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Edited Transcript of SYCRF earnings conference call or presentation 15-Aug-19 12:30pm GMT

Q2 2019 Syncora Holdings Ltd Earnings Call

Hamilton Sep 7, 2019 (Thomson StreetEvents) -- Edited Transcript of Syncora Holdings Ltd earnings conference call or presentation Thursday, August 15, 2019 at 12:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* David Michael Grande

Syncora Holdings Ltd. - CFO

* Frederick Barton Hnat

Syncora Holdings Ltd. - President, CEO & Director

* Scott Beinhacker

Syncora Holdings Ltd. - Head of IR

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Conference Call Participants

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* Robert Halder

National Alliance Securities LLC - Head of High Yield and Special Situations

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Presentation

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Operator [1]

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Good morning. My name is Melissa, and I will be your conference operator today. At this time, I would like to welcome everyone to the Syncora Holdings Ltd. Q2 2019 Earnings Conference Call. (Operator Instructions) Thank you.

Mr. Scott Beinhacker, you may begin your conference.

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Scott Beinhacker, Syncora Holdings Ltd. - Head of IR [2]

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Good morning, and thank you for joining us today for the SHL Q2 2019 consolidated GAAP financial results investor call. I'm Scott Beinhacker, the Head of Investor Relations at Syncora. Participating with me on the call today are Fred Hnat, our Chief Executive Officer; and David Grande, our Chief Financial Officer.

Before I turn the call over to my colleagues, I will remind everyone that during our call and the Q&A session, management will reference certain documents that we posted after the market closed yesterday to the Investor Relations section of our website, syncora.com, specifically on the Investor Events page. These documents include the Syncora Holdings Ltd. consolidated GAAP financial statements as of June 30, 2019, and for the 6 months ended June 30, 2019; the associated earnings release; our financial highlights deck; and SGI's statutory basis financial statements. We sometimes refer to Syncora Holdings Ltd. as the company in these remarks.

Please note that, as in the past, while we will not be reviewing the presentation slide by slide during the call, we will make reference to a number of the slides as we discuss our financial results.

I would also like to remind everyone that during the call and the Q&A session, we may make projections or other forward-looking statements about future results, plans and events, including the sale of SGI to Star Insurance Holdings LLC. We caution that these forward-looking statements are not a guarantee of future events, and that actual events may differ materially from those in these statements. These forward-looking statements are subject to a number of risks and uncertainties, many of which are beyond the company's control, including, but not limited to, the factors described in our historical filings with the New York State Department of Financial Services and in Syncora Holdings Ltd.'s and Syncora Guarantee Inc.'s consolidated GAAP and statutory financial statements, respectively, which are posted on our website as well as the need for approval by the NYDFS of the sale of SGI to Star Insurance.

You are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date they are made. The company assumes no obligation to update forward-looking statements, information in the press release, the financial highlights deck or as presented on the call to reflect the impact of circumstances or events that arise after the date the forward-looking statements are made.

References throughout the call to SHL and SGI refer to Syncora Holdings Ltd. and Syncora Guarantee Inc., respectively, and the NYDFS refers to the New York State Department of Financial Services.

Finally, references to numbers on the call are generally stated as approximations.

And with that introduction, I would now like to turn the call over to our CEO, Fred Hnat.

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Frederick Barton Hnat, Syncora Holdings Ltd. - President, CEO & Director [3]

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Thank you, Scott, and welcome, everyone, to our second quarter 2019 earnings investor call. I'm very pleased to be able to discuss the recently signed agreement and provides for the purchase of all outstanding common stock of SGI. This agreement is the culmination of years of hard work by our Board, management and employees. And I believe it attains our goals of optimizing shareholder value and a big step towards returning capital to shareholders.

I'm sure that you've all seen the press release SHL issued last night describing the material points of our agreement with Star Insurance Holdings LLC, an entity organized by GoldenTree Asset Management LP on behalf of GoldenTree's managed funds and accounts relating to the sale of SGI. But this morning, I did want to mention some highlights and review the process that resulted in our agreement with GoldenTree.

Starting in early March, Moelis, our financial adviser, began soliciting indications of interest, reaching out to or hearing from dozens of potential acquirers. After the initial solicitation, we negotiated and entered into nondisclosure agreements with 20 potential acquirers. Upon signing the nondisclosure agreement, the potential acquirers were provided access to a data room for preliminary due diligence to support their initial bids. We ran a competitive auction, in which we received initial bids from 5 interested parties. After a fulsome due diligence process and several rounds of bidding by the interested parties, our Board selected GoldenTree's bid as the most attractive for the company and the shareholders. The cash consideration expected to be received for SGI is approximately $392.5 million, subject to adjustment.

