Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2018
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                   to                   
 
Commission file number 001-36174
NMI Holdings, Inc.
(Exact name of registrant as specified in its charter)

DELAWARE
 
45-4914248
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
2100 Powell Street, Emeryville, CA
 
94608
(Address of principal executive offices)
 
(Zip Code)

(855) 530-6642
(Registrant's telephone number, including area code)


Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES x NO o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
YES x NO o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o
Accelerated filer x
Non-accelerated filer o
Smaller reporting company o
 
 
 
 
Emerging growth company x


 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES o NO x

The number of shares of common stock, $0.01 par value per share, of the registrant outstanding on October 26, 2018 was 66,302,317 shares.





TABLE OF CONTENTS
Item 1.
Item 2.
Item 3.
Item 4.
Item 1.
Item 1A.
Item 6.


2



CAUTIONARY NOTE REGARDING FORWARD LOOKING STATEMENTS
This report contains forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (Securities Act), Section 21E of the Securities Exchange Act of 1934, as amended (Exchange Act), and the U.S. Private Securities Litigation Reform Act of 1995. Any statements about our expectations, beliefs, plans, predictions, forecasts, objectives, assumptions or future events or performance are not historical facts and may be forward looking. These statements are often, but not always, made through the use of words or phrases such as "anticipate," "believe," "can," "could," "may," "predict," "potential," "should," "will," "estimate," "plan," "project," "continuing," "ongoing," "expect," "intend" or words of similar meaning and include, but are not limited to, statements regarding the outlook for our future business and financial performance. All forward looking statements are necessarily only estimates of future results, and actual results may differ materially from expectations. You are, therefore, cautioned not to place undue reliance on such statements which should be read in conjunction with the other cautionary statements that are included elsewhere in this report. Further, any forward looking statement speaks only as of the date on which it is made and we undertake no obligation to update or revise any forward looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. We have based these forward looking statements on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, operating results, business strategy and financial needs. There are important factors that could cause our actual results, level of activity, performance or achievements to differ materially from the results, level of activity, performance or achievements expressed or implied by the forward looking statements including, but not limited to:
changes in the business practices of Fannie Mae and Freddie Mac (collectively, the GSEs), including decisions that have the impact of decreasing or discontinuing the use of mortgage insurance as credit enhancement;
our ability to remain an eligible mortgage insurer under the private mortgage insurer eligibility requirements (PMIERs) and other requirements imposed by the GSEs, which they may change at any time;
retention of our existing certificates of authority in each state and the District of Columbia (D.C.) and our ability to remain a mortgage insurer in good standing in each state and D.C.;
our future profitability, liquidity and capital resources;
actions of existing competitors, including public mortgage insurers such as the Federal Housing Administration (FHA) and the Veterans Administration (VA), and potential market entry by new competitors or consolidation of existing competitors;
developments in the world's financial and capital markets and our access to such markets, including reinsurance;
adoption of new or changes to existing laws and regulations that impact our business or financial condition directly or the mortgage insurance industry generally or their enforcement and implementation by regulators;
changes to the GSEs' role in the secondary mortgage market or other changes that could affect the residential mortgage industry generally or mortgage insurance in particular;
potential future lawsuits, investigations or inquiries or resolution of current lawsuits or inquiries;
changes in general economic, market and political conditions and policies, interest rates, inflation and investment results or other conditions that affect the housing market or the markets for home mortgages or mortgage insurance;
our ability to successfully execute and implement our capital plans, including our ability to access the capital, credit and reinsurance markets and to enter into, and receive approval of, reinsurance arrangements on terms and conditions that are acceptable to us, the GSEs and our regulators;
our ability to implement our business strategy, including our ability to write mortgage insurance on high quality low down payment residential mortgage loans, implement successfully and on a timely basis, complex infrastructure, systems, procedures, and internal controls to support our business and regulatory and reporting requirements of the insurance industry;
our ability to attract and retain a diverse customer base, including the largest mortgage originators;
failure of risk management or pricing or investment strategies;
emergence of unexpected claim and coverage issues, including claims exceeding our reserves or amounts we had expected to experience;
potential adverse impacts arising from recent natural disasters, including, with respect to the affected areas, a decline in new business, adverse effects on home prices, and an increase in notices of default on insured mortgages;

3



the inability of our counter-parties, including third party reinsurers, to meet their obligations to us;
our ability to utilize our net operating loss carryforwards, which could be limited or eliminated in various ways, including if we experience an ownership change as defined in Section 382 of the Internal Revenue Code;
failure to maintain, improve and continue to develop necessary information technology (IT) systems or the failure of technology providers to perform; and
ability to recruit, train and retain key personnel.
For more information regarding these risks and uncertainties as well as certain additional risks that we face, you should refer to Part I, Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in this report on Form 10-Q, including the exhibits hereto. In addition, for additional discussion of those risks and uncertainties that have the potential to affect our business, financial condition, results of operations, cash flows or prospects in a material and adverse manner, you should review the Risk Factors in Part I, Item 1A, of our Annual Report on Form 10-K for the year ended December 31, 2017 (2017 10-K) and in Part II, Item 1A of our Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2018 (First Quarter 10-Q), as subsequently updated in other reports we file from time to time with the U.S. Securities and Exchange Commission (SEC).
Unless expressly indicated or the context requires otherwise, the terms "we," "our," "us" and the "Company" in this document refer to NMI Holdings, Inc., a Delaware corporation, and its wholly owned subsidiaries on a consolidated basis.


4



PART I
Item 1. Financial Statements



INDEX TO FINANCIAL STATEMENTS

Condensed Consolidated Balance Sheets as of September 30, 2018 and December 31, 2017
Condensed Consolidated Statements of Operations and Comprehensive Income for the three and nine months ended September 30, 2018 and 2017
Condensed Consolidated Statements of Changes in Shareholders' Equity for the three and nine months ended September 30, 2018 and 2017
Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2018 and 2017
Notes to Condensed Consolidated Financial Statements


5

NMI HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)


 
September 30, 2018
 
December 31, 2017
Assets
(In Thousands, except for share data)
Fixed maturities, available-for-sale, at fair value (amortized cost of $889,794 and $713,859 as of September 30, 2018 and December 31, 2017, respectively)
$
874,435

 
$
715,875

Cash and cash equivalents (including restricted cash of $1,406 and $0 as of September 30, 2018 and December 31, 2017, respectively)
18,187

 
19,196

Premiums receivable
34,675

 
25,179

Accrued investment income
5,881

 
4,212

Prepaid expenses
3,131

 
2,151

Deferred policy acquisition costs, net
44,437

 
37,925

Software and equipment, net
22,887

 
22,802

Intangible assets and goodwill
3,634

 
3,634

Prepaid reinsurance premiums
33,058

 
40,250

Deferred tax asset, net
6,880

 
19,929

Other assets
5,276

 
3,695

Total assets
$
1,052,481

 
$
894,848

 
 
 
 
Liabilities
 
 
 
Term loan
$
147,009

 
$
143,882

Unearned premiums
162,893

 
163,166

Accounts payable and accrued expenses
27,134

 
23,364

Reserve for insurance claims and claim expenses
10,908

 
8,761

Reinsurance funds withheld
28,953

 
34,102

Deferred ceding commission
4,161

 
5,024

Warrant liability, at fair value
10,930

 
7,472

Total liabilities
391,988

 
385,771

Commitments and contingencies


 


 
 
 
 
Shareholders' equity
 
 
 
Common stock - class A shares, $0.01 par value; 66,285,847 and 60,517,512 shares issued and outstanding as of September 30, 2018 and December 31, 2017, respectively (250,000,000 shares authorized)
663

 
605

Additional paid-in capital
678,165

 
585,488

Accumulated other comprehensive loss, net of tax
(16,303
)
 
(2,859
)
Accumulated deficit
(2,032
)
 
(74,157
)
Total shareholders' equity
660,493

 
509,077

Total liabilities and shareholders' equity
$
1,052,481

 
$
894,848

See accompanying notes to consolidated financial statements.

6

NMI HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (UNAUDITED)


For the three months ended September 30,

For the nine months ended September 30,

2018
 
2017

2018

2017
Revenues
(In Thousands, except for per share data)
Net premiums earned
$
65,407

 
$
44,519

 
$
181,936

 
$
115,661

Net investment income
6,277

 
4,170

 
16,586

 
11,885

Net realized investment (losses) gains
(8
)
 
69

 
51

 
198

Other revenues
85

 
195

 
193

 
461

Total revenues
71,761

 
48,953

 
198,766

 
128,205

Expenses
 
 
 
 
 
 
 
Insurance claims and claim expenses
1,099

 
957

 
3,311

 
2,965

Underwriting and operating expenses
30,379

 
24,645

 
87,852

 
78,682

Total expenses
31,478

 
25,602

 
91,163

 
81,647

Other expense
 
 
 
 
 
 
 
Loss from change in fair value of warrant liability
(5,464
)
 
(502
)
 
(4,935
)
 
(679
)
Interest expense
(2,972
)
 
(3,352
)
 
(11,951
)
 
(10,146
)
Total other expense
(8,436
)
 
(3,854
)
 
(16,886
)
 
(10,825
)
 
 
 
 
 
 
 
 
Income before income taxes
31,847

 
19,497

 
90,717

 
35,733

Income tax expense
7,036

 
7,185

 
18,310

 
11,917

Net income
$
24,811

 
$
12,312

 
$
72,407

 
$
23,816


 
 
 
 
 
 
 
Earnings per share
 
 
 
 
 
 
 
Basic
$
0.38

 
$
0.21

 
$
1.12

 
$
0.40

Diluted
$
0.36

 
$
0.20

 
$
1.07

 
$
0.38

 
 
 
 
 
 
 
 
Weighted average common shares outstanding
 
 
 
 
 
 
 
Basic
65,948

 
59,884

 
64,584

 
59,680

Diluted
68,844

 
63,089

 
67,512

 
62,773


 
 
 
 
 
 
 
Net income
$
24,811

 
$
12,312

 
$
72,407

 
$
23,816

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Net unrealized gains (losses) in accumulated other comprehensive income, net of tax (benefit) expense of ($337) and $366 for the three months ended September 30, 2018 and 2017, respectively, and ($3,676) and $2,439 for the nine months ended September 30, 2018 and 2017
(1,267
)
 
768

 
(13,828
)
 
4,786

Reclassification adjustment for realized losses (gains) included in net income, net of tax expense (benefit) of ($2) and $24 for the three months ended September 30, 2018 and 2017, respectively, and ($27) and $69 for the nine months ended September 30, 2018 and 2017
7

 
(45
)
 
102

 
(129
)
Other comprehensive (loss) income, net of tax
(1,260
)

723


(13,726
)

4,657

Comprehensive income
$
23,551


$
13,035


$
58,681


$
28,473

See accompanying notes to consolidated financial statements.

