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Heritage Insurance Holdings, Inc. (HRTG)·Q4 2018 Earnings Summary

Executive Summary

  • Q4 2018 delivered net income of $3.9M ($0.15 diluted EPS) on total revenue of $124.9M; net combined ratio was 86.4% (up 2.4 pts YoY), but improved materially vs Q3’s 93.9% as expense ratio fell sequentially .
  • Catastrophe retentions of $17.7M (pre-tax) from Hurricane Michael drove a higher YoY net loss ratio, partly offset by $1.3M favorable prior-year reserve development and hurricane mitigation income; effective tax rate was 41.4% given low pre‑tax income and permanent differences .
  • Capital structure was significantly optimized: $155.4M of debt retired and $114.2M refinanced at lower rates (> $7M annual pre-tax interest savings); post-quarter actions further reduced converts and revolver ($5.8M and $10.0M, respectively), leaving only $23.4M of converts outstanding with third parties .
  • Strategic diversification continued (Florida TIV ~32%, Tri-County personal lines ~5.5% of consolidated property TIV) and partnerships expanded (Safeco bundled program launched; GEICO agency expanded in Q3), supporting multi-state growth while reducing Tri-County AOB exposure .
  • Wall Street consensus for Q4 2018 EPS/revenue from S&P Global was unavailable in our session; therefore, estimate comparisons/beat-miss cannot be assessed at this time (S&P Global data unavailable).

What Went Well and What Went Wrong

What Went Well

  • Debt refinancing reduced leverage and interest expense meaningfully: retired $155.4M, added $114.2M at lower rates, yielding >$7M annual pre-tax savings; Kroll investment-grade rating supported the effort .
  • Claims execution and reserving: $1.3M favorable prior-year reserve development; CAN mitigation again acted as a hedge, with CEO citing strong performance across events and low LAE relative to peers .
  • Diversification and new partnerships: Florida TIV down to ~32% (expected to drop to 29% in 2019), Tri-County personal lines ~5.5% of consolidated property TIV (corrected post-call); Safeco partnership launched to bundle coastal home/auto in the Northeast .

What Went Wrong

  • Higher catastrophe impact: Q4 retained catastrophe losses were $17.7M (vs $0.4M in Q4 2017), lifting the net loss ratio by 6.3 pts YoY despite favorable reserve development .
  • Ceded premium ratio increased 4.8 pts YoY to 49.3% due to full-quarter inclusion of NBIC’s quota share program, which also lifted net loss ratio by ~2 pts; combined ratio ticked up YoY (86.4% vs 84.0%) .
  • Non-core costs weighed on GAAP results: $11.3M pre-tax non-core expenses related to debt restructuring and other items elevated operating noise, and the effective tax rate was 41.4% given permanent differences on low pre-tax income .

Financial Results

MetricQ4 2017Q3 2018Q4 2018
Total Revenue ($USD Millions)$108.6 $125.3 $124.9
Net Income ($USD Millions)$(5.0) $6.0 $3.9
Diluted EPS ($USD)$(0.18) $0.23 $0.15
Underwriting MetricsQ4 2017Q3 2018Q4 2018
Gross Premiums Written ($USD Millions)$169.7 $233.6 $221.7
Gross Premiums Earned ($USD Millions)$183.3 $234.2 $234.0
Ceded Premiums Earned ($USD Millions)$(81.6) $(115.9) $(115.4)
Net Premiums Earned ($USD Millions)$101.7 $118.2 $118.6
Ceded Premium Ratio (%)44.5% 49.5% 49.3%
Net Loss Ratio (%)44.0% 49.6% 50.3%
Net Expense Ratio (%)40.0% 44.3% 36.1%
Net Combined Ratio (%)84.0% 93.9% 86.4%
KPIsQ4 2017Q3 2018Q4 2018
Book Value per Share ($)$14.67 $15.16 $14.43
Return on Equity (%)(1.5%) 6.2% 3.9%
Premiums-in-Force ($USD Millions)—~$923 $923.7
Effective Tax Rate (%)——41.4%

Notes:

  • Q4 2018 net combined ratio improved vs Q3 2018 (86.4% vs 93.9%) driven by lower net expense ratio, but increased YoY due to higher net loss ratio from catastrophe retentions .
  • Premiums-in-force and tax rate were not disclosed for all prior periods in the filings .

Guidance Changes

MetricPeriodPrevious GuidanceCurrent GuidanceChange
Net Expense Ratio (Net)Forward run-rate~40%–41% (discussed previously) ~40% (CFO) Lowered (tightened to ~40%)
FHCF Participation2019 reinsurance program45% FHCF prior stance 90% FHCF elected Raised coverage (hedge vs private market pricing)
Reinsurance Synergies2018 vs 2019~$17M realized in 2018 ~$7–9M expected in 2019 Lower year-over-year
Quarterly DividendQ4 2018$0.06 per share (Q3) $0.06 per share declared Maintained

