Definity Financial Corporation (DFY) Earnings Call Transcript & Summary

So I think, firstly, I would say, if you just look at what we've done over the last 5 years, it gives you credibility, right, because we'll basically be on that kind of journey. And we put this plan last year for our Board of Directors. We're only one year into it, and we're ahead of plan. It's a combination of continuing our twice the industry organic growth and some more M&A. So if you actually say, well, what does that map out? And is it realistic? I think the -- outperforming the industry growth organically is realistic. We've done that at least as we've targeted. The organic -- inorganic growth, I think Travelers is a good example, but it would still require something like Travelers, another $1.5 billion to $2 billion in acquired premium. There could be one company, it could be a couple of countries. So as I think about that plan, I think that's quite -- our thesis of the market consolidating plus the organic drivers plus Sonnet coming on board, I think, gives us quite a bit of confidence that, that is a realistic target for ourselves.

Okay. So there is M&A.

There is some M&A.

I mean I'm going to date myself. But if you go back 20-odd years ago, I mean, the view is always Canada P&C insurance market fragmented, going to consolidate. And it has consolidated. But here we stand today, it's still fragmented, and it's going to consolidate. Like is there something that's going to pick up that consolidation today. And maybe it's technology and the lack of scale and there just hasn't been as much as I would have expected over that time. And maybe I'm wrong or maybe you have a different view, I'd be curious of it, but is there something that's changed this time?

I think it goes through a bit of waves. And that if you cycle -- if you look at the last 20 years, there were phases where there was sort of accelerated in consolidation, then there was a slowdown. And I think we're now entering another acceleration phase. I think COVID was a really unique 3 or 4 years in there that actually slowed everything down, and we've seen an acceleration past that. One of the points I would look at just as evidence is so a company like Travelers, which is a really impressive organization, experts in insurance. They had a $1.5 billion business in Canada. They made the decision that was subscale, and they believe scale is going to be important going forward. And so that's how we were able to convince them to partner with us and to sell their business. I think that actually then makes many other companies that are foreign players in Canada think about, well, we're not even $1.5 billion. Travelers can't make it, how are we going to make it? And I think there's more competition. So if you think about Large and Specialty Commercial, over the last 20 years, this was really the domain for international foreign players. Domestic players didn't play in that. Well, now you've got some very strong Canadian -- happen to be publicly traded Canadian companies that are very good at Specialty and Large commercial. And that they're taking share. So I think those international players are flatlining and they're going to struggle a little bit. And then I think personal lines is increasingly brand, technology, data, the use of AI, scale is more important now and the anti-selection occurs. So if we look at just last year, you had these big Nat Cat events. Well, that was a record year for us. It was half our natural market share. Why? Because of partly strategy, but partly the sophistication of aggregation management, product pricing in terms. Someone's paying their claim. Someone is getting the worse or over accumulation. And that's about the sophistication that you don't get with size and scale.

Yes. So we mentioned Travelers Canada a few times. And I kind of want to ask it this way. I mean, when you look out 4 to 5 years and you're looking back over the past 4 to 5 years, 4 to 5 years out, like what's going to define success for the Travelers deal? Like what's the key metric that's going to define the success of that transaction?

I think the #1 thing that we focused on today is like retaining the top talent, particularly in the commercial business and retain the business. And so that's always the biggest thing. This is a portfolio. It's a good portfolio. That's got good IP, good products, good reputation, lots of good kind of talent. They just haven't been able to grow the business and they have an expense issue. That's what we solve. So if we can keep that and build on that, that's better. So I think we've given some guidance about $100 million of cost synergies from Travelers. I think that's the first phase. And that's really the cost efficiency of putting them on to our platform. What that doesn't pick up is any loss ratio improvement, any revenue generation with these new capabilities. So that might take more than a couple of years. But in your 4- to 5-year range, I think we'll be experiencing that. So I think that's the metric there. I think the other thing that we said is, look, we don't see ourselves as a low single-digit or high single-digit ROE company. We're a mid-teens ROE company. Does Travelers help us get there? We think it does. We had at least a couple of hundred basis points plus our self-help. So we look back at that. And then the other part we look at is, look, we had an objective of being a top 5 player. We've now achieved that. We'll upgrade that now to a top 3 player. And I think Travelers plays a piece of that in terms of helping move the market share but giving us the new capabilities. What it really does is it solidifies our position as a top 3 broker partner. So in the broker part of the business, which is pretty well all commercial have personal lines, we are now a major player. And I think brokers look at us as in a different light than they did before. And I think that actually is transformational. So I look back and I say, well, are we at top 3? That would be great if we are. Do we get to mid-teens? Yes. And have we retained in both capabilities of the Travelers acquisition.

Yes. Perfect. So elephant in the room, obviously, November 22 was a big day for you. The protection from being acquired was taken off. And I covered the life insurance companies when they mutualized and there's protections. And so just -- maybe I'll just open ended, like how should investors think about the day came and when there's lots of chatter out there about consolidation in the marketplace. But maybe I'll just open end, like how should investors think...

It's just a date in the diary. It's come and gone. We don't really focus on it. I think we go back to why did we go through the mutualization. We wanted to build a Canadian champion. We wanted to build a leader in the Canadian P&C business. And if you look at the value creation that we've done since IPO, I mean, it's pretty amazing. You look at pro forma Traveler, we've effectively -- it's a 150-year-old company, we doubled the size in the last 4 to 5 years. If you look at printing now into the low 90s combined ratios, we've built a top 10 broker. We've done this transformational acquisition of Travelers, which proves we are a credible acquirer in the marketplace. We have our 10-year plan of triple the company, triple the value. So I think we don't think about a date in the diary, it's come and gone and what it is, what it is. We're focused on building the value creation. And I think our track record says we can build a lot of value. And I think the Canadian environment and the thesis we have in the operating environment is very conducive for us building lots of value ahead. We're still in the early innings here. And so that's really what we think about it.

