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Now S&P Doubtful over PartnerRe - Analyst Blog

Posted: 2/21/2012 12:15:00 PM
Referenced Stocks: AFG;CAT;MCO;PRE;WR

Last week, PartnerRe Ltd. ( PRE ) witnessed rating downgrade on its credit and financial strength from Standards & Poor's (S&P) Ratings based on the severe catastrophe ( CAT ) losses incurred by the company in 2011 that has led to sluggishness in operating performance.

Accordingly, S&P slashed PartnerRe's credit and financial strength ratings by a nick to "A-" from "A", while its preferred stock rating was lowered to "BBB" from "BBB+". Besides, the company's operating subsidiaries' credit and financial strength ratings weakened to "A+" from "AA-".

Nevertheless, the ratings continue to hold a stable outlook, whereby S&P expects PartnerRe's combined ratio to improve to 92-96% in 2012 along with a firm capital competence.

The rating action is backed by the company's ongoing concerns on the earnings volatility and decline in equity capital as a result of increased CAT losses, higher operating expenses, reduced top line followed by a negative return on equity (ROE) and declined book value in 2011. The growth metrics of PartnerRe came out to be very low as compared to its rivals such as XL Group Plc ( XL ), American Financial Group Inc. ( AFG ) and W.R. Berkley Corp. ( WRB ).

Moreover, S&P believes that PartnerRe's higher than average underwriting risk profile and low earnings propensity, as compared with the peer group, is likely to persist over the next 2-3 years. Although the company is well diversified with its long-lasting relationships, it is yet to enhance PartnerRe's competitive leverage.

S&P also opines that PartnerRe management's overall enterprise risk management (ERM) initiatives have done little to deal with the volatile risk profile that hovers over the company post the acquisition of Paris Re, which was bagged in 2009 for about $2 billion. The unsuccessful integration of Paris Re has led PartnerRe to become a vast complex organisation. This has further resulted S&P in questioning PartnerRe risk profile.

Snapshot of 2011…

In 2011, PartnerRe recorded operating loss of $641.6 million or $9.50 per share against earnings of $491.8 million or $6.29 per share in 2010, also exceeding the Zacks Consensus Estimate of a loss of $9.48 per share.

Additionally, total revenue plunged 8.7% year over year to $5.35 billion, while total expenses escalated 18.5% to $5.8 billion in 2011. Particularly, total pre-tax catastrophe losses rose to $1.79 billion against $437 million in 2010. Thus, non-life combined ratio also deteriorated to 121.7% from 94.6% in the year-ago period.

Meanwhile, total shareholders' equity declined by approximately 10.3% and common equity declined by 16.6% during 2011. Consequently, operating ROE and net income ROE came in at a negative of 10.1% and 9.0%, respectively, in 2011.

Silver lining in the cloud…

Nevertheless, S&P believes that PartnerRe's meaningful debt de-leveraging, conservative reserving practices and fair liquidity with decent operating cash flow and secure credit facilities should provide some cushion to the risk exposure and equity capital in 2012.

Besides, PartneRe's renewals data of January 2012 reveal an improved risk profile with respect to its capital base. Alongside, a well-diversified business, both through product and geography, and strong franchise should enhance growth once the market instability subsides. While these factors are further expected to negate earnings volatility, the company's conservative assessment of its risk profile reduces its competitive strength given its magnitude of diversification, which is relatively quite low compared to its peers.

Overall, we hold a cautious near-term outlook for PartnerRe on the back of concerns regarding the catastrophic losses, weak P&C market cycle and low underwriting profitability.

In the long run, however, improved pricing and interest rates along with market stability can help mitigate the cyclical declines. Hence we maintain our 'Neutral' stance on PartnerRe with a short-term Zacks Rank #3 on the stock.

Earlier in this month, Moody's Investor Service of Moody's Corp. ( MCO ) demoted PartnerRe's senior debt to "A3" from "A2", subordinated debt to "Baa1" from "A3" and preferred stock to "Baa2" from "Baa1". Additionally, the ratings agency relegated the insurance financial strength ratings (FSRs) of its principal operating subsidiaries by a notch to "A1" from "Aa3". However, the ratings continue to reflect a stable outlook.

Last month, ratings agency A.M. Best also placed the company and its operations under review with negative repercussions. A final say from the ratings agency is expected soon now that the company has released its financial results.

AMER FINL GROUP ( AFG ): Free Stock Analysis Report
MOODYS CORP ( MCO ): Free Stock Analysis Report
PARTNERRE LTD ( PRE ): Free Stock Analysis Report
BERKLEY ( WR ) CP (WRB): Free Stock Analysis Report
XL GROUP PLC (XL): Free Stock Analysis Report
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