23 November 2019
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Is IAG in a storm?

Andrew Main
7 June 2016

By Andrew Main

Australia’s biggest domestic insurer IAG recovered slightly yesterday, picking up $0.03 to close at $5.75, which in the light of the weekend’s storms, is like finding the roof doesn’t leak after all.

On Monday, the Insurance Council of Australia announced that Queensland and New South Wales were officially in a state of catastrophe in insurance terms, following that up yesterday by putting Victoria and Tasmania in the same category.

Using that definition means that insurers form crisis teams of assessors and run hotlines to speed up the claims process.

Meanwhile, the number of insurance claims jumped from around 11,500 on Monday, to some 14,500 claims by the start of Tuesday, with an estimated value of $56 million.

Those numbers are only a guess really, since there are probably still people trying to work out how to get back to their houses across flooded rivers, but the main reason that IAG and the other insurers have seen their prices hold up is that anything less than around $100 million in claims from a storm is small bikkies.

Indeed, they don’t even mind the occasional flood and bushfire because if we didn’t have this type of event, householders would be even more likely than usual to let their home and contents cover slide.

But, and there’s a big but here, insurers are a lot like conventional householders insofar as they keep their reinsurance premium costs down by accepting the equivalent of an excess.

They don’t call it that, of course, but it’s based on the fact that they wear the first $250 million, say, of any catastrophe and the reinsurer picks up the rest.

The problem with that sort of cover is the same as finding you have suffered a succession of minor dings onto your car, rather than one specific nasty mishap.

I say this because two years ago IAG found itself hit for around $350 million in claims payouts in the space of just over a month from a succession of bad weather events on the eastern seaboard, including two separate flood events in Queensland.

They got zero help from their reinsurers on that occasion because the scale of the damage from any one event wasn’t big enough to trigger a claim on reinsurance.

We’ll see how IAG gets itself through this latest sousing, but on recent days’ form, it’s barely moving the needle.

In terms of whether the stock is a buy or not, it’s a victim of its own success. A 10 cent per share special dividend at the half year, bringing the total fully-franked payout for the half to 23 cents, went down like an oyster with shareholders and the stock price has outperformed its two main rivals, Suncorp and QBE, over the last six months to the extent that IAG is now seen by most of the investment banks as having broken through its price target.

In the last six months, IAG’s share price has climbed by 16.7% whereas Suncorp’s only 2.5% and QBE, which is still sorting itself out after a succession of nasty surprises emerging from previous management’s global expansion campaign, has dropped 7.6%.

Credit Suisse is the only broker to see much upside in the IAG share price, picking $5.75 as its target. That is its current price, whereas the likes of UBS, the gloomiest observer, reckon it was fairly priced at $4.85.

The big problem many of the brokers have is the fact that they can’t see a lot of meaningful growth in the next couple of years and indeed Peter Harmer, the new CEO who succeeded industry veteran Mike Wilkins late last year, said as much at the December half year results presentation.

He said that Gross Written Premium (GWP) was going to be relatively flat after a slight contraction last year, and that the company’s overall insurance margin was going to be at the lower end of previous 14 to 16% guidance due to IAG having a tougher time with its commercial insurance than domestic.

The consensus estimate from the brokers surveyed by FNArena is for EPS growth of 16.1% this year after hitting a minus 44% air pocket last year, when they fell from 56.1 cents a share to 31.2 cents.

Getting back to 36.2 cents a share this year looks respectable, but that’s expected to fade slightly in 2016-17, down slightly to 35.6 cents a share.

Conclusion? IAG is a well-run company, but for non-holders, it’s looking a bit pricey at the moment. Sentimentalists will however remember it now has a quota sharing agreement with Warren Buffett’s Berkshire Hathaway, who flipped a lazy $500 million into IAG for the privilege, and Buffett is a byword for value investing.

A cynic would point out that anything he buys into goes up anyway as followers pile in, but betting against ol’ Warren is a pastime best reserved for the truly brave.

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