Earnings Call Transcript - HIPO Q1 2024

Operator, Operator

Ladies and gentlemen, welcome to the Hippo Holdings First Quarter Earnings Call. My name is Betsy, and I will be moderating your call today. I will now hand you over to your host, Mark Olson from Hippo Holdings to begin. Mark, please go ahead.

Mark Olson, Host

Thank you, operator. Good morning, and thank you for joining Hippo's 2024 first quarter earnings call. Earlier today, Hippo issued a shareholder letter announcing its Q1 results, which is available at investors.hippo.com. Leading today's discussion will be Hippo President and Chief Executive Officer, Rick McCathron; and Chief Financial Officer, Stewart Ellis. Following management's prepared remarks, we will open the call to questions. Before we begin, we'd like to remind you that our discussion will contain predictions, expectations, forward-looking statements and other information about our business that are based on management's current expectations as of the date of this presentation. Forward-looking statements include, but are not limited to, Hippo's expectations or predictions of financial and business performance and conditions, competitive and industry outlook. Forward-looking statements are subject to risks, uncertainties and other factors that could cause our actual results to differ materially from historical results and/or from our forecast, including those set forth in Hippo's Form 10-Q filed today. For more information, please refer to the risks, uncertainties, and other factors discussed in Hippo's SEC filings, in particular the section entitled Risk Factors. All cautionary statements are applicable to any forward-looking statements we make whenever they appear. You should carefully consider the risks and uncertainties and other factors discussed in Hippo's SEC filings. Do not place undue reliance on forward-looking statements as Hippo's under no obligation and expressly disclaims any responsibility for updating, offering or otherwise revising any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. During this conference call, we will refer to non-GAAP financial measures such as total generated premium and adjusted EBITDA. Our GAAP results and description of our non-GAAP financial measures with full reconciliation to GAAP can be found in the first quarter 2024 shareholder letter, which has been furnished to the SEC and is available on our website. And with that, I'll turn the call over to Rick McCathron, our President and CEO.

Rick McCathron, President and CEO

Thank you, Mark, and good morning, everyone. We started off the new year on the right foot, building on the momentum gained during a transformative 2023 and are on track to achieve the 2024 operational and financial goals we discussed last quarter. I'm particularly excited to share that during Q1, we were able to continue reducing our catastrophe exposure and streamlining our operations without sacrificing overall growth. In fact, we accelerated top-line growth compared to last quarter. I mentioned previously that we've been focused on meeting our customers' needs with third-party policies while reducing our Hippo home insurance program exposure in areas where we have a lower risk appetite. Our team's efforts to find the right policy for each customer, regardless of carrier, have allowed us to maintain high retention rates during this effort. Our success helped drive accelerated total generated premium growth in Q1 relative to last quarter. I expect this growth to accelerate further towards the end of the year as the benefit of reopening certain geographies and the expansion of our builder business overtake the short-term growth impact of reducing cat exposure. Without the effort to rebalance our geographical exposure, our top line could have been even higher, but these efforts are already improving underwriting results and our bottom line. No home insurance company will ever be immune from weather, and like others, we experienced losses in March of this year from a large hailstorm that affected Texas and Missouri. Because of our ongoing efforts to reduce policy counts in these areas and to increase deductibles that further reduce our exposure, we estimate the direct losses from this event will be approximately 43% lower than what we would have experienced if the exact same event had occurred in March 2023. This is solid progress in a relatively short period of time. And like we discussed last quarter, we feel confident that later this year, after the changes work their way fully through our book, the reduction in expected losses will be even higher. Finally, towards the end of last year, we took aggressive actions to lower costs and drive efficiency into our operations. We are now realizing the full benefit of these cost reductions in our Q1 financials, and those improvements contributed to our progress in reducing our adjusted EBITDA loss during the quarter. Even though Q1 had seasonally higher weather-related losses than Q4 last year, the critical work that started in 2023 has continued into 2024, and our results from Q1 add to the growing evidence of our ability to efficiently grow our business while marching towards positive adjusted EBITDA. Our teams have worked hard during the quarter. I'm encouraged by the progress and excited to report that there's more to come. Now I'd like to turn the call over to our Chief Financial Officer, Stewart Ellis, to walk through the highlights of our Q1 2024 financial results as well as our expectations for the future.

