Earnings Call Transcript - KINS Q4 2021

Operator, Operator

Greetings. Welcome to the Kingstone Company's Fourth Quarter and Year End 2021 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note, this conference is being recorded. I will now turn the conference over to your host, Rich Swartz, Chief Accounting Officer. Thank you. You may begin.

Rich Swartz, Chief Accounting Officer

Thank you very much, Alex, and good morning, everyone. Yesterday afternoon, the company issued a press release detailing Kingstone's 2021 fourth quarter results. On this call, Kingstone may make forward-looking statements regarding itself and its business. The forward-looking events and circumstances discussed on this call may not occur and could differ materially as a result of known and unknown risk factors and uncertainties affecting Kingstone. For more information, please refer to the section titled Factors that may affect future results and financial condition in Part 1 Item 1A of the company's Form 10-K for the year ended December 31, 2020, along with commentary on forward-looking statements at the end of the company's earnings release issued yesterday. In addition, our remarks today include references to non-GAAP measures. For a reconciliation of our non-GAAP measures to the GAAP figures, please see the tables in our earnings release. With that, I'd like to turn the call over to Kingstone's CEO, Mr. Barry Goldstein. Please go ahead, Mr. Goldstein.

Barry Goldstein, CEO

Thanks, Rich, and good morning, everyone. We are pleased that you can join us for this, our fourth quarter 2021 conference call. We are very happy to put 2021 behind us; what a long year it was. And it was a difficult year, no doubt. But quietly and without much fanfare, we have rebuilt our company and its products. We are poised to excel and are very bullish on our future. Relatively speaking, the fourth quarter was okay with results quite similar to the prior year but I'll let Meryl discuss the quarterly results in detail. I'm going to talk today more about the year as a whole and also about our future. We ended 2021 with a significant underwriting loss. The loss was driven by three major factors, all of which had been previously discussed with you. First, catastrophe events added more than 10 points to our combined ratio. Second, a high number of severe fires added 3 points. And third and finally, there was an uptick in liability claims in our property lines of business which added almost two points. Again, we've discussed this with you previously, but we cannot control the weather or the number or severity of the events. While we think the frequency of catastrophe events in 2021 was highly unusual, only time will tell if that's the case. But it is what it is, and given the large decline in our company surplus caused by these catastrophe events and now in 2021 as well, we made the decision to strengthen our reinsurance protections and enter into a new 30% quota share treaty for 2022. This quota share derisks our company, both from catastrophe losses by reducing Kingstone's retention by more than 25% and also, in conjunction with the addition of an additional layer to our single risk excess of loss treaty, our exposure to a large individual loss is cut by up to 50%. We are thankful to our reinsurance partners for their support. The frequency of severe fire losses that we experienced in 2021 has no specific cause. We looked at every dimension there is and could not find a specific root cause. We couldn't find an associated driver in our book and think it was just bad luck. But with the new reinsurance structure, we are now better protected from these severe losses. As far as liability losses go, it's my opinion that most of it is attributable to COVID-19. People working from home and spending more time in and around the house results in more opportunities for problems; couple this with a lot of deferred maintenance on the structures and property. We have seen these factors abate in the fourth quarter and into 2022. In the fourth quarter, the positive impact of rate increases we've taken are beginning to show up noticeably. For the full year, we had a 7.3% increase in written premiums but just a 2.9% increase in policies in force. The gap where premiums are rising faster than exposures is what we've been working on, increasing profitability and widening underwriting margins. In the fourth quarter, that impact is magnified. Premiums grew by over 13% with about a 1.1% increase in policies in force over the prior quarter. As the rate actions taken by our team continue to work through our financials and maintaining our strict underwriting discipline, the enhanced profitability will continue. We are seeing these same factors play out in 2022 to date. Again, this is just an ever-widening increase of premium over risk taken. There is always a concern about retention when raising premium rates. Will the insured seek to shop elsewhere to contain their costs? While we have seen our average rates increase markedly, we are very pleased that, in fact, our retention is increasing, not decreasing. This bodes well for 2022 and the future. You've heard us talk about Kingstone 2.0, our modernization effort for some time. Our goal since late 2019, when Meryl joined our company and put this plan into place, was straightforward and simple. First, build a new advanced product which better matches rate to risk, drawing upon multiple data sources and incorporating property-specific reinsurance factors. We call these products Select, Select homeowners, Select dwelling fire, Select to honor our agent partners who, for the past 20 years, we've called Select since John Reiersen was CEO and he began this naming. Second, Kingstone 2.0 sought to streamline our many systems into a single policy issuance and management system to run our company. We are making great progress on our system conversion. We're on track to retire our legacy systems this year. This will reduce our expenses and greatly increase the efficiency of our staff. Expenses declining is the hope for our result. It is, in fact, a very exciting time to be at Kingstone, and the benefits of this second prong of Kingstone 2.0 will begin to work through our financials. 2022 will be a pivotal year for the company as these Kingstone 2.0 initiatives come to fruition. Already, we've achieved the single biggest milestone. We've gone live with our Select homeowners and our Select dwelling fire product in New York, which, as you know, still accounts for more than 75% of our total premium generation. Given the improvement in pricing sophistication in these new products, we are confident that with its heightened segmentation and expanded granularity Select will translate into significant improvements to our loss ratio. It will enhance our profitability. And our goal is to bring these Select products to all states, and pending regulatory approval, we expect this process to be completed within a year. Let me now turn the call over to Meryl to review our financial results.

