Octave Specialty Group, Inc. (OSG) Q1 2015 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. And welcome to the Ambac Financials First Quarter 2015 Conference Call. At this time all participants are in a listen-only-mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder this conference call is been recorded. I would now like to introduce your host for today's conference Ms. Abbe Goldstein, Head of Investor Relations and Corporate Communications. Ma'am, please go ahead.

Thank you, Amanda. Good morning. And thank you all for joining today's conference call to discuss Ambac Financial Group's first quarter 2015 financial results. We'd like to remind you that today's presentation may contain forward-looking statements which are based on management's current expectations and are subject to uncertainty and changes in circumstances. Any forward-looking statements are not guarantees of future performance or events. Actual performance and events may differ, possibly materially, from such forward-looking statements. Factors that could cause this include the factors described in our most recent SEC filed quarterly or annual reports under management's discussion and analysis of financial conditions and results of operations and under risk factors. Ambac is not under any obligation and expressly disclaims any obligation to update any forward-looking statements whether as a result of new information, future events or otherwise. Today's presentation contains non-GAAP financial measures. The reconciliations of such measures to the most comparable GAAP figures are included in our earnings press release which is available on our website at ambac.com. Please note we have posted slides on our website to accompany this call. Our speakers today are Nader Tavakoli, Interim President & CEO and David Trick, our CFO. At the conclusion of their prepared remarks, we will open the call to your questions. I'd now like to turn the call over to Mr. Tavakoli.

