Fidelity National Financial, Inc. (FNF) Q1 2012 Earnings Report, Transcript and Summary

Welcome to the Fidelity National Financial First Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded today, Thursday, April 26, 2012. And I would now like to turn the conference over to Mr. Dan Murphy, Treasurer. Please go ahead.

Thanks. Good morning, everyone, and thanks for joining us for our first quarter 2012 earnings conference call. Joining me today are Bill Foley, our Chairman; George Scanlon, CEO; Randy Quirk, President; and Tony Park, our CFO. We'll begin with a brief strategic overview from Bill Foley. George Scanlon will provide an update on the Title business and our operating companies, and Tony Park will finish with a review of the financial highlights. We'll then open the call for your questions and finish with some concluding remarks from Bill Foley. This conference call may contain forward-looking statements that involve a number of risks and uncertainties. Statements that are not historical facts, including statements about our expectations, hopes, intentions or strategies regarding the future, are forward-looking statements. Forward-looking statements are based on management's beliefs, as well as assumptions made by, and information currently available to management. Because such statements are based on expectations as to future financial and operating results and are not statements of fact, actual results may differ materially from those projected. We undertake no obligation to update any forward-looking statements whether as a result of new information, future events or otherwise. The risks and uncertainties which forward-looking statements are subject to include, but are not limited to, the risks and other factors detailed in our press release dated yesterday and in the statement regarding forward-looking information, risk factors and other sections of the company's Form 10-K and other filings with the SEC. This conference call will be available for replay via webcast at our website at fnf.com. It will also be available through phone replay beginning at noon, Eastern Time today through May 3. The replay number is (800) 475-6701 and the access code is 243617. Let me now turn the call over to our Chairman, Bill Foley.

Thanks, Dan. This was a great start to 2012 and our strongest first quarter performance in a number of years. Our Title business continues to perform extremely well despite what has been a sluggish real estate resale market. We also have been successful in continuing to redeploy capital to nonregulated businesses with growth potential. To that end, we closed the O'Charley's tender on April 9. We currently own 95% of the outstanding shares of O'Charley's and expect to have 100% ownership at the conclusion of a short-form merger under Tennessee line in May. We then intend to merge O'Charley's into our existing restaurant platform, American Blue Ribbon Holdings, and FNF will own a majority stake in the larger ABRH. After the merger, FNF will have a total cash investment of approximately $120 million for a 55% ownership interest in the ABRH restaurant company that will have approximately $1.25 billion in annual revenue, $65 million in current annual EBITDA and an expected additional $20 million as a result of cost synergies. Our focus will be on integrating O'Charley's into ABRH and moving the O'Charley's margins closer to those of ABRH. We believe ABRH can create significant value for our shareholders in the future. Also we expect to close on the sale of the 85% interest in our personal lines business on May 1. Regulatory approval is pending, which we hope to have in time for the May 1 closing. FNF will receive $119 million in proceeds from the personal lines sale. The sale of our personal lines business make strategic sense for our company. The personal lines business is regulated and carries higher earnings volatility than we are comfortable maintaining. We believe we successfully redeploy this capital into nonregulated opportunities with higher growth and more consistent return potential like the O'Charley's acquisition, thus creating greater value for our shareholders. Combined with the recent flood business sale, FNF generated $254 million in cash and a $75 million, 8% seller note due May 2013, as well as an $86 million after-tax gain from the 2 divestitures. Finally last week, we amended our existing $925 million senior unsecured revolving credit facility that was scheduled to mature on March 5, 2013, taking advantage of current bank credit market conditions to extend the maturity of a new 4-year credit facility to April 2016. Additionally, the total size of the credit facility was reduced to $800 million, with an FNF option to increase the size of the credit facility to $900 million and pricing decrease by 55 basis points. With the credit maturity extended to April 2016, we have only one debt maturity in the next 4 years providing significant flexibility at the holding company. I'd now like to turn the call over to our CEO, George Scanlon.

