I don’t know a lot about the stock market , as such I cannot explain the performance over the last few days , but I do know a lot about insurance. The following is my opinion only and should not be relied upon , happy to give my thought to any questions
What I can tell you form my experience is:
- Investment Returns
GMA have an ever increasing investment portfolio that has consistently generated $80m per half year for the last few years. As it did in the first half of 2015. GMA’s 1H2015 performance has been burdened by a $28m mark to market loss. This is not an incurred loss, it is a change in valuation based on Market Price for large Bonds ( just in case you have to sell); it is an accounting practice commonly used as a tax delay. Once bonds reach maturity the FULL amount is paid and this will need to be reversed. As per page 28 of the half yearly - Investment returns 77.6million , net of this paper adjustment are standard. This is the only figure you need to worry about in relation to investment. This equates to $155million of claims capable of being paid every year before the first dollar of risk premium is spent.
GMA’s Net performance is practically identical to 2014 , and on track to another significantly profitable year , increase in NTA and bolstering investment portfolio , all the whilst delivering bumper dividends.
- Unearned Premium
GMA bolstered its Unearned Premium Liabilities up by $19.8 million. In doing so, it has created a liability, further reducing profitability. This has also be known to be a tax delaying technique, which also creates further APRA imposed liabilities. GMA aren’t doing anything wrong , they are playing smart but this increase is most defiantly not a loss. Regardless of year , this is an extra $20m of income that has been pushed back , that is currently returning over 50%. I.E it shows as a $20m liability , but in fact it is a $10m - $15m asset over time. As GWP has actual gone down in 2015 look for a $40 bump when this is reversed and then some.
GMA bolstered its Unearned Premium, at a time GWP actually decreased, and Earned Premium increased………. ? This maybe a timing issue but as I see it , it is a once off and will be reversed in 2H giving a massive free boost to profitability.
Since listing the Unearned Premium has been increased by $100M , which looks like a liability , when it is not. Unearned Premium increase from 2012-2013 was in comparison only $20M.
- Insurance Profit
This is the return the company makes on its earned premium less all costs including claims. This base figure specifically excluding investment was $115m for the half year , this is directly comparable to the previous year’s result and forms the base on the TRUE result.
- Claims Paid - this is a useful resource to show the net flow through to the coffers. Claims are only either Paid , Outstanding or in Recovery. The following figures are mind blowing but they are true, and taken from the Financial Reports. What I have done below is net off the income, which is GWP less acquisitions costs ( commission and operational). We know this is roughly 26% , after these costs are paid there is nothing more and you can call the remainder Risk Premium , which you use for investment until claims are physically paid.
- 1H2015 - (GWP $285M) Risk Premium $211M claims Paid $28M Result +$183M
- 2H2014 – (GWP $320M) Risk Premium $ 237M claims Paid $36M Result +201M
- 1H2014 – (GWP $313M) Risk Premium $231M Claims Paid $55M Result $+ 176M
- 2H2013 – (GWP $323M) Risk Premium $239M Claims Paid $82M Result +157M
To be clear, this is not insurance profit. This is shown above, what this shows you is the accumulation of investment portfolio. In 2 Years alone the investment portfolio has increased by $717million case. Based on forecasts the investment portfolio will continue to increase a further $350M over the next 12 months. The only way to keep the investment portfolio down is via a significant amount of increased paid claims (from $30M to over $200M) or another special dividend.
I believe the special dividend process , will be used again and again to keep the investment portfolio around $4B. If it climbs too high GMA will be taken over. If Special dividends of over $300m had not been released , the investment portfolio would have been $4.3B and asset value $3.2B with investment income of almost $200M
The investment portfolio has increased, at a time of falling returns ( Not Falling investment value) the return is now 3.72% when it used to be closer to 4.5%. These two have traded each other off
As is shown, and referred to in point 1. Investment Returns are $80m per half year , and have been steady at this rate for 2 years. What this means is $80m of claims can be paid each HY before any deterioration of the risk premium. As you can see from the historical claims ALL claims paid in the last 2 years have come solely from investment returns.
