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weIMG Stock Pitch Presentation




             March 6, 2010
        richmond@chicagobooth.edu
Long Idea: Genworth MI Canada (MIC:CN)
• MIC is the largest private residential mortgage insurer in Canada, and
  has been...
Fundamentals & Valuation
• Preliminary 2009 results:
           Underwrote insurance on $C 18 billion worth of mortgages i...
Inefficiencies + Pessimism = Mispriced Stock
• Lack of coverage from the sell-side
      None of the sell side analysts at...
Key Assumptions for 2010 Base Case
• YoY% change in unit sales: 0% (2009 pace is pre-04 level)
      •    For both new and...
Key Assumptions for 2010 Base Case (cont’d)
• Market share on new residential mortgage originations: 25%
     •   Regained...
Bottoms Up Estimate of 2010 Claims Loss
High LTV mortgages in-force ($CAD millions)               $   177,905
Less assumed...
Valuation
• Comparables analysis not applicable
     •   No other publicly traded monoline insurer in Canada
     •   US c...
Decision Tree Analysis: Basis for Target Price
                                                     Loss       2010e      ...
Long Term Value Embedded in the “Base Case”
                                                                              ...
Key Risks to the Investment Thesis
• “Double dip” recession
      Probability: LOW to MODERATE
      Economy is highly lev...
Appendix



   12      richmond@chicagobooth.edu
Tale of Two Countries: Canada vs. US Mortgages




• Other distinguishing features of the Canadian mortgage market:
   –  ...
Canadian Housing Market Charts
                                               YoY % Change in Units Sold & Average Price: ...
Canadian Residential Mortgage Market Charts
                                            $3,000                            ...
MIC is Overpaid to Insure Residential Mortgages
                               MIC’s Policies in force as at March 31, 200...
Conservatively Managed Investment Portfolio




             ~75% of investments are rated AA and higher
          Portfol...
Owners of Genworth MI Canada’s Stock
Ownership Summary
Type                                                # of Common Sha...
MIC vs. S&P TSX (Q2 2009 – YTD 2010)




                Outperformed S&P TSX
                by over 30% since IPO




  ...
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MIC.CN Stock Pitch

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Long idea on Genworth Canada

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Transcript of "MIC.CN Stock Pitch"

