We are downgrading RLI Corp. (RLI) to Neutral based on the lackluster performance in the Casualty segment along with escalating expenses. The Casualty segment was under pressure, owing to difficult economic conditions, especially in construction and transportation-related coverages.
General Liability, the largest product of the company under the Casualty segment, has remained soft over the past several quarters. Nearly 50% of the General Liability book relates to the construction industry. The significant reduction in construction activity, along with continued rate deterioration, has had a negative impact on General Liability gross premiums written. Given the sluggish economic recovery and the continued soft rate environment, a decline in premium is expected in the near term.
RLI Corp.’s Casualty business is traditionally characterized by higher combined ratios and longer-tailed liabilities, which could exert pressure, overall, on its underwriting margins in the long term. The continued decay in premium rates in this very price-sensitive business raises additional concerns.
The company recorded a higher combined ratio in the third quarter compared to the prior-year quarter. A higher combined ratio at Casualty more than offsets the lower combined ratio at Property and Surety, inducing deterioration of the overall combined ratio.
However, RLI Corp. continues to benefit from its business expansion drive in order to counter the prevailing soft economic conditions. As a strategy, the company has made forays into crop and other assumed property reinsurance, fueling solid performance at the Property segment. The company also partnered with Embrace Pet Insurance Agency to expand into a new niche market.
RLI Corp. reported third-quarter 2010 operating earnings of $1.19 per share, beating the Zacks Consensus Estimate of 97 cents by 22 cents.
The Zacks Consensus Estimate for fourth-quarter 2010 is $1.00 per share. For full years 2010 and 2011, the Zacks Consensus Estimates are respectively, $4.58 per share and $3.89 per share.
RLI Corp. continues to remain focused on enhancing shareholder value. The company paid a dividend of 29 cents in October and bought back shares worth $2 million in the third quarter.
The company’s extensive product offerings, strong local branch network and focus on specialty insurance lines are also expected to aid top-line growth.
The quantitative Zacks #3 Rank (short term Hold rating) on the stock indicates downward pressure on the shares over the near term.
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