We are upgrading our recommendation on Everest Re Group Ltd. (RE) to Neutral from Underperform. Though the company’s bottom line is expected to benefit from aggressive share repurchases, top line growth will remain somewhat restricted due to the expected decline in the casualty line and the marine books as a result of tough market conditions.
Everest Re continues to benefit from its strong underwriting skills, a multi-operational platform and vast geographic coverage. The company’s excellent reputation and solid diversification of its product lines, geography and distribution are a strong advantage over its peers. It carries strong financial strength ratings of ‘A+’ by both A.M. Best and Standard & Poor’s. During April 2010, S&P also affirmed its ratings with a ‘stable’ outlook. The rating action attests to the company’s solid core operating fundamentals.
Everest Re has grown its business in the Middle East, Latin America and Asia. Rate decreases in the international markets have generally been less pronounced than in the U.S. markets. We noticed that much of the company’s top line growth in the past few years have emanated from its overseas business. Going forward, Brazil seems promising as the country is expected to see economic growth very soon and the company capitalizes on its recently expanded opportunity for professional reinsurers in that market.
Everest Re has also been shifting its business mix towards property and away from the U.S. casualty writings. Its reinsurance book has switched from predominantly casualty in 2004 to predominantly property in 2010. The U.S. Reinsurance business finished 2009 at $1.17 billion, up 22% over 2008. U.S. Reinsurance’s treaty property book was a strong driver of growth and underwriting profit. The company added several new single-state programs with good pricing margins to this book. Rates are improving in this line and we expect this trend to continue, thereby aiding the company’s top line to grow in the foreseeable future.
However, top line growth at Everest Re is expected to be flat in 2010. While the company expects its property line to post growth, the casualty line is expected to continue to decline due to the ongoing tough market conditions. The increase in competition and its effect on rates, terms and conditions varied widely by market and coverage but are most prevalent in the U.S. casualty insurance and reinsurance markets. The year-end renewal negotiations for treaty casualty (half the book renews at January 1) were challenging across the board and this book is expected to decline in 2010.
Moreover, core investment results are down slightly year over year but up dramatically on a quarterly comparison. Though the quarterly increase reflects a significant hike in partnership income compared with the prior-year quarter, we noticed that on an overall basis, the company continued to experience a lower yield available for new money, as well as for the investments in the short-term accounts where yields have been at historically low levels. Given its capital market environment, we expect the continuation of lower yields at least for the next couple of quarters.
Another area of concern at Everest Re is the potential for reserve additions due to catastrophe loss development and credit or asbestos increases. The company has made material reserve increases in the fourth quarter of 2009 primarily in its U.S. Insurance and U.S. Reinsurance businesses. This issue has beleaguered the company over the past few years and has limited its premium valuation.
However, over the long term, we expect Everest Re to benefit from its capital adequacy, financial flexibility, good long-term operating performance and traditional risk management capabilities. The company’s compounded annual growth rate (CAGR) of book value per share is 13% since its 1995 IPO. Also, the company has achieved an average shareholders’ return of 12% since 1995 and 16% since the corporate restructuring in 1999.
Everest also continues to return wealth to its shareholders from time to time, primarily through share buybacks and dividends. At the end of first quarter of 2010, 7.9 million shares remained available under the company’s current repurchase authorization. During the first quarter conference call, management stated that it plans to continue repurchasing shares in the second quarter and eyes this as an attractive way to increase shareholders’ value.
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