First American Financial Corporation (FAF) Earnings Call Transcript & Summary

Greetings. Welcome to First American Financial Corporation's Fourth Quarter and Full Year 2024 Earnings Conference Call. [Operator Instructions] A copy of today's press release is available on First American's website at www.firstam.com/investor. Please note this call is being recorded and will be available for replay from the company's investor website for a short time by dialing (877) 660-6853 or (201) 612-7415 and enter the conference ID 1375 1214. We will now turn the call over to Craig Barberio, Vice President, Investor Relations, to make an introductory statement. Please go ahead.

Good morning, everyone, and welcome to First American's Fourth Quarter and Year-End 2024 Earnings Call. Joining us today on the call will be our Chief Executive Officer, Ken DeGiorgio; and Mark Seaton, Executive Vice President and Chief Financial Officer. Some of the statements made today may contain forward-looking statements that do not relate strictly to historical or current fact. These forward-looking statements speak only as of the date they are made, and the company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made. Risks and uncertainties exist that may cause results to differ materially from those set forth in these forward-looking statements. For more information on these risks and uncertainties, please refer to yesterday's earnings release and the risk factors discussed on our Form 10-K and subsequent SEC filings. Our presentation today also contains certain non-GAAP financial measures that we believe provide additional insight into the operational efficiency and performance of the company relative to earlier periods and relative to the company's competitors. For more details on these non-GAAP financial measures, including presentation with and reconciliation to the most directly comparable GAAP financials, please refer to yesterday's earnings release, which is available on our website at www.firstam.com. I will now turn the call over to Ken DeGiorgio.

Thank you, Craig. 2024 continued to be a challenging year for our industry, particularly in the residential purchase and refinance markets. Relatively low inventory, elevated home prices and mortgage rates hovering around 7% have together produced a home sales market that is as low as we've seen since the mid-1990s. High mortgage rates have also kept refinance volumes at trough levels. Through this ongoing downturn in the market, we have maintained our commitment to invest in the business making considerable progress with our strategic initiatives while remaining focused on expense management with an emphasis on optimizing our information technology environment. Despite these generally challenging conditions, at the end of the year, we did, however, benefit from a surge in our commercial business and began realizing the full benefit of our strategic investment portfolio rebalancing project. In all, we delivered an adjusted pretax title margin of 10.3% for the year. In the fourth quarter, we delivered excellent results. Title premiums and escrow revenues were up double digits across all key business lines, highlighted by 47% growth in our commercial revenue. In our commercial business, we saw broad-based strength across all asset classes with industrial and multifamily leading the way. Our investment income of $155 million in the Title segment exceeded our expectations. And our success ratio was 51% this quarter on net operating revenue growth of 25%, reflecting our continued focus on expense management and the benefit of scale in our business. Our adjusted pretax title margin for the quarter was 11.8%. Our Home Warranty segment had a good quarter, posting revenue growth of 4% and an adjusted pretax margin of 18.2%. During the quarter, we continued to invest in our direct-to-consumer channel which accounted for 42% of our contracts written in 2024 and which we expect will improve profitability as the lifetime value of these new policies is realized over time. Turning to the outlook for 2025. While we are planning for mortgage rates to remain elevated, we expect modest improvement in both the residential purchase and refinance businesses. Though still early, we are already seeing this in our results. For the 4 weeks ending February 7, our purchase orders were up 1% and our refinance orders were up 43% compared with the same period in the prior year. Our commercial business is off to a strong start with revenues up 24% in January. We expect our commercial business will have a good year with revenue growth weighted to the first half of the year given the 33% increase experienced in the second half of last year. On the whole, 2025 will be another year of earnings improvement in what looks to be the early stages of the next real estate cycle. In closing, I would like to comment on the widespread damage and devastation from the recent wildfires in the Los Angeles area, which unfortunately directly impacted several of our people and customers. Our thoughts are with them and the many others who have suffered through this terrible event. Our company's roots in Southern California and the Greater Los Angeles area date back over 135 years. So all of us at First American feel a responsibility to help our colleagues, neighbors, friends and families cope with this tragedy. Our company, along with many of our employees have responded to that call. I want to thank our people for all they have done to provide support and relief to those affected. Now I'd like to turn the call over to Mark for a more detailed discussion of our financial results.

