- Specialty insurer Assurant faces regulatory headwinds in their property insurance segment and a rapidly changing market in the health insurance segment.
- The company recently reported strong earnings and book value growth on the back of a benign natural disaster environment in 2013.
- While the stock is only trading 10% above book value, earnings look set to decline this year.
- This and the overall uncertainty in two important segments makes the stock a 'Hold'.
Last August when I originally wrote about insurance company Assurant (AIZ), I stressed my concerns over the expensive and misguided new regulations being put in place that would burden the industry and ultimately consumers. While 2013, proved to be a better year than I expected for the firm, this was largely driven by the absence of catastrophes in the firm's geographic footprint, a situation that is unlikely to continue indefinitely. With that in mind, I continue to be concerned over litigation costs (e.g. the March 2013 $14 million settlement with the New York Department of Financial Services over lender-placed insurance practices), and higher regulatory expenses in Assurant's critical Specialty Property segment. (This segment generates roughly ~60% of profit, so it is a very important driver of net income for the firm.)
The new "consumer friendly" regulations are intended to curb the use of forced placed policies and other practices which are common in the mobile home market. These regulations ultimately work to the detriment of consumers by making it more difficult to buy housing due in part to higher credit standards by banks (who require all housing to carry insurance when they make a loan on it for obvious reasons), but in the short-term the new regulations help regulators feel like they are acting as watchdogs.
In any event, while AIZ faced higher costs around these new regulations, the company was also able to grow its revenue base nicely thanks to an improving economy which led to good growth in the property, mobile, and vehicle service segments. I was also particularly impressed that AIZ bought back a vast amount of stock last year (~10% of the float), returning nearly all of its net income to shareholders in that fashion. Given these factors, and the generally benign disaster environment, it is little surprise that the company was able to generate a compelling 10.6% ROE and $6.30 in EPS for CY 2013 as reported last week in its earnings announcement. 10.4% book value growth ($59.48 as of Dec 31, 2013 vs. $53.87 a year earlier), and an 8.2% increase in net earned premium also are indicative of a management team doing a nice job on the whole.
So overall, while I'm impressed with Assurant's leadership team, I am still troubled by the external factors facing the stock. The company indirectly alluded to the regulatory challenges it faces going forward. In discussing the 2014 outlook, AIZ said specifically that they expect net earned premiums and fees to decrease due to lower contributions from lender-placed insurance. This lender-placed or forced-place insurance is very profitable for AIZ, but it also protects the consumer.
When homeowners don't pay their insurance in a timely fashion (which happens all the time in my experience), the insurance company drops their coverage. Most homeowners generally don't care about this and usually don't even notice it. Homeowners in general hate paying for insurance right up until they have a disaster. (Then they love it of course.) Yet homeowners, don't really "own" their homes in most cases. The bank owns the home. Homeowners are just paying for it in tiny increments over time. Since the bank usually has much more risk on the line than the "owner" of the home, banks require that homeowners keep property insurance in order to protect against disasters. Thus when the homeowner fails to pay their insurance, the bank will generally put what's called a force-placed or lender-placed policy on the house. These are more expensive insurance policies (which makes sense since the insurer can't control their risk pool; they get stuck with whoever doesn't pay), and the charge for the insurance gets billed to the consumer separately until they get their regular homeowners insurance back in force by paying their bill. Consumers HATE force-placed policies, and regulators don't like that it is more expensive than regular insurance; hence the move to crack down on it. The result of these regulatory changes will be lower levels of placements and lower premium rates for Assurant in 2014. (And greater risk for uncovered "homeowners" but that's another story). Assurant is also going to face greater expenses related to servicing the lender-placed policies.
Outside of the specialty property segment, the other major change in the air for Assurant is in its health insurance segment. Here, I expect the firm will sell more major medical policies around healthcare reform, which should lead to greater fee and premium income. Yet as Wellcare (WCG) showed last week, Obamacare gives with one hand and takes away with the other. In Assurant's case the company will owe increased taxes (due to higher rates) on this income and I suspect the firm will have higher expenses in the segment as it navigates a changing landscape. The truth of the matter is that the healthcare reform may end up being good for insurers like Assurant and others, but it's hard to quantify how much benefit it will bring (if any) are this point. There is simply too much in flux and too many unknowns for accurately estimate earnings. Further, as the industry learns to navigate the new external environment, I expect higher costs in the near term and greater uncertainty around proper premium pricing. Thus, this year AIZ will not see much of a bottom line contribution from the health insurance segment. This might change in future years though.
On the mobile insurance side within the Solutions segment, Assurant continues to see nice international growth, and I would expect this to continue going forward. While there have been reports that smartphone revenue growth will slow this year, that is mostly a result of lower average sales prices (particularly as Apple cedes marketshare to Android). Given that smartphone adoption and tablet adoption continues to increase, I would expect AIZ will keep selling insurance on mobile devices at an accelerated pace. Preneed credit insurance (to pay of credit cards and installment loans in the event of death, disability, or involuntary termination) could pick up steam as the economy improves, but I think this is a 2H2014 trend if it occurs at all.
Overall, I continue to view Assurant as an interesting insurance company with several very unique specialty lines. For that reason the firm is worth considering. Yet at the same time, the regulatory headwinds in its most profitable segment and the general uncertainty around the health insurance markets make this is a tough time to get behind the stock. The company only trades around 1.1X book value right now (~$64 a share), so it's hardly a short candidate, especially given its revenue growth, but it's also not an extremely compelling stock right now. I expect EPS of $6.10 in CY 2014, but that will depend critically on the CAT environment. Long-term investors should consider establishing a position here as the company's expertise in its unique lines bodes well for the long-term profitability, but for everyone else, the story is just too mixed here to get involved.