium per policy. I wanted to mention TypTap just for a minute. You may recall that TypTap Insurance Group was profitable in the first quarter, and it was again in the second, reflecting some the same trends discussed on a consolidated basis, higher average premium per, per policy, higher investment income, and a lower loss ratio. Just a few other quick things. Book value per share increased significantly from $18.91 at the start of the year to $21.92 at the end of the second quarter.
Cash and financial investments at the holding company level were $164 million at the end of the quarter, up from $140 million at the start of the quarter. Before turning it over to Paresh, I wanted to step back from the numbers to just add one thing. What I hope comes through in my comments here is that the trends that have led to these results are the same continuing trends we've been discussing for some time now. We think that they are sustainable. We've managed the business carefully to get to this point. While we can never predict the future, this quarter reflects what we expect to see going forward. With that, I'll hand it over to Paresh.
Paresh Patel (Chairman and CEO)
Thanks, Mark. Karen talked about our positive Q2 results, and Mark laid out why the results this quarter are sustainable. There are several items that we've talked about on previous calls that I think are worth reviewing. First, we've positioned our investment portfolio to provide investment income in a meaningful and sustainable fashion. By staying on the short end of the curve, we maintain maximum flexibility, and we are making a healthy income from that side of the business. Second, following legislative reform that was passed last year in Florida, we anticipated that the loss ratio would come down, and it has. Third, the uncertainty around the availability and affordability of reinsurance is now behind us with the placement of our 2023 reinsurance program.
Lastly, a year ago, we took decisive rate action to combat economic inflation. Those rate actions continue to work through our book of business. Overall, while earned premium has been roughly level year-over-year, the profitability of the business has improved considerably. All of this is important as a backdrop because we now have a healthy, stable business. We can now look to the future, the obvious thing to do is to expand and grow the business, especially in Florida. That is exactly what we plan to do. We've applied with the Florida OIR for a Citizens depopulation in the fourth quarter of this year. We are starting from a baseline of approximately 200,000 policies and $740 million of in-force premium throughout the US at the end of Q2.
We will now resume growth to a higher number in the future. In summary, going forward, we are looking to grow our policy count, grow our in-force premium, and grow our profitability. With that, I will turn over for questions. Operator, please give instructions.
Operator (participant)
Absolutely. Thank you. At this time, we will be conducting a 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 pull for questions. The first question comes from Matt Carletti with JMP. Please proceed, Matt.
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Hey, thanks. Good afternoon.
Paresh Patel (Chairman and CEO)
Hello, Matt.
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Hey, good afternoon. I guess first I'll pick up right where you left off with the, the news of applying for a Citizens depop. You know, is there any, any color you can give us on, it sounds like Q4, but in terms of potential, you know, kind of the number of policies, the amount of premium that, you know, ideally you'd like to execute on, or is that, you know, stay tuned, yet to come?
Paresh Patel (Chairman and CEO)
Well, it's a mixture of both, Matt, just so for events, let everybody know, because it'll all be news in 30 days or so anyway. As you know, we've done this, many years, and the, there's a process by which we go through. What we've applied for is 75,000 policies in the month of November, November 21st, to be precise. As you should also know, that is a maximum number. The actual number of policies we will get will be some number that is less than that. It's just the way the process works as you go through the various hoops. The actual number of policies and premium we will get will actually be best known on November 21st, the date of the assumption. It's just, we're on that road between now and then. Yeah?
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Yep. Is there anything that can, maybe could offer some guidance there? I mean, we could look to past takeouts you've done. I mean, you've done a lot of them over the course of the company. Obviously, not in recent history, but, you know, when the market was right for them. I know there's been some, you know, legislative changes and rule changes around Citizens in terms of, you know, people having to go or not go. Any color you can provide there in terms of how that might change the potential conversion rate, or if it's just, you know, too early to know, you won't know till you, till you go through it?
Paresh Patel (Chairman and CEO)
Historically, the, you know, the numbers have been as high as 65%, the numbers have been as low as 20%, and some of that range, and that's quite a wide range in between 20% and 65%. That range is going to, you know, is also being affected by new Citizens' takeout rules that have now come into place and how the method works and everything else, and the new regulations where people are more strongly encouraged to leave Citizens, shall we say, yeah. Given all of those things, and, and we also don't know how many other people are applying for takeouts in November. There is 1.3 million policies in Citizens, right. This is a small drop in the Citizens universe, shall we say.
given all of those things, there is some variability to that number, but you can imagine to a carrier that has 200,000 policies, and 130,000 of which are in Florida, any number is going to be rather significant. Yeah?
