Ambac Financial Group Inc
NYSE:AMBC
Earnings Call Analysis
Q3-2023 Analysis
Ambac Financial Group Inc
Ambac Financial Group showcases promising results, with a reported third quarter net income of $66 million, a robust jump in premiums for its P&C businesses, and a forward-looking plan to solidify its market position. The company's initiatives include the evaluation of strategic options for maximizing the value of their Legacy Financial Guarantee business, with the assistance of external advisors like Moelis & Company to assess potential transactions. This decisive strategy aims to craft a path that enhances company value with an optimal balance of risk and time.
The third quarter has been a story of substantial growth with Ambac's P&C segments, Everspan and Cirrata, recording significant increases in premiums produced, climbing over 140% and 119% respectively compared to the prior year's quarter. Moreover, these segments not only showed strong growth in premiums written but also achieved a positive net income during the quarter. Ambac anticipates a promising future, providing preliminary 2024 guidance for its P&C business to forecast over $700 million of premium production with attractive margins, signifying a vision of sustained profitability.
The financial health of Ambac is further evidenced with a 341% surge in net premiums written by Everspan, increased investment income due to higher yields, and a disciplined approach to share repurchases to mitigate dilution. Even with increased general and administrative expenses, stemming predominantly from litigation and strategic advisory fees, the interest expense declined significantly due to strategic deleveraging efforts. Looking at the balance sheet strength, shareholders' equity saw a slight uptick, and adjusted book value per share increased to $27.90, asserting the company's enhanced value proposition for its shareholders.
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Ladies and gentlemen, good morning, and welcome to the Ambac Financial Group Third Quarter 2023 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Charles Sebaski, Head of Investor Relations. Please go ahead.
Thank you. Good morning, and welcome to Ambac's Third Quarter 2023 Call to discuss financial results. Speaking today will be Claude LeBlanc, President and CEO; and David Trick, Chief Financial Officer. They will discuss the financial results of our business and the current market environment. And after prepared remarks, we'll take your questions. For those of you following along on the webcast, during the prepared remarks, we will be highlighting some slides from our investor presentation, which can be located on our website.
Our call today includes forward-looking statements. The company cautions investors that any forward-looking statement involves risks and uncertainties and is not a guarantee of future performance. Actual results may differ materially from those expressed or implied in the forward-looking statements due to a variety of factors. These factors are described under the forward-looking statements in our earnings press release and our most recent 10-Q and 10-K filed with the SEC.
We do not undertake any obligation to update forward-looking statements. Also, in our prepared remarks or responses to questions, we may mention some non-GAAP financial measures. Reconciliations to those non-GAAP measures are included in our recent earnings press release, operating supplement and other materials in our Investors section on our website, ambac.com. I would now like to turn the call over to Mr. Claude LeBlanc.
Thank you, Chuck, and welcome to everyone joining today's call. I am pleased to report that Ambac had a very strong third quarter. We completed the evaluation of the strategic options for the Legacy Financial Guarantee business and at the same time, recorded very strong financial results across all of our businesses. The results generated by our core P&C franchise was squarely on track to achieve our stated 2023 strategic goals, including Everspan achieving initial profitability in the second half of this year.
Our consolidated financial results for the third quarter included net income of $66 million and adjusted net income of $94 million. We also completed repurchases for just over 120,000 common shares. David will discuss our financial results in more detail shortly. But first, I would like to provide some additional information on our achievements for the quarter starting with an update on our Legacy Financial Guarantee business. Working with our Wisconsin regulator, the new regulatory capital model for AAC is now substantially complete. As a result of our progress with the OCI, we were also able to complete the internal review and analysis of strategic options I previously discussed for our Legacy business.
And we have now formally engaged Moelis & Company along with certain other external advisers to commence discussions with interested parties and assess potential transactions to maximize value from our Legacy business. In parallel, we continue to actively pursue certain prioritized options to further enhance the value of the company. The goal of this process remains the same, to maximize value realization from our Legacy business on both the time and risk-adjusted basis.
