Mount Logan Capital Inc. (MLCI) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to Mount Logan Capital's Second Quarter 2022 Results Conference Call. Before we begin, I would like to remind listeners that except for historical information, the matters discussed during this call may include forward-looking statements within the meaning of the applicable Canadian securities legislation. Forward-looking statements involve known and unknown risks and uncertainties and other factors that may cause actual financial results, performance or achievements to be materially different from estimated future results, performance or achievements expressed or implied by these forward-looking statements. All forward-looking statements reflect the company's current views with respect to future events and are subject to risks and uncertainties and assumptions we have made in drawing the conclusions included in such forward-looking statements. The company is not obligated to update or revise any forward-looking statements, and we do not assume any obligation to do so. For a description of the risks associated with Mount Logan Capital's business, as well as information about the material factors and assumptions that could cause results to differ from any forward-looking statements and other relevant factors, please refer to the company's public disclosure record, particularly the company's MD&A and Annual Information Form for the year ended December 31, 2021, which are available on SEDAR. I would now like to introduce your host for today's conference, Mr. Ted Goldthorpe, Chairman and Chief Executive Officer of Mount Logan. Mr. Goldthorpe, you may begin.

Thank you. Good morning, everyone, and thank you for joining us for our Second Quarter 2022 Results Call. During the call, we will be referring to information provided in the financial statements, the MD&A and the associated news release for the quarter, all of which were released yesterday and are available on our website and on SEDAR. Joining me this morning is our Chief Financial Officer, Jason Roos, and our Co-Presidents, Matthias Ederer and Henry Wang. Overall, we are pleased to announce that Mount Logan had another successful quarter with continued growth in revenue for our overall business. Before we speak to our financial results for the quarter, I'll provide an overview of notable highlights and an update on our key pillars, retail, institutional and insurance. On the retail front, this encompasses our U.S. interval fund known as the Alternative Credit Income Fund, or Alt-CIF and 2 other products we are launching this year. Alt-CIF finished the quarter with approximately $260 million of assets and the momentum with our sales force has continued, resulting in approximately $16 million new dollars in fund subscriptions in the second quarter of 2022, up 175% year-over-year and consistent with the prior quarter's levels. We continue to onboard with additional distribution partners and scale our sales team. Outside of Alt-CIF, at the beginning of July, we launched a new product, the Opportunistic Credit Interval Fund or OCIF, a new interval fund focusing on the high net worth retail channel in the U.S. with an investment mandate focused on special situations and private capital. We are working on the initial screening -- scaling the fund over the rest of 2022 and building an investment track record to leverage and begin to scale in earnest in 2023. Lastly, we continue to push forward on a joint retail fund product with our JV partner, Crown Private Credit Partners and expect to launch prior to year-end. On our institutional side, this covers our BDCs and CLOs, our permanent and longer duration capital. For Logan Ridge, we earned approximately $1 million of management fees in the quarter on an asset basis of over $210 million. This quarter marks our 1-year anniversary of becoming the investment adviser for Logan Ridge and we're proud to say we've achieved all of our core objectives. Highlights include obtaining an investment-grade rating, refinancing the legacy capital structure and lowering the cost of capital while extending the maturity profile. Furthermore, as of June 30, 2022, we've successfully optimized the portfolio as we have monetized or realized over $145 million of the legacy portfolio or 64% of the fair value of the portfolio that we inherited. Mount Logan also has exposure to the Portman Ridge BDC through our minority interest in its investment adviser, Sierra Crest. Portman Ridge finished the quarter with over $650 million in total assets and the management contract continues to provide consistent quarterly cash distributions to Mount Logan. Between Logan Ridge and Portman Ridge, Mount Logan has 2 separate BDC fee streams connected to a sizable basis of fee-generating permanent capital both of which continue to perform well in an environment of greater market volatility and challenging macro headwinds. On the CLO side, this includes our $644 million of AUM as of quarter end. The CLOs continue to perform well and produce a steady stream of management fee income. Overall, our institutional pillar is diversified across a number of CLO and BDC funds and represents over $1 billion of assets. Lastly, it comes to our insurance vertical, which we continue to work hard on integrating and optimizing since closing the acquisition of Ability Insurance Company in the fourth quarter of last year. As a reminder, Ability is a Nebraska-based insurer and reinsurer long-term care policies with approximately $850 million of invested assets as of the end of the quarter. Mount Logan Management, our wholly-owned investment adviser subsidiary, manages a significant portion of Ability's assets, which continue to grow as we originate additional attractive private credit assets. Overall, Ability has performed in line with expectations for the second quarter and our original initiatives are starting to bear fruit. Our focus remains on improving the portfolio yield by optimizing the investment holdings, scaling the annuity business and enhancing the existing book -- insurance book. On the portfolio side, a notable achievement we completed in April and progressed through the quarter with the creation of our on-balance sheet CLO structures that permit ability to increase its allocation to private credit in a capital-efficient manner. This initiative has helped us increase the overall portfolio yield for Ability by nearly 90 basis points quarter-over-quarter, while also increasing Ability's investment portfolio allocated to the private credit sleeve managed by Mount Logan management. In regards to growth, we completed our $150 million annuity reinsurance deal this quarter and signed a term sheet for an incremental $100 million reinsurance deal. The first deal consisted of initial block of annuity policies and then we'll ramp up over time to $150 million in premium. Both deals accelerate our transition from our legacy long-term care business, reduced volatility and help Ability to expand and transform into a broader insurance solution platform. Regarding enhancing our existing insurance book, premium rate increases rolled through additional states and have begun to flow through our results. We firmly believe that continued execution on the above initiatives will position Ability for long-term growth and will create a highly complementary business unit for Mount Logan. Lastly, we are maintaining our dividends for the quarter and we'll be paying CAD 0.02 per share for shareholders of record as of August 24. With that, I'll turn over the call to Jason Roos, who will review the financial results for the quarter.

