GCO.BM - Grupo Catalana Occidente

[BroKon]

 

A family-owned (63% ownership) insurance company with has two lines of business:

• Traditional Insurance – with four main segments (Multi-Risk, Motor, Other and Life) –focused on Spain. The traditional insurance business accounts for 58.5% of the group’s premiums and has a combined ratio of 91.2%. It is also the 6th largest insurer in Spain with 6% market share in non-life and 2.6% in Life - which suggests that there is more room to grow market share at an attractive combined ratio. Also, worth noting, none of the four segments seem to be a problem child as in they all have acceptable combined ratios.

• Credit Insurance business – internationally exposed (2nd largest in the world with 22.8% market share). The credit insurance has a 75.5% combined ratio.

GCO profit has compounded at just over 10% over the past 5 years, based on 2019 expectations, while it has compounded its equity at just over 9% during the same time (and over 6% if you take out the investment result, but more on this below). This growth has had two elements. In the traditional business it has mainly come from acquisitions funded by their FCF yield of around 9.5% and a small debt increase (although their net debt position is still comfortably negative).  The latest acquisition was of Antares for 1.25 book which will impact the Life business results in 2020. Less appealing is the source of the growth in profit of the cyclical credit insurance business which has been mainly as a result of continuously reducing the amount of risk GCO transfers to its reinsurers, from 45% in 2014 to 38% now. Clearly, this latter growth strategy is not ideal, and as an investor needs to be monitored going forward.

The investment climate is a whole other issue. They have a very large allocation to Spanish bonds, and indeed fixed income and cash generally (33% and 77% of investment assets respectively – latter obviously includes the former). GCO only has 12% of investment assets in equities and 5% (marked at book) in property – although they are reallocating more to property. Therefore, while they are very conservative which could be considered a positive, it raises two issues:

1. as an investor are you happy with that exposure to Spanish bonds,

2. with the 20 year Spanish government bonds trading at yield of 70bp, any capital gains are probably in the back mirror.

The shares have underperformed materially since August which coincided with Spanish bonds making their low in yields, although this may have been coincidental. Either way, this has left the shares slightly cheap to fairly valued at an earnings yield of 10.8% and price to tangible book of 1.24, if you assume no growth.

2019 expectations include a windfall gain on their fixed income portfolio as yields hit all time lows, a historically low combined ratio and five years of moderate growth from both the Spanish and the global economy. So the comps relative to 19 are going to be tough to beat in 20, but even if they give back all their investment capital gains and their combined ratio moves back to 91% (high of last 6 years), you still have an insurer priced at 1.3x tangible book with a P/E of 11.5 and a FCF yield of over 8.5%.

What about growth? It would not seem wise to build an investment case based on 10% compounded growth but given their history of acquisitions, combined with enough cashflow to finance them, its not a stretch to pencil in some growth which given the metrics above I would argue you are getting for free.

Finally, the potential downside:

• In terms of the insurance business, a 2008/9 scenario where the credit insurance combined ratio surges to 120 (was 118% in 2009) still leaves GCO profitable on the year as the combination of the traditional business, investment income and minority interests compensate, as indeed they did in 08 and 09.

• In terms of their investment portfolio, however, it would be much harder to weather a repeat of 2011/2 European bond stresses. GCO had no major issue back then as the starting yield of their non-peripheral holdings was high enough to compensate for the back-up in Spanish yields. At current prices, there is no such margin of safety so a rapid rise in yields is the main risk to the investment case.

 

[Note: P/TBV of 1.24 accounts for the 507 million euros of undervaluation of their property portfolio, as this is marked at cost, net of amortisation]

 

 

[Spekulatius]

VIC writeup:

https://www.valueinvestorsclub.com/idea/Grupo_Catalana_Occidente/7619997068

 

The elephant in the room are the negative interest rates in Europe. They can be very damaging to insurers with long tail exposure.

[BroKon]

Agreed, but I think negative rates is the reason why you can buy GCO at this price. As for long-tail exposure, GCO only has 22% of its GWP in Life, so its much more of an asset-side issue than a liability issue, for GCO at least.

 

I am not a member of VIC so I can't access that link unfortunately.

[Spekulatius]

Agreed, but I think negative rates is the reason why you can buy GCO at this price. As for long-tail exposure, GCO only has 22% of its GWP in Life, so its much more of an asset-side issue than a liability issue, for GCO at least.

 

I am not a member of VIC so I can't access that link unfortunately.

 

Well it’s worthwhile to sign up, even if you can’t ascend into the pantheon of Immortals by having a writeup accepted. For us plebs, the regular membership still gives access to all writeup and comments, albeit with a delay of 60 days or so. I found it to be a good resource.

[BroKon]

Thanks Spekulatius.

 

Took your advice, author did a good job on going through the acquisitions and describing the advantages of the credit business, although I think he underplays the risks of the fixed income portfolio.

[Thelilyinvestor]

On 2/19/2020 at 12:19 PM, BroKon said:

 

A family-owned (63% ownership) insurance company with has two lines of business:

• Traditional Insurance – with four main segments (Multi-Risk, Motor, Other and Life) –focused on Spain. The traditional insurance business accounts for 58.5% of the group’s premiums and has a combined ratio of 91.2%. It is also the 6th largest insurer in Spain with 6% market share in non-life and 2.6% in Life - which suggests that there is more room to grow market share at an attractive combined ratio. Also, worth noting, none of the four segments seem to be a problem child as in they all have acceptable combined ratios.

• Credit Insurance business – internationally exposed (2nd largest in the world with 22.8% market share). The credit insurance has a 75.5% combined ratio.

