While it never got as much attention as AIG (NYSE:AIG), XL Group (NYSE:XL) was also seriously stressed during the global credit crisis and found itself very much on the brink. New management and a new business plan has made a great deal of difference, though, and the company looks like it's back on a believable path. Investors have an interesting dilemma with this company, though, as the book value and near-term return on equity path seem to point in different directions as to the company's fair value.

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New Lines, New Plans and Higher Pricing Helping
On first blush, XL may not look all that much different today than it did a few years ago. Various P&C and specialty insurance lines are still about two-thirds of the premium base, reinsurance is still about one-quarter of the business and there's still a small life reinsurance operation. Within that, though, there have been quite a few changes in underwriting standards and targeted business lines.

SEE: Profit By Understanding Fundamental Trends

XL has recently added several global insurance products, as well as expanding its offerings in markets like environmental, construction and forestry insurance. Moreover, XL is still a major player in categories like marine and aviation insurance, as well as professional liability - XL is the third-largest underwriter of insurance policies covering corporate directors and officers ((AIG is No. 1, Chubb (NYSE:CB) is No. 2 and Travelers (NYSE:TRV) is No. 4)).

Better pricing is also helping out a lot. Like many other insurance companies, XL is seeing strong pricing and strong premium growth. For the last quarter, XL saw double-digit premium growth in both insurance and reinsurance (XL is the 20th largest reinsurance company).

SEE: Simple Strategies For Capitalizing On Trends

Losses Better, Expenses not
XL delivered a very strong first quarter earnings number, largely due to good loss results and a very strong prior year reserve release. That makes XL a little different, as other quality insurance companies like Arch Capital (Nasdaq:ACGL) and W.R. Berkley (NYSE:WRB) are seeing shrinking positive reserve developments.

That's certainly helpful for the company's earnings and returns. Likewise, the company's better underwriting performance is improving the loss component of the combined ratio.

What's not as encouraging so far, though, is the company's expense control and reported return on equity (ROE). To its credit, management is not just waving away concerns about its expense structure. Nevertheless, while management is doing a good job of improving its underwriting, the lousy investment environment puts even more onus on improving expenses if XL is going to post a better ROE.

The Bottom Line
How cheap XL is today really depends on your favored method of evaluating insurance companies. A lot of investors like the quick and easy price/book method, and XL is certainly cheap in terms of both stated book value and tangible book.

SEE: Digging Into Book Value

ROE is a better long-range measure of an insurance company's value, though, and that's where XL's performance is more problematic. XL is currently on track for about 6% ROE this year, and that really does not cut it. Likewise, if XL's management can't boost returns passed the high single-digit level predicted by most sell-analysts for 2015-2017, the shares just aren't that cheap. That said, if management can get ROE up to 10% on a sustainable basis (which really isn't that demanding for a well-run insurance company), these shares become a great deal more interesting.

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At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.

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