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Yeah, for sure. That's very helpful. Yeah, maybe looking at a little bigger picture, I know the focus is Florida. You have a huge opportunity there. You know, TypTap has expanded outside of Florida, and we are seeing a lot of household names, you know, kind of recalibrate their appetite nationally. You know, a lot of it seems climate change related. You know what, kind of I think of HCI as, you know, having a lot of experience in a state that, you know, kind of has gone through that over the past, you know, 20, 30 years. You know, is there a longer-term opportunity there for HCI? What lessons kind of have you guys learned by operating in the environment that is Florida that maybe you can take elsewhere when the time's right?
Paresh Patel (Chairman and CEO)
Yeah. Matt, I think obviously, reading the headlines and the press releases and the statements and earnings call from a number of other carriers, et cetera, especially outside Florida, you sort of get the level of angst that is going on. I think if I was to predict what's going to occur, judging by what happened in Florida, probably like 15, 20 years ago, the supply and number of people willing to offer policies is going to shrink. Demand isn't going away because every household still needs policies. Supply is going to shrink. Demand is going to stay the same or grow. It'll take a while for premiums to adjust to the new reality that I think everybody's facing, using climate changes as an example that you used.
Eventually, all that will stabilize out, and there will be somebody, let's just say, by 2030, who will be providing insurance and will be doing it in a profitable manner, right? It's just between now and then, there will be a lot of churn in terms of both who the carrier is and what the rates are. That is what I think is, is starting to unfold throughout the country, where we've seen this movie before, because that's exactly what happened in Florida after the 2004, 2005 storms. Yeah?
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Yeah, no, that makes perfect sense. There's a couple quick numbers questions that I could probably for Mark.
Mark Harmsworth (CFO)
Mm-hmm.
Matt Carletti (Managing Director and Senior Equity Research Analyst)
On the policy acquisition costs, you, you highlighted kind of coming down to, you know, around about 12.5% from 2 points higher a year ago. Can we kind of work through the adjustments there in terms of lower commissions in, in some of the forces or, or kind of where, where do you think that could go going forward?
Mark Harmsworth (CFO)
Yeah, I, I think that's about where it's going to be for the foreseeable future, unless there's any other changes. It might drift down a little bit, Matt, but I think the bulk of that improvement that you've seen there is reflected in the numbers now.
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Great. Then just a quick numbers one. Do you have net written premiums handy?
Mark Harmsworth (CFO)
Yeah. It's $113.6 million.
Matt Carletti (Managing Director and Senior Equity Research Analyst)
Great. Thank you very much for, for all the color, and congrats on the nice quarter.
Mark Harmsworth (CFO)
Thank you.
Operator (participant)
Once again, if you have a question or a comment, please indicate so by pressing star one on your touch tone phone. The next question comes from Mark Hughes with Truist. Mark, please proceed.
Mark Hughes (Analyst)
Yeah, thanks. Good afternoon.
Paresh Patel (Chairman and CEO)
Good afternoon, Mark.
Mark Hughes (Analyst)
You have come a long way in a short period of time on loss costs. I wonder if you could maybe break out how much might have been more favorable weather in the quarter? How much is your own pricing initiatives? How much progress is actually, you know, tangible progress from the regulatory reform, Paresh? I think you've said you think losses will get down to the 30% level. Is that still a good number? Could it go lower based on what we see here?
Mark Harmsworth (CFO)
Hey, Mark, it's Mark. To the first part of your question about the weather, so there really was not a discernible difference in the weather between Q2 last year and Q2 this year. The decline in the loss ratio from second quarter last year to the second quarter of this year, really didn't have anything to do with weather, right? There's, there's always weather in Q2. We had a significant amount of weather in Q2 last year. We had a significant amount of weather in the second quarter this year. That's not the reason that the loss ratio is down. The loss ratio is down for the, you know, three or four things that I mentioned earlier. You know, average premium is up. Obviously, that's going to help.