The purchase agreement governing the sale of SGI allows the company to consider other acquisition proposals received prior to 5:00 p.m. Eastern time on September 13, 2019, that the company determines in good faith are, or could reasonably be expected to lead to a transaction superior to the current transaction of Star Insurance.

The closing of the sale of SGI is subject to customary conditions, including approval by the New York Department of Financial Services and clearance under the Hart-Scott-Rodino Antitrust Improvements Act and is expected to take place in the fourth quarter of 2019 or the first quarter of 2020.

Upon the sale of SGI to Star Insurance, in addition to the cash purchase price, the company is expected to have cash in the amount of approximately $32 million and specified noncore assets currently held at SGI, including certain noncash assets of Pike Pointe Holdings, LLC and the 80% interest in Swap Financial Group LLC.

We are working with our advisers on several technical items, including tax considerations related to the sale of SGI as we determine the method and timing of distributions to shareholders in keeping with our goal of optimizing shareholder value and returning capital.

As I mentioned, the sale is a culmination of many years of hard work by our Board and the management and employees of the company, and we are very pleased with the final terms of the sale. We are equally pleased to be working with GoldenTree, a large and highly respected asset management firm, on this transaction.

In the same press release, we mentioned that the Board had approved destaggering the terms of the directors, starting with those directors elected at the Annual General Meeting of Shareholders for 2019. What that means in practice is that the directors elected in the 2019 AGM would be elected to terms of only one year. The Nominating and Governance Committee of the Board has also indicated their intention to evaluate the benefits of reducing the number of directors serving on the Board.

While negotiating a strong deal for our shareholders has been our focus in the sale process, we have continued to focus on our core business. Under the terms of our reinsurance arrangement with Assured Guaranty, we are able to take steps to remove ourselves and substitute Assured Guaranty in our place as primary insurer, which would simplify the administration of the policies and provide the beneficiaries of those policies direct contractual privity with the primary insurer who's financial strength is rated.

Since the closing of the reinsurance transaction, we have been working on a variety of fronts to effect this process for the reinsuranced policies, which is commonly referred to as a novation. For a novation to be effective, the policyholder has to provide its consent. We have worked with trustees or the policyholders to file trust instruction proceedings, or TIPS, to obtain an order that would direct the trustee to consent to the novation on behalf of the related bondholders. As of earlier this month, 1 order directing 1 trustee to consent to the novation has been issued in connection with 3 municipal finance transactions. 2 additional trustees are preparing to file TIPS requesting a similar order within the next month. We have identified and are encouraging additional trustees to pursue TIPS on behalf of the related bondholders.

For a number of large transactions that do not qualify for a TIPS proceeding due to structure or jurisdiction, we are working with the parties to the transaction to obtain the appropriate consent to effect the novation of the related policy.

For smaller transactions that do not qualify for TIPS or for the individual efforts to obtain consent, we will try to obtain the requisite level of consents dictated by the transactions by informing policyholders of the potential opportunity to novate their policies by providing consent directly.

As to our Puerto Rico exposures, like others in our position, we are closely watching the recent events in Puerto Rico and working with our advisers to assure that we are protecting Syncora's interest as a creditor on our Puerto Rico-related exposures.

Lastly, after receiving approval by the NYDFS in early June, we executed a purchase of $20.9 million of aggregate face amount of Pass-Through Trust Preferred Securities issued by the Twin Reefs Pass-Through Trust at a discount, which leaves only $37 million of aggregate face amount of Twin Reefs Securities held by third parties outstanding.

With that, I would like to turn the call over to David Grande to discuss our second quarter 2019 financial performance and provide insured portfolio highlights.

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David Michael Grande, Syncora Holdings Ltd. - CFO [4]

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Thanks, Fred. Overall, for the first 6 months of 2019, we had GAAP net income attributable to SHL of $37.4 million or a loss of $0.41 per common share as compared to a net loss of $107.5 million or a loss of $1.24 per common share for the same period last year. Please note, for purposes of our calculation of loss per share for 2019, net income is reduced by $73 million for the accounting effect related to the purchases of the Series B preferred shares made in January and June.

Non-GAAP operating income was $42 million or $0.48 per common share as compared to a loss of $45.3 million or a loss of $0.52 per common share for the same period last year.

Non-GAAP adjusted book value per share was $7.86 as of June 30, 2019, as compared to $6.76 as of December 31, 2018.

