Admiral Group is actually quite admirable (OTCMKTS:AMIGF) – Seeking Alpha | CarTailz

Ceri breeze

It has been a difficult year for many UK non-life insurers. High inflation in the sector’s claims supply chains has upset pricing structures, while vehicle-related claims have risen sharply since pandemic restrictions were lifted. Even worse for insurers, they can stopped milking loyal policyholders at steadily higher rates after the UK Financial Conduct Authority banned price walking. This means that 12-month teaser rates have lost their appeal, making it much more difficult to attract potential customers from competitors.

All in all, the sector looks like a dog with fleas. However, as Seeking Alpha readers know, this type of sentiment is just an invitation to an opportunity to secure good prizes for great companies. With that in mind, and after some strong half-year results released in August, I think personal insurer Admiral Group plc (OTCPK:AMIGF) is the kind of contrarian bet that value investors will appreciate.

Property and casualty insurance group Admiral, based in Cardiff, Wales, derives almost all of its profits from UK motor insurance. Back in July, investors saw a profit warning from premium competitor Saber Insurance and decided — taking away about a third of Admiral’s market cap — that Admiral was facing a similarly troubled rise in its combined operating ratio — the insurance industry’s standard measure of underwriting profitability would .

Admiral’s half-year results in August were well-received and the stock recovered somewhat, but has since declined. The half-year results showed the situation beginning to stabilize and highlighted the problems that all non-life insurers have been dealing with this year, but overall gave cause for cautious optimism.

Most importantly, I think, is the fact that Admiral Saber didn’t follow through on issuing a profit warning ahead of the half-year results. It seems to me that the company is coping with the current situation.

Admiral also held on to its regular and special dividends, via payouts of £0.442 and £0.158 respectively, which together accounted for 90% of total earnings for the six months to June.

A further dividend of £0.45 was paid from the sale proceeds of Penguin Portals, the division of Admiral’s insurance comparison website, and this is the final payment related to this transaction. All told, Admiral paid out £1.05 for the first half. This type of commitment to shareholder returns is a strong signal that management is confident in its financial health and that shareholders are being rewarded for holding the stock. In fact, payouts to shareholders over the past decade accounted for about two-thirds of the stock’s above-average total return.

I think Admiral has enough reserves to release more for distributions to shareholders. Even after releasing £169m in the first half of 2022, Admiral’s net claims reserve grew by 6% to £1.72bn. Admiral should be able to continue paying out some reserves even in the current environment. Investors need to distinguish between insurers with company-specific themes that aren’t industry-driven, and insurers that are still doing well and are in good shape. Also, Admiral has a reasonable Piotroski F-Score of 6 out of 9.

Now that the pandemic is easing, at least in the UK, it’s now fair to compare current performance to 2019. The main impact of the pandemic has been to artificially depress the company’s claims ratio as millions of car and truck drivers stopped driving, claiming they were downed. This resulted in a decline in the ratio of claims paid to premiums earned (also known as the group claims ratio) to 49.1% in the first half of 2021, before returning to 67.6% in the first half of 2022. Compare that to the 2019 figure, which was 69%, so we could say the current performance is much closer to the company’s expected average. Where inflation has played a role is in the group’s total expense ratio. That was 23% in 2019, but 29% most recently, as prices in the claims pipeline — for things like used cars, repairs and labor — have all skyrocketed thanks to the current inflationary environment.

customer retention

A key question in the investment thesis concerns the assumptions about the possibility of reducing inflation and cost pressures that could coincide with increasing premium increases. Auto insurance is a competitive business and some insurers have not adjusted premiums for inflation rates. That’s probably why investors panicked at Saber’s profit warning in July, as it was seen as a guide — a benchmark in the auto insurance sector.

Now we can say that those concerns were probably overblown, at least as far as Admiral was concerned. I think the market underestimated Admiral’s ability to retain existing customers and attract new ones. Admiral Group’s customer base is up 14% year-on-year and up 35% since June 2019. Lines in the UK saw customer growth of 12% over the year to 6.9 million or 30% more than in 2019. I think this bodes well for margin growth once inflation eases, especially given that Admiral is now the UK’s largest motor insurer with around 16% of the domestic market and therefore has more bargaining power with suppliers, suggesting Michael Porter’s Five Forces a very favorable position in the industry.

Admiral has clearly demonstrated good underwriting discipline, and along with the aforementioned economies of scale, another reason for Admiral’s recent outperformance over its peers is a more diversified business that allows for a strong reserve base that can feed shareholder payouts.

Take Admiral’s personal loan business, Admiral Money, which offers unsecured personal loans. Better prospects for net interest margins helped the segment post its first profit in the half. While it’s not yet a significant business for Admiral compared to Admiral’s insurance businesses, it underscores the broader potential for growth in profitable niches, as I estimate the division’s return on equity should be in the 30% to 35% range.

risk or opportunity?

However, one risk for Admiral is the US market, which it entered in 2009. Admiral US is unlikely to become a top 10 insurance provider where Berkshire Hathaway is king. It could be worth cutting losses here and getting out of this business and returning proceeds to shareholders. Management will argue that operating in the world’s most mature motor insurance market can provide useful insights for the rest of the group’s business. That could be a catalyst, as Admiral has yet to put the U.S. business to the test.

valuation

The stock now trades at about 16 times earnings, which is roughly in line with its five-year moving average. Its Shiller-PE ratio is 13.5x, which is at the very low end of a broad 10-year range of 11.5x to 30x.

Perhaps that’s because investors are fairly cautious about the assumptions embedded in the claims environment and Admiral’s ability to convert net earned premiums into net profits. Perhaps, as is often the case, investors have become too narrow-minded about near-term earnings declines. However, given customer growth, excellent returns on tangible equity, and my forecast of steady net income growth through 2025, I think the stock has plenty of upside potential.

Management can let the Admiral’s dividend performance do the talking. Over the past decade, no other permanent member of the FTSE 100 has paid a larger proportion of dividends relative to its market capitalization in 2012 than Admiral. This statistic gives Admiral one of the best total return records in the FTSE 100 thanks to its good balance of investment income and growth.

Conclusion

In summary, Admiral’s consistent performance, strong profitability and market positioning give me great confidence in the years to come. I am seriously considering adding this stock to my portfolio.

Leave a Comment