Goosehead Insurance, Inc (NASDAQ:GSHD) Q1 2024 Earnings Call Transcript April 24, 2024
Goosehead Insurance, Inc beats earnings expectations. Reported EPS is $0.28, expectations were $0.22. Goosehead Insurance, Inc isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good day and thank you for standing by. Welcome to the Goosehead Insurance First Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator instructions]. Please be advised that today’s conference is being recorded. I’d now like to hand the conference over to Dan Farrell, Vice President, Capital Markets. Please go ahead.
Dan Farrell: Thank you and good afternoon. 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 the management as of today. 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 you all to our recent SEC filings for more detailed discussion of risks and uncertainties that could impact future operating results and financial condition of Goosehead.
We disclaim any intention or obligation to update and revise any forward-looking statements except to the extent required by actual law. I would also like to point out that during the 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 period to period by including 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 the use of non-GAAP financial measures, including reconciliations of these measures to the most recent 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 @goosehead.com. Now I would like to turn the call over to our chairman and CEO, Mark Jones.
Mark Jones: Thanks, Dan, and welcome everyone to our first quarter call. I’m very pleased with the progress we have made toward our goals. Personal line’s insurance distribution is a quintessential long-tail business. I tell people all the time that it is not a get-rich-quick business. It’s a get-rich-over-time-but-stay-rich business. Driving substantive change in our company generally takes many quarters to achieve, but those changes, when made, tend to be very sticky and sustained. I am pleased to report that our hard work over the last year and a half bore more fruit in the first quarter. Franchise producer headcount has begun growing again. We ended the quarter with 1963 producers. Our recruitment efforts to support franchisees that want to add producers are going extremely well, with a total of 168 producers being placed in existing agencies during Q1.
As a reminder, when an agency adds a new producer, on average, it improves the productivity of everyone in that agency. So helping our franchise partners add producers remains an incredibly long lever for us and an important area of focus. Our focus on enhancing the quality of our producers is also driving very large productivity gains. First-year franchise productivity is up 86% year-over-year, but the gains are not limited to that cohort. Our existing franchises have delivered 19% same-store sales growth in the first quarter, on the heels of 23% same-store sales growth in the fourth quarter. Our franchise network currently accounts for 78% of our premium volume, so productivity gains here can really move the growth and earnings needles over time.
We’re also proud to have continued to deliver strong margins through smart cost discipline and maniacal focus on productivity. We believe all of these enhancements to be structural and will benefit our business for years to come. As I prepare to hand off the CEO role to Mark Miller, I’m very happy with the capabilities of our senior team and the way they are working so effectively together. While we’re excited for these wins, in the short term, we’re facing some temporary headwinds. We are operating in the hardest insurance market and macro environment we’ve experienced in our 20-plus years in business. That being said, we know that insurance is a market that cycles between hard and soft, and these cycles impact product pricing and availability with derivative impacts on client retention.
Historically, hard market cycles last two to four years. Our current cycle has been amplified by the COVID black swan event. But we have reason for optimism as carriers report gains in profitability, resulting from rate increases to cover inflation’s impact on claims costs, as well as product rationalization. When even California’s insurance regulators allow carriers to price more rationally, you know that the first steps toward market normalcy are close at hand. An example of how this can affect our business, in March, we saw same-store sales increases of 107% in California. There’s a positive to the temporary market challenges we face in strengthening the long-term health of our business, because we have been forced to level up our game, enhancing and hardening our skills, and adding to our competitive arsenal.
We are seeing very temporary challenges in our retention rates, but are highly confident we will return to our historically high retention as we progress through the current market cycle. While we navigate the current environment, we’re committed to continuing to deliver on our earnings growth through aggressive cost management and careful scrutiny on where we invest the dollar of our capital in an hour of our time. Our smartest shareholders, and these are the bulk of our largest investors, understand the dynamics of our business, our structural improvements, and our transitory challenges. They invest for the long term, and know these temporary headwinds will have a trivial impact on our long-term results. I’m pleased to announce that our board of directors has authorized a substantial stock buyback plan, which we will utilize as we seek to take advantage of market dislocations.
