Goosehead Insurance Inc

NASDAQ:GSHD

Earnings Call Transcript 2020-Q2

[Operator]

Thank you for standing by. This the conference operator. Welcome to the Goosehead Insurance Second Quarter 2020 Earnings Call. [Operator Instructions] And the conference is being recorded. [Operator Instructions]

I would now like to turn the conference over to Dan Farrell, VP, Capital Markets. Please go ahead.

[Dan Farrell, executive]

Thank you, and good afternoon. With us today are Mark Jones, Chairman and Chief Executive Officer of Goosehead; Michael Colby, President and Chief Operating Officer; and Mark Colby, Chief Financial Officer.

By now, everyone should have access to our earnings announcement, which was released prior to this call, which may also be found on our website at ir.gooseheadinsurance.com.

Before we begin our formal remarks, I need to remind everyone that part of our discussion today may include forward-looking statements, which are based on the expectations, estimates and projections of management as of today. The forward-looking statements in our discussion are subject to various assumptions, risks, uncertainties and other factors that are difficult to predict, and which could cause actual results to differ materially from those expressed or implied in the forward-looking statements. These statements are not guarantees of future performance, and therefore, undue reliance should not be placed upon them. We refer all of you to our recent filings with the SEC for a more detailed discussion of the risks and uncertainties that could impact the future operating results and financial condition of Goosehead Insurance. We disclaim any intention or obligation to update or revise any forward-looking statements, except to the extent required by applicable law.

I would also like to point out that during this call, we will discuss certain financial measures that are not prepared in accordance with GAAP. Management uses these non-GAAP financial measures when planning, monitoring and evaluating our performance. We consider these non-GAAP financial measures to be useful metrics for management and investors to facilitate operating performance comparisons from period-to-period by excluding potential differences caused by variations in capital structure, tax position, depreciation, amortization and certain other items that we believe are not representative of our core business. For more information regarding our use of non-GAAP financial measures, including reconciliations of these measures to the most comparable GAAP financial measures, we refer you to today's earnings release.

In addition, this call is being webcast. An archived version will be available shortly after the call ends on the Investor Relations portion of the company's website at www.gooseheadinsurance.com. With that, I'd like to turn the call over to CEO, Mark Jones.

[Mark Jones, executive]

Thanks, Dan, and welcome to our second quarter 2020 earnings call. I'll provide an overview of our results for the quarter as well as our strategy and outlook for the full year. I'll then hand it over to Mike Colby, our President and Chief Operating Officer, to update you on some of our technology and human capital investments as well as an update on actions around COVID-19. Our CFO, Mark Colby, will then go into greater detail on our second quarter results and outlook.

Before reviewing our results for the second quarter, I would like to share our business philosophy. Adherence to this philosophy has allowed us to deliver exceptional results even during a global pandemic. One, we view and manage the business through the lens of long term owners. Every member of our senior management team has the vast majority of their net worth tied up in Goosehead stock. We think like long-term owners because we are long-term owners and are deeply committed to reaching our collective full potential, which is achieving market leadership during my lifetime. All of our decisions are geared to create value over the long-term and drive toward our full potential. Number two, we are successful because we create value for others, which means we are maniacally externally focused. This external focus has been particularly powerful while the world grapples with COVID-19. While others were wringing their hands with worry and experiencing paralysis to a greater or lesser degree, we were in the market, making things happen, and our results are a testament to this. And three, our business was built with the client at the center of our universe, and we are heavily tech-enabled. The guiding objectives for our technology investments are creating a better experience for each of our clients, which includes consumers, agents and our business partners. This is a very different approach than we see with so many companies who start with technology, then try to find a use for it. And by the way, when you're a hammer, everything looks like a nail.

Our tech investments are focused, disciplined and economically rational. And they incorporate input from all levels of our organization, all people connected to the market. Our approach produces strong sustained organic growth with a highly retentive book of business, leverages our human capital and drives actual profitability. Our investments are very powerful and follow the immutable law of a free market: that you always start with the client.