Stewart Ellis, Chief Financial Officer

Thanks, Rick, and good morning, everyone. In Q1, we took another step toward achieving positive adjusted EBITDA later this year, continuing the trends we've been discussing in the past few quarters and showing measurable progress compared to our results from last quarter and to those from a year ago. Before I get into the details of the other line items on the P&L, I'd like to take a minute to highlight how good a quarter it really was for Hippo on the adjusted EBITDA line because it was better than it appears on the surface. Compared to Q1 of 2023, we improved our adjusted EBITDA loss by $32.3 million, bringing it down from $52.1 million a year ago to $19.8 million in Q1. Compared to last quarter, the improvement was only $2.5 million, but we need to keep in mind that Q4 is typically our best seasonal quarter in terms of weather losses for the Hippo program. So the $2.5 million improvement versus last quarter was achieved despite gross losses on the Hippo program being $19 million higher than they were in the quarter. We were able to accomplish this because of the trends we've been discussing over the past year in each of the major line items on our P&L. So I'll try to highlight those trends as we go through the numbers, and then at the end, discuss how each of them contributed to this result. So starting with total generated premium. In Q1, TGP grew to $294 million, a 20% increase year-over-year. As Rick mentioned a few minutes ago, this was an acceleration of growth compared to last quarter, and it is driven primarily by the success we've had offering third-party policy to our customers through our agency and First Connect platforms. Our Insurance-as-a-Service business continued to grow, up 25% year-over-year, while our efforts to reduce cat exposure in our Hippo home insurance program caused TGP from that segment to shrink by 29%. All of these results were in line with expectations and consistent with the guidance we shared last quarter for the full 2024 calendar year. The parts of our business that are less exposed to underlying weather and underwriting volatility, insurance as a service and services rose as a percentage of our total TGP to 80%, up from 77% last quarter. As a reminder, we expect these trends to continue over the course of the year with the services and insurance as a Service segments collectively representing 85% of total TGP by Q4 of this year, at which point we should be starting to see TGP from the Hippo Home Insurance Program segment beginning to grow again, especially in the builder channel, which will help bolster our total TGP growth heading into 2025. Looking at revenue. During the first quarter, we again grew revenue significantly faster than TGP, with it rising 114% year-over-year to $85 million, up from $40 million in Q1 2023. As we discussed last quarter, this growth comes from a combination of volume increases at the Services and Insurance-as-a-Service segments as well as significantly higher monetization of our TGP from the Hippo home insurance program. Within HHIP, we were able to retain 58% of gross earned premium, up from 7% a year ago and also benefited from a 33% year-over-year increase in rate on a written basis during the quarter. Looking at loss and loss adjustment expense. The biggest driver of our consolidated loss and loss adjustment expense, the Hippo Home Insurance Program segment showed strong progress during the quarter. Our HHIP gross loss ratio improved by 21 percentage points to 80% from 101% in Q1 of last year. This portfolio-level improvement, combined with the improvements to our reinsurance structure, drove the even larger improvement in our HHIP net loss ratio, which came in at 100% during the quarter, an improvement of 455 percentage points versus Q1 of last year. As I mentioned earlier, our gross losses at HHIP were $19 million higher than last quarter because of seasonal weather patterns. But because of the increase in earned premium quarter-over-quarter, we now have the earned premium base to absorb these losses, driven primarily by the improvements in the Hippo program, our consolidated gross loss ratio improved 17 percentage points year-over-year to 59%, and our consolidated net loss ratio improved 186 percentage points year-over-year to 87%. We think about fixed expenses and operating leverage. As Rick mentioned earlier, Q1 represents the first quarter where we realized the full benefit of the cost reduction actions and efficiency improvements we implemented late last year. These improvements show the substantial operating leverage we are achieving as we scale. Relative to Q1 of last year, our GAAP sales and marketing, technology and development, and general and administrative expenses collectively declined by 87 percentage points of revenue, shrinking from 135% of revenue last year to 48% of revenue this quarter. Beyond the improvement relative to revenue, each of our sales and marketing, technology and development, and general and administrative line items declined in absolute dollar terms during the quarter relative to both Q1 2023 and Q4 2023. Collectively, these improvements drove a year-over-year reduction in expenses of more than $13 million on a GAAP basis, a decrease of 24% in absolute dollar terms, all while revenue grew 114%. Turning now to adjusted EBITDA. As I mentioned at the beginning of my remarks, our Q1 adjusted EBITDA loss of $19.8 million was a $32.3 million improvement year-over-year and a $2.5 million improvement quarter-over-quarter. The year-over-year improvement in adjusted EBITDA was driven primarily by a 21 percentage point improvement in our HHIP gross loss ratio. Our improved reinsurance structure, which brings our retained premium more in line with the risk we are retaining, cost-saving initiatives we initiated in Q4 of last year, and the growth in our Insurance-as-a-Service and Services segments. The quarter-over-quarter improvement in adjusted EBITDA was driven primarily by realizing the full benefit of the cost-saving initiatives in Q1 versus only a partial benefit last quarter, while the benefit of higher earned premium offset seasonally higher weather-related losses. As a reminder, the definition of adjusted EBITDA that we are using and have used historically excludes net investment income, which amounted to $5.9 million in Q1. Looking forward to the full year 2024, we are reiterating the guidance we provided last quarter. As a reminder, 41% of our annual PCS cat load is estimated to occur in Q2, historically our highest weather last quarter. When we report Q2 results, we plan to provide updated guidance for the rest of 2024. And finally, before I close and open the floor for questions, I'd like to point out that Q1 was the first quarter in the company's history where our cash balance increased for reasons other than raising additional capital. Cash equivalents and investments rose by $6.8 million during the quarter. This increase was a function of some working capital changes and other one-time benefits, so I don't expect that we'll be cash flow positive in every quarter this year, but it is a significant milestone for the company and a reflection that we are getting closer to a point where we expect to generate consistently positive cash flow. And with that, operator, I'd now like to open the floor to questions.

