Earnings Call Transcript - ORI Q1 2021

Operator, Operator

Good day. And thank you for standing by. Welcome to the Old Republic International First Quarter 2021 Earnings Conference Call. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Joe Calabrese with MWW Group. Thank you. Please go ahead.

Joe Calabrese, MWW Group

Thank you. Good afternoon, everyone. And thank you for joining us for the Old Republic conference call to discuss first quarter 2021 results. This morning, we distributed a copy of the press release and posted a separate statistical supplement, which we assume you have seen and/or otherwise have access to during the call. Both of the documents are available at Old Republic's website, which is www.oldrepublic.com.

Craig Smiddy, CEO

Okay, thank you Joe. Good afternoon and good afternoon, everyone. And welcome again to Old Republic's first quarter 2021 earnings call. With me today, we have our CFO, Karl Mueller, and we have Carolyn Monroe, the President of our Title Insurance Group. So we’re here again with another great quarter and in fact, we are very happy with the exceptional performance in both General Insurance and Title Insurance that drove the strong consolidated results we posted for the first quarter. Total net premiums and fees increased to $1.84 billion in the quarter, up 18%, with consolidated pretax operating income of $255 million, up 47%. The consolidated combined ratio was 4.2 percentage points lower for the quarter, coming in at 90.9%. In General Insurance, we saw slight growth in premium relative to the first quarter of 2020, when premiums were not yet impacted by the effects of the pandemic. And then Title Insurance, we grew premiums and fees by 40%, and that was on top of the record-setting first quarter in 2020. As demonstrated in the strong results, our specialty strategy continues to produce growth and profitability. Our diverse portfolio of specialty products in both General Insurance and Title Insurance has again delivered value to our shareholders. So with that, I'll turn the discussion over to Karl to discuss some of the per-share figures along with some added color on our investment portfolio. Then he'll turn things back to me to cover General Insurance, which will be followed by Carolyn to discuss Title Insurance. Of course, we'll open up for Q&A after that.

Karl Mueller, CFO

Thank you, Craig. And good afternoon. This morning, we announced first quarter net income, excluding all investment gains and losses of $206 million or $0.59 per diluted share, which is a 47% increase compared to last year's first quarter. Additionally, shareholders' equity rose to $6.45 billion and book value per share grew to $21.59, a 5.1% increase for the quarter, inclusive of all regular dividends.

Craig Smiddy, CEO

All right. Well, turning to General Insurance. Net premiums written increased in the first quarter, following increases in the third and fourth quarters of last year. We also saw net premiums earned start to increase again in the first quarter.

Carolyn Monroe, President, Title Insurance Group

Thank you, Craig. Good afternoon, everyone. The Title Group is pleased to report record-setting first quarter results for both operating revenue and operating profit. Our employees continue to effectively balance the challenges of, although improving, in-person commerce with opportunities provided by the current U.S. mortgage origination market. Total premium and fee revenue for the quarter was just shy of $1 billion at $967 million, up approximately 40% from the comparable prior period. This was achieved with contributions from both our agency and direct operations. For the quarter, agency premiums, which are typically recorded on about a one-quarter lag compared to our direct premiums, were up nearly 43%, while premium and fees from our direct operations were up around 32%. Our pretax operating income of $103 million for the quarter compared to $43 million in last year's first quarter, an increase of $60 million or 139%. The combined ratio of 90.3% for the quarter represents around a 5% improvement over last year's first quarter combined ratio of 95.1%. Having begun the year with a solid foundation, we remain optimistic for the remainder of the year. Mortgage rates are expected to remain near historic lows throughout 2021, providing a catalyst for a continued robust real estate market. Although refinance transactions are projected to drop over 35%, this is in comparison to 2020's record-setting volume, and relatively speaking, will still be at a healthy level. To offset the refinance drop, purchase money transactions are forecast to be up around 16%. Of course, this is good for our business as home sales offer greater opportunities for premiums and fees. As always, we will move forward with our guiding principles of integrity, managing for the long run, financial strength, the protection of our policyholders, and the wellbeing of our employees and customers, with an added emphasis on appreciation for our employees, their dedication, continuity, and positive attitude.

Craig Smiddy, CEO

All right, Carolyn, congratulations again. Well, again, we're very pleased with this quarter’s operating results. Our strategy of providing specialty insurance and related specialty products to core industries served by General Insurance and Title Insurance continues to produce strong results for our shareholders. So that concludes our prepared remarks and we will now open up the discussion to Q&A where we will answer your questions.

