St. Paul Travelers (STA – NYSE) $53.55
Note: All new or revised material since the last report is highlighted.
Reason for Report:Revised Estimates Previous Edition:November 08, 2006
Overview
St. Paul Travelers (STA or the Company) is based inSaint Paul, Minnesota andis a leading provider of property casualty insurance and surety products and risk management services to a wide variety of businesses, organizations, and individuals. Products are distributed primarily through U.S. independent insurance agents and brokers. Travelers, a member of St. Paul Travelers, is the second largest writer of auto and homeowners insurance through independent agents. The Company has significant operations in Hartford, Connecticut and also has offices in the U.K., Ireland, and Canada. In March 2004, the Company merged with Travelers Property Casualty Corp., a propertycasualty insurance holding company. Following the merger, during the second quarter of 2004, St. Paul Travelers organized its businesses into the following three operating and reporting segments: Personal Lines, Commercial Linesand Specialty Lines. STA began reporting as a combined entity from the second quarter of 2004.
For more information about the Company, please visit its website at
Analysts have identified the following factors for evaluating the investment merits of STA:
Key Positive Arguments / Key Negative ArgumentsCompetitive Position
- Second largest commercial insurer and a dominant player in middle market commercial insurance.
- Post-mergergains likely to result in use of informationtechnology,which presents competitive advantages, according to analysts.
- Strategic initiatives in commercial lines to increase the breadth of product penetration.
- Segmentation capabilities in personal lines businesscould generate top-line growth.
- Quantum Auto, a tiered pricing productis expected to support premium growth going forward.
- Share repurchases likely to continuegiven excess capital position.
- STAis one of the most exposed companies to mutual fund industry liability losses among insurers.
- STAis subject to environmental and asbestos claims,attributable to both general liability and product liability policies.
- Forthcoming hurricane seasonscould weigh down on earnings, especially if serious hurricanes experienced in 2005 afflict a similar amount of damage.
- STA is subjectto fines and ongoing investigations as a result of a wide ranging probe into the insurance industry.
Of the sixteen analysts covering STA, seven gave positive ratings and nine gave neutral ratings. No analyst currently hasa negative rating.
Note: STA’s fiscal year ends December 31st; fiscal references coincide with the calendar year.
Recent Events
On November 30, 2006, the Attorney General of the State of New York notified the Company that the Attorney General had made a determination that insurers making up 65% of the United States market for homeowners multi-peril, private passenger automobile physical damage, private passenger automobile no-fault, other private passenger automobile liability, boiler and machinery and financial guaranty insurance lines do not pay contingent commissions or have signed similar agreements. Accordingly, the Company discontinued paying contingent commissions for such insurance lines effective January 1, 2007.
On October 26, 2006, STA reported the results of 3Q06, ended September 30, 2006. Highlights are as follows:
- Total Revenue was $6,340.0 million versus $5,990.0 million in 3Q05.
- Net written premiums increased 4% to $5.284 billion from 3Q05.
- Net investment income was $668 million after-tax, up 7% from 3Q05.
- EPS was $1.46 as compared to $0.07 per share in 3Q05.
Further details will be provided below.
On November 2, 2006, the Board of Directors STA declared a regular quarterly dividend of $0.26 per common share. This dividend is payable December 29, 2006, to shareholders of record as of the close of business December 8, 2006.