Operator, Operator

We have our first question coming from Yaron Kinar of Jefferies.

Yaron Kinar, Analyst

Congrats on achieving the free cash flow milestone. I guess a few questions, if I could. First, on the sales and marketing spend, it seemed to come in a little lighter at least than where I'd expected it to be. Is there a seasonality pattern there or do you think that it will remain at relatively these levels as you continue to achieve this strong level of growth?

Stewart Ellis, Chief Financial Officer

Yaron, this is Stewart. I can address this. I expect our sales and marketing expenses, along with other fixed costs in the profit and loss statement, to stay about the same for some time. Q1 is a reasonable estimate for the quarterly run rate. It's important to note that not all the additional total gross profit requires spending to acquire new customers, especially in the insurance-as-a-service segment, where much of the growth comes from existing programs. This allows us to expand efficiently, and I believe this is reflected in the Q1 profit and loss statement.

Yaron Kinar, Analyst

Got it. I'll add one quick thing to what Stewart said. The other aspect to remember is in our services segment, we are doing a better job of cross-selling new policies to existing customers in which you see growth related to those efforts, yet we don't have any incremental marketing spend because they're existing customers.

Stewart Ellis, Chief Financial Officer

That makes sense. And while we're on services, why was the very strong TGP growth there, like 37%, translate to only 16% revenue growth?

Richard McCathron, President and CEO

I can handle that. It’s a mix of factors. In the services segment, we have various types of businesses. We operate an agency that sells insurance policies to consumers, including homeowners and non-homeowners. Additionally, we have our First Connect platform, which assists carriers seeking additional demand for their products and agents looking for more capacity to sell. The First Connect platform functions as a marketplace, and our revenue comes from a share of the commission paid by carriers to independent agents, operating at a lower percentage of total gross premiums. Although it has a high variable contribution margin, it contributes less as a proportion of total gross premiums. The First Connect platform is experiencing rapid growth, leading to a shift in the mix toward more First Connect premium in that segment during the quarter.

Yaron Kinar, Analyst

Got it. So it would be reasonable to think of that conversion rate maybe continue to track a bit lower due to the mix shift?

Stewart Ellis, Chief Financial Officer

I think that's right. We see First Connect continuing to grow quickly and, over time, it will represent a larger share of the services segment. We are still adding new consumer customers within the agency and increasing the share of wallet by selling multiple policies to consumers through our cross-sell efforts. First Connect is growing rapidly, and I expect to see a gradual shift towards First Connect as it continues to expand.