You’ll hear more about this later on in the call. I believe we are better positioned today to deliver on our long-term goal, which is becoming the largest distributor of purse-lined insurance in the United States during my lifetime than we have ever been in our company’s history. We will continue to remain maniacally focused on what we do best, deliver world-class service for our clients, deliver the best agent experience, and bring the most favorable and attractive client risks available to underwriters at our carrier partners. Thank you to our team for delivering on another successful quarter. And with that, I will turn the call over to our president and chief operating officer, Mark Miller.
Mark Miller: Thanks, Mark, and good afternoon, everyone. To summarize operations in Q1, I’ll provide updates on three key areas, franchise productivity, commission retention, and producer headcount. First, let’s dive into franchise productivity. The franchise network now accounts for 87% of our total agent count and 80% of new business production. After a 30% increase in franchise productivity in Q4 2023, we saw an even stronger 42% increase in Q1 of 2024. This improvement was led by an 86% increase in our less-than-one-year franchises. We know first-year productivity strongly correlates to long-term franchise success, so we believe our newer vintage franchises will perform very well for many years to come. We have had relentless focus on quality over quantity for the past year, targeting candidates with the desire and strong skill set to grow a scaling multi-agent business.
We’re starting to see signs this strategy is bearing fruit. As we continue to launch higher quality and faster ramping new franchises. If you dive into what’s driving the increased productivity, it’s primarily an increase in the number of referral partner leads per agent. With the challenging insurance environment putting downward pressure on close rates, the only solution to drive productivity is to get more leads. And the best way to do that is by marketing to referral partners. Going into Q4, we doubled down on our referral partner marketing strategy. These efforts take time, and they had some impact on Q4. But they are the primary driver of Q1 productivity growth. As a reminder, our agents have access to an exclusive tool that shows them the production data of every loan originator in America.
These mortgage professionals all have an insurance agent they refer clients to, but many are frustrated with that experience. Some refer business to a captive agent who only has one offering and may not be competitive. Others refer to an independent agent, but they’re frustrated by the turnaround time on proof of insurance, which can cause closing delays. Goosehead agents offer more value to these referral partners than any other agent in the industry. Our value centers on three components. Choice, we have the most robust product offering in the industry to make sure we find clients the right coverage at the right price. Speed, we have a service team dedicated to servicing these referral partners, which means we can get them proof of insurance in under an hour.
Partnership, our local agents will partner with loan officers to market to realtors and generate more business. The challenging home insurance environment and higher interest rates have made our value proposition to these referral partners more pronounced than ever. We’re also providing more support and training to our agents on executing this strategy than ever before. For example, over the past two quarters, we have been sending out sales leaders into the field to go execute on half-day referral partner visits with our agents. After one of these field visits, we generally see a greater than 75% lift in the number of referral partner leads that agent gets over the following month. In Q1, we saw a 27% year-over-year improvement in the number of referral partner activations.
This was the best quarter on record. We believe these investments will allow us to sustain high levels of productivity for years to come. What’s more exciting is that as the housing market improves, these new referral partners will send a higher volume of leads to our agents. And as the insurance market improves, our agents will close those leads at higher rates, leading to increased productivity. We are incredibly encouraged by the trends in the franchise productivity. As a reminder, these productivity gains do not immediately materialize on a revenue line. They will, however, boost revenue as policies renew in the second year as royalties contractually go from 20% to 50%. Second, let’s dive into commission retention. Because of a combination of inflation, higher reinsurance costs, and unprecedented weather activity, insurance underwriters experience some of the worst results on record in 2022 and 2023.
To fix that, carriers have taken aggressive price increases, changed underwriting guidelines, and decided to not renew many policies. Nowhere is this more pronounced than Texas homeowners insurance, our largest concentration of clients. Texas homeowners insurance went up over 20% in 2023, over twice the national average rate. These rate increases have led to unprecedented shopping activity. In addition, in Texas, there are a few large captive carriers who haven’t raised rates as aggressively and are losing billions of dollars. These losses are not sustainable, but the increased shopping activity and mispriced captives have led to a decrease in client retention. In addition, two carriers who have been under extreme financial distress significantly lowered commission rates, which is having a near-term negative impact on our commission retention.