Thank you, Bill, and good morning, everyone. We are pleased to report solid first quarter results with a strong pretax title margin and continued strength across all of our title-related businesses. Reflecting the strong operating leverage in our business and ongoing cost management initiatives, net earnings of $74 million increased $32 million, or 75%, versus the first quarter of 2011 on just a 5% increase in total revenue. Title pretax earnings of $130 million grew by $23 million, or 22%, despite only a 6% increase in total title and escrow revenue. Our commercial title business continued to perform well as revenue of $79 million grew 19% over the first quarter of 2011, with 19,200 commercial orders opened, 11,100 commercial orders closed and a fee per file of $7,100. Open order accounts were strong during the quarter and grew 33% over the prior year. Overall, open orders averaged more than 10,500 per day for the first quarter, with January averaging 10,200; February, 11,500; and March, 9,800. The first 3 weeks of April have averaged approximately 9,600 open orders per day, with last week reaching 9,800. Not surprisingly, the mix of first quarter business was weighted toward refinance orders, a 64% of open orders and 65% of closed orders were refinance-related. However, refinance orders peaked at 67% of total open orders in February and then fell to 60% of total open orders in March as we saw a 12% sequential increase in resale-related open orders in March, potentially signaling the beginning of a stronger spring selling season. That trend is carried into April as only 59% of total open orders for the first 3 weeks of April were refinance-related. Remember that we earn approximately twice the revenue on a resale order, so the eventual mix shift to our resale orders will have a very positive impact on our future profitability. Our order backlog heading into the second quarter is strong, and orders associated with the Harp 2.0 program are expected to accelerate, benefiting our ServiceLink operations. ServiceLink has added personnel in the first quarter to handle the increased order flow. Despite a difficult market, ServiceLink has achieved compounded annual growth in revenue and EBITDA exceeding 30% for the past 5 years, and is well positioned to grow through high-quality origination and default service delivery to major bank customers. Overall, our pretax title margin, excluding realized gains, was 10.7%, an improvement of 270 basis points versus the first quarter of 2011. We continue to perform above our difficult market pretax title margin goal of 8% to 10%, and remain confident that we will produce in mid- to high-teen pretax title margin when we see further stabilization and improvement in the residential resale market. Let's turn now to our minority-owned subsidiaries, which we do not consolidate in our financial statements. Overall, we recognized $6 million in earnings from our equity investments compared with the loss of $9 million in the prior-year quarter. The prior-year quarter included $9 million in cost associated with Remy's debt restructuring. Ceridian's fourth quarter revenue of $399 million was a 1% increase over the prior-year quarter, while EBITDA was $77 million, a 19% EBITDA margin. During this period, Ceridian implemented several strategic initiatives that resulted in both acceleration of expenses and write-down of assets that totaled $31 million. Before the impact of these items, EBITDA was $108 million for an EBITDA margin of nearly 27%. Our 33% share of Ceridian's quarterly loss was $7 million. For the 3 months ended February 29, Remy generated revenue of $284 million, a 2% decrease from the prior year, while EBITDA was $40 million, an EBITDA margin of 14% in an $18 million improvement over the prior year. Our 47% share of Remy's quarterly earnings was approximately $10 million. For the 3-month period ended in February, American Blue Ribbon Holdings produced revenue of approximately $96 million, 6% growth over the prior-year period, while EBITDA was $8 million, nearly a 9% EBITDA margin. Combined, Village Inn and Bakers Square same-store sales increased by more than 5%, while Max & Ermas same-store sales were up 0.5%. Our 45% share of ABRH's net earnings was approximately $2 million this quarter. Let me now turn the call over to Tony Park to review our financial highlights. Tony?