Meryl Golden, CFO

Thanks, Barry. The company posted fourth quarter net income of $2.2 million and $0.21 per diluted share compared to net income of $3 million and $0.28 per diluted share for the same period last year. Direct written premiums for the quarter were up 13.2% to $50.1 million, a new high for the company, an increase of $5.9 million from $44.2 million in the prior year period due to entering into a new 30% quota share reinsurance trade effective at year-end. Net written premiums decreased by $26.8 million or 58.5% this quarter. In Q4 2021, net loss in LAE was 61.8%, down 1.6 points from the prior year, so it was a relatively good quarter. During the fourth quarter, we experienced two catastrophe events, and catastrophes added almost 7 points to our quarter's loss ratio. For non-cap, frequency declined from Q4 in the prior year, particularly in the fire peril, but there were several large losses, both fire and water which increased the quarterly loss ratio by 12.9 points. Liability frequency declined since the third quarter for our largest line homeowners to a level that is more in line with history. Dwelling fire liability frequency remains elevated compared to history, but we are seeing some signs of improvement over the past few months. We continue to expect this increase in frequency is related to COVID, as Barry previously shared. For the current quarter, the net underwriting expense ratio increased by 0.5 points to 39.4%, but our underwriting expenses as a percent of direct written premium were down 0.5 points. We expect to see a decline in our expense ratio in 2022 due to many factors, including the retirement of our legacy systems. Overall, it was a good quarter. This is a pivotal time for the company as we will finally start to realize the benefits of our Kingstone 2.0 initiative. We have done and continue to do all of the right things to return the company to profitability. Now let me turn the call back over to Barry to discuss our investment results.

Barry Goldstein, CEO

Great. So during the quarter, we realized a gain of just over $4.4 million on our bond portfolio. Our new portfolio manager is better diversifying the investments and adding new classes while increasing the portfolio's average credit rating. The proceeds from these sales were reinvested in limited duration, high-quality fixed income mortgages and bonds. Unfortunately, like many others, we've seen a decline in bond values as rates in late 2021 and into 2022 have moved up considerably, most profoundly in the shorter maturities such as Kingstone holds. During the quarter, we did not repurchase any more shares, and we paid an additional $0.04 in dividends. Like Meryl, I'm very bullish that we've done all the right things to enhance our profitability and look forward to 2022. Now I'll turn the call back to the operator to poll for questions so that I can reply to them. Operator, please pause for questions.