Importantly, the carriers who are truly partners, such as Progressive, SageShare, Safeco, and Mercury, among many others, have taken a long-term view and not impacted commissions at all. These carriers know that agents have a long-term memory, and they want to maintain a great reputation so that they can start growing again when the time is right. The good news is we see no impediment to being able to get back to our historic retention levels as the market heals. Texas is generally a more flexible state that will allow insurance carriers to make the changes they need in order to open back up for business. Many carriers are moving to higher deductibles and depreciable roof schedules to create a product where they can be profitable. As our carrier partners open back up and the captive carriers raise rates, we believe our retention will go back to 89% plus.
Third, let’s dive into producer headcount growth. We continue to believe that helping our existing franchises add producers is one of the longest levers in our business. Helping source a new producer for an existing franchise provides incredible value to our franchises and is very low cost for us. Every new producer added to a high-performing franchise is the equivalent of launching almost two new franchises. Additionally, when a new producer is added, we see productivity of everyone else in the franchise increase. Our scaling franchises added 168 producers in the quarter through a combination of our corporate recruiting program and their own sourcing efforts. Producers per franchise ended the quarter at 1.7 compared to 1.6 in Q4 and 1.51 a year ago.
Our team dedicated to recruiting franchise producers now totals 17 and we expect this team to help us add several hundred more producers to the franchise network this year. As a result, we believe overall franchise producer count will grow from current levels and we will see an increasing number of agents per franchise. Franchise producers ended the quarter at 1,963 up from 1,957 in the fourth quarter. This represents the first sequential producer growth in the last six quarters. One great example of an agency adding agents quickly is the Gary Miller agency out of Flowery Branch, Georgia. Gary, who’s no relation to me, launched back in March of 2020 and he has been a part of our agency staffing program since inception. Gary has hired six producers in his agency as a result.
He has had great success utilizing this program, particularly with the producer Zach Miller-Hogg. Over the quarter, Zach produced approximately $15,000 in new business revenue per month, which is around 2.6 times higher than the average producer in Georgia. We will continue to assist Gary in recruiting top talent to his agency as his hiring needs continue. On corporate, we’ve had tremendous success with college recruiting and have locked in the majority of signings for our summer class. We expect to end the year with at least 375 corporate agents. Many of these agents view their time at corporate as a paid apprenticeship. They come in for a few years, learn to be an expert at their craft, develop a large referral partner network, gain leadership experience, and then go launch a franchise.
This opportunity is allowing us to attract higher caliber talent than ever before. One example of this is Noah Taxman. Noah joined our Denver corporate office in August after graduating from the University of Denver. He immediately found success activating new referral partner relationships and started generating over $20,000 per month in revenue within three months. Now Noah is in his seventh month, and he is now generating over $30,000 per month in revenue and continuing to grow. Noah will likely earn over $175,000 in his first year out of college, and he will have many compelling goosehead career options in the future. This opportunity is unrivaled on campus, and we continue to recruit top talent to join an industry that has historically struggled to do so.
Recruiting this level of talent and then launching them into franchises remains one of our largest competitive advantages. We will continue to capitalize on this strategy and grow our corporate team up to our absorptive capacity. To summarize, in Q1, we created structural changes that are here to stay. We’re incredibly excited about the gains in franchise productivity and headcount growth. We know the market headwinds will eventually abate, and when they do, we believe we are perfectly positioned to rapidly re-accelerate revenue growth. We’re extraordinarily confident we have the right strategy and the right team to execute our long-term vision of becoming the largest distributor of personalized insurance in our founders’ lifetime. With that, I will turn the call over to Mark Jones, Jr. to give more color on our financial results.