Thank you, Ken. This quarter, we generated GAAP earnings of $0.69 per diluted share. Our adjusted earnings, which exclude the impact of net investment losses and purchase-related amortization was $1.35 per diluted share. Turning to our Title segment. Revenue was $1.6 billion, up 22% compared with the same quarter of 2023. Purchase revenue was up 18% during the quarter, driven by an 11% increase in closed orders as well as a 5% improvement in the average revenue per order. Commercial revenue was $252 million, a 47% improvement over last year. Our closed orders increased 4% while our average revenue per order surged 39% due to broad-based strength across both asset class and transaction size. Refinance revenue climbed 75% relative to last year due to a 68% improvement in closed orders. Refinance accounts for just 5% of our direct revenue and highlights how distressed that market continues to be with mortgage rates around 7%. In the Agency business, revenue was $698 million, up 23% from last year. Given the reporting lag in agent revenues of approximately 1 quarter, these results reflect remittances related to Q3 economic activity. Information and other revenues were $238 million during the quarter, up 13% compared with last year due to growth in Canada, commercial and the data and analytics business. Investment income was $155 million in the fourth quarter, up $23 million compared with the same quarter of last year, primarily due to the strategic portfolio rebalancing project we executed in the third quarter, which has helped us grow our investment income despite 3 Fed rate cuts. The provision for policy losses and other claims was $38 million in the fourth quarter or 3.0% of title premiums and escrow fees, unchanged from the prior year. The fourth quarter rate reflects an ultimate loss rate of 3.75% for the current policy year and a net decrease of $10 million in the loss reserve estimates for prior policy years. Adjusted pretax margin in the Title segment was 11.8%, excluding both net realized losses and purchase related amortization. Total revenue in our Home Warranty business totaled $103 million, up 4% compared with last year. The loss ratio in Home Warranty was 44%, unchanged relative to 2023. Adjusted pretax margin in the Home Warranty segment was 18.2% compared with 19.9% last year. Included in this quarter's results were $6 million related to a change in estimates of earned premium revenue, which negatively impacted both revenue and pretax income. The effective tax rate in the quarter of 27% was driven by a valuation reserve against deferred tax assets, partly offset by the recognition of research and development tax credits. This resulted in a reduction of $0.03 per diluted share when compared to the company's normalized tax rate of 24%. Our debt-to-capital ratio as of December 31 was 30.8%. Excluding secured financings payable, our debt-to-capital ratio was 23.9%. Now I would like to turn the call back over to the operator to take your questions.

[Operator Instructions] Our first question is from Mark DeVries with Deutsche Bank.

Yes. Wanted to drill down on the results in the commercial business in the quarter. It sounds like you indicated across the board strength in both transaction volumes and size. Could you just talk more about what you've seen? It sounds like you didn't benefit from some really large multi-site transactions. But just trying to get a sense of the true breadth of the recovery here and also kind of what it implies for the go-forward growth rate on the business.

Yes. Thanks for the question, Mark. We did benefit from some large deals. There were 14 large -- 14 what we would refer to be as large deals that are greater than $1 million in premium, and that would be -- that compares to 8 in the previous quarter or quarter-over-quarter. And we feel pretty good about the commercial business as a whole. I mean the trends are great. I mean in Q3, our revenue was up 19%. In Q4, as we mentioned earlier, it's up 47%. And in January so far, it's up 24%. So we've got some confidence that there's going to be strength -- overall strength in the commercial market and strength in our commercial business. Now keep in mind, as I mentioned in my comments that when you go to the second half of the year, you're going to be comparing it to the second half of a really strong 2024 where our commercial revenue was up 33%. But on the whole, at least what we're hearing in the surveys we're seeing, we feel pretty good about the commercial market.

And then on the second half of next year, do you still think you could grow off of this really strong base you've had in the second half of 2024? Or do you kind of view growth is decelerating quite materially? I'm just trying to get a sense of the cadence across the 4 quarters.

Yes. I mean, we feel like we can grow, but there's so much uncertainty in the market between interest rates and the broader economy that it's hard to predict. But we feel like we can grow even off of -- even when compared to, again, a really strong second half of 2024.

Okay. Great. And just one last on this topic for me. Just wanted to get a sense of what you think really caused this dramatic step-up in the back half of the year? I know we've been talking about the markets at some levels being kind of locked up as parties looked for real visibility on where transactions would clear. Have we kind of reached a tipping point now where buyers and sellers have found equilibrium and pent-up demand is really getting pulled through?

Yes. Well, I mean, I think there was a couple of factors going. I think for one, the Fed action was helpful. The election was behind us, so there was some more certainty about the election. There's a lot of debt maturities coming up where they -- parties had to either sell or refinance. And then to your point, I think price discovery is probably further along than it's ever been. So the market is starting to settle a little bit -- started to settle a little bit, and that will continue on, I think, into next year. [indiscernible].

Our next question is from Terry Ma with Barclays.

I just wanted to ask about kind of how to think about just title revenue growth expectations for this year. It looks like in 2024 ex any net realized losses, you guys did about kind of 6%. Most of it came in the back half and particularly in the fourth quarter. And you did indicate where you believe we're in the early stages of a real estate cycle. I think Fannie and MBA are projecting anywhere from 8% to kind of 9% purchase volume growth for this year. So any way to help us kind of think about kind of what the revenue growth expectations for the Title business are this year?

