Fidelity National Financial, Inc. (FNF) Earnings Call Transcript

I think for the sake of sanity for all of us, we got to get back to some kind of spend. We have to get back on the road. We can't do Zoom forever. But I hear you there.

Definitely.

So one of the questions I've kind of had from folks in the past is when you guys -- one of the things you're known for is being very nimble with your operations, right? As orders move around, you're going to move around your cost base quickly to kind of address that. When you guys think about proactively kind of managing the headcount, are these just temporary -- are these furloughs? Are these temporary layoffs and then you bring them right back? Like, how are you able to quickly flex to that extent?

Yes. And it probably was a little bit different with this pandemic than maybe prior periods, but generally, when we have a sort of a broader market decline, just volumes are down, we're going to reduce staff really across the footprint. And John, we have about 1,300 offices and the title company kind of sits inside that. And so if you've got to go down, maybe you got to take a couple out of every area, and it's -- none of us like to make reductions, but it's more manageable when you're doing it then that way versus trying to take really big chunks out of a unit. If we see particular segments falling, like default was down substantially in 2020. And we had to make reductions in our default businesses in the centralized default world that we weren't necessarily making in other places. With the pandemic, we made those reductions so quickly and we weren't really sure what the future held. We did have an eye towards bringing those people back. And so we did a few things to kind of create that opportunity, maybe more so in the past and I think, Tony, we -- the people we brought back, it might have been 60% or something like that, people that we had let go?

Yes. I think that's probably fair. I mean we didn't have perfect vision into when it would come back. But I think everyone thought that at some point, we would return to a stronger market. So to Mike's point, rather than just make terminations because volume had decreased, we picked up some benefit costs for a lot of folks, and to Mike's point, had an eye toward, yes, hopefully, this doesn't take too long, and we can bring some or a lot of these folks back.

But generally, it's not a furlough. It's a termination or an addition.

Okay. Makes sense. And then, Mike, you mentioned that 1,300 offices. Office footprint, that's with long-term leases and stuff, sometimes that's tough to move around near term. But over time, that fixed cost can be variable, obviously, you guys are becoming much more efficient in general. You're doing more with less. And then you've got this whole movement towards like remote notarizations and like potentially remote closings? Like at some point, does the office space view -- do you view that as a variable expense over time?

It could be. And we're certainly looking at it very closely. We spend about, I think, $150 million in a year right now on leases, if I'm not mistaken. And what we're doing now is really -- normally, we have like 3 to 5-year leases or if we have a 5-year lease, we try to have a 3-year out, if we can. We're trying to renew things more short-term just until we get a little bit better visibility around where this is going. We have a lot of small offices. I think 75% are 5,000 square feet or less. And it really is in line with our kind of community-based footprint where we're in communities accessing transactions. So we just got to see how it plays out, John. And it could be a significant opportunity for us. I don't -- I couldn't size it at this point. Tony, anything to add on that?

No, I think that's right. It's -- some of it's wait and see. We've got probably half staff now at this point -- fully staffed, but half in the office now depending on the size of the office. But something that we and others have to think about.

We have -- we remember looked at -- one thing I would add, John, is where we have some very large leases in some of our more centralized businesses, there could be a real opportunity there to not have as much space and have a approach where you're -- a lot of people are working remotely, but also spending maybe some time in the office and kind of a rotational approach or as needed for customer events or training events. And that could work well in some of our bigger leases, I think.

Yes. Makes sense. One more on title, and then I want to get -- I want to weave Chris in, for sure, on F&G. On the loss provision rate, FAF, Stewart, they've taken up their reserves a bit, kind of anticipation or maybe out of abundance of caution around the forbearance stuff and potential defaults, foreclosures later this year. You guys typically, I think, guide -- you basically said it to kind of a range. So you got a little bit more cushion. But give us a sense for why you feel that 4% is a good rate now? And how -- and what kind of goes in your decision-making process around reserves?

