Description

Mercury General

Mercury General (MCY) is a buy at current levels (29 1/4). Mercury General is an underwriter of auto insurance. The company had significant earnings disappointments in 1999 depressed stock, but P&C/auto insurance should recover this year. Mercury General is currently selling at a low P/E multiple with steady, high earnings potential several years into the future. Specifically, the stock currently sells at a P/E of 8.5 x 2000 earnings. Over the last ten years, MCY has demonstrated steady earned premium growth (11% per annum), steady equity growth (16% per annum), and high/steady return on equity (20% per annum). In addition, the CEO George Joseph is recognized by competitors, including the management at GEICO and Progressive, as being extraordinary in this industry. Finally, there is several hundred million in excess capital on the balance sheet that could be used to repurchase shares. If the last 10 years earnings growth is discounted into the future, the P/E rises to 15, and a portion of the shares are repurchased, a return to shareholders in excess of 20% is easily obtained over the next 5-10 year period.

Margin of Safety: Excess capital on balance sheet and 4% dividend, consistent growth

Possible Risk: CEO is 74 years old. However, major competitors ( and alternative investment possibilities) are GEICO (via purchase of Berkshire Hathaway), the low cost provider in the industry, and Progressive. However, there are many weaker companies whose market share can be obtained without directly competing with these two major players. In addition, GEICO has a different customer- it doesn't use agents but directly markets-and Progressive operates in different areas of the country.

Summary: Outstanding long term buy with expectation of >20% per year return over 5-10 year period given that current multiple will likely rise, company will grow, and improving fundamentals of industry. Also, there is possibility of share repurchase.

Catalyst

Rebound in auto insurance industry leading to increasing P/E multiples. Company is well-positioned to be leader, share repurchases possible.