Tiptree Inc. (TIPT) Q2 2015 Earnings Report, Transcript and Summary

Greetings and welcome to the Tiptree Financial Incorporated Second Quarter 2015 Earnings Conference Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host to Julia Wyatt, Chief Operating Officer. Thank you. You may begin.

Good morning everyone. Welcome to Tiptree Financial’s second quarter 2015 earnings call. My name is Julia Wyatt and I'm Tiptree Financial’s Chief Operating Officer, and acted as a Principal Accounting Officer for the second quarter. With me today are Geoffrey Kauffman, Tiptree Financial’s Co-CEO; and Sandra Bell, our new Chief Financial Officer, who joined Tiptree on July 1. Before I turn it over to Geoffrey, let me take you through a change in format for this quarter’s call. In addition to our earnings announced, which was released prior to this call, we have posted a presentation on our website at www.tiptreefinancial.com to provide supplemental information to our prepared remarks, which we will refer to by page during the call. References to Tiptree or the Company mean Tiptree Operating Company, LLC the entity through which we conduct our operations and its consolidated subsidiaries, together with the standalone net assets held by Tiptree Financial Inc, the publicly traded entity that owns 77% of Tiptree Operating Company. References to Tiptree Financial mean Tiptree Financial Inc and exclude the non-controlling interests of Tiptree Operating Company. Let me pause for a moment for you to locate and open the presentation. Now that you have the presentation in front of you, please turn to Page 1 of the presentation, where I will walk you through our standard disclaimer. Please read disclosures in details as my remarks will simply highlight their contents. This presentation is qualified in its entirety by the content of the disclaimers on this page. This presentation is being provided as a supplement to our financial statements footnote and other disclosure filed with the SEC and is not an offer to purchase or sell securities. It is being provided solely for informational purposes and is not intended to change or update our disclosure document. Throughout the presentation and in our 10-Q filings, there are various forward-looking statements, which provide management’s current expectations of what we believe could occur and are not statements of historical facts. Any statements made on today’s call other than historical information including statements about Tiptree’s plans, objectives, expectations and intentions are forward-looking statements under Federal Securities laws. Our future expectations can change without notice and are not guarantees of any future performance. Our businesses are subject to risks, uncertainties and other factors, many of which are not in the control of management. These factors may change from our current expectations, sometimes very rapidly and thus could impact our expectations of future results. Except as required by securities laws, we undertake no obligation to update any forward-looking statements. We have also included in this presentation information from publicly available sources, while we believe these sources to be credible, we have not independently verified the information. Lastly, we use the non-GAAP measure EBITDA and adjusted EBITDA throughout the presentation. We believe that EBITDA and adjusted EBITDA provide supplemental information useful to investors. As these measures are not GAAP, they should not be used as a substitute for GAAP disclosures, but should be reviewed only in conjunction with our GAAP disclosure documents and GAAP financial. The appendix beginning on Page 25 provides a reconciliation of EBITDA and adjusted EBITDA to GAAP net income. With disclaimer let me turn the call over to Geoffrey.