Richard McCathron, President and CEO

I will add, this is Rick. I will add, Yaron, over time, as we continue to reopen geographies for our Hippo home insurance program, when we acquire customers for that program, we don't always place them with Hippo. We look for the best policy to meet the needs of that particular customer. Therefore, we will continue to grow third-party policies in our agency or our services business that is not part of the First Connect platform over time as we get into the second half of the year. So I would keep that in mind as well.

Yaron Kinar, Analyst

Okay. That's helpful. And last question for me. In HHIP, we saw the attritional loss ratio improve by a point. I think there's a lot going on underneath that though. You have a mix shift away from cat-exposed business, which I would think would drive the attritional loss ratio higher. It seems I have the rate impact and maybe other underwriting actions. Can you maybe help us sort through that, maybe offer some waypoints in terms of the puts and takes there? What was the good guy? What was the bad guy by what magnitude, just so we have maybe a better sense of what is truly going on under that improvement in the loss ratio?

Stewart Ellis, Chief Financial Officer

Yes, Yaron, I can respond to that. You're correct that on a like-for-like basis, the attritional loss ratio or the non-PTS loss ratio improved more than 1 point year-over-year. However, as you mentioned, we are shifting our mix away from higher catastrophe geographies within the portfolio. This means that, everything being equal, reducing the premium related to higher volatility weather should lead to an increase in the attritional loss ratio, purely due to mix reasons. The fact that we are still improving the attritional loss ratio despite this headwind is a reflection of the rates we’ve been earning. In recent quarters, we've seen written rates in the high 20s and low 30s, and we are beginning to benefit from that on the earned side. In this quarter, we did experience some non-weather-related water issues that added to the losses, but I believe the variation is within normal limits. I can’t provide a precise quantification on this call, as we haven’t discussed the specifics in this level of detail, but the aspects you're bringing up are valid. I expect we will see further improvements as the year progresses, both quarter-over-quarter and year-over-year. The positive trends in both the PCS and non-PCS loss ratios will continue. While mix effects are somewhat obscuring these trends right now, as we work through project volatility to reduce our exposure to higher TAD areas, I anticipate that this mix shift will diminish, and you will see more significant improvements in the attritional loss as we approach the end of the year and into 2021.

Richard McCathron, President and CEO

Yes, Yaron, this is Rick. I want to highlight something that Stewart mentioned. Even though we've maintained a relatively stable attritional loss ratio despite the mix shift, it's a challenging balance. We're writing less business at higher premiums in areas exposed to catastrophic events, while the additional premium gradually integrates into our operations. I want to stress that our attritional loss ratio isn't where we anticipate it to be by year-end. As Stewart pointed out, the mix shift will begin to diminish, and we are committed to earning additional rates and implementing positive underwriting actions, which we expect will lead to improvement as we approach the end of the year.

Operator, Operator

We now have our second question coming from Thomas McJoynt of KBW.

Thomas McJoynt-Griffith, Analyst

You mentioned that the rate increase on a written basis is 33% year-over-year. How close are you to that 33% in terms of what you need long-term? Additionally, in relation to the HHIP program, we've observed that the TGP in that area has been decreasing for several quarters. Where do you anticipate the lowest point for that business this year? It seems like it might reach a turning point at the beginning of next year, but I'm curious about the lowest level for this year.

Richard McCathron, President and CEO

Yes. Tommy, this is Rick. I'll go ahead and start and then Stewart can add in on this one. A couple of different things. First, I'll answer your second question first. I think I mentioned this at the end of the earnings call last quarter; we started our, what we call project volatility, which is the cooling or improvement of the existing HHIP business, approximately October of last year. We take the actions at renewals of policies, and we would expect those efforts to be done approximately October of 2024. And as such, the growth that we get from the non-existing portfolio, the new business we're writing, both in the builder channel and other areas, that's when it will reverse itself. So I think towards the end of this year in Q4, that's when you're going to start seeing growth again in the HHIP channel. Your first question with some exceptions and the exceptions being geographically or regulatorily based, we think that we have filed and approved the majority of the, what I would call, corrective rate actions to get us to price adequacy. Those need to work their way through the business. However, it's a process that never ends. So we continue to look at trends, both frequency and severity and inflation components, and we expect us to continue to take incremental rate as those trends dictate the need to do so over time. But in terms of what I would consider the heavy lift that's been done, and now it's just working itself into the book with a few geographical exceptions.