Operator, Operator

Our first question comes from the line of Bob Farnam with Boening Scattergood. Please proceed with your question.

Robert Farnam, Analyst

Hi, good morning. Regarding Kingstone 2.0, is the conversion of the legacy systems expected to be completed in 2022?

Barry Goldstein, CEO

Yes. Three years Bob working at this. This is the year where the rubber hits the road.

Robert Farnam, Analyst

You mentioned that the expense ratio is likely to improve due to the enhancements in the legacy systems and other changes. Could you provide an estimate of the extent of improvement you anticipate for the expense ratio?

Barry Goldstein, CEO

Meryl, do you want to take that?

Meryl Golden, CFO

Sure. So it's really difficult to understand our expenses because of the quota share treaty. So we have treaties running off and new treaties coming on. So I think the right way to look at our expenses is a percent of direct written premium. And when you look at our expenses that way, what you've seen is that our underwriting expenses are actually coming down and they'll continue to. So the legacy systems, as an example, that will be retired this year, they'll save us over $1.5 million annually from retiring those systems. So right now, we're kind of double paying. We've also incurred quite a bit of expense relative to the development of our Select product that has been expensed along the way. So those consultant expenses will be gone as well. So there's many other things that we're doing. And I think you'll see a nice reduction in our expenses in 2022 and beyond.

Robert Farnam, Analyst

Okay, great. Just switching to rate increases. So what type of rate increases did you achieve in 2021? And what are you filing for, for 2022?

Meryl Golden, CFO

Yes. We are now on an annual trajectory in all of our states. In 2021, we had high single-digit growth on average, and we expect something similar for 2022. For example, in New York, we currently have 8% running through our book.

Robert Farnam, Analyst

Is the potential for stronger storms hitting farther north a concern for Kingstone, and was that a reason for increasing the reinsurance protection?

Barry Goldstein, CEO

Well, let me start with that, Bob. And yes, of course, we're cognizant of this. It's easy to point to climate change as a factor. But yes, I mean being realistic, my job is to protect the company's balance sheet, and that's really why we strengthened our reinsurance here.

Robert Farnam, Analyst

Okay, great. Thanks for that.

Operator, Operator

Our next question comes from the line of Paul Newsome with Piper Sandler. Please proceed with your question.

Paul Newsome, Analyst

Good morning. Thank you for the call. In addition to the rate, you have been focusing on enhancing the underwriting process. Can you share any details about the changes in the mix? Are costs decreasing? Is there a shift in the age of your customers? It would be helpful if you could discuss the composition of the book and how it is evolving in terms of customer type and location.

Barry Goldstein, CEO

Yes. I think that points directly at our new Select product. And since Meryl was really the one responsible for that, Meryl, why don't you try to give a little color as to what the impact we're seeing and we expect to see?

Meryl Golden, CFO

Sure. I want to highlight that we've invested significant effort in managing our catastrophe exposure, even prior to the introduction of Select. This year, as we prepare for our next reinsurance purchase, I notice that while our premium has increased, our probable maximum loss is actually decreasing. This trend is promising for our reinsurance costs and reflects the various strategies we've implemented to improve our management. Regarding Select, it's early to draw conclusions, and we aren't observing much change in the mix so far. However, during the development of this new by-peril product, we incorporated projected losses and reinsurance costs from the AIR catastrophe model into our territorial factors. This enhancement has improved the alignment of our rates and risks, enabling us to expand our underwriting appetite as we now feel adequately priced for those exposures. I hope that clarifies your question, and I'm ready to address any further inquiries you may have.

Barry Goldstein, CEO

I mean just to be clear, a little more from what Meryl said, we buy to a 1/1 30 for catastrophe loss, so return period of 130 years. Keeping that the same, we bought to a $500 million limit in each of our renewals for 2020 and 2021. And for 2022, based upon the latest data we have, the limit we will need to buy to will actually be less than $500 million. So all the actions that have been taken to control our PML, it's not that they're done but they've worked. And we've contained our cost of reinsurance by doing so. I hope that gives you a little more color.

