Greetings, and welcome to the First American Financial Corporation Third Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation.

[Operator Instructions] A copy of today's press release is available on First American's website at www.firstam.com/investor. Please note that the call is being recorded and will be available for replay from the company's investor website and for a short time by dialing 877-660-6853 or 201-612-7415 and enter the conference ID 13741673.

We will now turn the call over to Craig Barberio, Vice President, Investor Relations to make an introductory statement..

Good morning, everyone and welcome to First American's earnings conference call for the third quarter of 2023. 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 reflect or relate to 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 this morning's earnings release and the risk factors discussed in our Form 10-K and subsequent SEC filings.

Our presentation today, 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 this morning's earnings release which is available on our website at www.firstam.com. I would now like to turn the call over to Ken DeGiorgio..

Thank you, Craig. The rapid increase in interest rates to levels not seen in many years continues to produce challenging market conditions. With housing affordability currently at its lowest point in over three decades existing home sales this year have declined to the slowest annual pace since the global financial crisis.

Moreover, sales volumes in the commercial market have reverted to pandemic low levels and are down approximately 50% from the peak year of 2021. Despite these historically difficult conditions, our continued focus on expense management and strong growth in net investment income enabled us to deliver a pre-tax title margin of 12% on an adjusted basis.

On a consolidated basis, we generated adjusted earnings of $1.22 per diluted share. Our residential purchase business continues to reflect these market headwinds, but appears to have stabilized at trough levels.

For the first three weeks in October, open purchase orders are down 7% compared with September which is consistent with normal seasonality, but are up slightly compared with the prior year.

While this performance is mostly driven by a historically low comparison period it also reflects the results of our industry-leading homebuilder division and is further indication that the market has stabilized. Refinance open orders remained at trough levels in the third quarter averaging 350 per day a level they have held all year.

Given the current pool of mortgage loans outstanding and the outlook for interest rates it remains unlikely we will see a significant uplift in refinance in the foreseeable future. Our commercial business revenue declined 39% compared with last year consistent with the first half of the year.

Average revenue per order also declined again this quarter for the fifth consecutive quarter, which suggests that price discovery is well underway as the market corrects. Commercial open orders for the first three weeks of October are down 5% compared with last year and are down 3% sequentially.

There is still a high degree of uncertainty concerning the commercial market. However, based on our market intelligence, we continue to expect higher commercial revenues in the fourth quarter which is consistent with the normal seasonal pattern.

While our key purchase commercial and refinance markets appear to have troughed, we expect the difficult market conditions to persist well into next year.

Despite the uncertainty of the timing of a recovery in these markets, the strength of our business along with our financial discipline and strong balance sheet allow us to continue to invest for long-term growth, while returning capital to our shareholders. This quarter we raised our common stock dividend by 2% to an annual rate of $2.12 per share.

We also repurchased $9 million of our shares in the third quarter and have accelerated our purchases in October already purchasing an additional $9 million of our common shares.

In closing, given the importance of people to our business, I am pleased that First American has been named one of the best workplaces for women by Great Place to Work and Fortune Magazine for the eighth consecutive year. This accomplishment is a tribute to our workforce approximately two-thirds of which are women.

I'm proud that First American's commitment to advancing the careers of women and our world-class culture enable us to achieve this recognition year after year. Now I'd like to turn the call over to Mark for more detailed discussion of our financial results. .

ServiceMac, Endpoint and instant decision for purchase transactions. This quarter these initiatives together generated a pre-tax loss of $12 million, impacting our pre-tax title margin by 110 basis points, an improvement from the 130 basis point drag in Q2, primarily driven by deep boarding fees received by ServiceMac.

Pre-tax margin in the title segment was 10.5% or 12.0% on an adjusted basis. Total revenue in our home warranty business totaled $108 million, a 3% increase compared with last year. Pre-tax income in home warranty was $9.4 million, up 124% from the prior year.

The loss ratio in home warranty was 55%, down from 59% in 2022 driven by lower frequency and severity of claims.

The effective tax rate for the quarter was 29.4% higher than our normalized rate of 24% due primarily to the mix of income between our insurance and non-insurance businesses since our insurance business generally pays state premium tax in lieu of income taxes.