Thomas McJoynt-Griffith, Analyst

Got it. I appreciate the color there. Switching over, can you give us an overview of the capital and kind of capacity situation and perhaps breaking it down by how much unencumbered capital is currently at the holding company? How much capital is at Spinnaker in terms of like what premium leverage that is supporting? Just kind of give us an overview of the capital.

Stewart Ellis, Chief Financial Officer

Tommy, this is Stewart. I can provide some insights. Historically, we haven’t gone into details about this, but generally, we can allocate capital within the organization while adhering to certain restrictions. Our focus is on investing that capital in areas where we expect to achieve the best returns during any given period. We are confident in our current capital placements within the broader corporate structure. We also believe we have the liquidity and flexibility needed within our capital framework to continue investing aggressively in the business as we work towards becoming adjusted EBITDA positive. Overall, from a capital and flexibility perspective, we are positioned well and are directing our capital towards opportunities that promise the highest returns.

Richard McCathron, President and CEO

One thing I'll add, Tommy, is that from a Spinnaker perspective, our carrier or insurance as a service perspective, we believe it is well capitalized to continue to grow that business with a very favorable BCAR score. So we feel very good about our flexibility and our position to continue to invest and grow the business.

Thomas McJoynt-Griffith, Analyst

And then just last one real quick. You gave the disclosure that the sort of the annual cat load breaks down into 41% of it coming through in the second quarter. Do you have what the typical mix is in the other quarters, first, third, and fourth? Perhaps it's a dynamic question just given the changing book of business, but if you could kind of help us out just with modeling that.

Stewart Ellis, Chief Financial Officer

Tom, I can take that one. We outlined it annually in our last shareholder letter and the guidance we provided for the year. The guidance we reiterated on this call indicates approximately 29% in the first quarter, 41% in the second quarter, 19% in the third quarter, and 11% in the fourth quarter. This cat load results from the geographic exposure of our policies and the weather we encounter, reflecting the adjustments we are making throughout the year concerning our exposure concentration in high cat areas.

Richard McCathron, President and CEO

Yes, Tommy, I would like to add a couple of things to Stewart's comment. So first of all, the weather doesn't really look at the calendar. So those numbers are based on historical averages and breakdowns and where we expect the portfolio to be going. I will emphasize that the work that we're doing in our project volatility, that's over a year's time, so October to October. When we experience or if we experience earlier season events, that will have more of an impact on our portfolio than if the events get pushed later in the season because each month, we're making greater strides on reducing our exposure to volatility. So there is some variation there, but what helps our portfolio is if this turns out to be a later season, Q2 as opposed to an earlier season Q2. We don't think it's dramatic, but there is some variation based on that.

Operator, Operator

We have another question from Mr. Yaron Kinar from Jefferies.

Yaron Kinar, Analyst

I just wanted to follow up, Rick, on your last comment about the timing of catastrophe losses. Given that it's early May, are you noticing that we’ve experienced several significant convective storms in the past weeks? How do you view where we stand in terms of seasonality? Would you say we are early or late in the season? Are you pleased with how things are unfolding and the timing of the storms, or do you have some concerns?

Richard McCathron, President and CEO

Yes, that's a really good question. So, a couple of things. One, the more recent events we've observed have occurred in various areas, but I think Oklahoma, for example, experienced significant impact. We do not engage in business in Oklahoma, so the location of the events is relevant. Currently, I believe we are in what I would consider the traditional or historical second quarter. Some of the events we witnessed around mid-March, particularly around March 15, I considered to be early. However, at this moment, I think we are aligned with our expectations.

Operator, Operator

We currently have no further questions.

Richard McCathron, President and CEO

Great. Well, if there's no further questions, we appreciate everybody's time today, and we look forward to speaking with you next quarter. Have a great day.

Operator, Operator

Ladies and gentlemen, this concludes today's call. Thank you for joining. You may now disconnect your lines.