Now let me turn to our second quarter results. I'm very pleased with our exceptional second quarter, wherein, we continue to demonstrate Goosehead's differentiated platform and strengthen and extend our formidable, competitive moat. We made tremendous progress in a number of areas, which position us well for future success. First, and perhaps most importantly, our recruiting team has been playing aggressive offense adding a significant amount of high-quality talent to our organization, with Corporate sales agent headcount and total franchise count growing 49% and 48% over the prior year, respectively. Additionally, we continued to expand our referral partner network and rolled out new proprietary technology to improve the client and agent experiences.

During these unprecedented times, we remained laser-focused on best practices, which drive our high level of client service, improve the overall productivity of both our sales agents and back-office functions and allow us to achieve full share of wallet with our clients. I'm extremely proud of our ability to deliver these accomplishments in an almost entirely virtual operating environment during the quarter. Our whole organization is relentlessly externally focused on our clients and business partners, utilizing our industry-leading tools and technology to demonstrate that Goosehead is a reliable and stable agency partner regardless of economic turbulence and uncertainty. The benefits of these efforts are most evident in our continued strong premium growth, a key leading indicator of future revenue growth. Total premiums placed were $274 million, an increase of 41% versus the second quarter of 2019, driven by strong new business growth and continued high levels of retention. Approximately 70% of our second quarter premiums were in the Franchise Channel compared to 67% a year ago. As our mix of business continues to shift more to the Franchise Channel, it is important to keep in mind how premiums convert to revenue. In the Franchise Channel, we earn 20% royalties on the first term of a policy and 50% on renewal terms. Given our 88% client retention rate, we see approximately 120% mechanical revenue growth as a policy converts from new to renewal. So strong premium growth today spring-loads strong revenue growth tomorrow.

Our revenue growth during the quarter was a result of our efforts over the past several years. During the quarter, revenues were $29.9 million, up 54%, while core revenue increased 41%. We achieved this impressive organic top line growth while delivering EBITDA of $9.8 million in the quarter and expanding our EBITDA margin to 33%. We ended the quarter with 1,132 total franchises, an increase of 48% from the year ago quarter, while operating franchises increased 36% to 730. We experienced a record number of signed agencies in the quarter, and our significant pipeline of signed and operating franchises with less than 1 year of experience bodes well for future growth. Franchises with 2 or more years of experience currently account for only 41% of total franchises, but represented 96% of our royalty revenue last year. We expect that our new franchises will fuel powerful growth for many years to come.

Sales agent count in the Corporate Channel at the end of the quarter was 317, up 49% versus the year ago period. The net increase of 76 Corporate agents represented a record number of added agents in a quarter, a truly remarkable feat under the circumstances. During the quarter, we also opened offices in Charlotte, North Carolina and Houston, Texas, that being our third office in the Metro-Houston area and began planning for a Denver, Colorado office. The growth and expanded footprint of our Corporate Channel plays a significant role in driving growth and profitability in the Franchise Channel. The Corporate Channel is a testing ground for new technology and development of best practices as well as training and mentoring resources for the Franchise Channel.

Last year, we highlighted the initial success of our virtual sales coaching pilot program and have continued to expand this effort through the first 6 months of 2020, helping drive a 32% increase in productivity among Franchise participants. We continue to manage the Corporate and Franchise Channels as one integrated whole. Efforts and investments in the Corporate Channel are integral to our overall success as an organization. In addition to strong agent recruiting in the quarter, we have added impactful talent across the broader organization. Our recruiting team currently stands at 83 compared to 60 individuals at the end of 2019.

Over the last year, we have more than doubled our information systems development team, which is enabling significant progress on our technology innovation road map. Our service team transitioned seamlessly to a virtual environment and are continuing to provide unrivaled service to our clients. Over 35% of our clients are now using our online client portal, which was implemented in the fourth quarter of 2019. The combination of the online portal with our world-class service team is having a meaningful positive impact on the overall insurance buying and service experience as clients on the portal show an average Net Promoter Score of 94. As a reminder, our Net Promoter Scores are higher than any company that we've been able to identify, while our costs to deliver this extraordinary level of service are roughly 1/4 of industry best practice.

Additional investments we're making to our proprietary Comparative Rater platform and further carrier integration projects will continue to enhance the overall client and agent experience going forward and strengthen our competitive advantage. Mike will provide you with more detail on our current technology platform and innovation efforts in his remarks.