In the third quarter, we repurchased 161,000 shares for a total of $9 million at an average price of $57.87. So far in October we have ramped up our purchases buying 162,000 shares for $9 million at an average price of $52.90. Our debt-to-capital ratio as of September 30 was 29.7%.

Excluding secured financings payable, our debt-to-capital ratio was 23.5%. Now I would like to turn the call back over to the operator to take your questions..

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Thank you. Our first question comes from the line of John Campbell with Stephens. Please proceed with your question..

Hi guys. Good morning..

Good morning..

Good morning, John..

Hey. I just want to I heard you correctly on the order commentary for October.

You said that purchase is trending up year-over-year thus far in October?.

Yeah. So purchases, it's up slightly for the first three weeks in October very slightly. And a lot of it is driven, because included within the purchase transactions is resale which is most of them. And we also have New Homes and New Homes, is performing pretty well.

So when you mix those two together yes we do have a slight increase in purchase which is again nice to see the lines cross here..

Yeah. Absolutely, I mean just given the backdrop of continued upward pressure on rates that's a great outcome. New Home sales I think maybe a little bit less than 10% of the national mix.

What does that look like for you guys a little bit higher?.

It's a little bit higher. Historically the long-term average is about 13% of our purchase orders are new home related. So far in October they're 19% a little overweight. So that's -- our mix is a little bit higher than the average..

Okay. Thank you..

I'd add to that John. I mean one thing to keep in mind we have an outsized share of the market in New Home which obviously is a good competitive advantage for us..

Yeah. Absolutely. And then last question here on the interest expense. That's obviously been up a good bit the last two quarters. I wanted to get a better grip on that. I know that's influenced by the bank deposits.

So maybe if you could unpack that kind of you could decouple those two items just underlying interest expense versus the bank effect? And then how we should be thinking about the run rate of interest expense here just assuming that rates stay near current levels?.

As a general statement, when you look at interest expense in our Corporate Segment it runs $12 million $13 million a quarter and that's really primarily the interest expense that we pay on our bonds. We also have interest expense in our Title Segment.

And that's really driven by kind of the cost of funds in our banking operations, both at our bank First American Trust as well as our warehouse lending business pays interest expense too. So those are the two components that make up our -- the $23.5 million of interest expense we had in the Title Segment this quarter..

Okay. That’s helpful. Thank you, guys..

Thanks, John..

Thanks, John..

Our next question comes from the line of Soham Bhonsle with BTIG. Please proceed with your question..

Hey guys. Good morning. Hope, you are doing well..

Good morning..

I guess the first one just on investment -- on the interest income. Can you just Mark maybe update us on the year here? And then just maybe help us size what needs to be replaced from sort of the roll-off in ServiceMac? And how quickly you'd be able to sort of do that? Thanks..

Yeah. Thanks for the question Soham. So in terms of the year I mean we're -- obviously we're three quarters done. When we look at Q4, we think based on what we're seeing now investment income should dip a little bit in Q4 a few million -- $5 million-ish let's say plus or minus.

And most of that is just driven by the fact that we did lose these Home Point loans which we've talked about for a couple of quarters. And in the last 30 days or so we've lost about $300 million of deposits related to that which was really earning let's call it Fed funds.

So that's kind of the headwind that we're going to see in the fourth quarter in terms of our investment income. I will say that about 75% of that though is going to be a reduction in interest expense in the title segment too. So it's not all fall to the bottom-line, but about 25% of it will..

Okay. And then, on Endpoint Ken, I think you've previously talked about the opportunity there sort of being twofold right? Like, where you could potentially get some efficiency gains but then there's also sort of this enabling of better customer service.

I was hoping you could maybe dig a little bit deeper on the efficiency piece of the value proposition there.

What sort of efficiencies do you sort of envision? And how does that maybe translate to margins versus call it the legacy title business?.

Yeah. Thanks for the question. I mean, I think its early days to exactly measure the efficiencies. But we anticipate sort of increasing the efficiency of an escrow officer fairly substantially. Again, it's hard to put a number on that at this point.

But we know there will be efficiency gains as we automate some of the more mundane and tasks that an escrow officer does and freeze them up to do the more people intensive -- and people-intensive task. And there's also other sort of efficiencies that we'll gain.

And we have already started gaining from Endpoint just by deploying some of their technology in other parts of our company. We've mentioned in the past about JOT which is our Mobile Notary Management Systems. We relied on third parties for that in the past.