Claims Paid $201 M Investment Returns $316M
That is a buffer of $115M before you eat into any of the Earned Premium
There is a correlation between interest rate and claims. Even though the RBA/smart money are speculating on a flat interest environment for 12 months , it is important to remember always that investment returns are GMA’s first line of defence against reduction in risk premiums. Based on a $4.1 Billion Dollar Investment pool ( which will increase) for every 1% of increased interest rate and additional $41million in claims which can be paid, without loss. Based on existing average claims costs ( $47K) this is an additional 820 claims that can be paid , without effecting results. In 2014 from its 10 years of Earned Premium Risk GMA only paid a total of1545 claims , so an additional 820 is quite a buffer.
As advised in Investment returns the firs $155M of claims each year is covered by the investment returns. This allows for 3297 of claims each year to be paid out before any deterioration of risk premium. Following are claim counts
2013 - Full year 2362
2014 – Full year 1545
2015 – 1H 568 ( Annual 1,136)
As you can see the actual claims paid has been in decline for the last 3 years. 1H 2015 was by far the best actual claims payment result, during which only $28M of claims were physically paid. This is one third of the investment returns achieved.
- Average Claims Cost
The average claims cost is effected by the payout amount and any recoveries. Recoveries have been flowing in from both successful litigation and increased in property values. GMA pays upfront and then chases both the delinquent payer and receives and surplus funds after the bank has covered it costs , as can occur when a house is bought in 2012 and sold in 2015. The reduction in Average claims cost is testament to this fact.
- 1H13 Average Claims Cost $80,880
- 2H13 Average Claims Cost $75,000
- 1H2014 Average Claims Cost $62,000
- 2H2014 Average Claims Cost $54,000
- 1H2015 Average Claims Cost $49,000
This is a significant down trend , and shows a reduction of 40% which is fundamentally due to the increase in property values. Even if property value plateau , you will have 9 open years of premium being earned which relate to housing values that have increased from 12 - > 70%
When you have a reduction in average claims cost , and actual claims you are enjoying a very good time.
- Outstanding Claims Provision.
This is effectively a number calculated , based on if you stopped trading today how many future claims would you expect to pay and at what cost. During the last 6months the figures show a declared OCP increase of 20million. This is the 500 increase in delinquencies, whereby they have fully reserved these for claims, when the large majority 46% are only delinquent by a few months.
There are 5900 current delinquent mortgages and GMA has already put aside $ 254,000,000 or almost 43,000 for each one of them. Based on current claim resolution of <1500 per year , it would take over 4 years just to get to all of these
This seasonal increase took another $20m out of the profit for 1H2015.
New Delinquencies ( these are not claims , but are reserved as claims)
First Half Second Half
2013 1240 251
2014 1306 212
2015 1515 ?
As is clearly evident the delinquency rate is seasonal, and has a good half and a bad half, with the first half being the bad. As it stands the total delinquencies of 5900 is a whopping 80 greater then what they were in 1H2013 ( 5820). That is they have increased by under 2% , which is negligible especially when you factor in the Earned Premium has increased by over 15% during this time.
So last 2 ½ years Delinquencies up by 2%, Earned Premium up by 15%. This is a significantly improving book, where by the delinquency rate per $1 has dropped by over 10%.
If the Delinquency pattern of the last few years continues , there will be approx. 300 of new delinquencies in 2H2015. This would mean a reduction in OCP of approx. 1000 or $41million in OCP. Let’s wait and see what they do. This is $40m of additional profit expected this year on trend.
Summary of the positive effect of provisions for 2H2015
Unearned Premium should come down for 2H2015 – this is 100% Profit , say $20M ( could be 40M)
Outstanding Claims should come down, if delinquencies follow trend. Say $30M
The Mark to Mark will balance out Say $30M
Underwriting Profit on trend $ 115M
Investment Return on Trend $150M
Claims Paid $36M ( allowing for an increase , not that it is expected and Earned Premium will also increase)
2H2015 should show $345M of Pre-tax Profit ( EPS of over 50c)
Equals $240M off NPAT. Even allowing for one of the figure to be wrong or hit , GMA should proceed on auto pilot to $200M of NPAT for 2H2015. Assuming 58% dividend this is 18c dividend for 2H. Bringing total 2015 dividend to almost smack on 50c. It is also an increase in assets for the company of $96millin.
Cash flow will be
GWP $285,000,000
Less Expenses - $36M - Claims $74M costs – Dividend $201M = small reduction in cash flow due to large dividend. This means the Investment portfolio will remain steady
Expected Results.
