Earnings Call Transcript - KINS Q2 2024

Operator, Operator

Greetings, and welcome to the Kingstone Company's Second Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Karen Lee, Vice President of the Equity Group and Kingstone's Investor Relations representative. Karen, you may begin.

Karin Daly, VP of Equity Group

Thank you, Chemaly. Good morning, everyone. Joining us on the call today will be Chief Executive Officer, Meryl Golden; and Chief Financial Officer, Jennifer Gravelle. On behalf of the company, I would like to note that this conference call may contain forward-looking statements, which involve known and unknown risks, uncertainties and other factors that may cause actual results to be materially different from projected results. Forward-looking statements speak only as of the date on which they are made, and we undertake no obligation to update the information discussed. For more information, please refer to the section entitled Factors that may affect future results and financial condition in Part 1 Item 1A of the company's latest Form 10-K. Additionally, today's remarks may include references to non-GAAP measures. For a reconciliation of these non-GAAP measures to GAAP figures, please see the tables in the latest earnings release. With that, it's my pleasure to turn the call over to Meryl Golden. Meryl, you may begin.

Meryl Golden, CEO

Thanks, Karen, and good morning, everyone. We are so proud of our second quarter results. This is our third consecutive quarter of profitability and the most profitable quarter for Kingstone in the last seven years. I had said repeatedly that we were doing all of the right things to return the company to profitability over the years and we are finally seeing the benefits of all of those actions consistently in our financial results. There could not be a better time for Kingstone to grow faster than now as we are priced right, insured to value, have a product that properly matches rate to risk, have the right teams in place across the organization and have reduced our expenses markedly and now we are faced with an unbelievable market opportunity that I wrote about in my midyear letter to shareholders and will expand upon today. Let me remind you that more than two years ago and well ahead of many of our competitors, we recognized that loss trends are on the rise and then inflation, a primary factor driving our loss trends would also result in many of our customers being underinsured. We acted quickly to raise our premiums and put a plan in place to update replacement cost on every policy renewal. One of the benefits of being an early mover is that we have successfully returned to profitability while some of our competitors are still restricting their business or have shut down completely, which along with an expansion of our underwriting appetite, fueled the growth in our core business this quarter. As quota share insurance market has been volatile for some time in our core state of New York with a large competitor going insolvent and others shutting down or restricting their business over the last two years. However, market dynamics have changed profoundly in the last few weeks, competing carriers representing more than $200 million in annual premium made the decision to exit New York State or to exit the personal property market countrywide. We knew that the policies issued by these carriers needed to be moved to alternative carriers and assumed that it would happen over the next year. However, about 10 days ago, we learned that the policies of two of those carriers, over 60,000 policies in our downstate New York footprint will need to be moved to alternative carriers by the end of this year. For perspective, that number of policies is roughly the size that Kingstone is today. While the growth potential is seemingly limitless, we cannot write at all. Our intent is to maximize our growth only in those segments that meet or exceed our profitability targets. We are in the fortunate position to pick which segments we want to write because market capacity is severely constrained. Our objective is profitable growth, not growth for growth's sake. Kingstone has learned this lesson before, particularly when we expanded into the non-core states and we will not make the same mistakes again. As I stated last quarter, it's very easy to grow in the insurance business, but it's much harder to grow profitably. We plan to capitalize on this amazing opportunity by being very intentional and selective on which properties we write and very nimble to change our approach as we learn more and as market conditions evolve. It is such a difficult time for our select producers and we will do everything we can to help them through this unprecedented situation. While the specifics of these market dynamics are new and evolving, Kingstone's entire leadership team is focused on the changes we need to make to successfully seize this incredible opportunity with as minimal disruption as possible to our underwriting and service standards. We are carefully monitoring our capital position and will utilize quota share if needed to ensure we have the capital needed to support our growth. Year-to-date, most of our growth has been from increases in our average premium rather than growth in policy count. Going forward, while we'll still benefit from increases in average premium, most of our growth will come from increasing our policies in force. For visibility, I want to give you an update on some of the metrics that I shared in my midyear shareholder letter when we had just learned about this market dynamic. At that time, I shared that our new business policy count was up three times the prior year month. While we ended the month of July with an overall five times increase rather than the three times that we had shared, and this has increased materially so far in August. I also shared that we were at nine times the prior year months new business premium level. We completed the month of July at 13 times higher new business premium, well ahead of the nine times that I had shared and are seeing the same trend so far in August. While it's hard to see beyond the current opportunity that is directly in front of us, we have been thinking a lot about the longer term and how to continue our profitable growth trajectory beyond 2025. We have what we now call our platform, our proven select product, a competitive expense structure and expert staff in all areas of the company. We have opportunities for enhanced segmentation in our select product to better match rate to risk and will make us more competitive in our core business. We also want to grow the company in other ways. We have been discussing expansion of our platform to other geographies, to increase our footprint, additional product offerings, alternative distribution channels and potential acquisitions, among other strategies. There is a lot more work to do before we finalize our longer-term plans, but I feel confident that we now have a scalable platform to continue to drive profitable growth for many years to come. Before I touch on full year guidance, I wanted to share an update on our debt that will be maturing at year-end. I am delighted to share that we have a solution, and we are currently in the final stages of execution. Since this is in process, we cannot share any information or answer any questions regarding the debt at this time. However, I can share that this solution will be announced within the next month, and I have confidence that you will be happy with the outcome. Stay tuned. And finally, turning to guidance. I will first cover our updated 2024 guidance that we unveiled in yesterday's earnings release and then share our initial expectations for 2025. With half of the year under our belt, full year 2024 guidance is as follows: direct premium written growth in our core business in the range of 25% to 35%. This increased from just two weeks ago. And based on approximately $125 million of net premiums earned, we expect to achieve a GAAP combined ratio between 84 and 88, earnings per share between $1 and $1.30 and return on equity between 26% and 34%. We're also happy to share our initial expectations for full year 2025 and as follows: direct premium written growth in our core business in the range of 15% to 25%. And based on approximately $150 million of net premiums earned, we expect to achieve a GAAP combined ratio of between 85 and 89, earnings per share between $1.20 and $1.60 and return on equity between 22% and 30%. The recent change in our market opportunity that I have been discussing has not been factored into our earned premium combined ratio earnings per share or return on equity in the guidance provided for 2024 or 2025. It's just too early to be able to do that. As soon as we can forecast the impact, I will update the guidance. Otherwise, our guidance assumes no material changes in our business. And as a reminder, our results are very weather dependent, and we have assumed no major catastrophe events in this guidance. We have also assumed that the cost for capacity reinsurance for the 2025-2026 treaty year will increase modestly relative to this year's treaty. Last, note that the second half of 2024 and full year 2025 does not assume any gains or losses from our investment portfolio. With that, I'll turn the call over to Jen for a more detailed review of our quarterly financial results. Take it away, Jen.