Earnings Call Themes & Trends

TopicPrevious Mentions (Q2 & Q3)Current Period (Q4)Trend
Litigation/AOB & ReservesQ2: $12.6M reserve strengthening tied to litigated claims; in-house legal build; Tri-County exposure reduction underway . Q3: favorable reserve development; Tri-County claims/lawsuits down materially .Q4: $1.3M favorable prior-year development; management reiterates conservative reserving and multi-actuary validation .Improving reserve trajectory; continued de-risking from Tri-County.
Catastrophes & CANQ2: ~$14M severe weather losses; CAN mitigated . Q3: Florence retention $16.6M; Lane minimal; CAN deployed .Q4: Michael booked full $16M retention; overall retained cats $17.7M; CAN reduced losses; minimal tower impact .CAN consistently used as hedge; catastrophe impact elevated Q4.
Diversification (TIV, Geography)Q2: ~1/3 TIV in Florida; Tri-County ~6% . Q3: Florida TIV 32%; Tri-County 5.7% .Q4: Florida TIV 32% (target 29% in 2019); Tri-County personal lines ~5.5% (corrected post-call) .Continued diversification away from Florida/Tri-County.
Reinsurance/FHCF & PricingQ2: ~$15M reinsurance synergies; risk-adjusted cost down ~0.4% . Q3: placement strategy evolving; run-rate ceded ratio ~49.5% .Q4: FHCF elected at 90% vs 45% prior; management expects mitigating factors (LAE, diversification, synergies) to temper pricing .Proactive hedging via FHCF; pricing risk mitigated.
Capital Structure/LeverageQ2: $10M converts retired; preference to reduce short interest/dilution . Q3: planning refinancing; Kroll investment-grade rating .Q4: $155.4M retired, $114.2M new debt; >$7M annual pre-tax savings; subsequent $5.8M converts/$10M revolver reductions .Deleveraging and interest savings realized.
Strategic PartnershipsQ2: two large auto partnerships expected; multistate . Q3: GEICO agency expanded across states .Q4: Safeco (Liberty Mutual) bundled coastal home/auto discounts launched in Northeast .Distribution expansion supports growth outside Florida.

Management Commentary

  • “In the fourth quarter, we enhanced our capital structure…resulting in over $7 million of annual pre-tax interest savings…We also received an investment grade issuer rating from Kroll…These moves make us a stronger competitor…while reducing volatility for our shareholders.” — Bruce Lucas, CEO .
  • “Our underwriting efforts in areas prone to assignment of benefits (AoB) abuse are benefiting claims trends and we continue to pursue rate increases across our platform where necessary to achieve appropriate margins.” .
  • “CAN once again proved that Heritage has a superior claims model…These efforts reduced losses for our reinsurance partners and provided much needed assistance to our policyholders.” .
  • “We believe we have the best diversification among the Florida insurers…our personal lines TIV in the Tri-County area of Florida is only 5.5% of consolidated property TIV…This peer-leading diversification means we have a much more stable platform with less volatility.” (corrected post-call) .
  • “We went to a 90% FHCF participation…locking in reinsurance pricing at an incredibly modest rate increase compared to what is potentially out there in the private market.” .

Q&A Highlights

  • Irma/Michael loss updates: Michael incurred loss ~$33M; booked full second-event $16M retention in Q4; Florence ultimate loss ~$23M with minimal tower impact .
  • FHCF participation and pricing: FHCF raised to 90% (from 45%) to hedge private market uncertainty and LAE; management expects positive impact on reinsurance pricing across Florida carriers .
  • Expense ratio guidance: Net expense ratio expected around ~40% run-rate as integration benefits and ceding commissions flow through (prior guide ~40–41%) .
  • Capital deployment: Focus on debt reduction and potential share repurchases as earnings accrue; unrestricted cash discussed with follow-up promised .
  • CAN disclosure: Management keeps CAN financials proprietary but reiterated CAN lowers daily losses and catastrophe severities, reducing retention and LAE versus market averages .

Estimates Context

  • S&P Global (Capital IQ) Wall Street consensus for Q4 2018 EPS and revenue was unavailable in this session, so we cannot assess beat/miss versus estimates. Management referenced a consensus miss in Q2 due to severe weather and reserve strengthening, but provided no explicit Q4 beat/miss commentary .
  • Investors should reassess forward estimates for expense ratio (40%), reinsurance FHCF participation (90%), and expected reinsurance synergies ($7–9M in 2019), as these affect earnings power and volatility .

Key Takeaways for Investors

  • Deleveraging and refinancing are accretive: >$7M annual pre-tax interest savings plus reduced convert overhang ($23.4M outstanding held by third parties) strengthen equity value and flexibility .
  • Reinsurance strategy de-risks 2019: FHCF at 90% hedges against private market hardening; lower LAE (~13% vs industry 20s) and diversification should support more favorable pricing than peers with higher Tri-County exposure .
  • Diversification is structural: Florida TIV ~32% (target 29%) and Tri-County personal lines ~5.5% reduce AOB/litigation-driven volatility; new states and partnerships (Safeco, GEICO) drive non-Florida growth .
  • QoQ underwriting improved: Net combined ratio fell to 86.4% from 93.9% in Q3 as expense ratio declined, though YoY net loss ratio rose on Michael-related retentions; continued CAN deployment and reserve discipline are key mitigants .
  • Book value dynamics: TBV improved through 2018, but Q4 book value per share decreased ~2% YoY largely due to convertible note repurchases; management frames this as long-term value accretive given reduced future dilution and short interest .
  • Dividend maintained: $0.06 per share quarterly dividend was reaffirmed, signaling confidence in cash generation amid capital structure transition .
  • Watch reinsurance placement and expense run-rate: Outcomes on private layers and sustained ~40% net expense ratio will be critical drivers for 2019 EPS cadence and valuation .