Direct Line Insurance Group plc (DLG) Earnings Call Transcript & Summary

Welcome to the DLG Q1 Trading Update Call. My name is Ruby, and I will be your moderator for today's call. [Operator Instructions] I will now hand over to our host, Penny James, CEO of DLG, to begin.

Good morning, everyone, and welcome to our first quarter update. Now it's only been 7 weeks since we presented the full year results, but Neil and I thought that we'd take the opportunity to update you on our trading strategy and a bit of operational progress through what's been a pretty busy first quarter. Before we jump to questions, though, let me just pull out a few of the key messages from the release. Firstly, overall premium reduced 2.4% in Q1, which is broadly in line with our expectations as we outlined at year-end. In Motor, firstly, whilst the market saw pricing inflation in January as we implemented the FCA pricing practices review, we believe the market pricing hasn't yet fully covered claims inflation from the last 18 months. And against this backdrop, we've remained disciplined and held back in the quarter by deferring marketing spend until later in the year when we can see the benefit. It remains early, but in April, we have seen some price increases in the market. In Home, where the FCA pricing practices has had a more material impact. We've seen market movements within our expected range of outcomes. Our priority has been to focus on value whilst the market adjusts. And so we've lost some new business volume in Q1 against a strong comparator of Q1 last year. And as we've moved through Q1 and into Q2, our actions to increasingly optimize across brands and to reenergize marketing, again, should enable us to improve competitiveness as the year progresses. In commercial, in Q1, we've maintained the double-digit growth we saw in 2021 and have also had a strong April, one of our biggest months. Secondly, we reported at full year our plans for 2022, where exciting new capabilities will come on stream. And looking back from Q1, I'm really pleased with the progress that we've made. We're delivering a step change in our Motor pricing capability and this has seen the development of machine learning models that are more advanced than anything that we have used before. We've got plenty more to come throughout the year and as new models are deployed, and this builds on our market-leading claims capability, improving expense base and fantastic brands. We're really excited of what the team is starting to achieve and the benefits to the business these capabilities will bring. Finally, our disciplined approach alongside significant pricing capability coming online throughout the rest of the year means we're able to reiterate our combined operating ratio target of 93% to 95% in 2022. So overall, a significant market adjustment in Q1 means we believe the trading performance isn't entirely representative of where we are in our transformation. There is real energy and ambition in the business as we continue to roll out this year's plans. And with those remarks, let me just hand over to Ruby and open up the lines for questions.

[Operator Instructions] Our first question is from Thomas Bateman of Berenberg.

I was just hoping you could give us a little bit more details on the pricing movements in April that you've seen that you think are positive. And just on your reiterating the combined ratio guidance of 93% to 95%. Can you give any more sort of details about where you are in the range? I think you implied that Home would be kind of in the low 90s. Is that correct? And finally, you talked about new products. And when should we expect them to come to the market? And what kind of margin do you expect to write those at?

Okay. Lots in there, I think. What I'll do is I'll come to Neil in a second on outlook type of stuff and probably step back slightly on pricing so we got the full picture and then touch on it, if that's okay. What do I think overall is happening in the market and then I'll come to April. Firstly, in Motor, what are the components of the numbers? One, and probably the biggest component of the 5% movement is actually GWP reduction. It is actually simply the flow through the 2021 kind of reductions in pricing that reflects the long-term structural frequency shift. So I think that element is natural. I think we've adjusted and we've seen the whole market adjusts for pricing practices in January and put through a mid-single-digit rate increase there. So that's kind of what you'd expect. I think in terms of market pricing more fully, we still haven't seen pricing go through reflecting kind of the last 18 months or so of claims inflation. So what we saw in April was a few points going in from some key players. So a not insignificant movements in April from some parts of the market, but it's 1 data point. So it's far too early to call out a sustained movement. And I think finally, what we've seen in Q1 is we've seen some claims inflation increases. I think we called out at year-end 6.5%. We've seen a little more claims inflation come through and a little better frequency. That's kind of the shape, April, good data point, but only one data point is what I say. I think in terms of sort of touch on outlook, Neil?