Good morning. Thanks, Abbe. And thank you all for joining us for today's call. As we said in our press release last night, the first quarter was a very successful one for Ambac. We achieved quarterly operating earnings of nearly $250 million or more than $5 per diluted share. Since emerging from Chapter 11, Ambac has now achieved aggregate operating earnings of $1.6 billion. David Trick will elaborate on the quarterly performance in detail after my comments. In addition to our positive financial performance, we made significant progress in the first quarter towards positioning the company to better address several important mandates if we're to successfully maximize the value of AAC, complete the rehabilitation of the segregated account and create an environment for significant and sustainable shareholder value. We are doing this by making sure we have the best processes and people internally and externally to accomplish our near term goals with the appropriate sense of urgency, dedication and commitment. Our near term mandates include aggressive and vigilant pursuit of our RMBS cases, early and active engagement and risk and loss management, optimizing our corporate structure and organization given our changing needs, building on our constructive relationship with our regulator, expense management and efficiency, strategic capital allocation and management and transparent shareholder communication. I will speak briefly about some of these important initiatives. With regard to our rep and warranty litigation we are re-doubling our focus on proceeding with these cases as quickly as possible toward trial. Our litigation teams have been instructed accordingly. As we have said previously, we are confident in the strength of our cases, are represented by the leading law firms in this area and will not sell our shareholders short in zealously prosecuting these important claims. We're also confident in our right to ultimately receive interest on our losses. The delays in the proceedings are at the defendants risk and expense. Early this month we filed a motion for partial summary judgment in our first countrywide case and we have what we hope is a firm date of July 15 for the argument on that motion before Judge Branston. We anticipate filing for summary judgment on our JPMorgan EMC cases by early 2016. As it relates to our insured book generally our exposures continue to run off and we are actively looking for ways to further de-risk the book. During the quarter, the overall book decline by another 5% to $137 billion. Importantly our troubled credits continue to shrink and we commuted a large amount of our student loan exposure at a very attractive price. As a result of this and other factors that David will detail, we were able to reduce our gross loss reserves materially from $3.8 billion to $3.5 billion. In risk and loss management, we're stressing the importance of early recognition of and intervention in problem exposures. As we identify potential problems, we aggressively pursue plans to manage and mitigate any potential losses. We're evaluating every area of our insured book to ensure we have not overlooked potential problems and to optimize and de-risk our portfolio where possible. As it relates to our significant exposure to Puerto Rico, we previously disclosed our exposures in detail and have updated those disclosures today. In the aggregate, we have $2.4 billion net par exposure. In our disclosures, contrary to some recent reports we provide a schedule of principal and interest by bond type and by year for each of our exposures to Puerto Rico. Importantly, as most of you are aware we have absolutely no exposure of PREPA, the troubled electric utility that’s the subject of most of the current restructuring discussions in Puerto Rico. We also continue to believe that notwithstanding the recent failure of the VAT tax proposal, the Commonwealth and its citizens are far better served meeting their obligations than considering any default or restructuring possibilities. Having said that, I'd like to highlight a couple of our key exposures, namely HTA and COFINA. With respect to HTA, the Highway and Transportation Authority we have $712 million of net par exposure. With the recent passage of petroleum excise tax we've improved our outlook on HTA. Pursuant to this recent legislation a statutory lien will arise for the benefit of the HTA bondholders as soon as $1.2 billion is raised via PREPA refunding bonds. The statutory lien becomes valid and enforceable against any third party automatically without the need for recording or taking possession of the funds subject only to the constitutional geo priority. Until the refunding PREPA bonds are repaid the Puerto Rico treasury will be required to deposit the proceeds of the tax directly with the trustee or representative of the bondholders up to the amount required to meet obligations under the bond document. To the extent the GDB or another instrumentality of the Commonwealth obtains the tax proceeds prior to refunding PREPA bonds being paid off, the tax proceeds must be transferred to the trustee or representative of the bondholders, and pending such transfer are deemed to be held in trust and without any rights to set off by the GDB or other Puerto Rico instrumentality. With respect to COFINA, we have $805 million of net par exposure. We expect the Act 91 structure which protects COFINA's legal structure to withstand any challenges. Act 91 includes the establishment of a dedicated sales fund, where first receipts of the sales tax are deposited for the benefit of bondholders, the granting of the deposited funds [a lien] [ph] and importantly, the funds in the dedicated fund for the benefit of COFINA are exempt from claw backs. We believe strongly that COFINA bondholders have clear property rights to the segregated sales tax revenues and any attempt to impair those rights would violate the contracts and taking clauses of the US constitution. Indeed we're highly confident that in the event of a permanent impairment of the Commonwealth's debt the COFINA takings clause position is stronger than that of the geo bondholders. I would also remind you that our COFINA exposure is as to PNI, there is no possibility of acceleration and the first possible payments would not be due until 2047. Although we are confident that our Puerto Rico position are relatively solid, we want to be prepared for and involved in any outcome. Towards that end, we've assembled a world class team of professionals in Washington, New York and Puerto Rico to actively monitor the situation in Puerto Rico and as a result we have a strong voice in the various discussions taking place toward a possible resolution of the Commonwealth's difficulties. Our access to decision markers and involvement and possible outcomes is second to none. For example, we were constructively and actively involved with legislators to favorably amend the petroleum tax and we want to be sure that we are aware of all the possible actions that could affect our exposures on the revenue streams attached to our bonds. We have made it very clear that we will not tolerate any actions that might impair our interest. As many of you know I've spent a good deal of my career in the restructuring and workout arena and while our ability to ultimately control absolute outcomes in Puerto Rico may be limited, we will make every effort to ensure that from a relative perspective we will not be short changed. On the asset management front, we had a very successful quarter overall. We continue to focus on leveraging our resources to maximize AAC's value towards the goal of the successful rehabilitation of the segregated account and during the quarter we purchased another $204 million of our Ambac insured RMBS. As we go forward, effective allocation of our assets to match the needs of the company as it relates to the nature and duration of our potential losses will be paramount. In expense management, we're also re-doubling our efforts towards efficiency. We have centralized our vendor management processes and are using third parties as necessary to review and negotiate vendor relationships and invoices Over the last few weeks, we've reviewed material expense [Audio Gap] viewing our corporate structure to ensure that we appropriately adjust to our changing needs and that we're as effective and efficient as we can be. Overall, as I've said before, we're very focused on maximizing the value of AAC and bringing the rehabilitation of the segregated account to a successful conclusion. We feel a strong responsibility to satisfy AAC's overdue obligations to its policyholders, so long as that can be done prudently and to the satisfaction of our regulator. Towards that end we continue to build on the constructive relationship we've developed with our regulator, ending the rehabilitation would allow the company to take greater control over its liabilities and assets towards enhanced returns. Given the very long duration of much of our exposures, incremental positive changes on the investment side of the book will have a profound impact on the company's ability to meet claims and generate excess value over the long-term. As part of that asset liability management strategy, AAC continues to consider possibility of entering into transactions, whereby we would monetize certain assets and or restructure or exchange outstanding surplus notes and deferred obligations with the objective of ending the rehabilitation proceeding. To that end, we're conducting discussions with the rehabilitator, as well as certain surplus note and policyholders and other potential participants. Successful completion of the rehabilitation will convey renewed confidence by the company to its employees and the external community about its future prospects, achieving this goal will be challenging, but we are hopeful we can get there this year. While we pursue the goals of AAC, we're also very focused on the future of ASG. We continue to explore opportunities to deploy AFG's resources strategically both within the AAC capital structure and otherwise. We believe there is tremendous value in leveraging our core competencies and in house expertise, which include among other things, credit analysis, underwriting, risk and asset management, municipal finance, and real estate. We are actively exploring ways in which we can combine our existing resources and expertise with business development possibilities, one said possibility maybe around our real estate owned assets. In closing, I am pleased with our progress in the quarter. I would like thank our Board of Directors who has continued to the lead to the company with foresight and vision under challenging circumstances. I would also like to thank the many dedicated employees of Ambac whose commitment and resilience has helped the company to get through some very dark days. I am confident that with our continued hard work and boards continued leadership Ambac is well positioned to satisfy its policyholder claims and prosper in the years to come. I will now turn the call over to David, for financial review before returning to answer your questions.