Based on the results of the first half of 2020 and strong ongoing momentum, we are raising guidance for the year, the details of which Mark Colby will cover in his section. We're also announcing at this time a special dividend, which Mark, again, will detail.

I'm extremely excited about the future prospects for our business. We are staying on offense, and we'll continue making the important investments in people and technology needed to continue our industry-leading organic growth and grab share of the enormous addressable personal lines market.

I want to thank our entire Goosehead team for the incredible efforts over the first half of 2020 that have enabled us to deliver for our clients, our referral partners and our shareholders.

And with that, I'll turn the call over to Mike Colby.

[Michael Colby, executive]

Thanks, Mark, and hello to everyone on the call. Over the first half of 2020, we've continued to see our strategy surrounding technology investment create substantial competitive advantage for our business. This was demonstrated in several key areas. One, our seamless transition to a virtual operating environment in response to the COVID-19 pandemic; two, the continued progress on our technology development road map; and three, new talent acquisition within our development team.

I'll elaborate on these 3 areas. First, our response to the COVID-19 pandemic. As mentioned on our first quarter earnings call, we transitioned all operations to a virtual environment in mid-March. This includes all marketing and business development efforts, new business sales activity, client service and back-office functions and recruiting and onboarding efforts for new corporate employees and new franchise partners. As of this date, our team continues to operate in this virtual environment and we continue to see strong performance results across the entire business. Our team has delivered or outperformed our internal expectations for all key performance indicators set at the beginning of the year, including agent recruiting and onboarding in both channels, new business sales productivity and client retention.

Additionally, we've been able to meet or exceed our expectations on qualitative metrics such as NPS and cross-selling percentages. This is a testament to our remarkably talented and agile team and the years of investment in technology infrastructure, such as our cloud-based voice solution and our referral partner marketing tool, which provides complete business continuity. We're very proud to be a stable employer to our team, partner to our agents and referral sources and service provider to our clients during this time of crisis. We look forward to bringing our team back together in our offices when it's safe to do so and will continue to follow CDC recommendations and government requirements.

Next, we have continued to make strong progress on our technology development road map, uninterrupted by the current environment. As we've discussed, our technology investment strategy is focused on improving the tools we provide to our agents that allow them to compete effectively in the market, improving the way in which we engage our clients and the experience we provide to them and creating margin opportunity by driving efficiency across the business.

Over the course of this year, we've continued to build the foundational components that will allow us to provide a complete quote-to-issue experience to our agents and to our clients directly online. This includes progress on development efforts on our platform and carrier integration efforts required to accomplish this last mile integration. We've also made big enhancements to our comparative rating tool to provide agents with a more simple and intuitive experience and additional product lines, such as flood insurance and property insurance for landlords. Early results from the deployment of flood insurance rating capabilities and new omnichannel client engagement opportunities have been very encouraging, with flood insurance policy sales up 65% this year. As a reminder, creating a more streamlined flood insurance rating process allows us to provide this important coverage to more of our clients, but also provide substantial retention advantages.

Over the course of the year, we've rolled out our client-facing portal to over 35% of our clients and have made enhancements that make the portal more intuitive for the user. Additionally, we've made progress on back-end carrier integrations that allow us to provide more robust self-service capabilities. This is an important effort that allows us to engage our clients on their terms and provide an enhanced purchase and service experience. As Mark mentioned earlier, our NPS is 94 for clients engaging on the portal.

One of the more important areas of development that should not be overlooked are the smaller enhancements we make throughout the year, which are overwhelmingly based on feedback from agents and clients. While there's not one of these enhancements that is material to the overall user experience, the cumulative effect is very powerful. Through multiple version releases this year, we've already rolled out close to 2,000 new features and enhancements to our technology platform. Lastly, we've made accelerated investments in our technology development team, having grown the size of the team by 160% over the prior 12 months. The current employment environment has created opportunities for us to play offense and further enhance our development capabilities with the addition of new high-quality developer talent.

And I'd like to echo Mark's sentiment and thank our entire team for demonstrating their commitment to excellence, adaptability and courage in the face of uncertainty. They have delivered extraordinary results in the most challenging environment, and we couldn't be more proud of them. Our team remains enthusiastically committed to our goal of industry leadership and have demonstrated that their capabilities remain unmatched in our space.

