Insurance Group

QBE Insurance Group Ltd (QBE.AX)
Per share values in AUD$ 5-31-2011:
Market value                    $17.68
Cash & Investments       $ 5.25
Enterprise value $12.43
Dividend rate 7.2 %
$AUD Australian dollar  1.06

Durig Capital seeks out quality high yielding global investments denominated in foreign currencies for our International clients.  As a result of these efforts, we have identified QBE Insurance Group as a selection for their investment portfolio.

QBE Insurance Group Ltd operates as an international general insurance and reinsurance group.  It engages in underwriting general insurance and reinsurance risks, the management of Lloyd’s syndicates, and investment management.  It has offices in 45 countries.  Although the company is widely diversified, it is weighted towards property, motor vehicle and marine insurance.  Other coverage includes personal, commercial, and specialist insurance covers, including professional and general liability, and trade credit.  It also covers casualty, credit and surety, accident and health, travel, householders, energy and aviation, workers compensation, engineering, financial and credit, public and product liability, professional indemnity, and property facilitative and direct. In total, they employ approximately 14,000 people worldwide.

QBE is one of the biggest writers of Lloyd’s insurance, which estimated net claims before tax from the earthquakes in Japan and New Zealand and the January 2011 floods in Australia at $US 3.8 billion.  With the losses figured included they still forecast their insurance profit to grow 30 percent this year as it raised its outlook on net earned premium growth on new acquisitions and a favorable reinsurance cover.

O’Halloran, the driving force behind the acquisition-led strategy, said that despite seven acquisitions last year and an over $700 million deal to buy an insurance portfolio from Bank of America, the insurers balance sheet is still very healthy and has room for more acquisitions.  QBE said it has more than a $ 2.2 billion in excess capital and can raise up to $1.2 billion in additional debt giving more than enough firepower to continue with its M&A deals.

Great Balance Sheet:

QBE has $5.25 of cash and investments per share after removing the debt.  They earned $ 0.762 a share in the last 6 month interim earnings.  This was significantly better than the prior interim profit of .422 per share. Free cash flow also vastly improved in the last interim, attaining $1.26 per share by operating activities.  Annualized, that works out to be $2.52 per share, or a 20% return on equity.  It appears that the high levels of cash are camouflaging the true internal earning power of the company.

Nice Interim Performance:

Total premiums earned increased 12% in from the last interim and 3.9% compared to the yearend numbers of 2009.  That is a great sign when just after coverage of a great flood and two major earthquakes they can still forecast profits to grow by about 30 percent in 2011.

Low Value:

The S&P 500 peer groups trade about 9.8 times cash flow.  Applying this metric would value QBE at about $24.69 per share plus $5.25 cash, thus creating a market value of $29.94 per share.

This free cash flow from equity gives them a very high 19.7% return of operational cash flow on the equity value, which is very high considering bench mark bonds are yield under 3%, making this a very attractive internal yield, for such a conservatively financed company.

Considering the $0.760 profit per share earned during the last 6 months along with the 30% forecast growth, we annualized their profit, giving QBE a run rate of $1.52 per share.  That gives QBE an enterprise value of 8.17 times their current profit run rate. Applying the Insurance Property Casualty peer Price to Enterprise of QBE would bring the value to $27.20 plus the $5.25 cash or $32.45 per share.

In my opinion, the free flow cash generation from operations coupled with the expected profit increase puts QBE in a position to hold, if not increase, their dividends.  Backing this theory up is the fact that the dividend is estimated to be about 50% of current free cash flow, down from about 70% last year.

Assuming they maintain the $1.26 dividend payout per share, the yield would be 7.2% based on a share price of $16.99 Australian $ or $18.90 in the US $.  The stock is currently trading with a 7.2% yield, which is over twice that of the 10 year US Treasury.

Largest negatives:

1. Property Casualty lowered values.

Because of the larger one time risks, property causality companies often trade at a lower valuation.  However, QBE should be considered as more of a diversified insurance company, offering many insurance and insurance related services in many countries.  This becomes more evident when the very large issues of major earthquakes and floods result in a smaller impact in the overall bottom line.  With CBE involved in so many countries and re-insurance, the potential of a large scale single event diminishes.

2. Dividend Policy.

They have not had a consistent dividend policy that one could fully expect moving forward.  They have paid a high rate only since 2009, and this year’s dividend seems to have been already paid.

3. Australian Domain Company.

This is an Australian based company that we are benchmarking to other global and US based companies, and this benchmark might not be applicable.  The Australian (AUD) $ is very strong and, though we seek high dividend companies in this currency, possible strength in the US $ may increase risk of loss.  Even though the Australian currency has appreciated about 27% in one year relative to our US dollar, this can be used as an indication that the currency movements in either direction could be considerable.

Conclusion:

We believe that QBE is trading at about a 35% discount to many of their peers and well below most companies in the Insurance Property casualty market.  In our opinion as investment professionals, CBE’s core business appears to be gaining strength, even in the last year when the calamities seemed to be increasing.  Based on profits, cash flow, the low enterprise value, and the very high dividend, the company should be valued higher.

We have been seeking high yielding dividend paying investments denominated in Australian dollars to help diversify our US clients away from possible continued currency devaluations.  In QBE we find a strong financial positioned company that could possibly increase its dividend, even with its current high yield above that of the benchmark bonds.  Knowing that the core operations are very profitable and that they are a repeatable required service, an overall consideration of the cash, profits and cash flow, and domicile in a well managed currency appear so compelling we’ve placed it as a core position in our Investment Growth & Income Portfolio.

Disclosure: Durig Capital and its clients currently do have positions in QBE.

Always putting your interests first,

Randy Durig
Financial Investment Advisor
DIR 971-732-5119

A+ Rating with the BBB!
Durig.com | Investment-Income.net

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