State National Companies said that fee income earned from its fronting relationship with Nephila Capital totaled $1.9m in the first-quarter of 2015, a number expected to grow throughout the rest of the year as the program ramps up.
State National, a provider of program services and fronting facilities for insurance, reinsurance and ILS capital players, has been working with Nephila Capital since the second half of 2014, helping the ILS manager to deploy its reinsurance capacity through the firm’s admitted carriers which have ‘A’ ratings across 50 U.S. states.
The relationship benefits both parties, with State National earnings ceding fees for providing risk capital providers with more direct access to primary insurance business, where they provide the efficient reinsurance capital to back the underwriting of risks.
Nephila Capital, the world’s largest insurance linked securities and catastrophe risk investment manager with approximately $10 billion under management, has an arrangement with State National which underwrites property insurance business on its rated paper, while Nephila’s third-party sourced capital provides reinsurance to back the risks underwritten.
Under the current arrangement between the two parties, Nephila has the exclusive right to work with State National’s program services unit on property insurance risks in catastrophe zones during 2015 and 2016.
The fronting relationship allows Nephila to get closer to risks it may not have been able to access so easily. And, as the deal has an element of exclusivity to it, provides the ILS manager with a source of underwriting growth that it does not have to compete for at renewal time and which its competitors will find hard to access.
In the first-quarter of 2015 State National reports growth in its Program Services segment, where the fronting income is reported, with its relationship with Nephila one of the reasons. Q1 revenue from Program Services reached $14.1m, which is up $4.2m or 42.4%, from the first quarter of 2014.
The growth was driven by increases from two existing programs as well as $1.9m earned from the relationship with Nephila Capital, which is likely among the biggest programs for State National now. The $1.9m of fees consists of premium related fees of $0.6m and capacity fees of $1.3m.
Over the full-year 2015 State National projects that it will earn $55m to $60m in ceding fees from its fronting and program services business. The relationship with Nephila Capital alone is expected to earn the firm fee income amounting to as much as $13m for the year.
State National commented; “Increased capital in the property and casualty insurance market, including the increased role of alternative capital markets in reinsurance, and the growth of offshore markets generally should drive demand for our services, as many of these firms do not have direct access to the U.S. market.”
The agreement with Nephila is expected to result in the production of as much as $300m of premiums in 2015 and $400m in 2016, from which State National will earn fees. Meanwhile Nephila Capital can flow the premiums through to its range of ILS investment strategies, providing a valuable source of additional property catastrophe risks.
Commenting on the quarter, State National President & CEO Terry Ledbetter, commented; “We are excited to announce significant growth in the first quarter with adjusted net income increasing 78 percent, driven by growth in premiums earned in Lender Services and ceding fees in Program Services. We are optimistic about the positive trends in our business and are maintaining our 2015 growth outlook in both our Program and Lender Services segments.
“At State National, we simplify and expand access to insurance coverage for our clients and capacity providers. In Lender Services, we provide high quality service and advanced technology to create process efficiency for our customers. In Program Services, we provide fronting services that leverage our “A” (Excellent) A.M. Best rating with our expansive licenses and trusted reputation to provide access to the U.S. property and casualty insurance market in exchange for a ceding fee. The growth in both business segments is the direct result of our reputation as a trusted provider of customized insurance solutions and our ability to deliver superior customer service through quality programs.”
Fronting and the provision of program services to reinsurance and risk capital providers is currently an attractive business model, with a number of start-ups looking to get into the space. Specifically, there is a desire to help alternative capital and ILS managers access insurance risks more directly, which can also remove certain steps from the insurance to reinsurance pipeline, making the process more efficient.
It’s likely to be an area of focus for the larger ILS managers looking for growth opportunities. As a result providers of fronting services or programs who can help ILS players to access insurance risk more directly will likely find themselves in demand over the coming years, as State National expects.