Yes. Okay. That's a fair point. So maybe just thinking drilling down the business side, the one thing that we get into a lot of discussions on is just the cycle. And I heard your response on the call, and I think it's been obviously very topical. And like I'm trying to think of how you can kind of phrase it, but it feels like we're seeing a decline in commercial pricing. We're seeing a de-acceleration in personal. If I'm wrong anywhere, you can correct me. It feels like price adequacy has been kind of we're getting to that stage in the personal lines. And I hear all my friends complain to me because they know that I cover P&C insurance company about auto pricing going up and property pricing going up. So is there something different this time around? Because I was around the last time the cycle turned, and it was -- it came about and it was probably bigger than I expect. How should we think about the cycle?

I think that you have to firstly understand and appreciate that different parts of the business have different cycles, and they're not all consistent in timing. And so again, if I take the Definity view, you have 3 big product lines, personal auto, personal property and commercial lines. 70% of our business is personal insurance, property and auto. This is a firm market. We're rate adequate, we're profitable, but the industry is still on auto putting prices up. Even last year with the record cat year, we still had an underwriting profit in our personal property, but the industry didn't. Prices are firming, costs from cats are pushing up, reinsurance attachment points are going higher. So that 70% is still a very firm marketplace. 30% is commercial lines. In the commercial lines, about 85% of that is what we define as kind of small mid-market business. that is a good normal function market. We're still putting rate increases on that market above loss cost trend. So there's no margin deterioration. So therefore, it's really the large specialty business, some parts of specialty that is much more competitive. And yes, does it have an impact? It does have an impact. That's why our commercial business is not growing double digit, but now maybe high single digit. There's just less opportunities. So in the small business area, which is the bulk of our business, we keep our price moving forward. That's good conditions. More competitive in that portion of the business, which means there's less opportunities. We slow the growth. We focus more on retention than on new business. And that's kind of just where you see some of the moderating growth in commercial lines. I think that's quite manageable. Is there something structurally that's different? Well, I think what's different from 20 years ago, 10 years ago, the small commercial is much more concentrated. And the players have bifurcated. So what you find is there's some insurers that play in small business. There's some that play in the large market. The large and specialty players, most of the big internationals do not play down the small business. So that structure, you have to have that buying technology, you've got to have the claims volume. It seems different to me structurally than it was. And so far, the discipline is there. That hasn't changed. Large commercial, definitely a little bit of a different story. And that's why I think we've got a way to do it. The other part of this is, look, as Fabi Richenberger and I structured this team, we've been around, we've seen cycles. And so we've also consciously built our portfolio construction to be less exposed. So there are segments of that large commercial space that we passed on over the last couple of years. So we have very little of it. And those are the segments that are facing the most competition. So I think it affects us, but it's manageable.

And you don't see price competition coming down into that small, medium-sized enterprise because that's the logical thing to think it would come down. But what you're saying is that you're not seeing it.

We're not seeing it yet. We're not. And I think that, again, there could be some parts of the middle market that has larger accounts that could be a little more competitive than it has been in the past. But again, that's a subcomponent of the cycle. The other thing don't forget, is people that write this business are also factoring multiple things. They know that there's still Nat Cat costs. They know that investment yields are low. You're not getting 6%, 7%, 8% return on your bond portfolio. All of that's got to be captured in. And then I think the other thing that structurally has changed is the group and the data, you see trends now much faster than you used to see them 10 years ago. And so good management teams can jump on to that much, much quicker. And then the final point I'd make about it is that property is much shorter tail, much easier to see coming and adjust to that than some of the long-tail liability exposures. And Canada is a very different marketplace. You can't even compare us to other markets like the U.S.

So we're getting close to the end. So one thing I'm going to double back on it because I think about this all the time because I cover banks, I cover Lifecos and those markets are controlled by, call it, 5, 6, 7 different players. Do you think in the next 10 years as part of your strategic plan, do you think that the market in P&C insurance would concentrate to the same degree as we're seeing in the life insurance in the bank space in Canada?

I think directionally, yes. Will it get as concentrated? Probably not. But I think in the personal lines and small commercial, it will. And then the larger and specialty, there'll still be niche players that play there. So I think that direction is going to accelerate.

Well, I could sit here and chat all day, but I know that the clock is ticking down. So what I'm going to do is I'll pass it back over to you just for some key messages and anything you wanted to address that maybe we didn't kind of talk about.

Thank you. I know we covered quite a lot in there. I mean I think the main story that we've been sharing with investors is Definity was 5% share. Pro forma Travelers were 7% share. There's a lot we can still do in Canada. We are a growth story. We're pretty comfortable that we can grow at around twice the organic growth rate of the industry. We think that adds the most value. We now know without the drag of Sonnet investment with our operational leverage and expenses, we're moving -- we were around mid-90s, then we were sub-95. Now we're moving to low 90s. All of that, I think, is really helping build our earnings. I think that even your point about if the market gets a bit more difficult, we are nowhere near the peak of our earnings, and we're nowhere near the peak of our operating ROE. We're still an ROE expansion story. And part of that just mathematically comes with Travelers and the other part is those 3 levers that we pull. So when we speak to our Board, the story is, organically, we keep growing faster than the market. We drive that operating ROE to the mid-teens. And I think the next piece of it is that we've got the infrastructure, which we consciously built. You asked about that earlier, to be a legit and credible acquirer. And I think that's more to come.

Perfect. Well, I appreciate you participating in our conference, and thanks for the great discussion, and have a great rest of the day.

Thank you very much. Much appreciate it. Thank you all.