Revenue/ Pre-Tax Income
Total Revenue ($ in Millions)FY ends December / 3Q05A / 1Q06A / 2Q06A / 3Q06A / 4Q06E / 2005A / 2006E / 2007E / 2008E
Digest High / $5,990.0 / $6,050.0 / $6,255.0 / $6,304.0 / $6,386.0 / $24,343.0 / $24,991.0 / $26,308.0 / $27,594.0
Digest Low / $5,990.0 / $6,050.0 / $6,245.0 / $6,304.0 / $6,300.0↓ / $24,343.0 / $24,863.0↓ / $25,200.0↓ / $26,066.0
Digest Average / $5,990.0 / $6,050.0 / $6,247.0 / $6,304.0 / $6,350.3 / $24,343.0 / $24,949.2↓ / $25,868.6↓ / $27,060.3↑
Digest YOY Growth / -0.8% / 2.3% / 5.2% / 3.3%↓ / 7.8% / 2.5%↓ / 3.7%↓ / 4.6%↑
Sequential Growth / -1.9% / -1.6% / 3.3% / 0.9% / 0.7%
Revenue Components ($ in Millions)
FY ends December / 3Q05A / 1Q06A / 2Q06A / 3Q06A / 4Q06E / 2005A / 2006E / 2007E / 2008E
Net Premiums Earned / $4,977.0 / $4,991.0 / $5,181.0 / $5,260.0 / $5,316.3 / $20,341.0 / $20,746.5 / $21,573.9 / $22,288.5↑
Investment Income / $812.0 / $875.0 / $874.0 / $859.1 / $888.0 / $3,165.0 / $3,495.6 / $3,743.7 / $4,003.7↓
Other Revenues/(Expenses) / $45.0 / $40.0 / $37.0 / $36.0 / $38.0 / $178.0 / $149.0 / $151.0 / $152.0↑
Fee Income / $169.0 / $150.0 / $158.8 / $158.0 / $156.2 / $664.0 / $632.6 / $604.7 / $641.5↓
Total r
Revenue as compiled by Zacks Digest for 3Q06 was $6,304.0 millionversus $5,990.0 million in the year-earlier quarter. Revenue details are as follows:
SegmentRevenue Details
Business Insurance
The segment offers a broad array of property and casualty insurance and insurance-related services in the United States.In 3Q06, net written premiums grew 0.8% to $2.64 billion, as compared to 3Q05. Retention was 86% in Commercial accounts and 84% in select accounts, both up approximately 2% from 3Q05. Renewal pricing was up 3% in Commercial accounts and up 4% in select accounts. New business was down 14.4% from the prior year quarter, while select-accounts were up 4.9%. One brokerage firm (Bernstein) believes that commercial auto has had worsening price margins for a few quarters now and loss trends will continue to worsen before price margins get better.
Personal Insurance
The segment writes virtually all types of property and casualty insurance covering personal risks. The primary coverages in this segment are personal automobile and homeowners insurance sold to individuals.Personal net written premiums were up 6.2% to $1.7 billion as compared to 3Q05. Retention was described as stable in both Auto and Homeowners, at 84% and 87%.Auto premium growth was 4%, but 9% excluding the impact of transitioning to sixmonth policies. Homeowners premium growth was 9% as rate increases offset somepullback from coastal exposures, according to analysts. Renewal pricing was described as modestly positive in Auto (up1%), while Homeowners pricing was up 6%. Auto PIF growth was 11% and newbusiness premiums were up 8.8%, which management attributed to the transition ofsix-month policies. Homeowners PIF growth was 9% and new business was up 11%.
Financial, Professional & International (FP&I) Insurance
The segment includes surety, crime, and financial liability businesses, which primarily use credit-based underwriting processes, as well as property and casualty products that are predominantly marketed on an international basis. FP&I net premiums increased from the year-ago period by 7.7% to $912 million, as compared to 3Q05. Growth in Fidelity and Surety as well asInternational drove the solid results. Retention in the quarter was 84% in domesticand 86% in international, 2-4 points higher compared to year ago results. Renewalpricing was up 6% in domestic and down 1% in international. New business indomestic was down 9.1%, while international was up18.8%.
Premium Growth
Net written premiums increased 4% to $5.284 billion from 3Q05, with all three segments contributing to the growth, according to analysts and attributed to strong retention rates, especially for non-catastrophe exposure, and renewal price increases on Southeastern U.S. catastrophe-prone exposures. For comparison of period over period growth, the impact of the increase in property catastrophe reinsurance costs reflected in the current quarter was approximately offset by the impact of reinstatement premiums associated with Hurricanes Katrina and Rita in the prior year quarter. The Zacks Digest compiled net written premiums in 3Q06 was $5.260 billion, up 5.7% as compared to $4.977 in 3Q05.
Net Investment Income
Net investment income in 3Q06 was $668 million after-tax ($858 million pre-tax), a 7% increase from 3Q05. The increase was attributed to higher fixed income rates and strong operating cash flows.The Zacks Digest net investment income for 3Q06 was $859 million (pre-tax), 5.8% increase from 3Q05.
