Rating Update: Stock Rating C-Neutral (11/8/19)-RLI Corp (RLI).

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BUSINESS

RLI Corp., an insurance holding company, underwrites property and casualty insurance in the United States and internationally. Its Casualty segment provides commercial and personal coverage products; and general liability products, such as coverage for third-party liability of commercial insureds, including manufacturers, contractors, apartments, real estate investment trusts, and mercantile. This segment also offers coverages for security guards and in the areas of onshore energy-related businesses and environmental liability for underground storage tanks, contractors and asbestos, and environmental remediation specialists; and professional liability coverages focuses on providing errors and omission coverage to small to medium-sized design, technical, computer, and miscellaneous professionals.
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INVESTMENT RATING

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Reflecting future returns on capital that are forecasted to be above the cost of capital, RLI is expected to continue to be a Value Builder.

RLI has a current Value Trend Rating of C (Neutral).
With this rating, PTR’s two proprietary measures of a stock’s current attractiveness are providing very contradictory signals. RLI has a very low Appreciation Score of 9 but a very high Power Rating of 97, and the Neutral Value Trend Rating results.

RLI’s stock is selling significantly above targeted value. The current stock price of $95.96 compares to targeted value 12 months forward of $35.
RLI’s very low appreciation potential results in an appreciation score of 9 (91% of the universe has greater appreciation potential.)
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RLI has a Power Rating of 97. (This very high Power Rating indicates that RLI has a better chance of achieving attractive investment performance over the near to intermediate term than all but 3% of companies in the universe.)
Factors contributing to this very high Power Rating include: recent price action has been extremely favorable; the recent trend in RLI’s earnings estimates has been favorable; and is in a strong phase current.

INVESTMENT PROFILE

RLI’s financial strength is above average. Financial strength rating is 69.
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Relative to the S&P 500 Composite, RLI Corp has neutral Growth/Value characteristics; its appeal is likely to be to investors neutral towards Income; the perception is that RLI is lower risk. Low financial leverage is a positive for RLI. Low historical growth is a relative weakness for RLI. RLI’s valuation is moderate: moderate dividend yield, high P/E ratio, and moderate price/book ratio. RLI has unusually low market capitalization.

CURRENT SIGNALS

RLI’s current operations are eroding. Return on equity is falling, reflecting: falling asset utilization; and falling tax keep rate.

RLI’s current technical position is very strong. The stock price is in a 8.9 month up move. The stock has appreciated 48.0% from its prior low. The stock price is above its 200 day moving average which is in an uptrend.

ALERTS

RLI Corp (NYSE: RLI). Important positive changes in investment behavior have recently occurred: positive upside/downside volume developed.
Recent important positive changes in fundamentals have benefitted RLI Corp (NYSE: RLI): significant quarterly earnings acceleration occurred, and the consensus estimate for December, 2019 increased significantly.
The stock is currently rated C.
On 11/8/19, RLI Corp (NYSE: RLI) stock enjoyed a major increase of 13.3%, closing at $0.17. However, this advance was accompanied by unusually low trading volume at 60% of normal. Relative to the market the stock has been exceptionally strong over the last nine months but has declined -1.4% during the last week.

CASH FLOW

In 2018, RLI generated a very significant increase in cash of +$32.79 million (+65%). Sources of cash were much larger than uses. Cash generated from 2018 EBITDA totalled +$70.40 million. Non-operating sources contributed +$11.66 million (+17% of EBITDA). Cash taxes consumed -$32.93 million (-47% of EBITDA). Withdrawal of investment from the business totalled +$101.85 million (+145% of EBITDA). On a net basis, debt investors pulled out -$7.25 million (-10% of EBITDA) while equity investors pulled out -$110.94 million (-158% of EBITDA).
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RLI’s Non-operating Income, %EBITDA has exhibited a very small overall uptrend over the period. This improvement was accompanied by stability for the Rli Corp Peer Group. (Since 2016 Non-operating Income, %EBITDA has sharply accelerated.) In most years, RLI was in the top quartile. Currently, RLI is upper quartile at +17% of EBITDA (+$11.66 million).

