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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Greetings and welcome to First American Financial Corporation First Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] A copy of today’s press release is available on First American’s website at www.firstam.com/investor.
Please note that the call is being recorded and will be available for replay from the company’s investor website and for a short time by dialing 877-660-6853 or 201-612-7415 and please enter the conference ID number of 13678579. We will now turn the call over to Mr. Craig Barberio, Vice President, Investor Relations to make an introductory statement.
Good morning everyone and welcome to our 2018 first quarter earnings conference call. Joining us today will be our Chief Executive Officer, Dennis Gilmore; and Mark Seaton, Executive Vice President and Chief Financial Officer.
Some of the statements made today may contain forward-looking statements that do not relate strictly to historical or current fact. These forward-looking statements speak only as of the date they are made and the company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made.
Risks and uncertainties exist that may cause results to differ materially from those set forth in these forward-looking statements. For more information on these risks and uncertainties, please refer to this morning’s earnings release and the risk factors discussed in our Form 10-K and subsequent SEC filings.
Our presentation today contains certain non-GAAP financial measures that we believe provide additional insight into the operational efficiency and performance of the company relative to earlier periods and relative to the company’s competitors.
For more details on these non-GAAP financial measures, including presentation with and reconciliation to the most directly comparable GAAP financial measures; please refer to today’s earnings release, which is available on our website at www.firstam.com.
I will now turn the call over to Dennis Gilmore.
Thank you, Craig. Good morning and thank you for joining our call. Today I’ll review our first quarter results and then discuss our outlook for the remainder of 2018. 2018 is off to a strong start. In the first quarter revenues were $1.3 billion with earnings per share of $0.67, this compares to last year’s revenue to $1.3 billion and earnings of $0.52 per share.
Our purchase revenue grew 8% this quarter driven primarily by higher fee profile. Our fee profile increased 6%, as we continue to benefit from raise in home prices. Our commercial business had a strong start to the year with revenues up 5%. We continue to see strength across most major markets and I believe 2018 will be another good year for our commercial business.
Refinance revenue dropped 15% during the quarter as mortgage rates moved higher. We reduced our cost structure in our central lender business throughout the second half of 2017 and we will continue to manage cost in line with refinance activity moving forward.
Overall, our title segment posted a pretax margin of 8.6%. Our highest first quarter margin since we became a standalone public company in 2010. These results were driven by continued strength and the purchase in current virtual markets. Disciplined expense management and higher investment income, and especially insurance segment total revenues increased 3% and we are in the pretax margin of 8.7%.
Our home warranty business continues to perform well with revenues increasing 8% during the quarter. Our efforts to enhance margin by improving our contractor network and service operations have continued to deliver positive results. While our property and casualty business had higher than expected claim losses due to higher severity. The overall loss ratio for the segment improved to 57%.
As we approach this peak of the spring selling season, we remain optimistic about the outlook for 2018. Given the ongoing economic expansion and current trends in the housing market, we expect future revenue growth in our purchase business. So, far in April our purchase orders are flat compared to last year. Our commercial business has a healthy pipeline of activity and continues to perform well. Our refinance business is right size for the current volume and we continue to benefit from strong investment income.
First American is well positioned in the marketplace with a strong balance sheet and ample financial flexibility to take advantage of strategic growth opportunities. We are actively investing in visual solutions to enhance our customer experience and we are focused on drawing a core title and settlement business and leveraging our unit asset such as our data technology and our bank to provide innovative solutions to our customers.
We look forward to our Investor Day on May 18th New York where we will provide more detail on strategy, our operations, and our capital management plans. I’ll now turn the call over to Mark for more detailed review of our financial results.
Thank you, Dennis. I’ll begin by addressing new accounting change that will add volatility to our earnings going forward. Starting this quarter, the change in fair value of equity investment is required to be recognized through net income. Previously changes in fair value were recognized in other comprehensive income on the balance sheet. This change will drive more volatility in our GAAP earnings due to market fluctuations as $460 million equity portfolio. Changes in fair value of these equity investments will be reflected in our net realized investment gain and loss line item on our income statement.
This quarter we recorded a $7 million loss as result of this accounting change. We have provided detail of this line item in the table within our earnings release. Turning to our results in the title insurance and services segment, direct premium escrow fees were up 3% compared with last year. This increase was driven by a 13% increase in the average revenue per order that was largely offset by a 9% decrease in the number of direct title is closed.
The average revenue per order increased to $2,303 primarily due to a shift in the mix to higher premium purchase in commercial transactions. The average revenue per order for both purchase and commercial transactions increased 6%. Agent premiums which are recorded on approximately one quarter lag relative to the direct premiums declined 8%, primarily due to a decline in refinance activity. The agent split was 79.0% of agent premiums.
