Insurers Grapple With Costs And Competition

Australia | Jun 16 2021

This story features SUNCORP GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: SUN

As Victoria's floods signal the end of FY21, Australia's general insurers are having to grapple with price pressure on reinsurance as well as heightened competition in some segments

-Reinsurance pricing pressure likely for domestic insurers in FY22
-Upside risk for Suncorp includes capital management
-Competition stepping up in commercial motor insurance

 

By Eva Brocklehurst

Flooding in Victoria is the latest event for domestic general insurers to grapple with in FY21, with the Insurance Council of Australia declaring the event a catastrophe on June 14.

Suncorp Group ((SUN)) has announced catastrophe costs to May are $955m and the maximum potential loss from Victoria's floods is likely to be $50m. Goldman Sachs calculates there could be a -1% hit to FY21 earnings per share should costs come close to $1.02bn for the year.

The broker believes there is potential for even more downside for Insurance Australia Group ((IAG)), estimating there could be -4-7% downside risk to forecasts if June quarter non-attritional costs are similar to Suncorp's.

On the other hand, Morgan Stanley envisages only modest downside risk to earnings for both companies, having already expected Suncorp would exceed its catastrophe budget by $50m. Neither will need to purchase additional reinsurance from the remainder of FY21 but there is likely to be reinsurance pricing pressure for domestic insurers at the renewal date of July 1.

IAG is yet to comment on its flood losses and the broker forecasts its catastrophe budget in FY21 will be exceeded by $22m and it is at greater risk of increasing its FY22 catastrophe costs.

Morgan Stanley also has feedback from reinsurers that signals loss-making Australia is a global issue, asserting investors may be disappointed by the domestic insurers, which have consistently exceeded catastrophe budgets in recent years, despite no impact from cyclones, and this could lead to a de-rating.

Credit Suisse downgrades Suncorp to Neutral from Outperform following the strong run-up in the share price and now considers the stock fairly priced. The broker suggests Suncorp has already probably negotiated most of its July 1 reinsurance renewals so the current event should have minimal impact on pricing the remainder of the program.

The upside risk to Credit Suisse's rating includes capital management or special dividends, given Suncorp's strong capital position and a potential unwinding of covid-19 bad debt provisions in the bank division to the tune of $150m.

Equally, there are execution risks centred on the turnaround in the bank as well as potential for increased expenditure and intended efficiencies that are yet to be realised.

Citi envisages upside potential if Suncorp can deliver on some of its FY23 targets, although acknowledges the market remains sceptical. The broker lowers estimates for Suncorp's FY21 earnings per share by -2% and considers it likely capital management initiatives will accompany the full year results.

Moreover, a full review of the banking arm's collective provisions and associated assumptions could provide meaningful provision releases and these are not currently factored into estimates.

Motor

Macquarie points out there are new entrants hovering in commercial motor insurance, one of the few commercial lines in Australia that are meeting return-on-capital targets. This is one of the largest segments in terms of gross written premium, and the least competitive.

Following a year in which there has been lower claims frequency, this could be the next front for traditional insurers that are trying to protect their attractive margins. Already, Macquarie notes insurers are incorporating a one-off benefit from the pandemic into pricing.

The broker believes incumbents are faced with a dilemma: if they do not move onto broker platforms they will slowly cede share, or if they do price competition will accelerate and expose their cost base.

Macquarie suggests Steadfast Group ((SDF)) is key to the changing pace in this market, as not only does it have a 56% market share in commercial motor but the ramp up of its proprietary platform poses a large threat to the incumbents.

Ord Minnett agrees competition is generally increasing in motor insurance, noting IAG may be expanding its NRMA brand into new states. The broker's survey shows there has been an increasing trend in driving since the -40% reduction in mobility in April and premium increases in aggregate have more than kept up with guidance for underlying levels of inflation of 3-4%.

The broker suspects IAG and Suncorp are now driving competition in the market, having increased prices less materially than both Allianz and QBE Insurance ((QBE)). On a state basis, Ord Minnett flags Suncorp's willingness to lower rates in NSW quite sharply.

In home and contents insurance pricing both IAG and Suncorp had lowered premiums for home insurance over the April quarter compared with January. This may not be as bad for margins, Ord Minnett suggests, as Suncorp increased default deductibles for the GIO and Suncorp brands, thereby reducing average expected cost per risk. QBE, meanwhile, showed in 9% increase in premiums in April compared with January.

Comminsure

Given some market share loss in recent years, Macquarie believes IAG could pass ACCC concentration tests and as a result could be a likely acquirer of the Comminsure asset, owned by Commonwealth Bank ((CBA)).

This could be a defensive move, although delivery of the required synergies may be hard to achieve in the longer term. Macquarie values Comminsure at $1-1.1bn and estimates synergies of around 30% would be reasonable to expect.

Yet IAG would need to deliver synergies of more than 60% of Comminsure's underwriting expenses in order to hold group cash returns flat. In 2013 IAG acquired the Wesfarmers underwriting business with the majority of $140m in synergies realised in the first two years.

Goldman Sachs, not one of the seven stockbrokers monitored daily on the FNArena database, has a Neutral rating for IAG and a target of $5.86 with a Buy rating on Suncorp and a target of $12.08.

On the database there are five Buy ratings and two Hold for IAG. The consensus target is $5.39, signalling 3.9% upside to the last share price. For Suncorp there are four Buy ratings and three Hold with a consensus target of $11.83 that signals 3.6% upside to the last share price.

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CHARTS

CBA IAG QBE SDF SUN

For more info SHARE ANALYSIS: CBA - COMMONWEALTH BANK OF AUSTRALIA

For more info SHARE ANALYSIS: IAG - INSURANCE AUSTRALIA GROUP LIMITED

For more info SHARE ANALYSIS: QBE - QBE INSURANCE GROUP LIMITED

For more info SHARE ANALYSIS: SDF - STEADFAST GROUP LIMITED

For more info SHARE ANALYSIS: SUN - SUNCORP GROUP LIMITED