FedNat Holding Company
Q1 2021 Earnings Call Transcript

Published: 9 May 2021

[Operator:]

Good Morning and welcome to FedNat Holding Company’s First Quarter 2021 Conference Call. My name is Josh and I'll be your conference operator this morning. At this time all participants will be in a listen-only mode. Before we begin today's call, I'd like to remind everyone that this conference call is being recorded, as well as broadcast live via webcast. Additionally, today's call will be available via webcast replay later this afternoon and accessible by visiting the Investor Relations section of FedNat’s website at www.fednat.com. Now, I'd like to turn the call over to Bernie Kilkelly, FedNat Investor Relations. Bernie?

[Bernie Kilkelly:]

Thank you. Good morning. Welcome again to the conference call for FedNat’s first quarter of 2021 earnings. Our earnings release and prepared remarks include references to non-GAAP measures such as adjusted operating income. We use these non-GAAP measures to provide greater transparency and a more meaningful, efficient comparison to prior year’s results. Our non-GAAP and reconciliations from the GAAP measures to the non-GAAP measures are available in our earnings release.

[Mike Braun:]

Thank you. Good morning, and welcome to our first quarter 2021 conference call. Ron Jordan, our Chief Financial Officer and Erick Fernandez, our Chief Accounting Officer are on the call with me today. After my remarks, Ron will go into more detail on first quarter results. And then we will open up the call to questions. Our results in the first quarter of 2021 were significantly impacted by higher-than-expected catastrophe losses, primarily from winter storm Uri, which caused heavy residential damage in Texas during February. We are proud of our dedicated team who are committed to providing the highest quality service to our policyholders and partner agents affected by URI and the multiple other weather events over the past year. Our first quarter was also impacted by a much higher seated reinsurance premium expense from our multiple late season purchases after we encountered a record five hurricanes during the second half of 2020. This extra reinsurance expense will continue in the second quarter. And so, we have the July 1 renewal of our excess of loss reinsurance program. The net impact to FedNat in the first quarter from URI and the other smaller cat events is approximately $18.3 million pretax, plus an elevated reinsurance expense of $13.6 million. Ron will provide more details on our total exposure to policyholder claims from Uri and additional reinsurance that we purchased to reduce the impact from potential future large weather events.

[Ron Jordan:]

Thanks, Mike. And good morning, everyone. As Mike mentioned our first quarter results were impacted by higher-than-expected cat losses mostly from winter storm Uri. We reported adjusted operating loss per share of $1.35 compared to operating earnings per share of $0.30 in the first quarter of 2020. The after-tax impact of cat losses was $0.72 per share in this year's first quarter factoring in related claims handling revenues versus $0.46 per share in last year's first quarter. Most of the remaining delta in our earnings pertains to catastrophe reinsurance expense, which I will discuss in a few moments. Going deeper on winter storm Uri, FedNat’s aggregate reinsurance retention was approximately $23 million for this event.

[Mike Braun:]

Thanks, Ron. Operator with that we'll go ahead and open up the call to questions if you could.

[Operator:]

Thank you. . Our first question comes from Paul Newsome with Piper Sandler. Please proceed with your question.

[Paul Newsome:]

Good morning, and thanks for the call. Maybe we can start off on a little bit of an optimistic note about the litigation. And can you give us your thoughts the litigation reform, that's going through the Florida Legislature? Can you give us a sense of kind of exactly how that might help claims respectively? And what are the details there that would make claims necessarily possibly fall respectively?

[Mike Braun:]

Yeah, well, good morning, Paul. They did recently passed legislation; I think the incentives to control some of the drivers that are pushing on premiums. I think it's some progress. But we've seen some progress in the past in Florida, that that's been mitigated by the behavior, adapting. So, we're a little concerned in that regard, regard. And we're going to remain cautious. But there's some attempts to contain the incentive with these roofers, the contractors and public adjusters, how they're signing people up, as well as some of the litigation trying to control that. So, we're hopeful. But we're cautious. So, we still have some concerns on these expenses continuing to increase until we can find comfort that our rate that we're charging is adequate. Until that time, we're going to not only hold our line in terms of our in-force premium, but really take it as an opportunity with these rate increases to drop our policies in Florida, having a less policy count, as well as less exposure, what we call total insured value.

[Paul Newsome:]

One of the criticisms I've heard about the reform and I have not looked at it in detail at all, is that, it might end up causing a lot more sort of organizational costs and adjustment costs related to conflict here just more complicated. Do you see that in there and it is part of the equation for the reform?

[Mike Braun:]

Yeah, Paul, there's absolutely more data submission to the state. There's certain behaviors that are need to be documented on the adjusting side. And we welcome those as long as it's a good investment to contain the expenses that are just continuing to increase. So, the expenses are really driven by litigation. Litigation is driving our attritional loss ratio, and litigation is driving our reinsurance spend, because they're feeling it as well, our reinsurance partners. So, we welcome those opportunities to build out more infrastructure so needed, or to supply more data to the state of so needed, if it achieves the objectives of returning the market to predictable expenses versus ever increasing expenses.

[Paul Newsome:]

Great. And then I wanted to turn to the second quarter to maybe sharpen our pencils on the side a little bit more. Should we be thinking of the additional $21 million pretax of reinstatement in other premiums is sort of an add-on just on top of whatever we think the run rate is for the company's earnings in the second quarter? Or are there other pieces to that, that we should be thinking about when we think about trying to figure out kind of the both the total, but also have the run rate prospectively?