RLI’s Cash Taxes, %EBITDA has experienced a downtrend over the period. This downtrend was accompanied by an opposite trend for the Rli Corp Peer Group. In most years, RLI was in the lower quartile and top quartile. Currently, RLI is lower quartile at -47% of EBITDA (-$32.93 million).

RLI’s Business Re-investment, %EBITDA has enjoyed a very strong overall uptrend over the period. This improvement was accompanied by a similar trend for the Rli Corp Peer Group. In most years, RLI was in the top quartile. Currently, RLI is upper quartile at +145% of EBITDA (+$101.85 million).

RLI’s Debt Investors, %EBITDA has experienced a downtrend over the period. This downtrend was accompanied by stability for the Rli Corp Peer Group. In most years, RLI was in the third quartile and second quartile. Currently, RLI is slightly above median at -10% of EBITDA (-$7.25 million).

RLI’s Equity Investors, %EBITDA has suffered a very strong overall downtrend over the period. This downtrend was accompanied by a similar trend for the Rli Corp Peer Group. (Since 2016 Equity Investors, %EBITDA has accelerated very sharply.) In most years, RLI was in the lower quartile and third quartile. Currently, RLI is lower quartile at -158% of EBITDA (-$110.94 million).

RLI’s Change in Cash, %EBITDA has experienced a volatile overall uptrend over the period. This improvement was accompanied by an opposite trend for the Rli Corp Peer Group. In most years, RLI was in the second quartile and third quartile. Currently, RLI is at the upper quartile at +47% of EBITDA (+$32.79 million).
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RLI’s Cash, %Revenue has experienced a minor downtrend over the period. This downtrend was accompanied by a similar trend for the Rli Corp Peer Group. (Since 2015 Cash, %Revenue has experienced a minor recovery.) In most years, RLI was in the third quartile. Currently, RLI is substantially below median at +10%.

PROFITABILITY

RLI’s return on equity has eroded significantly since 2009.
A major analytical focus for RLI is a very strong negative trend in pretax operating return a significantly offset by very strong positive trend in non-operating factors.
The productivity of RLI’s assets rose over the full period 2009-2019: asset turnover has exhibited a minor overall uptrend although it experienced a very sharp decline after the 2016 high.
Non-operating factors (income taxes and financial leverage) had a very significant positive influence on return on equity.
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RLI’s return on equity is slightly above median (11.8%) for the four quarters ended September, 2019.
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Operating performance (pretax return on assets) is at median (3.9%) reflecting asset turnover that is lower quartile (0.26X) and upper quartile pretax margin (15.0%).
Tax “keep” rate (income tax management) is at median (86.0%) resulting in after tax return on assets that is slightly below median.
Financial leverage (leverage) is at median (3.51X).

GROWTH RATES

There are no significant differences between RLI’s longer term growth and growth in recent years.
RLI’s historical income statement growth has been in line with balance sheet growth. Revenue growth has paralleled asset growth; earnings growth has paralleled equity growth.

Annual revenue growth has been -4.5% per year. (More recently it has been 2.6%.)

Total asset growth has been -6.6% per year. (More recently it has been 5.7%.)

Annual E.P.S. growth has been -10.7% per year.

Equity growth has been -8.0% per year. (More recently it has been 1.2%.)
No consensus growth rate forecast is available for RLI.
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Relative to the Rli Corp Peer Group, RLI’s historical growth measures are consistently lower quartile. Revenue growth (-4.5%) has been lower quartile. Total asset growth (-6.6%) has been lower quartile. E.P.S. growth (-10.7%) has been lower quartile. Equity growth (-8.0%) has been lower quartile.

Consensus growth forecast is unavailable.
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PRICE HISTORY

Over the full time period, RLI’s stock price performance has been in line with the market. Between January, 2009 and November, 2019, RLI’s stock price rose +240%; relative to the market, this was a -9% loss. Significant price move during the period: 1) June, 2009 – November, 2013: +125%.
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TOTAL INVESTMENT RETURNS

Current annual total return performance of 34.9% is upper quartile relative to the S&P 500 Composite.
In addition to being upper quartile relative to S&P 500 Composite, current annual total return performance through October, 2019 of 34.9% is substantially above median relative to RLI Corp Peer Group.

