2 for Tuesday: Chubb, a Gem Among Insurers

A drop in share price makes the company, best known for its luxury-goods coverage, worth a look.
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Imagine you're opening a $200 bottle of Bordeaux wine, it slips out of your hand, smashes an heirloom china plate into tiny little bits, cuts a big gash into your antique dining-room table and leaves a deep maroon stain on your priceless Persian rug. But what seems to be a total loss is not, because you are covered by

Chubb

(CB) - Get Report

.

Chubb is the undisputed leader in insuring wealthy individuals for their valuable articles like antiques, jewelry and fine art, as well as for personal liability. One of the most profitable businesses in the insurance industry, this coverage represents a disproportionately large share of profits at Chubb, where all personal lines, including auto and homeowners, represent 30% of Chubb's total premiums. According to the company, Chubb is the insurer of choice for nearly 60% of the top collectors in

Artnews

and 74% of the

Forbes

400 richest people in America. The company also claims to insure more private jewelry collections than any other insurer.

But so far this year, it's been better to be one of Chubb's policyholders than a shareholder. Year to date, the Dow Jones Property and Casualty Insurance Index has declined 11.4%, yet Chubb's shares are off more than that. In the past month, when most well-capitalized P&C insurers like

Ace

(ACE)

and

St. Paul

(SPC)

have snapped back 25% and 14%, respectively, Chubb's shares have fallen 4.6%.

As a result, Chubb's shares no longer trade at their typical premium

price-to-book value ratio compared with the rest of the industry. Indeed, at 1.7 times book, Chubb's shares are right in line with the industry average, both currently and historically. At that price, this high-quality, core holding in the insurance sector is definitely worth a look.

Two businesses caused Chubb's underperformance this year, and both are in the process of being repaired.

Homeowners insurance:

For the first nine months of this year, homeowners accounted for 16% of total premiums written, although pricing pressure made homeowners unprofitable all year. However, the most recent quarter showed sequential improvement over the second quarter, with the combined ratio (the loss ratio plus expense ratio) dropping to 107.6% from 112.8% for the first nine months of the year, excluding the impact of the Sept. 11 terrorist attacks. Premiums in the quarter rose 15.6% from last year, compared with a 14.8% increase for the first nine months.

The company plans to make the homeowners' line profitable, although it could take time. On the third-quarter earnings conference call with analysts Oct. 30, CFO Weston Hicks said Chubb's goal is to lower the combined ratio to the mid-90% range through a number of measures, including expense reductions and rate increases, which have already met with some success in states where Chubb is unprofitable and has filed for higher rates.

Executive protection:

The other disappointing line at Chubb includes coverage for directors and officers of corporations from things such as shareholder lawsuits. Executive protection accounts for about 20% of Chubb's total premiums. The combined ratio here also climbed significantly this year to 93.8% in the first nine months of 2001 from 85.6% for the same period last year. This is mainly due to insurance for large public corporations, which are experiencing higher claims resulting from large jury awards and settlement costs. Chubb is also attempting to fix this business by raising prices.

But the real sizzle is what's happening in Chubb's commercial lines, which account for 35% of the total company. In the aftermath of the Sept. 11 terrorist attacks, the industry has tightened up, making it harder to get coverage and easier for the strong players to raise prices and profits.

As I explained in an

earlier column, the attacks on the World Trade Center towers resulted in tremendous losses for the insurers, totaling $40 billion to $50 billion at last count. (Chubb's gross loss from the attacks is about $3 billion, but because much of that was covered by reinsurance, the company said its net loss could be $645 million, pretax.) These huge losses have wiped out a lot of the excess capital in the industry that had been keeping prices down, and further weakened the players that were badly managed in the first place.

As a result, well-run, conservatively capitalized, financially strong insurers like Chubb should now be able to capture more share, at higher rates. Chubb's total debt is just $850 million, compared with $6.6 billion in shareholders' equity. The company generated strong cash flow this year, which it used to increase its reserves for future losses and to buy back shares.

Chubb's solid reputation and financial strength is already attracting new customers. Gross written premium growth in October was an unusually strong 19%. "We haven't seen this high a rate of commercial business submissions

request for quotes at such adequate rates in years, and it's been a long time since we had the ability to be picky about whose business we'd take and at what rates," CEO Dean O'Hare told analysts on the Oct. 30 call.

Chubb's earnings per share in 2002 should be a big improvement over 2001, notwithstanding the likelihood of further pressure from the troubled homeowners and executive protection businesses. In fact, CFO Hicks said on the call that Chubb is targeting a return on equity in 2002 of 12.5%, up from about 10% this year. That would translate into earnings per share of roughly $4.65, a 22% increase over the estimate of $3.80 to $3.85 -- excluding the WTC impact -- for 2001. That's not bad for a company that's going through what it calls a "transition year."

Odette Galli writes daily for TheStreet.com. In keeping with TSC's editorial policy, she doesn't own or short individual stocks, although she owns stock in TheStreet.com. She also doesn't invest in hedge funds or other private investment partnerships. She invites you to send your feedback to

Odette Galli.