We break it out in markets, Terry. We feel like we're going to have growth similar to where the MBA is saying. I mean, obviously, it's hard to say. But I think somewhere in that range makes sense. I think on the refi side, it's probably even harder to say. We're going to have more growth in refis and purchase this year, the way things are going, but it's off such a low base, it's probably not that material. And then Ken just kind of talked about the commercial business growth. So those are our 3 major markets. And the good news for us is we've got tailwinds in all 3 of them. So in terms of growth rates, it's still early. It's hard to say, but we feel confident that we'll grow in all those 3 markets, which are the most important ones to us.

Got it. That's helpful. And then I guess, if those expectations play out, how should we kind of think about margin expectations? Should we be kind of modeling or thinking about kind of like the success ratio?

I'd say, Terry, that keep in mind, despite some very challenging markets over the last 2 years, we've had a 10% margin. I think if we get these sort of modest tailwinds that we've been talking about and we get some improved investment income and we'll continue controlling costs that we should be able to improve margins at least commensurate with the market.

[Operator Instructions] Our next question is from Bose George with KBW.

I just wanted to follow up on the margin question. So I guess, with the restructuring, actually, can you quantify the benefit there on the margins? So yes, all else equal, what would that have pushed up the margin? And then I assume the increases you talked about are kind of above that level. Is that right?

Yes, you're talking about the strategic portfolio rebalancing projects we did.

Yes, exactly, yes.

So we did that in Q3, and we talked about how we would get $67 million of benefit because of that. And so we've gotten some benefit in Q3. We got the full run rate here in Q4. And so when we look in 2024, everything else equal, we'll get a 40 -- about a $42 million investment income pickup and pretax income pickup because of the portfolio rebalancing project. And that's compared to this year. So -- I'm sorry, 2025, we'll have $42 million more of investment income than we did in 2024 because of the rebalancing project.

Okay. And I mean, if I -- back of the envelope, it seems like there would be 50-ish basis points to the margin. Does that seem right?

Yes. Yes.

Okay. And so -- and then just going back to Ken's comment about the improvement in margin being commensurate with the market. So like so this year, you guys did 10.3% margin so we can add the 50 and then is it some improvement over that? Is that kind of the building blocks to the margin in 2025?

Yes. I think it's probably at least that. I mean we can get some lift too from additional cost control and additional -- and potentially additional improvements in investment income if we are able, for example, to capture additional deposits from other channels we're looking at. So it's -- yes, it's at least commensurate with the market.

Okay. Great. And then just one on investment income. That number was up, obviously, quite a bit this quarter. Just can you talk about the run rate for that number in '25?

Yes, well, so when we were on this call in Q3, we really guided to like $140 million to $145 million of investment income in Q4 because of the -- there was a lot of noise with the rebalancing project. And we came in at $155 million. So we're $10 million higher than the high end of our forecast. So we really outperformed our own expectations in Q4, mainly because commercial was so strong. So commercial deals were stronger than what we expected. We hold the escrow deposits in connection with these commercial deals. We can earn investment income with connection to these commercial deals. So that was all positive. So we look next year for the full year of next year, we feel like we're going to grow investment income. On the one hand, we've got the $42 million benefit that we just talked about from the portfolio rebalancing project. The negative though is we have had 3 rate cuts here in the fourth quarter. And who knows what the Fed is going to do next year. But we at least have a $45 million headwind going into next year because of the Fed rate cuts, right? So those 2 kind of wash out, but we still feel like we're going to grow investment income because of the market's going to grow, commercial is going to grow. We feel like we can grow our warehouse lending business and shift some more strategic deposits to the bank. So we expect growth in investment income on a year-over-year basis. When you look at the quarters though, we expect our investment income to drop Q4 to Q1 just because of seasonality. We're just holding less escrow deposits, investment income is going to fall in Q1. But it's just a -- there is a seasonal factor to it. But on a year-over-year basis, we expect growth.

Our next question is from John Campbell with Stephens Inc.

Congrats on a great quarter. So you guys obviously put up really good title pretax margin expansion, you're lapping a pretty disruptive 4Q last year. But if I look at the prior year, so fourth quarter 2023, you guys oddly enough put up the exact same level of title revenue, ex gains and losses. You almost had the identical level of that higher-margin commercial rev too. But the main difference was obviously the investment income so about $23 million higher this year. I think some might look at that and say you guys should be putting higher margins. And I believe a lot of that or a portion of that higher investment income does get offset by higher title interest expense. So Mark, I'm hoping maybe you could just clear that up walk through the mechanics there and then talk to the sensitivity of the bank-driven investment income to interest expense offset?