For more details on individual analyst opinions on Revenue, please see the Consensus tab of the STA spreadsheet.
Margins/Combined Ratio
FY ends December / 3Q05A / 1Q06A / 2Q06A / 3Q06A / 4Q06E / 2005A / 2006E / 2007E / 2008EPre Tax Income Margin / -0.6% / 22.2% / 21.7% / 22.9% / 21.3%↑ / 10.9% / 21.3%↑ / 21.3%↑ / 21.3%↑
Net Operating Margin / 0.8% / 16.7% / 15.4% / 16.5% / 15.8%↑ / 8.2% / 15.8%↑ / 15.8%↑ / 15.8%↑
3Q06 net and operating income included an after-tax benefit of $55 million ($87 million pre-tax) for net favorable prior year reserve developments. This amount included after-tax charges of $102 million ($155 million pre-tax) and $79 million ($120 million pre-tax) for asbestos and environmental reserve development, respectively, which were more than offset by an after-tax benefit of $236 million ($362 million pre-tax) for other net favorable prior year reserve development, including $66 million after-tax ($113 million pre-tax) due to an approximately 5% reduction in reported pre-tax catastrophe losses, net of reinsurance, related to Hurricanes Katrina, Rita and Wilma. Net and operating income in the current quarter also included an after-tax benefit of $43 million ($67 million pre-tax) due to the re-estimation of the current year loss ratios for the first two quarters of 2006.
Business Insurance
The 3Q06 combined ratio was 92.0% versus 126.2% in3Q05, with a loss ratio of 61.6% and an expense ratio of 30.5%.According to analysts the quarter was impacted by $46 million pre-tax (1.7 points) of other prior yearunfavorable reserve development although current accident years developedfavorably by $40 million pre-tax (1.5 points), leaving development relatively flat.Management commented that there were no catastrophe losses recorded in theBusiness Insurance lines for 3Q06.
Financial, Professional & International (FP&I) Insurance
The 3Q06 combined ratio was 88.9% versus 89.0% in 3Q05, with a loss ratio of 53.9% and an expense ratio of 35.1%. The quarter wasimpacted by 0.2 points of other prior year favorable reserve development. According to analysts there wasno catastrophe impact in 3Q06.
Personal Insurance
The 3Q06 combined ratio was 78.4% versus 111.3%in 3Q05, with a loss ratio of 50.2% and an expense ratio of 28.2%. The quarterwas impacted by $15 million pre-tax (0.9 points) of cats and favorable developmentbenefited the combined ratio by 7.9 points in 3Q06.
For more details on individual analyst opinions on Margins, please see the Consensus tab of the STA spreadsheet.
Reserve Adequacy
During 3Q06, STA announced it completed its asbestos and environmental reserve study.This is typically finished in the fourth quarter.The increase in the reserves during 3Q06 was more a function of recognizing the higher than originally anticipated cost of litigating these claims. Nevertheless, the overall trends seem to have become much more favorable.
Asbestos Reserve Development
STA increased asbestos reserves by $155 million in the current quarter in connection with the completion of its annual asbestos review, resulting in a $102 million after-tax charge. There were no asbestos reserve adjustments in the prior year quarter.
Environmental Reserve Development
The Company increased environmental reserves by $120 million, resulting in a $79 million after-tax charge. There were no environmental reserve adjustments in the prior year quarter.
Earnings per Share
STA reported net income of $1.043 billion, or $1.52 per basic share and $1.47 per diluted share, for 3Q06as compared to $162 million, or $0.24 per basic share and $0.23 per diluted share, for 3Q05 ended September 30, 2005. Net operating income in 3Q06 was $1.037 billion, or $1.51 per basic share and $1.46 per diluted share, compared to $50 million, or $0.07 per basic and diluted share, in the prior year quarter.
STA increased2006 annual earnings per diluted share guidance range to $5.50 to $5.10 from the previously announced range of $4.90 to $5.10. Guidance is based on a number of assumptions, including catastrophe losses of $35 million for 4Q06 and diluted shares of 717 million before impact of any repurchase.
