Allstate: Shows Steady Growth In Property And Casualty Insurance Market (NYSE:ALL) (2024)

Investment Thesis

Currently, Allstate (NYSE:ALL) is on the cusp of heightened growth. With COVID putting a damper on the international economy, its hardening effects on the reinsurance market and the resulting temporary effects on the insurance market are largely overstated, leaving it an undervalued industry. Through this paper, we will reveal additional reasons why the Insurance industry is undervalued, with Allstate being the best value investment from this market due to their forward-thinking operating pivot, loyal customer base, and innovative business plan for the next decade.

Company Background/Description

Allstate is a property and casualty insurance company based in the United States, consisting of a developing network of small companies that provides clients in the US and Canada with auto, home, life, and retirement products and services. Their reputation is that of a flexible business, willing to adapt to the changing market, earning them a variety of Innovation and Customer Service Awards. For example, they have implemented a number of measures since Hurricane Katrina in 2005 to better manage and reduce the risk of losses from increasingly extreme weather. This includes adding additional risk metrics to the underwriting and pricing of homeowners insurance. Additionally, Allstate has reinforced its strong balance sheet by taking advantage of record low interest rates to issue perpetual preferred stock and subordinated debt to refinance higher-cost senior debt. As a result of these strategies, they’ve maintained a consistently growing share of the property and casualty insurance market.

Qualitative Analysis

Currently, the property & casualty insurance industry as a whole is coming out of the COVID era and the headwinds from that period are dissipating. Industry power houses saw margins shrink and had to de-risk their insurance portfolios. Now in 2024 we are seeing earnings and balance sheets return to normalcy. After a year of industry-wide premium hikes the industry is now positioned to perform well. Consensus growth estimates are consistent with our assessment forecasting steady grow across the industry of at least 8% for at least the next decade.

Bargaining Power of Buyers:

Over the past few decades, the digitalization of the insurance industry has led to an increasing reliance on web aggregators and social media marketing, resulting in individual policyholders today having more and more influence relative to huge corporate clients who spend millions of dollars in premiums. We have the belief that modern consumers expect more individualized attention and care for the premiums they pay since they have instantaneous access to information about coverage, pricing, and services. Allstate has been prioritizing their online presence, successfully and consistently reducing their operating costs while also garnering an increasingly loyal consumer base.

Bargaining Power of Suppliers:

In the insurance market, the two primary suppliers are distributors and reinsurance agencies. As the industry has shifted towards online platforms, the need for insurance agents and brokers is gradually being eliminated, causing a reduction in distributor bargaining power.

On the other hand, the current “hard” reinsurance market caused by the pandemic continues to put pressure on insurers, as reinsurers are less willing to take risks. As the process for insurance companies to ensure their own risks takes longer, they experience higher costs and thereby feel the need to charge higher premiums. While the reinsurance industry is expected to soften in the near future, the available capital in the market is currently still decreasing. This pressure on insurance companies to adjust their policies and raise prices is better for firms with loyal customer bases and lower operating costs, which fits Allstate to a tee.

Threat of New Entrants and Development:

The insurance industry responds to the threat of new entrants by putting an emphasis on branding, distribution, and strategy. Change is afoot in the insurance industry, from usage-based insurance (UBI) technology to the internet of things (IoT) and drones, from technology-driven underwriting products to new sources of property data, and from API-based insurance functional modules to white-labeled insurance products for speedy integration and launch. Companies must stay with the curve in order to maintain relevance.

Threat of Substitute Products:

Historically, insurers have not had to deal with substitute products. While the Insurtech movement could change that, experts predict that it will not encroach on their market for at least the coming two decades.

Rivalry Among Existing Competitors:

The current insurance market as a whole operates like an oligopoly. The dominant few companies in the Property & Casualty Insurance sector are Allstate, State Farm (STFGX), Progressive (PGR), and Berkshire Hathaway (BRK.B). Each of these firms controls at least 5% of the market and, on the large scale, offers similar policies. State Farm's widely successful marketing campaigns and customer service-oriented business model have helped them secure the largest market share over the past few decades.

Allstate, alongside State Farm, has maintained consistent market share growth rates. With State Farm’s marketing campaigns dying down and the success of Allstate's digitization process increasing, we expect to see Allstate’s market share growth rates surpassing State Farm’s within the next few years.