Thank you, Nader. Before I review our financial results, I want to point out that we have – we are now reporting our quarterly results on a sequential basis rather than on a year-over-year basis. We believe this presentation is more relevant for now with respect to analyzing results and trends. Net income for the first quarter 2015 was $214.7 million, or $4.57 per diluted share, compared to $453.6 million, or $9.73 per diluted share for the fourth quarter of 2014. Operating earnings for the first quarter of 2015 were $247.6 million, or $5.27 per diluted share, compared with $476.6 million, or $10.22 per diluted share for the fourth quarter of 2014. A lower benefit for loss and loss expenses had a meaningful impact on net income and the operating earnings. The first quarter 2015 benefit for loss and loss expenses of $151 million was mostly driven by the impact of a student loan commutation, lower future expected losses on student loans and RMBS and modestly higher estimated representation and warranty recoveries. The higher benefit in the fourth quarter of 2014 included $389 million gross of reinsurance related to an insurance – increase in the estimated Rep and Warranty recoveries and a favorable loss development across the majority of sectors. First quarter 2015 results were also positively impacted relative to fourth quarter of 2014 by higher premiums earned, net investment gains and derivative product revenue, while the fourth quarter of 2014 included a loss on the partial redemption of surplus notes. Adjusted book value was $479 million, or $10.64 per share, as of March 31, 2015, as compared to $337.4 million or $7.50 per share at year end 2014. The $141.6 million adjusted book value increased was driven by operating earnings. For the first quarter of 2015, net premiums earned were $65.7, as compared to $34 million in the fourth quarter of 2014, including accelerations of $22.9 million and a negative $12.3 million respectively. Normal premiums earned were impacted by the natural and accelerated run off of the insured portfolio. The first quarter of 2015, accelerated premiums earned primarily related to public finance activity which included calls related to one large exposure and insured bonds underwritten primarily in 2005 and earlier. Accelerated premiums earned in the fourth quarter of 2014 were adversely impacted by the October 2014 Punch Taverns refinancing, which resulted in $34.7 million of negative accelerated earnings. Net investment income for the first quarter of 2015 was $73 million, as compared to $66.5 million for the fourth quarter of 2014. Net investment income for the first quarter of 2015 benefited from stronger performance in the trading portfolio. Included in financial guarantee net investment income were mark-to-market gains on invested assets classified as trading of $7.8 million, compared to $1.2 million in the fourth quarter of 2014. The majority of these trading assets reside in Ambac UK and include equities, leveraged loans, property and hedge funds. Excluding trading securities, net investment income from the Financial Guarantee investment portfolio was flat as higher yields on, and a greater allocation to AAC insured securities offset the impact of fourth quarter liquidations to fund the partial redemption of surplus notes in November 2014 and the equalizing payment of deferred amounts in December 2014. The derivative products portfolio is positioned to generate gains in the rising interest environment in order to provide a economic hedge against the impact of rising rates within the Financial Guarantee insurance and investment portfolio. Net losses reported in derivative products revenue for the first quarter of 2015 were $37.8 million, versus $63.6 million in the fourth quarter of 2014. Results in derivative products revenue reflect net mark-to-market losses in the portfolio caused by changing interest rates, net of the impact of incorporating the Ambac CVA. Inclusion of the Ambac CVA in the valuation of financial services derivatives resulted in gains within derivative product revenue of $12.6 million for the first quarter of 2015, compared with gains of $16.1 million for the fourth quarter of 2014. The first quarter of 2015, benefit for loss and loss expenses of $151 million was driven by the impact of a student loan commutation, lower future expected student loan and RMBS losses and modestly higher estimated representation of warranty recoveries, partially offset by $39.9 million of interest expense on deferred amounts and higher loss and loss expenses in domestic public finance. The RMBS benefit of $101.3 million in the first quarter of 2015, excluding $39.7 million of interest expense in deferred amounts was driven by a decrease in forward interest rate projections contributing to additional future excess spread and a increase of $44 million to Ambac's estimated Rep and Warranty subrogation recoveries. The student loan loss and loss expense benefit of $109.4 million in the first quarter 2015 was primarily driven by the commutation of $254.3 million of student loan insured exposure, the impact of lower interest rate projections and a updated forecast future losses. Loss and loss expenses of $27.1 million related to domestic public finance in the first quarter of 2015 were primarily due to increases in reserves of Puerto Rico and Las Vegas Monorail. During the quarter, reserves shifted amongst various Puerto Rico exposures resulting in a small net aggregate increase. The increase in Las Vegas Monorail reserves was due to adjustments made with regards to the outlook for incremental commutations of this exposure it is partially a function of the nature of the remaining owners of these bonds. Ambac UK loss and loss expense benefit of $9.1 million primarily resulted from positive interest rates driven loss development on a structured insurance transaction, partially offset by foreign exchange charges given that this policy is denominated in