With that, I'll turn the call over to Mark Colby to provide color on our financial performance.

[Mark Colby, executive]

Thanks, Mike, and good afternoon to everyone on the call. For comparability purposes, my comments on our second quarter 2020 results will be discussed against the second quarter 2019, as if recognized under ASC 605. A reconciliation of ASC 606 accounting to ASC 605 accounting for 2020 has been provided as a supplemental schedule in our earnings release.

For the second quarter of 2020, total written premiums, an important leading indicator of our future core and ancillary revenue growth, increased 41% to $274 million. This included Franchise premium growth of 47% to $191 million and Corporate segment premium growth of 29% to $83 million. This growth is being driven by continued high retention rates, strong new business generation and increasing agent productivity in the Franchise Channel. The continued shift in our mix of business towards the faster-growing Franchise Channel implies significant embedded future revenue growth as new business premiums convert to renewal premiums after year 1, at which time, our royalty fees increased from 20% to 50% for ongoing renewals.

At quarter end, we had over 590,000 policies in force, a 45% increase from 1 year ago. Our consistent and rapid year-over-year growth in both premiums and policies positions us well for long-term success.

Revenues were $29.9 million for the quarter compared to $19.4 million in the prior year period, an increase of 54%. If Q2 2020 was reported under ASC 605, revenues grew 42% to $27.6 million and core revenues increased 41% to $24.8 million. During the second quarter, our Franchise Channel generated core revenues of $10.4 million, if reported under ASC 605, an increase of 51% from 1 year ago, with the results driven by continued strong growth in new business and renewal royalty fees from an increase in operating franchises, combined with higher productivity plus sustained high levels of retention.

At the end of the second quarter, we had 1,132 total franchises, up 48% from the prior year and 730 operating franchises, up 36% from a year ago. We've continued to build on our strategy of national expansion within this channel. Non-Texas franchises now represent 72% of our total operating franchises compared to 62% a year ago. We are continuing to grow our recruiting team, which currently stands at 83, and our Franchise pipeline remains very strong. Our value proposition also continues to resonate with franchise candidates from outside the insurance industry. We will continue to invest in the growth of our recruiting team and are excited to take advantage of our momentum to further assist our planned growth.

If reported under ASC 605, Corporate Channel core revenues were $14.4 million in the second quarter, an increase of 35% from the year ago period, driven by an increase in agents and continued high levels of retention. Corporate sales headcount at the end of the second quarter was 317, an increase of 49% from the year ago quarter. As a reminder, because of our college recruiting for the Corporate Channel, the summer months are historically our largest for Corporate sales onboarding, and COVID has had little impact on our ability to successfully recruit and onboard large volumes of exceptional candidates. For example, our June corporate agent class, who trained virtually, set a record for the most revenue per agent during their training month. We also continue to invest in the success of our Franchise agents via our Corporate agents through our virtual sales coach program. As Mark mentioned, our Corporate agents, virtually coaching franchisees helped drive a 32% increase in productivity among Franchise participants. This is a highly leveraged area of investment, not only for productivity gains, but for the retention impacts from both our franchisees being more successful and our Corporate agents having additional coaching opportunities leading to attractive career paths in management.

Adjusted EBITDA for the quarter was $9.8 million compared to $4.7 million in the prior year. If reported under ASC 605, adjusted EBITDA was $7.3 million, an increase of 56% versus the year ago quarter with growth being driven by strong core revenue, higher contingent commissions and margin improvement. As a reminder, our business has natural operating leverage and should continue to see gradual margin improvement over the longer term, but we do not manage the business on short-term quarterly basis. We focus on maximizing profits over the long term, and we are continuing to make investments for future growth that will have a moderating impact on near-term margin growth.

As of June 30, 2020, the company had cash and cash equivalents of $54.3 million and an unused line of credit of $19.7 million. In June, the company drew down the remaining balance of $37.9 million on its term loan payable, bringing the outstanding term note payable balance to $79.5 million as of June 30, 2020.

Today, our Board of Directors approved a special cash dividend totaling $42 million or $1.15 per share, which will be paid on August 24, 2020, to all holders of record as of the close of business on August 10, 2020.

