Expert Commentary

2012: Commercial Insurer Growth Remains Uncertain

This article is an update to my February 2010 article, Growth and Uncertainty in P&C Insurer Valuation, which discusses the growth prospects and risk profile of the property-casualty (P&C) insurance industry.

Valuation of Insurance Organizations
February 2012

The impact of recent industry trends on the growth prospects and risk profiles of firms operating in the P&C industry are discussed below.

Growth Prospects

As noted in my previous article, growth for P&C insurers is predominately driven by premium increases and investment earnings. Typically, growth from investments earnings is not as sustainable or consistent as growth from premium increases, as the former mainly depends on factors beyond the control of the company. Thus, generally, stable premium increases are necessary to achieve sustainable growth.

Unfortunately, premium pricing suffered greatly in 2011. According to Robert P. Hartwig, president and economist of the Insurance Information Institute, "The industry posed the worst underwriting results since 2001 last year, and returns on equity sunk into the low single digits."1 The past several years have been a soft market in the P&C insurer industry, typified by oversupply and/or low demand. In a soft market, P&C insurers are typically driven to discount premiums and are at risk of employing insufficiently rigid underwriting practices in an effort to generate business. In markets with higher demand, P&C insurers generally attempt to maximize profitability by increasing premiums and focusing on expanding capacity.

Some believe that the soft market may be coming to end in light of a longer-than-normal period of low rates and risk tolerance. However, contrary to a typical hard market, the anticipated market is not expected to bring large rate increases or less stringent underwriting standards. Rather, as some have described, the industry will likely continue to practice more "careful" underwriting and raise prices nominally to capitalize on the increased demand but avoid potential large losses.2 As such, growth prospects for the industry are subdued even though it may be transitioning out of an extended soft market period. As discussed later in this article, while expected growth remains suppressed, multiples in the P&C insurer industry have risen in apparent expectation of a transition to a hard market.

Additionally, in another sign of general economic improvement, the jobless rate fell to 8.3 percent in January 2012 from 8.5 percent in December 2011. This decrease in the unemployment rate reflects a near 3-year low and the largest gain in employment since April 2011.3 The Federal Reserve had previously expressed that it expected the unemployment rate to fall to as low as 8.2 percent for the year 2012. According to the Federal Reserve, a rate between 5.2 and 6 percent would be consistent with its goal for a healthy economy.4 Expectations for a larger employment base generally indicate an increased customer base for P&C insurers which, all else being equal, likely increases the amount that investors and potential acquirers are willing to pay for interests in such P&C insurers.

Despite the extended soft market, the P&C industry has survived large underwriting losses with enough capital to continue to pay future claims. The P&C industry is thus poised to take advantage of growth opportunities. Going forward, the industry is anticipated to "adjust rates higher and be more conservative in what they insure."1 This would have a positive impact on multiples as, generally in a rising premium environment, valuation multiples of P&C insurers increase as investors are willing to pay more for positive trajectory.


As noted in my previous article, in 2009, P&C insurers saw a rebound in profitability from the recession of 2007–2008 on strengthening of stock and bond markets, which lowered market participants' perception of risk and inflated valuation multiples. Through the first 9 months of 2011, global catastrophes have produced record losses of $350 billion, breaking the previous record of $230 billion set in 2005.5 Generally, an increase in losses decreases consumer risk tolerance and thus increases the demand for insurance.

As the U.S. stock market declined throughout the third quarter of 2011, P&C insurers reported an annualized statutory rate of return on average surplus that was 1.9 percent lower than the return over the same period in 2010. The decline erased prior gains for the year and brought the overall return of the market negative through September 2011. The decline also had a negative effect on the risk profile of the industry, as stock investments make up approximately one-sixth of the P&C industry's invested assets. However, bond prices spiked as a result of lower interest rates, providing insurers with some opportunities to realize capital gains on the sale of appreciated bonds.6 The fourth quarter of 2011 showed some improvement as the S&P 500 increased 11.8 percent during the quarter.7

Some in the P&C industry see opportunity, even in a soft market, to generate profit through operational improvements. According to one source, "Insurers must keep transforming their operations to improve margins and drive more profit to the bottom line by adopting new technologies and management strategies to squeeze unnecessary costs out of the system, as well as employ their people and capital more productively."8 Higher levels of profitability correspond to lower levels of risk and decreased probability that the company will not be able to meet its ongoing obligations, such as debt service. Accordingly, if all goes as expected, the market rewards operational improvements with higher valuation multiples, which is consistent with the trends exhibited by P&C insurer valuations in recent months, as discussed below.