a currency other than AUK's functional currency. During the first quarter of 2015, net claim and loss expense payments, net of reinsurance from all policies were $104.2 million, which included $175.6 million of losses paid and $82.4 million of subrogation received. Losses paid in the first quarter of 2015 included payments related to a partial commutation of a student loan exposures, a special payment related to an RMBS transaction, as well as recurring RMBS claims. For the second quarter in a row, RMBS subrogation received exceeded RMBS claims recorded. During the fourth quarter of 2014, net claim and loss expense payments, net of reinsurance from all policies were $1.1 billion, which included $1.1 billion of equalizing cash payments of deferred amounts. Gross unpaid claims increased modestly by $20 million to $3.3 billion as of the end of the first quarter. In the first quarter of 2015 deferred interest accruals were somewhat offset by special payments and deal recoveries resulting in only a modest increase in deferred amounts. Gross loss and loss expense reserves, gross or reinsurance and net of subrogation recoveries were $3.5 billion at March 31, 2014 and $3.8 billion at December 31, 2014. The decline in loss and loss expense reserve resulted from the payment of claims, the student loan commutation, higher estimated Rep& Warranty and subrogation recoveries and lower projected losses from RMBS, student loan and Ambac UK, partially offset by modestly higher [Technical Difficulty] March 31, 2015 and December 31, 2014 were net of $2.568 billion and $2.523 billion, respectively of estimated Rep &Warranty subrogation recoveries. The increase in the estimated Rep &Warranty subrogation recoveries is a result of our ongoing assessments of the value of the claims. Underwriting and operating expenses for the first quarter of 2015 were $24.5 million, compared to $26.1 million for the fourth quarter of 2014. Expenses decreased primarily due to lower compensation expenses related severance cost. Interest expense was $27.9 million for the first quarter of 2015, compared to $31.4 million in the fourth quarter of 2014. Interest expense includes accrued interest on investment agreements and surplus notes issued by AAC and segregated account. Additionally, interest expense includes discount accretion on surplus notes as their carrying value is at a discount to par. The decrease in interest expense in the first quarter of 2015 was largely the result of the lower surplus note balance outstanding following the November 2014 redemption. At March 31, 2015 the company had $4.9 billion of US Federal NOLs, including $1.4 billion at AFG and $3.5 billion at AAC. And the future taxable income of AAC will be subject to annual payments by NOL usage tier after certain credits and any additional post determination date NOLs, under its NOL tolling agreement with Ambac. A credit is available to offset the first $5 million of payments due under each of the NOL usage Tiers A, B, and C. By March 31, AAC fully utilized its Tier A credit and accrued approximately $1.3 million of tolling payments. Tolling payments, if any, accrue quarterly and are paid in the second quarter following the year in which they are generated. Although AAC has utilized all of its current post determination date NOL, additional post determination date NOL maybe generated in the future. The fair value of the consolidated investment portfolio as of March 31, 2015 were $5.5 billion virtually unchanged compared to the value at December 31, 2014. During the first quarter of 2015, Ambac purchased $204 million of insured RMBS. A fair value of Ambac insured RMBS in our consolidated portfolio was approximately 1.8 billion 32%. Notably the majority of the purchases in the first quarter of 2015 were through privately negotiated transactions versus dealer activity a trend we have mentioned before. As the market for our insured RMBS are strong, direct purchases of securities have allowed us to achieve scale needed to fulfill our portfolio objectives. Up to $3.3 billion of segregated account deferred amounts at the end of the first quarter, we now own a total of approximately $766 million or 23.4% including accrued interest. The 118 million increase from $648 million including accrued interest at December 31, 2014 was due to purchases in the quarter offset by net paydowns from the receipt of December equalizing payments in January and shifting of deferred amounts between tranches of transactions we own stemming from improved collateral performance. The Financial Guarantee insurance portfolio net par amount outstanding declined 5% to $136.8 billion at March 31, 2015 from $144.7 billion at December 31, 2014. Much of this is due to the run-off of $5.4 billion of public finance net par, especially related to insured bonds underwritten in 2005 through 2007. This run off is consistent with market activity or by attractive municipal bond market conditions are driving heavy refundings and collectivity. Adversely classified credits of $25.5 billion decreased by $1 billion or 4%, compared to December 31, 2014. As of March 31, 2015 and December 31, 2014, AAC surplus as regards to policyholders is at the minimum surplus amount of $100 million and as a result $26.2 million and $149.5 million of the segregated account’s liabilities were not assumed by AAC under the reinsurance agreement between AAC and the segregated account. AAC's policyholder surplus was adversely impacted by the partial redemption and reclassification of surplus notes, other than junior surplus notes, both AAC and the segregated account from policyholder surplus to a liability in the fourth quarter of 2014. This change was because of the treatment of surplus notes in the amended plan of rehabilitation, which requires the notes to be redeemed proportionately and the segregated account makes payment on deferred amount. That concludes our prepared remarks. Now, we will open up the call to Q&A.