7

NMI HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (UNAUDITED)


 
Common Stock - Class A
Additional
Paid-in Capital
Accumulated Other Comprehensive Income (Loss)
Accumulated Deficit
Total
 
Shares
Amount
 
(In Thousands)
Balances, January 1, 2017
59,145

$
591

$
576,927

$
(5,287
)
$
(96,722
)
$
475,509

Cumulative effect of change in accounting principle




515

515

Common stock: class A shares issued under stock plans, net of shares withheld for employee taxes
638

7

(1,117
)


(1,110
)
Share-based compensation expense


2,271



2,271

Change in unrealized investment gains/losses, net of tax expense of $664



1,233


1,233

Net income




5,492

5,492

Balances, March 31, 2017
59,783

$
598

$
578,081

$
(4,054
)
$
(90,715
)
$
483,910

Cumulative effect of change in accounting principle


388



388

Common stock: class A shares issued under stock plans, net of shares withheld for employee taxes
75


82



82

Share-based compensation expense


1,948



1,948

Change in unrealized investment gains/losses, net of tax benefit of $1,454



2,700


2,700

Net income




6,012

6,012

Balances, June 30, 2017
59,858

$
598

$
580,499

$
(1,354
)
$
(84,703
)
$
495,040

Common stock: class A shares issued under stock plans, net of shares withheld for employee taxes
70

1

234



235

Share-based compensation expense


2,714



2,714

Change in unrealized investment gains/losses, net of tax benefit of $390



724


724

Net income




12,312

12,312

Balances, September 30, 2017
59,928

$
599

$
583,447

$
(630
)
$
(72,391
)
$
511,025


















8

NMI HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (UNAUDITED)

 
Common Stock - Class A
Additional
Paid-in Capital
Accumulated Other Comprehensive Income (Loss)
Accumulated Deficit
Total
 
Shares
Amount
 
(In Thousands)
Balances, January 1, 2018
60,518

$
605

$
585,488

$
(2,859
)
$
(74,157
)
$
509,077

Cumulative effect of change in accounting principle



282

(282
)

Common stock: class A shares issued related to public offering
4,255

43

79,122



79,165

Common stock: class A shares issued related to warrants
26

*

489



489

Common stock: class A shares issued under stock plans, net of shares withheld for employee taxes
770

8

(999
)


(991
)
Share-based compensation expense


2,805



2,805

Change in unrealized investment gains/losses, net of tax benefit of $423



(10,956
)

(10,956
)
Net income




22,355

22,355

Balances, March 31, 2018
65,569

$
656

$
666,905

$
(13,533
)
$
(52,084
)
$
601,944

Common stock: class A shares issued related to warrants
3

*

63



63

Common stock: class A shares issued under stock plans, net of shares withheld for employee taxes
182

2

885



887

Share-based compensation expense


3,017



3,017

Change in unrealized investment gains/losses, net of tax benefit of $2,891



(1,510
)

(1,510
)
Net income




25,241

25,241

Balances, June 30, 2018
65,754

$
658

$
670,870

$
(15,043
)
$
(26,843
)
$
629,642

Common stock: class A shares issued related to warrants
57

1

1,244



1,245

Common stock: class A shares issued under stock plans, net of shares withheld for employee taxes
475

4

3,092



3,096

Share-based compensation expense


2,959



2,959

Change in unrealized investment gains/losses, net of tax benefit of $335



(1,260
)

(1,260
)
Net income




24,811

24,811

Balances, September 30, 2018
66,286

$
663

$
678,165

$
(16,303
)
$
(2,032
)
$
660,493


* During the three month periods ended March 31, 2018 and June 30, 2018, we issued 25,686 and 3,751 common shares, respectively, with a par value of $0.01 related to the exercise of warrants, which is not identifiable in this schedule due to rounding.


See accompanying notes to consolidated financial statements.

9

NMI HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

 
For the nine months ended September 30,
 
2018
 
2017
Cash flows from operating activities
(In Thousands)
Net income
$
72,407

 
$
23,816

Adjustments to reconcile net income to net cash provided by (used in) operating activities:
 
 
 
Net realized investment gains
(51
)
 
(198
)
Loss from change in fair value of warrant liability
4,935

 
679

Depreciation and amortization
5,825

 
4,871

Net amortization of premium on investment securities
1,176

 
1,200

Amortization of debt discount and debt issuance costs
3,141

 
1,112

Share-based compensation expense
8,781

 
6,933

Deferred income taxes
16,698

 
11,340

Changes in operating assets and liabilities:
 
 
 
Premiums receivable
(9,496
)
 
(7,328
)
Accrued investment income
(1,669
)
 
(1,177
)
Prepaid expenses
(980
)
 
(660
)
Deferred policy acquisition costs, net
(6,512
)
 
(5,992
)
Other assets (1)
927

 
(273
)
Unearned premiums
(273
)
 
8,439

Reserve for insurance claims and claim expenses
2,147

 
3,122

Reinsurance balances, net (1)
565

 
(259
)
Accounts payable and accrued expenses
1,728

 
(3,847
)
Net cash provided by operating activities
99,349

 
41,778

Cash flows from investing activities
 
 
 
Purchase of short-term investments
(168,751
)
 
(111,551
)
Purchase of fixed-maturity investments, available-for-sale
(310,286
)
 
(166,640
)
Proceeds from maturity of short-term investments
148,997

 
142,722

Proceeds from redemptions, maturities and sale of fixed-maturity investments, available-for-sale
154,438

 
75,785

Additions to software and equipment
(5,326
)
 
(6,869
)
Net cash used in investing activities
(180,928
)
 
(66,553
)
Cash flows from financing activities
 
 
 
Proceeds from issuance of common stock related to public offering, net of issuance costs
79,165

 

Proceeds from issuance of common stock related to employee equity plans
12,557

 
3,105

Proceeds from issuance of common stock related to warrants
320

 

Taxes paid related to net share settlement of equity awards
(10,113
)
 
(3,883
)
Proceeds from senior note, net
149,250

 

Repayments of term loan
(147,000
)
 
(1,125
)
Payments of debt issuance/modification costs
(3,609
)
 
(370
)
Net cash provided by (used in) financing activities
80,570

 
(2,273
)
 
 
 
 
Net decrease in cash, cash equivalents and restricted cash
(1,009
)
 
(27,048
)
Cash, cash equivalents and restricted cash, beginning of period
19,196

 
47,746

Cash, cash equivalents and restricted cash, end of period
$
18,187

 
$
20,698

 
 
 
 
Supplemental disclosures of cash flow information
 
 
 
Interest paid
$
9,233

 
$
10,350

Income tax paid
687

 
802

(1) Ceded losses recoverable on the QSR Transactions were reclassified from "Other Assets" in prior periods to "Reinsurance balance, net".
See accompanying notes to consolidated financial statements.

10

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


1. Organization, Basis of Presentation and Summary of Accounting Principles
NMI Holdings, Inc. (NMIH) is a Delaware corporation, incorporated in May 2011, to provide private mortgage guaranty insurance (which we refer to as mortgage insurance or MI) through its wholly owned insurance subsidiaries, National Mortgage Insurance Corporation (NMIC) and National Mortgage Reinsurance Inc One (Re One).
In April 2012, we completed a private placement of our securities, through which we offered and sold an aggregate of 55 million of our Class A common stock resulting in net proceeds of approximately $510 million (the Private Placement), and we completed the acquisition of our insurance subsidiaries for $8.5 million in cash, common stock and warrants, plus the assumption of $1.3 million in liabilities. In November 2013, we completed an initial public offering of 2.4 million shares of our common stock, and our common stock began trading on the NASDAQ exchange on November 8, 2013, under the symbol "NMIH." In March 2018, we completed the sale of an additional 4.3 million shares of common stock including a 15% option to purchase additional shares, which was exercised in full.
In April 2013, NMIC, our primary insurance subsidiary, issued its first mortgage insurance policy. NMIC is licensed to write mortgage insurance in all 50 states and D.C. In August 2015, NMIH capitalized a wholly owned subsidiary, NMI Services, Inc. (NMIS), through which we offer outsourced loan review services to mortgage loan originators.
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements, which include the results of NMIH and its wholly owned subsidiaries, have been prepared in accordance with the instructions to Form 10-Q as prescribed by the SEC for interim reporting and include other information and disclosures required by accounting principles generally accepted in the U.S. (GAAP). Our accounts are maintained in U.S. dollars. These statements should be read in conjunction with our consolidated financial statements and notes thereto for the year ended December 31, 2017, included in our 2017 10-K. All intercompany transactions have been eliminated. The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, as well as disclosure of contingent assets and liabilities as of the balance sheet date. Estimates also affect the reported amounts of income and expenses for the reporting period. Actual results could differ from those estimates. Certain reclassifications to our previously reported financial information have been made to conform to current period presentation. The results of operations for the interim period may not be indicative of the results that may be expected for the full year ending December 31, 2018.
Significant Accounting Principles
There have been no changes to our significant accounting principles as described in Item 8, "Financial Statements and Supplementary Data - Notes to Consolidated Financial Statements - Note 2 - Summary of Accounting Principles" of our 2017 Form 10-K, other than as noted in "Reinsurance", "Variable interest entity" and "Recent Accounting Pronouncements - Adopted" below.
Reinsurance
We account for premiums, claims and claim expenses that are ceded to reinsurers on a basis consistent with those we use to account for the original policies we issue and pursuant to the terms of our reinsurance contracts. We account for premiums ceded or otherwise paid to reinsurers as reductions to premium revenue.
Effective January 1, 2018, NMIC entered into a second quota share reinsurance transaction (2018 QSR Transaction) which is similar in nature to the quota share reinsurance transaction we entered into in September 2016 (2016 QSR Transaction, together with 2018 QSR Transaction, the QSR Transactions) (see Note 5, "Reinsurance"). We earn profit and ceding commissions in connection with the QSR Transactions.  Profit commissions represent a percentage of the profits recognized by reinsurers that are returned to us, based on the level of claims and claim expenses that we cede. We recognize any profit commissions we earn as increases to premium revenue. Ceding commissions are calculated as a percentage of ceded written premiums under the 2016 QSR Transaction and as a percentage of ceded earned premiums under the 2018 QSR Transaction, to cover our costs to acquire and service the direct policies. We earn the ceding commissions in a manner consistent with our recognition of earnings on the underlying insurance policies, over the terms of the policies reinsured. We account for ceding commissions earned as a reduction to underwriting and operating expenses. 
Under the QSR Transactions, we cede a portion of claims and claim expenses reserves to our reinsurers, which are accounted for as reinsurance recoverables in "Other Assets" on the consolidated balance sheets and as reductions to claim expense on the consolidated statements of operations. We remain directly liable for all loss payments in the event we are unable to collect from any reinsurer.