The passage of new legislation also affects the P&C industry as well as the general economy. Legislative reform may impact the valuation of insurance companies through further regulations being imposed on the industry and increased cost of compliance. Alternatively, simplification of the regulatory framework typically lowers the associated cost of compliance.

In conclusion, the P&C insurance industry appears to be taking a turn for the better, although growth and profitability enhancement may initially be limited to companies that are able to take advantage of the still-limited opportunities.

Increased Valuations

Below is a group of publicly traded companies (the "Industry Group") that are representative of the P&C insurance segment of the insurance industry.

• The Chubb Corporation ("CB") • RLI Corp. ("RLI")
• Cincinnati Financial Corp. ("CINF") • Safety Insurance Group Inc. ("SAFT")
• Donegal Group Inc. ("DGIC.B") • Selective Insurance Group Inc. ("SIGI")
• Erie Indemnity Co. ("ERIE") • Specialty Underwriters' Alliance Inc. ("SUAI")
• First American Corp. ("FAF") • The Hanover Insurance Group Inc. ("THG")
• Hallmark Financial Services Inc. ("HALL") • The Travelers Companies Inc. ("TRV")
• Harleysville Group Inc. ("HGIC") • Tower Group Inc. ("TWGP")
• Mercer Insurance Group Inc. ("MIGP") • W.R. Berkley Corporation ("WRB")
• Progressive Corp. ("PGR") • Alleghany Corp. ("Y")

As the economy and stock market began to turn around in early 2009, valuations for P&C insurers steadily improved, and multiples have exceeded historical levels. Figure 1 illustrates the average forward price to earnings (P/E) multiples from 2009 through 2011.

Figure 1:

Average Forward P/E Multiples 2009-2011 Graph

The average multiple was 10.5 times for the 13 months from December 2007 through the end of 2008 as seen in Figure 2. These multiples were likely depressed by the increased risk relating to the prevailing economic conditions and lower expected long-term growth in P&C insurer earnings.

Figure 2:

Average Forward P/E Multiples and Expected Long-Term Growth Rates

Subsequently, in the first half of 2009, despite relatively unchanged expectations for growth, valuations continued to decline, resulting in an average forward P/E multiple of 10.1 times. The persistent downward trend was likely influenced by the significant perceived risks relating to lack of profitability.

Conditions in the P&C industry began to improve in the latter half of 2009 despite lowered growth expectations, as profitability returned and the stock and bond markets improved. This resulted in an increase in the average forward P/E multiple to 11.3 times between July and December 2009.

Between January 2010 and December 2011, conditions in the P&C industry continued to improve and, despite lower estimated growth, multiples expanded, which is likely a result of expected increases in profitability, general economic improvement, and lower perceived risk. This resulted in an increase in the average forward P/E multiple of 13.8 times, as show in Figure 2.


Increased profitability and general economic improvement drove the increased performance of the P&C industry in 2011. Valuation multiples increased to pre-recession levels, after several years of economic downturn and reduced profitability in the industry, which would be in line with a possible end of soft market conditions for P&C insurance. However, expected growth remains lower than pre-recession levels, indicating that, despite improved market conditions and increased profitability potential, the P&C market has not yet transitioned to a hard market.

Nonetheless, hard market conditions are apparently expected, which would typically go along with increased premiums and thus growth. Despite legislative changes, the industry seems poised to capitalize through improving operational efficiency and maintaining lean operations. It will be interesting to observe the P&C insurer valuations in the near future as the market reacts to actual profitability performance relative to expectations.

1"P/C Insurance Execs: Battered by Cat Losses, Industry Needs to Focus on Underwriting," Green, Meg,, January 4, 2012.

2"Insurers' Profit Margins Squeezed By Catastrophe Losses," Seibenmark, Jerry,, December 28, 2011.

3"Jobless rate at 3-year low as payrolls surge," Mutikani, Lucia,, February 3, 2012.

4"Federal Reserve sees slower economic growth in 2012, but lower unemployment rate," Associated Press,, January 25, 2012.

5"2011 – First Nine Month Results," Insurance Information Institute.


7"2012 Commonfund Outlook," January 9, 2012.

8"Insurers May Face Major Hurdles Boosting Top- and Bottom-Lines in 2012," PRNewsWire,, January 17, 2012.

Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

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