Thank you, George. FNF generated $1.2 billion in revenue in the first quarter compared to $1.1 billion in the first quarter of 2011 as the increase in closed orders-related direct title premiums and stronger commercial revenue more than offset a modest decline in agency premiums. Net earnings were $74 million compared to net earnings of $43 million in the prior year. The Title segment generated $1.1 billion in operating revenue for the first quarter, a 6% increase from the first quarter of 2011. Direct title premiums grew by nearly 10%, driven by a 10% increase in closed orders and a 2% increase in the fee per file. Agency premiums declined by just 2% over the prior year as the impact of several of the items that were causing declines in agency revenue diminished, including termination of agents, the move to an 80/20 agent split in New York and LPS self-underwriting agency business previously underwritten by FNF. Agency profitability grew as the first quarter agent split improved by 120 basis points to 76%. Title segment personnel costs increased by $31 million or 8% versus the first quarter of 2011, and other operating expenses grew by $11 million or 4%. And as I just mentioned, the agent split improved by 1.2%. As George mentioned earlier, ServiceLink added staff to handle the significant increase in open orders in the first quarter and the revenue benefit will come in the second quarter. Overall, the more variable-based personnel cost increased more than the primarily fixed-based other operating expenses, reflecting the operating leverage to improved order counts and the shift in the mix toward more purchase transactions. The net effect was a 10.7% pretax title margin excluding realized gains, an increase of 270 basis points versus the first quarter of 2011. Debt on our balance sheet increased sequentially by $150 million from the fourth quarter as we borrowed in late March to fund the closing of the O'Charley's tender in early April. We expect to utilize some of the proceeds from the personal lines sale and the ABRH O'Charley's combination to repay that borrowing. Long-term debt continues to consist of the $816 million in senior notes due in 2013, 2017, and 2018. Our debt to total capital ratio was 22% at March 31. The extension of the credit facility maturity to April 2016 and overall strength of our balance sheet continues to provide us with significant financial flexibility. Total title claims paid were $104 million during the first quarter, in line with our expectations. Our reserve position remains within a reasonable range of our actuarial estimates, and we continue to expect to provide for future claims at a 7% provision level for 2012. We also continue to see encouraging results from the 2009, 2010, and 2011 policy years. Finally, our investment portfolio totaled $4.8 billion at March 31, an increase of approximately $110 million from December 31. From a regulated standpoint, we have $1.9 billion in statutory reserves, $1.5 billion in regulated cash and investments and $430 million in secured trust deposits, for a total of nearly $3.9 billion in regulated cash and investments. From an unregulated perspective, we have $550 million in minority equity investments in Ceridian, Remy and American Blue Ribbon, and approximately $400 million in unregulated cash and investments, for a total of $950 million in unregulated cash and investments. $180 million of that available cash was used in early April to fund the O'Charley's tender. Net of that amount, we have approximately $220 million in available cash at the holding company. Let me now turn the call back to our operator to allow for any questions.

[Operator Instructions] Your first question today comes from the line of Jordon Hymowitz of Fidelity Financial (sic) [Philadelphia Financial].

It's actually Philadelphia Financial. But anyway, can you repeat -- well, you said about LPS underwriting for FNF. I don't understand what you said in that regard.

Yes, Jordan, it's Tony. LPS used to be -- have an exclusive arrangement with FNF where they underwrote all of their title premiums with us. And I think it was maybe $300 million at the peak. That has diminished considerably to where now they write most of that through an internal insurance company that they have called National Title Insurance Company of New York. So they have pulled almost that entire amount of underwriting over into their insurance company.

And are they -- is that insurance company also a title insurance company?

Yes, it is.

So I'm confused, LPS has a captive title insurance company that's competing with you?

Correct.

Your next question today comes from the line of Doug Mewhirter of RBC Capital Markets.

I know O'Charley's is still a public company and haven't put out any filings, and I'm not sure if they will. But is there any way you could give indications of how, I guess, how conditions are there? How -- where the quarter is? I guess you can't really give numbers, but -- I mean, are things looking good? Or is there anything you can see about that?

Well, we can't disclose nonpublic information, Doug. But I would say that the warm weather certainly helped many of the restaurant businesses with traffic. And our focus, as we look at that the 3 concepts that we've acquired, will be more on the O'Charley's brand, which has been the consistent underachiever among the 3 brands. The Ninety Nine brand and the Stoney River brand actually are performing pretty well. So we're going to be focused on the O'Charley's concept. And we'll obviously have more to say about that next quarter because, as you know, we're going to consolidate their results into ours.

Okay. My second question, are the ServiceLink operating margins similar to your title margins? And also, does their cycle sync well with your title margins as well? Or do they have sort of a different up and down cycle?

