KBRA Affirms Ratings for Heritage Insurance Holdings, Inc. and Two Operating Subsidiaries; Revises Outlook to Stable for Heritage Insurance Holdings, Inc.; Downgrades Rating for Zephyr Insurance Company and Revises Outlook to Stable

KBRA affirms the following insurance financial strength ratings (IFSRs) for two key operating subsidiaries of Heritage Insurance Holdings, Inc. (HIH) (NYSE: HRTG): BBB+ for Heritage Property & Casualty Insurance Company (HPCIC) and Narragansett Bay Insurance Company, Inc. (NBIC). Additionally, KBRA downgrades the IFSR for Zephyr Insurance Company (ZIC) to BBB from BBB+. Further, KBRA affirms the issuer rating of BBB- for HIH. The Outlooks for HPCIC and NBIC remain Stable; the Outlook for ZIC has been revised to Stable from Negative; the Outlook for HIH has been revised to Stable from Negative.

The downgrade of ZIC is largely reflective of the balance sheet impact of 2023 and 2024 underwriting losses. Through 3Q 2024, surplus has declined by over 50% from 2022, largely driven by significant catastrophe events in 2023. In addition, risk-based capital has declined from the 400-600% range ZIC maintained over the prior five years to 302% at year-end 2023. Sustained declines in surplus reflect a significant change in risk profile relative to its current rating level.

The ratings for all entities (collectively, Heritage) reflect its well-integrated operations, adequate capitalization, conservative investment portfolio, seasoned management team and continued execution of its long-term strategy to diversify the group’s exposures. Through a controlled growth strategy, Heritage’s plan serves to mitigate concentration risk by targeting product growth, including commercial residential and Excess & Surplus lines business. Heritage also maintains a sound reinsurance program with high credit quality carriers and reduced retentions for subsequent events. The cash flows from non-regulated service operations have helped to provide capital support as needed. The Heritage operating companies are also members of the FHLB, affording HPCIC, NBIC, and ZIC access to additional, low-cost borrowing capability and liquidity. Additionally, KBRA views Heritage’s distribution, including agency networks and large strategic partnerships, as a favorable credit consideration. Balancing these strengths are the organization’s elevated operating losses in recent years, reflective of exposure to natural catastrophes, specifically hurricanes and winter storms. Events have occurred with increased frequency and severity across the last five years. While diversification efforts advance, HPCIC continues to be a significant Florida writer and approximately 28% of the group’s TIV and close to 50% of its premiums are derived from the state. Heritage relies heavily on reinsurance as a risk mitigant.

The change in Outlook from Negative to Stable for HIH reflects significantly reduced financial leverage as evidenced by the company’s declining Debt-to-Capital ratio, which improved from a peak of 50% at year-end 2022 to 30% as of September 30, 3024. This includes an equity raise in December 2023 that generated gross proceeds in excess of $25 million. HIH also benefited in a reduction in the accumulated other comprehensive loss (AOCL) to $19.7 million from an AOCL of $53.6 million at year-end 2022. The Stable Outlooks for NBIC and ZIC (from Negative) reflect the expectation that underwriting actions will improve upon recent operating losses at both companies and ZIC’s deterioration in risk-adjusted capitalization. Management expects significant rate increases at both companies will result in profitability prospectively. The Stable Outlook for HPCIC reflects KBRA’s expectation that the company will continue to maintain supportive risk-adjusted capitalization and execute their business strategy by making prudent decisions with respect to at-risk capital. Additionally, KBRA believes that HPCIC will continue to benefit from its diversification efforts within its geography of operations, including continued growth in commercial residential and Excess & Surplus business.

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