We're now able to do it more efficiently in-house and have made a lot of progress rolling that out in the direct division. It will probably be fully rolled out in the direct division sometime next year..

Okay. And just one more Mark, I think on the loss provision rate I guess you lowered it 25 basis points.

But as we sort of go into next year and we potentially are in a more sort of uneven macro environment right? I mean, how are you thinking about that on that line I guess?.

This is Ken. I'll start on that. And yes we did lower the loss rate. And one thing I'll point out as you recall during the pandemic we actually took the rate up, which I think reflects our pretty conservative approach when it comes to building our reserves. The concerns we had when we did that in the pandemic didn't come to fruition.

Some of the concerns we had during the current market also haven't come to bear. So we've built an extremely healthy level of reserves. In fact, we're probably pushing the upper bounds. I mean, and I want to emphasize the upper bounds of reasonableness. And we think it was the right time to decline it.

So we obviously continuously monitor our reserving level. The situation could change. But I think more directly to your question I think you could probably expect this rate to prevail at least through 2024..

Okay. Great. Thanks a lot..

[Operator Instructions] Our next question comes from the line of Bose George with KBW. Please proceed with your question..

Hey, good morning.

So first question just on the deboarding fees from ServiceMac how much was that this quarter? And is there more of that to come before that fully rolls off?.

Yes. Hi. Good morning, Bose. So this quarter we had a $3 million benefit because of deboarding fees. And roughly about 40% of the loans were deboarded. So we have another call it 60% to come at some point next year. We're not exactly sure about the timing..

Okay. Great. Thanks. And then can you just talk about capital return priorities? Could we see the cadence of the buybacks pick up? And just also from a leverage standpoint what -- is that a constraint you keep in mind just curious how you're thinking about it more broadly..

Thanks for the question. I'll start Bose obviously as we talked about earlier we've accelerated the pace of buybacks. We've already in October bought back shares at the same pace we did in the entire third quarter. And right now I think our stock is attractive. We've accelerated repurchases and we think it's very attractive.

But obviously we way repurchases against other uses of capital such as reinvesting in the business and M&A. But we're obviously committed to return capital to our shareholders and we think buybacks right now are a pretty attractive alternative.\.

And Bose, I'll just comment on the debt leverage part of that question. So our debt to cap we look at it excluding secured financings payable, because there's sort of gross up there. And if you do that it's 23.5% this quarter, we've talked about like 18% to 20% being our long-term target.

But we're very comfortable, especially here at the trough of the market being higher than our target. So 23.5% is a very comfortable place to be. I think particularly since when you look at the balance sheet we've got $1 billion of AOCI and we feel really great about the credit there.

So we think that's temporary, and now I'll just kind of help our debt to cap as we go along. So we're in a very comfortable place in terms of our debt right now..

Okay. Great. Thanks. Just one more.

In terms of investment income if the investment income is coming from deposits at your bank versus escrow that you send to third parties does it make a difference on the return or you kind of agnostic in terms of that? Or could you sort of increase one or the other if the returns are better?.

There is a difference. I mean, typically, when we give our deposits to third-party banks the general rule of thumb is that we'll typically earn Fed funds. When we invested at the bank our cash that's at the bank will earn Fed funds. And then the rest of it most of the escrow deposits we push to the bank we buy mortgage-backed securities.

And so we're really getting kind of a mortgage-backed security rate as opposed to Fed funds. And sometimes that could be higher and sometimes that could be lower. And Fed funds right now is lower just because of the fact that rates have risen..

Okay. That's helpful. Thanks a lot..

Thanks, Bose..

Our next question comes from the line of Geoffrey Dunn with Dowling & Partners. Please proceed with your question..

Thanks. Good morning..

Good morning, Geoff..

I'm hoping you could talk a bit about commercial market. In particular where are the large deals down the most? I'm assuming, it's office but I'm interested in a little more color.

And more importantly where are the areas that you're seeing opportunity versus drag outside the office market?.

Well, a couple of things, I'd say. First of all, when you just look at the large deals we had four what we call mega deals with premium over $1 million this quarter. And a year ago it was seven. We're not seeing the same level of large deals. The large deals that we are seeing are really half of them are multifamily.

