PIH is a microcap (c. $50m),
recently floated property and casualty insurance company operating in
Louisiana, with plans to expand into further coastal states. What got me
interested is the valuation gap between PIH and peers and the potential catalysts.
To note, having a very qualitative
discussion at this point is perhaps a bit challenging as the company is only two
publically disclosed quarterly results into their operations and even those
numbers wouldn’t reflect current reality (to note Q2 only came out a few days
ago). As there is limited operational information for now, taking a look at the
people behind the company is conceivably more important.
To give you some background, PIH
was founded by Kingsway Financial (KFS) in 2012 to underwrite insurance in
Louisiana that other insurers stayed away from given some of the catastrophes
that occurred recently. PIH underwrites both on a take-out basis through Citizens
(a state-created, last-resort insurance co in Louisiana) which policies they
took on late last year, and also through the usual way of agents etc. As of the
most recent quarter the company had a total 16,800 policies in force.
If you haven’t come across KFS
yet, have a read at their first shareholder letter to give you a glimpse into their
thinking. KFS is a merchant bank/holding co type entity operating mostly in
insurance, essentially taking a page out of Buffett and Munger’s book.
KFS is chaired by Joseph Stilwell (20%
owner; activist investor) and run by Larry Swets (CEO; insurance industry
background); who had the idea to form an insurance company focusing on
Louisiana. They eventually recruited Doug Raucy to run PIH, who has worked for
Allstate Insurance, founded a few other insurance outfits and seems like a
solid operator.
KFS owns around 16% of PIH and
Larry Swets is on the board along with another major shareholder of 9%, Gordon
Pratt. He is the chairman of PIH with background in insurance and investments
and the principal of Fund Management Group (FMG). He previously founded an
insurance co with the principals of KFS.
There is also another fund
involved by the name of Legion Partners, formed by people with background in
money management for the Disney family and Knight Vinke (European activist
fund), who disclosed their 8.9% stake via a 13D recently. To me it’s unclear
why an activist fund would get involved so early on. The people behind PIH
likely have the same interest as them (i.e. shareholder value), but the more
the merrier.
PIH’s IPO took place in March this
year, when the company raised $15m (net). Then following the IPO the company
went to market and raised about $21m (net) as they saw possibilities to put additional
capital to work. The follow-on offering’s proceeds were allocated to further capitalise
their Louisiana business and to grow in other coastal states (e.g. Florida,
Texas and Hawaii initially).
I noted above that results as per
the filings wouldn’t reflect status quo. As the company has only been earning premiums
on the Citizens take-out policies for a few months they are yet to be fully
captured on the income statement. The same goes for policies they wrote
organically (11,000 currently vs 8,000 last quarter), which is where the focus
and growth are vs take-outs. The impact of this will find its way into retained
earnings as the months progress.
Just a word on the Q2 results. Net
premiums earned grew 14% to $4.7m from last quarter while the combined ratio
increased to 80% vs 45%. Pre-tax profit was $1m vs $2.3m sequentially. The
decrease in profitability (and increase in combined ratio) was caused by an
increase in expenses to $3.8m vs $1.9m (particularly losses/loss adjustments
related to negative weather events and G&A due to the impact of being a public
company and some one-offs).
Book value as of Q2’14 was $49m,
which reflects the additional capital raise in June. This translates to $7.7
per share, implying price to book of around 1.1x based on recent share price of
$8.5. This compares to peers (e.g. homeowner insurance cos like Federated
National) of around 2x.
Now it’s reasonable to have a
relative discount (perhaps the current is excessive) as the company has limited
operating history and given the undiversified Louisiana exposure. Obviously,
the major risk with the business is catastrophes, while this is reinsured to a
certain extent it’s key to understand the people behind the company and their
motivation. Not that they can avoid the risk but how they underwrite is key.
Additionally, the company has plans to expand into further states and while
diversification can be a good thing it’s important that the principals don’t
engage in empire building and lose focus.
I think as the market wakes up to
the full potential of the business we could see a potential re-rating. Assuming
closing the cap to 2x book would mean share price of $15 and less
bullish view of 1.5x around $11, for respective upsides of around 30%-80%. Of
course this assumes no major catastrophes in the ensuing quarters.
I believe that this valuation gap
can be closed as there are few substantial owners in the business, who
understand how capital markets work. In addition, take a look at page 17 of the
attached 10Q discussing a performance share
agreement between PIH and KFS. Accordingly, KFS would be entitled to 375k
shares if the share price hits $12, $15, and $18 (125k at each point). This is
substantial relative to their 1m share ownership in PIH thus they have all the
incentive to deliver.