Yes. We really need some indication before we're going to make an adjustment to our provision level, some indication that losses are going to increase. What we've been seeing and probably what the industry has been seeing for the last several years, is loss ratios that have been running very low. And of course, we look at it every month, and our actuaries look at it every quarter. And we pay close attention to this stuff. And at this point, we've been building a bit of a redundancy, still manageable, but we're a little over, I think, $60 million in terms of looking at our actuaries point estimate or central estimate. And so there's a little bit of a redundancy there. If that grows to some level, you have to reverse that by releasing reserves. I don't think we feel we're there. But at the same point, I don't feel like we ought to be providing more than our 4.5% of title premiums, which is actually where we've been for a long period of time. I just don't sense that the next -- I won't call it crisis, but the next foreclosure period where the moratoria maybe get lifted and you have an increase in foreclosures only because some of them have been built up. I just don't get a sense that we're going to see losses anywhere near what we saw in the financial crisis. I think there's a lot of equity in homes, and so I think the numbers are going to be much smaller. If we start to see something that maybe we'll have to make adjustments. I'm just not expecting it at this point. And so we felt like we couldn't really justify adding to reserves in -- for a rainy day, so to speak.

Yes. I think that makes sense. I mean, the game has clearly changed since '08, '09. I mean, there's now a almost forced kind of loan modifications and lenders having to basically work as opposed to taking the quicker route and just booting people out their houses for sure. But for those who are new to the story, why is a default period typically a trigger point for higher reserves?

Yes. It's a good question. And in and of itself, it isn't. I mean, a defaulted loan doesn't mean anything to the title policy. We don't ensure that somebody's going to repay their loan, only that, the lenders is in a first lien position. But you have a lot of noise around defaults. And first -- the first noise that happens is the lender lost money. Or if a lender loses money -- if a lender doesn't lose money, they can't have a claim even if we didn't do the title search. If they lose money, then they can look to their policy. And of course, if there was an error or something was missed or something there, then they can potentially make a claim or sometimes you get a lot of claims that are more nuisance related claims, we get a lot of claims that costs you money to defend or maybe research, but ultimately, don't cost a loss payment, but they still cost money. So -- and then, of course, in a credit weak environment, you have just more fraud, just more challenges across the board that. So you can end up seeing claims that you wouldn't see in a normal growing environment.

Yes. And the expenses, you mentioned to kind of defend or do extra research, if you will, to defend the policies. Does that run through the reserve line? Or is that a P&L like an other operating expense item?

Yes. It's part of the reserves. It's part of the claims we pay. And frankly, it's a very significant part of the claims we pay. It might be 40% of our loss payments are the expense side versus indemnity.

I never knew that. Interesting. Good rundown. So Chris, let's weave you in here for sure. On F&G, I think most are aware of what the business is now, but maybe again for guys who are newer here. Just give us kind of a simple rundown of a times b, how does the model work? How do you make money? And kind of drive consistent returns?

Sure. Yes. So quite simply, probably, the best way to think of this is a spread lending model. So I joke that we're a better form of a bank because we're borrowing long and we're investing long. So we sell effectively fixed indexed annuities and fixed deferred annuities, but it's a contract deposit contract. So if you give us $100,000, we quote you 2% for 5 years, tax deferred. That's better than what you're getting in your certificate deposit, you hand us the money. The index product is instead of paying you 2% in cash, we're taking that and buying an option on your behalf. Maybe you're going to get 60% of the upside of the S&P 500. So that's sort of how we source premiums. That comes in the billions every year. We hand it to our investment partner, Blackstone. They go out and invest it well above the 2% rate that we have credited folks, so we capture a spread. So as AUM builds, we have said that we generally make about 1% net of everything, taxes, everything else, on assets -- average assets under management. So that's our business model. So obviously, the most important element of that is having sources of premiums. So we've been rapidly building out our distribution network. Last year, we grew strong double digits. The industry was down almost 20% in our category. So we moved up to #3 in the independent agent channel for index annuities, #5 overall. So bringing in premiums, doing a great job on the credit selection and management and therefore, capturing that spread. So that's our business. It's actually a lot simpler than it probably looks on the surface.

Yes, absolutely. I mean, so you're basically hedging out the risk, taking out a slight spread and then applying that on your AUM and there's your revenue, right? Or that's basically the model?

It is. And if you look at our industry right now, we are -- the folks that have private credit partners on the investment side are gaining all the market share. And in our case, it's Blackstone. They're the largest originator of credit in the world. And so they're just able to source interesting private debt opportunities, they're investment grade, but maybe we're picking up 200 basis points over what's available on a corporate bond in the liquid markets, for example. So that's the competitive advantage. That's what we're leveraging along with our distribution relationships.

So at a high level, just talk about the rate sensitivity because I think the common view is, okay, you commit to a certain return and rates go lower, you're in trouble, right? That's like the -- I think the simple kind of risk factor, I think, people kind of keep in their mind. So talk about how you manage around that.