Operator, Operator

Your first question comes from Matt Carletti from JMP.

Matt Carletti, Analyst

Hey thanks. Good afternoon.

Craig Smiddy, CEO

Hello, Matt.

Matt Carletti, Analyst

Hello. Okay, I have a few questions. Maybe Craig, I start with your general liability and worker's compensation color that you gave us. I'm trying to help understand the exposure impacts from COVID. Is it possible for you to, even in rough numbers, break apart the reduction that we saw on premiums in the quarter? I mean, obviously, there's retention, there's new business production, there's pricing, and then there's exposure. How should we think about that in terms of the exposure piece versus the other items?

Craig Smiddy, CEO

Sure. If you look at workers' compensation, relative to the last few quarters, the exposures have begun to recover. So 70% differently, the decline in the fourth quarter over the prior year was greater than the decline this quarter over again the first quarter of 2020, when there was not really any reflection of the impact from COVID. We would expect that beginning in the second quarter, especially when we're going to start comparing premiums to premiums in 2020 that were indeed impacted, the shift should be considerable. What we saw in the first quarter was simply a continuation with some improvement in exposure over where we were in the last three quarters of 2020. With regard to rate, it's very slight. Your assumptions can be that there is a slight rate increase that we reported on in the fourth quarter and it was about the same in this quarter.

Matt Carletti, Analyst

Great. I want to switch last quarter, I can't recall, you touched on the idea of making the technology investments. Along those lines, I was hoping you might be able to expand on that a little bit, just in terms of some of the rich areas in particular, whether it's underwriting or more kind of interfacing with the agents and what you might be planning on doing in the title business on the technology front?

Craig Smiddy, CEO

Sure, Carolyn, would you please address that?

Carolyn Monroe, President, Title Insurance Group

Sure. We kind of have a two-pronged approach. We're working on things that speed up processes so that we can provide better service to our customers and our agents. We're also working on things that will help our agents have better connectivity. We are ready to roll out two initiatives that start coming on the market, so that they only have to go to one place to connect out to other technology that would benefit them. We're working on all of it, if the truth is known. It's something you have to continually evolve around and focus on.

Matt Carletti, Analyst

Great, thank you. Last one, just a broader company question. Can you talk a little bit about capital and specifically, are there tangible benefits to having diversified businesses, especially in terms of general insurance and title insurance? Or are they kind of on a standalone basis, and should we think of them more independently under a holding company from a capital standpoint?

Craig Smiddy, CEO

I would point you to the comments that we made in our March 31 annual report letter. In that letter, we talked about the fact that General Insurance and Title Insurance are very complementary under the Old Republic umbrella, and there's a significant amount of synergy with regard to the specialized insurance, underwriting approach, and the products and services that are key to our strategy. As we pointed out in that letter, we believe the businesses are counter-cyclical. They're important to our tax planning strategies as well as our capital management allocation. You may have seen the press release yesterday from rating agencies whereby they made similar comments when they affirmed the ratings in our General Insurance Group and increased the ratings in our Title Insurance Group, pointing to the strategic position and importance of title in our Old Republic International family and being integral to the overall organization with common branding and talent synergies as well. So, I would just leave it at that. All of those things we said in that March 31 letter are how we believe the two businesses fit underneath the Old Republic International umbrella.

Matt Carletti, Analyst

Great, thank you for all the answers.

Operator, Operator

Your next question comes from Greg Peters from Raymond James.

Greg Peters, Analyst

Good afternoon. Interesting. You might have switched locations because usually during the course of your comments, we get to hear Chicago's finest, the fire department going back and coming back from the lunch break. Kudos to whoever you switched it to, this is the first time in a long time. I don't remember hearing them in the background.

Craig Smiddy, CEO

Well, now you've jinxed us, Greg. I'm sure they'll be coming by shortly. We're here in the same room.

Greg Peters, Analyst

It's like I, you know, every year, every time you do the calls, it's the timing. Listen, I wanted to sort of go at this differently. Firstly, Carolyn, I was interested by your comments about the outlook, both for new and refinance. I was wondering if you could give us some perspective. If I look at just the 2020 premium and fees earned, which is about $3.3 billion, how much of that was new business versus how much was refinance? When I put together the numbers, one going to be down, one going to be up, that sort of gives me a benchmark of what I should think the numbers should look like for 2021.

Craig Smiddy, CEO

Carolyn?

Carolyn Monroe, President, Title Insurance Group

I would say about 25% of our business was refinanced in 2020.

