Stewart Information Services Corporation (STC) Q2 2023 Earnings Report, Transcript and Summary

Hello and thank you for joining the Stewart Information Services' Second Quarter 2023 Earnings Call. At this time, all participants are in a listen-only mode. Later, you will have an opportunity to ask questions during the question-and-answer session. Instructions will be given at that time. Please note today's call is being recorded. [Operator Instructions] It is now my pleasure to turn today's conference over to Brian Glaze, Chief Accounting Officer. Please go ahead.

Thank you for joining us today for Stewart's second quarter 2023 earnings conference call. We will be discussing results that were released yesterday after the close. Joining me today are CEO, Fred Eppinger; and CFO, David Hisey. To listen online, please go to the stewart.com website to access the link for this conference call. This conference call may contain forward-looking statements that involve a number of risks and uncertainties. Please refer to the company's press release and other filings with the SEC for a discussion of the risks and uncertainties that could cause our actual results to differ materially. During our call, we will discuss some non-GAAP measures. For a reconciliation of these non-GAAP measures, please refer to the appendix in today's earnings release, which is available on our website at stewart.com. Let me now turn the call over to Fred.

Thank you for joining us today for Stewart's second quarter 2023 earnings conference call. David will review the quarterly financial results in a minute, but before we get into financial results that we released yesterday, I want to update you on our view of the market and our continued progress on important initiatives that we believe will set Stewart up for success in the long-term. During the last three to four years, we have focused on fundamentally improving Stewart's operating performance and launching off on a journey to become a premier title services company. While the current economic environment poses significant challenges, we have materially improved our business, creating a strong or resilient business that will thrive over full real estate cycle. But we also know there is more that we can do. And it is critical for us to remain focused on improving margins, growth, and resiliency to improve scale in attractive markets and enhancing our operational capabilities. In difficult markets such as the current, it is often indeed a focus on achieving these long-term goals. However, I'm very pleased with our progress on these enterprise initiatives during the second order and are not serviced with improving our long-term performance. Given the continued volatility in the market, we have balanced investments in these initiatives that we need to manage expenses very thoughtfully. As we've discussed before, we are not surprised that the challenging economic environment continued into the second quarter. Although interest rates declined early in the second quarter, they increased throughout the remainder of the quarter, and the 30-year mortgage interest rate now offers around 7%. As would be expected, the increase in rates has offset some of the typical seasonal increases in residential volumes that are expected during the summer months. Fortunately, we have seen modest increases in the transaction volumes during the second quarter after experience a historic level in the first quarter. So, the active new homes is strong although listings for existing homes remains very low. We expect the challenges of this environment to continue throughout 2023. We advantage cost carefully throughout this market, while on our long-term strategy, which requires a careful balance between investing in initiatives and managing expenses. We've been careful not to take actions that we felt would threaten our competitive position in long-term value creating opportunities. We believe that the real estate cycle will be founded 2024 and the best path forward for Stewart to get through these periods is to invest in our people and remain focused on our long-term improvement plan, while managing through a few challenging quarters. We remain focused on our long-term strategy, enhancing our operating model, investments in technology to enhance customer experience and improve efficiency of our operations, and building scale in targeted areas. We recognize that these strategic investments will cause the cost ratios to remain elevated in a market with exceptional low transaction volumes. We believe that these long-term investments coupled with thoughtful near-term expense management will improve our structure and financial into the long-term. In our direct operations, going to scale and attractive markets remains a priority. We are routinely reevaluating markets where we have the opportunity to pre share and enhance our leadership strength. Given the market uncertainty, we have been more selective in our decisions in order to ensure our deployment capital makes sense for the long-term. Positioning our commercial operations for growth across all our business lines has been a key focus of as those operations are important component of our overall strategy. We are making investments in talent so that we have the leadership in place achieve these objectives. We are investing in technology to support the commercial operations to allow us to better serve our customers and we remain optimistic about commercial, but as we discussed last quarter, the commercial environment remains uncertain in the short-term due to changing financial markets. Certain commercial sectors such as energy would be very strong for us, but we see ongoing challenges in sectors like office and multifamily. However, we believe our focus will create long-term growth in the commercial markets. In our agency business here are leveraging technology to drive market share gains. We have made excellent progress on our deployment of technology and services to provide a significantly improved agent experience for Stewart. This experience includes greater connectivity, ease of use, and risk reduction for our agent partners. We are pleased that our platform of services for agent is the strongest it's ever been and we've begun to see meaningful progress in target markets such as Florida to agency commercial and others. A significant component of our investments is focused on improving our technology for the type of production process automation and centralization to improve operational efficiency and capabilities. We have already made significant progress improving the customer experience across all channels and are rolling out our agency technology platform, which significantly enhances ease of use and connectivity with agents. Another area of priority is we work to improve our operating efficiencies, the centralization of digital of our title plans. During the quarter, we made significant progress on our road map to integrate completed acquisitions in our production in other systems, which improves the customer experience as well as the overall operating efficiencies that we have built building on for the past several years, integrating the remaining required companies is a top priority for the balance of 2023. Maintaining strong financial position is always important but even more during a market like this. Our strong financial position, like we currently have, allows us to make opportunities addresses. Financially, our long-term goal remains to generate high single, low double digit margins over the cycle. Over the cycle, they will be high in low quarters as evidenced in the first quarter. However, the modest increases in transaction volumes, margin improved significantly as indicated by our second quarter results. In addition, the investments we have been discussing once fully implemented should allow us to achieve low double-digit margins in the cycle. While we're encouraged by improvements in talent, technology, customer experience in our financial model, work remains being done and the journey is not complete. We've been focused on strategic plan of building to improve competitive position by building more efficient and having a disciplined operating model that functions well throughout all real estate cycles. We have emphasized growing scale and attractive markets across all lines of our business and we have made significant progress in improving customer experience in all our channels. Retaining key talent is always important and we have been even more focused on retaining talent through this market so that we have the right team in place as the cycle improves. Our efforts per year to result through increased year-over-year market share gains into each of our direct agency and commercial business. Let me conclude by reinforcing that we have been managing our expenses and investments with sensible balance between operating discipline and current short-term market challenges and strengthening Stewart for long-term growth performance. The strong financial footage should best position us to take advantage of the opportunities that this cycle will provide. Finally, my positive long-term view of the real estate market, the ability of Stewart to accomplished within your title service company is not weaver. Our associates have worked hard throughout these challenging times and they appreciate all they have accomplished and I also want to thank customers for their continued loyalty and support. Dave, we will now update everyone on the results.

