|Shares Out. (in M):||153||P/E||23x||21x|
|Market Cap (in $M):||6,600||P/FCF||21x||18x|
|Net Debt (in $M):||960||EBIT||520||590|
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An investment in Verisk Analytics represents an opportunity to purchase a high quality business at a compelling valuation with a margin of safety against permanent capital impairment. While not cheap on an absolute basis, we believe the underlying growth potential, the scalable business model, and the competitive positioning of the company justifies a high multiple for a business that should continue to grow revenues in the mid to high single digits, and EPS by 10-15%+ with limited downside.
Verisk is the largest data & analytics solutions provider to the U.S. property & casualty, or P&C, insurance industry. The company also offers solutions for detecting fraud in healthcare, mortgage and supply chain industries, as well as methods to predict and quantify loss in diverse contexts ranging from catastrophes to health insurance.
By way of background, Verisk was formed in 1971 as a not-for-profit advisory and rating organization for the P&C insurance industry, replacing numerous state property-insurance bureaus and regional and national bureaus for various P&C lines. After being run like a co-op by the insurance industry for 27 years, and then as a not-for-profit private entity for 11 years while insurers continued to own a majority stake, the company went public in 2009.
With 40 years of operating history, the company has developed deep and long-standing relationships with its core customers in the P&C industry and has become almost the de facto underwriting utility for U.S. P&C insurers, including the largest 100 largest P&C insurers purchasing an ISO service in their customer base. This monopoly-like position is wide-ranging, as Verisk develops standardized policy language across 25 different P&C insurance lines tailored to specific state regulations, with its “statistical agent” status in all 50 states enabling it to collect and report premium and loss data to regulators on behalf of its customers. Indeed, currently over 1,800 P&C insurers provide data to Verisk, with almost 3B records submitted each year.
Leveraging its expertise in P&C insurance risk management software and data services, Verisk has rapidly expanded into other verticals, including mortgage (fraud detection) and healthcare (fraud and predictive analysis). Other verticals include supply chain, reinsurers, workers comp, and government. Notably, no customer is greater than 5% of revenues.
The company reports in two segments: Risk Assessment (Verisk’s “legacy” business servicing the US P&C insurance, mainly under the ISO brand), which comprises approximately 48% of revenue and 53% of EBITDA, and Decision Analytics (largely comprised of several acquired business servicing a more diverse client base than the Risk Assessment segment)
We believe Verisk represents a compelling investment opportunity for the following reasons:
High Quality Business
(a) Market Leadership & Moat: Verisk is the largest aggregator and provider of detailed actuarial and underwriting data pertaining to P&C insurance with an ISO brand that has a high 90% market share. The company’s unique proprietary industry databases, longstanding relationships, and systems level integration with its customers creates huge barriers to entry for other players
(b) Pricing Power: The company has historically exhibited high pricing power, reflecting the “must have” nature of its data assets, which are both unique and extensive. The risk assessment business has historically increased prices by 300-400 bps annually
(c) Stable/defensive with recurring characteristics: The company offers solutions and services through annual subscriptions or long-term agreements, which are typically pre-paid and represent approximately 70% of its revenues. The renewal rates have historically been north of 97%
(d) Low capex requirements: Capital expenditures are typically 3-5% of revenues, as the company’s technology infrastructure can accommodate significant additional transaction volumes with limited expenditures
(e) Scalable business model with margin expansion opportunities: The business model has high operating leverage, which coupled with the natural revenue growth opportunities, should lead to margin expansion. Over the past decade, EBITDA margins have more than tripled from 10-15% to 45%, as revenues more than tripled
(f) Industry tailwinds: High decision analytics is a growing industry that benefits from increasing propensity of industry players across the verticals to better manage risk. Demand for analytics is also increasing.
(g) Cross-sell opportunities: Over the past few years, the company has driven growth in the P&C insurance segment by cross-selling decision analytics solutions to its existing customers of the industry standard program. Verisk’s top 100 customers use an average of 11 of Verisk’s top 25 products, and hence, there’s an opportunity for Verisk to continue driving growth by cross-selling newer insurance solutions to existing customers
Financial Performance/Balance Sheet
The company has grown revenues from $380m in 2001 to an estimated $1.3bn in 2011 (CAGR of 13%), at the same time quadrupling EBITDA from $146m to an estimated $582m in 2011. EBITDA margins have expanded from 31% in 2003 to 45% in 2010. The company also has a solid balance sheet, with net debt/EBITDA of less than 2x 2011.
The company’s senior management operating team, including the CEO, CFO, COO, GC and three senior officers who lead its business units have been with the company for an average for 20 years. In the deep-rooted insurance business, this is critical as long-term relationships are the foundation for retaining market share. The CEO, COO and CFO beneficially own over 10m shares combined. The CEO, Frank Coyne, joined ISO in 1999 and became CEO in 2000 and Chairman in 2002. He is very well-regarded in the insurance industry, and has played a leadership role in the development of the property/casualty insurance industry. Annual cash incentive awards are related to growth in revenue, EBITDA margin, EPS results and enhancements in/achievement of specific operating metrics. For 2010, the target revenue growth goal was 10%, and the EBITDA margin goal was 39% (with a maximum of 43%)
Many of the current shareholders (e.g., Berkshire, American Financial Group) are also its most important customers. While this could work either way, given the recent activity of Berkshire, as well as the “stickiness” of the business, we believe this is actually an advantage, as insurers care more about the risk to their portfolio than they do about their stake in the company.
While valuation appears stretched, we believe the company deserves a slightly higher multiple than it is currently trading at, and that the company will continue to grow its bottom line rapidly through continued revenue growth (new business, pricing) as well as margin expansion as it continues to leverage its operating cost base. At $40, Verisk trades at approximately 11.5x 2013e EBITDA, and approximately 18x after-tax free cash flow. We believe that when compared to other businesses of similar quality with the growth characteristics and earnings power, the company shd trade closer to 12.5-13x forward, and by 2014 (3 years from now), with the growth in EBITDA and prudent capital allocation, the company should trade at approximately $65/share. Though hardly eye-opening, our attraction to Verisk lies in the fact that we don’t see too much near-term downside, and thus presents an attractive risk-reward situation, particulary in this interest rate environment. On a historical basis, the company has been public only since 2009, and hence history does not provide a solid context for valuation purposes. At the same time, when compared to other businesses of this caliber, we believe the implied multiples that we use in our model are justified.
Risks include regulatory (a part of ISO’s business is to assist insurers to meet various state regulatory requirements; if new laws/regulations try homogenize insurance pricing and/or limit the ability of P&C insurers to use risk-based pricing, then the value provided by ISO could diminish), relationships with insurers, a potential ill-advised acquisition, and a difficult end market/insurance environment (especially mortgage)
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