Information and other revenues totaled $186 million, up 3% compared with last year. Higher revenues from recent acquisitions were partly offset by lower revenues from the company’s centralized lender business, largely due to the decline in refinance and foreclosure activity.
Investment income within the title insurance and services segment was $41 million, up $15 million from the first quarter of last year. Our investment income continues to benefit from higher short-term interest rates, including in our cash and investment portfolio, tax deferred property exchange business, and escrow balances.
We expect investment income to continue to grow in the second quarter given the fed March rate increase. Personal costs were $394 million, up 2% from the prior year. This increase was driven by the impact of recent acquisitions.
Other operating expenses were $191 million, up 4% from last year. The increase was primarily driven by the impact of recent acquisitions and net increase in spending across several categories. The provision for title policy losses and other claims was $38 million or 4.0% the title premiums and escrow fees, unchanged relative to the prior year.
The current quarter rate reflects an ultimate loss rate of 4.0% for the current policy year with no change in the loss reserve estimates for prior policy years. Pretax income for the title insurance and services segment was $102 million in the first quarter compared with $98 million in the first quarter of 2017. Pretax margin was 8.6% compared with 8.2% last year.
Turning to the specialty insurance segment, total revenues were $113 million, up 3% compared with last year. The loss ratio on the specialty insurance segment this quarter was 57%, down from 60% in the prior year.
Strong results from home warranty benefited from lower claim frequency. However the property and casualty business experience higher than expected claim losses due to severity. Pretax margin for the segment was 8.7% compared with 9.1% in the first quarter of last year.
Net expenses in the corporate segment were $19 million, a decline of $5 million due to savings related to the pension termination. The effective tax rate for the quarter was 18.2%. We recorded a $4.7 million benefit related to stock based compensation. Excluding this benefit, our tax rate would have been 5.0% higher or 23.2%.
Debt in our balance sheet totaled $731 million as of March 31st. Our debt consists of $547 million of senior notes, $160 million on our credit facility, $21 million of trustee notes, and $3 million of other notes and obligations. Our debt to capital ratio as of March 31st was 17.4%. Cash provided by operations was $43 million compared to $66 million last year. I would now like to turn the call back over to the operator to take your questions.
Thank you. We will now be conducting the question-and-answer session. [Operator Instructions] Our first question is from Jason Deleeuw with Piper Jaffray. Please proceed with your question.
Yeah, thank you, good morning. It’s good to see the strong margins again this first quarter. Is there any help you can kind of give us for the full year in terms of where you think the margins can go? It seems like we are dealing with kind of the worst of the refi declines right now, the purchase a little bit here in the first quarter, commercial is a little bit stronger. So, can we still expect margin expansion as we get through the rest of 2018?
Yes Jason, this is Dennis. Yes, we did have a very good first quarter. And, you are right, refinances are kind of flushing through the system right now, purchase is strong, commercial is strong. So, if you know the market performs like we think it will be - with the market performs like we think it will, we think there’s still room for margin expansion in 2018.
I know historically you’ve given that target, I know the Investor Day is coming up, the 10% to 12% target. But I guess we can get an update on Investor Day, is there anything you can kind of help us for this year in terms of picking about the margins, it looks like you might be above that range for this year, but any other additional color?
Yes Jason, this is Mark. We are thinking about revising that range in our May Investor Day, so we are kind of thinking about that right now. Last year we were 12.1%, so obviously little bit higher than the high end of the range we posted and there is room as the purchase market continues to grow, and especially as investment income continuous to grow and that obviously all falls with bottom line, so between those two and just regular operating efficiency. We feel like there is a little bit more upside than what we got last year, but we are going to give more color at our Investor Day next month.
Great, thanks. And, then just wondering, has there been any change in the marketplace competitively or recruitment wise is there anything given the Fidelity Stewart announcement, just wondering if there been any changes that you have noticed?
At this stage, no, it’s still very early in the process and it’s going to be a long process to go through. As it plays out, but we do think there are opportunities for us and we are going to try to get season.
Great, thank you very much.
Our next question is from Mackenzie Aron with Zelman & Associates. Please proceed with your question.
Thanks, good morning. First question on the agent revenue, it looks like it’s been lagging the direct business for the last couple of quarters, so just curious, is there more of an exposure to reside there and what might be going on the agent side?
No, it’s really - there’s no difference from our direct or agency business, what we are really seeing is kind of the flushing out of the refinance business coming off a really tough comparison if you look from the first quarter ’17 and so primarily driven by refinance reduction. Secondarily we continue as we mentioned earlier in another call, we continue to re-price some of the Southern California business to achieve a better return. So, those are the two big factors.