Current 5-year total return performance of 20.0% is upper quartile relative to the S&P 500 Composite.
Through October, 2019, with upper quartile current 5-year total return of 20.0% relative to S&P 500 Composite, RLI’s total return performance is upper quartile relative to RLI Corp Peer Group.
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VALUATION BENCHMARKS

Relative to S&P 500 Composite, RLI’s overall valuation is high. The highest factor, the ratio of enterprise value/earnings before interest and taxes, is upper quartile. Price/earnings ratio is upper quartile. Ratio of enterprise value/revenue is above median. Price/equity ratio is above median. The lowest factor, the ratio of enterprise value/assets, is below median.

Relative to RLI Corp Peer Group, RLI’s overall valuation is exceptionally high. Four of five factors are lower quartile. The highest factor is the price/equity ratio, followed by the price/earnings ratio, then by the ratio of enterprise value/earnings before interest and taxes, then by the ratio of enterprise value/revenue. The lowest factor, ratio of enterprise value/assets, is at the upper quartile.
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RLI has a major value gap compared to the median valuation. For RLI to achieve median valuation, its current ratio of enterprise value/revenue would have to fall from the current level of 4.71X to 2.65X. If RLI’s ratio of enterprise value/revenue were to fall to 2.65X, its stock price would be lower by $-42 to $54.
For RLI to fall to lower quartile valuation relative to the RLI Corp Peer Group, its current ratio of enterprise value/revenue would have to fall from the current level of 4.71X to 1.79X. If RLI’s ratio of enterprise value/revenue were to fall to 1.79X, its stock price would decline by $-59 from the current level of $96.

VALUE TARGETS

Reflecting future returns on capital that are forecasted to be above the cost of capital, RLI is expected to continue to be a Value Builder.
RLI’s current Price Target of $36 represents a -62% change from the current price of $95.96.
RLI’s very low appreciation potential results in an appreciation score of 9 (91% of the universe has greater appreciation potential.)
Notwithstanding this low Appreciation Score of 9, the high Power Rating of 97 results in an Value Trend Rating of C.
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RLI’s current Price Target is $36 (+29% from the 2018 Target of $28 but -62% from the 11/08/19 price of $95.96). This rise in the Target is the result of a +2% increase in the equity base and a +26% increase in the price/equity multiple. The forecasted increase in growth has a very large positive impact on the price/equity multiple and the forecasted increase in return on equity has a slight positive impact as well. Partially offsetting these Drivers, the forecasted increase in cost of equity has a large negative impact.
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PTR’s return on equity forecast is 12.9% — in line with our recent forecasts. Forecasted return on equity enjoyed a dramatic, variable increase between 2010 and 2018. The current forecast is well above the 2010 low of 5%.

PTR’s growth forecast is 9.0% — substantially above our recent forecasts. Forecasted growth suffered a dramatic, steady decline between 2010 and 2018. The current forecast is significantly above the 2016 low of -2%.

PTR’s cost of equity forecast is 9.5% — in line with recent levels. Forecasted cost of equity exhibited a modest, erratic decline between 2010 and 2018. The current forecast is steady at the 2010 peak of 8.8%.
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At RLI’s current price of $95.96, investors are placing a positive value of $41 on its future investments. This view is consistent with the company’s most recent performance that reflected a growth rate of 0.0% per year, and a return on equity of 11.8% versus a cost of equity of 8.0%.
PTR’s 2020 Price Target of $36 is based on these forecasts and reflects an estimated value of existing assets of $55 and a value of future investments of $-19.

About John Lafferty 52821 Articles
During his career, John has developed valuation and stock rating methodologies, managed institutional portfolios and mutual funds, and provided equity research to institutional investors on thousands of companies. He has been Director of Research at PTR since its inception in 2004.

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