Well, I'd say, their cycle is a little different because their orders tend to come in, in larger amounts from the major banks. So their revenue and their earnings on a quarter-to-quarter basis can be a little more volatile than our typical title operations. And we said that the margins are directionally about the same. They have the ability to scale up much faster. And as Tony mentioned, we added some headcount in the first quarter because the order volumes increased dramatically over where they were last year. And so that will be reflected in revenue and closings in the second quarter. But it's a very good business. We work very closely with the major banks to get our share of what they're outsourcing. And as you know, there's a tendency among those banks to outsource more today to qualify vendors and to consolidate the vendor base. And we're going to be the beneficiary of that.

Okay. My last question, looking at the Title business, with the title personnel cost, I know you track the cost on a weekly and monthly basis. Given that the refi trend has not gone away and purchase seems to be improving a bit. I mean, do you feel you're pretty comfortable with where your staffing's at? Do you anticipate need to be hiring any kind of temps for any kind of surge or even -- is there even any room to get a little leaner in that regard going into the second quarter?

Sure, this is Randy Quirk. As George had mentioned, we did staff up in the first quarter, most of that coming into ServiceLink because of the very reasons George has mentioned. About 1/3 of the staffing took place in our direct operations. This is all very, very dependent on order volumes, which are dependent on interest rates. And we do watch it closely every month. Looking back in the 2011, as the market got soft in 2011, we actually were in a position to eliminate pretty close to 900 employees. So we're ready to move in any direction based on the order volume. I believe that we'll add more in the second quarter to service particularly the closings. The openings in the first quarter pushed some very good inventory and momentum into the second quarter and should actually run into the third quarter, the way it looks right now. So we'll probably add a few more folks in the second quarter, but we're watching it very, very closely. And we're prepared to go in either direction based on the order volume.

Your next question comes from the line of Brett Huff of Stephens Inc.

A quick question on -- you mentioned purchase volumes were up, and I think you gave us a sequential number of 12%. Was that from 1Q to March? Or what was that stat? I just missed it.

That was in April, relative to -- I'm sorry, February to March, Brett.

So it was up in March 12% sequentially from February?

That's correct.

Okay. And then, can you give us a sense of what the year-over-year number was? Do you have that?

I'd say 4% to 5% improvement in resale year-over-year. So it's been very steady. We've seen an uptick in activity. Obviously, a lot of investor activity, a lot of cash sales. But certain markets are improving and stabilizing better than others. And over time, we'll benefit from that.

Okay. And then incremental margins looked pretty good, how are you guys thinking about those going forward? I guess, specifically in the Title business, given 2Q, it sounds like the open orders remained good in April so far, a lot of the stuff from 1Q should be closing in 2Q. It sounds like you'll staff up a little bit. But is there any reason that incremental margins should be at least as good, if not better, in 2Q?

It would expect our second quarter margins to be better than this quarter.

Okay. And then in terms of refis, you talked a little bit about this but I want to make sure I understand. It sounds like the rate-driven refis, such that you can tell between rate and Harp, continue to be good. The rates are low, et cetera. Harp, you said, you expect to accelerate. Is there any way to think about how long you think the rate stuff will go on versus how long Harp refis will go on? Any sort of color on that you can give us.

Well I'd say that we're probably going to run out of steam on the non-Harp refis, maybe second quarter. And they're still trickling in. But I think the acceleration of Harp will benefit, as we understand from the banks, into next year. So the second half is hard to get visibility into. And as you know, we manage the business based on weekly orders. So we'll see how it develops. But ServiceLink will clearly benefit from that Harp business hopefully through the early part of 2013.

Great. And then as you guys look forward and you're talking about the refis probably tapering, I know that you manage the business weekly, what -- I mean, as refis fall off and presuming purchases don't pick up all the water -- aren't carrying all the water going into '13, kind of what are your thoughts on managing headcount? I don't know, Randy, if that's a question for you or George or Tony.

Sure I'll go ahead and take that one. Again, as you mentioned, we just applied the same disciplines and the same metrics that we have for years and years and years. And things fall off in the second half. However, we think we have some pretty good momentum on the refinance side with our footprint of 11,000 -- or excuse me, 1,100 branches around the country. We're well-positioned to serve the resale markets. But if it does slide, we'll make our moves based on our productivity standards which, right now, we're running at a pretty high level. But as I said earlier, we're prepared to make the moves if the market changes.

