Allstate Stays in Neutral Lane

We have maintained our ‘Neutral’ recommendation on Allstate Corp. ( ALL - Analyst Report ) based on its consistent profitability, efficient capital management, strong pricing discipline and claim management. However, outsized exposure to catastrophic events and a weakening investment portfolio are the downsides.

Allstate’s second-quarter 2012 operating earnings per share of 87 cents substantially exceeded the Zacks Consensus Estimate of 52 cents and the year-ago quarter’s loss of $1.24. Net income for the reported quarter came in at $423 million or 86 cents per share, against a net loss of $624 million or $1.19 per share in the prior-year quarter.

Allstate has a disciplined underwriting approach and efficient operating expense management, which has led to a more consistent profitability compared to many of its peers. Moreover, the acquisition of Esurance and Answer Financial from White Mountains Insurance Group Ltd. ( WTM - Snapshot Report ) is boosting online auto sales, thereby generating cost synergies. Increased agency distribution has also enhanced unit sales at Allstate Financial.

Despite above-average catastrophe costs, the Property-Liability segment, which generates the majority of Allstate’s revenue, continues to be profitable as a result of careful pricing discipline and strong claim management. Allstate is also repositioning its product and distribution portfolio to enhance long-term growth. Further, the company took an active step towards reducing future catastrophe losses through the establishment of an Enterprise Risk and Return Management (ERRM) system, which also aided the improvement of combined ratio in the first half of 2012.

Additionally, prudent capital management remains Allstate’s forte. Management’s proactive risk mitigation and return optimization programs continue to enhance shareholder value, while generating operating ROE of 11.4% in the first half of 2012.

However, Allstate deals with property and casualty business, as a result of which it is highly exposed to catastrophic events. Escalating losses from catastrophes have been weighing on the company’s claims and benefits expenses, while also deteriorating the company’s combined ratio, bottom-line results and cash flows to a large extent.

Also, Allstate is experiencing deterioration in the brand homeowners and standard auto policies, due to the negative impact of raising returns in homeowners insurance. In addition, Allstate’s investment portfolio has been witnessing a rough patch due to the ongoing equity market declines and sluggish returns.

The Zacks Consensus Estimate for Allstate’s third quarter earnings is currently at 79 cents per share, up about 396% year-over-year. Of the 22 firms covering the stock, only one revised its estimate upward, while no downward revisions were witnessed in the past 30 days.

For 2012, Allstate’s earnings are expected to be $4.15 per share, climbing about 215% from 2011.

Allstate carries a Zacks #3 Rank, implying a short-term Hold rating.