Kinsale Capital (KNSL -17.31%), the fast-growing specialty insurance company, recently saw its stock price plummet 20% in the day following its earnings announcement. By all measures, the company had a solid quarterly performance. However, management comments about its future growth prospects worried investors and weighed on the stock price. Here's what Kinsale Capital investors need to know.
Kinsale is a fast-growing insurer with an excellent track record
Kinsale Capital writes insurance policies on things traditional property and casualty insurers don't touch. It covers things above and beyond standard automotive or property coverage, also known as excess and surplus (E&S) insurance. Its policy lines include small business casualty, construction, professional liability, marine, aviation, and product recalls, to name a few.
What makes E&S insurers appealing is that they have more flexibility compared to traditional insurers. Standard automotive or property insurance policies are highly regulated regarding what they must cover and how much they can charge. As a result, insurers end up competing more on price. Kinsale, on the other hand, can underwrite unique policies covering risks it has a deep expertise in. It also has more flexibility in pricing those policies, which can lead to healthy profit margins.
Kinsale Capital is a fast-growing specialty insurance company that has crushed the market since it went public in 2016. Its recent earnings were yet another illustration of its strong business. Kinsale's net earned premiums in the third quarter grew 39% from last year. This, and positive gains on Kinsale's investment portfolio, helped net income surge 131% year over year.
Kinsale's premium valuation makes the stock more vulnerable to swings
The day after its positive earnings results, Kinsale Capital stock sold off nearly 20%. The move was unusual, given its positive earnings results that exceeded analysts' expectations.
Investors may be concerned about Kinsale's valuation after recent comments from its Chief Executive Officer, Michael Kehoe. During the company's earnings call, Kehoe said that the longer-term growth rate for Kinsale would be more toward the 10% to 20% range "as market competition returns to normal in the years ahead."
Since going public in 2016, Kinsale's total revenue has grown at 40% compounded annually. Its stellar growth has continued this year, and the company has garnered a high valuation. Following the sell-off, Kinsale is valued at 7.1 times sales, 28.8 times earnings, and 23.4 times forward earnings. This is a high valuation, especially considering that the insurance industry's average price-to-sales ratio is 1.3. Kinsale also trades at a healthy premium to its much larger competitor, Markel (MKL -1.00%).
KNSL PS Ratio data by YCharts. PE = price-to-earnings.
Its CEO had a good reason to hit the brakes for investors
Like many industries, insurance is a cyclical business. This cyclicality isn't tied to the economy like it is for some companies. Instead, it's linked to the amount of claims paid out on policies and industry competition.
In recent years, insurance companies have paid out higher claims costs while competition dwindles, making it easier for companies to raise premiums. This "hard" insurance market benefits E&S insurers because they can fill the market need and cover the highest-profit policies that other insurance can't (or won't) cover.
According to the credit rating agency Fitch Ratings, the hard insurance market environment is expected to continue through next year, with softening conditions not coming until 2025 at the earliest.
Should investors be concerned?
Investors shouldn't panic following Kinsale's recent drop. The sell-off may be some investors taking their money off the table at what they believe is a high valuation.
Kinsale Capital's staggering growth wasn't expected to last forever. As the company becomes a bigger player and as industry market conditions normalize, its CEO sees its growth rate settling to between 10% and 20% annually. That growth rate is still impressive, especially considering the company's solid profit margins on its policies compared to peers.
The company continues growing at a nice clip, and favorable market conditions should continue well into next year. The recent sell-off seems like an overreaction, and investors have an excellent opportunity to add shares at a lower price today.