We expect to update shareholders with additional information, including an expected time frame as we progress. With respect to our core Specialty P&C business, we continue to record significant top and bottom line growth as Everspan and Cirrata scale their respective business platforms. This quarter, on a combined basis, these platforms generated over $140 million of premium production, a 140% increase over the prior year's quarter. Year-to-date, premium production has exceeded $360 million, representing an approximate 90% increase over the same period last year.
In addition, both businesses generated positive net income for the quarter. For 2024, we have provided our preliminary guidance for our P&C businesses, Everspan and Cirrata, where on a combined basis, we are now forecasting over $700 million of premium production with attractive margins. As a reminder, this excludes any future acquisitions or start-ups not previously announced. Turning to Everspan. The business continued its upward trajectory generating gross premium written of $77 million, which was up 160% over the third quarter of the prior year.
The company continues to expand and diversify its MGA program partners, which currently stand at 20, up from 13 programs a year ago. One of our third quarter additions is the workers' compensation program. Workers' compensation is a line of business Everspan views as attractive from a profitability and diversification perspective. We took advantage of an opportunity to partner with an industry-leading workers' compensation program partner in the quarter to write assumed reinsurance business.
Everspan intends to write some limited assumed reinsurance programs where we believe the terms, conditions and pricing to be attractive. We see this as a natural fit for Everspan given our program expertise desire to retain risk and diversify. Everspan's book has continued to become more balanced across risk classes, given the new program additions, which should have the long-term benefit of more stable and predictable underwriting results.
From an overall industry perspective, we believe market conditions remain supportive of our continued business growth at Everspan, particularly in the E&S markets. Demand for E&S capacity remains robust with many programs transitioning out of the more rigid admitted markets and moving forward on a non-EBITDA basis. We expect this trend to continue in 2024. Everspan is on target to generate approximately $250 million of gross premiums for 2023.
And we are now forecasting close to $400 million of gross premiums for 2024, subject, of course, to market conditions. At scale, we are still targeting mid-teen ROEs for Everspan with a mid-single-digit ROE forecasted for 2024. This quarter, we saw the continuation of elevated loss cost trends, particularly in certain commercial auto classes, which have experienced a frequency uptick in recent quarters. We still see pricing trend exceeding loss cost trend as the market continues to push rate.
However, there may be some timing differences before the full effect of pricing comes through earned premium and hence loss ratios. Turning to Cirrata. We had a strong quarter, generating $62 million of premium, up 119% over the prior year, which produced nearly $4 million of EBITDA, all of which reflects the ongoing benefit from prior quarter acquisitions and growth initiatives. We continue to see significant opportunities for Cirrata whether via product expansion across our current businesses or through additional M&A transactions.
Cirrata is on track to exceed its 2023 target premium of $200 million and $45 billion of gross revenue, while maintaining attractive margins. Looking ahead to 2024, without the addition of any acquisitions, we are targeting over $300 million of premium and $60 million of gross revenue, while maintaining our 20% plus EBITDA margins. I will now turn the call over to David to discuss our financial results for the quarter. David?
Thank you, Claude, and good morning, everyone. For the third quarter of 2023, Ambac is happy to report net income of $66 million or $1.41 per diluted share compared to net income of $340 million or $7.41 per diluted share in the third quarter of 2022. Adjusted net income was $94 million or $2 per diluted share compared to an adjusted net income of $339 million or $7.40 per diluted share in the third quarter of 2022.
The change in net income and adjusted net income for the third quarter of 2023 compared to the third quarter of 2022 was mainly driven by the $319 million RMBS litigation gain related to the settlement with Bank of America recognized in the prior year period.
Our favorable results this quarter were driven by improved RMBS recoveries and higher loss reserve discount rates and favorable investment results, emanating from our Legacy Financial Guarantee segment as well as growth within our Specialty Property and Casualty and Insurance distribution segment. Everspan's net premiums written in the quarter of $25 million were up 341% over the prior year period. Growth in existing programs and the addition of new programs accounted for the significant advance.
Everspan's retention rate of approximately 32% of gross premium compared to 19% last year. The increased retention levels stemmed mostly from a new workers' compensation program, which Claude mentioned, written in the quarter as assumed reinsurance. Earned premiums and program fees were $12 million and $2 million, respectively, up 192% and 176%, respectively from the third quarter of 2022. The loss ratio was 78% in the third quarter of 2023 compared to 65.2% last year. The increase was primarily driven by higher commercial auto claim frequency. Included within this quarter's loss ratio was 7.1% of prior period development.