FY ends December / 3Q05A / 1Q06A / 2Q06A / 3Q06A / 4Q06E / 2005A / 2006E / 2007E / 2008EDigest High / $0.07 / $1.41 / $1.40 / $1.46 / $1.54 / $2.90 / $5.75 / $6.00 / $6.04
Digest Low / $0.07 / $1.41 / $1.34 / $1.45 / $1.32 / $2.90 / $5.50 / $5.20 / $5.40
Digest Avg. / $0.07 / $1.41 / $1.34 / $1.46 / $1.41↑ / $2.90 / $5.61 / $5.56 / $5.63
Digest YoY growth / 14.6% / -2.6% / 1984.7% / 539.3%↑ / 97.3% / 93.4%↓ / -0.9% / 1.3%
Mgmt Guidance / $5.50-$5.65
Zacks Consensus / $1.33 / $1.40↑ / $5.60↑ / $5.48↓
Highlights from the above chart are as follows:
- 2006 forecasts (total 15) range from $5.50 to $5.75; the average is $5.61.
- 2007 forecasts (total 15) range from $5.20 to $6.00; the average is $5.56.
- 2008 forecasts (total 7) range from $5.40 to $6.04; the average is $5.63.
Most analysts covering STA raised their respective EPS estimates following 3Q06 results. One firm (Citigroup) raised the EPS estimate from $5.45 to $5.62for 2006,based on net favorable reserves development including reduction in cat loss for 3Q05 hurricanes, a re-estimates of current accident year results (from 1H06) and benign 3Q06 cat losses.
For more specific details on individual analyst opinions, please see the EPS tab of theaccompanying STAspreadsheet.
Target Price/Valuation
The average of the price targets provided by analysts is $56.55(↑from the previous Digest report; 5.6% upside from the current price), which is the midpoint of a range of $49.00(8.5%downside from the current price)(Bernstein) to $64.00(19.52% upside from the current price) (Friedman,Billings).
The analyst (Friedman Billings) quoting the highest target price maintained anOutperform rating and valued the shares using a regression analysis. The analyst (Bernstein) quoting the lowest target price maintained a Market Perform rating and used a 12-month forward multiple on price/book value.
Ratings Distribution
Positive / 44%↓Neutral / 56%↑
Negative / 0%
Average Price Objective / $56.55↑
Digest High / $64.00
Digest Low / $49.00
No of analysts with target Price / Total # of analysts / 11/16
Metrics detailing current management effectiveness are as follows:
Metric (TTM) / STA / Industry / S&P 500Return on Assets (ROA) / 2.79% / 3.62% / 8.30%
Return on Investments (ROI) / NM / 10.60% / 12.36%
Return on Equity (ROE) / 13.63% / 14.40% / 20.23%
For more details on individual analyst opinions, please see the Valuation tab of the STA spreadsheet.
Capital Structure/Solvency/Cash Flow/Governance/Other
Capital Management:
During 3Q06, STA repurchased 2.7 million common shares for a total cost of $121 million under its $2 billion share repurchase program authorized in 2Q06. It has repurchased an aggregate of 8.4 million shares for a total cost of $371 million under the program, including the repurchases during 3Q06. Given year-to-date results, the Company intends to accelerate the pace of its share repurchases in 4Q06.Given the solid earnings year to date, STA plans to accelerate the rate of share buybacks throughout the remainder of the year.One brokerage firm (Friedman Billings) believes that the buyback creates additional demand for the stock and is highly accretive to earnings. It calculates that the remaining $1.629 billion buyback could accrete annual earnings by approximately $0.16 per share. Aside from the buyback, the Company could also increase its dividend yield, which is already higher than the dividend yield peer group average of 1.7%.
Balance Sheet
Total net loss reserves were $41.5 billion at the end of 3Q06, down from$43.1 billion at the end of 2Q06. Paid losses for 3Q06 were $3.0billion, for a paid-to-incurred ratio of 99.4%. Total debt was $6.6 billion, and the ratioof debt-to-total capital was 21.0%. Shareholders' equity totaled $24.8 billion as ofSeptember 30, 2006, and book value per share was $35.69. Book value excludingFAS 115 unrealized gains was $35.10 per share.