Based on the strength of our results through the first half of the year and the confidence in our business platform, we are raising our full year 2020 outlook with respect to total written premiums and revenue. Total written premiums placed for 2020 are now expected to be between $1 billion and $1.05 billion, representing organic growth of 35% on the low end of the range and 42% on the high end of the range. Total revenues for 2020 under ASC 606 revenue accounting are expected to be between $104 million and $109 million, representing organic growth of 34% on the low end of the range and 41% on the high end of the range.

As a reminder, unlike most companies, our guidance remains an estimate of actual results we believe we will deliver, as opposed to an overly conservative estimate that can be easily achieved. We are pleased with the current trends in our business, and we believe we remain well positioned to deliver consistent and sizable growth, even during times of economic uncertainty. We will continue to closely monitor the COVID situation and any impacts it may have on our business, and we will provide an update if necessary.

With that, I would like to thank everyone for listening, and we will now open up the lines for Q&A. Operator?

[Operator]

[Operator Instructions] Our first question is from Mark Dwelle with RBC Capital Markets.

[Mark Dwelle, analyst]

The first question that I had, really just kind of a general business condition question. Obviously, the second quarter was one that was constrained by recession and other considerations. Are you seeing anything in customer behavior in terms of changing policies or cancellation of policies that might have had a factor in the quarter?

[Michael Colby, executive]

Mark, this is Mike Colby. No, we haven't seen any change in consumer behavior that's notable. I think the rebate -- premium rebates that a lot of the carriers, really all of the big national carriers, are doing are helping with that and helping keep those policies in force and providing some type of relief to customers who need it. So we haven't seen the change in behavior. I think the early part of the quarter, we did see some housing activity decline, which really honestly rebounded for us in May and June as we look at our lead flow per agent. So we've -- and I think it's also worth reminding the group. Our market share is so small in terms of total premiums in the U.S., but also in kind of our involvement in new home sales. So in a situation where you do see a dramatic and sudden decline in housing activity, we have the data. We have the tools to where we can refocus our efforts on activating new relationships, backfilling that lead flow. And that's definitely what we saw taking place in the early part of the quarter, which led to really good momentum into the back half of the quarter and into the new quarter.

[Mark Dwelle, analyst]

That's helpful. You actually anticipated one of my other questions related to just the housing market in general. Turning over to the -- you discussed at some length, some of the technology initiatives. Just as you accelerate the IT program there, is that anything -- is there any contemplated charge or uptick in expense or that -- you'll absorb that just within the ordinary growth of the business over the near term?

[Mark Colby, executive]

Yes, there is an uptick in expense, but as opposed to our total revenue and how fast it's growing, it won't be like a big step function increase in our technology spend...

[Mark Jones, executive]

It's proportional, isn't it?

[Mark Colby, executive]

Proportional to the revenue and we're making these investments, either through technology consultants and programmers that we're hiring or internal developers that we've started to make a big push towards hiring. So in most cases, both of them, we run through our P&L immediately. So again, I don't expect any kind of huge step function increase. It's kind of normal course of business for us to continue these investments and continue to up our spend each year.

[Mark Jones, executive]

The environment that's created a -- sorry, Mark, yes, the environment has created some opportunities for us to pick up some really high-quality talent. So we're fortunate to be in a position to play offense and take advantage of those opportunities as they arose.

[Mark Dwelle, analyst]

Definitely makes sense. And then I guess in a somewhat similar context, were there any particular expense savings in the quarter associated with perhaps reduced travel and entertainment or other things related to just the change in the work environment over the course of the quarter?

[Mark Colby, executive]

We definitely saw some kind of more reallocation of where we spend, where we didn't have any travel during the quarter, right. No mileage expenses from our employees going out and visiting shops. No flights from our Franchise sales team going to meeting with potential agents. All that was done virtually during the quarter. However, rather than just taking that and accepting it, we repurposed that to certain incentives for our service team to increase cross-selling and referral generation and those sorts of things. So we wanted to reinvest that where we thought it would be useful, and we definitely saw some good results.

[Michael Colby, executive]

Yes. Primarily around incentives to keep people engaged, Mark, that working virtually, it's very important that we're doing things to keep people engaged throughout the weeks, the months of the quarter, and that's where we really repurposed that spend.

