Progressive insurance, regressive returns? (NYSE: PGR)

Well known for its charming mascot, Flo, Progressive Corporation (New York Stock Exchange: BGR) is one of the largest insurance companies in the world by market capitalization, worth less than $100 billion at the time I write this article. Surprisingly, the stock reached its highest levels ever, with… P/E is like a technology company. While the value of many other companies’ stocks declined during the events of 2022, PGR has continued to rise.

It’s worth examining exactly what investors are getting with this well-established and friendly brand. I will review the financial statements and future prospects of the company. Ultimately, despite the quality of the company, I think PGR is overpriced, and that makes it sellable.

Current business

Progressive deals primarily in auto insurance. They also offer property, workers’ compensation, and various other products. Auto insurance easily makes up the majority of their business. With 29.5 m Policies in effect as of November, 19.4 million of them were under their personal auto line, with an additional 1.1 million policies in their professional lines.

As can also be seen above, slightly more of these policies are underwritten directly through the company than through outside agents. Direct sales are done on their website, through their app, or over the phone. Wherever possible, the company tries to bundle different insurance products into one offering in order to increase revenues and build stronger customer relationships.

The auto insurance market is very competitive, and Progressive has many competitors in this space. According to ValuePenguin, as of January 2024, Progressive had the second-largest slice of U.S. auto insurance market share, at 14.1%.

And based on the numbers you provide, the top 10 auto insurance companies control about 77% of this market. It’s a tight space.

The extra money is invested for the company, ideally to get a better return and return than just keeping it in the bank, which is normal in insurance.

In the third quarter of 2023, the company announced investments worth $61.9 billion on its balance sheet. Due to regulatory restrictions, most of it is in fixed income securities, and very little of it is in stocks.

Overall, the balance sheet is reasonably strong. The portfolio itself is sufficient to cover most of its liabilities, and tangible assets in general are much more than that.

Financial history

What kind of results did this business model get? The company has experienced successful growth over the past decade to become one of the leading auto insurance companies in the country. I will include year-to-date data through 2023 (through Q3 and based on October and November company newsletters).

Progressive is and remains a consistent grower and multiplier. How was this reflected in the profits and returns of shareholders?

Their profits have tended to grow. The strange spike in 2020 was due to a lack of claims amid lower traffic (and thus lower accidents) during the coronavirus lockdowns. Dividends show that these additional profits were eventually distributed to shareholders.

Despite a continued rise in revenues, profits declined in 2022. In its 2022 Form 10K (Application Page A-51), management explained in its operating results that this was a combination of a decline in the market value of its portfolio securities, impairment of goodwill, and (most importantly ) Losses incurred on their property line, especially policies in the Southeast, due to storms.

The balance sheet shows unsurprising growth in assets and liabilities, given what I’ve already mentioned.

However, asset growth has been 3.32 times since 2014, while the total value of assets has increased only 2.4 times, partly due to recent challenges.

A look to the future

As I mentioned earlier, despite being an insurance company, it trades at very high multiples. This indicates that there is optimism about earnings growth, so where will the growth be?

Auto line

To reiterate, Progressive is the #2 auto insurance company by market share. The top ten own 77% of this market. Opportunities are shrinking. Progressive already operates in all 50 US states. There’s not a lot of new territory to break through. In order for Auto Line’s revenues to grow, it must be able to raise prices without losing customers, taking stock from these strong competitors, or riding the wave of a growing market. If any of these things happen, I think the impact will be minimal. Let’s start with pricing, and I’ll quote the company at 2022 10K again:

Although a leading brand is key to our success, we operate in a very competitive industry where price is a very strong consideration for consumers when they shop or decide to renew their policies. Therefore, competitive pricing is one of the four pillars of our strategy.

So they realize that, and I expect they will be reluctant to raise prices significantly over time. Now, they have made significant increases to keep up with the recent high inflation, which is to be expected. Of course, this growth is only nominal.

If you look at the revenue graph, the $55.7 billion for 2023 is very similar to the $46.8 billion in 2020. So yes, Progressive has at least some pricing power versus inflation, but let’s not let it distort our perception of growth too much.

In terms of gaining market share, they may be able to do that with smaller insurers, but I think the other big nine will do that as well. They also have strong marketing campaigns. Flo takes on the likes of Gecko, Mayhem and Jake from State Farm. It’s one of those labels where Progressive is a great act but doesn’t have a moat of its own.

Finally, I think the number of drivers needing insurance is unlikely to rise to any significant degree. There are already 240 million licensed drivers in the United States, and with the millennial generation now growing and birth rates declining for years, there isn’t a large new pool of drivers for insurance companies to pick up anymore. Realistically, Auto Line’s growth will be gradual.