A full description of the limitations in using non-GAAP financial measures and the adjustments made to derive our non-GAAP operating income and loss and adjusted book value is included in the earnings release.

Let me now discuss the key drivers of our results for the period. First, net premiums earned of $1.8 million for the 6 months ended June 30, 2019, which was lower than the $23.1 million of net premiums earned for the same period last year, primarily as a result of premiums ceded under the reinsurance agreement with Assured Guaranty Corp. as well as $13.8 million of premium accelerations last year as compared to none in 2019.

Second, net investment income decreased by $4.5 million to $16.9 million for the 6 months ended June 30, 2019, from $21.4 million for the same period last year. The decrease here was primarily due to lower invested assets as a result of the surplus note payments made during 2018 and 2019 and from the purchases of Twin Reefs preferred securities in 2019 as well as from lower income on remediation bonds in 2019 as compared to the prior year.

Third, net unrealized and realized gains on investments increased by $4 million to $7.5 million for the first 6 months of 2019. The change was primarily due to unrealized gains in our equities portfolio of $7.2 million. Remember, effective January 1, 2018, the change in unrealized gains and losses on equities is recorded with the statements of operations.

Fourth, the mark-to-market losses on CDS contracts was $800,000 as compared to $24.7 million for the same period last year. The decrease was primarily due to the cession of most of our credit default and other swap contracts under the reinsurance agreement with Assured Guaranty Corp.

Fifth, other income and fees decreased by $11.3 million to $3 million as the prior period included income from the monetization of a Detroit real estate development option.

Sixth, net recoveries, including loss adjustment expenses, were $109.4 million for the first 6 months of 2019 as compared to losses of $14.6 million for the same period last year. The favorable change reflects positive developments on our public finance and RMBS disclosures.

Seventh, loss on debt prepayment was $41.7 million this year as a result of the final payments made on our long-term notes, which have not yet been fully accretive to par. On April 30, 2019, Syncora Guarantee Inc. made its final payment of $169.9 million on its long-term and short-term notes.

And then lastly, operating expenses were $25.8 million for the 6 months ended June 30, 2019, as compared to $28.5 million for the same period last year. The decrease was primarily due to lower cost as a result of headcount reductions and also includes onetime Board of Director incentive plan payments made in the first quarter.

Moving on to our retained insured portfolio, which is also outlined on Slides 11 and 12 of the financial highlights deck. As of June 30, 2019, our total net par exposure was $918 million, slightly lower as compared to December 31, 2018. Post reinsurance, the average internal rating of our retained portfolio was BB, which remained the same from year-end 2018, and total credit count also remained the same at 19 credits. Our Below Investment Grade credits, or BIG exposures, were $452 million as of June 30, 2019, also consistent with prior year-end.

In addition, our BIG flag list leverage ratio, which is defined as our BIG exposures divided by our claims paying resources, increased by 26% in total to 0.68 as of June 30, 2019, primarily as a result of the surplus note payments and Twin Reefs purchases, reducing our claims paying resources.

With that, let me turn the call back over to Scott for a brief question-and-answer period.

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Scott Beinhacker, Syncora Holdings Ltd. - Head of IR [5]

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Thank you, David. With that, operator, let's open the call to questions. Operator, will you please provide instructions for those analysts on the call?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Rob Halder from Nat Alliance.

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Robert Halder, National Alliance Securities LLC - Head of High Yield and Special Situations [2]

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You disclosed that you completed the repurchase of the Twin Reefs prior to June 30. It leaves about $37 million out. Following this morning's announcement, what's the approach to the remaining preferreds that are out there that you guys anticipated for sure?

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Frederick Barton Hnat, Syncora Holdings Ltd. - President, CEO & Director [3]

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Rob, thanks for the question. The stock purchase agreement we have at GoldenTree places some restrictions on SGI's ability to do certain things outside the ordinary course of business, while we're waiting for regulatory approval for the sale. But it does give us some leeway to buy in our remaining Twin Reefs preferred shares, which you noted as $37 million. But subject to a 25% discount on purchase for that, it's a provision of the stock purchase agreement with GoldenTree. We've always recognized that Twin Reefs is our chief financing. They're perpetual noncumulative, which is why we've been able to make those prior purchases at attractive discounts to the company. So we'll continue to be open to considering possible purchases of the Twin Reefs preferreds if the terms and conditions make sense, but it has to be consistent with the agreement that we just executed with GoldenTree with respect to obtaining a minimum discount.