  1. 1. weIMG Stock Pitch Presentation March 6, 2010 richmond@chicagobooth.edu
  2. 2. Long Idea: Genworth MI Canada (MIC:CN) • MIC is the largest private residential mortgage insurer in Canada, and has been in business since 1995 Underwriting and distribution platform services a vast majority of residential mortgage lenders and originators across Canada Pure play residential mortgage underwriter Current Price: $C 27(1) 1 Yr. Target Price: $C 33 Expected Return: ~ 21% • Investment thesis: Consensus estimates for 2010 earnings, which anticipate an increase in loss expense from a fall out in Canadian housing, are too conservative Sell side estimates based on either applying % YoY change on P&L accounts, or by simple regression (inappropriate b/c of lack of data points) A bottoms up analysis that incorporates a drop in average house prices, slow down in new & existing home sales, and a rise in the foreclosure rate to an all- time high, reveal that losses will be at the low end of management guidance MIC’s share price already reflects significant losses for 2010; if actual losses are less than expected, we will likely see MIC’s earnings and multiple expand (1) Based on the five-day average closing price between 3/01/2010 and 3/05/2010. 2 richmond@chicagobooth.edu
  3. 3. Fundamentals & Valuation • Preliminary 2009 results: Underwrote insurance on $C 18 billion worth of mortgages in 2009. Policies in-force at end of 2009: $C 224 billion (~25% of Canadian market) MIC surprised by reporting a sequential decline in its loss ratio – demonstrating the effectiveness of its loss mitigation measures related to workout activities Cash and investments of $C 4.4 billion vs. technical reserves of $C 2.1 billion • Capitalization: Enterprise value(1): $C 2.9 billion Equity market value: $C 3.2 billion No debt; Cash of $C 378 million Excess regulatory capital of just over $C 600 million (or ~$C 6/share) • Consensus implied valuation multiples: Forward P/E in 2010: 11x ; 2011: 10x Forward P/BV in 2010: 1.2x; 2011: 1.1x (1) Includes unfunded pension & OPEB obligations of $11 million; capitalized value of operating lease is de minimis. 3 richmond@chicagobooth.edu
  4. 4. Inefficiencies + Pessimism = Mispriced Stock • Lack of coverage from the sell-side None of the sell side analysts attempted a “bottoms-up” analysis of the Canadian mortgage market to estimate claims loss Applying traditional analytics on P&C insurers (and US mortgage insurers) does not work; MIC operates in a very unique market • Many US institutional investors unfamiliar with Canadian equity market • Uncertainty clouds the Canadian residential housing market Valid arguments made by both sides re: whether market is in a “bubble” When it comes to evaluating MIC, the best approach is to assess the strength of its balance sheet to weather anticipated losses • Investors still pained by losses from the US sub-prime market MIC is being unjustly painted with the same brush Retaining the “Genworth” (TARP recipient in the US) name is not helping MIC 4 richmond@chicagobooth.edu
  5. 5. Key Assumptions for 2010 Base Case • YoY% change in unit sales: 0% (2009 pace is pre-04 level) • For both new and existing homes • 19 year average YoY % change: +1.1% for new homes; +3.6% for existing homes • YoY% change in average sales price: -12% (to adjust prices to pre-06 levels) • For both new and existing homes • 19 year average YoY % change: +4.3% (for both new and existing) • Foreclosure rate on total insurance in-force: 100 bps • Assumed that all delinquent loans will be foreclosed (very conservative) • 19 year average delinquency rate is ~40 bps (high: 64 bps; low: 19 bps) • Net earned premium as a % of beginning unearned premium reserve: 27.5% • 5 year average: 26.5% (30.6% in 2009) • 100 bps added to reflect impact of change to premium recognition curve in 2009(1) (1) MIC submitted a change to its premium recognition curve in 2009 due to an expectation of accelerated loss development; the change was approved by OSFI – the insurance regulator in Canada 5 richmond@chicagobooth.edu
  6. 6. Key Assumptions for 2010 Base Case (cont’d) • Market share on new residential mortgage originations: 25% • Regained market share to “Mid to high 20%” in Q4 2009 after falling to “low 20s” early in the year during the apex of the credit crisis • Interest on investments: 4.25% • Duration cut on investments, and Bank of Canada is expected to hold rates steady at 0.50% until at least Q3 2010 • Increase dividends by 20% • MIC currently has excess regulatory capital • Management indicated that an announcement will be made during Q2 2010 regarding plan(s) to deploy excess cash 6 richmond@chicagobooth.edu