Good morning, everyone, and thank you, Fred. Before anything else, I would also like to thank our associates for their wonderful service and our customers for their support. Our second quarter improved sequentially to the first quarter. However, low housing inventory, high mortgage rates, lower commercial and residential real estate activity, and economic conditions continue to exist in the market, contributing to lower second quarter operating results as compared to last year's quarter. Yesterday, Stewart reported net income of $16 million or $0.58 per diluted share on total revenues of $549 million. After adjusting for net realized and unrealized gains losses and other items detailed in Appendix A in the press release, the second quarter adjusted net income was $19 million or $0.69 per diluted share compared to $70 million in the second quarter -- net income was $70 million in second quarter 2022. Regarding the second quarter title segment, total revenues decreased $278 million or 37%, while pretax income decreased to $35 million compared to $94 million last year. After adjustments for purchase intangibles amortization and other items, the segment's pretax income was $37 million or 8% margin compared to $105 million or 14% margin in last year's quarter. On our direct title business, total opening closed order declined by 18% and 29%, respectively compared to last year, primarily due to the current real estate market Domestic commercial revenues decreased $26 million or 38% due to lower transaction volume and size. Average commercial fee per file was approximately $11,600 compared to $13,100 in last year's quarter. Domestic residential revenues declined $50 million or 21% due to lower purchase and refinancing transactions, However, average residential fee per file was up 11% to $3,300 versus $2,900 due to higher purchase mix. Total international operating revenues declined $18 million or 35%, primarily due to lower transaction volumes in our Canadian operations. As a result of lower commercial and residential activity in the market, second quarter revenues from our agency operations decreased $201 million or 49%. The average agency remittance rate slightly improved to 17.7% versus 17.1% last year, primarily as a result geographic mix. Investment income increased due to higher rates and due to our working with our bank partners to better utilize escrow balances where appropriate. In regard to title losses, total title loss expense in the second quarter decreased $7 million or 25%, primarily due to lower title revenues. As a percent of title revenues, title loss expense was 4.2% compared to 3.5% in last year's quarter, which benefited from last year's favorable claims experience. For the full year 2023, we expect title losses to average in the low 4% of title revenues. For the real estate solutions segment, pretax income was $3 million in the second quarter compared to $6 million last year, primarily due to lower revenues driven by the real estate and economic environment. Pretax margin for the second quarter was 4.6% compared to 7.4% and then after adjusting for purchase intangible amortization and hedge upstate sales tax expenses related to an acquisition, adjusted pretax margin was 14.4%, which was comparable to the 14.7% in the prior year quarter. Related to our consolidated operating expense, our employee cost ratio increased 34% versus 25% in last year's quarter, primarily due to lower operating revenues. Lower operating revenues also led to other operating expense ratio of 24% versus 19% last year. On other matters, our financial position remains solid to support our customers' associates in the real estate market. At June 30th, 2023, our total cash and investments were approximately $370 million over statutory premium reserve requirements, and we also have a fully available $200 million line of credit facility. Total stockholders' equity attributable to Stewart was approximately $1.36 billion with a book value per share of approximately $50. Lastly, net cash provided by operations was $35 million compared to net cash provided of $83 million in last year's quarter due to lower net income. We appreciate our customers and associates we advocate for everybody's safety and prosperity and remain confident that our explore real estate markets. I'll now turn it back to the operator for questions.

