2023-08-18 16:34:40 ET
Summary
- James River Group reported Q2 earnings in line with expectations and surpassed revenue estimates by $18.09 million.
- The company has maintained a prosperous path in the Excess and Surplus lines and has a strong investment portfolio.
- However, the stock has seen a significant decline in share price and erratic dividends, raising concerns for income-focused investors.
Thesis
In a market marked by volatility, James River Group ( JRVR ) has consistently exhibited resilience, as the Q2 earnings report highlights. For Q2, James River Group reported a non-GAAP EPS of $0.53, aligning with expectations, and revenue of $238.44 million, surpassing estimates by $18.09 million. While the company has charted a prosperous course, especially in the Excess and Surplus (E&S) lines, and maintains a strong investment portfolio, it hasn't remained untouched by broader market challenges. This is particularly evident in the company’s share price, which has seen a significant decline over an extended period, and its dividends, which have fluctuated notably and may be a concern for income-focused investors. In light of this, the analysis here tends towards a cautious “Hold” rating for the stock. It encourages investors to weigh the firm's solid performance in key sectors against a wider financial context that includes some significant inconsistencies.
Company Overview
James River Group Holdings, Ltd., headquartered in Pembroke, Bermuda since its inception in 2002, is a prominent entity in the U.S. insurance landscape, functioning via multiple subsidiaries. The firm offers specialty insurance and reinsurance services throughout the U.S., spanning three main segments: Excess and Surplus Lines, which provides liability and property insurance largely through wholesale brokers; Specialty Admitted Insurance, focused on workers' compensation across several industries; and the Casualty Reinsurance segment, offering reinsurance services to both third parties and industry counterparts.
James River Group's Q2 Earnings Highlights
James River Group’s Q2 results have now highlighted a sixth consecutive quarter of mid-teens return on tangible common equity, excluding AOCI. This marks a notable consistency in what has been, by all measures, a turbulent market. In the Excess and Surplus (E&S) lines, a key sector for the company, James River has maintained its prosperous path, capitalizing on hard market conditions and a well-performing investment portfolio.
From a numbers perspective, the Q2 financials quantify what I believe the management team identifies as success, recording an adjusted net operating income of $20.6 million. The firm's ROTE, ex-AOCI, for the quarter is documented at 14.8%, and this extends to 15.5% when considering the year-to-date figures. A significant data point is the tangible common equity per share, which increased by over 17% before dividends in the first half of the year. This growth is substantiated by strong underwriting profit and investment returns.
Taking a closer look at the E&S market conditions, they are evidently vibrant. The Group’s data reports an 11% renewal rate increase for Q2, making it the 26th consecutive quarter of positive rate growth. This progress is more than a short-term phenomenon—it has resulted in a compounded rate change of 72.3% since 2017. The current 11% renewal rate increase aligns well with last year’s 14.1% effective rate change, which, analytically speaking, signals sustained market strength.
In this environment, several divisions, including excess property, energy, environmental, and notably the excess casualty division, have performed beyond initial expectations. The excess casualty division, which represents a significant portion of E&S underwriting, reported an 11.6% rate increase for the quarter. Additionally, the excess property unit is on a growth trajectory in the current trading environment, with the data showing nearly 30% premium growth for the quarter and 42.4% at mid-year. It’s worth highlighting that these gains have been achieved without any reported alteration to James River's risk appetite or attachment strategy.
According to James River, these results are indicators that affirm an optimistic outlook for future E&S market pricing and support the prospect of the firm’s continued profitable growth. The submission data for new and renewal business in key divisions points to an accelerating trend, which analytically suggests a pipeline of continued opportunities for premium growth. The company’s strategic discipline is observable in its Commercial Auto division, where premiums were reduced by 33%. This appears to be a calculated response as James River navigates the inherent risks within this specific sector.
Performance: Yielding Disappointment
With optics pointed at the medium-term time frame (see data below), it’s hard to ignore the glaring reduction in the share price, starting at $22.28 in January 2015 and dropping to $15.55 by August 2023. This represents a decline of around 30%, which is notable and needs to be at the forefront of any investment consideration.