Thank you. [Operator Instructions] And our first question comes from the line of Andrew Gadlin from Odeon Capital Group. Your line is open.

Good morning. Thank you for taking my question.

Morning, Andrew.

On the RMBS reserve reduction David you mentioned that was driven by reduced lower interest rates, I assume that that’s expected to drive excess spread recoveries for the upcoming periods. I am just trying to compare that to the operating supplement where the gross RMBS claims presented is almost nothing for the remainder of 2015? Is that really excess interest coming into those deals that offset for losses?

That’s what happening for the remainder of the year. That’s correct, Andrew.

And then what's the outlook, looking out to 2016 and 2017?

I think what we'll begin to see is a [indiscernible] of excess spread, with the passage of time a lot of the excess spread is front-end loaded over the next two to three years through 2018 and subsequent to 2018 generally speaking you will then see a real general decline in RMBS payments on a sort of gross and net basis.

And that’s just an assumption of what the yield curve looks like today, correct?

Well, with regards specifically to the excess spread, yes, it is a function of what forward rates look like. But in terms of gross claim payments that’s been long standing and consistent projection of ours that subsequent to 2008 we'll see a significant drop off [and lull] [ph] in claim payments to made up many years out in the 2030, 2035 zone by some ultimate pay bonds that mature.

Got it. And then you mentioned also that subrogation recoveries in recent quarters have been higher than actual claims payment on the RMBS side?

Right. That’s correct.

And just – I am just trying to think what this new forecast remainder of the year, should we expect even more kind of gross or net recoveries?

Well, that’s what's laid on page 9 of the supplement. On the net basis we still expect that there will be net RMBS claims paid as or I should say recorded and so that’s our current forecast.

