Baldwin Insurance Group, Inc. Q3 FY2021 Earnings Call

Greetings. Welcome to the BRP Group, Inc. Third Quarter 2021 Earnings Conference Call (Operator instructions). Please note, this conference is being recorded. I will now turn the conference over to your host, Bonnie Bishop, Director of Investor Relations. You may begin.

Thank you. Welcome to the BRP Group's Third Quarter 2021 Earnings Call. Today's call is being recorded. Third quarter 2021 financial results, supplemental information and Form 10-Q were issued earlier this afternoon and are available on the company's website at ir.baldwinriskpartners.com. Please note that remarks made today may include forward-looking statements, which are based on the expectations, estimates and projections of management as of today, including certain expectations related to COVID-19 and other matters. Forward-looking statements are subject to various assumptions, risks and uncertainties and a variety of factors that are difficult to predict and which may cause actual results to differ materially from those contemplated by such statements. For a more detailed discussion of those factors, please refer to the company's earnings release for this quarter and to our most recent SEC filings, including our most recent Form 10-K, all of which are available on the BRP website. During the call today, the company may also discuss certain non-GAAP financial measures. For a reconciliation of these measures to the most closely comparable GAAP measures, please refer to the company's earnings announcement and supplemental information, both of which have been posted on the company's website at ir.baldwinriskpartners.com and can be found in the company's SEC filings. I will now hand the call over to Trevor Baldwin, Chief Executive Officer of BRP Group.

Thank you, Bonnie. Good afternoon, everyone, and thank you for joining us for our third quarter earnings call. I will make brief remarks, followed by Brad, who will cover select financial and business highlights from the quarter. And then Brad, Kris and I will take questions. We're excited to announce another strong quarter, highlighted by organic growth of 26% and total revenue growth of 106%. The MGA of the Future demonstrated strong growth at 48% during the quarter, continuing to execute in multifamily, now with over 670,000 HO4 policies in force, while also making continued progress in both flood and homeowners, which we believe will be important contributors to our growth in 2022 and beyond. We were also excited to announce two important promotions to the Co-Founders of the business. Jim Roche is now in the newly created role of Chief Insurance Innovation Officer, where he is responsible for driving continued insurance product and technological innovation, both within our MGA business and across BRP Group more broadly. Brian Schultz is now President, Multifamily and Emerging Markets for our MGA business, where he is responsible for driving continued growth of our multifamily products suite and for the creation and execution of new MGA products to be distributed both within BRP Group's internal distribution network and with external distribution partners. Their vision and leadership have resulted in fantastic results for the MGA since partnering with us in April of 2019, and we look forward to continued transformation in our business and the industry. In September, we announced the addition of Jacobson, Goldfarb & Scott, our largest partnership this year and our fifth top 100 partnership since the beginning of Q4 2020, as well as K&S Insurance, which provides immediate scale in Dallas and adds to our Middle Market presence in Texas, the fastest growing state in the US. We believe that these partnerships further showcase BRP's unique position as the partner of choice for some of the most well respected and highest quality firms in the industry. In early November, we also announced the addition of Wood Gutmann & Bogart, our sixth top 100 partnership, bringing deep property and casualty expertise to our California operations. We welcome them to the BRP family and look forward to their contributions to our continued success. Including all 13 partnerships announced year-to-date, our total annual revenue from 2021 announced partnerships stands at $165 million. Looking across the balance of the year and into next year, our pipeline remains very strong. We currently anticipate acquired revenue towards the upper end of the $175 million to $200 million range we have communicated for the full year 2021. Finally, as a business whose most valuable asset is its talent, we are proud of our success in attracting and retaining the best and the brightest in the industry. In 2021 through the third quarter, we have added 569 colleagues via partnerships and 676 colleagues through organic hiring, bringing our total headcount at the end of the third quarter to approximately 2,450 colleagues. Our brand, in recognition, as the leading home for the industry's very best professionals has never been stronger. We are capitalizing on this momentum and pressing our advantages with deep investments into our client capabilities to continue rapidly scaling and winning market share. In closing, we're proud of the performance we have delivered through the third quarter of 2021 and the significant momentum we are carrying into the fourth quarter. The combination of creating a great home for industry-leading talent and ongoing thoughtful investments in our technology platforms has set the foundation for our momentum and ability to continue innovating and executing for our clients and stakeholders at a high level. To all of our colleagues, a huge thank you. You are the reason our business continues to be in the strongest position it has been in the firm's history. With that, I'll turn over the call to Brad to go into more detail on our Q3 results.