Thank you, Julia. Good morning everyone. Before I dive into my prepared remarks, let me take a minute to highlight what we expect to cover on today’s call. First, we will highlight our results and the significant events that occurred in the quarter. Second, we will update you on industry and market factors that have impacted our performance year-to-date and then we expect to impact our results throughout the rest of this year and in next. Third, we will take you through our second quarter and first half financials and the key drivers of those results. And lastly, we will open the line to address any questions you may have. With that introduction, please turn to Page 3 of the presentation, where we highlight the significant events of the quarter by segment. On June 30, we completed our previously announced sale of PFG for a total of $150.1 million in proceeds. We’ve received $142.8 million in cash at the closing and will receive an additional $7.3 million over the next two year. We have recognized an after-tax gain of $16.3 million, which was recorded as part of our discontinued operation. For 2015, we have benefited from the full impact of our December acquisition of Fortegra growing demand for non-bank consumer finance and auto warranty and insurance products supported strong results for Fortegra with first half pre-tax income of $10.3 million. In our Specialty Finance segment, we completed our previously announced acquisition of Reliance First Capital on July 1. Reliance is expected to complement our existing Luxury Mortgage business. Home affordability and an improving economy have driven industrywide year-over-year increases in mortgage origination as seen in the increase in Luxury’s funded volume to $440 million, an improvement in its earnings. While Reliance’s results were obviously not included in our first half financials, their mortgage origination of $389 million year-to-date are an indication of the expected trajectory of our mortgage origination business for the rest of the year. Also in Specialty Finance, Siena, our asset based lending business, has benefited from positive trends and small business borrowing with year-over-year improvement in both outstanding loan balances and profitability. Macroeconomic and demographic trends continue to support our optimism regarding our real estate business. In the last year, we have increased investment in our portfolio of properties driving improvements in rental income and adjusted EBITDA. In the second quarter, we sold our subordinated note investments in Telos 2 and Telos 4 for $39.7 million in cash proceeds. While the sale generated a realized loss on our investment in the period, negatively impacting our results, cumulative distribution over the life of these investments has more than offset cumulative realized and unrealized losses. We will take you through the details of these numbers later in the presentation. Early in the third quarter, we reinvested $30 million of these proceeds in a new CLO warehouse, in anticipation of launching Telos 7 as of later date. As you may remember, last year, we’ve created two CLO warehouses and subsequently launched Telos 5 and 6. As was the case with Telos 5 and Telos 6 in 2014, warehouse interest income will be recorded in our corporate and other segment. The new CLO warehouse income will partially offset the distribution that we no longer receive on the subordinated note that we sold. We’ve also reinvested a portion of the second quarter sale proceeds into two new principle investments, which continue our strategy of leveraging our capital to improvements in the U.S. economy. Specifically, we invested $9.7 million in non-performing mortgage loans and $25 million to see a Telos managed credit opportunity fund, which we’ll invest in corporate credit. On Page 4, we highlight our GAAP results along with adjusted EBITDA. For the three months ending 6/30, we’ve reported GAAP net income of $19.8 million for the operating company and $15 million for Tiptree Financial, both representing significant improvements over the prior year period. Adjusted EBITDA at the operating company for the same period was $32.2 million year-to-date at the operating company GAAP net income and adjusted EBITDA were $17.8 million and $45.2 million respectively. Julia will walk through the key drivers of those results later in the presentation. Having provided you with the key highlights of the quarter, I would like to introduce Sandra Bell, our new Chief Financial Officer. We’re excited to have Sandra joined our team. We believe her wealth of financial and public company experiences as well as her strategic vision are a perfect fit for Tiptree. Sandra will now take a moment and look at the economic and industry backdrop, which will give you context for the strategic action Tiptree has taken this year and expects to take moving forward.

Thank you, Geoffrey. On Page 6, let’s begin with the dynamics of the U.S. economy of which I’m sure you are all very familiar. The U.S. economy has clearly stabilized and has been showing signs of improving fundamental. The U.S. consumer appears to be more confident as unemployment metrics continue to improve. The consumer confidence index is up, GDP continues on a positive trend, and businesses are beginning to increase their investments both through acquisition and organic initiative. We highlight the specific key economic factors impacting each of our businesses beginning with our insurance and insurance services segment on Page 8. As Geoffrey mentioned in earlier, we sold PFG at the end of the quarter while Tiptree did not make an explicit decision to trade Fortegra for PFG. The impact of the sale of one and the acquisition of the other has changed the dynamics of our insurance business significantly. We have transformed our business from one which requires growth capital in excess of Tiptree’s capacity to support it to one where the ability to scale and grow is commensurate with our access to capital. On Page 9, we highlight the market dynamics, which we believe are providing support to Fortegra’s growth trajectory. The growing consumer confidence, I mentioned earlier, is underpinning expansion of consumer credit, particularly from moderate income earners and in areas such as auto finance, consumer electronics, and consumer durable. Fortegra’s business model is leveraged to this improving economic picture as the provision of credit life insurance is an important component to supporting access to credit for modern income Americans while there is a growing demand for warranty and other insurance products in conjunction with sales of cars, consumer electronic, and big ticket items such as appliances. Our Specialty Finance segment has also benefited from macro economic factors. On Page 11, we highlight some of those positive trends. Small to mid sized businesses are growing more confident in the economic picture for their products and services and as such have begun to invest. Increasing investment is fueling demand for credit and in the case of small businesses away from the commercial bank market. Siena has benefited from these trends with year-over-year loan balance growth of 43%. The mortgage origination business is also benefiting from improving consumer confidence and home affordability relative to renting. In addition, the GSEs and the FHA have added products and improved pricing to encourage first time home buyers to look at buying a home. Housing starts are up and the mortgage market is benefiting particularly purchase origination. Fannie Mae is forecasting mortgage growth year-over-year for 2015 and 2016 with the momentum concentrated in the purchase market. Luxury’s positive revenue and earnings trajectory year-to-date are clearly reflective of this trend. Even with the gradual rate increase on the horizon with a current base of historically low interest rate. Affordability factors are not anticipated to change dramatically in the near future. The U.S. demographic picture favors growth in senior housing as the baby boomers continue to age. On Page 13, we highlight these trends. The combination of an ageing U.S. population and an improving economy continue to support positive investment dynamics for our real estate segment. The growth and demand for business credit that we discussed earlier is also supporting growth in our asset management segment. On Page 15, we provided statistics, which highlights the fact that demand for business credit is generally growing with the U.S. economy. In the first half of 2015, we took the opportunity to redeploy capital into a new loan warehouse for Telos 2 and 4. Additionally, we seeded a Telos managed Credit Opportunities Fund to be able to take advantage of this growing trend. Over the last year, we have added modestly to our assets under management and expect to continue to grow assets under management through the remainder of 2015 and beyond. On that note, I will turn the call over to Julia, who will take you through our financial results.