Paul Newsome, Analyst

No, absolutely. I’m interested in your thoughts on the competitive environment. There was a time when the Florida Riders, in particular, were entering your region aggressively, but it seems that may have lessened somewhat. I would love to hear your perspective now that you're on the ground.

Barry Goldstein, CEO

Yes. There's always competition, and when a new company enters the market, it often replaces an existing one. Regarding the Florida Riders who expanded to New York, they are not as significant a factor as they once were. However, there are still others, and we continue to manage that. Meryl, would you like to add anything to this?

Meryl Golden, CFO

Sure. I mean I would just say it's a very robust competitive environment. And as Barry said, some of the companies that historically were the strongest are more on the sidelines now, but there's plenty of other companies writing business that we're competing with. And at different times, some get really aggressive, and that hurts our volume. And all we can do is just hope that they learn quickly from their mistakes. So we haven't really seen any new players that have had much of an impact, but it is a very competitive marketplace. And we are very well positioned in this marketplace.

Paul Newsome, Analyst

All right. Best of luck for the rest of the year.

Barry Goldstein, CEO

Thanks, Paul.

Operator, Operator

Our next question comes from the line of Gabriel McClear, a private investor. Please proceed with your question.

Unidentified Analyst, Analyst

Hey, good morning guys, and congrats on the direct written premium record.

Barry Goldstein, CEO

Thank you.

Unidentified Analyst, Analyst

Yes, that's really great. So I wanted to ask a clarifying question on the policies in force, first of all, and then maybe get into the portfolio later. But the policies in force, did I hear you right, Barry, when you said they grew by 2.9% during the year and then 1% in the fourth quarter?

Barry Goldstein, CEO

The yearly increase was 2.9%, and the sequential quarterly change was 1.1%. I'm saying that if I match those numbers up from what you said. I mean, look, we've spent the better part of more than two years focusing on profitability. Profitability by taking rate, profitability by being smarter about underwriting, profitability in many measures. But to me, the most obvious inference is if you're growing the dollars faster than the amount of risk you're taking on, then by definition, your profitability widens. And that's really what we're talking about.

Unidentified Analyst, Analyst

Okay, got it. And then just kind of like to dig into the portfolio realignment. What's the overall credit quality of the bond portfolio look like? And then maybe what does the other 22% of the portfolio look like, stuff like that?

Barry Goldstein, CEO

The bond portfolio's largest component has traditionally been corporate bonds. When we changed portfolio advisors in 2021, they recommended reducing our exposure to corporate bonds and increasing our investment in mortgage bonds, which we initiated. You likely noticed this shift in the third quarter, leading to better diversification within the bonds. Previously, the portfolio had an overall A- rating, but the last time I checked, it may have adjusted to an overall A rating for average credit quality. We've kept a limited duration of about five years. While many focus on the 10-year interest rates, our portfolio is more aligned with the five-year rates. Recently, the shorter end of the rates has risen first as the market anticipated Fed rate increases. I hope this gives you a clearer picture of our fixed income situation. The rest of our portfolio primarily consists of preferred stocks and some common stocks, although I believe over 95% of our holdings are either bonds, dividend-paying stocks, or fixed income ETFs. Our goals for the portfolio remain the same: to enhance profitability while protecting our balance sheet. We prefer steady gains over taking big risks.

Unidentified Analyst, Analyst

Okay, great. Thanks. That makes a lot of sense.

Barry Goldstein, CEO

Thank you.

Operator, Operator

Our next question comes from the line of Gregory Fortino, a private investor. Please proceed with your question.

Unidentified Analyst, Analyst

Hey, good morning, Barry. How are you?

Barry Goldstein, CEO

Great. Thanks for calling, Greg.

Unidentified Analyst, Analyst

Okay. A couple of things. So you mentioned a few times in the call the first quarter, and since we're fairly far along. Can you talk about that? I mean any comments as far as how it's looking?