Yes, great question. So I mean, I'd say that's largely true if you're a traditional life insurance company, which we're not. But that's where this rule of thumb of gee, life companies trade at a lousy multiple in a low rate environment. You sell term insurance, it's embedded with 30 years of assumptions and guarantees. And if things don't play out well, you have to put up more reserves. So 2 things. One, our portfolio, the ALM match is very tight. It's typically under a year, right now, I want to say, it's like 0.2 years. So once you give us the premiums, we invest it, it's matched. So the movement of rates on that particular block of business, if we've matched the ALM, the asset liability match properly doesn't affect us at all. And our earnings come from our in force, right? Where we benefit -- well, actually, where we were hurt in 2020, but we will benefit if rates rise, is really LIBOR. About 15% of our portfolio is in floating rate assets. Last year, 2020, when LIBOR plummeted 118 basis points overnight, we lost about $50 million of net investment income. It just -- it's gone. Now the other thing about our product which is so unique, we reprice it every year. So my example where I said, you're going to get 60% of the S&P 500, a year from now, if rates have fallen or the portfolio hasn't performed the way that we thought, but we're just going to have a lower budget -- option budget to buy options on your behalf, maybe you get 50% of the upside or a lower [indiscernible] on the total amount that you can get. Now you want to be very careful with that. You want to make sure you're giving good policyholder experience. You don't want to irritate your distribution. But as long as there's a rationale behind it, you can effectively reprice your book every year. So last year, for example, with that plummet in rates, we began taking renewal rate actions on our book. Effectively, you reprice about 1/12 of your book every month. And so that starts to flow through. So for us, particularly given where rates are right now, I would argue it's much more of a potential tailwind than a headwind for us.

Yes. I mean, I think your net investment spread and unnets the swings in rates constantly, it just -- it's been impressive. You guys are performing, you're growing your AUMs. You've opened up the broker channel, starting to do exceptionally well there. I've been surprised. I'm sure you guys are. And Chris, I think you're probably #1 surprise, but like F&G gets 0 credit within FNF, right? I mean the multiple -- you can almost take the title multiple and title owns earnings, and F&G is a freebie. That's surprising to me, clearly, the appetite on the PE side is picking up. You saw Apollo acquire Athene. I guess any sense for what that takeout multiple was? And what is that relative to kind of what you guys went to FNF with?

Yes. So yes, I'd say I'm surprised bordering on just flat out angry, John? No. Look...

You and me both.

A few things I would say that are just complete misnomers. One is the business that we're in. I just described that. I would also say, you have to think of any company like ours, the value of the company is, on most days, it's predominantly the value of the in-force. So we're sitting on right now, I don't know, $29 billion of assets that we're earning a spread on. I just explained to you how we do it. It's matched from an interest rate perspective. That's typically valued on an actuarial basis. You look at it as how much capital would get released if you ran it off, what are the earnings in coming off that. So it's actually not hard to value, but it's typically not just a blind multiple of earnings. Now having said that, the deals that have been done are typically been done at either book value or I think the highest might have been 1.3x book value. Well, our book right now is a little under $2.9 billion. The other deals that I think are relevant were 10x earnings. So if you look at what we would expect to do this year, that's going to put you in the exact same ZIP code. So yes, private buyers are valuing these businesses. Now I talked about the value of the in-force, which we think is worth a ton. But our new business engine is incredibly valuable as well. It's a scarce thing. We're bringing in billions of dollars of premium. And as you've said, all of the private equity players now want to be in this spread-based market because they believe similar to a Blackstone, they have a similar edge. So I would argue both components are quite valuable. They're significantly more valuable than they're being given credit for inside of FNF today.

Yes. I mean, clearly, I get we're not going to put a SaaS multiple on it. But at the end of the day, I mean, it's real earnings. It's real cash flow streams and it's secure, right? It feels very consistent. So I'm with you. You guys -- I guess, for you, just continue pressing on, putting up great results. So it's been great thus far, for sure. One other question I have for you. You guys had talked about kind of doubling the AUM over the like next 5 years or so. I think you've got 450 maybe F&G employees right now. So my question is -- and I have no idea what it takes to scale off a annuities based business, but what type of headcount does it take to scale that higher? What type of capital do you need to move up there? Just any kind of sense for kind of what it takes to double that AUM as far as support?