Got it. Okay. Thank you very much.

Thank you. Our next question comes from the line of Ben Clifford from Nomura Securities. Your line is open.

Hey, good morning, guys.

Morning.

Morning.

So just to touch on the $479 million in adjusted book value, would it be appropriate to make a adjustment of – to add back [$166] [ph] million of the DPOs you own…

Sorry, so the DPOs that we own are included in the adjusted book value number. DPOs we own are on the asset side of the balance sheet. So they are included in adjusted book value.

So it’s offsetting a liability?

Yes, the balance sheet. We don’t take down loss reserves or deferred obligations as a result of any insured RMBS that we acquire.

Understood. And then just I know, this is touched on earlier in the call. But again on the RMBS loss estimates, it looks like you took 2015 down substantially from the fourth quarter, but also 2016 loss estimates are down from $250 million to about a $100 million, but is that solely driven by excess spread or are you seeing better loss, better loss experience on RMBS?

There's a few things going on, but majority of the movement in our expectations around RMBS claim payments for – as of this – the end of this quarter resulted from movements in excess spread and projections of excess spread. There is a bunch of other factors that run through our modeling, including changes in HPA and other credit factors. A lot of those things were offsetting for the quarter and the other thing that’s affecting at least the timing of payments is liquidation timelines. And you can see in the table on page 9 of the supplement that the aggregate total amount of RMBS future payments hasn’t drifted that much from the end of the year. But the timing has moved around a bit.

Great. That makes sense. And is there anyway to quantify the total amount of Rep and Warranty you're going after in your litigation and what the interest would be on top of that, just to know like what the total pool of recoveries that you are going after?

We obviously have a very good estimate and understanding of the damages we're seeking. But we have not disclosed that nor have we disclosed the interest on those amounts at this time.

And is there a calculation due in terms of interest, like what type of rate would you typically use or something like that…

It’s hard to really give you specific guidance on that. But basically in these kinds of situations one of two options are available, either statutory or contract, and statutory in New York state is 9% currently, not compounded, and contract would really depend on the rates provided in each of the contracts. So those are the options.

Thank you. That’s very helpful.

Thank you. And our next question comes from the line of [Alex Cooper][ph] from Bank of America. Your line is open.

Hey, just two quick questions. One relates to the purchase of the RMBS, Ambac insured RMBS. I was just taking a look at the statutory filings, and it looks like the write-ins for investments in Ambac insured bonds actually went down by 62 million and I am trying to reconcile that with the fact that you guys bought 204 million of wrapped paper in the quarter.

Yes, sure Alex. There is a couple of things going on. One is that there was pay downs of course of the RMBS that we own; RMBS, we actually sold one very tiny position, but – as well, but the broader impact was the fact that the student loan bonds position that we commuted was something we owned on the balance sheet. So, while we bought 204 million we also sold those student loan bonds from our portfolio and as well a portion of the RMBS we bought back in the quarter, actually bought at the holding company.

Got it. Can you give the sense of how much of the 204 you bought at the holding company or…?

About 40 million.

Got it. Is that something you guys are thinking about doing going forward in terms of using your excess liquidity at the holding company?

Yes, one other things we said when we generated the liquidity through the grow [ph] was first, with regards to the junior surplus notes that AFG had was that we were going to strategically deploy that capital both as it’s related to the AAC, ALM program, as well as other things. And so we’re just going to continue to opportunistically look at that – those options both of those options as we go, hard to predict the future right now. But both of those possibilities were open to us as we go forward.

Got it. And then I mean, if you can just elaborate a little bit more Nader I think you were talking about working closely with claim holders, mitigating deferred payment amounts. And I don’t want to put words in your mouth. But it sounded like you said you hope to exit rehabilitation by the end of the year?

Yes, we are hopeful and working towards making this a 2015 event. There’s a lot of work to be done. It’s obviously a multi-angulated negotiation and discussion with our regulator and stakeholders. And with lots of discussions and negotiations to come, but we’re trying to make this a 2015 event.

Got it. And so should we expect I mean, should we be expect that you guys are thinking about another pay down first or just the goal is to get out of rehabilitation and then worry about sort of satisfying surplus notes et cetera?