Okay, that’s helpful. And, then on commercial, can you just give some color on what you’re seeing in the pipeline and how we should be thinking about the rest of the year that the business continuous to be, I think stronger than people expecting to be resilient?
Yes, I would say nice surprise for us coming off a very strong ‘17 and still kind of some background, nothing unique in the quarter, we didn’t get anything pulled from the fourth quarter, in order to pull anything in from the second quarter and it’s not driven by big deal, so it’s just a good strong fundamental book of business right now and we’ve got a strong pipeline going into the second quarter. So, I’m optimistic and commercial right now.
Okay. And, then just last one from me on the P&C losses, what was that again that drove the higher losses this quarter?
Yes, we had favorable frequency high severity and so we’ve got a lot of that for going in our P&C group right now, we continue to modify our underwriting standards, we are tightening our underwriting standards, we are looking to take a little rate actions where we can and we are looking for better performance out of this group in 2018.
Okay, and actually if I can sneak one in more. On pricing just curious as post tax respond you are seeing anything competitively or is there anything from the regulatory front that would suggest maybe regulators are looking at premium rates, given the CRE benefit?
We saw a little bit noise, but I really don’t think necessarily, but I don’t think that there will be any significantly action to us from a pricing standpoint, I mean, our rates are adequate, our rates are fair, our rates are delivering in proper return for us. And, at this stage I do not see any broad based issues from the rate perspective from tax reform.
Okay, thanks.
Our next question is from Mark Hughes with SunTrust. Please proceed with your question.
Thank you, good morning. Today here properly April so far puts sort of squat compared to last year, is that right?
That’s correct. We started the month very slow probably some timing for holidays, we’ve been building all through the month, but right now we’re flat. And, looking forward, I’m optimistic, we may see some growth in the transaction volumes, but we are facing what we’ve faced over the last year plus and that is across most of our markets we’ve got inventory shortages, so we got the dynamic of lower transactions, but higher purchase prices which is driving our revenue up are fill up.
Anything you can say in terms of recent daily trend on refinance orders?
Stabilizing right now, but obviously we’ll be depending on interest rates, stabilizing around the thousand orders per day and we’ve addressed our cost structure accordingly, it’s hard to call when we hit trough on the refinance volumes, but we are down to about a thousand a day. And, by the way that represents about a little less than 10% of our direct revenue, so well still important far less of a component of our revenue than it has historically been.
Mark, could you give us a sort of shorthand on sensitivity, the interest rates as interest rates move up, what does that mean for your investment income or EPS?
Well, in the past we’ve kind of given a rough benchmark that said every time the fed raises rate 25 basis points, we would incur about $4 million annualized benefit to our investment income and that played out in the first quarter, when the fed rate in December, we actually had exactly $3 million more of investment income and the title segment in Q1 than we did in Q4. So, I think that’s the rough benchmark what we expect going forward as well.
Thank you.
Thank you.
[Operator Instructions] Our next question is from John Campbell with Stephens Incorporated. Please proceed with your question.
Hey guys, good morning.
Good morning.
Good morning
Mark, this might be ready to the new accounting changes, but why was corporate investment revenue negative in the quarter?
So, we have a deferred comp plan about $90 million in deferred comp and changes in the value of the deferred comp plan run through the investment income, but they’re exactly offset in mere by change in personal cost, right. So, you can see, we got a loss of $1.1 million of investment income, but we’ve also had roughly the same amount as the depreciation personal expenses, so they really offset each other. But to answer your question, it changes in deferred comp plan which really don’t have an effect on earnings on the pretax income, but it does swing investment income.
Okay. And, then I want to make sure I get this down correctly. Back to the investment revenue title, so it didn’t seem like there’s a lot of seasonality there, so it’s $41 million or so in the quarter that’s, I guess, a sustainable run-rate and you expect a lift based on rates, right?
Yes, so when the fed rate in March, we would expect starting in April to have higher investment income, so yes, we would expect incremental higher investment income in Q2.
Okay. And, then last one for me. Just updated thoughts on capital allocation in buybacks, I mean, stock is coming a little bit here, any updated thoughts there?
No real updated thoughts, our strategy has been consistent. We are always looking at buybacks. We obviously haven’t done some for few years, but someone always evaluating. I would say the M&A pipeline is fairly robust, so there’s a lot of opportunities we are seeing out there in the marketplace, but obviously capital management and we are really focused on and hopefully we can make some investment at some point this year.