Jennifer Gravelle, CFO

Thanks, Meryl, and good morning, everyone. As Meryl mentioned, we could not be more pleased with our second quarter and first half year results. This now marks our third consecutive quarter of profitability with net income of $4.5 million or $0.41 per basic share. For the year-to-date, our net income is up $11.5 million over this period last year. On a consolidated basis, direct premiums increased 12% and inclusive of a 21% increase in core direct written premiums partially offset by the continued reduction of our non-core business, which decreased by nearly 60% compared to the same period last year. The increase in our core business reflects strong pricing action with average premium up more than 18% in the quarter. Our combined ratio improved by 21 points to a 78.2% for the quarter. Our current accident year loss ratio improved by 18 points with a 15-point improvement in non-cat losses and a 3-point reduction in catastrophe losses. We also had $430,000 of favorable prior year development, reducing the loss ratio by 1.4 points. Our expense ratio was 31.2%, a 1.2 point improvement from the second quarter of 2023. While our expense ratio is higher than the target shared in Meryl's year-end letter to shareholders, the difference is almost entirely due to increased employee bonuses and contingent commission to our producers, which are triggered off of our better-than-expected underwriting results. This is a good problem to have. Our non-cat loss ratio improvement was driven by homeowners, our main line of business with decreases in both frequency and severity for our largest perils of water and fire compared to the prior year. We attribute this improvement to better risk selection in our select product and the reduction in our non-core business. We also experienced fewer large losses this quarter compared to the prior year and the three-year average for the second quarter. We are now confident that the spike in large losses we experienced in 2023 was random. For the quarter, net investment income increased 22% to $1.8 million compared to $1.5 million in the prior year quarter. Excess cash generated from operations, along with maturities from our bond portfolio and proceeds from the sale of preferred stock have been invested in treasuries to take advantage of their high risk-free rate. We continue to reduce our preferred stock holdings to lessen the volatility in our portfolio, resulting in a $200,000 loss for the quarter. The average yield on non-cash invested assets was 3.81% as of June 30 compared to 3.63% as of June 30, 2023, with the effective duration of 3.5 years and the weighted average effective maturity down to 6.8 years. With the changing of the macroeconomic factors and the anticipated decline in interest rates, we do expect to see a material improvement in the value of our bond portfolio going forward, which we reflected on our balance sheet as an increase to other comprehensive income. For perspective, every 0.5% reduction in interest rates will increase our portfolio by about $2.7 million. Before I turn it back to the operator for questions, I'd like to add that we benefited from a one-time $300,000 gain from a commutation of prior year reinsurance treaties during the quarter. Additionally, we had a $500,000 reduction in reinsurance costs from recognizing a no claims bonus on one of our catastrophe treaties. Overall, we had a great quarter with earnings of $0.41 per share and an annualized return on equity of 47%. As always, we thank you for your support. And with that, we'll open it up for questions.

