Description

My initial interest in ASI stemmed from looking for potential M&A targets. I did a simple screen last Friday of P&C insurers trading for under 80% of book and with market caps under $1 billion, which gave me 21 names. Here are the results:

One of the first things that I did was eliminate 10 names with large insider holdings of >40%, as they are unlikely to be willing sellers in this market. MAJC and FMMH are being bought. KFS is a basket case and I would not touch TCHC and UIHC based on two words: Florida homeowners. I have written up and continue to own PMIC and SBX. That leaves four names: ASI, FSR, MHLD and EIHI. FSR is an offshore reinsurer and should be compared accordingly to its peers. There is already a write up on MHLD on Sum Zero. From the remaining two, the cheapest is ASI.

History: The Company began as a captive insurer for a risk retention group in 1985. The initial business was to provide liability coverage for companies involved in the abatement process for asbestos and pollution. They have expanded their products, including buying an excess & surplus ("E&S") company and an admitted company.

Business: There is a decent presentation at KBW, under their insurance conference from September 7 & 8, 2010:

http://www.kbw.com/news/conferenceInsurance2010.html

Some quick highlights:

• "A" rated by Best for past 15 years
• Loss ratio has been stable as expense ratio up slightly due to diversifying into other lines and technology, taking more business on the books due to cost of reinsurance
• Business Mix: 50% E&S, 32% ART, 18% Re; will do fronting business on a fee basis
• 55% of capital base in Bermuda, remainder in US
• Average duration of liabilities about 5 years, average duration of bond portfolio 4.2 years
• $212.6 reinsurance recoverable, with 80% of balances from reinsurers rated less than "A-" collateralized
• Traditionally long-tailed but growing short-tailed business

To access their last cc:

http://www.investorcalendar.com/IC/ClientPage.asp?ID=161774

Underwriting: The average combined ratio since 2001 is 100.4. They are actively expanding business through several new lines, so their expense ratio is high right now. The idea is to have a platform to build upon when the insurance market turns.

Reserves: They had some issues with accident years prior to 2003 but have done better in recent years. Towards the end of the 3^rd Qtr 2010 cc, in the Q&A, there was some good discussion about this. Part of  the strategy to going to short-tail lines is to free up capital that is currently needed to support the long-tail reserves.

Peers: Here is a table of small commercial P&C insurers:

The median P/TBV is 92.6% and median P/E is 11.9.

Strategy: I think that M&A activity will continue in this space and feel that ASI fits into that category. The low valuation provides a decent margin of safety even if it is not bought. If you want a basket approach, you can buy also buy SBX and EIHI. PMIC is also interesting, but think it is less of an acquisition target given its recent demutualization.

Note: I am writing this a bit on the fly, in part to address questions posed on the PMIC and SBX threads. Will try to fill in more details, and questions are welcome.

Catalyst