January 24, 2010 - 4:51pm EST by
2010 2011
Price: 6.96 EPS $0.80 $0.80
Shares Out. (in M): 61 P/E 8.7x 8.7x
Market Cap (in $M): 421 P/FCF n/a n/a
Net Debt (in $M): 122 EBIT 50 50
TEV ($): 0 TEV/EBIT n/a n/a

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  • Insurance
  • Property and Casualty
  • Discount to Tangible Book


United America Indemnity is a small specialty P&C insurer that trades at 55% of tangible book value. It is headquartered in the Caymans but most of its operations are in the US and about 75% of the business is excess and surplus lines ("E &S"). Further, it is rated "A" by A.M. Best and its capital is significantly underutilized.


History: Fox, Paine & Company bought the company in September 2003 from the Ball family trusts and injected capital to maintain its ratings. An IPO was completed in December 2003. They bought the Penn-America Group in 2005, sold the agency operations in 2006, hired a new CEO in 2006, fired the CEO and hired another in 2007, impaired the goodwill from the Penn-America acquisition, took a hit on investments and began letting unprofitable accounts & agents go in 2008, and did a rights-offering equity raise in 2009.


Business: E&S is levered to hard insurance markets and the market is currently soft. E&S is written by non-admitted insurance companies, which are companies that do not have filed rates, rules and forms with the respective state insurance departments. In turn, E&S carriers are restricted in writing business; usually an insured must be rejected by three admitted carriers before approaching an E&S carrier. The difference between admitted and E&S carriers is somewhat similar to the difference between mutual funds and hedge funds for investors. K/R/W in 2005 provided a brief hard market that peaked in 2006. Since then, the market has softened but INDM has maintained discipline by shedding unprofitable business and agents, as seen in their net earned premiums (NEP):



NEP (millions)












 (my estimate)


In 2009, INDM started retaining more reinsurance business. I estimate that the reinsurance segment will have $40 million in NEP for 2009, which makes the drop in the insurance segment more dramatic.


Reserves: Since 2003, they have mostly had reserve redundancies. In 2008, they had a deficiency, but they have been culling bad business in response.


Investments: They did suffer some marks to investments and they have reduced their private equity exposure but overall, the portfolio is decent. 90% of their MBS is agency and of the remainder, almost 100% of it is rated AAA. The CMBS is all senior tranches and rated AAA.


Capital Structure: INDM has two classes of common stock that are economically the same, with the entire super-voting "B" class shares held by Fox Paine. There are 36.4 million "A" shares and 24.1 million "B" shares. Between the two classes, Fox Paine owns a little over 50% of the company and almost 90% of the votes. Fox Paine is headed by Saul Fox, a KKR alum.


INDM also has the following debt:


-       $90.0 million guaranteed senior notes, 6.22%, 20% principal due yearly starting 7/20/11 and subsequent (issued by US holdco but guaranteed by parent)


-       $10.0 million junior subordinated debentures due 9/30/2033, 3 Month LIBOR + 4.05%


-       $20.0 million junior subordinated debentures due 10/29/2033, 3 Month LIBOR +3.85%


Current tangible book is $808.6 million as of 9/30/09. This compares to $623.7 million of TB (and US statutory capital $501.9 million) as of 12/31/09. Part of the increase in equity was the $94.8 million in net proceeds from the rights offering, with the remainder coming from AOCI ($34.2 million) and Retained Earnings ($57.1 million).


Equity Raise: Given the seemingly massive overcapitalization of equity relative to premiums, the 2009 equity raise seems unnecessary. I suspect that it has to do with how the statutory capital is spread among the insurance subsidiaries. There are seven insurance companies held by two intermediate holding companies, four in United America Insurance Group and three in Penn-America Group, plus Wind River Reinsurance. Insurance regulations restrict how much capital can be removed from an insurance company, making it difficult to quickly redeploy capital. One of the reasons that most insurers have multiple operating insurance subsidiaries is that each company will have a specific filing for each state. So, if INDM writes less E&S and wanted to write more admitted insurance, they would have to use a different insurance subsidiary. This leads in to what I find interesting.


Admitted Business: INDM is largely known for E&S but that is changing. Larry Frakes was hired after retiring from Everest Re. Here is what the PR said upon him joining INDM:



"Mr. Fox added: "Larry's numerous outstanding accomplishments over his multifaceted, 37-year career in property and casualty insurance -- including building over a mere 10 year period Everest Re's specialty primary operation in the United States from something less than a 'green field' to a billion dollar, highly profitable business -- indicates that Larry has the requisite knowledge, skill, experience, and drive to be UAI's President and Chief Operating Officer." (My emphasis added.)



Here is an interesting exchange from the 2007 year-end conference call:




Ahmed Kumar : I guess, Everest is looking at all the employment agreements they have with other employees.

Larry Frakes: Well, we have picked up a couple of veterans not only of Everest, but obviously, some other fairly significant areas.


You can also check out their job board to get a sense of what they are doing. Expanding their admitted business, particularly specialty programs, would help premiums be less like the feast or famine nature of E&S.


Earnings: This is the real question. Three analysts' estimates range from $0.70/sh to $0.90/sh for 2010. I estimate that INDM will earn $1.00/sh in pre-tax investment income. Assume their typical 16% tax rate and that is $0.84/sh after-tax. Thus, the analysts are largely expecting underwriting to be break-even or lower. If they can get premiums up to prior levels, around $500 mm NEP, they should be able to earn around $1.65/sh. However, they have the capital to write $1 billion in premiums. That is not a figure that they would achieve instantly and would take five, maybe seven, years to do. In the past, they have achieved after-tax underwriting margins of 5-6% on NEP, which has been about 1/3 of net operating income. They have the potential in the future for EPS of $2.50 to $3.00. If in seven years they achieve $2.50/sh of EPS, and the stock trades at a multiple of 10, that's a 20% CAGR.



-       Turn around goes nowhere

-       Soft market continues due to too much capital


Catalyst: Cheap growth stock.



Cheap growth stock.

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