The increase in losses was partially mitigated by a benefit to sliding scale commissions tied to program loss ratios recognized through net acquisition costs. Consistent with our previous guidance, Everspan generated a modest pretax profit in the third quarter compared to a loss of $1.5 million for the third quarter of 2022.
Everspan continues to see and evaluate a steady stream of opportunities. This momentum, combined with the progress made to date, has set the course for Everspan to generate a mid-single-digit ROE next year on our path to mid-teen ROEs over the cycle.
Cirrata premiums placed of $62 million in the quarter were up 119% compared to the third quarter of 2022, benefiting from both recent acquisitions and organic growth. The Insurance Distribution segment produced $3.5 million of EBITDA for the third quarter, up from the $1.6 million produced in the third quarter of 2022. On the EBITDA margin of 24.1% versus 22% last year. The margin increase is largely driven by some margin expansion at existing businesses and the impact of recent acquisitions.
Our Legacy Financial Guarantee segment continued to benefit from active asset and liability management. For the third quarter, the Legacy sector generated net income of $66 million versus $346 million in the prior year period. The solid performance of the Legacy business this quarter was primarily driven by RMBS recoveries and strong investment results, which I'll review with our broader consolidated results.
Consolidated investment income for the third quarter was $30 million compared to $11 million in the third quarter of 2022. The improvements stemmed from higher average yields on fixed income securities, which increased 120 basis points in the third quarter of 2023 compared to last year.
Supplementing the yield generated by our core fixed income portfolio was our alternative investment portfolio, which produced strong results, leading to an $11 million increase over the third quarter of 2022. Loss and loss adjustment expenses were a benefit of $76 million in the third quarter, compared to a $353 million benefit in the third quarter of 2022. Our Everspan losses grew $7 million from last year. The Legacy Financial Guarantee business produced a benefit of $86 million driven by incremental RMBS recoveries and a discount rate benefit from higher rates.
General and administrative expenses were $49 million for the third quarter, up from $31 million in the third quarter of 2022. The increase in operating expenses was due to a $17 million increase in defensive litigation costs at AAC, strategic advisory fees and higher headcount in our growth segments. These increases more than offset continued broader cost reductions in the Legacy Financial Guarantee segment, driven by lower headcount and other cost reductions.
Interest expense was approximately $16 million, down from $49 million in the third quarter of 2022, following the significant deleveraging of AAC. AAC's remaining surplus note debt as of September 30, 2023, was $982 million, inclusive of accrued and unpaid interest. Shareholders' equity of $1.27 billion or $28 per share at September 30, 2023, was up slightly from $27.59 per share at June 30, 2023. The increase was driven by $66 million of net income, partially offset by a $23 million increase to unrealized losses on available for sale investments and foreign exchange translation losses related to AUK of $29 million in the quarter.
Adjusted book value of $1.26 billion or $27.90 per share at September 30, 2023, was up over 3% from $26.90 per share at June 30, 2023. During the quarter, we repurchased 120,000 shares at an average price of $12.94 per share, which when combined with other repurchases in the year, largely offset shares issued in 2023 from employee and Board member compensation. At September 30, 2023, AFG, on a stand-alone basis, excluding investments in subs at cash, investments and net receivables of approximately $209 million or $4.62 per share. I will now turn the call back to Claude for some brief closing remarks.
Thank you, David. Looking ahead to next year, I believe Ambac is very well positioned to maximize options to generate significant value for shareholders. Working with Moelis & Company, who will now engage in formal dialogue with interested parties, I expect that we will be able to chart the optimal path forward to precise value from our Legacy Financial Guarantee business. Additionally, both Everspan and Cirrata are scaling rapidly, supported by the $700 million of premium production we are targeting in 2024.
I'm encouraged by the significant progress we have made in our Specialty P&C insurance businesses and look forward to their ongoing contribution to both near-term and long-term profitability. We have been steadfast in our focus to generate long-term value for our shareholders, and I look forward to updating you in the coming quarters. Operator, please open the call for questions.
