Universal Insurance Holdings

Insurance business is complex, and the accounting is doubly complex, which is a major reason why many investors stay away from it. On the other hand, best insurance companies have been historically highly profitable and doing a little bit more research you can find companies trades below their net worth and are still earning money with little debt.

Florida based Universal Insurance Holdings (UVE) is a private personal residential homeowner insurance company. The company all aspects of insurance underwriting, policy issuance, general administration and claims processing and settlement internally through vertically integrated operations. UVE operates within Florida and across the United States.

UVE generate revenue primarily from the collection of insurance premiums. Other sources of revenue include commissions and fees, and lastly investment income. The company operates highly proficient and steadfast business in some of the most challenging coastal areas in the U.S. for natural disasters already more than 20 years.

The nature of UVE business tends to be seasonal during the year because of the Florida residential real estate market and the hurricane season. The amount of direct premiums written tends to increase just prior to the second quarter and respectively tends to decrease approaching the fourth quarter.

In recent years, the Florida personal residential insurance market has been characterized by increased losses and loss adjustment expence (LAE) due to abuses and inflated claims. Also UVE’s costs to settle claims in Florida have increased. The Company has previously increased its current year loss estimates and increased estimates associated with prior years’ claims. The full extent and duration of these market disruptions is unknown and still unfolding.

Due to the above reasons UVE’s earnings have been under the pressure and declined lately. Also the same causes considered lower than normal ROE and depressed profit margins.

Instead COVID-19 pandemic has not directly affected the company very much, but longer tail impacts to the housing and rental markets are still unknown. The ultimate impact of the pandemic on the company’s business cannot be predicted yet.

On the other hand, UVE seems to be in good position to go forward in the long run. Strong organical growth for many years has laid a good foundation for the development of the company. And the company management is experience enough and their attitude to business is first and foremost highly risk averse.

This is reflected in the UVE’s quality earnings, constantly higher operating and free cash flow, and debt well under the control. Debt level is low and fine covered by operating cash flow as well as company’s interest payments on its debt. In addition, UVE’s debt to equity ratio has reduced strongly over the past 5 years.

UVE’s dividend yield 3.5% is notable higher than normal. The company’s dividends are stable and steadily growing in recent years. In normal times payout ratio has been about 20%. At the moment, after earnings decline, company’s payout ratio is 80%, but still well covered by earnings and cash flow.

The most compelling of all is the UVE’s valuation. After the earnings decline, company’s current PE ratio doesn’t say much. If earnings return the normal $3.00 level, at current stock price, it is possible for an investor to achieve an annual return of 15%.

Also based on the balance sheet UVE is bargain. P/B ratio is 1.2 compared to the normal level of about 2.0. Dividend yield (3.5%) is is clearly above the historical 10-year average (2.7%). UVE’s normalized earnings power value ($31) and projedted free cash flow value ($86) refers to the company’s undervaluation (stock price 15 June 2020 = $18.50).

This has also not gone unnoticed by the company’s insiders. We have seen significant insider buying during the last six months. This should be considered as a positive signal. Certainly, earnings and revenue growth trends are even more important factors, but it should not be forgotten that insiders always know their company best.

The company’s greatest risks are related to the external general economic situation. Great economical uncertainty can last for a long time. As stated earlier, the overall impact of the COVID-19 pandemic is still very unknown. As is often the case in times of great uncertainty, brave investors with their own indepence view have the opportunity to make profitable purchase decision.

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