Operator, Operator

Thank you. We will now be conducting a question-and-answer session. Our first question comes from the line of Bob Farnam with Jamie Montgomery Scott. Please proceed with your question.

Robert Farnam, Analyst

Yes. Hi, and good morning everyone. I have multiple questions about the market opportunity in front of you. And I guess I wanted to start with you mentioning the expansion of your underwriting appetite into new geographies and your products. Can you give us an idea of what you're talking about in that sense? The second part of my question is going to be, you have an immense growth opportunity ahead of you. I totally understand that balancing growth with profitability is very difficult. So you've had a lot of competitors pull out of this market because they've had issues. So how can you give us confidence that the business that you're going to be writing and taking in will be good for you?

Meryl Golden, CEO

Okay. Well, thanks for your questions, Bob. So first of all, in terms of our underwriting appetite, if you recall last year, we severely restricted our writings due to conjecture about the reinsurance market. We made some significant changes to slow our growth to reduce the overall cost of reinsurance. After we finalized our reinsurance purchase for last year, we've been slowly reverting our underwriting appetite back to what it was previously. For example, we are now writing more business in South of County. This year, given the confidence we have that we are priced right, and listening to producers in the marketplace and what their needs are, we've made some changes. As an example, we now write a higher limit up to 2.5 million coverage limit, which was an area where few companies were willing to write and where we felt very confident in our pricing. So the change in our underwriting appetite is nothing like really new. This is all risk that Kingstone has experience with, but we reacted to the opportunity in the market and just opened up segments that the producers needed relative to confidence that we're doing the right thing. I mean, Bob, we are just such a different company than we were years ago when we made some mistakes and grew too quickly. And to give you confidence, first, we have our select product that's been on the street since 2022 and is doing a great job matching rate to risk. The frequency we're experiencing in our select product is 10% lower than what we are experiencing in our legacy product. What is profound about that is that Select is mostly new business and legacy is mostly renewal business. Usually, you'd see a higher frequency, and we're seeing a lower frequency, which gives us a lot of confidence that the product is working in terms of risk selection. We have done a terrific job managing our reinsurance costs. On every single quote, we measure what the loss cost and reinsurance cost is and make sure that we're adequately priced before binding those risks. We have an A+ team across all areas of the company, and we're really closely managing and responding to the results of the business. We are a very nimble and efficient company now. I could not be more confident that this is the time for Kingstone to seize this market opportunity and grow faster.

Robert Farnam, Analyst

Yes, right. I just figured there would be people a little nervous with the amount of growth that's potentially coming down. But it sounds like, one, the expansion products are stuff you've already written before. And two, it sounds like the business that you've expanded into so far has been profitable. So my guess is with the potential book of business ahead of you, you're either going to be taking only a slice of it or you're going to have to be raising rates or changing terms and conditions on the policies, which seems like that's what’s going to have to happen if you're going to be able to absorb all these policies from your competitors.

Jennifer Gravelle, CFO

Sure Bob. Policies have to come on our rates in our forms, right? So it's not like we are going to be changing our underwriting there.

Meryl Golden, CEO

Yes. So you're right, Bob. We have already made some restrictions. As I said, we're being very selective in terms of which properties we want to write. So we're managing our geographic concentration. We've also stopped accepting risks that have prior losses. We're writing risks that are more financially stable. We're using the data we have on our book on profitability by segment to decide what business we want to write.

Robert Farnam, Analyst

I know you mentioned the capital support for this growth. Could you clarify whether the ability to change the quota share percentage is something you can do midstream, or do you need to wait for the policy renewal?

Meryl Golden, CEO

So absolutely, we can do it midstream, but we can also take on additional quota share partners. Our broker has already reached out to our reinsurance partners and they have expressed an interest in continuing to support our growth via quota share, if needed. So we're in a good place there.

Robert Farnam, Analyst

Great. Okay. And last question for Jen. You have the new catastrophe reinsurance treaty. I'm trying to understand what your net cost to Kingstone would be after reinsurance if a hypothetical situation occurred today, similar to Sandy.

Jennifer Gravelle, CFO

Sure. The company has been really consistent on the attachment and different layering of the reinsurance. Actually since Sandy came into New York. So ultimately, Sandy at that point was a loss to our second layer. It didn't go all the way through the second layer. It would be the same here. We actually model that on an annual basis as we are placing our reinsurance, just making sure that we're able to cover those kinds of storm events. As we continue to put new policies on the books, we're continuously modeling our P&L to determine if we're comfortable with the amount of reinsurance that we have. It's entirely possible that we might go back out to the market and say, 'Hey, we need to buy a little bit more up top just to make ourselves comfortable with the amount of policies that are coming on the books.'