Okay. And, if I could maybe squeeze it one more. I do think this is important and going back to the question around the premium rates for the industry, I mean, obviously I guess the MGIC or mortgage insurance guys cutting some rates, I know that [jokes] concerned with investors. Dennis, I guess, best you can, could you maybe just give us an idea of why you think that the title premium is might or might not be a risk, any kind of color you can provide there?
Again like I said I think our returns are appropriate and I think our rates are appropriate and we follow all the guidelines, I just don’t see a lot of pressure here. Now I can’t predict the future here, but we think the rates are appropriate where they are right now.
Okay, that’s helpful. Thanks, guys.
Our next question is from Bose George with KBW. Please proceed with your question.
Hey guys, actually the only one I had was just a clarification don the investment income question earlier. So, with that going forward with that deferred com piece not being there, does the corporate segment, the investment income there sort of goes back up by that $4 million plus and then everything else stays the same in the corporate, is that right?
Yes, I think that’s correct. Our run-rate of a pretax loss in corporate is about $19 million. And, so if investment income goes backup to plus $2 million or $3 million, our personal cost would go up $2 million to $3 million and it would be around the same thing around $19 million loss in corporate roughly.
Okay. But then when you think about the investment income on accumulative basis, it’s still, I guess, what I was trying to understand since this quarter, the investment income was impacted by the deferred comp issue, but would there basically just an offset on the expense side reduced the bottom line impact or offset the bottom line impact?
Yes, it was completely offset by a reduction in personal [expenses in corp] completely offset. So, the benefits that we talk about for our portfolio and our 1031 exchange business since actually all of that benefit is in title segment, you’re not going to really see any corp, corp is - what the investment income is in corp is really changes in our deferred comp plan have to run through an investment income.
Okay, great. Thanks a lot.
Thanks, Bose.
[Operator Instructions] Our next question is from Mark DeVries with Barclays. Please proceed with your question.
Yes, thanks. Mark you just commented on how the M&A pipeline was relatively robust, can you give us a little bit color on where the strength is, where are you seeing the most opportunities, is it in agents or kind of nontitle businesses?
Yes, I’ll start with that one. So, I would say both. So, we always look at title related companies and I would say some of those businesses that are in the pipeline that we’ve been looking at for quite some time, there’s also a different category which is just other products and services that aren’t really titled related, but are certainly tied to our core business, really enhanced and strength of our core business. We are looking at some companies that are not title and settlement related, but are certainly very strategic to what we are thinking about. So, these are really opportunistic transactions, sometimes we spend a lot of money on M&A in one year and sometimes we won’t. So, far what we are seeing right now is a fairly healthy pipeline [indiscernible].
Okay. So, given the shape of the pipeline you might anticipate spending more capital this year on the adverse is returning to shareholders?
That’s hard to say, when we talk about return to shareholders, we return about $160 million or so to the dividend based on our current run-rate, so whether we get that much it’s hard to say at this point.
Mark its Dennis. This always going to be - won’t be here for acquisition, but just kind of follow up what Mark said. In the first quarter we did a few deals, we did a small title agency up and running, we also got in the Bank of America Lien Release Business relatively small from our perspective. We continue to look for acquisitions in the title space to tuck in the acquisition there, we got a number those we are looking at, we are looking at information companies to help, the title automation and like Mark, what kind of the couple of deals that are outside the [indiscernible] item, and so we’re hoping to close some of these over the next couple of quarters.
Okay, got it. And, then it looks like the pay claims at least title claims are down pretty meaningful this quarter, anything driving that and on a related question I think on just the provision rate, I think Mark when the last time you commented on, I recall you said that was prior year at least is likely to go up from here as it was to go down, any changes on that for you?
Well, first of all on the loss rate, I think that’s probably still our view, we feel very comfortable looking at 4.0% this year based on what we are seeing. Our claims are coming in sort of in line if not a little bit better than our expectations, but I think we are very comfortable with 4.0% as we see there now. In terms of the pay claim following, there’s always a little bit of the seasonality with pay claims in the first quarter, usually it’s little bit higher in Q4 as we try to close out some of the deals and in Q1 it’s always a little bit low in terms of pace. But there’s nothing other than that I would point to. I think our pay claim is starting to kind of bottom out though, I think when you look at what we expect for 2018 versus ‘17 it’s going to be roughly the same in terms of the pays.
Okay, got it. Thank you.
Thank you.
Thank you.
There are no additional questions at this point. That concludes this morning’s call. We would like to remind listeners that today’s call will be available for replay on the company’s website or by dialing 877-660-6853 or 201-612-7415 and enter the conference ID number of 13678579. The company would like to thank you for your participation. This concludes today’s conference call. You may now disconnect.