Frequency is down, which helps. You know, the average ultimate cost of a claim is down because litigation is down. You know, those three things work their way through the loss ratio at a different pace. You see the impact of the average premium per policy going up. You see that first. That's probably maybe 60%-65% of the reason for the drop this quarter, the balance being, you know, some of the legislative changes. I, I think the most important thing to say, and I think I said it in my comments, is, is we developed an expectation of what we thought would happen to the loss ratio when we when the legislation came out, and that is still our expectation.
What we've seen in the first half of the year is consistent with, with what we saw. Frequency is coming down, litigation is coming down. To your point about the 30%, I think Paresh and I have both mentioned that we think the consolidated loss ratio will come down from, you know, about 40% to about 30%. You know, it would take some time to get there, but we still, we still feel that, that, that's where we're headed. You know, the trends are moving in the right direction, and, you know, we're really encouraged by the progress.
Mark Hughes (Analyst)
Thanks for that detail. How much are you going to pursue voluntary business as the year progresses? Are you gonna be more dependent or look to drive growth on the takeouts? The acquisition cost is certainly pretty attractive. Is that, is that gonna be the focus?
Paresh Patel (Chairman and CEO)
Mark, it's Paresh. regarding that, I think we are doing voluntary business anyway. It's just how it runs through the book is where, where the numbers become different. The takeout is an opportunity that we've anticipated for a while, and we've actually communicated on previous calls, and it is now here, and we are taking advantage of it. It's almost like an addition to the other things we've been doing. We are... you know, I guess the overall theme that we're trying to communicate is, 2 quarters ago, right when the legislation got passed, people were asking: Hey, what will this mean? How much impact will you see? People were trying to get it quantified. We modeled things, and we tried to, to forecast where things were going to be and how things will evolve.
I think what we're telling you halfway through the year is things are working out fairly much like we had said, and now it's come actually showing up in the numbers the way we had said it. The follow-up actions we had said we would take when that was achieved is what we're laying out for the back half of the year. Yeah?
Mark Hughes (Analyst)
Yep, understood. The premiums ceded, what is a good run rate with the new reinsurance in place in terms of absolute dollars or? Yeah.
Mark Harmsworth (CFO)
Yes, it's Mark. Pretty similar to what it is in Q2. We issued an 8-K, I think it's $67 million and change, very close to what it was in. Yeah, actually, just about $67 million. Very similar to what it was in Q2.
Mark Hughes (Analyst)
Okay. Any change in the... I think last quarter, you talked about the, your prior pattern of kind of boosting up reserves a little bit on a quarterly basis, and I think you shifted away from that. Was there any impact from that when we think about the loss ratio?
Mark Harmsworth (CFO)
Not, not really. I mean, we had, net reserves are pretty flat, so far this year. We didn't really have much adverse development in the first quarter. We booked a little bit less than $1 million. There's not much going on there. I mean, you know, reserves for the most part, are coming in where we expected them to, and so we're not having to really make any, you know, adjustments for prior periods, and we're keeping net reserves pretty flat for now. You know, there's some indications that they're that they could be starting to come down, but so far, we're keeping them flat.
Mark Hughes (Analyst)
Yeah. The TypTap written in the quarter was down year-over-year. Was that non-renewal of flood business? What was driving that?
Mark Harmsworth (CFO)
Yeah, there's a little bit of noise in there, Mark. It's part of it is flood. About $8 million of it was flood because we had about $4 million of written premium in Q2 last year. We had negative written premium this year just because there was a return of some of the unearned premium. That's part of it. The other is UPC Southeast. The written premium was down in the second quarter for that, and that was just kind of a timing thing. You may remember with the UPC, you know, changes at UPC, we renewed a lot of the policies that would normally have renewed in Q2, were renewed in Q1.
We had higher, higher earn, higher, sorry, written premium in Q1 and then less in Q2. Q2 for UPC Southeast was actually a little bit negative. There's, there's a lot of noise in the Q2 written numbers that make it a little bit hard to follow. You know, in Q3, we'll be back to sort of the normal pattern of written premium.
Mark Hughes (Analyst)
How much cash at the HoldCo?
Mark Harmsworth (CFO)
As I mentioned, cash and financial investments at the holding company level is about $164 million. I think the cash component of that is about $135 million, something like that.
Mark Hughes (Analyst)
Okay. great. Thank you very much.
