Notes for the readers
Most the figures are based on financial reports of Cincinnati Financial Corporation (CINF).
Two weeks ago, Cincinnati Financial Corporation shared its Q2 2017 results on the market. The underwriting profit improved compared to last quarter, which was hit by catastrophe losses. On a year-to-date basis, the net income was lower than last year because of the poor Q1 performance. In spite of a slight enhancement of the profitability, a quarterly dividend which remains sustainable, the P&C insurer remains unfortunately slightly overvalued, with a P/E and P/B ratios above its historical averages.
The Same Commercial Development Trend Than in Q1: Growth Initiatives In P&C, Stabilized Revenues in Life
During the last five years, Cincinnati’s earned premium increased by 6% annually. During the first semester of 2017, the insurer continued focusing on the development of its commercial portfolio in the non-life segments and maintained the same level of earned premiums in the life business. The total earned premiums amounted to $2,449 million or a 5% increase on a year-to-date basis. In P&C, the earned premiums rose by 6% to $2,332 million, mainly driven by growth initiatives, price increases, and a higher level of insurer exposures. Personal lines and Excess and Surplus lines grew respectively by 6% and 14% while Commercial lines rose on average at a low-single-digit percentage rate (3%).
In Commercial Lines, the earned premium increase was mainly driven by Commercial Casualty, Commercial Property, and Commercial Auto.
Source: Cincinnati Financial Corporation’s Q2 2017 report
The breakdown per lines of business remained stable compared to the same period last year.
In Personal lines, the portfolio repartition was also stable.
Unlike Commercial Lines, all Personal Lines rose compared to last year.
Source: Cincinnati Financial Corporation’s Q2 2017 report
In life, the revenues were flat on a year-to-date basis. The increase in the earned premiums of the term insurance products (+5% to $78 million) was offset by the drop in the premiums of the other life insurance products (-19% compared to last year).
On a quarterly basis, the earned premiums of the life insurance products increased by 2%. The growth was due in large part to term life insurance and universal life insurance, which grew respectively by 8% and 10%. Unfortunately, the earned premiums for the other life insurance products declined by 27%, offsetting the positive momentum of the other lines of business partially.
The commercial performance in life segment was not extraordinary, but it was not alarming as the life revenues represented less than 5% for the first semester of 2017 (5% in YTD 2016). As in Q1 2017, the company was focusing on developing its P&C portfolio, the primary source of the operating revenues of the Ohio-based insurer. Furthermore, the management took underwriting actions to lower the combined ratio, which was very high in Q1 2017, mainly affected by the increase in the catastrophe losses.
A Year-To-Date Performance Still Affected By Q1 Catastrophe Claims Hit
On a year-to-date basis, the net income decreased by 3% to $301 million. The decline in the net income was mainly due to the poor operating performance in Q1, partially compensated by the high performance of the investment portfolio. In Q2 2017, the net combined ratio was 98.3% or a 1.0 percentage point improvement compared to Q2 2016. However, the underwriting profit on a year-to-date basis shrunk significantly to $29 million or a 73% year-to-year decrease. The net combined ratio of the half year of 2017 amounted to 99% or a 3.6 percentage point worsening compared to last year.
While the underwriting profit was almost nil for the first quarter of 2017, the net combined ratio improved slightly during the second quarter, positively impacted by a lower level of claims amount related to catastrophe events.
The cost ratio was flat, while the loss and expense ratio before catastrophe losses increased by 4.1%, negatively impacted by the growth in the current year loss ratio and the lower contribution of the positive run-off.
Regarding the results per segment, only the Personal segment was unprofitable.
In Q1 2017, the commercial segment was also unprofitable, hit by the catastrophe losses. During the second quarter of 2017, the commercial segment returned to profitability, thanks to the lower negative contribution of the catastrophe events. On a year-to-date basis, the combined ratio remained higher than the historical track record, amounting to 98.8% (vs. 95.2% in 2016 at the same period).
However, for the personal insurance business, the profitability remained negative, as in Q1 2017. It even deteriorated compared to last quarter, with a quarterly combined ratio of 108.4% (vs. 100.4% in Q1 2017 and 107.5% in Q2 2016). The personal lines continued to be hit by higher catastrophe losses than in the past.
Regarding the excess and surplus line insurance results, the combined ratio improved by 10.3% on a year-to-date basis, proving again that this niche segment is highly profitable, with a low current year loss ratio and a very high run-off. As this line of business represented less than 5%, the high underwriting profit from this segment could not offset the negative performance of the personal business and the poorest performance of the commercial segment.
In life, the technical profit increased by $4 million on a year-to-date basis.
The gain of 4 million for Cincinnati’s life insurance segment was primarily due, as in Q1 2017, to more favorable mortality results.
Still impacted by the disastrous P&C operating performance of Q1 2017, the company succeeded to improve its combined ratio during the second quarter of 2017. However, the personal segment remained harshly impacted by the catastrophe losses, and the profitability of the commercial lines was still higher than last year. In our view, the FY 2017 net combined ratio would amount to 97% and could eventually drop to 96% if the company would succeed to improve its underwriting performance massively by lowering the impact of the catastrophe claims.
A Dividend Aristocrat, But Still Overvalued
Cincinnati Financial Corporation lived up to its reputation: increasing its cash dividend gradually without deteriorating its financial situation by maintaining a low payout ratio. Since 56 years, the dividend amount has been increased, without deteriorating the solvency of the company. In 2017, the annualized dividend would amount accordingly to $2 per share. For a dividend seeker, with a long-term horizon target, the overvaluation is not a problem, as long as the dividend increases and is sustainable. For another kind of investors, the intrinsic value is the core of the investment decision. With a $44.97 book value per share, the P/B is currently 1.77. If Cincinnati would succeed to maintain its annual 10% book value increase target, we could expect a $46.67 book value per share or a forward P/B of 1.71. It remains higher than the five-year average (as a reminder: 1.45). By picking the valuation peers chosen by Cincinnati in its latest investor presentation, Cincinnati seems to be slightly overvalued compared to the P/B median. In our view, relative to its peers and its historical data, Cincinnati is overvalued by 20-25%. And, it is the same story regarding the P/E metric.
Q2 2017 claims environment was better than in Q1; the underwriting profit improved, driven by the enhancement of the profitability in the commercial segment. However, the overall picture remains worse than last year, as the company is still negatively affected by the high level of catastrophe losses occurred in Q1. In our view, it would be difficult for the company to outreach the 2016 profit level significantly. The FY 2017 EPS target is $3.50-3.60. Furthermore, Cincinnati Financial Corporation seems to be overvalued by 20-25%.
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