Tuesday, July 18, 2017

Looking at Old Republic International (ORI)

I recently screened the current world of Dividend Aristocrats of which there are 108.  Companies that have continued to increase the dividend for 25 years or more.  My screen was a simple PE vs. Normal PE screen.  Here are the top results (via FASTGraphs):

From the screen above, Old Republic International, ORI, caught my attention with the lowest blended PE on the list.

ORI is a 94 year old insurance company based in Chicago, IL.  They have been paying a dividend since 1942, and have been increasing the dividend for the past 35 years straight.

I next took a look at ORI's 2016 CEO letter and 10K from the company website, and have attached the link below. For those considering an investment in the stock, these are worth reading in their entirety.


Here are some of my takeaways from these materials:
  • ORI historically provided insurance products for three main segments: General Insurance, Mortgage Insurance (MI), and Consumer Credit Insurance (CCI)
  • The financial crisis in 2008 hit the MI and CCI segments of ORI pretty hard, thus a big increase in claims for the years 2009-2011, which is reflected in their historical financials
  • Since that time, they've re-classified these segments as "run-off" businesses, which means they continue to operate, but will be phased out over time, and resources will be invested in growing the General Insurance and other new insurance segments
  • One area of new growth is title insurance, which has been growing rapidly
  • A second area of new growth is accident and life insurance, which is just getting started
  • The culture of the ORI seems very employee and shareholder friendly, and employees own 9% of the company via various compensation and retirement plans
  • The company prefers to grow organically, and is not pursuing questionable acquisitions
  • The company is managed very conservatively, and is focused on maintaining a strong balance sheet to weather difficult times
  • ORI and the leadership team are committed to the dividend, but while its never been halted or cut, it has only been increasing by a penny a year since the financial crisis
Here is a summary of their focus segments going forward, and target % contribution to the business (from the 10K):

And from an update on their website dated June, 2017, here is a recent snapshot summary:

Based on the book value above, the Price/Book ratio for ORI is an attractive 1.11 (stock trading right around the $19.56 as I write this).

A 20 year FASTGraph for ORI follows:

From these data, I note the following:
  • Operating results look good prior to, and a few years after the great recession
  • This firm was particularly hard hit by the financial crisis
  • Operating results seem to have stabilized since 2012
  • The stock is currently trading at a reasonable valuation
  • Market cap of $5B, good credit rating of BBB+, and a low level of debt at 24%
  • Dividend yield is excellent at 3.9%
  • And of course, this is a Dividend Aristocrat...they continued to pay and raise the dividend throughout the financial crisis and difficult times.  35 straight years with an annual increase
Here is a look at their dividend history the past 20 years:

Prior to the recession, they were maintaining a payout ratio of around 25%, and increasing dividends at a nice pace.  During the recession, when earnings and cash flow suffered, they continued to pay and increasing dividend, only 1% increases, while the payout ratio ballooned to 182% in 2012.  Since 2012, the business has stabilized, and the payout ratio is dropping.  Perhaps a larger increase in the dividend will begin as the payout ratio reaches a more normal historical level?

Here is a look at the forecasted growth and cash flow:

Growth projections merit a higher PE estimate or expansion to 15.  At PE 15, the return on revenue, or ROR, is estimated to hit 18.5% annually by the end of 2018.

Taking another look at the valuation today, with a six year history to reflect more recent operations and the market's valuation of the stock give this FASTGraph:

Since 2012, the average PE of the stock as been around 14.7.  Today's price provides a discount to fair value of roughly 10%, so I view this as a good time to initiate a position.

Insiders are supporting the stock recently as well.  Looking at insider transactions since the start of 2016 yields the following chart, showing some buys by both Directors and the CEO at prices between $16.50 - $19.56....

Based on my analysis of this stock, and its current valuation, I initiated a position in the stock on July 18, at a price of $19.52.

I'll finish with the outlook for ORI as stated in the recent CEO letter from March, 2017:

Old Republic’s Outlook is Very Positive 

"Assessing the current insurance scene and the competitive forces at work makes us very comfortable with our state of affairs. We are not and have no aspiration to be among the biggest in our industry. But we’re confident in our ability to compete toe-to-toe with those players. Our current capitalization is more than enough to 1) provide a necessary financial cushion, and 2) add capital to individual subsidiaries so they may take advantage of existing and new opportunities.

As long-term observers and practitioners in insurance, we have a great appreciation for the merits of purposeful rather than growth “because we can.” Acquisitions – many of which we’ve done over the decades – can be a good way to add impetus, access new approaches to organic growth, and fill product distribution channels gaps. But acquisitions can also bring problems and cultural differences that may be so intractable as to distract management’s attention from a wellknown and reliably performing enterprise. To us, the bottom line is that we see very little of worth to acquire in today’s insurance landscape.

The preferred sources of growth, however, will continue to come from our existing business. They will spring from the relationships, intellectual capital, and independent mindset that our people bring to the table. It will come from Old Republic’s good name, and its reputation for being a good place to do business. We’re convinced that ideas will arise that will be a fit with our culture, values, and dedication to doing things right for customers and shareholders alike. With all this, we plan to support and enhance organic growth, and to sponsor highly focused, specialty underwriting ventures (as we last did early in 2015). Most of the operating challenges encountered during the Great Recession years and their lingering aftermath are behind us.

We’re optimistic that our Company is on track to see positive performance which will benefit our customers and serious investors in our stock."

Respectfully submitted on behalf of the Board of Directors, Aldo C. Zucaro Chairman and Chief Executive Officer Chicago, Illinois March 10, 2017

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