  7. 7. Bottoms Up Estimate of 2010 Claims Loss High LTV mortgages in-force ($CAD millions) $ 177,905 Less assumed principal pay down % -2.3% Consensus est. of $255m, Roll forward value for 2010 $ 173,902 implying 10bps difference in Plus new mortgages insured in 2010 $ 18,069 loss ratio (0.35 vs. 0.45); Estimated high LTV mortgages in-force at 2010 $ 191,971 mgmt guidance: 0.35 to 0.40 Vintage Value Foreclosure Severity Year % in-force Rate 2010 Loss Exp 60% of mortgages in- 2006 12.0% $ 21,349 1.0% 1.5% $ 3.1 force at end of 2009 were 2007 24.0% $ 42,697 1.0% 20.3% $ 86.8 originated from ‘06 to ‘09 2008 15.0% $ 26,686 1.0% 22.0% $ 58.7 2009 9.0% $ 16,011 1.0% 26.2% $ 41.9 2010 loss expense ($CAD millions) $ 190.5 Assumed foreclosure rate exceeds delinquency rate • Severity represents the actual claim paid by MIC as a % of the total insured amount. Using data from MIC’s filings and Canadian mortgage and statistical agencies, severity ratio was estimated by comparing the average home price (adjusted for appreciation or decline) in each vintage year, against the average unpaid mortgage principal balance (including fees, taxes, and 12 months of unpaid interest) • Mortgages were assumed to be amortized over 25 years, and a fixed rate of 6% for a five year term (paid monthly). 7 richmond@chicagobooth.edu
  8. 8. Valuation • Comparables analysis not applicable • No other publicly traded monoline insurer in Canada • US comps distorted by differences in US and Canadian residential mortgage insurance market; Canadian banks and insurers also trade at a premium (~20% on both P/E and P/BV) to their US peers • Decision tree analysis (multiples approach) • Weighted average probability of MIC’s 2010 EPS under 4 possible scenarios • Adjusted key assumptions to determine EPS impact • DCF analysis • Reflects assumptions that supports “base case” scenario in the decision tree analysis 8 richmond@chicagobooth.edu
  9. 9. Decision Tree Analysis: Basis for Target Price Loss 2010e Value % P/ '10e RoE Expected Scenario Description Ratio EPS P/E Comment p/sh Chg BVPS 10e P(n) % Rtn. Bull Case 27% mkt share; 0.8% Foreclosure 27% $2.95 13.5x High P/E of US Monolines $39.83 48% 1.6x 12.0% 10% $3.98 Consensus 45% Loss Ratio for 2010 45% $2.50 10.0x Median P/E of Cdn insurers $25.03 -7% 1.0x 10.5% 30% $7.51 Base Case 1% Foreclosure rate; 0% YoY 34% $2.72 13.5x High P/E of US Monolines $36.75 36% 1.5x 11.2% 50% $18.38 homes sold; -12% YoY avg prices Premium on Canadian insurers Bear Case 22% mkt share; -15% YoY homes 60% $1.85 10.0x Median P/E of Cdn insurers $18.50 -31% 0.8x 7.9% 10% $1.85 sold & avg price; 1.5% foreclosure 100% $31.72 Share Price $27.0 Expected Return $31.72 Market Cap $3.2bn Plus Dividends $1.06 P/E '10e 9.9x Total Return $32.77 P/E Cons '10e 10.8x Share Price $27.00 P/BVPS 1.1x % chg 21.4% ROE '10e 11.2% Applying the weighted average probabilities into the likely outcomes affecting MIC’s 2010 earnings, the result suggests upside of ~21% from its current share price (vs. ~41% for the base case scenario) 9 richmond@chicagobooth.edu
  10. 10. Long Term Value Embedded in the “Base Case” Terminal 2009a 2010e 2011e 2012e 2013e 2014e 2015e 2016e 2017e 2018e 2019e 2020e Value Net earned premiums $ 557 $ 547 $ 542 $ 548 $ 553 $ 564 $ 576 $ 587 $ 599 $ 611 $ 623 % chg yoy -22% -2% -1% 1% 1% 2% 2% 2% 2% 2% 2% Combined ratio 0.512 0.422 0.393 0.550 0.550 0.570 0.570 0.570 0.570 0.570 0.570 Expense ratio 0.170 0.170 0.170 0.200 0.200 0.210 0.210 0.210 0.210 0.210 0.210 Claims ratio 0.342 0.252 0.223 0.350 0.350 0.360 0.360 0.360 0.360 0.360 0.360 U/W profit 271 317 329 247 249 243 248 253 258 263 268 - Margin 0.488 0.579 0.607 0.450 0.450 0.430 0.430 0.430 0.430 0.430 0.430 Investment income 184 187 207 175 177 186 190 194 198 202 206 % of NEP 33% 34% 38% 32% 32% 33% 33% 33% 33% 33% 33% Insurance profit $ 455 $ 504 $ 536 $ 422 $ 426 $ 429 $ 438 $ 446 $ 455 $ 464 $ 474 Insurance margin 81.8% 92.0% 98.8% 77.0% 77.0% 76.0% 76.0% 76.0% 76.0% 76.0% 76.0% Tax provision (137) (151) (161) (127) (128) (129) (131) (134) (137) (139) (142) Tax rate % 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% FCFE $ 379 $ 319 $ 353 $ 375 $ 295 $ 298 $ 300 $ 306 $ 312 $ 319 $ 325 $ 332 $ 5,394 Equity $ 2,643 $ 2,838 $ 3,055 $ 3,281 $ 2,395 $ 2,096 $ 1,796 $ 1,949 $ 2,105 $ 2,265 $ 2,427 $ 2,593 % chg yoy 7% 8% 7% -27% -12% -14% 9% 8% 8% 7% 7% Dividend 28 124 136 150 1,181 597 601 153 156 159 163 166 DPO 7% 39% 39% 40% 400% 200% 200% 50% 50% 50% 50% 50% RoE 14% 12% 12% 12% 10% 13% 15% 16% 15% 15% 14% 13% NPV $ 306 $ 311 $ 304 $ 220 $ 204 $ 189 $ 177 $ 166 $ 156 $ 146 $ 137 $ 2,133 Sum of NPV $ 4,447 Less debt $ - Reflects need to return Implied equity value $ 4,447 WACC of 8.8% used assuming RFR of 4%; excess capital to # of shares o/s Implied per share value 117.1 $ 37.98 shareholders (or pursue 4% risk premium; and beta of 1.2 Current share price $ 27.00 M&A opportunity) to Upside % 41% sustain “mid-teens” ROE 10 richmond@chicagobooth.edu