Thanks, Trevor, and good afternoon to everyone joining us today. For the third quarter, we generated revenue growth of 106% to $135.6 million. We generated organic growth of 26% on a year-over-year basis, thanks not only to strong performance from our Specialty segment, but also robust growth across all of our operating segments and in particular, Middle Market, which grew 20% during the quarter. We recorded a GAAP loss for the third quarter of $24.2 million or a loss of $0.28 per share. Adjusted net income for the third quarter of 2021, which excludes share-based compensation, amortization and other one-time expenses, was $11.5 million or $0.11 per fully diluted share. A table reconciling GAAP net loss to adjusted net income can be found in our earnings release and our 10-Q filed with the SEC. Adjusted EBITDA for the third quarter of 2021 rose 79% to $19.6 million compared to $10.9 million in the prior year period. Adjusted EBITDA margin was 14% for the third quarter of 2021 compared to 17% in the prior year period. For the fourth quarter, we anticipate an adjusted EBITDA margin of 13% to 14%. The third quarter and fourth quarter margin movement versus the prior year is timing related as a result of seasonality of the business changing, given our success in M&A. For the full year, we continue to expect to achieve the high end of our previously communicated 150 to 200 basis point increase in adjusted EBITDA margin relative to last year's 18%. For the fourth quarter, we currently anticipate organic growth in total to be the mid-teens. As many of you will recall, due to the timing of contract execution and accounting nuances related to the master product we launched in the MGA of the Future, late last year we effectively recorded two quarters' worth of master revenue in Q4 2020. Despite this, we still anticipate master revenue will be roughly flat compared to the fourth quarter of last year. However, because of the higher Q4 2020 comp, we expect a one-time accounting-driven deceleration in the organic growth of the MGA to roughly 20% year-over-year. On the capital front, we took advantage of the strong capital markets backdrop to raise $281 million in gross proceeds, making us well positioned to execute on M&A for the remainder of this year and to achieve our target of $100 million to $150 million in acquired revenue next year. As we just passed our two-year anniversary as a public company, we are extremely proud of what we've accomplished in a short period of time, particularly in light of the COVID environment we have operated through during most of our tenure as a public company. At the time of our IPO, annual pro forma revenue was $137 million compared to $446 million pro forma through only nine months today. In addition, we have consistently reported organic growth on an annual basis above our long-term stated goal at the time of the IPO of 10% to 15%, while maintaining profitability and meaningfully increasing free cash flow. We are well positioned to continue executing on our goal of generating consistent outsized organic growth, attracting the industry's top talent and partnering with the very best independent firms. With that, I thank you for your time, and we'll now open up the call for Q&A. Operator?

(Operator instructions) Our first question is from Meyer Shields with KBW.

I was hoping we could get a little bit more detail on the impact of economic growth and P&C pricing in this quarter's organic growth.

As we think about the 26% organic growth and consistent with prior quarters, the combined impact of rate and exposure on our growth was 4.1%, and that's consistent with what the impact's been overall on a year-to-date basis as well. So while certainly a relative tailwind, it was not the overall driver of the results that you're seeing.

Can you give us — I know we've talked about this in the past, but I just want to get a sense of the anticipated productivity ramp up, particularly of the newer recruits as opposed to the people that came via partnerships in the quarter?

As you've heard in our remarks, Meyer, we're having tremendous success adding talent into the business with over 650 organic new hires on a year-to-date basis, which represents roughly 50% of our total headcount as of year-end 2020. You can really think about those investments spring-loading our business for continued outsized organic growth into the future. As we think about ramp time it really depends on role in the business. On the longer side and in some of our more complex longer sales cycles, you can think about a two to three year ramp period from taking someone green to making them highly effective and productive in a manner consistent with our overall results, which, as a reminder, would be multiples of where industry productivity is from a new business generation standpoint. In other parts of the business, we can bring folks in and have them highly productive in around 90 days. It just depends on what parts of the business they're in and what that ramp period is.

(Operator instructions) Our next question is from Elyse Greenspan from Wells Fargo.

My first question was just — I want to flush through the organic growth outlook for the fourth quarter. So as you said, I believe mid-teens and that reflects, I think, 20% growth within the MGA business due to the timing that you pointed out with last Q4. But are you still assuming you would be within double digits in the businesses away from MGA, I guess, that is implied within that guide as well?

Yes, that still implies a healthy double-digit organic growth rate in the business away from the MGA. I would point out this is in no way indicating a deceleration in the growth profile of the business. Last year, as a result of accounting nuances tied to when the master program contract was signed, we effectively recorded two quarters' worth of revenue for the master product in the MGA in the fourth quarter. We're lapping that comp. Despite that, we still expect master revenue for the quarter to be flat on a year-over-year basis, even though we have a compare to two quarters' worth of revenue last year. We expect the MGA overall still to generate 20% organic growth despite that accounting-related headwind. We feel really good about the overall growth trajectory of the business. As I think about the MGA overall, new business trends remain incredibly strong. As you look at the months of June, July and August, we were setting new records sequentially every month from a new policies issued perspective. Looking at our pipeline, we have enterprise software distribution providers at a good stage that represent over 2 million units we expect to go online over the course of 2022. Our pipeline has never been stronger in that part of the business. Frankly, our pipeline across all of BRP is really strong and we feel really good about how we're positioned to continue generating outsized organic growth.