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Robert Halder, National Alliance Securities LLC - Head of High Yield and Special Situations [4]

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And just so I understand, that 75% would have to be the purchase price or you could only purchase up to 75% of the remaining amount.

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David Michael Grande, Syncora Holdings Ltd. - CFO [5]

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75% would have to be the purchase price.

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Robert Halder, National Alliance Securities LLC - Head of High Yield and Special Situations [6]

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Okay. And I guess my second question is pro forma for the sale, what remains at holdings? Obviously, there's the NOLs and the $32 million in cash. You talked about kind of the noncash assets of Pike Place (sic) [Pike Pointe] and an 80% interest in Swap Financial Group. Can you just help me understand what is going to remain at holdings pro forma for the sale?

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Frederick Barton Hnat, Syncora Holdings Ltd. - President, CEO & Director [7]

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Yes. So outside of the transaction perimeter, we have -- yes, I think you stated it correctly. We've got $32 million of cash. We have some physical assets that are held by Pike Pointe Holdings and the 80% interest in Swap Financial. So we're going to be focused on monetizing the noncash assets at Pike Pointe. The main asset there is the Chene Street property, a waterfront property in Detroit that we got through a Detroit bankruptcy. Swap Financial, which we own this 80% interest, it's a very stable business. It's a source of taxable income for SHL, the benefits from the NOLs. And we really have no plans to do anything different other than to continue to hold that very stable asset.

With regard to NOLs, we've been speaking to a number of advisers and other market participants on ways to optimize that asset. And we're not in a position to go into detail on this call. But while we're working to obtain the NYDFS approval on the sale, we'll be developing more detailed plan for new business. At this stage, everything is on the table in that regard. But with that, I think I'll -- I wanted to turn it over to David to discuss our current thinking on some of the technical aspects of NOLs that have evolved during the sale process.

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David Michael Grande, Syncora Holdings Ltd. - CFO [8]

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Yes, a couple of points to make on that. Before I do so, I just want to also mention, Fred, you had referenced the Detroit real estate property that you called the Chene Street, which is the name of the remaining development option that we have. I think I mentioned this in the past, but that particular property is off balance sheet right now. We haven't taken credit for any of that on our balance sheet. Just want to mentioned that, something I had mentioned before, but I just want to make that clear.

With respect to the NOLs, as we first began the sales process, our goal initially was to come up with a way to have SHUS retain all of the $2.6 billion of NOLs since a buyer would be extremely limited in the amount of NOLs that they could utilize under the tax rules after a change of control anyway. However, as the sale process progressed, we started to receive consistent feedback from multiple bidders that an election to retain all of our current NOLs would result in materially lower bids, and the main reason was because of the expected step-down in the tax basis of SGI's assets to a buyer. And again, this is something that we heard from multiple bidders. So given our priority of optimizing the consideration received for SGI and after much consideration -- capital consideration by our Board and consultation with our advisers, we agreed with GoldenTree to make a tax election, which doesn't result in the tax basis step-down, but still leaves SHUS with a substantial amount of NOLs as a route without getting into, again, too much of the technical details on this. This election effectively enables SHUS to redistribute certain tax losses on the sale of SGI and will leave SHUS with an estimated amount of NOLs a little north of $300 million. So couple -- yes, hopefully that provides a little more color on the NOL and how we got there.

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Robert Halder, National Alliance Securities LLC - Head of High Yield and Special Situations [9]

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So effectively, pro forma for the transaction, there will be $300 million of NOLs remaining.

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David Michael Grande, Syncora Holdings Ltd. - CFO [10]

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That's right, yes. And if you also remember, this -- I believe it's this month or maybe next month, the treaty to the change of control damage that we incurred on the NOLs as a result of the restructuring that took place back in 2016, that 3-year period expires. And so going forward, we will have that reset and goes back down to 0 as opposed to the 35% change of control damage that we were carrying previously.

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Operator [11]

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There are no further questions at this time. Mr. Beinhacker, I turn the call back over to you for any closing remarks.

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Scott Beinhacker, Syncora Holdings Ltd. - Head of IR [12]

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Thank you, operator, and thanks, everyone, for joining us on the call. We look forward to talking to you again after the release of our third quarter 2019 financial statements.

In the meantime, if you have any questions, please feel free to reach out to me at (212) 478-3400 or through our dedicated Investor Relations e-mail, investorrelations@scafg.com. A transcript and replay of this call will be available on our website later today. Thank you all for listening.

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Operator [13]

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Thank you for participating in today's conference call. You may now disconnect.