The FTSE 250 contains some fast-growing companies on their way up. But some of the shares in the index are fallen stars that used to be in the benchmark FTSE 100 group.
One such business is insurer Direct Line (LSE: DLG). Its shares had been getting cheaper for a while, meaning they had a double digit yield at the start of this year. Then the company issued a profit warning, abruptly cancelled its dividend and the shares plummeted.
Looking forward though, could now be a good moment for investors to reconsider the merits of owning Direct Line?
Improving business prospects
The FTSE 250 company is under new management since the dividend cancellation. It has also been making steps to right the ship and focus its business strategy.
This month, the firm announced it has agreed to sell its brokered commercial insurance business. That involves Direct Line receiving an initial payment of £520m, equivalent to more than a fifth of its current market capitalisation.
It could also earn up to £30m based on how the business perform in future, as well as being able to release capital of up to £270m over time. The deal will not stop Direct Line continuing to sell insurance to small businesses directly.
Although the number of in-force policies fell in the first half compared to the prior year period, gross written premiums and fees from ongoing operations rose by almost 10%. That suggests the firm may be tackling one of the areas it was struggling with before, namely covering rising costs by pushing up premiums.
Still not out of the woods
However, some things about the FTSE 250 firm continue to concern me. The loss before tax for the first half was far higher than in the prior year period, at £76.3m. Direct Line also announced that it would set aside around £30m to compensate policyholders who had been historically mischarged.
That charge came in at a lower level than some City analysts had feared. Still, it brings to mind for me the Warren Buffett aphorism that there is never only one cockroach in the kitchen.
Direct Line shocked investors by cancelling its juicy dividend this year. The historical misselling costs also came as a nasty surprise. The company remains lossmaking and I am still not entirely clear I understand why Direct Line suffered quite so badly in a market where rival underwriters facing similar challenges continued to perform fairly well.
Ongoing turnaround situation
The Direct Line share price has moved up lately as investors greeted the brokered commercial insurance disposal positively.
I think there could be more share price rises ahead as the business has a lot of experience, huge customer base, and well-known brands including Churchill as well as the eponymous Direct Line brand.
if it can get its motor insurance business performance into gear, the company has indicated that it could restart dividends.
But despite the promise, this still feels like a turnaround situation to me. When it comes to my own portfolio, I will hold off buying this FTSE 250 share until there is clearer evidence the business’s performance has turned the corner.