Given that we're one quarter away from the end of the year, do you have a sense in terms of how 2022 could shake out relative to the normal 10% to 15% or so organic revenue growth that you typically target?

We're not going to share updated guidance on 2022 until our year-end call. But what I would share is the performance you're seeing in the business this year with year-to-date organic growth of 24% and full year organic growth, including the MGA as if we'd owned it for the full 12-month period in the prior two years of 17% — every single year we've been public we've effectively exceeded that 10% to 15% guidance.

One last one. You said you'll be at the upper end of the acquired revenue you expected for this year of $175 million to $200 million. You had put out $100 million to $150 million for next year. Is 2021 pulling forward some M&A from 2022, or is it just a better pipeline and 2022 could still be within the previously provided range?

Elyse, we're just seeing a better pipeline in 2021. That is not a pull-forward of our previously communicated 2022 expectation.

Our next question is from Josh Shanker with Bank of America.

First question, maybe you've said it already. What was the organic growth for the business excluding the MGA of the Future?

We didn't disclose that, Josh.

I'm thinking about whether it's about 18%, does that sound approximately correct?

Josh, it's Kris. We gave a specific number for Middle Market and then three of the four segments were double digits, and the one that wasn't was one point away. I don't think we've detailed organic by segment yet. We usually do that on an annual basis.

When we look at the 2Q '21 growth rate, was there any COVID tailwind because of the weak 2Q last year? To what extent do we see that also in 3Q where there was some lift from the prior-year comps being weak and creating a tailwind this year?

Our organic growth in 2Q and 3Q of 2020 was 19% and 20%. So I'm not sure I would necessarily view those as easy comps. With that being said, there is certainly a bit of a COVID recovery that is reflected in the overall results. If you're thinking about that relative to the uptick in underlying client-level exposure units, the combined impact of rate and exposure on organic growth for the quarter was 4.1% and on a year-to-date basis it's 4.09%. So it's not the primary driver of the overall organic story here.

I'm trying to figure out how much of it is that if I'm trying to model forward. As that goes away, is that a 500 basis point tailwind, a 200 basis point tailwind? I'm trying to think about that as it goes forward.

I'd certainly expect it to be south of 500 basis points. It would need to be inside that combined impact of rate and exposure, which I would expect to be pulling us up right now. So as you think about 4.1% being the year-to-date number, the tailwind would be something inside of that. The more relevant topics are the relative impact of the economy and growth into 2022 and how inflation affects that. As we think about the coming year, we're relatively bullish on the overall economic environment. While we expect some continued inflation pressures on the economy, our product effectively reprices on a monthly basis, positioning us well to continue capturing growth and helping our clients navigate the challenges associated with the current environment.

Our next question is from Greg Peters with Raymond James.

This is Alex Bolton calling in for Greg Peters. I was wondering if you can give an update on the master product and its traction, and how LeaseTrack plays into that as well as how that might play into unit penetration?

The master product continues to perform really well. The stat I would point to is that in Q4 of last year we effectively recognized two quarters' worth of revenue in the master product for the MGA, and we expect revenue this quarter to be flat despite that. The growth has been strong. That is being powered by the software that LeaseTrack brought to us and they are a key ingredient to the overall success we're seeing. That's certainly contributing to a favorable uptick in penetration across the units that are live in our system today.

Can you provide any update on future homeowners and flood products looking into the years to come?

We continue to make good progress on both our homeowners and our flood products, and we expect that on a combined basis they will be meaningful contributors to the organic growth of the MGA in 2022.

Our next question is from Michael Phillips with Morgan Stanley.

Would you parse out that 4.1% into the two components, how much was rate versus exposure?

We don't break it out because it gets tough to detail some of the nuanced differences, which is why we reported on a combined basis. As you think about the building blocks of organic growth, there are four drivers. First is the relative retention of prior-year revenue. As we've communicated, we tend to be in line to slightly better than industry average as a result of our service model and specializations, so that is a slight benefit to us relative to peers but not a meaningful driver of our outsized results. Next is the combined impact of rate and exposure—exposure being the relative expansion or compression of underlying rating factors in our clients such as headcount, units, revenues and so forth; and rate being the pricing environment on the insurance product side. Both are tailwinds to us today and on a combined basis yield that 4.1%. You might assume, based on market news, that number would be higher. However, our clients tend to alter their insurance buying behaviors—maybe taking larger deductibles or buying less limit—while remaining within budgetary constraints, which adds downward pressure on what you might otherwise expect. After you take retention, add rate and exposure, the balance that bridges up to the 26% for the quarter and the 24% organic growth year-to-date is all new business, which continues to be the most notable driver of our outsized organic growth.