Thanks, Ted. Good morning, everyone. Similar to our last set of quarterly filings, we segment our financial statements between our asset management business, that being our activity related to the management or servicing of Logan Ridge, CLOs, Alt-CIF, our stake in Sierra Crest and other minority investments. Apart from our insurance business, operating through Ability Insurance Company, a Nebraska-based insurance company transitioning from its legacy long-term care business to the reinsurance of annuities. I will now summarize our key highlights for the second quarter of 2022. As a reminder, all figures I reference today on this call will be in U.S. dollars, Mount Logan's functional and presentation currency. During second quarter of 2022 for our Asset Management segment, we generated $2.3 million of revenue. Breaking down our Asset Management revenue further, our CLOs generated approximately [ $250,000 ] in collateral and management fees for the quarter. The net earnings related to Alt-CIF, which is comprised of interest income and servicing fees was approximately $590,000. In regards to our BDCs, Logan Ridge generated approximately $1 million in management fees. And with our minority interest in Sierra Crest, the company recognized over $350,000 of attributable revenue for the quarter. Excluding gains and losses from investment activities, our Asset Management revenue was consistent quarter-over-quarter. In terms of non-IFRS measures, our fee-related earnings, or FRE, which deducts the attributable operating expenses from our Asset Management related revenue was $1.5 million for the quarter, up over 66% year-over-year as the assets under management related to Ability's investment portfolio has continued to grow since year-end and will continue to do so over the course of 2022. For the Asset Management segment, on the expense side for the quarter ended June 30, we incurred approximately $2.3 million in operating expenses. For the quarter ended June 30, Mount Logan incurred $800,000 in interest and credit facility expenses, which mainly relates to our $24 million corporate credit facility and $15 million seller note related to Ability. Our interest expense was consistent quarter-over-quarter as we did not incur additional debt. We incurred $199,000 in noncash amortization expenses related to the management contract for our CLOs, which is treated as an intangible asset on our balance sheet. Broadly speaking, for the quarter, our insurance results were aligned with expectations. We had total revenue of $3.4 million, an increase quarter-over-quarter primarily due to new premium growth as a result of our reinsurance of multiyear guaranteed annuity, which was successfully executed during the second quarter. This was partially offset by mark-to-market losses on portions of the investment portfolio as a result of increasing interest rates. Overall, given the current investment portfolio and liability structure at Ability we expect that rising interest rates will have a long-term benefit to Ability's capacity to generate investment yields in the form of net investment income. We believe we are well positioned for a rising rate environment. In terms of Mount Logan's sensitivity to interest rates, while approximately, we expect that a 50 basis point increase in market interest rates would result in increasing net income by an estimated $700,000. In our MD&A this quarter, we are presenting a new non-IFRS measure called insurance core earnings, which aims to assist investors in understanding the normalized earnings capacity of our insurance segment by attempting to exclude the direct impact of changes in interest rates and actuarial methods, along with a number of other items. For the quarter and 6 months ended June 30, 2022, our Insurance segment generated negative $900,000 and positive $2.2 million of core earnings, respectively. The decline in core earnings during the 3 months ended June 30, 2022, compared with the 6 months ended June 30, 2022, was primarily driven by $3 million of realized losses in the investment portfolio, net of investments for those collateral under reinsurance agreements. For the quarter ended June 30, 2022, Mount Logan achieved a basic earnings per share of $0.40 and an adjusted basic earnings per share of negative $0.05. The quarter-over-quarter increase in earnings per share was primarily due to investing activities, including the noncash change in insurance contract liabilities and reinsurance assets, which were partially offset by unrealized capital losses on the Insurance segment investment portfolio as a result of a significant increase in interest rates during the quarter. As of June 30, 2022, Mount Logan's balance sheet reflected total assets of $1.3 billion, total liabilities of $1.3 billion and shareholders' equity of $77.1 million. On the Asset Management side of the balance sheet, there were minimal material changes quarter-over-quarter as transactions in this segment were largely ordinary course in nature. Our cash balance decreased by $8.8 million due to a contribution into our insurance business to initiate the CLOs, interest and principal repayment under our credit facility and other expenses. Our intangible assets of $21.6 million represents Mount Logan's interest associated with the management contracts of the CLOs and Logan Ridge. At quarter end, the liabilities related to our Asset Management segment predominantly included outstanding debt obligations of $24.1 million drawn under our corporate credit facility, a $15 million seller note issued in connection with our acquisition of Ability, and a $4 million seller note issued in connection with our acquisition of the management of Logan Ridge, shown net of deferred financing costs. Lastly, when notable liability is the client investment associated with the contingent value rights or CVRs. As a reminder, on Cline, this is an investment in equity and debt that remains from Marret Resource Corp. prior to the plan of origination in 2018. In the first quarter of 2022, we received a cash distribution and made the second distribution to CVR holders of CAD 7 per CVR in April. We will evaluate further distributions later this year in accordance with the receipt of further distributions from Cline. On the Insurance side of the balance sheet, the largest asset is the $851 million in investments. The $278 million of reinsurance assets reflects the estimate of the net claims recoverable by Ability from reinsurers based on the long-term care policies and prevailing actuarial assumptions. On the Liability side, insurance contract liabilities are the largest item at $867 million, which represents the estimated claims payable to Ability's policyholders before any reinsurance recoveries based on policy data and actuarial assumptions. As mentioned last quarter, based on mortality, morbidity, interest rate and investment yield assumptions, our insurance assets and liabilities can experience some volatility quarter-over-quarter. However, we do not view any short-term volatility in assumptions as fundamentally changing the way we operate and grow Ability. Overall, reversing the prior quarter's decline, our book value increased by 12% quarter-over-quarter. We expect to compound book value in our Insurance segment over time. And as Mount Logan management continues to grow its allocation of managing Ability's insurance assets, we expect the combined synergies between asset management and insurance to reap rewards. I will now turn the call back to Ted Goldthorpe for some closing remarks.