Robert Farnam, Analyst

Okay. And with the retention changes and stuff, if you've gone into the reinsurance layer, if it doesn't flow through the top, can you give us an idea of the range of how much the loss would be on a net basis?

Jennifer Gravelle, CFO

On a net basis, for us with Sandy, we actually bought down on our reinsurance tower this year. So instead of attaching it at $10 million, our reinsurance will catch at $5 million, and we have some quota share underneath that. So a Sandy event for us would be like a $4.75 million event.

Robert Farnam, Analyst

All right, guys. Thanks for all the additional color.

Meryl Golden, CEO

Thank you.

Operator, Operator

Thank you. Our next question comes from the line of Jon Old with Long Meadow Investors. Please proceed with your questions.

Jonathan Old, Investor

Thank you very much, Meryl and Jen. As long-term shareholders, I want to express my appreciation for everything you've done; it's been fantastic. I have a question regarding the expense ratio. I noticed in the presentation materials that you are still aiming for a 29% target for the year, which I believe I interpreted correctly. If my calculations are correct, that would suggest approximately 27% for the second half of the year. I'm curious to know if that is going to be the new expense ratio or if there is a reason it tends to be higher in the beginning of the year and maybe lower towards the end, or if it relates to long-term planning. Thank you very much.

Meryl Golden, CEO

So Jen, let me start and you could jump in. When we laid out the 29% goal, I had a certain profitability target in mind. What we've been experiencing since our profits are so much greater. We have a higher expense for employee bonuses and for contingent commission for our producers. So that's really what's driving our 31% versus the 29% that I had laid out. That being said, our average premium is continuing to increase, and it is true that some expenses are front-end loaded. So I do think the expense ratio will decline a bit, but I think it's unlikely we'll hit our 29% target for the year. Jen, anything else you want to add?

Jennifer Gravelle, CFO

No, that's perfect, Meryl.

Jonathan Old, Investor

Okay. Well, I'll just say that whatever bonuses you're going out are well deserved. Thank you very much.

Meryl Golden, CEO

Thank you.

Jennifer Gravelle, CFO

Thanks, Jon.

Operator, Operator

Thank you. And our next question comes from the line of an unidentified private Investor. Please proceed with your question.

Unidentified Analyst, Analyst

Good morning, Jen. Good morning, Meryl. And congratulations on another great quarter. Meryl, you mentioned something in your midyear letter that I’d like to revisit. I’m having some trouble understanding it. I’ve read it several times, but you mention that you’re quoting two times in new business policies, three times the new business premium, and you’re up nine times in business premium, but I'm confused about it. Can you help clarify?

Meryl Golden, CEO

Sure. I actually updated those numbers too. What I'm comparing is in July once this material change of these competitors exiting the market was announced. What I'm sharing is how much our business was impacted just in the month of July. Now since then, it's increased. At the time when I wrote that midyear shareholder letter, our quotes doubled versus July of the previous year. Our new business policies were up three times versus July of the previous year. Now it ended up being up five times, not three times. The premium from those new business policies was up nine times compared to the amount of new business premium we wrote in the month of July, which was higher than July of 2023 by nine times. That's what I was trying to explain is that this change in the marketplace was monumental in terms of what it meant for Kingstone's growth trajectory. Does that make sense?

Unidentified Analyst, Analyst

Yes, I understand. So, you are saying that for business premiums, you received nine times the amount of cash from the market compared to the previous July?

Meryl Golden, CEO

Well, not cash necessarily because not all policies are paid in full. But in terms of the new business premium that we booked, yes, it was nine times the previous July.

Unidentified Analyst, Analyst

Okay. I got it. I appreciate that. That’s all from me.

Meryl Golden, CEO

Okay. Thank you.

Unidentified Analyst, Analyst

Thank you.

Operator, Operator

Thank you. We have no further questions at this time. I would like to turn the floor back to Meryl Golden for closing remarks.

Meryl Golden, CEO

Thank you. It is an incredibly exciting time for Kingstone, and we could not be more optimistic about the trajectory of our business. Before ending the call, I'd like to share that we'll be presenting and hosting meetings at the Sidoti Conference on August 15 and 16. In September, we'll be participating in the Janney Financial Services Conference in Washington, D.C. If you'd like to join either of those events, please reach out to their respective sales team, and thank you for joining our call today.

Operator, Operator

Thank you. This does conclude today's teleconference. We thank you for your participation. You may disconnect your lines at this time.