That's what I was asking because the force sounded a little low, but makes sense given changes in deductibles and limits. Longer term, as you think about the MGA of the Future business five-plus years out, do you still see the bulk of that coming from renters, or are there other ways to use the skills and benefits you have in other areas? What does that look like longer term?

We expect revenue to come from a plethora of new products five years out, and renters to be one small piece of the overall business.

Our next question is from Pablo Singzon with JPMorgan.

My first question is about the Specialty business. What is the biggest component of that business excluding the MGA, and what drove the relatively weaker growth there sequentially? By my numbers, that business grew about 46% in the second quarter excluding MGA, and in the third quarter it slowed to 19%.

We wouldn't view 19% as a weak result; we're really excited and pleased with that relative to what we're seeing broadly across the industry. That business is a specialized E&S wholesale business. Their largest area of specialization is professional liabilities, such as medical professional, cyber liability and management professional liability lines. We had an exceptional quarter in the second quarter with the 40-plus percent organic growth you referenced, and 19% in the third quarter is still really strong.

Second question: you commented on organic growth in the MGA for the fourth quarter. I'd be interested to hear your thoughts on what could potentially happen with Middle Market, given you grew 20% this quarter off an 11% growth comp last year, and for Q4 you'll be lapping against a much easier comp. I think it was down 3% last year.

We expect strong organic growth in the Middle Market business for the fourth quarter.

Following up on your comments regarding organic hires: are the expenses associated with those hires fully showing up in the P&L? In other words, do the margins now fully reflect that burden, and if anything, as hires become more productive, should we expect margin accretion from those investments in hiring?

As we said on the call, given the outperformance in the business, we continue to expect the high end of our previously communicated 150 to 200 basis point expansion. We're making meaningful investments in the business, which we expect to spring-load future revenue growth and lead to margin expansion into the future.

Last one: multiples for deals have been going up for everyone, including BRP. How does that change how you evaluate potential partnerships? Does the higher price change how you evaluate recurrence, growth or margin accretion? How does price change your evaluation?

We are really pleased with where we're positioned. We believe we're a partner of choice. I think the organic growth we continue to publish quarter after quarter shows we're focused on the best businesses and partners. We're happy to be very competitive on price for those select businesses and to have those partners join us, and we expect shareholder returns to continue to be strong.

Our next question is from Adam Klauber with William Blair.

A follow-up on the margin question. It sounds like you expect margin to continue to go up in the future. If you had to give two factors why the margin should go up in 2022, what's going to drive margin expansion going forward?

The biggest factor is the overall investment we're making in talent ahead of the revenue coming on, and that's fully reflected in the margin you see today. We've hired over 650 people into the business through the third quarter on a base that reflects roughly 50% of where we started the year. Those significant investments are powering the organic growth we're going to see in the business for years to come. As those people come online and become productive inside our system and generate revenue, they will be highly accretive to where we sit today, fully absorbing the cost of those hires.

So that's the main factor we should look at going forward?

If you look at this business, about 80% of our expense base is payroll. The way to impact margin is through payroll. We believe investing deeply in talent leads to continued outsized execution for our clients. Our clients will continue to honor us with renewals and future business and we'll continue to win and take share from competitors, growing our top line and absorbing the investments we've made into the business.

Regarding cash provided by operating activities, it's been flat with last year and much of that is driven by changes in operating assets and liabilities. Do you expect the fourth quarter to be better in terms of cash provided by operating activities?

Let me nail down the numbers from Page 10 of our 10-Q. As you pointed out, we look at operating cash flow net of accounts receivable and accounts payable because we hold fiduciary cash. If you adjust for that, we actually generated $54 million this year compared to $20 million last year, so a substantial increase. Both represent about 60% free cash flow conversion from year-to-date adjusted EBITDA. In this quarter, we incurred some more material prepaid expenses that brought that conversion ratio down a little bit. We do expect continued expansion of free cash flow in the fourth quarter relative to the prior year.

We have reached the end of the question-and-answer session, and I will now turn the call over to CEO Trevor Baldwin for closing remarks.

Thank you all for joining us this evening and for your interest in our results. We look forward to speaking with you again at year-end.

This concludes today's conference, and you may disconnect your lines at this time. Thank you for your participation.