11

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Variable interest entity
NMIC entered into aggregate excess of loss reinsurance agreements with Oaktown Re Ltd. (Oaktown Re) and Oaktown Re II Ltd (Oaktown Re II), each a Bermuda-domiciled special purpose reinsurer, in May 2017 and August 2018, respectively. At inception of each reinsurance agreement, we determined that each of Oaktown Re and Oaktown Re II were variable interest entities (VIEs), as defined under GAAP (ASC 810), because they did not have sufficient equity at risk to finance their respective activities. We evaluated the VIEs at inception to determine whether NMIC was the primary beneficiary under each deal and, if so, whether we were required to consolidate the assets and liabilities of each VIE. The primary beneficiary of a VIE is an enterprise that (1) has the power to direct the activities of the VIE, which most significantly impact its economic performance and (2) has significant economic exposure to the VIE; i.e., the obligation to absorb losses or receive benefits that could potentially be significant. The determination of whether an entity is the primary beneficiary of a VIE is complex and requires management judgment regarding determinative factors, including the expected results of the VIE and how those results are absorbed by beneficial interest holders, as well as which party has the power to direct activities that most significantly impact the performance of the VIE.
We concluded that we are not the primary beneficiary of either Oaktown Re or Oaktown Re II because NMIC does not have significant economic exposure to either Oaktown Re or Oaktown Re II, and, as such, we do not consolidate the VIEs in our consolidated financial statements.
Recent Accounting Pronouncements - Adopted    
In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606). This update is intended to provide a consistent approach in recognizing revenue. In December 2016, the FASB clarified that all contracts that are within the scope of Topic 944, Financial Services-Insurance, are excluded from the scope of ASU 2014-09. Accordingly, this update did not impact the recognition of revenue related to insurance premiums or investment income, which represent a majority of our total revenues. The update impacted our loan review services revenue, which is the only revenue stream in scope of the update. We adopted this update on January 1, 2018 using the modified-retrospective approach and the impact was immaterial to our consolidated financial statements.    
In January 2016, the FASB issued ASU 2016-01, Financial Instruments - Overall: Recognition and Measurement of Financial Assets and Financial Liabilities (Subtopic 825-10). This update requires entities to reduce the carrying amount of deferred tax assets, if necessary, by the amount of any tax benefit that is not expected to be realized. We adopted this update effective January 1, 2018. The impact was immaterial to our consolidated financial statements.
In February 2018, the FASB issued ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (Topic 220). This update permits a company to reclassify the disproportionate income tax effects as a result of the 2017 Tax Cuts and Jobs Act (the TCJA) on items within accumulated other comprehensive income (AOCI) to retained earnings. This standard will take effect for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted. We adopted this update on January 1, 2018 and adjusted the disproportionate income tax effects, or "stranded tax effects," resulting in a $0.3 million reduction to our beginning retained earnings as of January 1, 2018.
Recent Accounting Pronouncements - Not Yet Adopted
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). This update requires that businesses recognize rights and obligations associated with certain leases as assets and liabilities on the balance sheet. The standard also requires additional disclosures regarding the amount, timing, and uncertainty of cash flows arising from leases. For public business entities, this update is effective for annual periods beginning after December 15, 2018 and interim periods therein. Early adoption is permitted in any period. We expect to adopt this guidance on January 1, 2019. In September 2017, ASU 2017-13 added guidance from a SEC Staff Announcement, "Transition Related to Accounting Standards Update No. 2016-02," and in July 2018, the FASB issued ASU 2018-11, Leases (Topic 842), Targeted Improvement, which provides companies the option to apply the provisions of the new lease standard prospectively as of the effective date, without adjusting comparative periods presented. The effect of adoption will depend on our current lease portfolio at time of adoption; however, upon adoption, we anticipate that our reported assets and liabilities will increase in connection with the recognition of any right-of-use assets and lease liabilities, such as the operating lease on our corporate headquarters.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses (Topic 326). This update requires companies to measure all expected credit losses for financial assets held at the reporting date. The standard also amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The standard will take effect for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. We are currently reviewing the impacts the adoption of this guidance will have, if any, on our accounting for credit losses on our

12

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

investment portfolio. We do not expect it to impact our accounting for insurance claims and claims expenses as these items are not in the scope of this ASU.
In July 2017, the FASB issued ASU 2017-11, Earnings Per Share (Topic 260), Distinguishing Liabilities from Equity (Topic 480), and Derivatives and Hedging (Topic 815). This update is intended to simplify the accounting for certain equity-linked financial instruments. The standard will take effect for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted. The guidance must be applied using a full or modified retrospective approach. We expect to adopt this ASU in the first quarter of 2019 and have determined that it will have no impact on our consolidated financial statements.
In June 2018, the FASB issued ASU 2018-07, Compensation-Stock Compensation (Topic 718). This update expands the scope of Topic 718 to include share-based payments made to non-employees in connection with the acquisition of goods and services. The standard will take effect for public business entities for fiscal years, beginning after December 15, 2019, and interim periods within fiscal years, beginning after December 15, 2020. We expect to adopt this ASU in the first quarter of 2019 and have determined that it has no impact on our financial results at this time as we have not made any share-based grants to nonemployees as defined in ASC 718-10-20.
In August 2018, the FASB issued ASU 2018-12, Targeted Improvements to the Accounting for Long-Duration Contracts. This update provides guidance to the existing recognition, measurement, presentation and disclosure requirements for long-duration contracts issued by an insurance entity. The standard will take effect for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. We are currently evaluating the impact the adoption of this ASU will have, if any, on our consolidated financial statements.
In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820). This update requires companies to make disclosures about recurring and nonrecurring fair value measurements. The standard will take effect for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. We are currently evaluating the impact the adoption of this ASU will have, if any, on our fair value of financial instruments disclosures.
In August 2018, the FASB issued ASU 2018 -15, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40). This update applies to cloud computing arrangements hosted by a vendor and provides companies with guidance on the criteria for capitalizing implementation, set-up and other up-front costs incurred in association with these arrangements. The standard will take effect for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. We are currently evaluating the impact the adoption of this ASU will have, if any, on our consolidated financial statements.
2. Investments
We have designated our investment portfolio as available-for-sale and report it at fair value. The related unrealized gains and losses are, after considering the related tax expense or benefit, recognized through comprehensive income and loss, and on an accumulated basis in shareholders' equity. Net realized investment gains and losses are reported in income based upon specific identification of securities sold.
Fair Values and Gross Unrealized Gains and Losses on Investments
 
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
 
Gains
 
Losses
 
As of September 30, 2018
(In Thousands)
U.S. Treasury securities and obligations of U.S. government agencies
$
48,292

 
$

 
$
(2,483
)
 
$
45,809

Municipal debt securities
93,945

 
20

 
(1,933
)
 
92,032

Corporate debt securities
536,240

 
323

 
(10,217
)
 
526,346

Asset-backed securities
169,061

 
113

 
(1,236
)
 
167,938

Total bonds
847,538

 
456

 
(15,869
)
 
832,125

Short-term investments
42,256

 
54

 

 
42,310

Total investments
$
889,794

 
$
510

 
$
(15,869
)
 
$
874,435


13

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
 
Gains
 
Losses
 
As of December 31, 2017
(In Thousands)
U.S. Treasury securities and obligations of U.S. government agencies
$
65,669

 
$

 
$
(981
)
 
$
64,688

Municipal debt securities
89,973

 
534

 
(659
)
 
89,848

Corporate debt securities
435,562

 
4,231

 
(1,958
)
 
437,835

Asset-backed securities
100,153

 
916

 
(125
)
 
100,944

Total bonds
691,357

 
5,681

 
(3,723
)
 
693,315

Long-term investments - other
353

 

 

 
353

Short-term investments
22,149

 
58

 

 
22,207

Total investments
$
713,859

 
$
5,739

 
$
(3,723
)
 
$
715,875

As of September 30, 2018 and December 31, 2017, approximately $5.3 million and $7.0 million, respectively, of our cash and investments were held in the form of U.S. Treasury securities on deposit with various state insurance departments to satisfy regulatory requirements. See Note 5 "Reinsurance" for the information related to restricted cash.
Scheduled Maturities
The amortized cost and fair values of available-for-sale securities as of September 30, 2018 and December 31, 2017, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. Because most asset-backed securities provide for periodic payments throughout their lives, they are listed below in a separate category.
As of September 30, 2018
Amortized
Cost
 
Fair
Value
 
(In Thousands)
Due in one year or less
$
63,314

 
$
63,368

Due after one through five years
335,262

 
330,603

Due after five through ten years
318,357

 
308,759

Due after ten years
3,800

 
3,767

Asset-backed securities
169,061

 
167,938

Total investments
$
889,794

 
$
874,435

As of December 31, 2017
Amortized
Cost
 
Fair
Value
 
(In Thousands)
Due in one year or less
$
97,406

 
$
97,394

Due after one through five years
195,795

 
195,626

Due after five through ten years
305,798

 
306,930

Due after ten years
14,707

 
14,981

Asset-backed securities
100,153

 
100,944

Total investments
$
713,859

 
$
715,875

Aging of Unrealized Losses
As of September 30, 2018, the investment portfolio had gross unrealized losses of $15.9 million, $7.8 million of which has been in an unrealized loss position for a period of 12 months or greater. We did not consider these securities to be other-than-temporarily impaired as of September 30, 2018. We based our conclusion that these investments were not other-than-temporarily impaired as of September 30, 2018 on the following facts: (i) the unrealized losses were primarily caused by interest rate movements since the purchase date; (ii) we do not intend to sell these investments; and (iii) we do not believe that it is more likely than not that we will be required to sell these investments before recovery of our amortized cost basis, which may not occur until maturity. For those securities in an unrealized loss position, the length of time the securities were in such a position is as follows:

14

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 
Less Than 12 Months
 
12 Months or Greater
 
Total
 
# of Securities
Fair Value
Unrealized Losses
 
# of Securities
Fair Value
Unrealized Losses
 
# of Securities
Fair Value
Unrealized Losses
As of September 30, 2018
 
(Dollars in Thousands)
U.S. Treasury securities and obligations of U.S. government agencies
5