[Operator Instructions] And we will take our first question from Bose George with KBW. Your line is open.

Hey. Good morning.

Good morning.

Good morning. I just wanted to ask first about investment income, is that new level of investment income something we can run rate or, if not, like, how should we think about that number going forward?

Yes Bose, this is David here. So, think the way to think of if you're looking at like the increase of this quarter versus last year's quarter, probably about 70% of that is coming from these escrow activities that we just initiated. And so that that would be ongoing. And then the rest is really the difference in better rates, particularly on short-term balances. I think that's probably relatively stable and will vary with balances. But the escrow component is definitely incremental.

Okay, great. And then in terms of the agent premiums, can you just remind us, is there a lag in that number? So, given the magnitude of the decline versus what happened with direct, does that just reflect the lag and there's a bit of a catch up after?

There is a little bit of lag in our agency revenues, both and we looked number of things about it. This same kind of difference this gap occurred in the second quarter of 2021 as well and we caught up over that. So, we don't see any share shift or anything like that when we look at the agency level activities. So, I'm pretty comfortable that we'll kind of even out here over the next few months.

Okay. Okay, great. Thanks very much.

Thanks.

We'll take our next question from Soham Bhonsle with BTIG. Your is open.

Hey, good morning, guys. First one is just on the purchase orders. Looks like your declines were a little bit better than your peer that announced results today as well. Is there something specific going on there? Is there share take that we should be thinking about or is this sort of your acquisition sort of kicking in now and that you're getting a benefit of that?

Yes. So, we go over the last five quarters, each of our businesses has gained share. We don't know this quarter yet until the files come in. But we've had nice momentum in share growth. It's really irrelevant. We haven't had any acquisitions, kind of the comparative time period that's affected it. Commercial is well lumpy. But the -- both agency and directly see really five consistent quarters of share gain, which is good. So it's not huge, but it's just a step in the right direction.

Got it. And then on the expenses and sort of tying this in with margins Fred, the performance this quarter was strong. But if we sort of assume flattish volumes at the next quarter sequential basis. Is there any reason that margins can at least stay flat to higher next quarter? Are there any expense items we should be thinking about? I'm just trying to figure out if this is sort of the peak for margin this year or do we sort of see on the higher as we go in the next quarter?

So, unusual expenses. So, like the incremental $20 million we're spending as I talk about for the improvement initiatives, but kind of evenly spread, there's no extraneous kind of thing to think of that would spike in the next two quarters. So, it's going to be exclusively driven by volume. revenue volume. And again, we have made improvements in our operations on margin, but a lot of the improvements, you don't you don't really see unless the volume goes up, because you know what I mean, because it's kind of like -- you have excess capacity in the system as you get more efficient. And so it's going to be pretty steady, I think, and driven mostly by volume. And the only I think about volume, as you know, the pattern in something like commercial is heavily skewed like the fourth quarter of this the end of the year, this segment in particular, which drives a change in that particular business. But everything else is pretty, driven on the general market framework of how revenue unfolds here.

Got it. And then I guess just on commercial and we're hearing sort of mixed things right in the market. I guess just want to get your views on how you're seeing the back half year?

Yes. I mean, it's down, right? I mean, obviously -- and the financial things that are going on are putting a little bit of pressure on new investment, if you will. And there are obviously some segments that are very good. We were seeing some really nice and energy and some of the factors, but obviously it looks like office is tough. So, it's going to be down. We don't see any pattern to that, but as far as you adjust in the next quarter or something, we feel like it's -- the orders are kind of steady at a lower level right now. But again, we are -- this is another place as you know. We've invested a lot and we're continuing to and we believe we can continue to build that business. But we have some headwinds here in the short-term as far as why we work.