  11. 11. Key Risks to the Investment Thesis • “Double dip” recession Probability: LOW to MODERATE Economy is highly levered to commodity markets; global slowdown = trouble • US style housing blow up in Canada Probability: VERY LOW Radically different market, conservative lending, low inventory, lender recourse, etc • Lending “cap” for private mortgage insurers is not increased Probability: LOW Cap increased in the past when near limit; can’t have a government monopoly • New competition enters the market Probability: LOW High barriers to entry; potential competitors were US mortgage insurers Down side risk if the thesis is wrong: 28% based on MIC’s current price 11 richmond@chicagobooth.edu
  12. 12. Appendix 12 richmond@chicagobooth.edu
  13. 13. Tale of Two Countries: Canada vs. US Mortgages • Other distinguishing features of the Canadian mortgage market: – Canadian lenders have more conservative underwriting practices vs. US lenders – More emphasis on relationship based lending – Lenders can attach personal assets and/or garnish wages if loan is deficient – Annual principal repayment is limited (and costly), which limits refinancing 13 richmond@chicagobooth.edu
  14. 14. Canadian Housing Market Charts YoY % Change in Units Sold & Average Price: Existing Homes 30% 25% 20% 15% Base case estimate for 10% YoY %change in units sold 5% 0% 1991 1994 1997 2000 2003 2006 2009F -5% Base case estimate for -10% YoY %change in average selling price -15% -20% Number of Units Average Price 96% 30% 94% 20% 92% 90% 10% 88% 0% Base case estimate for 86% YoY %change in # of new 84% -10% homes sold 82% -20% 80% -30% 78% 76% -40% 1991 1994 1997 2000 2003 2006 Unit Sales as a % of Completions (LHS) YoY %Chg # of New Homes Sold (RHS) 14 richmond@chicagobooth.edu
  15. 15. Canadian Residential Mortgage Market Charts $3,000 Gross Written Premiums - Residential Mortgage Insurance GWP - Residential Mortgage Ins $2,500 722 CAGR 997 374 MIC Market $2,000 1995 to 2009 45% 12% 504 471 604 2004 to 2009 -6% 5% $1,500 282 385 200 MIC lost market share in ’08 and ’09 b/c: $1,000 146 2,132 2,090 86 105 141 1,740 1,492 1) Gov’t ban on mortgages with terms of 29 1,285 1,203 1,446 1,383 $500 1,049 35 yrs+ 2 828 865 898 850 611 480 2) Banks fear that MIC would not be able $0 to stay afloat to provide coverage on 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009F future claims CMHC Genw orth Canada Proportion of GWP Written by Year 100% 0% 5% 9% 11% 14% 14% 16% 18% 24% 26% 24% 25% 25% 30% Base case assumed MIC’s 80% 36% market share of 25% in 2010 60% 40% 20% 0% 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009F CMHC Genw orth Canada 15 richmond@chicagobooth.edu
  16. 16. MIC is Overpaid to Insure Residential Mortgages MIC’s Policies in force as at March 31, 2009 Mortgage Insurance Premium Grid Unemployment Rate vs. Mortgage Delinquency Rate Average of 200bps for premiums vs. long run avg delinquency rate of 40bps 16 richmond@chicagobooth.edu
  17. 17. Conservatively Managed Investment Portfolio ~75% of investments are rated AA and higher Portfolio duration of 3.1 years (vs. 5 yrs at Y/E 2008) Book yield of 4.0% 17 richmond@chicagobooth.edu
  18. 18. Owners of Genworth MI Canada’s Stock Ownership Summary Type # of Common Shares Held % of Shares Outstanding Market Value (CAD in mm) Institutions 90,642,841 77.40 2,515.3 Hedge Fund Managers - - - Corporations 1,000 0.00 0.0 Insiders 66,025 0.06 1.8 ESOPs - - - Corporate Foundation - - - Public and Other 26,393,135 22.54 732.4 Total 117,103,001 100.00 3,249.6 Genworth (GNW.US) controls ~57.5% of MIC’s stock Top 5 Holders Holder # of Common Shares Held % of Shares Outstanding Market Value (CAD in mm) Position Date Genworth Financial Asset Management, Inc. 67,325,900 57.49 1,858.7 Jul-30-2009 Fidelity Investments 6,123,100 5.23 169.0 Nov-30-2009 Phillips, Hager & North Investment Management Ltd 3,626,700 3.10 100.1 Nov-30-2009 CI Investments Inc. 3,230,900 2.76 89.2 Sep-30-2009 I.A. Michael Investment Counsel Ltd. 1,417,500 1.21 39.1 Dec-31-2009 Source: Capital IQ 18 richmond@chicagobooth.edu
  19. 19. MIC vs. S&P TSX (Q2 2009 – YTD 2010) Outperformed S&P TSX by over 30% since IPO 52 wk High: $C 17.30 52 wk Low: $C 30.50 IPO price: $C 19.00 19 richmond@chicagobooth.edu
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