Your next question comes from the line of Eric Beardsley of Barclays.

Could you provide any additional color on the strength in the escrow and other line? It looks like it was up a bit more Q-over-Q than the closed orders.

Sure, Eric. I guess the 10% increase in direct premiums would have a direct correlations with the escrow piece, so that's part of the answer. The second part of the answer is that our valuation business, which is part of our ServiceLink platform, they do appraisals, and the surge in open orders, and I think we had a 33% increase in open orders in the first quarter, that surge in open orders generated some revenue on the appraisal side that we'll see more revenue, obviously, in the title and closed side as we get into the second quarter. But we did have a nice increase, probably about $10 million or so, in our valuation business year-over-year from those orders.

Great. And then just when do you expect to realize the $20 million of synergies from O'Charley's?

That should really be generated over about the next 9 months. We already have -- our President of the American Blue Ribbon is in National. He's been working with the O'Charley's management team for about 4 weeks. He is -- The plan is laid out and it's going to require movement of some people between Denver and Nashville and, obviously, consolidation of job positions. We don't need 2 or 3 CFOs or 2 Controllers, et cetera, et cetera. So we're going to get off a little bit of a slow start in May and then it'll start accelerating in June through the balance of the year. And by the first quarter of next year, that $20 million, should be at hand.

Great. And then just lastly, just wondering what the long-term strategy for that business is in terms of how long you might hold onto that.

We're really -- we're viewing the restaurant business as a core opportunity for us and we're -- as we consolidate the O'Charley's acquisition in that platform and get the synergies, we know where they are relative to purchasing, employee synergies and facility synergies. We feel like there are several other chains that would be natural fits into this platform. So our kind of 2-year, 2.5-year goal is to build about a $2 billion restaurant revenue company. And in some fashion -- or rather create a public entity that will allow shareholders to invest directly into that restaurant business while Fidelity maintains its majority ownership interest and we consolidate. So that's sort of the synopsis of our 2.5-year plan. But we don't want to bury our management team with too many acquisitions too quickly. They're very, very strong. They're hard working. And if we don't load them up with too many deals all at once, we'll have a successful program.

You're next question comes from the line of Bose George of KBW. Bose George - Keefe, Bruyette, & Woods, Inc., Research Division: So just wanted to follow-up on the EBITDA goals for ABRH. So apart from the $20 million of synergies, there's also the upside as the margins converge. So I was just wondering how to think about when that -- how the margin trends will move over time and how long that will take?

Well, really, our goal at ABRH is have 10 -- minimum 10% EBITDA margins. And even the existing ABRH platform is around 9%, O'Charley's is a good deal less than that. So to give us a -- let us get through these synergies and give us another 3 or 4 months after that, you'll start seeing these margins expand and some pretty good results come out of this restaurant business. When we acquired... Bose George - Keefe, Bruyette, & Woods, Inc., Research Division: Great. And then just with your shares now above book value, I was just curious about your thoughts on excess capital in terms of sort of balancing buybacks, dividends and whatever else you might do with capital.

We thought we get through the -- we're receiving about $119 million on the personal line sale. We have 1 or 2 other monetization events that are -- look like they're going to happen over the next 3 or 4 months. So at this time, probably the allocation of capital is going to shift more toward a dividend increase as opposed to a share buyback. And then as the stock gets weak and we get down around book value then we would go back into buyback mode. So that's really the balance we've had over the last 3 or 4 years.

[Operator Instructions] And Mr. Foley, there are no further questions at this time. Please continue.

Thank you. This was a great start to 2012 and our strongest first quarter performance in a number of years. Our Title business continues to perform extremely well and we are excited about the redeployment of capital in the nonregulated opportunities with higher growth and return potential like the O'Charley's acquisition that has the potential to create greater value for our shareholders. Thanks for joining us this morning.

Thank you. Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and for using AT&T Executive TeleConference. You may now disconnect your lines.