Mark Jones Jr.: Thanks, Mark, and good afternoon to everyone on the call. In the first quarter of 2024, we began our growth re-acceleration phrase. Total revenue, core revenue, new business premium growth, and franchise producer count all accelerated sequentially over the fourth quarter of 2023. On top of that, we generated more cash than in the first quarter in any year in our company’s history. We have placed a tremendous amount of scrutiny in every aspect of our business within our control and made strategic decisions to minimize the impact of forces outside of our control. Quarter end, total franchise producers were 1,963, up from 1,957 as of year-end. As Mark Jones mentioned, our existing franchise has added 168 producers into their agencies, growing our producers per franchise for the fifth consecutive quarter to 1.7. As a reminder, adding a producer to an existing agency typically drives the production equivalent of two new agencies.
Our agency staffing program has been delivering strong results, which should drive a virtuous cycle of continued momentum in the franchise business. Each time a franchise on-boards a successful producer, they become more confident in the program and generate cash flow to fund the next producer and overall growth of their agency. As a reminder, each time a producer is added to a franchise, it improves the productivity of everyone in that agency. This remains an incredibly powerful tool for future new business growth. Corporate producers at quarter end were 292, up 6% from the prior year period. We are excited about the health of our corporate team, and we’re now in a position to onboard a new class of college recruits over the summer. We’ve already locked in a significant portion of our summer class with approximately 65% of planned hires having already signed their offer letters.
We expect by the end of the year our corporate agent headcount will be over 375, which sets us up to drive further acceleration in new business production in 2025. Mark Miller discussed some of the challenges we have faced in the carrier environment and how those have impacted not only new business generation but also retention rates. One avenue we’ve taken to combat those impacts is to increase our marketing efforts to drive additional lead flow. Because our close rates have seen a temporary decline, we need to generate more at the top of the funnel to fill the gap. In the first quarter, in the face of cyclical lows in housing activity, we generated a 31% increase in lead flow per agent over the prior year period through a combination of increased share of wallet with our existing referral partners, new referral partner activations, and lead flow diversification from strategic partnerships.
As the temporary headwind of product availability inevitably abates, we believe there is significant upside of productivity through converting a higher percentage of this increased lead flow. Total written premiums, the leading indicator for future revenues, grew 28% over the prior year period to $819 million. This includes franchise premium growth of 32% to $650 million and corporate premium growth of 15% to $169 million. The first quarter was the second consecutive quarter we observed an acceleration of new business premium in both distribution networks with franchise new business premium up 19% and corporate new business growth up 11%. The building momentum in new business premium is being partially offset by the continued slowing of our renewal premiums due to declining retention rates related to the temporary market challenges.
As carrier profitability is restored through a combination of pricing increases and modifications to underwriting models, we expect that our client retention will progress back towards our historical long-term average of 89%. We’ve made significant investments and improvements in the quality of our service function that give us confidence in our ability to drive increasing client retention as the carrier market normalizes. Total revenues for the quarter grew to $64.5 million, representing 11% growth over the prior year period, with core revenues of $58.8 million, representing 13% growth over the prior year period, both accelerating sequentially over the fourth quarter of 2023. As we have previously mentioned, a larger and accelerating portion of our core revenues is being driven by the franchise network, with 60% of the first quarter’s core revenue coming from royalty fees compared to 55% in the first quarter of 2023.
We expect this trend to continue as franchises onboard producers and reduce the productivity gap between the average corporate producer and the average franchise producer. This has a lag effect on revenue growth rates as we recognize only our 20% royalty fee in the first term of a policy, which steps up to 50% in each subsequent term. Policies in force grew 13% versus the year-ago quarter, as the temporary declines in retention rates are muting the impact of improved new business generation. We expect to see a re-acceleration in the policy-enforced growth rate beginning in the third quarter of this year. Contingent commissions for the quarter were $2.7 million versus $1.9 million a year ago. For 2024, we are assuming contingent commissions to be roughly 35 basis points of total written premium.