And Soham, this is David here. I mean, if I just look, as Fred said, if I just look at our transaction types for the quarter, there's nothing really in the office sector. I mean, there's probably some smaller stuff. But the bigger transactions, as Fred said, are really energy, dominates or some industrial, hospitality, multi-use, that kind of thing. So, it's probably fair to characterize that the decline in office has been offset by the other segments.

Got it. All right. Thanks a lot guys.

Thank you.

We'll take our next question from John Campbell with Stephens Inc. Your line is open.

Hey, John. Good morning.

Hey guys. Good morning. Back on the investment income, I mean, it sounds like you guys do expect that 2Q level will be a pretty good run rate. I'm guessing this probably holds for consensus, but just looking at my model, I mean, if I run rate that, that's $0.60 -- over $0.60 of EPS upside. You guys just reported roughly that same amount in 2Q. So, obviously that's pretty meaningful. I just want to get a better sense for the sustainability of that step up. So, David, you talked to, I think, 70% of the lift coming from escrow actions you guys have taken with bank partners. I'm hoping you can provide a little bit of color there. What exactly did you do that drove such a large impact? And what allowed you to make that move now versus not doing it in the past?

Yes. I mean, I think the well, it depends. If you're comparing quarter to quarter, which is probably the better comparison than that earlier answer I gave, which like 70% is due to the escrow and 30% is due to better rates, poles, And so we should probably see, call it a couple million dollars a month benefit from the escrow activities. And really what that is and it's taken a few months. It's not like we started on it yesterday. It's the stuff you've been seeing in one of our competitors, right, it's just with rates rising and they didn't really rise to a level where you could make significant earnings because the banks are always a little late in raising rates until towards the end of the year. And so it's really been work from the last few months to get call it roughly $900 million or so of escrow's deployed in the states that allow it and with any of the disclosures that are needed. And so why it takes a little while. You have to work with the banks. You have to make sure all the regulations are met. In some instances, you have to make sure you have disclosures, right? But that's all essentially been done at the end of the second quarter, and that's why we should get the benefit going full.

So John, your observations are good. So when we first started this journey three years ago, we looked at should we buy a bank because we didn't have a bank, we didn't have access to return on new escrows. And we couldn't -- because of our scale, couldn't make it work, but the value of short money back then was so little that banks were not really interested in part quickly few and we were small for two. So, now that we've grown and the value of money, obviously, the return on share of funding was so better and the deposits were so valuable. Our banking partners have done a really great job stepping up with us and we now have to capture some portion of that earnings on our escrow. So, in my view, it's an important thing for us to do. And as money became more valuable, it was something we had to go after and the team did a nice job doing it. But again, we try to get at this a couple of ways early on. And it's just for us it was really hard get executed against buying a bank or getting banks as interested as it was this year. So, I'm glad we're able to get it done.

Yes, absolutely. I mean, the macro seems a little bit shaky still on the commercial side. Resi, feels like it wants to pick up a little bit, but that's a great addition to earnings mix. So congrats there. Second question here on the order mix, since you guys acquired FNC and BCHH, obviously, there's been some moving parts there. I'm hoping to get more color or clarity on the other order line. So, just maybe as a starting point, just roughly the mix default versus BCHH and FNC and also how we should be thinking about that blended fee profile for other?

Yes. John, for us, that's primarily the reverse from FNC. The fee per files there, I mean, those deals aren't quite as big as a typical purchase business profile is going to be a little less than that 3,300, 3,400 that we report for purchase. We don't have much of a default business, and so that's why that's predominantly FNC reverse.

Okay. And is there typically much seasonality in that line? And then also kind of what's a good closing ratio? Is that going to be kind of sporadic? Or is the last two quarters kind of a good to think about?

Well, yes, I mean that mark, so there's been a little bit of dislocation in that market. So, it's not as seasonal, right? If you think about why do people typically go get reverse mortgages, well, they have -- they're typically older. There's an age requirement and then they have a lot of equity in their house and it's sort of a pseudo retirement product. The reason there's been a little bit hasn't been as much activity maybe as it could be going forward even though there's a lot of equity at built up equity and the population is aging is because the market's been a little dislocated, right, you had the AEG, which was the largest originator acquired by Finance of America. You had the capital markets; the primary execution is the FHA Ekam product. And so the capital markets hadn't been as smooth on that. That's for the most part stabilizing. And you can see that with people are starting to advertise again. You see so every now and then on TV, he's a AEG pitch guy. And so you should expect the gradual improvement there. But I think that market is still a little fragile with all the things that have been going on, but you should expect a gradual improvement.