Yes, good morning, Tom. So on core guidance, I mean, not a lot to say versus 7 weeks ago, to be honest. So no material shifts. The kind of outlook for home still low 90s core exactly as you said.

And then I think the final question was around what products and options and so on are available to us. I think we've got kind of lots in the hop around marketing, which is what I've really flagged. We'll have product development as we move through the year, as you say, using the variety of brands and so on. But I guess the key point is your last point around margins, where we always look to write at the right margins, which is why we're able to reiterate the core, and we will use creativity on product brand and pockets of pricing where we can get the right margins away in this environment to do that. But we will also keep back our marketing to fix the then that we need to, if we don't think we can get it away at the right margins.

Okay. Maybe just one very quick follow-up just on Motor. You're saying it's down 5%. Do you think this is a little bit more direct line specific given kind of new business price increases probably up year-on-year in the quarter -- Q1 year-on-year? Maybe some other players are more -- have seen positive increases in premiums? Is that buried in that --

Well, in the market -- the ABI market data is not out yet. I think it's due later in this week if I -- but certainly soon. But if I look back at last year, most of this rate is about last year flowing through. And if I look at last year, most of the market moved -- as we've said before, we moved shallower, if you like, in those reductions than the market did. So it's not clear to me that the market would necessarily as a result of that be significantly different.

[Operator Instructions] Our next question is from Greig Paterson of KBW.

Just in terms of -- and I'm just thinking about the second quarter expectations. You guys adjusted for the movement in expected long-term frequency at the end of the first quarter last year. And you're now sort of pointing to year-on-year severity of sort of 8.5%, 9.5% currently. Given that in the second quarter last year and the second quarter this year, you're both pricing on this adjusted long-term frequency number. Does that mean all other things equal, you expect year-on-year rate increases of 8.5% to 9.5% in the second quarter? I don't know if you understand it's a bit of a convoluted question, but the bottom line is, in the second quarter, your frequently expectation was the same as the second quarter last year. This is the way I read it. So therefore, you'll be putting through high price increases. And I just want to confirm that my understanding is correct. The second question -- second part of the first question, given I'm not allowed 2 is you speak about frequency being below long-term expectations in the first quarter of this year. You also spoke about it last -- in the second half of last year being below long term. I was just trying to understand how the frequency in the first quarter and the actual frequency experienced in the first quarter compares to the second half of last year? And then finally, in terms of advertising spend, which is an important lever, about 2 weeks ago, you turned on the lever in Motor. I was wondering if there's been a corresponding sharp uptick in new business market share as a function of that?

Right. Let me start, Greig, I'll try and do those in reverse order. And if I forget this fit, I apologize and you can come back. So on advertising. So it's kind of 2 forms advertising. We're always in the market on kind of performance marketing, so pay-per-click, looking at optimizing how we get customers through the top of the funnel. So we're constantly in the market doing that. And where we're talking about putting back is more on the kind of brand marketing. And so you were seeing we've launched some exciting -- we think they are exciting campaigns in April around Optimus Prime, and we've got some more stuff coming through the year. That doesn't have an immediate impact on volumes. There's much more ground health so you see that benefit over a longer time period. But we're always in the market doing the performance marketing, which is a much more direct impact on quite through the door. On frequency, you're right, frequency in Q1 was below where we think ultimately frequency will end up. And you're right, it was also a bit lower in the second half of last year. So I think we are working through to a more normal frequency pattern. And don't forget we have -- my problem at the back end of last year, flowed a bit into this quarter as well. So there's still a lot -- still quite a lot of noise in the numbers, but we're definitely getting back towards where we would expect long-term frequency or medium-term frequency to be. In terms of the last -- sorry, the first question, I'm not going to predict what I think premium numbers are going to get due in the second quarter because I certainly shouldn't do that anyway. I think the flow-through -- Penny mentioned, a lot of the Q1 dynamics is more about what happened last year is this year and the flow-through of the kind of frequency-related price reductions. That continues through the year. So I don't think it just stopped in Q1. It's a continuation. It's a continued factor. And obviously, there's other things going on. I mean I think that is still whiplash forms, frequency, ready to go things. There's a lot of moving parts going on. So I'm not going to give you an exact number, but I think the dynamics as we go through the year improve from a kind of year-on-year or Q1 previous year's quarter perspective. However, we are still operating in the market. And if the market isn't pricing claims inflation, we will be disciplined in how we approach that market.