Yes, thanks for that, John. So first of all, in terms of the offset, so most of our investment income is driven by our investment portfolio and our escrow deposits. I mean those are the 2 big drivers. There's other drivers including our warehouse lending business, which does have an offset to interest expense. There's also another driver where our bank pays a cost of funds, too. But most of it's -- the biggest piece is driven by the portfolio and there is no offset on interest expense there. So you're right, there -- some of the growth we saw here in Q4 was because of our warehouse lending business, and there's a corresponding offset on the interest expense side. In terms of our performance versus 2 years ago, 2023 was still a tough year. I mean the market was still in decline, and we were still in the process of cutting expenses. And so there just is a lag there. I think when we look today at our 51% success ratio, I mean, we're obviously coming out of trough, and we're proud of how we've been managing our expenses here. And we still feel like we can hit those success ratios going into next year.

Okay. That's helpful. And then on the escrow driven upside from commercial activity, is there a rule of thumb? I know it probably is not exact here, but for every $1 million or, call it, $10 million, whatever it is for commercial revenue, how much of an upside that typically provides for investment income?

There's no rule of thumb here. I mean we're typically getting, let's call it, Fed funds on our deposits. Commercial deposits, I mean, some of those deposits we get to keep for our benefit, some of those deposits, we don't get to keep because investors want to put it at third-party banks for different reasons. So there's really not a rule of thumb. I mean the way we model it internally is all of our escrow deposits, I mean, I think that getting Fed funds is not the rule of thumb. But in terms of how it translates from commercial revenue to investment income, it's tough. There's just a lot of different factors going on.

Yes, I can appreciate that for sure. And one more here. On the info and other line within title, a good bit better than we expected. And I'm just hoping to get just kind of a broad update there. I know ServiceMac, you had some revenue headwinds there. I saw deferred revenue was actually up a decent amount in your last quarterly filings. So I don't know if they're getting that business back on track or refilling the bucket, so to speak. So maybe you could talk to that and then some of the other drivers within that line?

Yes. So the 3 big drivers are -- the biggest driver was our international business and rates have come down in Canada and there's more refis. There's been -- there's a 175 basis point reduction in rates in Canada, which has really driven refi. So that's the biggest driver there. Close to that, though, is there's a -- well, I'll just call it, U.S. title. So there's a lot of business that we get that's not premium related, right? It's just property reports and other services and products that we provide that aren't risk-based that go into that line item. And so as we've seen growth in commercial and resale and refi, we're naturally going to grow info and other, just because of our nonrisk-based products. And then the third component that really drove it was growth in our data and analytics business, which we've been growing for quite some time now. So those are the 3 big drivers in info and other.

Okay. And -- I mean it's not a huge part of the business, so it might not matter too much here, but any kind of clarity on the pretax margin kind of profile for that segment or for that subsegment?

It's -- no, because there -- I mean if we had one, we'd share it. It's really just a collection of -- I mean, we've got business units here and every business unit has a slice of info and others. So it's really not a stand-alone business. It's just a -- it's really -- it really represents the non-risk-based revenue that we have in all of our business units. So we don't have -- there's not one margin for it.

Our next question is from Mark Hughes with Truist Securities.

Mark, you had mentioned a $6 million change in estimates. Did that flow 100% to the pretax line?

It did, yes. And it's really deferred. So it hit the fourth quarter, and we're going to -- we'll recapture it over 2025. But yes, it did hit revenue and pretax.

Okay. And then any comment on the office market. It sounds like commercial is firing on all cylinders, does that include office?

Yes. I mean office, Mark, wasn't a big component of our commercial revenue last quarter but it is coming off the sidelines, particularly suburban office, but there is an increase, I think, in office activity.

A question on the home warranty when I think about the -- that business, you've seen good growth in direct-to-consumer. It looks like the time on market is going up, inventory is going up and maybe that motivates some sellers to throw in warranties as sweeteners. What do you think about that idea? Any sign of that in your results?

Yes, absolutely. I think as you get to a more buyer-driven purchase market, you'll see more activity in home warranty. In fact, the real estate channel, again, that's the sales in connection with the purchase and sale of property was a driver of our performance in the fourth quarter for home warranty. So I think your theory on that is right. I mean as you go into a buyer-driven market, you'll see some sprinkles added in with home warranty.

There are no additional questions in the queue. That will conclude this morning's call. We would like to remind listeners that today's call will be available for replay on our company's website or by dialing (877) 660-6853 or (201) 612-7415 and enter the conference ID 1375-1214. The company would like to thank you for your participation. This concludes today's conference call. You may now disconnect.