Seeking Alpha: Tower Group Manages To Preserve Some Value

The long nightmare that is Tower Group (TWGP) now has an end in sight. Assuming that a sufficient number of Tower shareholders approve, and that the company doesn't go insolvent before the deal closes, Tower will be selling itself to ACP Re, a privately-held insurance company controlled by the founder of AmTrust Financial Services (AFSI). As huge reserve charges had severely depleted the company's capital and led to downgrades that essentially excluded it from the market, I believe this is the best outcome that shareholders could reasonably ask for or expect.

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Tower Group Manages To Preserve Some Value

Seeking Alpha: Tower Group Using Reinsurance For Assurance

When I wrote about the "almost unbelievable" situation at Tower Group (TWGP) on September 18, little did I know the story was about to get even more volatile. Not only did the stock plunge significantly on that day (down almost 30%), but the following days saw the stock fall another 30% before rebounding a bit.

On Tuesday night, the company announced a series of reinsurance agreements that should bring some stability to the situation. While two of the agreements will help the company manage and contain additional losses from its workers comp and multi-peril liability businesses, the others will help ease the company's capital needs for the remainder of the year and also give the company a little more time to work through its loss estimate and reserving issues.

I don't want to jump to the immediate conclusion that these transactions "save the company". There are still serious issues and questions regarding the quality of Tower Group's management and their ability to correctly estimate and price risk. If they do not correct those deficits, all they have done is buy some time. What's more, it's still very difficult to value this company appropriately until the expected earnings report next week, when the company will hopefully provide updated information about the changes to its reserves, its book value position, and its near-term earnings guidance.

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Tower Group Using Reinsurance For Assurance

Seeking Alpha: Tower Group Goes From Bad To Worse To Almost Unbelievable

When I last wrote about small insurance company Tower Group (TWGP) back in January of this year, my faith in management was wavering after management chose to compound the poorly-executed acquisition of OneBeacon and successive reserve charges (that essentially revealed that prior earnings and returns on equity had been overstated) with a risky transformative merger. In the interim I lost what remaining faith I had in management and sold my shares, and the company's ongoing issues with reserves certainly erodes confidence in the company's future prospects

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Tower Group Goes From Bad To Worse To Almost Unbelievable

Seeking Alpha: Confusing Tower Group Offers Potential Value And Near-Certain Risk

By and large, I'm a big advocate of the KISS rule in investing (Keep It Simple, Stupid). More often than not, if an investment idea takes a lot of explanation, it's not worth the trouble. While Tower Group (TWGP) was once a relatively straightforward P&C insurance play, the company's proposed merger with Canopius makes this a much more complicated investment idea. While the reasons for the merger are sound and the potential value here is high, investors need to weigh that carefully against the risks and increasing complexity of the company.

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Confusing Tower Group Offers Potential Value And Near-Certain Risk

Seeking Alpha: Tower Group's Earnings - See The Value, Hope For The Execution?

There's a fine line between patient and stubborn, and I fear I'm inching near the wrong side when it comes to Tower Group (TWGP). Although this small and under-followed insurance company has a great deal of potential value lurking within, management seems hard-pressed to unearth it and financial performance has been shaky.

A Mixed Bag In Q4
Given the recent disappointments, there's some relief in Tower Group's fourth quarter earnings. Although gross written premiums were flat and below most expectations, organic growth was 6% on a better than 2% increase in premiums and an 88% retention rate. Likewise, net premiums written were down 1% from last year.


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Tower Group's Earnings: See The Value, Hope For The Execution?

Seeking Alpha: Tower Group Has Plenty To Prove

When I bought shares in Tower Group (Nasdaq: TWGP), a small specialty insurance company, I thought that the Street was basically overlooking a growing insurance company that had significant expansion potential and a record of savvy management. As it turns out, maybe the Street wasn't missing so much – delays in integrating a major acquisition and surprisingly large underwriting losses have definitely eroded some of the value in this name. Although it remains a respectable value idea, the story has shifted from waiting for the Street to discover it to waiting on management to re-establish its bona fides.

A Tougher Landscape
It may not even be relevant to think of Tower as a specialty insurance company like W.R. Berkley (NYSE: WRB) anymore. From a business base that was once centered around small business casualty policies in the Northeast, Tower has expanded more and more into property, individual lines, and new regions like Florida, Texas, and California. Accordingly, it's more like a small P&C insurer competing for business with the likes of Travelers (NYSE: TRV), Allstate (NYSE: ALL), Berkshire Hathaway's (NYSE: BRK.A) GEICO, and Progressive (NYSE: PGR), but with a more focused attention on business customers.

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Tower Group Has Plenty To Prove

Is Tower Group Leaning A Bit?

Interesting results from Tower Group (Nasdaq: TWGP) tonight. Although the company beat estimates for the quarter, the company's guidance for next year is pretty uninspiring. Barring a good explanation or abject conservatism on the call (a nicer way of saying “sandbagging”), I expect this stock will be weak.