Main Points Supporting Thesis

Allstate’s defining characteristic is their emphasis on customer service and building loyalty, which is realized through their prioritization of streamlining the insurance policy process. In the past, they did this by operating through local small businesses in order to form connections between the brokers and the customers. As a response to COVID, they have been implementing their "multi-year transformative growth plan." Since 2020, lower the price and costs of auto insurance and put more emphasis on “Esurance”. This investment in digital infrastructure has allowed them to let go of 3,800 employees, further reducing long-term operating costs. They’ve also expressed intent to continue cost reduction through: Digitization, Sourcing & Operating Efficiency, and Distribution Model, resulting in a consistent increase in EBIT with the aim to decrease their Liability-Expense ratio to .23.

While they are taking the distribution of their product online, Allstate is still prioritizing customer service. Throughout this process, they have invested substantial resources into building an all-encompassing online presence. From their carefully designed website and readily available online agents to their expansive social media network, it’s their goal to continue to make the process of securing insurance as streamlined as possible.

Even ignoring their likely future growth, many market indicators point to the fact that they are currently undervalued, like their EV/Sales, P/E, and P/S ratios that are much lower than the industry average. Additionally, their dividend yields of 2.2% dwarf industry averages of 0.3%. Due to the above reasons and prudent rate increases, their first quarter revenues from this year reached $15.3 billion, increasing 10.7% from last year. This outstanding Q1 result shows the merit behind our thesis and strengthens our conviction.

Valuation Analysis

Our projected Free Cash Flow for the following 5 years is based on the steady growth of the Property & Casualty Insurance Market, Allstate’s consistently increasing market share, and their falling costs.

Projected Free Cash Flow

From there, we found our WACC by utilizing values from their yearly financial reports alongside market estimates for their beta, which were consistently below 0.8.

Our target price is determined through the Perpetuity Growth Method using a more realistic Implied Terminal EBITDA Multiple. We also performed the Multiples Method using a conservative estimate for the Terminal EBITDA Multiple and created a corresponding sensitivity table.

While industry multiples for the past two years have been tight around the 13-15 x range, when considering the implied growth, we anticipate seeing the multiple move up to around 16-18 x.

Discussion of Risk

As always, investors should be aware of the underlying idiosyncratic risks of a given company in addition to their macro vulnerabilities. First of all, Allstate’s ability to pay off insurance claims over the long run is powered by investing in risky assets, which raises the possibility of capital and earnings volatility. This is no secret, and the company is also aware of this issue. Allstate focuses deeply on the use of derivative products to remove investment risk and reduce volatility. Unfortunately, this comes at the price of reducing their overall returns. Since the end of 2022, the corporation has actively decreased the risk in its investment portfolio, primarily through reductions in exposure to equities and speculative-grade fixed-income. In this time frame, the share of their assets in equities has dropped from 7% to 3% while the share of their assets in the limited partnership interest has dropped from 13% to 12%.

Another large portion of their risk stems from catastrophe loss, caused largely by severe weather conditions like hurricanes, wildfires, and severe storms. They saw a $2.5 billion jump in catastrophe losses from 2022 to 2023, largely due to an increase in the frequency of severe storms. While this is a valid concern that faces the insurance industry as a whole, Allstate is a little more insulated from the issue due to their prior renewal of their reinsurance protection. The company has proven quite adept at leveraging their reinsurance policies to consistently outperform the industry as a whole over the last decade. While we do trust in the company's ability to continue to excel at risk management, we believe that investors should be aware of the innate volatility of the insurance industry.

On a broader scale, with the 2024 election coming up, there is potential for large scale economic shifts for healthcare providers. The Affordable Care Act, a policy that President Trump has spoken out repeatedly about repealing, has proved profitable for insurance companies. If the former President were to be elected for a second term, there is a possibility that the insurance industry as a whole can expect reduced profits.

Conclusion and Takeaways

Through a combination of a steadily growing Property & Casualty Insurance Market, an innovative plan to reduce costs, and a loyal customer base, we recommend that investors adopt a ‘buy’ stance towards Allstate. Taking the potential risks into consideration, it’s Allstate’s successful expense ratio reduction program and plans to raise prices in critical areas that have historically seen no sizable reduction in consumer base suggest rising revenue and free cash flow over at least the next five years.

Additionally, the insurance industry as a whole is currently undervalued due to a hardening of the reinsurance market in response to increased risks that occurred as a result of the pandemic. As the market softens in coming years, profits throughout the industry will rise as less backend pressure is placed on the firms. All in all, we encourage buyers to look past this temporary undervaluation, add Allstate to your watchlist, and even consider investing.

QOE Capital