Tower Gains on Higher Revenues - Analyst Blog

Tower Group Inc.'s (TWGP) third quarter operating income of 77 cents per share was a couple of pennies ahead of the Zacks Consensus Estimate of 75 cents. Earnings fell below management's guidance range of 75 to 80 cents. Results were aided by a steep rise in premiums written related to recent acquisitions. Tower had earned 74 cents during the same period last year.

Revenue of $423.7 million was way ahead of the Zacks Consensus Estimate of $354 million. On a year-over-year basis, revenues rose 65%, led by an increase in premiums written, higher commission and fee income, and higher net investment income.

Following a major restructuring of its commercial business and the acquisition of OneBeacon Insurance Group Ltd. (OB) Personal Lines division, Tower has made changes to its reporting segments during the quarter. It will now operate in Commercial, Personal and Insurance Services segments as compared to Brokerage Insurance, Specialty Business and Insurance Services previously. 

Gross premiums written increased substantially by 58.3% year-over-year to $447.6 million, primarily led by the acquisition of OneBeacon's personal lines in July and a 2009 Specialty Underwriters' Alliance acquisition, which together added approximately $200 million to premium volumes in the quarter. Excluding these transactions, the company would have experienced a modest negative organic growth during the quarter. Net premiums increased to $389.7 million, which represented a 50.7% increase as compared to the same period last year.

Consolidated combined ratio increased 710 basis points to 93.8% from 86.7% in the prior-year quarter.

Segment Performance

Tower's Commercial segment witnessed a 19.9% increase in gross premiums written to $279.1 million and a 15.9% increase in net premiums written to $249.3 million compared to the same period in 2009. As the company continued to maintain pricing and underwriting discipline, premium volume declined and market conditions became more competitive, including some of program business that do not meet the company's underwriting standards. Most of the growth in the commercial segment was due to the SUA acquisition.

The Insurance Services segment revenues rose to $9.0 million from $0.2 million due to $7.9 million in management fees earned by Tower for underwriting, claims, investment management and other services provided to the Reciprocal Exchanges pursuant to a management services agreement with the Reciprocal Exchanges.

Tower's Personal segment gross written premiums increased more than threefold to $168.5 million compared to $50 million in the same period of 2009. The acquisition of OneBeacon Personal Lines accounted for $116.2 million of this increase. The remaining increase was attributable to a general growth in the personal lines business. Net premiums written also more than tripled to $140.3 million, compared to $43.5 million for the same period in the prior year.

Tower's invested asset base, including cash and cash equivalents grew 28.6% to $2.7 billion, compared to $2.1 billion at year end. Net investment income increased 34.8% year over year to $29.3 million due to higher invested assets, partially offset by modestly low yields. Book value per share also increased 18.5% to $24.81.

Book value per share of $26.34 has increased 15.9% compared to September 30, 2009.

Tower spent $36.7 million for buying back stock and has repurchased 3.9 million shares since the initiation of buyback program in March 2010. Management expects to aggressively continue buyback activity, going forward. As a result of repurchases, there are 41.5 million shares outstanding as of September 30, 2010, down from 45 million shares outstanding as of March 31, 2010.

2010 Outlook

Management expects fourth quarter 2010 operating earnings per share to be in a range of 75 to 80 cents. Zacks Consensus estimates earnings of 85 cents for the next quarter. Management expects to deploy $375 million of net cash released from the OneBeacon division acquisition for long-term investment.

As with all other property and casualty insurers, Tower Group is also facing a soft insurance market. Thus, in the light of the current market conditions, the company is expanding inorganically. It had made four acquisitions in 2009, thereby broadening its commercial business lines and specialty business. Also the completion of acquisition of Personal Lines division of OneBeacon Insurance Group during the reported quarter will aid in expanding the company's Personal Lines product offerings and capabilities.

Management is also focusing on capital management strategy, which includes dividend payment and share repurchases. Management is also open to further alliances that would further strengthen and diversify the company's business model.