$
5,033

$
(60
)
 
18

$
40,776

$
(2,423
)
 
23

$
45,809

$
(2,483
)
Municipal debt securities
26

53,431

(885
)
 
18

30,580

(1,048
)
 
44

84,011

(1,933
)
Corporate debt securities
180

343,602

(6,123
)
 
43

76,589

(4,094
)
 
223

420,191

(10,217
)
Asset-backed securities
51

111,382

(976
)
 
6

10,563

(260
)
 
57

121,945

(1,236
)
Total
262

$
513,448

$
(8,044
)
 
85

$
158,508

$
(7,825
)
 
347

$
671,956

$
(15,869
)
 
Less Than 12 Months
 
12 Months or Greater
 
Total
 
# of Securities
Fair Value
Unrealized Losses
 
# of Securities
Fair Value
Unrealized Losses
 
# of Securities
Fair Value
Unrealized Losses
As of December 31, 2017
 
(Dollars in Thousands)
U.S. Treasury securities and obligations of U.S. government agencies
16

$
29,806

$
(394
)
 
26

$
34,882

$
(587
)
 
42

$
64,688

$
(981
)
Municipal debt securities
21

38,628

(264
)
 
10

17,945

(395
)
 
31

56,573

(659
)
Corporate debt securities
94

128,313

(829
)
 
23

48,978

(1,129
)
 
117

177,291

(1,958
)
Asset-backed securities
22

27,947

(63
)
 
5

12,438

(62
)
 
27

40,385

(125
)
Total
153

$
224,694

$
(1,550
)
 
64

$
114,243

$
(2,173
)
 
217

$
338,937

$
(3,723
)
The following table presents the components of net investment income:
 
For the three months ended September 30,
 
For the nine months ended September 30,
 
2018
 
2017
 
2018
 
2017
 
(In Thousands)
Investment income
$
6,473

 
$
4,363

 
$
17,192

 
$
12,455

Investment expenses
(196
)
 
(193
)
 
(606
)
 
(570
)
Net investment income
$
6,277

 
$
4,170

 
$
16,586

 
$
11,885

The following table presents the components of net realized investment gains (losses):
 
For the three months ended September 30,
 
For the nine months ended September 30,
 
2018
 
2017
 
2018
 
2017
 
(In Thousands)
Gross realized investment gains
$
461

 
$
69

 
$
520

 
$
536

Gross realized investment losses
(469
)
 

 
(469
)
 
(338
)
Net realized investment gains (losses)
$
(8
)
 
$
69

 
$
51

 
$
198

Investment Securities - Other-than-Temporary Impairment (OTTI)
At September 30, 2018, we held no other-than-temporarily impaired securities. During the three and nine months ended September 30, 2018 and the three months ended September 30, 2017, we did not recognize any OTTI losses. During the nine months ended September 30, 2017, we recognized $0.1 million of OTTI losses in earnings.

15

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

3. Fair Value of Financial Instruments
The following describes the valuation techniques used by us to determine the fair value of our financial instruments:
We established a fair value hierarchy by prioritizing the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under this standard are described below:
Level 1 - Fair value measurements based on quoted prices in active markets that we have the ability to access for identical assets or liabilities. Market price data generally is obtained from exchange or dealer markets. We do not adjust the quoted price for such instruments.
Level 2 - Fair value measurements based on inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.
Level 3 - Fair value measurements based on valuation techniques that use significant inputs that are unobservable. Both observable and unobservable inputs may be used to determine the fair values of positions classified in Level 3. The circumstances for using these measurements include those in which there is little, if any, market activity for the asset or liability. Therefore, we must make certain assumptions, which require significant management judgment or estimation about the inputs a hypothetical market participant would use to value that asset or liability.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy is determined based on the lowest level input that is significant to the fair value measurement in its entirety.
Assets classified as Level 1 and Level 2
To determine the fair value of securities available-for-sale in Level 1 and Level 2 of the fair value hierarchy, independent pricing sources have been utilized. One price is provided per security based on observable market data. To ensure securities are appropriately classified in the fair value hierarchy, we review the pricing techniques and methodologies of the independent pricing sources and believe that their policies adequately consider market activity, either based on specific transactions for the issue valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. A variety of inputs are utilized by the independent pricing sources including benchmark yields, reported trades, non-binding broker/dealer quotes, issuer spreads, two sided markets, benchmark securities, bids, offers and reference data including data published in market research publications. Inputs may be weighted differently for any security, and not all inputs are used for each security evaluation. Market indicators, industry and economic events are also considered. This information is evaluated using a multidimensional pricing model. Quality controls are performed by the independent pricing sources throughout this process, which include reviewing tolerance reports, trading information and data changes, and directional moves compared to market moves. This model combines all inputs to arrive at a value assigned to each security. We have not made any adjustments to the prices obtained from the independent pricing sources.
Liabilities classified as Level 3
We calculate the fair value of outstanding warrants utilizing Level 3 inputs, including a Black-Scholes option-pricing model, in combination with a binomial model, and we value the pricing protection features within the warrants using a Monte-Carlo simulation model. Variables in the model include the risk-free rate of return, dividend yield, expected life and expected volatility of our stock price.

16

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

The following tables present the level within the fair value hierarchy at which our financial instruments were measured: 
 
Fair Value Measurements Using
 
 
 
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Fair Value
As of September 30, 2018
(In Thousands)
U.S. Treasury securities and obligations of U.S. government agencies
$
45,809

 
$

 
$

 
$
45,809

Municipal debt securities

 
92,032

 

 
92,032

Corporate debt securities

 
526,346

 

 
526,346

Asset-backed securities

 
167,938

 

 
167,938

Long-term investment – other

 

 

 

Cash, cash equivalents and short-term investments
60,497

 

 


 
60,497

Total assets
$
106,306

 
$
786,316

 
$

 
$
892,622

Warrant liability

 

 
10,930

 
10,930

Total liabilities
$

 
$

 
$
10,930

 
$
10,930

 
Fair Value Measurements Using
 
 
 
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Fair Value
As of December 31, 2017
(In Thousands)
U.S. Treasury securities and obligations of U.S. government agencies
$
59,844

 
$
4,844

 
$

 
$
64,688

Municipal debt securities

 
89,848

 

 
89,848

Corporate debt securities

 
437,835

 

 
437,835

Asset-backed securities

 
100,944

 

 
100,944

Long-term investment - other
353

 

 

 
353

Cash, cash equivalents and short-term investments
41,403

 

 

 
41,403

Total assets
$
101,600

 
$
633,471

 
$

 
$
735,071

Warrant liability

 

 
7,472

 
7,472

Total liabilities
$

 
$

 
$
7,472

 
$
7,472

There were no transfers between Level 1 and Level 2, nor any transfers in or out of Level 3, of the fair value hierarchy during the nine months ended September 30, 2018 and the year ended December 31, 2017.
The following is a roll-forward of Level 3 liabilities measured at fair value:
 
For the nine months ended September 30,
Warrant Liability
2018
 
2017
 
(In Thousands)
Balance, January 1
$
7,472

 
$
3,367

Change in fair value of warrant liability included in earnings
4,935

 
679

Issuance of common stock on warrant exercise
(1,477
)
 

Balance, September 30
$
10,930

 
$
4,046


17

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

The following table outlines the key inputs and assumptions used to calculate the fair value of the warrant liability in the Black-Scholes option-pricing model as of the dates indicated.
 
As of September 30,
 
 
2018
 
2017
 
Common stock price
$
22.65

 
$
12.40

 
Risk free interest rate
2.86 - 2.90%

 
1.66
%
 
Expected life
2.50 - 3.56 Years

 
3.25 years

 
Expected volatility
39.9 - 41.5%

 
30.6
%
 
Dividend yield
0%

 
0%

 
The changes in fair value of the warrant liability for the nine months ended September 30, 2018 and 2017 are primarily attributable to changes in the price of our common stock during the respective periods, with additional impact related to changes in the Black-Scholes model inputs and exercises of outstanding warrants.
4. Debt Obligations
On May 24, 2018, we entered into a credit agreement (2018 Credit Agreement), which provides for (i) a $150 million five-year senior secured term loan facility (2018 Term Loan) that matures on May 24, 2023; and (ii) a $85 million three-year secured revolving credit facility (2018 Revolving Credit Facility) that matures on May 24, 2021. Proceeds from the 2018 Term Loan were used to repay in full the outstanding amount due under our $150 million amended term loan due November 10, 2019 (the 2015 Term Loan), and to pay fees and expenses incurred in connection with the 2018 Credit Agreement.
2018 Term Loan
The 2018 Term Loan bears interest at the Eurodollar Rate, as defined in the 2018 Credit Agreement and subject to a 1.00% floor, plus an annual margin rate of 4.75%, representing an all-in rate of 6.99% as of September 30, 2018, payable monthly based on our current interest period election. Quarterly principal payments of $375 thousand are also required. The 2018 Term Loan has a prepayment premium of 1% for any refinancing prepayments made on or prior to the date that is six months after the date of the 2018 Credit Agreement, after which there is no prepayment penalty.
Interest expense for nine months ended September 30, 2018 includes amounts related to our interest payment, one-time financing costs and the amortization of issuance costs and original issue discounts. For the nine months ended September 30, 2018, we recorded $11.6 million of interest expense, including $2.2 million of costs related to the extinguishment of the 2015 Term Loan and issuance of the 2018 Term Loan. Capitalized debt issuance costs totaling $1.8 million and original issue discounts totaling $986 thousand are being amortized to interest expense using the effective interest method over the contractual life of the 2018 Term Loan. As of September 30, 2018, the remaining unamortized issuance cost and original issue discounts totaled $2.6 million, and the outstanding principal balance of the 2018 Term Loan was $149.6 million.
We are subject to certain covenants under the 2018 Term Loan (as defined in the 2018 Credit Agreement), including (but not limited to) a maximum debt-to-total capitalization ratio (as defined in the 2018 Credit Agreement) of 35% under the 2018 Term Loan. We were in compliance with all covenants as of September 30, 2018.