GCO profit has compounded at just over 10% over the past 5 years, based on 2019 expectations, while it has compounded its equity at just over 9% during the same time (and over 6% if you take out the investment result, but more on this below). This growth has had two elements. In the traditional business it has mainly come from acquisitions funded by their FCF yield of around 9.5% and a small debt increase (although their net debt position is still comfortably negative).  The latest acquisition was of Antares for 1.25 book which will impact the Life business results in 2020. Less appealing is the source of the growth in profit of the cyclical credit insurance business which has been mainly as a result of continuously reducing the amount of risk GCO transfers to its reinsurers, from 45% in 2014 to 38% now. Clearly, this latter growth strategy is not ideal, and as an investor needs to be monitored going forward.

The investment climate is a whole other issue. They have a very large allocation to Spanish bonds, and indeed fixed income and cash generally (33% and 77% of investment assets respectively – latter obviously includes the former). GCO only has 12% of investment assets in equities and 5% (marked at book) in property – although they are reallocating more to property. Therefore, while they are very conservative which could be considered a positive, it raises two issues:

1. as an investor are you happy with that exposure to Spanish bonds,

2. with the 20 year Spanish government bonds trading at yield of 70bp, any capital gains are probably in the back mirror.

The shares have underperformed materially since August which coincided with Spanish bonds making their low in yields, although this may have been coincidental. Either way, this has left the shares slightly cheap to fairly valued at an earnings yield of 10.8% and price to tangible book of 1.24, if you assume no growth.

2019 expectations include a windfall gain on their fixed income portfolio as yields hit all time lows, a historically low combined ratio and five years of moderate growth from both the Spanish and the global economy. So the comps relative to 19 are going to be tough to beat in 20, but even if they give back all their investment capital gains and their combined ratio moves back to 91% (high of last 6 years), you still have an insurer priced at 1.3x tangible book with a P/E of 11.5 and a FCF yield of over 8.5%.

What about growth? It would not seem wise to build an investment case based on 10% compounded growth but given their history of acquisitions, combined with enough cashflow to finance them, its not a stretch to pencil in some growth which given the metrics above I would argue you are getting for free.

Finally, the potential downside:

• In terms of the insurance business, a 2008/9 scenario where the credit insurance combined ratio surges to 120 (was 118% in 2009) still leaves GCO profitable on the year as the combination of the traditional business, investment income and minority interests compensate, as indeed they did in 08 and 09.

• In terms of their investment portfolio, however, it would be much harder to weather a repeat of 2011/2 European bond stresses. GCO had no major issue back then as the starting yield of their non-peripheral holdings was high enough to compensate for the back-up in Spanish yields. At current prices, there is no such margin of safety so a rapid rise in yields is the main risk to the investment case.

 

[Note: P/TBV of 1.24 accounts for the 507 million euros of undervaluation of their property portfolio, as this is marked at cost, net of amortisation]

 

 

 

Great write up BroKon, totally agree with you.

 

I am an owner of this business since the depths of the pandemic and it has surprised me positively quarter by quarter in the following ways:

 

1) Diversified across many traditional insurance operations with very healthy combined ratios.

2) Credit Insurance business with an amazing combined ratio of around 75%.

3) Growth in pure revenues across most segments.

4) An insurance business which is really profitable and not so reliant on float returns.

5) Growth focused on acquiring other insurers instead of growing float

6) Great consistent growth track record

7) Management has skin in the game as it is the founding family.

 

I also believe that their valuation is pretty fair right now (I wouldnt add at these prices) and that investment returns from their float are likely to not be excellent due to their allocation and bond yields in Europe.

 

I am for sure missing many important things so would love if anyone had other points of view or insights about the business.

[BroKon]

Thanks TheLilyinvestor,

 

Part of the thesis was never that the governments would underwrite the losses from their credit business, but better lucky than good as they say, and the investment has worked out well, although by the sounds of things it has worked out even better for you given your timing.

In terms of their valuation, I actually would view them as one of the cheaper insurance companies out there. I think they have a decent chance of having a combined ratio of around 93-95% through the cycle (especially if you factor in a possibility of their credit business CoR being capped at just over 100% with government intervention - although that is not my central thesis). Add in the possibility of a future acquisition, and I still think there is a valid case to buy at these prices -  although as its a pretty full position for me (especially considering their exposure to Spanish bonds), I am looking at RNR as an alternative to increase my exposure to the insurance sector.

[BroKon]

Just for the sake of completeness even though it has nothing to do with GCO, I bought Everest Re in the end as could not quite get comfortable with the valuation of RNR even at these levels.

[Thelilyinvestor]

On 6/12/2021 at 8:46 AM, BroKon said:

Thanks TheLilyinvestor,

 

Part of the thesis was never that the governments would underwrite the losses from their credit business, but better lucky than good as they say, and the investment has worked out well, although by the sounds of things it has worked out even better for you given your timing.

In terms of their valuation, I actually would view them as one of the cheaper insurance companies out there. I think they have a decent chance of having a combined ratio of around 93-95% through the cycle (especially if you factor in a possibility of their credit business CoR being capped at just over 100% with government intervention - although that is not my central thesis). Add in the possibility of a future acquisition, and I still think there is a valid case to buy at these prices -  although as its a pretty full position for me (especially considering their exposure to Spanish bonds), I am looking at RNR as an alternative to increase my exposure to the insurance sector.

 

Thanks for sharing your insights, definitely is one of the cheapest ones out there, also a full position for me at this point.