[Operator Instructions] Our first question is from the line of Giuliano Bologna from Compass Point.
A good quarter performance and the progress hiring Moelis. One thing I was curious about asking you is this has obviously been a fairly long process now going through everything with “ Wisconsin and everything else and then moving forward with actually engaging Moelis. I'm curious if you're already starting to -- if you're already in discussions, if you're already contacted potential interested buyers at this point. And kind of related to that, if there's any sense of time lines or milestones related to a hypothetical process. I realize that there could be a lot of different -- a lot of different forms and potential transaction to take care.
Thanks, Giuliano. Yes, I think we can say that we've had some limited conversations with certain interested parties, but we are commencing, as I mentioned, a formal process that Moelis will lead for us. So I expect to broaden the discussions with a number of other parties in the coming weeks and months.
And from a time line perspective, it is our intent, and we've said this over and over that we are looking at this -- the options for the company, both on a risk and time-adjusted basis, and we will be aggressively engaging with interested parties to evaluate the various options that we've outlined in considering where we believe we can maximize value for our shareholders.
That's great. And then maybe on a slightly different topic. There's obviously some defensive litigation costs in the quarter. I'm curious if there's anything onetime or kind of episodic about this quarter's run rate and then how should we think about the trajectory of that expense going forward.
Yes, Giuliano. It's David. The -- this quarter is not predictive of future quarters. It's very difficult to comment about litigation that we're engaged in, but I would say that I wouldn't take anything from this quarter as predictive of future quarters. We're doing what we have done historically in terms of trying to manage litigation and exit litigation, and I would not consider what we've done this quarter as any form of view or run rate for a go-forward period.
Our next question is from the line of Dennis Chua with Repertoire Partners LLP.
Claude, David, congrats on the great progress this quarter. I have 2 questions. First question on buybacks. So it's great that you did some buybacks in the quarter, although it was admittedly small. And I think folks understand that there is a 5% shareholder restriction. But maybe can you talk a little bit more about some of the ways that you've explored and trying to do the buybacks and whether or not this is something that we can expect going forward like a bigger buyback.
And the second question kind of related to what Giuliano's question was on time line milestones at the LFG process. I think, Claude, when you responded to that, you said time adjusted. So I just want to clarify that, that means a preference for sooner rather than later outcomes. And I ask that because there's obviously a big NOL asset at LFG -- so yes, those are the 2 questions.
So in terms of buybacks, to date -- year-to-date, we've bought back 325,000 shares and that's relative to just over 500,000 shares of issued this year related to compensation. So what I think we've accomplished is to help minimize the dilution of -- dilutive effects of employee and Board member issuances. And since we put the program in place, we've bought back about 1.9 million shares, spent about $19 million in cash on that and our average price is about $9.70.
So I think the program we've implemented has been effective. But as we've said before, our objectives really are to continue to allocate and deploy capital to build the Specialty P&C franchise. And we're going to continue to do that. We always evaluate opportunities there against the opportunities within buying back the stock against also the restrictions, as you pointed out of 5% shareholders. And so it's a delicate balance that we try to strike. And to that end, we have explored and I think we've commented on this in the past, some alternative types of buyback programs, which we've spent a lot of time on internally.
We've talked to outside financial advisers, legal advisers, tax advisers about that and put a fair amount of kind of human resource, if you will, behind it. And unfortunately, at this point, we have not been able to come up with an alternative program other than direct buybacks. So we'll continue to be, I think, selective in terms of buybacks going forward and again, balancing what we can do against the 5% shareholder limitation as well as our desires to build value -- long-term shareholder value through the P&C business.
And Dennis, on your second question to clarify and thanks for asking the question. We see the comment around time-adjusted value is really the time destroys value. So I think it should be interpreted as the sooner the better, but also considering the execution risk around certain of our options. So we are eager to put in place and execute transactions that we believe will be sooner rather than later and those that we believe will maximize value to AFG.
Thank you. There are no further questions at this time. This concludes today's teleconference. We thank you for your participation. You may now disconnect your lines.