18

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Future principal payments due under the 2018 Term Loan as of September 30, 2018 are as follows:
As of September 30, 2018
 
Principal
 
 
 
(In thousands)
 
2018
 
$
375

 
2019
 
1,500

 
2020
 
1,500

 
2021
 
1,500

 
2022
 
1,500

 
2023
 
143,250

 
Total
 
$
149,625

 
2018 Revolving Credit Facility
Borrowings under the 2018 Revolving Credit Facility may be used for general corporate purposes and will accrue interest at a variable rate equal to, at our discretion, (i) a base rate (as defined in the 2018 Credit Agreement, subject to a floor of 1.00% per annum) plus a margin of 1.00% to 2.50% per annum, based on the applicable corporate credit rating at the time, or (ii) the Eurodollar Rate (subject to a floor of 0.00% per annum) plus a margin of 2.00% to 3.50% per annum, based on the applicable corporate credit rating at the time. As of September 30, 2018, no borrowings had been made under the 2018 Revolving Credit Facility.
We are required to pay a quarterly commitment fee on the average daily undrawn amount of the 2018 Revolving Credit Facility, which ranges from 0.30% to 0.60%, based on the applicable corporate credit rating at the time. As of September 30, 2018, the applicable commitment fee was 0.50%. For the three and nine months ended September 30, 2018, we recorded $0.1 million and $0.2 million of commitment fees in interest expense, respectively.
We incurred issuance costs of $1.5 million in connection with the establishment of the 2018 Revolving Credit Facility, which were deferred and recorded within Other Assets. These costs will be amortized through interest expense over the three-year life of the 2018 Revolving Credit Facility on a straight line basis. For the three and nine months ended September 30, 2018, we recognized $0.1 million and $0.2 million of interest expense from the amortization of deferred issuance costs. At September 30, 2018, the remaining issuance costs were $1.3 million, net of accumulated amortization.
We are subject to certain covenants under the 2018 Revolving Credit Facility, including (but not limited to) the following: a maximum debt-to-total capitalization ratio of 35%, a minimum liquidity requirement, compliance with the PMIERs financial requirements (subject to any GSE-approved waivers), and minimum consolidated net worth and statutory capital requirements (respectively, as defined therein). We were in compliance with all covenants as of September 30, 2018.

19

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

5. Reinsurance
We enter into third-party reinsurance transactions to actively manage our risk, ensure PMIERs compliance and support the growth of our business. The GSEs and the Wisconsin Office of the Commissioner of Insurance (Wisconsin OCI) have approved all such transactions (subject to certain conditions and ongoing review, including levels of approved capital credit).
The effect of our reinsurance agreements on premiums written and earned is as follows:
 
For the three months ended
For the nine months ended
 
September 30, 2018
 
September 30, 2017
September 30, 2018
 
September 30, 2017
 
(In Thousands)
Net premiums written
 
 
 
 
 
 
Direct
$
73,748

 
$
56,217

$
210,452

 
$
142,134

Ceded (1)
(8,367
)
 
(8,501
)
(21,598
)
 
(20,029
)
Net premiums written
$
65,381

 
$
47,716

$
188,854

 
$
122,105

 
 
 
 
 
 
 
Net premiums earned
 
 
 
 
 
 
Direct
$
76,513

 
$
52,024

$
210,725

 
$
133,696

Ceded (1)
(11,106
)
 
(7,505
)
(28,789
)
 
(18,035
)
Net premiums earned
$
65,407

 
$
44,519

$
181,936

 
$
115,661

(1) Net of profit commission
Excess-of-loss reinsurance
2017 ILN Transaction
In May 2017, NMIC entered into a reinsurance agreement with Oaktown Re that provides for up to $211.3 million of aggregate excess-of-loss reinsurance coverage at inception for new delinquencies on an existing portfolio of mortgage insurance policies written from 2013 through December 31, 2016. For the reinsurance coverage period, NMIC retains the first layer of $126.8 million of aggregate losses, of which $125.6 million remained at September 30, 2018, and Oaktown Re then provides second layer coverage up to the outstanding reinsurance coverage amount. NMIC will then retain losses in excess of the outstanding reinsurance coverage amount. The outstanding reinsurance coverage amount decreases from $211.3 million at inception over a ten-year period as the underlying covered mortgages are amortized or repaid, and/or the mortgage insurance coverage is canceled and was $144.1 million as of September 30, 2018. The outstanding reinsurance coverage amount will stop amortizing if certain credit enhancement or delinquency thresholds are triggered.
Oaktown Re financed the coverage by issuing mortgage insurance-linked notes in an aggregate amount of $211.3 million to unaffiliated investors (the 2017 Notes). The 2017 Notes mature on April 26, 2027. All of the proceeds paid to Oaktown Re from the sale of the 2017 Notes were deposited into a reinsurance trust to collateralize and fund the obligations of Oaktown Re to NMIC under the reinsurance agreement. Funds in the reinsurance trust account are required to be invested in high credit quality money market funds at all times.  We refer collectively to NMIC's reinsurance agreement with Oaktown Re and the issuance of the 2017 Notes by Oaktown Re as the 2017 ILN Transaction. Under the terms of the 2017 ILN Transaction, NMIC makes risk premium payments for the applicable outstanding reinsurance coverage amount and pays Oaktown Re for anticipated operating expenses (capped at $300 thousand per year). For the three and nine months ended September 30, 2018, NMIC ceded risk premiums of $1.5 million and $4.8 million, respectively. For the three and nine months ended September 30, 2017, NMIC ceded risk premiums of $1.9 million and $3.3 million, respectively. NMIC did not cede any losses to Oaktown Re during the three and nine month periods ended September 30, 2017 and 2018.
Under the reinsurance agreement, NMIC holds an optional termination right if certain events occur, including, among others, a clean-up call if the outstanding reinsurance coverage amount amortizes to 10% or less of the reinsurance coverage amount at inception or if NMIC reasonably determines that changes to GSE or rating agency asset requirements would cause a material and adverse effect on the capital treatment afforded to NMIC under the agreement. In addition, there are certain events that will result in mandatory termination of the agreement, including NMIC's failure to pay premiums or consent to reductions in the trust account to make principal payments to noteholders, among others.

20

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

2018 ILN Transaction
In July 2018, NMIC entered into a reinsurance agreement with Oaktown Re II that provides for up to $264.5 million of aggregate excess-of-loss reinsurance coverage at inception for new delinquencies on an existing portfolio of mortgage insurance policies written between January 1, 2017 and May 31, 2018. For the reinsurance coverage period, NMIC retains the first layer of $125.3 million of aggregate losses, of which all remained at September 30, 2018, and Oaktown Re II then provides second layer coverage up to the outstanding reinsurance coverage amount. NMIC retains losses in excess of the outstanding reinsurance coverage amount. The outstanding reinsurance coverage amount decreases from $264.5 million at inception over a ten-year period as the underlying covered mortgages are amortized or repaid, and/or the mortgage insurance coverage is canceled, and was $264.5 million as of September 30, 2018. The outstanding reinsurance coverage amount will begin amortizing after an initial period in which a target level of credit enhancement is obtained and will stop amortizing if certain credit enhancement or delinquency thresholds are triggered.
Oaktown Re II financed the coverage by issuing mortgage insurance-linked notes in an aggregate amount of $264.5 million to unaffiliated investors (the 2018 Notes). The 2018 Notes mature on July 25, 2028. All of the proceeds paid to Oaktown Re II from the sale of the 2018 Notes were deposited into a reinsurance trust to collateralize and fund the obligations of Oaktown Re II to NMIC under the reinsurance agreement. Funds in the reinsurance trust account are required to be invested in high credit quality money market funds at all times. We refer collectively to NMIC's reinsurance agreement with Oaktown Re II and the issuance of the 2018 Notes by Oaktown Re II as the 2018 ILN Transaction, and the 2017 ILN Transaction and 2018 ILN Transaction as the ILN Transactions. Under the terms of the 2018 ILN Transaction, NMIC makes risk premium payments for the applicable outstanding reinsurance coverage amount and pays Oaktown Re II for anticipated operating expenses (capped at $250 thousand per year). For the three and nine months ended September 30, 2018, NMIC ceded risk premiums of $1.6 million. NMIC did not cede any losses to Oaktown Re II.
Under the reinsurance agreement, NMIC holds an optional termination right if certain events occur, including, among others, a clean-up call if the outstanding reinsurance coverage amount amortizes to 10% or less of the reinsurance coverage amount at inception or if NMIC reasonably determines that changes to GSE or rating agency asset requirements would cause a material and adverse effect on the capital treatment afforded to NMIC under the agreement. In addition, there are certain events that will result in mandatory termination of the agreement, including NMIC's failure to pay premiums or consent to reductions in the trust account to make principal payments to noteholders, among others.
Under the terms of the 2018 ILN Transaction, we are required to maintain a certain level of restricted funds in a premium deposit account with Bank of New York Mellon until the 2018 Notes have been redeemed in full. "Cash and cash equivalents" on our balance sheet includes restricted cash of $1.4 million as of September 30, 2018. We are not required to deposit additional funds into the premium deposit account and the restricted balance will decrease over time as the principal balance of the 2018 Notes declines.
Quota share reinsurance
2016 QSR Transaction
Effective September 1, 2016, NMIC entered into the 2016 QSR Transaction with a panel of third-party reinsurers. Each of the third-party reinsurers has an insurer financial strength rating of A- or better by Standard and Poor’s Rating Services (S&P), A.M. Best or both.
Under the 2016 QSR Transaction, NMIC ceded premiums written related to:
25% of existing risk written on eligible policies as of August 31, 2016;
100% of existing risk under our pool agreement with Fannie Mae; and
25% of risk on eligible policies written from September 1, 2016 through December 31, 2017.
The 2016 QSR Transaction is scheduled to terminate on December 31, 2027, except with respect to the ceded pool risk, which is scheduled to terminate on August 31, 2023. However, NMIC has the option, based on certain conditions and subject to a termination fee, to terminate the agreement as of December 31, 2020, or at the end of any calendar quarter thereafter, which would result in NMIC reassuming the related risk.
2018 QSR Transaction
Effective January 1, 2018, NMIC entered into the 2018 QSR Transaction with a panel of third-party reinsurers. Each of the third-party reinsurers has an insurer financial strength rating of A- or better by S&P, A.M. Best or both. Under the 2018 QSR

21

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Transaction, NMIC cedes premiums earned related to 25% of risk on eligible policies written in 2018 and 20% to 30% (such amount to be determined by NMIC at its sole election by December 1, 2018) in 2019.
The 2018 QSR Transaction is scheduled to terminate on December 31, 2029. However, NMIC has the option, based on certain conditions and subject to a termination fee, to terminate the agreement as of December 31, 2022, or at the end of any calendar quarter thereafter, which would result in NMIC reassuming the related risk.
The following table shows the amounts related to the QSR Transactions:
 