[Operator]

[Operator Instructions] The next question is from Meyer Shields with KBW.

[Meyer Shields, analyst]

Can you hear me?

[Mark Jones, executive]

Yes.

[Meyer Shields, analyst]

Two quick numbers question and then a couple of bigger picture issues. The equity base compensation stepped up in the quarter. Is that a function of any of the other line items in terms of growth or recruitment?

[Mark Colby, executive]

No, no. How we think about those stock options, we awarded some stock options at the IPO to our Managing Director team. And the idea there was that it's not going to be something that we award every year. It's kind of every 2 years when we reevaluate. As those start to vest, we want to extend the time out of the vesting schedules for the new options to keep people motivated to keep them here, keep them driving. We think it's a great tool. I mean, it's the whole reason we went public is to award those type of opportunities to our folks. And so that's what it was. It's just kind of a re-up of the stock options for our Managing Director team.

[Meyer Shields, analyst]

Okay. So we should go back to preceding levels for the next 2 quarters?

[Mark Colby, executive]

No, no. It will be at this level for -- in perpetuity until we award some more.

[Meyer Shields, analyst]

Okay. So this is the equivalent of the quarterly, right?

[Mark Jones, executive]

We expense quarterly. We take the Black-Scholes valuation, expense it quarterly over the vesting period, right.

[Meyer Shields, analyst]

Got it. Okay. That was helpful. Also Contingent Commission. I know they could be tough to predict. But should we look at that as a function of current quarter profitability or preceding year?

[Mark Colby, executive]

Yes. So we've talked in the past from a quarterly perspective of how we think about Contingent Commissions. And if you would have asked me 3 months ago, I wouldn't have expected to book a lot of Contingent Commissions this quarter. However, the data we've been getting from the carriers on the Contingent Commissions that are loss ratio driven has been so positive that we felt very comfortable booking something in Q2 and still being very conservative on those Contingent Commissions. And so yes, 606, we're really obligated to. But I would say, in any normal year, I wouldn't expect a ton of Contingent Commissions in Q2, but I think a lot of it is due to COVID. People aren't driving, our auto loss ratios are looking very good. And so we decided to book some Contingent Commissions in Q2. And now we expect some positive results as we continue throughout the year. But we'll keep you guys updated if anything changes.

[Meyer Shields, analyst]

Okay. Fantastic. And then I wanted to dig a little bit into recruiting of agents that come from other industries. In terms of -- I'm trying to think of the right way to ask this question. What are you learning from them? How is their performance different from the legacy agent side?

[Michael Colby, executive]

Yes. Meyer, this is Mike. You're presented with a different set of challenges when you're recruiting from outside the industry. But candidly, I think teaching the insurance components, the fundamentals, that's the easy part. So what I see as the opportunity in a lot of these kind of outside of the industry recruits is that these folks come in and they don't have bad habits that they need to unwind. And they're really more apt to really embrace the system in its totality and be a lot more coachable. Whereas, if you're working out the bad habits, if you're really having to change the way you've done business for a decade, it's a slower -- I think a slower process to really getting burnt into our system and fully adopting the tools that we make available. So we look at that as a very encouraging opportunity for us. And it really does broaden our talent pool as well, outside of just the traditional agents.

[Meyer Shields, analyst]

Okay. On a month-to-month basis, is there any, I don't know -- I don't have a great read on like individual regions and economic growth or shutdowns. But are you seeing any difference on a month-to-month basis in terms of people that are available?

[Michael Colby, executive]

I'm sorry, as far as recruiting candidates in the different regions?

[Meyer Shields, analyst]

Yes.

[Michael Colby, executive]

No. I mean, our growth would be -- really would be a function of where are the recruiters focused. And we're not seeing any one region, any recruiter in one region be disadvantaged compared to a recruiter in another region. I mean, we're seeing a healthy recruiting pool across the country.

[Operator]

This concludes today's question-and-answer session. I'd now like to turn the conference back over to Mark Jones for any closing remarks.

[Mark Jones, executive]

We'd just like to thank everybody for participating with us. And I hope you have rest good day. Good rest of the day. Thanks.

[Operator]

This concludes today's conference call. Thank you for participating, and have a pleasant day.