Yeah we don’t control that, those decisions with respect to paydowns or generally in collaboration or direction from the OCI. And so that is not unilaterally our decision. But I think it’s fair to assume from our perspective that if what we’re trying to do is a holistic fix that that’s what we’re going to work towards.

Got it. Okay, great. Thanks.

Thank you. Our next question comes from the line of Jatin Dewanwala from Metacapital. Your line is open.

The first question I had was can you walk us through – your thinking behind not including fraud lawsuits in your lost estimates and subrogation recoverable?

Really just a function of accounting mandates and our understanding of them and it’s just simple as that.

But the 2012 JP case where the Rep and Warranty angle of the lawsuit was displaced that one is still included in your $4.109 billion number, if I’m correct about that?

There’s some element of that in there, but we’re taking – we believe that that decision was wrong, we’re appealing it and…

Okay.

And so as long as we’re alive and kicking we’ll have some element of that in there.

Okay. And in terms of you had mentioned earlier on the call and also I think in some of your disclosure that the losses behind the different lawsuit where you’re pursuing Rep and Warranty claims is $4.109 billion?

That’s right.

Right, And you’re reserving for $2.568 billion, so would that I mean, is that what your base case assumption is or do you think that that’s let on the consumer decide?

Now we don’t try to be conservative or aggressive in our accounting. And so that’s what the combination of legal and accounting provisions lead us to.

Okay.

And so I don’t want to characterize that one way or the other.

And one of the point out that there is a means by which we calculate those numbers on a probability weighted approach. So we look at a range of scenarios and the sign probabilities to those and generate a expected value based on the outcome of those probability weighted scenarios.

Got it. And then on Puerto Rico exposure, can you tell us what your basic assumption is, it sounds like just listening to your – you speak about HTA and COFINA that your base case assumption is, that those don’t take any loss or very slight at the margin on the HTA and none on the COFINA, would that be accurate?

Yeah I mean look I can’t – it’s very hard at this point to predict what’s going to happen in Puerto Rico. There are – there’s in addition to the financial complexity of the situation there’s a lot of political complexity. And I think everyone on this call is fairly up to speed in terms of all of that. So, but we believe that the better thinking in Puerto Rico still wants to resolve the situation in an amicable way. We think that both the Governor and the President of Senate are committed to that and so we think base case scenario they’re going to try and have a balance budget here for 2015 with or without a VHE I don’t know that we were ever big fans of a 14% VHE to be honest with you. And so I don’t think we were particularly surprised given our those access and information down there that it failed. But we do think that the government is committed to bringing the budget into balance for this year and they’re going to work hard towards it. That doesn’t mean that they would still not like to do something with PREPA but we’re not in PREPA so we do believe that as to the rest of Commonwealth’s obligations what is important in this situations is the policy makers will and we think that the policy makers will is not to default or restructured balance of their debt.

Got it and do you have any plans of breaking out the loss exposure to Puerto like in your loss is also Puerto Rico in the future?

No we historically and right now don’t have any expectations to break out loss reserves on a policy by policy or exposure by exposure basis. But I’ll reemphasize the fact that we do think we’re very well reserve to our exposure to Puerto Rico.

Got it and on let me on Rep and Warranty again…

And you can understand let me just elaborate on that, because we’re not difficult.

Sure.

Because we’re trying to be more transparent here and we’ve made a commitment to that, but you can very well understand that in a dynamic if we would get into negotiations on any of these situations it handicaps you materially to go into a negotiation with the other side knowing what your reserves. So it’s just sort of negotiating 101 risk management 101that you don’t want to be overly transparent when there’s another party at the table who is going to press against that number.

Yeah that’s very reasonable coming back to Rep and Warranty the Capital One lawsuit was dismissed with prejudice last year in June has that I would imagine there was a settlement on the other side can you speak a little bit about that?

Yeah again I apologize that is the – that is an area that I cannot speak about we have very strict requirements not to speak about that.

Okay, right. Thank you so much.

Thank you. Our next question comes from the line of [Josh Betterman from Pyro Capital][ph]

Thank you I just wanted to touch a little bit on Highway and PREPA given kind of the re-contingent on the VAT I understand your base case assumption is still there’s balanced budget in 2015. But I was wondering if you changed any assumptions or reserves related to your Highway exposure given how important the PREPA deal is and any potential change in probability that gets done?