For the three months ended
 
For the nine months ended
 
September 30, 2018
 
September 30, 2017
 
September 30, 2018
 
September 30, 2017
 
(In Thousands)
Ceded risk-in-force
3,960,461

 
2,682,982

 
3,960,461

 
2,682,982

Ceded premiums written
(16,546
)
 
(14,389
)
 
(46,389
)
 
(36,715
)
Ceded premiums earned
(19,286
)
 
(13,393
)
 
(53,581
)
 
(34,721
)
Ceded claims and claims expenses
337

 
277

 
1,053

 
887

Ceding commission written
3,320

 
2,878

 
9,289

 
7,343

Ceding commission earned
3,814

 
2,581

 
10,501

 
6,921

Profit commission
11,272

 
7,758

 
31,180

 
19,945

Ceded premiums written under the 2016 QSR Transaction are recorded on the balance sheet as prepaid reinsurance premiums and amortized to ceded premiums earned in a manner consistent with the recognition of revenue on direct premiums. Under the 2018 QSR Transaction, premiums are ceded on an earned basis as defined in the agreement. NMIC receives a 20% ceding commission for premiums ceded under the QSR Transactions. NMIC also receives a profit commission, provided that the loss ratio on the loans covered under the 2016 QSR Transaction and 2018 QSR Transaction generally remains below 60% and 61%, respectively, as measured annually. Ceded claims and claim expenses under the QSR Transactions reduce NMIC's profit commission on a dollar-for-dollar basis.
In accordance with the terms of the 2016 QSR Transaction, rather than making a cash payment or transferring investments for ceded premiums written, NMIC established a funds withheld liability, which also includes amounts due to NMIC for ceding and profit commissions. Any loss recoveries and any potential profit commission to NMIC will be realized from this account until exhausted. NMIC's reinsurance recoverable balance is further supported by trust accounts established and maintained by each reinsurer in accordance with the PMIERs funding requirements for risk ceded to non-affiliates. The reinsurance recoverable on loss reserves related to our 2016 QSR Transaction was $2.5 million as of September 30, 2018.
In accordance with the terms of the 2018 QSR Transaction, cash payments for ceded premiums earned are settled on a quarterly basis, offset by amounts due to NMIC for ceding and profit commissions. Any loss recoveries and any potential profit commission to NMIC are also settled quarterly. NMIC's reinsurance recoverable balance is supported by trust accounts established and maintained by each reinsurer in accordance with the PMIERs funding requirements for risk ceded to non-affiliates. The reinsurance recoverable on loss reserves related to our 2018 QSR Transaction was $64 thousand as of September 30, 2018.
6. Reserves for Insurance Claims and Claim Expenses
We establish reserves to recognize the estimated liability for insurance claims and claim expenses related to defaults on insured mortgage loans. Consistent with industry practice, we establish reserves for loans that have been reported to us by servicers as having been in default for at least 60 days, referred to as case reserves, and additional loans that we estimate (based on actuarial review) have been in default for at least 60 days that have not yet been reported to us by servicers, referred to as incurred but not reported (IBNR) reserves. We also establish claims expense reserves, which represent the estimated cost of the claim administration process, including legal and other fees, as well as other general expenses of administering the claims settlement process. As of September 30, 2018, we had reserves for insurance claims and claims expenses of $10.9 million for 746 primary loans in default. During the first nine months of 2018, we paid 59 claims totaling $2.2 million, including 42 claims covered under the QSR Transactions representing $438 thousand of ceded claims and claims expenses.
In 2013, we entered into a pool insurance transaction with Fannie Mae. The pool transaction includes a deductible, which represents the amount of claims to be absorbed by Fannie Mae before we are obligated to pay any claims. We only establish reserves for pool risk if we expect claims to exceed this deductible. At September 30, 2018, 53 loans in the pool were past due by 60 days or

22

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

more. These 53 loans represent approximately $3.2 million of risk-in-force (RIF). Due to the size of the remaining deductible, the low level of notices of default (NODs) reported on loans in the pool through September 30, 2018 and the expected severity (all loans in the pool have loan-to-value ratios (LTV) ratios under 80%), we did not have any case or IBNR reserves for pool risks at September 30, 2018. In connection with the settlement of pool claims, we applied $0.6 million to the pool deductible through September 30, 2018. At September 30, 2018, the remaining pool deductible was $9.8 million. We have not paid any pool claims to date. 100% of our pool RIF is reinsured under the 2016 QSR Transaction.
The following table provides a reconciliation of the beginning and ending reserve balances for primary insurance claims and claim expenses:
 
For the nine months ended September 30,
 
2018
 
2017
 
(In Thousands)
Beginning balance
$
8,761

 
$
3,001

Less reinsurance recoverables (1)
(1,902
)
 
(297
)
Beginning balance, net of reinsurance recoverables
6,859

 
2,704

 
 
 
 
Add claims incurred:
 
 
 
Claims and claim expenses incurred:
 
 
 
Current year (2)
5,090

 
3,546

Prior years (3)
(1,779
)
 
(581
)
Total claims and claims expenses incurred
3,311

 
2,965

 
 
 
 
Less claims paid:
 
 
 
Claims and claim expenses paid:
 
 
 
Current year (2)
37

 

Prior years (3)
1,742

 
720

Total claims and claim expenses paid
1,779

 
720

 
 
 
 
Reserve at end of period, net of reinsurance recoverables
8,391

 
4,949

Add reinsurance recoverables (1)
2,517

 
1,174

Ending balance
$
10,908

 
$
6,123

(1) Related to ceded losses recoverable on the QSR Transactions, included in "Other Assets" on the Condensed Consolidated Balance Sheets. See Note 5, "Reinsurance" for additional information.
(2) Related to insured loans with their most recent defaults occurring in the current year. For example, if a loan had defaulted in a prior year and subsequently cured and later re-defaulted in the current year, that default would be included in the current year.
(3) Related to insured loans with defaults occurring in prior years, which have been continuously in default since that time.
The "claims incurred" section of the table above shows claims and claim expenses incurred on NODs for current and prior years, including IBNR reserves. The amount of claims incurred relating to current year NODs represents the estimated amount of claims and claims expenses to be ultimately paid on such loans in default.  We recognized $1.8 million and $0.6 million of favorable prior year development during the nine months ended September 30, 2018 and 2017, respectively, due to NOD cures and ongoing analysis of recent loss development trends. We may increase or decrease our original estimates as we learn additional information about individual defaults and claims and continue to observe and analyze loss development trends in our portfolio. Gross reserves of $3.7 million related to prior year defaults remained as of September 30, 2018.
7. Earnings per Share (EPS)
Basic earnings per share is based on the weighted average number of shares of common stock outstanding, while diluted earnings per share is based on the weighted average number of shares of common stock outstanding and common stock equivalents that would be issuable upon the vesting of service based RSUs, and exercise of vested and unvested stock options and outstanding

23

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

warrants. The following table reconciles the net income and the weighted average shares of common stock outstanding used in the computations of basic and diluted earnings per share of common stock:
 
For the three months ended September 30,
 
For the nine months ended September 30,
 
2018
 
2017
 
2018
 
2017

(In Thousands, except for per share data)
Net income
$
24,811

 
$
12,312

 
$
72,407

 
$
23,816

Basic weighted average shares outstanding
65,948

 
59,884

 
64,584

 
59,680

Basic earnings per share
$
0.38

 
$
0.21

 
$
1.12

 
$
0.40

 
 
 
 
 
 
 
 
Net income
$
24,811

 
$
12,312

 
$
72,407

 
$
23,816

Warrant gain, net of tax

 

 

 

Diluted net income
$
24,811

 
$
12,312

 
$
72,407

 
$
23,816

 
 
 
 
 
 
 
 
Basic weighted average shares outstanding
65,948

 
59,884

 
64,584

 
59,680

Dilutive effect of issuable shares
2,896

 
3,205

 
2,928

 
3,093

Diluted weighted average shares outstanding
68,844

 
63,089

 
67,512

 
62,773

 
 
 
 
 
 
 
 
Diluted earnings per share
$
0.36

 
$
0.20

 
$
1.07

 
$
0.38

 
 
 
 
 
 
 
 
Anti-dilutive shares

 
830

 
252

 
832


8. Warrants
We issued 992 thousand warrants in connection with the Private Placement. Each warrant gives the holder thereof the right to purchase one share of common stock at an exercise price equal to $10.00. The warrants were issued with an aggregate fair value of $5.1 million.
During the nine months ended September 30, 2018, 142 thousand warrants were exercised resulting in 87 thousand common shares issued. No warrants were exercised during the nine months ended September 30, 2017. Upon exercise, we reclassified the fair value of the warrants from warrant liability to additional paid-in capital and recognized a loss of approximately $333 thousand.
We account for these warrants to purchase our common shares in accordance with ASC 470-20, Debt with Conversion and Other Options and ASC 815-40, Derivatives and Hedging - Contracts in Entity's Own Equity.
9. Income Taxes
We are a U.S. taxpayer and are subject to a statutory U.S. federal corporate income tax rate of 21% for the current and all future years following the enactment of the TCJA on December 22, 2017. We were subject to a statutory U.S. federal corporate income tax rate of 35% for all prior years through December 31, 2017. NMIH files a consolidated U.S. federal and various state income tax returns on behalf of itself and its subsidiaries. Our provision for income taxes for interim reporting periods is established based on our estimated annual effective tax rates for a given year. Our effective tax rate on our pre-tax income was 22.1% and 20.2% for the three and nine months ended September 30, 2018, respectively, compared to 36.9% and 33.3% for the three and nine months ended September 30, 2017, respectively. The decrease in the effective tax rates for the three and nine months ended September 30, 2018 compared to the three and nine months ended September 30, 2017 is attributable to the decrease in the statutory U.S. federal corporate income tax rate. We currently pay no federal income tax primarily due to the forecasted utilization of our federal net operating loss carryforwards, which were $93.9 million as of December 31, 2017. As a result, the interim provision for income taxes represents changes to deferred tax assets.
Provisional amounts
The TCJA reduced the statutory U.S. federal corporate income tax rate from 35% to 21% and changed the tax deductibility of certain expenses for tax years beginning after December 31, 2017. We have not completed our full assessment of the tax effects of the enactment of the TCJA on our deferred tax balances as of September 30, 2018 and December 31, 2017; however, in certain

