Medibank Private Limited (MPL) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Medibank Private Limited FY '23 Results Investor and Analyst Briefing. [Operator Instructions] I would now like to hand the conference over to David Koczkar, CEO. Please go ahead.

All right, good morning, everyone. Welcome to the Medibank 2023 full year financial results presentation. I'd like to begin by acknowledging the traditional owners and custodians of country throughout Australia; and recognize their connections to land, sea and community. Joining you today from Naarm, the home of the Wurundjeri Woi Wurrung peoples, I'd like to pay my respects to the elders past, present and emerging; and extend my respects to all elders on the lands on which we work and live. Today, I'm joined in the room by Mark Rogers and the executive leadership team. We're pleased to share with you the performance of Medibank over the full year. Today, we've delivered a solid result. Momentum has returned to our PHI business, including a standout performance in the nonresident segment, by focusing on our customers and managing the business well. We've worked really hard to regain the trust of our customers, and while there is more to do, pleasingly, we are growing again. The strength of our Health Insurance business, strong underlying profit growth of Medibank Health and our ongoing strong capital position support our future growth. Despite cost-of-living pressures, our customers continue to prioritize their health and well-being. And while the industry remains resilient, there is no room for complacency. We continue to change the nature of our relationship with our customers across both our brands, with more of our customers turning to us for additional services and products we offer as a health company, not just as an insurer. In fact, almost 30% of our Medibank customers engaged with one of our health offerings this year. This provides our customers with more value while at the same time working to change the way health care is delivered in this country. Our dual brand strategy, our products and services and our innovation in health set us apart from others; and it gives us the confidence to continue to grow. We remain a strong and resilient business. And the investments we've made over several years mean we are well positioned to continue to respond to the current environment. Today, I'll walk you through the key highlights of the results. And then Mark, as normal, will cover our financial performance, in particular including an update on claims, investment income and costs associated with the cyber crime event including the recent additional capital adequacy requirement of $250 million. I'll then provide an update on our outlook, and then very happy to take your questions. So let's start on Slide 5 and some customer highlights. Delivering for our customers has been and continues to be our focus. Providing value is absolutely crucial, particularly as households manage cost-of-living pressures. In June, we delivered our lowest average premium increase in 22 years. At 2.96%, this is well below headline inflation. And this comes off the back of an additional $469 million in COVID givebacks to customers in FY '23, bringing our total financial support to a record $1.15 billion, but we know value starts with being on the right cover. And this year, we checked in with more than 0.5 million of our customers to provide that support. We also know that value is more than just premiums. It's also value for money and choice for customers while using their cover. We've continued to focus on helping reduce out-of-pocket costs, including through our Members' Choice Advantage dental and optical networks which saved customers more than $25 million in FY '23. Meanwhile, customers having [ minimal ] hip replacements saved an average of $1,600 through our no gap network. We've made a bold commitment as a company to create the best health and well-being for Australia, so we are pleased with our ongoing progress to support the health of our customers beyond health insurance. In FY '23, we continued to build on key initiatives in prevention, navigation and support. Almost 700,000 of our customers engaged with our Live Better program during the year, up 34% from the previous year. The number of virtual health interactions with our customers also continued to grow, as did our home care services. More customers are choosing rehab at home following a joint replacement. We've increased from around 24% to about 30% of our customers in FY '23. And finally, we continue to expand our role within the broader health sector, working with a range of partners across integrated and primary care to encourage system change to better meet the growing needs of the community. This includes our iMH joint venture with Aurora Healthcare to extend metal health care beyond just the hospital walls. The first 3 initial iMH hospitals opened in Canberra in March, and we're also on track to open the second hospital in Sydney in the coming months. We also continue to support primary care through our investment in Myhealth, which now has 108 clinics in our network; and lastly, My Home Hospital, which delivers hospital-level care in the home to public patients, which freed up more than 19,000 bed days in the public system in FY '23. We deliver this service, as we've mentioned before, for the South Australian government through our joint venture with Calvary. Now Slide 6 and some headline numbers, which Mark will talk to in more detail shortly. Momentum has returned following the cyber crime event last year, with resident policyholder growth back on track. We've also now surpassed 4 million health insurance customers for the first time in our 47-year history. In our resident business, growth came from families, younger people and those taking our cover for the first time, with policyholders up by almost 11,000. This 0.6% increase is within our expected range that we shared at the half year result in February. In particular, ahm performed strongly with 3.4% growth for FY '23, while the Medibank brand remained resilient, growing in Q4. So far this year, we are on track to meet the target range in our FY '24 outlook, which I'll talk to in a minute. We are focused on growing resident market share, although we will continue to be disciplined in what remains a highly competitive market. In the nonresident business, we are pleased with the almost 40% growth in policy units to 275,000, which now provides coverage to around [ 290,000 ] customers in the nonresident segment. This is our highest growth in this market in 7 years. Growth in these 2 segments drove a 9.8% increase in Health Insurance operating profit to $650.4 million, reflecting the resilience of this business. In Medibank Health, segment operating profit