Segment Realignment
In August 2006, the Company announced a realignment of two of its three segments. The former Commercial and Specialty segments were realigned into two new segments: the Business Insurance segment and the Financial, Professional & International Insurance segment. The Personal segment was renamed Personal Insurance. The changes were designed to reflect the manner in which the Company's businesses are currently managed, and represent an aggregation of products and services based on type of customer, how the business is marketed, and the manner in which risks are underwritten. Financial data for all periods presented has been reclassified to be consistent with the new segment structure.
Potentially Severe Problems
Risks to analyst target pricesinclude substantial asbestos liability exposure, possibility of a loss reserve, lack of capital flexibility, bond and equity market volatility, and pricing pressure.
Long-Term Growth
Long-term growth ratesfor STA provided by analysts fall within a range of 8.0% (AG Edwards, Keefe Bruyette) and 12.0 %(Lehman, Merrill). The Digest long-term average growth rate is 10.2%.According to analysts, the P&C insurance market is extremely competitive. Pricing is overly aggressive in most segments of the market, which has driven down overall industry profitability. Analysts also suggestrecent catastrophe losses bode well for the pricing power of the Company in its P&C operations.
The impact of the rise in interest rates appears to be discounted in the valuation of most insurance industry stocks. The New York Attorney General (NYAG) probe and changing secular dynamics could also weigh down on valuation, according to analysts.
Upcoming Events
No upcoming events to report as of now.
Individual Analyst Opinions
POSITIVE RATINGS(44%)
AG Edwards –Buy($56.00- price target) –(7/31/06): INVESTMENT SUMMARY: The firm has maintained a Buy rating and raised price target from $50.00 to $56.00 due to the solid book value growth.
Bernstein –Outperform ($49.00) –(11/27/06): The analyst has maintained an Outperform rating and price target of $49.00. INVESTMENT SUMMARY: The firm believes that STA will continue to perform strongly as compared to most public companies.
DeutscheBank –Buy(62.00) – (11/27/06): The firmhas maintained a Buy rating and raised theprice target from $59.00 to $62.00. INVESTMENT SUMMARY: The firmbelieves if the Company continues to generate consistent results, the valuation multiple should increase towards the average of the peer group.
Friedman, Billings –Outperform ($64.00) –(10/26/06): The analyst has reiterated an Outperform rating and raised target price from $64.00 to $56.00. INVESTMENT SUMMARY: The firm believes that management is gaining hold with investors. Beyond strong current earnings, key profitability drivers are improving premium growth, reserve redundancies and loss costs favorable.
Keefe Bruyette – Outperform ($54) – (10/26/06): The firm has maintained an Outperform rating and increased price target from $51.00 to $54.00. INVESTMENT SUMMARY: The firm has a favorable outlook for STA, based on a strengthened balance sheet, more capital flexibility and favorable loss.
Lehman – Overweight ($59.00) – (12/20/06): The firm reiterated an Overweight rating and raised the target price from $57.00 to $59.00, based on its expectations for improving investor sentiment as pricing for commercial P&C insurance remains stable.
Merrill – Buy ($59.00) – (10/26/06): INVESTMENT SUMMARY The analysthas maintained a Buy rating and raised price target from $51.00 to $59.00.
UnionBankSwitz. – Buy ($58) – (10/27/06): The firm has raised the price target from $57.00 to $58.00.INVESTMENT SUMMARY: The firm believes that STA’s distribution initiatives will enable it to continue to grow commercial lines premium volume despite competitive commercial lines pricing.
NEUTRAL RATINGS (56%)
Zacks Investment Research – Hold ($55.00) – (12/01/06): The firm hasmaintained a Hold rating and increased its price target from $48.00 to $55.00. INVESTMENT SUMMARY: The firm believesthat STA is better positioned than many of its peers to weather the softening P&C market.It feels that excluding catastrophes, underwriting profitability remains strong.Therefore, the firmdoes not see a catalyst for multiple expansion in the near future.
Bear Stearns – Peer perform – (10/26/06):The firmhas maintained a Peer perform rating. INVESTMENT SUMMARY: though STA showed strong book value growth, the firm recommends investors remain on sidelines as it believes the market will become more competitive and STA will be impacted more than competitors.