New 'Cigar-Butt' Stock Purchase

| About: Endurance Specialty (ENH)

I’ve written several times, about the “cigar-butt” side of our stock portfolio. The purchases and sales of these stocks are always featured in our free monthly newsletter. As a quick review, cigar-butt stocks gained their name when Warren Buffett famously likened them to a used cigar lying on the ground…gross, mostly consumed, unattractive, but still containing one good puff. The concept is that the stock of these companies are under followed and undervalued because their stories aren’t sexy and their future prospects are marginal. So why invest in them, you may wonder?! Well, stocks in these companies are actually selling for substantially less than what they represent, allowing us to (theoretically) purchase $1.00 of value for $0.70…and who doesn’t want to do that.

Before I get into the specifics, I want to say that this style of investing isn’t for everyone. While some investing legends like Walter Schloss and Ben Graham compounded their investment returns for years and years, many other investors have taken different paths to amazing returns. Warren Buffett for instance started out buying such cigar-butt stocks, before Charlie Munger convinced him that buying and owning the world’s greatest enterprises was easier and more profitable. Last week I wrote an article about our desired portfolio, in which I described how the two styles formed the basis for the active side of our stock portfolio.

On Friday (6/13) we purchased shares in Endurance Specialty Holdings, Ltd (NYSE:ENH). The Yahoo Finance profile of the company reads as follows:

Endurance Specialty Holdings Ltd., through its subsidiaries, underwrites specialty lines of personal and commercial property and casualty insurance and reinsurance worldwide. The company operates in two segments, Insurance and Reinsurance. The Insurance segment provides agriculture insurance covering traditional multi-peril crop insurance, crop hail, livestock risk protection, and other agriculture risk management products; and provides casualty insurance, healthcare liability insurance, contract and commercial surety insurance, and inland marine and ocean marine insurance, as well as workers’ compensation insurance. This segment also offers professional lines of insurance products, including directors’ and officers’ liability, errors and omissions, employment practices liability, environmental liability, and pension trust liability insurance, as well as property insurance primarily for earthquake and flood coverage. The Reinsurance segment provides catastrophe reinsurance for catastrophic perils primarily for property and workers’ compensation business; property reinsurance for property insurance policies; and casualty reinsurance for third party liability exposures, such as automobile, general, and umbrella liabilities, as well as for workers’ compensation. This segment also offers other specialty line of insurance that primarily include aerospace, agriculture, marine and energy, and trade credit and surety; weather risk management products; and surety reinsurance for contract and commercial surety, and fidelity insurers, as well as personal accident and terrorism contracts. The company distributes its products directly, as well as through independent agents, and insurance and reinsurance brokers. Endurance Specialty Holdings Ltd. was founded in 2001 and is based in Pembroke, Bermuda.

Endurance Specialty Holdings has several features that make it a poor long term for our portfolio. First and foremost, the company records marginal return on equity and return on invested capital metrics. Additionally, management’s erratic acquisitions are confusing to say the least.

Now that I’ve discussed what this company isn’t, let’s talk about what it is. Much like last month’s purchase (and subsequent sale) of a small and undervalued Texas insurer, I think I’ve spotted opportunity in Endurance Specialty Holdings. While I struggle to find new long-term investments in the current stock market, I have been content to periodically purchase these cigar-butt stocks while waiting for the correction that will eventually come. These investments can take anywhere from a couple weeks to several months to payoff, but have done well for my family and I in the past. The features that drew me to Endurance Specialty Holdings include:

  1. The company has $440M more cash than debt.

  2. A share of stock currently sells for 77% of stated book value.

  3. In the past week insiders purchased nearly $1.1M worth of stock on the open market.

  4. The company has a P/E ratio of less than 10.

As a pleasant little kicker, the company’s stock also features a 2.6% dividend…which should be safe considering it only represents a 20% dividend payout. I refer to this as a kicker, because I don’t intend to hold the company’s stock for a long period of time. Still, I see value here.

Disclaimer: Please don’t take my word for it. Do your own research and make your own decisions. I’m not a financial professional, nor am I recommending anyone buy, sell or trade in this company’s stock. I am merely reporting our purchase and the reasons behind it.