Thanks, Jason. In closing, we did not close any strategic transactions for the quarter. However, we continue to make progress on enhancing our Asset Management and Insurance segments to position ourselves for future growth. We believe there is significant potential underpinning the synergistic relationship between these 2 segments, and we have full conviction in growing our key pillars of retail, institutional and insurance. We have a strong acquisition pipeline on the institutional side, which could lead to further growth as well as to the extent we are able to close on some of these deals. While inflation, rising interest rates and geopolitical instability continue to serve as an overhang on financial markets, we believe this presents a number of opportunities both for credit as an attractive asset class and for potential strategic acquisitions with other asset management platforms. Growth remains a key priority for us, and we continue to explore ways to grow Mount Logan and improve liquidity for our shareholders. That concludes our prepared remarks. We will now transition the call to Q&A, if the operator could please coordinate.

[Operator Instructions] We have a question registered from Scott Chan of Canaccord Genuity.

The insurance core earnings that you reintroduced positive over 6 months negative over the last quarter. But what do you think the earnings power or target could be once you reposition that business over time?

Yes. I would say we had some one-off realizations that drove that down for the current quarter. But I would say if you look at last quarter relative to this quarter, I would expect the 2 to 2.2 run rate on that going forward once you back out some of the one-offs this quarter.

Is that for quarter...

So last quarter it was about 3. Then we had some on-off items this quarter, and I would say about 2.2 going forward would be an average rate once you remove the onetime this quarter.

Yes. Obviously, Scott, we're growing our insurance business. So we expect the earnings power not only of the insurance company, which we think we can get to double-digit ROEs to grow. But also, we're getting the upstairs we're getting the asset management fees of the holding company. So you kind of -- even if we get a low ROE in our Insurance business, you're still generating pretty high ROEs, if you bake in the asset management fees.

Okay. And so you talked about -- should you comment on the institutional side, what are you seeing in this environment? Obviously, it's been very volatile, but maybe that's more recently, it's been a bit better? Are you seeing opportunities there still?

Yes. We tend to feel like our strategic pipeline seems to increase during periods of volatility. So we obviously closed a number of transactions at the end of '18 in the middle of 2000 and obviously, we just went through some volatility. So we're pretty confident we're going to do a couple of things between now and the end of the year and are really interesting and synergistic. But just -- these things take a long time and a lot of them we've been working out for a while. So we actually think it's still a pretty robust M&A market and the multiples that we're looking at to pay it for things are consistent with what we paid historically. Meaning like they kind of went up last year, they're kind of back down to where they were a couple of years ago.

And you talked about OCIF, maybe elaborate on that launch and then maybe an update on the launch in Canada that you're expecting with your partner there?