We are expecting approximately $1 million of contingent commissions in the second quarter compared to $4 million of contingents in the year-ago period. Longer term, we expect to see contingent commissions returning to the historical average of 80 basis points of total written premium. However, we are remaining cautious and prudent in our near-term forecasting as the timing and pace of the recovery of profitability for carriers, a major driver of contingent commissions, has uncertainty and is not entirely within our control. Cost recovery revenue for the quarter was $2.5 million compared to $3.5 million in the year-ago quarter. For 2024, we are expecting cost recovery revenue to decline moderately from the 2023 levels as we have dramatically improved the health of our franchise network, resulting in fewer franchise terminations and less accelerated recognition of initial franchise fees for gap purposes.
It is important to remember that this change is nothing from a cash basis as we collect franchise fees at the time of training and they’re non-refundable at that point, but we are required to recognize the revenue over a 10-year period or the life of the franchise. Adjusted EBITDA grew to $11.7 million in the quarter compared to $10.2 million in the year-ago period. Adjusted EBITDA margin for the quarter held steady at 18% compared to the year-ago period. We continue to expect total margin expansion for the full year as we remain focused on cost management to mitigate the bottom-line impact of moderately lower revenue growth expectations for the near term. We expect a majority of the margin expansion for the year to occur during the fourth quarter as our class of new corporate agents ramp up production, the accelerating franchise new business from the fourth quarter of 2023 converts to more profitable renewal business, and the time in of year-over-year contingent commissions.
As a result of increased business in various geographies, we have now met certain state tax nexus thresholds, which result in additional state tax filings. Because of these additional state tax filings, our significant deferred tax assets produced large state deferred taxes, resulting in a current period benefit for future state tax deductions. As of March 31, 2024, we had cash and cash equivalents of $51 million. Our unused line of credit was $49.8 million, and total outstanding term notes payable balance was $75.6 million. Operating cash flow generated in the quarter was $11.9 million compared to a use of cash of operations of $639,000 a year ago. Our free cash flow generated in the quarter was $9.1 million compared to a use of cash of $4.2 million in the year-ago period.
As a reminder, the first quarter generally represents our seasonally weakest quarter of the year from an earnings and cash generation perspective. Given the uncertainty in the carrier product environment and its temporary impact on client retention, we are revising our guidance for the full year. As a reminder, our philosophy on guidance is to be as transparent and accurate as possible. We guide to what we actually believe we will achieve for the year. For the full year 2024, total written premiums placed are expected to be between $3.62 billion and $3.82 billion, representing 22% organic growth on the low end of the range and 29% growth on the high end of the range. Total revenues are expected to be between $290 million and $310 million, representing 11% organic growth on the low end of the range and 19% organic growth on the high end of the range.
Adjusted EBITDA margin is expected to expand for the full year. The reduction in the high end of our guidance largely incorporates the experience we’ve seen in Q1. The low end of our guidance range is incorporating the possibility of continued temporary decline in retention rates and performance of the renewal book in the near-term. We’ve made significant structural and foundational improvements to the core business that we believe will continue to drive performance for many years to come. The insurance market has a long history of hard and soft cycles, and the current challenges we are facing are transitory. We remain incredibly excited about the future of our organization and have more confidence in the underlying operations than ever. Our balance sheet flexibility and strong cash generation provide us with additional options to create shareholder value.
Our current net debt to trailing adjusted EBITDA is just 0.3 times, and over the last 12 months we’ve generated operating cash of $63 million. Historically, we have favored returning significant excess cash to shareholders in the form of special dividends. However, we believe there’s a significant dislocation in our current valuation versus our long-term earnings growth expectations. As a result, our board of directors approved a $100 million share repurchase authorization in the connection with an upsizing of our existing credit facility. The upsized facility will include an expansion of our revolving credit facility to $75 million and an increase of the total term loan of $25 million while maintaining the existing pricing grid and tenor of the agreement.
Given our current valuation, we believe that shares of Goosehead stock represent an attractive buying opportunity. I want to thank our leadership team, our service team, our sales agents, our carrier partners, and our shareholders for their support as we continue on our path to industry leadership. With that, let’s open the line up for questions. Operator?
Operator: [Operator instructions]. Our first question will come from the line of Matt Carletti with Citizens JMP.
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