Okay, great. Thanks for taking our questions, guys.

Thank you.

And we'll take our next question from Geoffrey Dunn with Dowling & Partners. Your line is open.

Thanks. Good morning.

Good morning.

I wanted to follow-up on John's question about NII and just make sure I have all the details here. So, incrementally to what we already see on your balance sheet, you were effectively able to deploy about $900 million of escrow funds into interest bearing accounts. Is that the way to think about the math?

Correct. In terms of the notional balances, the tricky part is what do you multiply that by, right? And that has to be worked out with all the individual banks. And so you can't just like go take a money market rate and apply it to it. And it's also offset by things like service charges and that kind of thing. And so our rates are typically in the 3.5 maybe a little better. It just depends on how things are going. And as we get more mature in the program, you would have expect that to maybe come up a little and then we decided for a reported raise yesterday. So, I think that might be a framework to think about.

Okay. And in doing those moves, was there any opportunity cost on the expense side? Meaning, you gave up expose credits to get the NII?

Well, it's embedded in the transaction, right? So, yes, so I mean, before we were offsetting wire costs and things like that to your point, but we weren't getting much more, now we're getting something incremental, but those costs are still being offset. That's why I say you can't just take money market and apply it to the balances.

Right. And then my last question is, in terms of sensitivity, obviously, we got another 25 bps yesterday, who knows if we'll get anything else in the fall? Based on the 3.5, is it may be correct to say 60% of a 25 bp change kind of flows into your incremental yield?

It depends on how persuasive we are when we call these guys. But yes, we might need some of your smoothness on that one, but yes.

All right. But in terms of if all else held equal, that $12 million run rate this quarter should react positively to any additional rate actions including say?

Yes. Well, keep in mind for the quarter, and I forget if we chatted about this or not. But in the quarter, right, that's why the quarter-to-quarter comparison, it's really the delta in the second quarter versus the second quarter. To think about because the second quarter happens to have a title planned dividend in it. So, you can't just you can't just work off to 12, we have to work probably more off the delta. That's why I said it's about $2 million a month benefit from the escrow.

Okay. And what is the title plan dividend this quarter?

It was about $2 million in each quarter.

Title plan dividend?

It was about $2 million in the second quarter of 2022 and about the same in the second quarter of 2023.

With a time -- we are owner of a title -- we get it that once a year. And that's just a one-time thing, right.

That's where we had a $10 million run rate going into 3Q.

Correct. Yes. That's why you can't just take the $12 million and apply it.

Yes. Got it. Okay. Thank you.

[Operator Instructions] We'll take a follow-up question from Soham Bhonsle with BTIG. Your line is open.

Hey, guys. Just one follow-up on the Real Estate Solutions business. So, if I look at revenue this quarter on a year-over-year basis, right, it was down about 13% or so. And that's better than the first quarter, which was on about 30%. And it looks like it outpaced orders essentially. So, I guess the question is, Fred, you've talked about, hey, there's some sensitivity to volumes obviously, but it sounds like there's some subscription kicking in as well. Is that the right way to think about it just going forward?

It has a mix exactly -- so there's a mix in there of some things like our data business that's more stable. And frankly, we have some services businesses that are having some real good share gains. So, it's a combo, right? So it's a little bit -- that obviously leaves your volume, but it's a little bit damp it because of that.

So, you got like just to give a little more color on that. You have the data business, as Fred said, so credit, which is in research in real estate, which is PropStream. So, those are more stable because they're not as transactionally-driven, and then they're actually doing better in the market. So, I think that's where you're seeing the improvement. They're being -- that improvement is being offset a bit by the transactional businesses, which are appraisal, notary, that kind of thing.

[Indiscernible] go right with the volume decrease. And those are very -- they're challenged like the rest of the market.

Yes, I mean, I just wanted to ask because the step change quarter-over-quarter on a year-over-year basis was pretty significant just in terms of the clients, right? So yes, so I guess it does sound like some share take there. Okay. Thank you.

Thank you.

And we have no further questions on the line at this time. I'll turn the program back over to management for any additional or closing remarks.

Just want to thank everybody for joining us for this second quarter call. Thank you.

This does conclude today's program. Thank you for your participation. You may disconnect at any--