Sure. Yes, I would say a lot of the headcount growth that we've added there's been some contractor conversions. We tend to run very headcount light so we make heavy use of outsourced providers. So we have tremendous expense leverage as we scale. So I think that's the important point. So if I said total payroll cost, full-time employees, contractors, yes, we expect that's going to grow much less than our revenue growth growing -- going forward. So we have spread expansion opportunity as we scale. I don't need a whole new senior management team, right, to add $10 billion of assets to the franchise. So a lot of upside and scale there. I think to the capital question, yes, it's a capital-intensive business. We have said in the past, hey, we could double our sales in a relatively short period of time. I think right now, quite frankly, we think we could triple our sales over a 5- year period of time. So if we were to do that, there would be need for some incremental capital, whether that's from FNF or we were to make more use of reinsurance. We don't reinsure out a lot of our business. But I don't think it's anything that interferes with the capital allocation plans at FNF, but I'll defer that to Tony.

Okay. I've got 1 more question, and I just realized we were kind of bumping up against time. So last question I've got on the title side. We're getting a lot of questions on Doma, or formally, States Title. It's kind of gotten called up in the SPAC craze. A lot of questions there, but you guys don't even list them as a competitor in your filings. So I'm just curious about what you guy's -- high-level thoughts of Doma? Where you run into them? What's unique about the model? Just any kind of additional inputs you guys have?

Well, I guess I would say, John, we certainly take all competitors very seriously. There are -- States Title are relatively new entrant. As States Title, they bought North American, which has been around for a while. I looked at the deck they put out. And the premise, to me, it seems is the title industry, it doesn't have any technology. It's stuck in the 1890s. We have technology, so we get to win. And I just think it's an incorrect thesis. There's a lot of technology that we have. We have a NextDays our automated search company. We've had for years and years and years. It's a patented technology and it plays an important role in the kind of margins we drive by making -- searching more automated, faster, cheaper. We have the leading title and closing software in the industry SoftPro. The largest independent agent -- used by independent agents in the industry, including North American title, which is States Titles company. So they're actually using our software to do their work in North American. And we'll see with States Title, they're new, and they'll have to prove themselves and see if they can gain share. We don't see them a lot directly in the centralized refi channel. Through the first 9 months of 2020, I think they've only issued about $2 million in gross premiums as States Title. So I think they've got a lot of work to do to prove themselves. But this idea of a lack of technology, I just don't think is correct. And I think the thousands of people in this industry that take care of customers every day would agree with that. We're also in the process, and we're well underway of building out a digital transaction platform at scale, which is something that we think really sets us apart that we can do that at scale. And we can do that because we've invested in SoftPro, and we've migrated the overwhelming majority of our users to that platform. We've gone to the latest cloud-based technology we've invested in companies like SkySlope and others to kind of continue to build out the capabilities in that software and that digital platform. So they can attempt to do what they need to attempt to do, but we're pretty comfortable with what we're doing on the technology side.

Yes. Makes sense. And then on the addressable market, I mean, in a crazed bull market where SPACs are on fire, addressable market is almost as good as revenue or even income. But just curious, they -- I think they listed a $318 billion addressable market, $23 billion of that was, I think, title and escrow, maybe like closing services. How realistic -- how difficult is it for a title insurer to vertically integrate into some of these addressable markets?

Well, I guess I would say it's really easy to make a slide. And when I looked at that slide, the $318 billion, $180 billion of it was home search and home insurance. And I think those are, in particular, 2 really difficult businesses to probably penetrate the incumbents. I think home search is -- we all know is Zillow, and others that are strong as well. So I think that's an interesting one to pick. In home insurance, you're taking on a lot of powerful incumbents like Allstate and Progressive and State Farm and others. So I just don't know. I think they've got their work cut out for them to think about those adjacencies.

Yes. It seems like a radio -- a car stereo manufacturer trying to beat out Carvana, right? I mean, like in selling the car itself. I mean, it's just like it's part of the production process, it feels like. So it might be difficult to do. I agree, beating Zillow in the search game would be pretty tough.

And I can hope they're [indiscernible] in it of itself is a difficult business to monetize.

Yes. Yes, Zillow has tried multiple different ways to do that, multiple different types of products and services, for sure. Okay. Operator, let's see if we get any questions. I'm sorry, it looks like I ran over time a little bit here, so I apologize for that. Let's see if we have any questions in the audience.

You should just receive these questions on your email.

Okay. I don't see any here. Okay. So I think that wraps us up, guys, 45-minute mark. I really appreciate the time. It's always a real pleasure to meet with you guys. And best of luck as we kind of get into the heart of the selling season.

Well, thanks, John. Appreciate it.

Thanks, John. We appreciate it.

Thanks so much. Talk soon.

Bye.