Property line

This is where the company wants to grow and may explain the high price of PGR. As mentioned earlier, Progressive likes to bundle its products with its Auto Line, since not only is that a bigger sale, but it believes those customers are more likely to renew. This topic was a major source of discussion on the third-quarter earnings call. I’ll quote some from management on this topic:

The thing to keep in mind there, Josh, is that the sectors we’re growing in will be somewhat indicative of where they’re coming from. So we’re continuing to grow well in the most preferred segments of our business, the “Robinsons,” but we also call them the “Wrights” which are homeowners who haven’t yet bundled their homes and cars with Progressive. And we haven’t grown, in fact this year, we’ve shrunk a little bit on the record high end. So the non-standard end of the spectrum. This bodes really well for our future growth because obviously these customers stay with us longer.

Part of the struggle is that Property Line hasn’t been profitable lately, largely due to big storms in 2022 and the company’s exposure to Florida:

Although I think there is some smarts in the idea of ​​leveraging existing car customer history and converting them into package customers as a means of growth, the execution has not started well. This was also mentioned in this earnings call:

Yes. I think we’re starting with what we started about a year ago, which is taking risk off the book and having fewer new applications and policies in volatile states and more in non-volatile states. And you’ve seen the data on that in the queue that we think we’re doing a great job. We’re not renewing about 115,000 policies in Florida, we’re a little bit over-indexed in Florida. And so we love Florida. We have a lot of Robinsons. We had a lot of cars and still owned a lot of houses, but we weren’t making money and we needed to not renovate some of them. This will happen over the next year or so.

While the company will improve its risk models to underwrite less and at better prices, I personally think this may serve as a red flag. Perhaps expanding into a line that could be as big as Auto is their deviation from their strong suits.

That doesn’t mean they won’t make it, but where auto insurance is more stable and more predictable, property insurance is a different product with different risks. An investor must ask: “If increased revenue also comes with increased costs, right? truly Earnings growth?

However, if we assume that they have learned from the problems of Florida and other Gulf states, successful implementation of the strategy could significantly increase profits.

evaluation

So let’s talk about the current valuation before I do my own. Progressive’s market cap is just under $100 billion, which is a big company! However, the total value is only $16.6 billion. Not many insurance companies or financial companies will trade this high above TBV. Net income from the beginning of the year until 2023 is also $3 billion, so where is $100 billion?

Well, first consider that some of this is due to market behavior since the events of 2022 (war in Ukraine, inflation).

If we look at the total returns from January 1, 2022 to today for the S&P 500, the S&P Insurance Select Industry Index, and the PGR, we see that the latter both beat the former. Insurance companies are often viewed as defensive stocks, so the entire sector has remained that way, regardless of earnings. Insurance companies are perceived as safer, so people pay more for them.

However, the PGR’s return was greater than the index’s return, so people should expect growth. If earnings are typically around $3 billion, that suggests to me that the market believes it will grow to around $10 billion reasonably soon. What are the possibilities then? If we assume progressive earnings growth averages just 3% each year, $10 billion won’t happen.

If we assume average forward growth of just 15% (which is commendable for a company of this size), that will happen in 2032, not quite soon.

If we grow at an average rate of 25% over at least the first six years, we will reach this result by 2029.

Even if it’s not for a full decade, 25% is a lot to accomplish, especially for a large insurer like Progressive. It’s especially difficult if the source of growth still needs to make it into a profitable sector first. Although I think Progressive is a great company, I would buy it with more modest growth assumptions. So if you evaluate it against 3% growth and apply the standard discount rate of 10%, here is the value of next decade’s profits.

That’s $21.3 billion. Added to the tangible book value of $16.6 billion and divided by the number of shares, which tells me The fair value of the company is $64.50. The current price of $170 seems rich to me.

Conclusion

Progressive is an excellent company that owns one of the most recognized brands in the insurance industry. However, it is trading at all-time highs, as if the No. 2 auto insurance company has a path to rapid growth. Instead, the premium stems from investors’ preferences for “defensive” insurance stocks following 2022 and the expectation of growth from a proprietary line that is not making money, due to misguided risk assumptions.

A growth strategy is a smart one, but investors have to watch a little longer to make sure they can actually start doing it, and even when that day comes, they have to be careful not to overpay for a bright future, or they’ll lose out. Don’t make money. Maybe, at best, this business is worth $70 billion, but I don’t see the justification for $100 billion. In the meantime, I don’t want to risk my hard-earned money to buy PGR, and if I owned it, it would be easy to sell it at that price.