24

NMI HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

cases, as described below, we have made reasonable estimates of the effects on our deferred tax balances. We recognized a $13.6 million income tax expense in the year ended December 31, 2017 for the items we could reasonably estimate. We are still analyzing the TCJA and refining our calculations, which could impact the measurement of our existing deferred tax assets including those related to share-based compensation. For tax years beginning after December 31, 2017, the TCJA expanded the number of individuals whose compensation is subject to a $1 million cap on tax deductibility and includes performance-based compensation in the calculation. As a result, we recorded a provisional amount to reduce the future tax benefit related to share-based compensation. We will continue to make and refine our calculations as additional analysis is completed. In addition, our estimates may also be affected as we incorporate additional guidance that may be issued by the U.S. Treasury Department, the IRS, or other standard-setting bodies.
In February 2018, the FASB issued ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (Topic 220). This update permits a company to reclassify the disproportionate income tax effects as a result of the TCJA on items within AOCI to retained earnings. We adopted this update on January 1, 2018 and adjusted the disproportionate income tax effects, or "stranded tax effects," resulting in a $0.3 million reduction to our beginning retained earnings as of January 1, 2018. The disproportionate tax effects that remain in AOCI of $4.2 million were not related to the TCJA and will remain in AOCI until certain events occur. Our elected accounting policy for available-for-sale debt securities is the "aggregate portfolio" approach.
10. Common Stock Offerings
In March 2018, we completed the sale of 3.7 million shares of common stock and granted the underwriters on the transaction a 15% overallotment option to purchase additional shares. The overallotment option was exercised in full, resulting in a total of 4.3 million shares of common stock issued. The common stock offering generated total proceeds of approximately $79.2 million, net of underwriting discounts, commissions and other direct offering expenses.
11. Regulatory Information
Our insurance subsidiaries, NMIC and Re One, file financial statements in conformity with statutory accounting principles (SAP) prescribed or permitted by the Wisconsin OCI, NMIC's principal regulator. Prescribed SAP includes state laws, regulations and general administrative rules, as well as a variety of publications of the National Association of Insurance Commissioners. The Wisconsin OCI recognizes only statutory accounting practices prescribed or permitted by the state of Wisconsin for determining and reporting the financial condition and results of operations of an insurance company and for determining its solvency under Wisconsin insurance laws.
NMIC and Re One's combined statutory net income (loss) was as follows:
 
For the three months ended September 30,
 
For the nine months ended September 30,
 
2018
 
2017
 
2018
 
2017
 
(In Thousands)
Statutory net (loss)
$
(17,274
)
 
$
(7,688
)
 
$
(22,022
)
 
$
(29,394
)
NMIC and Re One's statutory surplus, contingency reserve and risk-to-capital (RTC) ratios were as follows:
 
September 30, 2018
 
December 31, 2017
 
(Dollars In Thousands)
Statutory surplus
$
440,697

 
$
371,084

Contingency reserve
292,030

 
186,641

RTC Ratio
13.3:1

 
13.2:1

NMIH is not subject to any limitations on its ability to pay dividends except those generally applicable to corporations that are incorporated in Delaware. Delaware corporate law provides that dividends are only payable out of a corporation's surplus or, subject to certain limitations, recent net profits. NMIC and Re One's ability to pay dividends to NMIH is subject to Wisconsin OCI notice or approval. Certain other states in which NMIC is licensed also have statutes or regulations that restrict its ability to pay dividends. Since inception, NMIC and Re One have not paid any dividends to NMIH.

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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following analysis should be read in conjunction with our unaudited consolidated financial statements and the notes thereto included in this report and our audited financial statements, notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in our 2017 10-K, for a more complete understanding of our financial position and results of operations. In addition, investors should review the "Cautionary Note Regarding Forward-Looking Statements" above and the "Risk Factors" detailed in Part I, Item 1A of our 2017 10-K and Part II, Item 1A of our First Quarter 10-Q, as subsequently updated in other reports we file with the SEC, for a discussion of those risks and uncertainties that have the potential to affect our business, financial condition, results of operations, cash flows or prospects in a material and adverse manner. Our results of operations for interim periods are not necessarily indicative of results to be expected for a full fiscal year or for any other period.
Overview
We provide private MI through our wholly owned insurance subsidiaries NMIC and Re One. NMIC and Re One are domiciled in Wisconsin and principally regulated by the Wisconsin OCI. NMIC is our primary insurance subsidiary, and is approved as an MI provider by the GSEs and is licensed to write coverage in all 50 states and D.C. Re One provides statutorily required reinsurance to NMIC on insured loans with coverage levels in excess of 25% after giving effect to third-party reinsurance. Our subsidiary, NMIS, provides outsourced loan review services to mortgage loan originators.
MI protects lenders and investors from default-related losses on a portion of the unpaid principal balance of a covered mortgage. MI plays a critical role in the U.S. housing market by mitigating mortgage credit risk and facilitating the secondary market sale of high-LTV (i.e., above 80%) residential loans to the GSEs, who are otherwise restricted by their charters from purchasing or guaranteeing high-LTV mortgages that are not covered by certain credit protections. Such credit protection and secondary market sales allow lenders to increase their capacity for mortgage commitments and expand financing access to existing and prospective homeowners.
NMIH, a Delaware corporation, was incorporated in May 2011, and we began start-up operations in 2012 and wrote our first MI policy in 2013. Since formation, we have sought to establish customer relationships with a broad group of mortgage lenders and build a diversified, high-quality insured portfolio. As of September 30, 2018, we had master policy relationships with 1,340 customers, including national and regional mortgage banks, money center banks, credit unions, community banks, builder-owned mortgage lenders and other non bank lenders. As of September 30, 2018, we had $66.5 billion of total insurance-in-force (IIF), including primary IIF of $63.5 billion, and $15.8 billion of gross RIF, including primary RIF of $15.7 billion.
We believe that our success in acquiring a large and diverse group of lender customers and growing a portfolio of high-quality IIF traces to our founding principles, whereby we aim to help qualified individuals achieve the dream of homeownership, ensure that we remain a strong and credible counter-party, deliver a unique customer service experience, establish a differentiated risk management approach that emphasizes the individual underwriting review or validation of the vast majority of the loans we insure, and foster a culture of collaboration and excellence that helps us attract and retain experienced industry leaders. As of September 30, 2018, we had 300 full-time employees.
Our strategy is to continue to build on our position in the private MI market, expand our customer base and grow our insured portfolio of high-quality residential loans by focusing on long-term customer relationships, disciplined and proactive risk selection and pricing, fair and transparent claims payment practices, responsive customer service, financial strength and profitability.
Our common stock trades on the NASDAQ under the symbol "NMIH."
We discuss below our results of operations for the periods presented, as well as the conditions and trends that have impacted or are expected to impact our business, including new insurance writings, the composition of our insurance portfolio and other factors that we expect to impact our results. Our headquarters are located in Emeryville, California and our website is www.nationalmi.com. Our website and the information contained on or accessible through our website are not incorporated by reference into this report.
New Insurance Written, Insurance In Force and Risk In Force
New insurance written (NIW) is the aggregate unpaid principal balance of mortgages underpinning new policies written during a given period. Our NIW is affected by the overall size of the mortgage origination market and the volume of high-LTV mortgage originations, which tend to be generated to a greater extent in purchase originations as compared to refinancings. Our NIW is also affected by the percentage of such high-LTV originations covered by private versus public MI or other alternative credit enhancement structures and our share of the private MI market. NIW, together with persistency, drives our IIF. IIF is the aggregate unpaid principal balance of the mortgages we insure, as reported to us by servicers at a given date, and represents the sum total of

26



NIW from all prior periods less principal payments on insured mortgages and policy cancellations (including for prepayment, nonpayment of premiums, coverage rescission and claim payments). RIF is related to IIF and represents the aggregate amount of coverage we provide on all outstanding policies at a given date. RIF is calculated as the sum total of the coverage percentage of each individual policy in our portfolio applied to the unpaid principal balance of such insured mortgage. RIF is affected by IIF and the LTV profile of our insured mortgages, with lower LTV loans generally having a lower coverage percentage and higher LTV loans having a higher coverage percentage. Gross RIF represents RIF before consideration of reinsurance. Net RIF is gross RIF net of ceded reinsurance.
Net Premiums Written and Net Premiums Earned
We set our premium rates on individual policies based on the risk characteristics of the underlying mortgage loans and borrowers, and in accordance with our filed rates and applicable rating rules. Effective June 4, 2018, we implemented our proprietary risk-based pricing platform, which we refer to as Rate GPSSM. Rate GPS considers up to 30 individual risk variables to assist in our underwriting selection process and determine policy pricing on an individual loan basis. Rate GPS evaluates a broader and more granular spectrum of risk attributes than our previous rate card pricing system and, we believe, provides us with an increased ability to align our premium rates with the risks of each individual loan. Although we expect most new business to be priced through Rate GPS, we will continue to offer a rate card pricing option to a limited number of lender customers who require a rate card for operational reasons. We believe Rate GPS will enhance our ability to continue building a high-quality mortgage insurance portfolio, and allow us to achieve risk-adjusted returns in line with our pricing expectations.
Premiums are generally fixed over the estimated life of the underlying loans. Net premiums written are equal to gross premiums written minus ceded premiums written under our reinsurance arrangements and less premium refunds. As a result, net premiums written are generally influenced by:
NIW;
premium rates and the mix of premium payment type, which are either single, monthly or annual premiums, as described below;
cancellation rates of our insurance policies, which are impacted by payments or prepayments on mortgages, refinancings (which are affected by prevailing mortgage interest rates as compared to interest rates on loans underpinning our in force policies), levels of claims payments and home prices;
cession of premiums under third-party reinsurance arrangements.
Premiums are paid either by the borrower (BPMI) or the lender (LPMI) in a single payment at origination (single premium), on a monthly installment basis (monthly premium) or on an annual installment basis (annual premium). Our net premiums written will differ from our net premiums earned due to policy payment type. For single premiums, we receive a single premium payment at origination, which is initially recorded as unearned premium and earned over the estimated life of the policy. A majority of our single premium policies in force as of September 30, 2018 were non-refundable under most cancellation scenarios. If non-refundable single premium policies are canceled, we immediately recognize the remaining unearned premium balances as earned premium revenue. Monthly premiums are recognized in the month billed and when the coverage is effective. Annual premiums are earned on a straight-line basis over the year of coverage. Substantially all of our policies provide for either single or monthly premiums.
The percentage of IIF that remains on our books after any 12-month period is defined as our persistency rate. Because our insurance premiums are earned over the life of a policy, higher persistency rates can have a significant impact on our net premiums earned and profitability. Generally, faster speeds of mortgage prepayment lead to lower persistency. Prepayment speeds and the relative mix of business between single and monthly premium policies also impact our profitability. Our premium rates include certain assumptions regarding repayment or prepayment speeds of the mortgages underlying our policies. Because premiums are paid at origination on single premium policies and substantially all of our single premium policies are non-refundable on cancellation, assuming all other factors remain constant, if single premium loans are prepaid earlier than expected, our profitability on these loans is likely to increase and, if loans are repaid slower than expected, our profitability on these loans is likely to decrease. By contrast, if monthly premium loans are repaid earlier than anticipated, we do not earn any more premium with respect to those loans and, unless we replace the repaid monthly premium loan with a new loan at the same or greater premium rate, our profitability is likely to decline.
Effect of reinsurance on our results
We utilize third-party reinsurance to actively manage our risk, ensure PMIERs compliance and support the growth of our business. We currently have both quota share and excess-of-loss reinsurance agreements in place, which impact our results of operations and regulatory capital and PMIERs asset positions. Under a quota share reinsurance agreement, the reinsurer receives a