Thank you, Sandra. I will begin by highlighting the key drivers of our consolidated results and then turn to our view of each of our segments. For my prepared remarks, I will be focusing primarily on Tiptree Operating Company as their results drive those of the public entity. On Page 17, we highlight our three months and six months consolidated results for Tiptree Operating Company and Tiptree Financial for the period ended June 30. As mentioned earlier, we reported net income before non-controlling interest of $19.8 million for the quarter, and $17.8 million for the first half of 2015. The $15.8 million increase in that metric in Q2 and $10.2 million for the year-to-date period were both driven by four key factors. One, the $16.3 million after-tax gain on the sale of PFG reported in discontinued operation; two, the inclusion of Fortegra’s earnings for the full period; three, the expansion of our real estate investment at Care; and four, realized losses on the sale of our subordinated notes in Telos 2 and 4. Growth in first half adjusted EBITDA from continuing operations was primarily driven by Fortegra’s positive results and the increase in Care’s portfolio of real estate investment. Just a quick note, as we move through an understanding of our financial results in more detail, much of the benefit from the historical ownership of the subordinated notes that we sold this quarter have actually been reported in previous period through distribution income. In addition, the earnings from the reinvested proceeds have yet to be reported in our current results and will flow through future periods. As a result, the current period results provide us with only a partial picture of the impact of these actions on shareholder value. Turning to Page 18, let’s walk through the financial results of our insurance and insurance services segment. Just a remainder that since Fortegra was not a part of Tiptree during the prior year, we have no comparable period in 2014 to address due to the effective purchase accounting. Our discussion here will focus on growth factors and the underlying trends in the business. Net income in this segment was $6.3 million in the quarter and $10.3 million for the first half. The key drivers of these results were strong sales of credit life insurance product and auto warranty and insurance products, partially dampened by slowing growth in our cellphone warranty business. Credit life insurance is often a key component to ensuring access to credit for the average wage earner. Access to credit is also translating into strong consumer sales in auto, auto warranty products, consumer electronics, and durable goods warranty product as growing sales of cars, electronics, and household appliances support the additional value, these associated products bring to the consumer. Our Specialty Finance segment benefited from strong industry fundamentals in the quarter. On Page 19; we highlight the year-over-year earnings improvement for both the quarter and the year-to-date period. Pre-tax income grew to $568,000 for the three months ended June 30 as compared to a pre-tax loss of $731,000 in the 2014 period. Year-to-date results also turn positive with $1 million in pre-tax earnings versus the pre-tax loss of $1.5 million in the previous year. Revenues in the segment increased by 107% in the quarter and 146% year-to-date, due to the volume growth driven by industry fundamentals. Scale also benefited the businesses as census increased at a slower pace than the growth in revenues. Turning to Page 20, let’s breakdown the results in our real estate segment. As mentioned earlier, we have invested significantly in our real estate portfolio over the last year. The results in the segment reflect revenue growth of 155% in the quarter and 121% year-to-date, due to both higher rental income and higher fee growth. The increase in revenue however was more than offset by higher depreciation and amortization expenses as a result of the increased value attributable to acquired assets. Similar to senior housing REIT, increases in adjusted EBITDA reflect the trends demonstrated by the revenue profile of the business. That metrics adds back the increased depreciation and amortization with the result being adjusted EBITDA growth of 160% in the quarter and 69% year-to-date. On Page 21, we began our discussion of the asset management segment. As a reminder, we split the results of our net income attributable to the CLOs into two of our segments. In the asset management segment results, we report the