Thursday, April 12, 2012

Erie Indemnity Co. (ERIE) Dividend Stock Analysis

Linked here is a detailed quantitative analysis of Erie Indemnity Co. (ERIE). Below are some highlights from the above linked analysis:

Company Description: Erie Indemnity Co. is a management services company that provides sales, underwriting, and policy issuance services to the policyholders of Erie Insurance Exchange in the United States.

Fair Value: In calculating fair value, I consider the NPV MMA Differential Fair Value along with these four calculations of fair value, see page 2 of the linked PDF for a detailed description:

1. Avg. High Yield Price
2. 20-Year DCF Price
3. Avg. P/E Price
4. Graham Number

ERIE is trading at a discount to only 4.) above. The stock is trading at a 36.6% premium to its calculated fair value of $56.78. ERIE did not earn any Stars in this section.

Dividend Analytical Data: In this section there are three possible Stars and three key metrics, see page 2 of the linked PDF for a detailed description:

1. Free Cash Flow Payout
2. Debt To Total Capital
3. Key Metrics
4. Dividend Growth Rate
5. Years of Div. Growth
6. Rolling 4-yr Div. > 15%

ERIE earned three Stars in this section for 1.), 2.) and 3.) above. A Star was earned since the Free Cash Flow payout ratio was less than 60% and there were no negative Free Cash Flows over the last 10 years. The stock earned a Star as a result of its most recent Debt to Total Capital being less than 45%. ERIE earned a Star for having an acceptable score in at least two of the four Key Metrics measured. The company has paid a cash dividend to shareholders every year since 1996 and has increased its dividend payments for 22 consecutive years.

Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA) or Treasury bond? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description:

1. NPV MMA Diff.
2. Years to > MMA

The NPV MMA Diff. of the $592 is below the $1,300 target I look for in a stock that has increased dividends as long as ERIE has. If ERIE grows its dividend at 6.1% per year, it will take 2 years to equal a MMA yielding an estimated 20-year average rate of 3.1%. ERIE earned a check for the Key Metric 'Years to >MMA' since its 2 years is less than the 5 year target.

Memberships and Peers: ERIE is a member of the Broad Dividend Achievers™ Index. The company's peer group includes: Arthur J Gallagher & Co. (AJG) with a 3.8% yield, Marsh & McLennan Companies, Inc. (MMC) with a 2.7% yield and The Travelers Companies, Inc. (TRV) with a 2.8% yield.

Conclusion: ERIE did not earn any Stars in the Fair Value section, earned three Stars in the Dividend Analytical Data section and did not earn any Stars in the Dividend Income vs. MMA section for a total of three Stars. This quantitatively ranks ERIE as a 3-Star Hold stock.

Using my D4L-PreScreen.xls model, I determined the share price would need to increase to $58.22 before ERIE's NPV MMA Differential increased to the $1,300 minimum that I look for in a stock with 22 years of consecutive dividend increases. At that price the stock would yield 3.8%.

Resetting the D4L-PreScreen.xls model and solving for the dividend growth rate needed to generate the target $1,300 NPV MMA Differential, the calculated rate is 8.9%. This dividend growth rate is above the 6.1% used in this analysis, thus providing no margin of safety. ERIE has a risk rating of 1.75 which classifies it as a Medium risk stock.

ERIE's personal and commercial property and casualty insurance includes automobile, homeowner, multi-peril, and workers' compensation coverage. The company has all the financial metrics that would allow it to be an good dividend stock: It has no debt, a low free cash flow payout and over 20 years of consecutive dividend increases. However, with $185 million dollars of cash on its balance sheet (1.8 times the 2011 dividend), the company has chose not to aggressively increase its dividend. As a result, it is trading at a large premium to my calculated fair value of $56.78, so for now I will remain on the sidelines.

Disclaimer: Material presented here is for informational purposes only. The above quantitative stock analysis, including the Star rating, is mechanically calculated and is based on historical information. The analysis assumes the stock will perform in the future as it has in the past. This is generally never true. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.

Full Disclosure: At the time of this writing, I helg no position in ERIE (0.0% of my Dividend Growth Portfolio). See a list of all my dividend growth holdings here.

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Tags: [ERIE] [AJG] [MMC] [TRV]