Mark Harmsworth (CFO)
Thanks, Mark.
Operator (participant)
If there are any remaining questions, please indicate so now by pressing star one on your touch tone phone. Okay, we have a couple of questions in queue. The first coming from Lee Curry with Curry Partners. Please proceed.
Lee Curry (Curry Partners)
Good afternoon, Paresh, and all your group. What an outstanding quarter. Very pleasant. I want to get an idea from you on how the whole, reinsurance environment is shaking out. I know there's been a lot of changes in different directions. Now that you've completed it and seen how it, had ended up last month, what's the outlook going forward from that?
Paresh Patel (Chairman and CEO)
Lee, the simple answer about the reinsurance outlook, and I didn't make it in my prepared remarks, was that beginning of the year, there was some uncertainty about the availability and affordability of reinsurance, right?
Lee Curry (Curry Partners)
Right.
Paresh Patel (Chairman and CEO)
All of that speculation goes on. I think from what Mark Harmsworth has said, and Karin Coleman has said, and what was released in the 8-K, we, we placed our reinsurance program because we had anticipated these changes, et cetera. The numbers are there. It's now in the 8-K. At least for us, we don't have a, a reinsurance variability anxiety for, for till next June at the earliest. Yeah. The other thing on a general reinsurance industry thing, I think, which is the nature of your question, I think, the anxiety level amongst reinsurers, at least in terms of Florida, seems to have, seems to have abated, especially in by what happened in Maine. I think there are lots of reinsurance availability is now starting to normalize. Affordability is a different price, but that's, that's just what that is. Yeah?
Lee Curry (Curry Partners)
Thank you, Paresh. Well done.
Paresh Patel (Chairman and CEO)
Thank you. Good hearing your voice again, Lee.
Operator (participant)
Okay, we have a follow-up coming from Mark with Truist. Mark, please proceed.
Mark Hughes (Analyst)
Yeah, thank you. Just wanted to make sure I was clear on the depops. It's been a while. You take the premium, whatever your, whatever you end up being successful on, and then the really no reinsurance, associated reinsurance costs or acquisition costs until those policies. Well, until you get to the next storm season or when the policies renew. Is that, is that the right way to think about the financial impact?
Paresh Patel (Chairman and CEO)
Yeah, Mark, I'll, I'll split hairs with you. When you do an assumption, you will book GWP on the assumption date of whatever earn and premium there was. The acquisition cost will be 0 until those policies expire and renew onto our paper, at which point it'll go back to normal. The reinsurance cost on those policies, with occasional, with very few exceptions, will be 0 till June 1 of next year. Yeah?
Mark Hughes (Analyst)
Yeah.
Paresh Patel (Chairman and CEO)
Three components move in slightly different ways, but just so you know. Yeah?
Mark Hughes (Analyst)
Yeah. Any kind of subjective commentary about the quality of the policies in Citizens now, with the increase, how do you, how fertile is the takeout opportunity?
Paresh Patel (Chairman and CEO)
I think the, the way I would characterize it is Citizens has 1.3 million policies, if I remember correctly, as of the end of June, right? That's a lot of policies. We are talking about trying to pick at most 75,000 policies, or putting if you had said 65,000 policies, be 5% of the book, right? Can we find.
Mark Hughes (Analyst)
Yep.
Paresh Patel (Chairman and CEO)
5% that we like out of that, that big of a pool? We like our chances, yeah. That is, you know, I'm not commenting on the entire pool. I'm, you know, my sole mission is: Can I find 75,000 policyholders that we might want as HCI customers? The answer would be yes.
Mark Hughes (Analyst)
Understood. Thank you.
Operator (participant)
If there are any final questions, please indicate so now by pressing star one. Once again, that's star one if you have a question or a comment. We have no further questions in queue at this time. This concludes our question-and-answer session. I would now like to turn the call back over to Paresh Patel, who has a few closing remarks.
Paresh Patel (Chairman and CEO)
Yeah. On behalf of the entire management team, I would like to thank our shareholders, employees, agents, and most importantly, our current policyholders, as well as our anticipated future policyholders, for their continued support. We look forward to updating you on our progress in the coming quarters. Thank you, everyone.
Operator (participant)
At this time, this concludes our question-and-answer session. This concludes today's call. You may now disconnect.