management fees paid by the CLOs to the company. The income attributable to our principle investment in the subordinated notes of the CLOs composed of distribution income and realized and unrealized gains and losses on the sub notes we own is reported in our corporate and other segment along with our other principle investment. The key driver of our management fees and that’s our pre-tax income in the asset management segment is assets under management. For the three months and six months ended June 30th, the modest decline in asset management fees is a function of declining assets under management as the older CLOs are past their reinvestment period and have begun to amortize combined with lower overall fees on the more recent CLO. We currently manage six CLOs under the Telos brand name, the first two of which were issued in 2006 and 2007 and are past their reinvestment period. Telos 3 and 4 were issued in 2013 and Telos 5 and 6 were issued in 2014. At the beginning of the Q3 2015, we invested in warehouse in anticipation of launching Telos 7. With respect to the second component of earnings from the CLO business, the key drivers of earrings on our principle investments in the subordinated notes are distribution over time, reflected in both distribution income and the realized and unrealized gain or loss on the fair value of the note to sell. As a reminder, the fair value of our subordinated note is equivalent to the net present value of future expected distribution. As distributions are paid accruing into income and we get closer to the maturity of the notes, the fair value will naturally decline. On Page 22, we see the impact of this natural transition in the components of our corporate and other segment relating to the CLO. The line item in this segment net income attributable to the CLOs combined both the distribution income and the realized and unrealized gains and losses of the CLO subordinated notes we own. The pre-tax loss in the corporate and other segments for the year-to-date period of $17.1 million was primarily driven by unrealized and realized losses of $11.9 million on the CLO subordinated notes that we own of which $8 million was attributable to the sale of Telos 2 and 4. The comparisons to last year also included $2.1 million of earnings on a loan warehouse in the prior year, which we held in advance of issuing Telos 5 and 6. To put the realized losses on this quarter’s sub note sale in context, over the time we have owned the sub-notes in Telos 2 and 4. We have earned $94.3 million in distribution income and had a total of $22 million in realized and unrealized losses inclusive of $8 million taken in 2015. We received $39.7 million of proceeds from the sale of sub notes at Telos 2 and 4 and generated tax losses of approximately $12.5 million to Tiptree Financial. The remainder of the incremental loss in the period in our corporate and other segment includes increases in expenses at our corporate head office to support the growth and increased complexity of our business. With that, I will turn the call back to Geoffrey.

Thanks, Julia. On Page 23, we wanted to highlight the key takeaways from the quarter and things to keep in mind going forward. As we move into the second half of 2015, we believe Tiptree is well positioned to take advantage of improvement in the U.S. economy. Investments made early in the third quarter have yet to contribute to our results. For example, Reliance closed on July 1. They originated $389 million in the first half of 2015. So Tiptree’s mortgage originations in the second half of the year should be materially higher than the first. Similarly, the T 7 warehouse is the first CLO warehouse this year and we anticipate positive contributions to earnings in the second half of 2015, similar to the warehouses in 2014. In conclusion, we are pleased with the results for the quarter and are confident that our strategic direction in taking advantage of these positive economic trends puts the company in a strong position to drive long-term shareholder value. Thank you and we will now open up the call for Q&A.

At this time, I’d like to turn the conference back over to Geoffrey Kauffman.

Thank you very much. With that we’d like to thank everyone for attending today’s call and for your continued interest in Tiptree. We’ll look forward to updating you further on our operations on our next earnings call.

Thank you. Ladies and gentleman, this concludes today's conference. You may disconnect your lines at this time. Thank you all for your participation.