The Bloodbath Can Start
In spite of the optimistic message shared by the management of Atlas (AFH) regarding the 2018 outlook, the current figures are not good. The P&C insurer used the same trick than last year; announcing in advance that the current year will be in line with the expectations and the expense ratio as well. However, the management did not mention the amount positive or negative related to the prior year reserve development. I can tell you that the run-off will be negative.
Lets be clear. Dear investors, please do not expect an annual combined ratio below 100%. The situation observed during the fourth quarter of 2016 is going to repeat itself. And it is going to hurt.
Its Not Only Related To Michigan
In 2016, the explanation was the following: We have observed an increase in the claims level in Michigan. Hence we have to strengthen the level of reserves. Ok, fair enough. As the situation was already known, I would expect the company to take the necessary actions to increase the reserves and reduce the Michigan-related exposure. The exposure in Michigan was reduced to approximatively 1% of the companys business by year end 2017. However, the payments for claims in this state have continued to be disproportionate to historic premiums earned. In other words, the situation was worse than expected.
Even worse, the other businesses have also deteriorated. Atlas was obliged to strengthen the reserves attached to the other segments to be able to pay its claims.
Source: Atlas March Presentation
Dont Worry The Pricing Initiatives Will Improve The Portfolio Profitability. Ahem.
Sleep on, you brave folk, there will be no problem anymore., would say the management. Ahem. I would be eager to believe the management. The problem is that it is not the first time I have heard that. I can understand that the reserves should be strengthened to face pending claims. My concern is the following: Why was it not done throughout the year?
Lets be honest; as for Maiden Holding (MHLD), I am quite disappointed about the choices made by the management. The shareholders equity will decrease significantly and the book value per share as well.
Whatever it will happen in 2018, the shareholder value has been destroyed partially, because of the management. And the intrinsic value of the company has been harmed accordingly.
What Is The Fair Price of Atlas?
The companys management expects a book value per share to be in the range of $7.25 and $8.00. As a reminder, the book value per share amounted to $11.96 in Q3 2017.
Source: Atlas Q3 2017 Presentation
In the past, the company traded at 2.0 times the book value; but the book value grew every year thanks to strong operating performance. Honestly, I would instead consider that paying 1.5 times the book value should be more prudent. In other words, the fair value per share of the company would be in the range of $10.9 and $12.
Now you can also see the glass as half full. If you consider that Aflac has booked the sufficient amount to be cover all the claims related to the dirty businesses, then 2018 should be better definitively. The company expects a combined ratio in the mid-80s and to write in excess of $300 million in premiums in 2018. According to the management, the FY 2018 EPS should exceed $2.00.
If you consider the assumptions taken by the management as reasonable, then you can expect the book value to increase accordingly. Hence, the fair value could go up to $15-$18. The critical point is that you should be confident in the managements view. Regarding the past performance of the company, you could be satisfied with the managements expectations but the losses reported for the fourth quarter of 2016 (and for 2017 as well) should hang in the balance on your investment decision. I am disappointed by the decisions made by the management. The shareholders of the company are now paying the price. And I remain one of them, in spite of my disappointment.
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Disclosure: I am/we are long AFH, MHLD.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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