27



premium in exchange for covering an agreed-upon portion of incurred losses. Such a quota share arrangement reduces net premiums written and earned and also reduces net RIF, providing capital relief to the ceding insurance company and reducing incurred claims in accordance with the terms of the reinsurance agreement. In addition, reinsurers typically pay ceding commissions as part of quota share transactions, which offset the ceding company's acquisition and underwriting expenses. Certain quota share agreements include profit commissions that are earned based on loss performance and serve to reduce ceded premiums. Under an excess-of-loss agreement, the ceding insurer is typically responsible for losses up to an agreed-upon threshold and the reinsurer then provides coverage in excess of such threshold up to a maximum agreed-upon limit. In general, there are no ceding commissions under excess-of-loss reinsurance agreements. We expect to continue to evaluate reinsurance opportunities in the normal course of business.
Quota share reinsurance
The 2018 QSR Transaction took effect on January 1, 2018. Under the terms of the 2018 QSR Transaction, NMIC has ceded or will cede 25% of its eligible policies written in 2018 and 20% to 30% (such amount to be determined by NMIC at its sole election by December 1, 2018) of eligible policies written in 2019, in exchange for reimbursement of ceded claims and claims expenses on covered policies, a 20% ceding commission, and a profit commission of up to 61% that varies directly and inversely with ceded claims.
NMIC entered into the 2016 QSR Transaction in September 2016. Under the terms of the 2016 QSR Transaction, NMIC (1) ceded 100% of the risk relating to our pool agreement with Fannie Mae, (2) ceded 25% of existing risk written on eligible policies as of August 31, 2016 and (3) ceded 25% of the risk relating to eligible primary insurance policies written between September 1, 2016 and December 31, 2017, in exchange for reimbursement of ceded claims and claims expenses on covered policies, a 20% ceding commission, and a profit commission of up to 60% that varies directly and inversely with ceded claims.
Excess-of-loss reinsurance
In July 2018, NMIC secured $264.5 million of aggregate excess-of-loss reinsurance coverage at inception for an existing portfolio of MI policies written from January 1, 2017 through May 31, 2018, through a mortgage insurance-linked notes offering by Oaktown Re II. The reinsurance coverage amount under the terms of the 2018 ILN Transaction decreases from $264.5 million at inception over a ten-year period as the underlying covered mortgages are amortized or repaid, and/or the mortgage insurance coverage is canceled. The outstanding reinsurance coverage amount will begin amortizing after an initial period in which a target level of credit enhancement is obtained and was $264.5 million as of September 30, 2018. For the reinsurance coverage period, NMIC retains the first layer of $125.3 million of aggregate losses, of which all remained at September 30, 2018, and Oaktown Re II then provides a second layer coverage up to the outstanding reinsurance coverage amount. NMIC retains losses in excess of the outstanding reinsurance coverage amount.
In May 2017, NMIC secured $211.3 million of aggregate excess-of-loss reinsurance coverage at inception for an existing portfolio of MI policies written from 2013 through December 31, 2016, through a mortgage insurance-linked notes offering by Oaktown Re. The reinsurance coverage amount under the terms of the 2017 ILN Transaction decreases from $211.3 million at inception over a ten-year period as the underlying covered mortgages are amortized or repaid, and/or the mortgage insurance coverage is canceled and was $144.1 million as of September 30, 2018. For the reinsurance coverage period, NMIC retains the first layer of $126.8 million of aggregate losses, of which $125.6 million remained as of September 30, 2018, and Oaktown Re then provides second layer of coverage up to the outstanding reinsurance coverage amount. NMIC retains losses in excess of the outstanding reinsurance coverage amount.
See, Item 1, "Financial Statements - Notes to Condensed Consolidated Financial Statements - Note 5, Reinsurance" for further discussion of these third-party reinsurance arrangements.

28



Portfolio Data
The following table presents primary and pool NIW and IIF as of the dates and for the periods indicated. Unless otherwise noted, the tables below do not include the effects of our third-party reinsurance arrangements described above.
Primary and pool IIF and NIW
As of and for the three months ended
 
For the nine months ended
 
September 30, 2018
 
September 30, 2017
 
September 30, 2018
 
September 30, 2017
 
IIF
 
NIW
 
IIF
 
NIW
 
NIW
 
 
 
(In Millions)
Monthly
$
46,967

 
$
6,675

 
$
28,707

 
$
4,833

 
$
17,827

 
$
11,824

Single
16,560

 
686

 
14,552

 
1,282

 
2,507

 
2,887

Primary
63,527

 
7,361

 
43,259

 
6,115

 
20,334

 
14,711

 
 
 
 
 
 
 
 
 
 
 
 
Pool
2,974

 

 
3,330

 
$

 

 

Total
$
66,501

 
$
7,361

 
$
46,589

 
$
6,115

 
$
20,334

 
$
14,711

For the three and nine months ended September 30, 2018, NIW increased 20% and 38%, respectively, compared to the three and nine months ended September 30, 2017, primarily because of the growth in our monthly policy volume tied to increased penetration of existing customer accounts and new customer account activations, partially offset by a reduction in our single policy production. For the three and nine months ended September 30, 2018, monthly premium NIW increased 38% and 51%, respectively, compared to the same periods a year ago.
For the three months ended September 30, 2018, monthly premium polices accounted for 91% of our NIW. As of September 30, 2018, monthly premium policies accounted for 74% of our primary IIF, as compared to 66% at September 30, 2017. We expect the break-down of monthly premium policies and single premium policies (which we refer to as "mix") in our primary IIF to continue to trend toward our current NIW mix over time. Our primary IIF increased 47% as of September 30, 2018 compared to September 30, 2017, primarily because of the NIW generated between such measurement dates and the high persistency of our policies in force.
The following table presents net premiums written and earned for the periods indicated.
Primary and pool premiums written and earned
For the three months ended
 
For the nine months ended
 
September 30, 2018
 
September 30, 2017
 
September 30, 2018
 
September 30, 2017
 
(In Thousands)
Net premiums written (1)
$
65,381

 
$
47,716

 
$
188,854

 
$
122,105

Net premiums earned (1)
65,407

 
44,519

 
181,936

 
115,661

(1) Net premiums written and earned are reported net of reinsurance and premium refunds.
For the three and nine months ended September 30, 2018, net premiums written increased 37% and 55%, respectively, and net premiums earned increased 47% and 57%, respectively, compared to the same periods in 2017. The increases in net premiums written and earned are due to the growth of our IIF and increased monthly policy production, partially offset by increased cessions under the QSR Transactions tied to the growth of our direct premium volume and the inception dates of the ILN Transactions. The growth of our net premiums written and net premiums earned was also impacted by the QSR Transactions. Under the 2016 QSR Transaction, premiums on singles policies are ceded on a written basis, with unearned premium reserves ceded and recognized on balance sheet as prepaid reinsurance premiums, and subsequently amortized to earnings in a manner consistent with the recognition of earnings on direct premiums written. Under the 2018 QSR Transaction, premiums on singles policies are ceded on an earned basis. The reinsurance coverage period for the 2016 QSR Transaction ended for new policies written after December 31, 2017, and we did not cede any unearned premium reserves on singles policies under the 2016 QSR Transaction during the three or nine months ended September 30, 2018. We did, however, continue to recognize earnings from the amortization of prepaid reinsurance premiums on policies previously ceded under the 2016 QSR Transaction. This contributed to accelerated growth in net premiums earned compared to net premiums written for the periods presented.
Pool premiums written and earned for the three and nine months ended September 30, 2018, were $0.9 million and $2.6 million, respectively, before the effects of the 2016 QSR Transaction, under which all of our written and earned pool premiums have been ceded.

29



Portfolio Statistics
Unless otherwise noted, the portfolio statistics tables presented below do not include the effects of our third-party reinsurance arrangements described above. The table below highlights trends in our primary portfolio as of the date and for the periods indicated.
Primary portfolio trends
As of and for the three months ended
 
September 30, 2018
 
June 30, 2018
 
March 31, 2018
 
December 31, 2017
 
September 30, 2017
 
($ Values In Millions)
New insurance written
$
7,361

 
$
6,513

 
$
6,460

 
$
6,876

 
$
6,115

Percentage of monthly premium
91
%
 
88
%
 
84
%
 
83
%
 
79
%
Percentage of single premium
9
%
 
12
%
 
16
%
 
17
%
 
21
%
New risk written
$
1,883

 
$
1,647

 
$
1,580

 
$
1,665

 
$
1,496

Insurance in force (IIF) (1)
63,527

 
58,089

 
53,434

 
48,465

 
43,259

Percentage of monthly premium
74
%
 
72
%
 
70
%
 
69
%
 
66
%
Percentage of single premium
26
%
 
28
%
 
30
%
 
31
%
 
34
%
Risk in force (1)
$
15,744

 
$
14,308

 
$
13,085

 
$
11,843

 
$
10,572

Policies in force (count) (1)
262,485

 
241,993

 
223,263

 
202,351

 
180,089

Average loan size (1)
$
0.242

 
$
0.240

 
$
0.239

 
$
0.240

 
$
0.240

Average coverage (2)
24.8
%
 
24.6
%
 
24.5
%
 
24.4
%
 
24.4
%
Loans in default (count)
746

 
768

 
1,000

 
928

 
350

Percentage of loans in default
0.3
%
 
0.3
%
 
0.5
%
 
0.5
%
 
0.2
%
Risk in force on defaulted loans
$
42

 
$
43

 
$
57

 
$
53

 
$
19

Average premium yield (3)
0.43
%
 
0.44
%