Greg Peters, Analyst

Okay, and then just to reiterate, you said in prepared remarks, which was going to be down, which was going to be up?

Carolyn Monroe, President, Title Insurance Group

So they're projecting that refinance will be down about 35% over 2020, and that purchases should be up around 16% over 2020.

Greg Peters, Analyst

Okay, so if I ballpark that, that means that based on that outlook, the year for premiums and fees should be stable, or is that modestly positive? I can do the math separately, but that's sort of ballparking. Is that sort of the right guess we would have to?

Carolyn Monroe, President, Title Insurance Group

We were thinking that it should be stable? Yes.

Greg Peters, Analyst

Yes, yes. Excellent. The expense ratio in the title improved in the quarter, and I don't really want to get too hung up on one quarter's improvement over another quarter. But the annual trend is better. Obviously, there's a volume component to that. But you also went through some restatements. So talk to us about where you think the expense ratio should look like, given the restatement, results, all that?

Carolyn Monroe, President, Title Insurance Group

It should stay about where it is right now. We don't like to do predictions, but based on what we're seeing right now, we think it should be in about the same ballpark as it is right now.

Greg Peters, Analyst

Can you just walk me through the restatement issue? I know it was called out to me, and I just, if you could walk me through what was going on there?

Craig Smiddy, CEO

Why don't we have Karl help with that?

Karl Mueller, CFO

Okay, Greg, this is an accounting policy change. The prior practices go back several decades. For a portion of our business, we were reporting premiums and fees earned net of associated expenses. It became apparent that with the growth of the business, we really needed to create consistency in our accounting practices. So, at year-end 2020, we made that change to all prior periods to make the comparison equivalent to the year-end 2020 presentation. So it's basically a gross-up of revenues, and a gross-up of expenses in the same dollar magnitude, having no impact on pre-tax underwriting or operating income. It had a relatively minor real impact on the reported combined ratio, 0.1 or 0.2. So it's totally inconsequential and really doesn't drive the numbers significantly. All our periods are now presented on a comparable basis, and you'll see slight changes as we move throughout the year on a quarterly basis.

Greg Peters, Analyst

Thanks for covering that call. I appreciate it. Let's go back to General Insurance. I appreciate your comments around pricing. As I look at your results for the quarter trying to understand, yes, premium was up a little bit, is it all rate that's driving the premium higher? Are you getting any unit count growth? It seems to me that at some point, the rate environment is going to become more stable. Ultimately, to grow the business, we need unit count growth. So I'm trying to understand the balance between the two and your reported results.

Craig Smiddy, CEO

Sure. We don't tend to continue to reiterate this point, but when you look at premium this quarter in General Insurance, you have to keep in mind that we're comparing those to the first quarter of 2020, where there was still growth in those premiums and it was pre-pandemic. The premiums fell commensurately with the reduction and exposures in the three quarters of 2020 as well as the first quarter of 2021. But we stopped, it bottomed out in the third and fourth quarters and started to come back in the first quarter. Our view is that as the economy rebounds and reopens, that exposure unit, particularly in workers' compensation, will increase fairly rapidly, particularly once we get out into the second, third, and fourth quarters and we're comparing those to 2020 quarters. Those premium levels, I think will be greater, perhaps significantly greater. We are seeing exposure return; workers’ compensation exposures bottomed out in the third or fourth quarter. What we saw in auto exposures was a drop-off in the second quarter of 2020, and then things picked up in auto exposures in the rest of last year and again this quarter. Therefore, exposures are definitely coming back; we expect them to come back in a much more robust way as we progress through the year and the economy continues to improve. It's a mixed bag right now, but you're seeing that increase due to the effects of the reduced exposure base from 2020 and rebuilding that base going forward. Of course, you're also getting a lift from rates, but the exposure base increase is going to contribute much more to the top line as we move through 2021 after the first quarter.

Greg Peters, Analyst

Got it. Craig, I think I sent you an email recently, raising a question from one of your investors around the year home warranty and auto warranty business. Now might be a good time for you to talk a little bit about it. I understand it’s relative to the three main coverages it's minor, but it might be worthwhile to give us an update on Old Republic's perspective on that business, why you think you're positioned to do well in that business relative to the startups that are trying to make a mark in the space.