We had another one that was just a development site. But generally speaking, I would say the large deals are -- we're just -- at least just not there this quarter. In terms of our top asset classes like where we see in business multifamily is 22% of our commercial revenue. So we're seeing a lot of activity there.

Industrial has always been strong even through the pandemic. It's 17% of our revenue. And then development sites which is for these greenfield sites at 16%. So, those are our top three. Retail is 10%. Office you mentioned that Geoff, office is 5%. So, that gives you a little bit more flavor in terms of our revenue.

Now that doesn't all add up to 100, there's other asset classes we got add. We've got energy, hospitality, but I referenced the big ones..

The thing I would add too, Geoff in terms of sort of the outlook going forward on asset classes, I think probably the more attractive ones are going to be the ones where we've already seen the most price discovery like suburban office, and multifamily and energy is also probably going to be a big asset class for us.

And then thinking back on multifamily and when I say, suburban office, it's going to be anything that's going to be outside of the big CBD areas. You're just not going to -- the central, business districts are under strain right now, for obvious reasons..

Great. So as you look out to 2024, your commentary is cautious in your press release.

What is your number one concern? Is it commercial? Is it direct resi? What one is more uncertain at this point in your mind?.

Well, I mean I'm uncertain and concerned about all of them, except refi, I know that's not going to get better. So I think there's concern in all of them. I think if you have forced me to way the two, I'm probably a little more optimistic about Commercial, just because I feel like we're making our way through this price discovery.

And I think, we anticipate to see transaction levels tick up a little bit in commercial next year albeit, keep in mind at lower prices. So we'll see more orders, but they'll be at lower prices given this price discovery. But we're cautious about all of it into 2024.

Now we may get some relief if interest rates go down, when I last checked the forward curve which was yesterday, I don't know where it is today where they had three rate decreases next year beginning in the middle of next year. Now the forward curve is historically inaccurate.

But if that comes to fruition, that will help but that's middle to end of next year..

All right. Okay. Thank you..

Our next question comes from the line of Mark Hughes with Truist Securities. Please proceed with your question..

Yeah. Thank you. I'm not sure if this may be too granular, but I'm curious whether you saw any impact in the purchase market through these weeks of October, with the interest rate fluctuations. .

No we haven't seen it, Mark. And it's been a little surprising, because when you look at the -- when you look at our purchase orders they've been following the typical long-term seasonality pattern all year long. So we're -- our purchase orders on the residential side, I mean they're at low levels now, but they haven't gotten any worse.

They're getting worse now just because of seasonality. But when you look at the normal seasonality curve for the last 9.5 months, it's been right on the normal curve and that's surprising especially, recently given the fact that mortgage rates have climbed particularly in the last 90 days here we're tackling 8%.

So -- but to answer your question, no, we haven't seen any falloff in purchase orders because of the recent climate rates..

And then in the warranty business, I think I've heard you say that direct-to-consumer has been a good channel with real estate being weak.

How -- is that holding up? Are you seeing success there?.

Yes. I mean we are in general seeing success with DTC. And I think we've demonstrated, if we turn the dial up on our marketing expense, we see the almost – well, we see the immediate impact on contracts and DTC though it takes some time for profitability to be realized.

I think the story with the home warranty is, that they've done a really good job of managing claims in an inflationary environment. So that's been helping. Frequency is down because of lower policy counts, but severity is down. And then we're realizing more and more of the time goes on the benefit of some pricing actions we've taken.

So we're pretty -- we're very positive on home warranty, and we're real positive on the strides that that group has made on the DTC channel. So there's real opportunity there..

Understood.

And then finally, any update on instant decisioning either from the rollout potential benefit expense standpoint?.

Yes. It's still early days there though we are anticipating rolling out two markets on a test basis at the beginning of next year. So, they're hitting their milestones and we're real positive about that. And as we've mentioned in the past, the great thing is it's hard to do.

It's impossible to do if you don't have the data, and we've got more data than anyone. And so it's -- we're -- it's trending well. .

Thank you very much..

Thanks, Mark.

Thank you. We have reached the end of the allotted time we had for questions. And that concludes this morning's call. We would like to remind listeners that today's call will be available for replay on the company's website or by dialing 877 660-6853 or 201 612-7415 and enter the conference ID 13741673.

The company would like to thank you for your participation. This concludes today's conference call. You may now disconnect..