Is my understanding correct that during pandemic you didn't price for low frequency, but at the end of the first quarter last year, you made a distinct change for your expectation of lower long-term ongoing frequency and therefore, that your base effect falls away in the second quarter of this year?

Broadly, but I'd say we started to price for it. So it's not necessarily a switch across the whole book. So it will come in over time.

And when did you finish that process of adjusting to the new norm in terms of your pricing?

Across the year, Greg. I can't give you a precise date. It was worked through our industry --

It's like a smooth impact across the year. No, that's great. All right.

Our next question is from Freya Kong of Bank of America.

So you guys talked a bit about Motor pricing not really catching up with claims inflation. But could you give us some color about the Home dynamics, and any early indicators in April as well? And secondly, given the tough market conditions that you're seeing, would it be fair to say that your growth plans could be delayed or hampered by these headwinds?

Thanks, Freya. Yes, a couple of minutes on Home then. I think the dynamics are similar, but the balance is slightly different. So the PPR, pricing practices affects more significant in Home relative to Motor, if you like. And I think the first kind of important point there is that the market made a pretty sensible move, we think, in January in terms of moving new business rates. And that was certainly within our range of outcomes. So -- and that's, I think, the most important kind of point on the Home coming in. What do we do? Well, we differentiate it using kind of the brand portfolio. And as we said at full year, we're focused in Q1 on protecting value really. So we didn't fight aggressively to business coming in rather than we wanted to see how customers were reacting and how competitors were reacting in that market and then would move into what we felt was the right competitive price point as we move forward. So what you can see is kind of a reset point certainly for Home, but also we'd expect to grow from there as we improve competitiveness through Q1 and into Q2 due to both optimizing the pricing and the brands and reenergizing the marketing as well. So I think that's the shape. In terms of claims inflation and sort of the other effect, if you like, I think it's -- as we flagged at Q1 -- sorry, as we flagged at the full year results, the market put through a 5 point give or take price reduction just before it came into pricing practices. So whilst it's made the adjustment for pricing practices, I'm not sure it's caught that up. And what we're seeing now is kind of, I guess, an elevated claims inflation but not -- which isn't fully priced, especially in the PCW channel. So we're starting to see that pick up. And as we look ahead, even though we can't see, we seem to cover a minor renovation, if you like, at the moment, not nowhere near as significant as we're seeing on Motor. But if we look at what is happening in supply chains and elsewhere labor market, China, Ukraine and the effects on the supply chains, we'd expect to see that elevation continue to increase in home. And that obviously has moved since -- in terms of outlook since the full year results. So -- and what we're saying is we'll keep a disciplined approach, which is why we're reiterating the 90s core guidance or low 90s core guidance on the Home book. In terms of growth, look, we'll keep looking for the pockets where the margins are right. That's what we do. We focus on the places that we can get growth away at the right margins. The timing and the impact on top line will be determined effectively by how much availability that there is in the market. And we will be well positioned, as I said, on a number of accounts as and if the market starts to put price through that we think reflects claims inflation more broadly. And that is something that, historically, the market has always done.

Yes. Just to follow-up on that. Are you surprised by how slow the market response has been in Home and Motor to price for claims inflation? I mean most players do seem quite rational and sensible.

Look, I think in Home, things -- and we're looking ahead when we look at claims inflation. So I think the market has been through quite a considerable adjustments in this quarter. So I'm not sure I'm surprised or not by anything. If I stand back overall, given the scale of pricing practices of the reset and of course largely the market has done what we expect it to do. I think it's what it does, forward-looking the matters, if you like, from here in what is quite a different set of macroeconomics than what it was 2 months ago. So that's on Home. On Motor, there are many, many -- we've already laid out. There are many moving parts, Freya. So -- and people took very different paths through last year in terms of the amount of rate they took out for frequency and so on the way through. So I think the truth is that we are seeing claims inflation continuing to elevate at the moment. What are the players to do with that? I can't express.

