Today's outlook update

The main negative I see in today’s release is the fact that, before any adjustments for lower normalised growth assumptions and for marketing initiatives, the underlying NPBT is expected to grow by only ~3% in FY20 (using the mid point of the new guidance range) despite the MS&AD reinsurance deal coming into effect.

Because the MS&AD deal alone will increase the annuity book by 5.4% in the first year (660m$ vis-a-vis 12,300m$) all else being equal, the updated guidance implies an expectation of marginally negative organic book growth.

Taking into account that Japanese clients have virtually zero incentive to purchase A$-denominated annuities, as long as the 20-year Australian Treasury yield is more than 50bp lower than the corresponding US benchmark, and factoring in that Japanese annuity sales are still running at 6%-7% of total in FY19, this negative growth expectation does not come exactly as a surprise.

If anything, the updated guidance would appear to indicate a degree of confidence in the resilience of the Australian annuity book, probably thanks to the recent launch on two new distribution platforms (HUB24 and Netwealth) and the planned investment in further marketing initiatives.

One aspect I think it is worth emphasising is that, while the current Australian annuity book has a relatively high average redemption rate (~2.5bn$ pa for the next two years, on total annuity sales of ~4.0bn$ pa), the new US$-denominated reinsurance has a much longer duration (~20-year maturity).

So, once the bulk of short-term redemptions is out of the way, the MS&AD reinsurance alone should entail a sharp acceleration in annual book growth, even at constant (or marginally declining) domestic annuity sales.

Other than that, and given the conditions they are operating in, I would say that Management are doing a decent job of repositioning the Life Investment Portfolio, in anticipation of a prolonged low-yield environment. In particular, I see the fact that ten direct property investments have been sold at a premium to book value (in the current environment) as a demonstration that conservative accounting is being applied.

Looking at valuation, and taking the mid point of FY20 NPBT guidance and normalised tax rate, CGF is currently trading at ~11.5x FY20 Normalised NPAT. Because a) for the reasons listed above, I find it difficult to believe that book growth will not accelerate over and beyond the next two years, and b) as elaborated in previous posts, I see limited room for further asset-yield-driven margin compression, it seems highly likely to me that the earnings growth trajectory will eventually resume at an above-market pace from this revised NPAT base.

As such, I see the current PE multiple (which represents a ~30% discount to the broader market) as providing a comfortable margin of safety, relative to the nature of the underlying business.

At a fully-franked dividend yield now in excess of 5.0%, this looks like pretty decent value to me, in the current environment and on a risk-adjusted basis.

All IMHO, DYOR, etc.