The one thing about GMA , is so much of its performance is already known. Even if GMA closed tomorrow they would have Earned Premium of over $400m next year, and $350m the year after. This is already done and taken care off. You could lose CBA tomorrow, and the book will earn $1.2B over the next three years , no ifs no buts – its already written it just needs to be earned.
The craziest thing about this book , is loss of a major client is a hyper boost to profitability. I know it sounds illogical, but its true. If GMA wrote $300M in 2016 & $300M in 2017 ( that is to say their premium halved). Here’s what would happen:
Expenses would increase by approx. 5% from 26 – 30%. Remembering the biggest part of expenses is commission , RI.
Loss ratio would not be affected as it is not related to Turnover.
Profit for these two years would not be affected by any more than about 20%. That is there should be at least $500M of profit from these two years ( assuming stable conditions). Averaging $250M each year , that is $23c per year in dividends.
This would see 2018 start with $4.3B invested and approx. $350 mill of earned income to kick off 2018. But the other effect is Unearned Premium would drop by approx. $200M from $1.382B to $1.2B This $200 mill reduction would no longer be a liability , and would add straight onto the Asset Value. That is the Asset Value would increase to over $3B as a result of this reduction. At the same time the APRA capital Requirement would decrease by at least $100M to approx. $1.7B which would give GMA a coverage of 1.76 times. To bring this down to the GMA stipulated bands of maximum 1.32-1.44 this would require a release of $960m dollars in a special dividend. This is about $1.50 to each shareholder , sounds drastic but this would still leave GMA at the upper band of its solvency margin.
The Investment portfolio is not effected by a reduction in turnover ( only claims and/or special dividend). So if GMA did not do any more special dividends, it would grow to over $4.5B but its ability to reduce claims would increase because of its $90M per half profit would become a larger percentage of Earned Premium.
Earned Premium Current ( half yearly) $225 Mill. Investment protects 40% of loss ratio
Earned Premium $300Mp.a (half yearly) $150 Mill investment protects 60% loss ratio
So even with a halving of 2014 GWP 630m down to 300m for the next two years. Assuming claims environment stays the same you would be left with
$325M turnover , Underwriting Profit $ 60M
Investment Return $200 M
NTA ( $2.1B) Share Price $3.23
Annual Profit $250M Pre Tax $175M NPAT equals 16C dividend fully franked and $80m increase in Asset value and there will also be a need to reduce the Unearned premium liability by an additional $100M the following year if turnover remained at $300M ( which is another 15c special dividend coming from nothing other than reduction in Unearned Premium)
One Final point , on the investment portfolio
Even if you double the claims paid to $55M per half year . If Turnover remains at
- $285M GWP per half year – the Investment portfolio will increase by $155M per half or $310M p.a . This alone will push GMA to release another special dividend 2H2015 or a similar amount. 18c only slows the cash flow by $117M
- Dropped to $200M per half year – the investment portfolio will grow by $100M per half or almost $200M p.a
Because this is based on cash flow. The only way to stop this ever increasing portfolio is to payout special dividends , or more in claims ( bearing in mind ive already allowed for an additional $27m in claims over last half yearly, or to put it otherwise to allow for 642 additional claims to be settled when last year they only settled 568 in total)
At $3.15 the valuation of this company is 2.05 billion Its APRA Calculate Regulatory Capital base was 2.788 billion ( $4.27 per share - that is after APRA put this company through almost half a billion dollars of reserves it still believes the company is worth $800million more than the stock market does ???????????????).
90% of APRA reserves are safety layers that will never be touched , and would be transferrable to an asset , if you handed back your license.
Sorry , its long , and it us up ramping , but I can’t understand why people are jumping ship , when this is as solid an investment you could find. You could get 5:1 QBE shares , that would equate to a $1.55 half yearly dividend for QBE , good luck with that when its paid under a $1.2 the last three years cumulative.
I will do a comparison to QBE fundamentals at a later date , but they are mind blowing.
Its August , Earned Premium is set for 2H , This half has a massive kick stark of over $50m of paper losses to get back as profit, Cash flow will be an additional $200m, and another special dividend must be on the horizon.
Feel free to correct me , because I have no idea , what is going on with the SP.
(20min delay)