Craig Smiddy, CEO

Sure. In both areas, the auto warranty and home warranty, we have continued to invest in technologies to improve our efficiencies and customer service levels. Both are very strong, profitable businesses for us. What distinguishes us is that we don't mass market or use that distribution channel like some might see on television. Our distribution channels for auto warranty and home warranty are really point of sale. The majority of our partners in auto warranty are dealerships and various administrators that work with dealerships, which will always be an important distribution touchpoint with the customer. Similarly, our home warranty business distribution is key there as well. Even as we invest in technologies to improve how we manage and price the business and distribute the product, our focus remains on point of sale with realtors. Realtors are key for us, and this is another example of synergy with our title business, where the focus of distribution is on real estate agents. Here too, I don’t believe that aspect is going away. Point of sale will always be important. However, we are also looking at expanding our distribution—not necessarily to the mass marketing methods of some competitors—but through other strategic relationships, ensuring that we expand our distribution approaches as well. Hopefully, that answers your question, Greg.

Greg Peters, Analyst

That was great color. Thanks. I know you talked about this upfront, Karl, and Craig, about no real change in your approach to the investment portfolio. One question that pops up is regarding the equity exposure you have. I know you guys are long-term and strategic in that regard. I'm just curious, based on the market returns in equities, if you're questioning if this risk-reward scenario is still there in the near term even though you might have long-term confidence in some of those investments. Just curious how you're thinking about these variables in the context of what we're seeing in the market.

Karl Mueller, CFO

Well Greg, this is Karl. Let me take a crack at answering your question and Craig can fill in if necessary. Our objective really hasn't changed with respect to the equity portfolio. A key objective is to provide yield enhancement to the overall portfolio, above the yields we can earn on the fixed maturity portfolio. We have selectively chosen a portfolio of under 100 securities in companies that have a very long history of paying and steadily increasing their dividend payout ratio. Thus, it's an opportunity for us to invest and enhance investment income with what we believe to be manageable risk. We do perform a number of stress tests at the company level, overall, as well as for each of our subsidiaries that hold equity securities, to ensure that under stress situations, our capital basis is not significantly impacted negatively. It does introduce greater volatility at the net income line item. That's why our focus, in explaining the results, tends to focus on operating income that excludes the mark-to-market on the equity portfolio.

Greg Peters, Analyst

Got it? Hey, thanks for the answers.

Karl Mueller, CFO

Sure.

Craig Smiddy, CEO

Thank you, Greg.

Operator, Operator

Your next question comes from John Hinn from Galleon Partners.

Unidentified Analyst, Analyst

Hi, good afternoon. I just had maybe one or two quick follow-up questions. On mortgage insurance, you said that the upstream dividend was $25 million, is that correct?

Craig Smiddy, CEO

Yes, that is correct.

Unidentified Analyst, Analyst

So that's on a statutory surplus base of around 100 and call it 120 at year end 2020. Were you able to release some of the contingency reserve in that? Am I thinking about that correctly?

Craig Smiddy, CEO

You are. Yes. The number I mentioned earlier in my comments was the GAAP shareholders' equity. The statutory capital, which includes the contingency reserve, is in that same neighborhood of around $430 million. I don’t have the exact number at my fingertips.

Unidentified Analyst, Analyst

That's fine, but then presumably, you're looking back at that higher dividend than generally over the past four to five years. I mean, there's been a little bit coming up. So I would assume then the risk in force is running off a little quicker. Are you getting state approvals to take down a contingency reserve faster? I'm thinking about the risk of course running off actually.

Craig Smiddy, CEO

Yes. Just to clarify, we have not, until the first quarter of last year, received any dividends from our mortgage insurance companies for several years, as far as I can remember. We started last year and in the first quarter, we received approval to pay $37.5 million before further return to capital was put on hold. Your question regarding risk in force is included in the financial settlement on page six, which has a multi-year comparison of risk in force. You can see that the run-off is about 25% of any given year, and that continues through the first quarter of this year. Since year-end, it’s about a 7.1% decline annualized. It's more than 25%, but it's in that neighborhood and it's been consistent year-after-year.

Unidentified Analyst, Analyst

Got it? So I can use that what's happened as a proxy to model this out going forward for the risk in force?

Craig Smiddy, CEO

I would think so.

Unidentified Analyst, Analyst

Okay, thank you. And then the other question entitled, approximately, how big is the commercial book of business? I remember it being discussed that it might have been around 18% several years ago at this point.

Craig Smiddy, CEO

Carolyn, can you address that?

Carolyn Monroe, President, Title Insurance Group

Right, for the first quarter of this year, it accounted for about 14.2% of our total premiums.

Unidentified Analyst, Analyst

Is that roughly in line with what it is on an annualized basis?

Carolyn Monroe, President, Title Insurance Group

No, that's down. It's down about 10%.