[Ron Jordan:]

Yeah, I guess I'll jump in and Mike and add any thoughts that he has, but the $21 million of extra XoL costs in Q2 compares to $13.5 -- $13.6 million of such costs in Q1. So, the Delta there is around $7 million. So, if you're starting with a normalized Q1, there's a $7 million headwind. Well, I'm sorry, a normalized Q1 for full $21 million, if you're starting with leaving a Q1 that has the $13.6 million in it, then it's just an incremental $7 million. Other comments that I would make about Q2 is that typically, seasonality wise, the Florida loss ratio and non-Florida loss ratio probably ticks up a bit in Q2 versus Q1. But the other thing on the positive side is with respect to these rate increases again, assuming a flat book, there's an incremental $7 million or so of gross written premium that comes online in Q2, that did not exist in the Q1. And that was my earlier remark and that rate increases would help offset some of that $7 million of incremental XoL costs in the second quarter.

[Mike Braun:]

Yeah, and Paul just to add on that. This elevated reinsurance expense, we believe, will end at the end of Q2. So last year was approximately a $270 million XoL reinsurance spend, and then an additional $45 million. That comes out to approximately $315 million. We believe our new XoL program will be nowhere near that number. So, and let me clarify on reinsurance. We believe the reinsurance market has lots of capital, ample capital, no doubt about it. And there's discipline there. And we respect that and appreciate that. There's some pressure on the lower layers, working layers below the FHC on pricing. But keep in mind, we have a smaller book of business, a significantly smaller book of business. So, to your point, yes, reinsurance or seeded premium will be elevated through Q2 and then as we reset July 1, we think there'll be a significant time.

[Paul Newsome:]

The only other piece will be like the new convertible debt will show up in the second quarter as well, both in the interest expense and the added diluted shares. Anything else besides that?

[Mike Braun:]

Well, and Ron can give you a little bit more on the math there. But in terms of the dilution of the shares, we look at that and it's very difficult for us to raise those capital to create dilution. But we think it's paramount that we have ample capacity of capital in our holding company. Unfortunately, we had a record five hurricanes last year. Now with Uri, we have had six very big events. So, we don't take that lightly. We really don't. But once again, it's paramount that we have ample liquidity in our holding company, appropriate capital in our insurance companies. So, until a lot of this rate is rolling in, its massive rate that's rolling in, in Florida, because of litigation, primarily, non-Florida more because of just the weather that we've been experiencing. So, yes, we feel optimistic on the future. But we want to make sure we have sufficient capital for any type of challenges that we experienced in the meantime.

[Paul Newsome:]

No, no I'm sorry, I just meant that the interest expense line will go up a little bit, as you incur the new convertible debt and the diluted shares outstanding will rise a little bit, because of the conversion. At least that's the only other piece that we have to think about prospectively, we think about same quarter result, so that’s my question.

[Ron Jordan:]

Paul, that's fair. And also, on the interest expense, I'll just point out that on our $100 million notes that are outstanding, that coupon rate went up from 7.5% to 7.75%. So, there's a slight uptick in interest expense on the $100 million notes as well.

[Paul Newsome:]

Great. Thank you. I’ll let some other folks ask questions. But that's very helpful.

[Mike Braun:]

Thank you, Paul.

[Operator:]

Thank you. . Our next question comes from Doug Ruth with Lenox Financial. You may proceed with your question.

[Doug Ruth:]

Good morning, Mike and Ron. Could you talk some about the strategy for the book of business here in 2021 now?

[Mike Braun:]

Yeah, good morning, Doug. In terms of the book of business within Florida, we're down significantly in terms of policies. We're down significantly in terms of exposures, insured value over the last three years, four years. And that's going to continue during 2021 until we feel that the rates have more stability in them, relative to our costs. So, we think our in-force book, which is about $725 million. We’ll stay somewhat flattened both the portion that's within Florida, because we're going to take those rate increases as an opportunity to reduce our policy count. And once again, and Florida there's been just a lot of challenges with the ever-increasing costs. So, we want to make sure that we have very good rate for that. And just to clarify, we're seeing that some of these costs are stabilizing. But once again, we do want to make sure those are permanent and sustainable before we change our course of action. And really non-Florida, similar strategy, making lots of rain, just because of the weather that we've endured, as well as the reinsurers that want to be paid appropriately for that. So non-Florida, it's not driven by litigation, it's just really been a lot of hurricanes and tornadoes and hail, for that matter. So, the intent is to make sure that we're priced adequately and lowering our exposures both in and outside of Florida for two very different reasons. But maintaining the in-force premium, somewhat close to where it is currently.

[Doug Ruth:]

Okay, thank you for answering my question. We're looking forward to working through the tough second quarter and looking for better news in the third quarter.

[Mike Braun:]

All right. Thank you, Doug.

[Operator:]

Thank you. And I'm not showing any further questions at this time. I would now like to turn the call back over to Mr. Braun for any further remarks.

[Mike Braun:]

Great, thank you all of you for participating on today's call. Before we close, I want to again recognize our FedNat team, including our staff and our partner agents. Roughly a year ago, we transitioned to a remote working environment, and are now gradually converting back to a hybrid approach in the coming months as more staff returns to the office. The health and safety of our team and our policyholders continues to be our top priority. It is a testament to the dedication and hard work of our team at FedNat, operations have continued to run smoothly, and that we continue to meet our highest quality standards of customer service. Their efforts and dedication will continue to help FedNat maintain our quality, reputation and building long term value for our company. So, thank you very much, everyone. Have a great day.

[Operator:]

Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.