Yeah we don’t disclose again as we said before physician by physician reserving, but we’re we were very early here to recognize the problems at Puerto Rico. We took the entire credit down to go the investment grade well before the rating agencies and others, and established reserves accordingly. So we have made some adjustments to our reserving among our various exposures as recently as this last quarter, but I really can’t say much beyond that.

Okay and then just as of kind of matter of policy or procedure are your reserves are accurate with data up to 331 or do you account for any subsequent events prior to filing in your reserves?

Yeah we do account for subsequent events up to the filing date.

Okay. Thank you.

Thank you. [Operator Instructions] Our next question comes from the line of Charles Post form Sterling Grace. Your line is open.

Good morning, everybody.

Hi, Charlie.

Hi, Charlie.

Have you guys discussed with the rehabilitator whether you can exit rehab without receiving RW payments? I mean can you like I guess can you exit in 2015 possibly without receiving RW payments?

Charles, I don’t want to get into the specifics of the conversations that we’ve had, but I think you can sort of assume that given the importance of those assets to the company and the repayment of our obligations you can I think fairly assume make certain assumptions about what may have or may not have been discussed, I would rather not specifically thought to the discussions.

Okay no I’m just trying to get sense was just you talk a little bit of a quicker timeframe then I guess I expect but I’m happy to hear it some of the lawsuits and filings are going to happen in 2016 so if you get to a settlement just trying to get a some color on it so next time you can provide it?

I mean look the answer is that in a natural order of thing the case is not going to be decided in 2015 I mean we’re going to have as we said in the prepared remarks we’re going to have a likelihood we’re going to have a some judgment hearing in the July and JP Morgan hopefully at some point early in 2016. But obviously that doesn’t not in the case and so we’re not predicting or saying in any sense that we expect those things to be resolved this year now obviously there are more multiple different ways to end litigation or to monetize litigation. And so we’re looking at all possibilities and we’re open to discussions, but I would not assume that we’re predicting in our base case that we’re going to have either those cases significant cases resolved this year.

Then is there anywhere what those documents is there anywhere that discusses what the commutation payment was in the term loan commutation?

No we have been exclusively said wasn’t that payment was so you can imagine there’s some confidentiality between ourselves and our counterparty with regards to that and would not be ultimately in our strategic best interest given our objective of trying to commute additional policies going forward to have to make specifics with regards to the price actually paid for this the commutation. That being said one of the drivers of the results for the quarter running through the income statement on the incurred benefit line of $151 million was the impact of that commutation. So say it another way the price was below what we had reserved for on the balance sheet.

Well I can look at the Q and see that reserves on for private as to loans went down by about $200 plus million. But the [indiscernible]. Thank you.

You’re welcome.

That’s all my questions.

Thanks, Charles.

Thank you and we have a follow-up question from the line of Jatin Dewanwala from Metacapital. Your line is open.

Thank you. Sorry, just wanted to ask you about the restructuring of the surplus notes so that plan has only got to do with the surplus notes and there’s no plan for the DPOs right like there’s no way to really change there. So what you’re going to be essentially doing is right now they’re try to pursue with each other at the top of hierarchy. So surplus notes would kind of fall below the DPO does that what the plan is?

No that’s not what I said and I think that what we’re talking about is resolving all of our deferred obligations and surplus notes basically all of our policy level deferred claims.

Okay and there would are you talking about like making the payment to just payout surplus in DPOs or some other mechanism can you shade more light on what’s being thought about?

So we haven’t really laid out a plan, because we don’t really have a fully baked plan yet and as I said before we’re still in the midst of discussions and negotiations on all of this. So I don’t want to imply that this is any further along than it is. But I think we plan to satisfy to the satisfaction of the company and the policyholders and the OCI, however we do claims in surplus notes.

Okay and would you have to reach out to all investors of surplus notes to get approval or like, is there like a threshold that you have to across before you can make the change?

Yes, those determinations have not been made.

Okay. All right. Thank you.

Thank you. And at this time, I am showing no further questions. I would like to turn the call back to Nader Tavakoli for any closing remarks.

I'd like to thank you all for joining us today. And I look forward to updating you on the company's progress as we go forward. Thanks, again.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. And you may all disconnect. Everyone have a great day.