Our next question is from Sachin Lakhani of HSBC.

I'm sorry if I missed this, but I do not quite know what happened to renewal pricing in either Motor or Home this quarter. If you could provide some color around how that's different between the 2? And I guess in relation to that, I'm a little bit surprised by the fact that new business prices sort of popped in January a little bit, but flattened in February and March. What's driving that? Is there a case that there was a big sort of distortion in January and now February and March are more what the market thinks they need to price in? And I guess just a bit more broader base as well, given the pricing, given the sort of inflation outlook, how do you expect sort of underlying margin or the attritional loss ratio to develop in Motor in 2022? And final question, just coming back to the question of Greg for claims frequency, if I look at it, January was probably where we had a bit of a lockdown, driving us little bit below. We're still thinking work from home. But at the same time, I don't feel case frequency from the sense I get is more than sort of sub-5% below sort of pre-COVID level. If you could just sort of help me understand what's really going on there?

I think we're dividing about 6 questions between us. So why don't I kick off and then you can -- I think let me do the shape a little bit in the first quarter, come back on that one, and I suspect Neil may come back on sort of renewal pricing and premiums and that sort of thing. But overall, look, I think -- I can't tell you what within people's minds in other businesses at the point they put pricing through. My observation would be at the point the pricing practices went live, the market made a step change adjustments which was consistent with what we had modeled that the market might do on Motor, but actually in both of them within the range of what we expected. So my deduction from that is the market has adjusted for pricing practices. You can't see what people have done on renewal pricing. Obviously, at the moment, you'll get a bit of picture as on when sort of ABI data comes out and so on and so forth, because that's less visible that you're operating in the market on any one day. But you have seen shopping kind of reduced or actually people switching reduce, which probably indicates that renewal prices have responded. So I think that's kind of overall, I think why people are or aren't moving in February and March, I can't speak on. All I can give you is the effects that we are seeing in the way we're responding to them, which is what we've said. Neil, anything you want to add? Yes, I'll just try and help you a bit out on the kind of the underlying movement. So at the headline, you can see the 5% reduction in written premium -- sorry, this is for Motor. And if you kind of break that down -- about 3 points of that 5-point reduction is average premium driven. And within that, the vast majority of that 3% is exactly the flow-through of the pricing in Q1 versus Q1 that we talked about before. And actually, the impact from writing practices within that is pretty neutral. Now I'm not going to break down the renewal price impact versus the new business price impact, but you can take it as actually those 2 neutralize each other within -- roughly within that construct. If I can do the same and -- let me finish the Motor first, actually I'll come on to your margin question. So when we talk about margins, we're looking to price for loss ratio. And we exited last year at a pricing loss ratio that supported the current year loss ratio for Motor around 79%, which we booked in the second half of last year. And that is still -- that is still kind of -- we're still pricing to the loss ratios that support that dynamic. I think it's the best way I can answer that one. Obviously, I can't talk other than the market how they're pricing versus claims inflation. If I just -- I think you asked about Home renewal pricing as well, so let me just try and finish off there. So on Home, if I look at the same construct as the Motor answer was given you, so for own brands, home premium was down about 8% Q1 on Q1. Now within that, actually, average premium was up 4%. So in Home, there's a much bigger impact on new business volumes, and that's because of the trading strategy we deploy in Home and we've talked at length about how pricing factors a bigger impact on the Home book than the Motor book. So average premium Home is up 4%. And again, I'm not going to split out between new and renewal, but you can have -- hopefully give you some color.

Our next question is from Rhea Shah of Deutsche Bank.