The dividend history of JRVR is equally telling. Dividends are often the signs of a healthy, profitable company willing to return profits back to the shareholders. But in the case of James River, it is a rollercoaster. The early years, particularly 2015 and 2016, saw promising dividends, with a yield on cost reaching an impressive 10.10% in FY 2016. However, the dramatic drop in dividends per share from $1.200 in FY 2021 to $0.200 in FY 2022 (a plunge of 83.33%) is a red flag. This substantial reduction data, without looking at fundamentals, usually signify issues with the company’s cash flow or a strategic shift in its capital allocation, neither of which is a positive sign for income-focused investors.
The average dividend growth rate of -14.28% over seven years, coupled with a compound growth rate of -25.96% over the same period, paints a picture of inconsistency and instability. In a world where consistency is key for dividend investors, James River Group seems to be falling short. This kind of unpredictability may deter income-focused investors who rely on dividends to generate steady returns on their investment.
Comparing JRVR to the S&P 500 Inde x, the disparity in performance is stark. While JRVR has an annualized rate of return (without dividends) of -4.09%, the S&P boasts a healthy 9.13%. This underperformance relative to the broader market further emphasizes the lackluster appeal of JRVR as an investment. If you’re looking for growth, it seems you would have been substantially better off with a simple S&P 500 index fund.
Valuation
The company’s Blended P/E ratio (see chart below), which currently stands at 9.73x is markedly below the company’s Normal P/E Ratio of 22.08x, as indicated in the data. Now, what I'm reading into this is that the market is valuing JRVR at a significant discount relative to its historical valuation levels. This naturally begs the question – is this discount a buying opportunity, or does the market perceive elevated risks or declining prospects for James River Group?
The current EPS Yield is 10.28%, which, in a vacuum, looks attractive. This is the kind of yield that typically piques the interest of value-oriented investors seeking profit in an underappreciated stock. However, when we juxtapose this with a rather sluggish Adjusted Operating Earnings Growth Rate of 1.94%, it paints a more complicated picture. A yield above 10% with a sub-2% earnings growth rate throws up something of another red flag for me.
Risks & Headwinds
Turning our attention elsewhere, not every component of James River's results is in the clear. In the Specialty Admitted sector, the numbers show a 10% increase in gross written premiums for Q2. However, James River is contending with consistently declining rates in its workers’ compensation business, with a spotlight on California. The data illustrates a substantial decline, with rates having fallen nearly 50% since 2015 in the California workers’ compensation market. In light of this, the company made a decisive move, opting not to renew a large program in this area. For some context, this program accounted for about "7% of company-wide gross written premiums and 2% of net earned premiums" over the past four quarters.
This decision seems to emphasize the ongoing rate pressure and limited reinsurance capacity that are raising questions about the future profitability of this program. This move, while conservative, sheds light on how James River is navigating its commitment to underwriting discipline and long-term margin protection, even when it means potentially leaving short-term revenue on the table.
In addition, the Casualty Reinsurance segment, known as JRG Re, appears to be operating at a level close to breakeven. In Q2, the earned premium was reported at $26.7 million, but the segment recorded $5.8 million of development on treaties covered by the loss portfolio transfer. The remaining limit on the retroactive reinsurance is now marked at $45 million.
To cap this off, Sarah Doran, the CFO, disclosed the quarter's combined ratio at 94.6%. This number indicates a slight tightening of underwriting profitability, which is certainly a metric worth keeping an eye on.
Rating: Hold
Based on the information provided, I would rate the stock as a "Hold." James River Group has shown consistent performance with a sixth consecutive quarter of mid-teens ROTE and strong growth in the Excess & Surplus lines, capitalizing on hard market conditions and a well-performing investment portfolio. The company exhibits underwriting discipline and prudent risk management, as indicated by its strategic decision to navigate challenges in its workers' compensation and Casualty Reinsurance business. However, the stock has had significant issues that cannot be ignored: a substantial decline in share price, erratic dividends, and underperformance relative to the broader market. While the current valuation seems to offer a potential buying opportunity with a low P/E ratio and high EPS Yield, the company’s relatively low earnings growth rate and the recent cut in dividends might deter income-focused investors. The stock’s current discounted valuation may imply that the market perceives elevated risks or lower prospects, warranting a cautious approach.
For further details see:
James River's Q2: Excess And Surplus Line Excellence And Dividend Dips