Unidentified Analyst, Analyst

Got it? So it's actually 20% to 25% of the portfolio if I was to think about commercial.

Carolyn Monroe, President, Title Insurance Group

Yes. Right, the first quarter of 2020, it was about 22.4%. Overall, it's generally around probably 18% to 20% on an annualized basis.

Unidentified Analyst, Analyst

Got it. Perfect. That's all for me. Thank you.

Craig Smiddy, CEO

Thanks a lot, John.

Operator, Operator

Your next question comes from Boris Kuzmin from Crawford Investment Counsel.

Boris Kuzmin, Analyst

Hey, guys, I just have a couple of questions. One on the General Insurance side, specifically, the commercial auto. The improvements in the claims ratio were great, after many years of issues there. The question is, are you still getting a frequency benefit from lower driving overall, and how sustainable is this improvement, I guess is the question.

Craig Smiddy, CEO

Yes. Very good question. The frequency benefit continues. It's not as great as it was in some of the prior periods in 2020, but there is still a lower frequency. I would say currently, it's about a 10% frequency reduction. At the height last year, we saw about a 20% frequency reduction. Unfortunately, severity remains an issue, and that severity offsets the benefits of frequency. This is why we're continuing to get rate increases in the 15% range; we would expect frequency to return to a more normal level. We're not counting on any change in that trend regarding severity, hence the need for 10% to 15% rate increases to address ongoing severity issues. I'll point out that the claim ratio has improved. Quarter after quarter, we've worked hard to get that down from the peak claim ratios of 2019 and 2020, and I think our efforts are starting to show. However, we're very slow to recognize favorable developments on a longer tail line of business like auto liability, so the reduction you see in the claim ratio doesn't come from a reduction in the current year claim ratio or even from the last few year ratios. If there's still some frequency benefit running into this year, it will take some time before we recognize that in our results.

Boris Kuzmin, Analyst

That's it. I appreciate that. And then another question for you, Craig. In your annual letter that referred to stock price performance, you mentioned that income was growing with strong operating performance. Why not have a buyback program in place or a situation like this when your stock trades below book value and seemingly does not reflect the strong fundamentals of the business?

Craig Smiddy, CEO

Right, so the income growing comment is how we felt last year. Our stock price was not alone; the majority of others in the insurance and broader financial sector, particularly dividend-paying value stocks, were not treated kindly last year. Our strong results should have expected commensurate changes in price, which did not happen, but we believe it was primarily a result of broader market forces at work. Concerning your buyback question, we also have in addition to that 2020 annual report letter you mentioned, issued a letter available on our website from January 6, in which we tried to lay out our thought process on capital management. I would remind you to refer back to that letter.

Boris Kuzmin, Analyst

But I guess that letter didn't really address buybacks versus dividends. You outlined why you pay the special dividend, which no one is arguing about in terms of you having the capital to do that, but wouldn't it have been better to do a buyback? It could have been immediately accretive to book value and earnings as opposed to paying out a special dividend.

Craig Smiddy, CEO

Yes, we’re aware that some shareholders have raised that question. The matter is currently before our board and will be addressed at its upcoming May meeting, after which time we expect to provide a written response to that question.

Boris Kuzmin, Analyst

Thank you.

Operator, Operator

Your next question comes from Ryan Winrick from Guggenheim.

Ryan Winrick, Analyst

Hello, just a quick one. I noticed that almost all of your other miscellaneous debt was extinguished or matured this quarter, so I wanted to ask about that. Have you provided a long-term guidance range for your debt-to-capitalization ratio? That's all. Thanks.

Karl Mueller, CFO

Ryan, this is Karl. There was a very small balance of debt that matured in the first quarter of this year; that's what's driving the decline since year-end. Yes, we do set parameters for ourselves that we refer to as our year-end metrics. Generally speaking, we try to operate within a 10% to 25% debt-to-equity or debt-to-capital ratio, and we're well within that, trending towards the lower end currently.

Ryan Winrick, Analyst

Great. Thank you.

Operator, Operator

That was our last question at this time. I will turn the call back over to management for closing remarks.

Craig Smiddy, CEO

Okay. We appreciate everyone’s interest, dialogue, and questions. Again, we are thrilled with the operating results that we have put forth for year-end 2020 and the continuation of extremely strong operating results in the first quarter of 2021. Thank you all for your participation. We look forward to talking to you again next quarter. Thank you.

Operator, Operator

This concludes today's conference call. Thank you for participating. You may now disconnect.