State Auto Ests Bumped Down

State Auto Financial Corporation (STFC - Snapshot Report) reported operating losses of $0.12 per share, versus operating net income of $0.51 per share in the prior year quarter, driven by a record level of catastrophe losses of $76.8 million. The company, however, is progressing on the production front with net written premiums reporting an increase of 12.4% year-over-year.

Standard auto, the largest line of business, is also growing organically with good levels of new business applications and steady retentions. While pricing technology, product development, agency automation and business support have aided the organic growth of the company, growth trends continue to be under attack from intensifying competition, in addition to upward pressure on the company's loss ratios. Therefore, our Hold rating remains in place.

Based on 2Q08 results, we are lowering our 2008 and 2009 earnings expectations to $0.84 per share and $2.25 per share, respectively from $1.70 per share and $2.45 per share, respectively. At the current price, the shares of STFC shares trade at 1.27x its 2Q08 book value of $21.44 per share. The company's share price-to-book multiple has compressed since its 3.1x high recorded after the company reported 3Q05 results.

The current price-to-book multiple now hovers around the company's ten-year average, which is below its 1.6x historic level. As expected, the company's ROE has peaked and should decline with the softening property-casualty cycle. Therefore, we think the current price-to-book multiple is appropriate. Our new six-month target price of $28.00 per share, down from $28.90 per share, equates to a multiple of 1.25x to our estimated book value of $22.40 per share as of December 31, 2008.

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