Just 2 questions for me. So the first is on the Home retention. You talked about retention increasing in the quarter. I just wanted to see if you could give any color on the numbers, but also, could it be one-off if you're now thinking of pricing more aggressively from the second quarter onwards? And then the second question is just around when -- what do you need to really occur to start to market those top brands again? I get that you started the Superhero campaign, but you're talking about marketing over the rest of the year. Could we end up having to wait until the fourth quarter for marketing? Or could it happen earlier?

So let me pick up the second one first. So the marketing shape, look, the brand's path is not locked in stone, but is largely set for the year. So that shape is ramping, as you can see, Optimus Prime appearing in large scale on your screens, and there are some follow-ons. And yes, some further characters to join those, and as campaigns in Churchill set out for later in the year, campaigns on Rescue that's relevant to the Motor question. So those part offsets we can dial up or down, but broadly they are set to navigate from Q2 onwards. So I think that path is clear. There is some flex. As Neil said, we're always in the market doing the spend sort of draw to the funnel. And we dial that up or down depending on what we think the efficiency of that is at any point in time. And the efficiency of that spend is a kind of factor of who else is driving hard in the market, be that PCWs, competitors, completely elsewhere and a factor of the margins in the business that you're writing, and we dial up and down that efficiency accordingly as any sophisticated, I think, marketing player would do. And so to that extent, that is a sort of a more moderated, if you like, flexible lever as well. But I don't think it's a matter of waiting for Q4. It's a matter of dialing that up at the relevant time. In terms of -- I think you asked a question on pricing. We will put through the price that we think is appropriate to hold the margins that we need to across the book. So I think retention -- I suspect retention is a feature of the market more broadly because it's about how many people are -- people's activity on price comparison sites.

Our next question is from Kamran Hossain of JPMorgan.

The main question I had is really on -- I mean I guess a lot of the discussion so has been about market pricing and why things haven't reacted. I mean, if you were going to kind of think about the drivers on what could change market and kind of what the influence kind of pricing going forward. What factors do you think will need to be kind of apparent for the market pricing to really move up to levels that you think are acceptable? And how long do you think -- I mean, maybe not how long do you think this will take, but what are the factors that need to be, kind of worse results for the industry? Or do you think actually other parts of the market are simply looking at kind of potentially like a lower-profit paradigm where things with structurally lower returns because retention is high. Is there any kind of big bit of thoughts on that within the confines of what you can and can't say would be really helpful.

I think it's a really interesting question, KCam. I think I've probably said before, that if I look historically over the last 10 years whatever, the market adjusts to reflect claims inflation and basically prices claims inflation. But it does so -- the glorious thing about insurance if you don't know, the cost of sales flow out till you sold it. So not everybody does it at the same time. And that's what if you track the graph back, it would tell you. And when you see a one-off certain move, Ogden rate changes, pricing practices, you actually again see a step change happen in the market. So I'm somewhat -- I can't climb inside other people's minds, but I'm somewhat skeptical that what we have is some structural change that says the underlying margins that the market is driving for has fundamentally changed because I just don't think that -- I don't think that the evidence point of January would support that the evidence point of Ogden and frankly the historic evidence points. So I'm not sure that that's the case, [ other than that, that's my view. ] I think much more likely but there are so many moving parts -- it's been a very unusual couple of years in terms of the kind of volatility of different factors: frequency, now severity because of macroeconomics overlaid with regulatory changes that sort of change the whole pricing dynamics of the market. And it's quite unusual to get quite as many kind of volatile features operating in a marketplace of that or -- and so I still believe, as I said at year-end, that the -- as everything evens out and frequency normalizes, which is probably approaching doing, and it is significantly below historic levels. So I think it's natural that rates don't come back up to the rates they were before the market because frequency is, I think we all believe, structurally dropped now that actually, as those things level out, people will reassess what's in their models. I think the unusual factor at the moment is clearly severity is bouncing -- is moving faster, if you like, than it usually does. And I think that's true across all consumer segments. So that's not anything special about the insurance industry. And so how people respond to that will be interesting to watch. But I don't really believe there is some mass structural shift in terms of people's appetite to make margins. I think it's much more about what's moving in the marketplace at the moment.