Tower announced that gross premiums rose almost 33% in the fourth quarter, while the combined ratio was below 92%. Even more impressive is the company's 31.8% expense ratio – a slight improvement from the third quarter and the lowest level Tower has seen in years. It is also interesting to see that the company has a significantly lower loss ratio in its personal segment (48.1%) than in its commercial segment (66.5%). It seems to be an unfortunately reality that the company's acquisitions have lead to a higher loss ratio than in the past.

Insurance markets are still not particularly healthy for the company. To that end, the company saw rates rise 3% overall on its renewal business (5.2% in personal, 1% in commercial), with an overall retention ratio of 82%. That tells me that insurance companies are happy to compete on price and are likely pricing business for a loss. Any veteran reader of Berkshire Hathaway's (NYSE: BRK.A) annual reports will know that Warren Buffett often talks about how most insurance companies operate with underwriting losses and this is part of the reason why – losing discipline on price to get business.

Making matters worse, this is not a great investment environment for insurance companies. Although recognized investment income jumped 40%, the yield declined to 4.7% from 5.5% a year ago.

Turning back to the guidance issue, the company is looking for earnings of $2.70 to $2.90 next year. Taking the midpoint, that means about 10% growth. That does not bother me as much as the implied ROE – something on the order of 10% or so and well below what the company has offered before as a target of 13-15%.

To an extent, I can see how the company gets at this number. The pricing environment gives the company the losing choice of either refusing to write bad policies or seeing customers walk away from fair prices and buy their insurance from less disciplined companies. Moreover, the investment environment is doing them no favors now and it wouldn't seem that there's obvious leverage left on the expense side.

Factoring in a new lower ROE (13%) and maintaining a discount rate of 11%, I get a price target of $32.25 for these shares. That's not a terrifically exciting target price, particularly in this kind of insurance market. I might be wishy-washy on holding a stock with such modest appreciation potential, but I think there is a lot of quality in Tower Group and I think the company can lever its recent acquisitions over time. Moreover, I do think that, over time, mid-teens ROEs are certainly possible.

I always keep an eye on the insurance sector, but there is not a lot that excites me today. MetLife (NYSE: MET) and Aviva (NYSE: AV) look kind of interesting, and Ace (NYSE: ACE) and Arch Capital (Nasdaq: ACGL) are kind of cheap. Beyond that, though, W R Berkley (NYSE: WRB) is the only intriguingly cheap insurance company on my list.

So, I'll sit tight for now but I can't deny a bit of an itch to switch over from Tower Group into WRB at today's relative valuations.

I would HOLD shares of Tower Group

Disclosure: I own shares of Tower Group

Tower Group - An Orphan Worth Loving

I wanted to make some sort of "Towering Inferno" joke when talking about this quarter's earnings from Tower Group (Nasdaq: TWGP), but that might give the wrong impression. The situation at this small P&C insurer is far from a disaster.

Tower Group is doing what most P&C companies cannot do right now - they are growing. While a large part of that growth is clearly due to acquisitions, the company is growing organically as well. Gross premiums jumped almost 27% in the second quarter, with organic policies in force growing over 11%.

Even though this is a pretty soft market (meaning policy prices are weak), the company nevertheless saw premiums rise over 1% and had overall retention of 86%. If I understood management correctly on the conference call, retention could have been higher if management had been willing to accept softer premiums. Wisely, management declined to write that business.

Tower Group saw an overall combined ratio of 93, up from 84.6% in the second quarter. That is bad - and it was led mostly by a year-over-year increase of 6.4 in net loss ratio (58.6 v. 52.2). The expense ratio was not a source of good news either, rising 2 pts to 34.4. Tower's acquisitions have led to a somewhat inflated expense ratio, and management is guiding for lower expenses in the second half of the year.

All in all, the company did manage to boost book value by about 4% on a sequential basis - more than anything, casual investors can look to this as the "underlying" growth of the business, though it does ignore the future benefits of business being written today.

Looking ahead, management does seem pretty happy with the growth of the business, but they also did reduce guidance once again. While trimming guidance by $0.05 is not a big deal, it is actually a little worse than that since the company outperformed this quarter and the company has been buying back shares. If there is "good news" in lower guidance it is that much of this seems to be stemming from lower expected investment income, and that should improve over time.

I am still pretty optimistic about this company. I like the focus on small/medium-sized business, and I think the company's growing diversification of consumer and personal insurance will pay off in the future. Moreover, this is taking place with very little attention from Wall Street - this is a meaningfully "under-covered" company.

Assuming Tower Group can boost ROE up to 14% over time, the shares are worth over $32 a share and pretty significantly undervalued. Of course, for that to happen a few other things need to happen - rates need to start moving up such that the company can earn better returns from its investment portfolio, the combined ratio must improve, and overall market conditions need to get better as well. Given that this is pretty much the "perfect storm" of bad news in the P&C industry, though (bad yields, soft market, etc.), I am relatively optimistic that those things will happen over the next five years.

Insurance companies are not for everybody - the nature of their earnings is very different, as is the valuation methodology - but Tower Group is certainly a name worth considering. Since Arch Capital (Nasdaq: ACGL) is too expensive for me now and WR Berkley (NYSE: WRB) has less organic growth, Tower is pretty much my favorite idea in this space right now.


Disclosure - I own shares of Tower Group