Platinum Underwriters: Mining for Value in Reinsurance

Published on October 21, 2011 at 3:35 pm

Note to readers:  The Rational Walk is pleased to announce the availability of an in-depth research report on Platinum Underwriters Holdings Ltd.  This is the first in a series of occasional research reports that will be offered for sale on The Rational Walk.  The introduction to the report appears below. 

Update:  As of January 23, 2012, we are pleased to make the report available to readers free of charge.  The investment thesis remains substantially unchanged in the three months since original publication of the report.  To obtain the report, click on the download button at the bottom of this post.

Introduction

In the midst of a persistent soft market, equity valuations in the reinsurance industry have been under pressure with many companies trading at substantial discounts to tangible book value.  Skepticism regarding reserve adequacy and underwriting discipline have combined with concerns regarding the long-term impact of recent natural disasters to create a “perfect storm” for the industry.

2002 Spin-Off Offers a “Clean Slate”

Platinum Underwriters Holdings Ltd. (NYSE:  PTP) is a Bermuda-based company organized in 2002 as a spin-off of The St. Paul Companies reinsurance operations.  Platinum has no exposure to legacy adverse loss development prior to 2002 and has posted consistently strong results over the past decade.  Prior to 2011, Platinum posted underwriting profits in all years except for 2005.  Favorable loss development has been recorded for each year since inception with cumulative favorable development of $837 million.

Focus on Underwriting Discipline, Not Market Share

Platinum does not seek to maximize market share and has been willing to shrink premium volume drastically in response to the soft market.  Earned premiums declined from $1.7 billion in 2005 to $780 million in 2010.  Written premiums as a percentage of shareholders’ equity declined from 112% to 40% over the same period.  Management has maintained a strong equity position despite share repurchases of $1.2 billion since 2005.  Book value per share advanced at a 9% annualized rate from 12/31/2002 to 9/30/2011.

Market participants have taken note of Platinum’s net loss of $231 million for the first nine months of 2011 due to earthquakes in Japan and New Zealand, springtime tornados in the United States, and the impact of Hurricane Irene in August.   These disasters have resulted in a year-to-date combined ratio of 156% putting Platinum on track for a full year underwriting loss for the first time since 2005.

Negative Headlines Offer Opportunity

Negative headline news often causes investors to abandon entire industry sectors without regard to the circumstances of individual companies.  Momentum based systems such as the Value Line Investment Survey’s Timeliness system suggests that investors should steer clear of the entire sector. However, there are significant differences between reinsurers when it comes to reserve adequacy, underwriting discipline, and balance sheet strength.  Discerning investors with a long-term focus can often find bargains in such an environment.

Platinum currently trades at approximately two-thirds of September 30, 2011 fully diluted tangible book value per share of $45.68.  Investors clearly appear to be skeptical regarding Platinum’s reserve adequacy and prospects for future underwriting profitability.

Steep Discount Unwarranted Despite Soft Market Conditions

The current steep discount to book is unwarranted even assuming continued soft market conditions for reinsurance.  In this report, we examine Platinum’s track record, future prospects, and valuation.  Based on current business fundamentals, we estimate the intrinsic value of Platinum at between $37 and $53 per share.

While no immediate catalyst exists to narrow the gap between the share price and intrinsic value, we note that increased merger and acquisition activity in the sector could lead to offers for the company given its strong track record, bargain basement valuation, and lack of pre-2002 legacy liabilities.

As of January 23, 2012, The Rational Walk’s 21 page report on Platinum Underwriters is available free of charge.  Click on the download button below to obtain the PDF file (1.3 MB).

Disclosure:  Individuals associated with The Rational Walk LLC own shares of Platinum Underwriters at the date of this report on October 21, 2011 and as of January 23, 2012.

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