Insurance Australia Group: Upside from here if management can execute well

About the author:

Richard Coles
Author name:
By Richard Coles
Job title:
Senior Analyst
Date posted:
12 August 2021, 7:30 AM
Sectors Covered:
Insurance, Diversified Financials

  • Insurance Australia Group's (ASX:IAG) FY21 result had been largely pre-released, however we believe some share price weakness on result day reflected top-line consumer premium and rate trends that arguably lagged its key peer SUN.
  • We make relatively nominal changes to IAG FY22F/FY23F/FY24F NPAT forecasts (-3%-+1%), with larger EPS downgrades reflecting convertible note dilution being incorporated into IAG’s EPS calculation. Our Target Price is adjusted to (login to view).
  • IAG clearly had a difficult FY21. However, from here we believe insurance price increases combined with management’s strategy to improve underwriting and lower costs should drive improved profitability. With the stock trading close to 7 year lows, we see relative value in the name and maintain our ADD call.

The result summary

Insurance Australia Group's (ASX:IAG) FY21 result had been largely pre-released, so the headline figures were already known. The FY21 NPAT loss (-A$414m) was in-line with expectations and the FY22 guidance for low-single-digit growth and a reported insurance of 13.5% to 15.5% was also as expected.

The 2H21 dividend of 13cps was slightly ahead of consensus (12cps). We believe some share price weakness on the result day reflected top-line consumer premium and rate trends that arguably lagged IAG’s key peer SUN.

The good

IAG is producing healthy underlying insurance margins (UIM) in both Australia Direct (AD, ~22%) and New Zealand (~16%).

The group underlying insurance margin was broadly flat 2H21 on 1H21 (~14%) excluding the 1H21 COVID benefits from lower claims frequency and one-off operating costs in the second half.

Key divisional top-line growth trends were still reasonable, in our view, with AD delivering 4.3% top line growth (including 1% volume growth) and Intermediate Insurance Australia producing 5.6% GWP growth (with 8% average rate increases).

Management noted relatively flat group expenses 2H21 versus 1H21, excluding one-offs and COVID related expenses.

There was no change to IAG’s COVID-19 provision, while IAG’s capital ratio of 1.06x (target range 0.9-1.1x) post final dividend remains robust (with this ratio to benefit by a further 6bps post the Malaysia business sale).

The bad

The Intermediate Business UIM (~4%) is low, with significant work required to get this business producing its target of A$250m annual insurance profit (~>10% UIM).

IAG did see lower FY21 GWP growth in Australia motor insurance than SUN (3.6% vs 6.9%) and also in NZ (9% vs 3%). SUN also seemingly pushed through higher rate increases than IAG in Australian motor and home classes in FY21 (4.5% & 7.1% vs 5.7% & 3.6%).

IAG strengthened reserves by A$80m in FY21 (1.1% of NEP) mainly in liability classes.

Group underlying expenses rose 6% in FY21, although acknowledging some of this was due to the one-off costs.

Changes to forecasts

We make relatively nominal changes to IAG FY22F/FY23F/FY24F NPAT forecasts (-3%-+1%), with larger EPS downgrades reflecting convertible note dilution being incorporated into IAG’s EPS calculation. Our Target Price is adjusted to (login to view).

Investment view

IAG clearly had a difficult FY21. However, from here we believe insurance price increases and management’s strategy to improve underwriting and lower costs, should drive improved profitability.

With the IAG share price at its lowest level for almost 7 years and the stock trading on an undemanding ~17x FY22F PE, we see relative value in the name and maintain our ADD recommendation.

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Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

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