Barry Goldstein, CEO

Yes. I mean, to the extent that I can, Greg, I will. And you're right, I have alluded to it. We have seen a continued growth in our portfolio at a rate very much matching what we saw in the fourth quarter. Premiums are growing nicely but much faster than policy count, further showing the rate burning through our portfolio. So in that way, I can help you give some thought to what the first quarter looks like.

Unidentified Analyst, Analyst

It seems like we've had a relatively mild fourth quarter regarding losses. Can you share any insights on how it appears?

Barry Goldstein, CEO

Yes. Well, If I remember, Greg, you're only about 10 miles from me. So you see basically the same things we do. Meryl, are you aware of any PCS events in the first quarter?

Meryl Golden, CFO

I think we may have had one small event, but you're right, it's a mild winter.

Barry Goldstein, CEO

Yes. Keep in mind, Greg, that we go from Massachusetts to New Jersey. So there's a lot of weather that takes place outside of the New York metropolitan area that we don't see or hear about until I look at the claims counts come through.

Unidentified Analyst, Analyst

It seems that everything is firing on all cylinders based on what you're reporting, and your hard work is paying off. In a typical year without significant catastrophic events, what can we anticipate in terms of earnings? I understand it’s challenging with the storms impacting the situation, but given your references to historical data during the call, what could we expect for earnings in a normalized storm season?

Barry Goldstein, CEO

Yes, I mean twice in the past, we've tried to give guidance as to earnings or combined ratio and whatever. And quite frankly, I found my foot in my mouth both times. So I'm not anxious to do that again. What I can say is that if you just acknowledge that so much of the volatility in our financial results comes from the volatility in weather, then a typical non-heavy cat year should see our results come into, call it, mid-90s combined ratio. So underwriting profitability and a return on equity in the higher single digits, if you would, mid- to high single digits. But Greg, it's very difficult for me to...

Unidentified Analyst, Analyst

Yes, if you knew what storms were approaching, you would likely be enjoying time on the beach right now.

Barry Goldstein, CEO

Actually, I'd be at Aqueduct.

Unidentified Analyst, Analyst

All right. Last question. I saw you didn't buy any stock back this last quarter. I'm assuming that's just for capital reasons. At some point, will you start buying stock back? Or is that on hold until results improve?

Barry Goldstein, CEO

Yes, you're correct that we didn't make any purchases, and we are being very careful with the remaining capital we have. Each of the two storms, Elsa and Ida, impacted us by $10 million. With a stock trading at 70% of book value, I believe it's an excellent opportunity to invest excess capital. However, at the moment, I'm uncertain if what we have can be considered excess.

Unidentified Analyst, Analyst

Okay. Since you brought that up, can you share if there have been any insider stock purchases or changes in positions?

Barry Goldstein, CEO

No. I mean, I have and always filed with the SEC timely for all my share purchases. And I think what you might be talking about is I had a restricted stock award that vested at the beginning of this year; that's publicly on record. And I think I wind up now owning at least according to S&P Global, 9.95% of the shares of the company. So yes, and there's no intention to do anything but more of the same. Keep in mind that the tax cost to that vesting for me was in the hundreds of thousands of dollars, so I pay for the privilege.

Unidentified Analyst, Analyst

Okay, I understand. Well, I am looking forward to a good year. And hopefully, we won't have too many storms. Thank you very much.

Barry Goldstein, CEO

Thanks, Greg.

Operator, Operator

Ladies and gentlemen, we have reached the end of the question-and-answer session. I will now turn the call over to Barry Goldstein for closing remarks.

Barry Goldstein, CEO

Great. And thanks, everybody, for joining in and thanks for following up with Kingstone. We are in the midst of our pivotal year. We've got a team in place that is happy and working really hard to deliver, and I'm really hopeful that the results will pan out and even be better than what we can hope for. So thanks again. We'll talk again soon. Bye.

Operator, Operator

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