for our continuing businesses was up 4.2% to $44.2 million, led by our performance in health and well-being and a rebound in travel insurance. Our underlying management expense ratio was up slightly from 7.4% to 7.5%. While still among the lowest in the market, the movement reflects higher costs associated with the significant growth in our nonresident business, which was largely offset by productivity savings. This excludes one-off cyber crime costs which were largely targeted to our incident response and customer support package last year. At a group level, NPAT was up 29.8% to $511.1 million, including net investment income of almost $139 million. In line with our strong capital position, we are delivering shareholders a fully franked final ordinary dividend of $0.083 per share. This brings our full year dividend to $0.146 per share, which is an increase of 9%, reflecting a payout ratio of underlying net profit after-tax of 80.5%. Now on to Slide 7. Our strategy to grow as a health company is the right one. Our people remain engaged about who we are, what we stand for and where we're headed. We are evolving as the needs of our customers evolve. And by remaining focused on delivering better value, choice and control in health, our key customer efficacy measures are back at pre-cyber levels. We are also focusing on supporting health and well-being in the community. We now have 3 Live Better vans that travel to remote and regional locations, offering health checks and taking part in local community events. And our support of parkrun has put the Australian arm on track to be the second country worldwide to reach the milestone of 1 million participants. Our -- with our 2 consumer brands having distinct customer offerings, our dual brand strategy enables us to offer products and services across the full breadth of the health needs of the market. For ahm, that means keeping things simple, while for Medibank it's about supporting health and well-being to help our customers realize their full potential. With this in mind, our newly launched silver products range for Medibank has exceeded initial expectations. With a focus on prevention and savings, this range is resonating with people aged between 40 and 60, resulting in a positive lift in family joints. It is now our second highest selling cover. Another example is thinking differently about how we best support regional communities. We are trialing [ geo hubs ] in Geelong and South Australia, where our local teams support customers in their community regardless of whether in store, on the phone or through our digital channels. In Brisbane and the Gold Coast, our Amplar Health team is also trialing a similar localized approach to supporting their patients. As we expand in health -- some of the ways we are supporting our customers and the wider community. 3 months ago, the Calvary-Medibank joint venture's virtual hospital was accredited as one of the first stand-alone virtual hospital to deliver hospital-level care. Our virtual hospital [ doing this is ] My Home Hospital in behalf of the South Australian health, as I mentioned before. As our Medibank at Home program for customers has grown, so do the benefits to the broader health system. In FY '23, this program alone saved 115,000 hospital bed days. Alongside supporting a growing number of Medibank customers, with 90,000 supported last year, Amplar Health continues to work alongside governments and others to deliver triage, primary care and preventative health programs in the community. This includes its work in Northern New South Wales, giving residents a round-the-clock access to registered nurses to take the pressure off local GPs and hospitals. Now to Slide 8. As I said earlier, despite tougher economic conditions, we are confident that the industry remains resilient. People continue to choose private health insurance in record numbers. Younger people are coming to private health insurance because they want more choice. They're seeing more value. And they are concerned about public hospital waiting lists, reportedly up to 6 to 8 years long in some states for initial public specialist outpatient appointments. We have more than 0.5 million public patients who are either waiting for surgery or waiting for an outpatient appointment. Also importantly, our 2 distinct brands and our strategy to expand in health mean we remain well positioned to respond to the current economic environment. The Australian economy is backed by solid fundamentals, low unemployment, low underemployment and wage growth. This is reinforced by the health insurance industry's 12th consecutive quarter of growth. The industry also saw the highest growth in customers with hospital cover under 30 in over a decade. However, it is a challenging environment for many households and people are responding in different ways. And while consumers are paring back their spending in a number of areas such as petrol, household goods and apparel, health is not one of those. Household spending on health is growing as people continue to make their health and well-being a priority. And against the backdrop of a strained public system, this investment is still being viewed as nondiscretionary. In fact, we saw interim figures from the latest Ipsos report show more Australians see private health insurance as essential. Among our own customers, the rate of downgrading has been subdued. And they are continuing to use their cover more this year than in recent years. Meanwhile, the significant recovery in net migration supports our nonresident business as more students, workers and visitors come to Australia. Despite these supporting factors, the rising cost of living calls for us to continue to work hard to ensure we are providing value for customers. We've responded to this by keeping our average premium increase well below CPI, continuing to return additional COVID permanent net claim savings to customers and building in choice and value in our products and services. We've also continued to -- our record of adopting voluntary government reforms that encourage young people to take up and hold private health cover. In 2019, it was introducing youth discounts. And this year, it's been implementing the adult dependent reforms which enable people to remain covered within their parent's policy until they turn 31. As is shown on the slide, this helped to drive a 6% increase in hospital lives amongst those aged 25 and 29 years across the industry, the largest growth of any age group. It's great for young people who continue to be covered and it's also good for long-term participation in the industry. The PHI industry's resilience is one thing, but there are persistent challenges continuing to face health care more generally in Australia which I'll talk to on the next slide, Slide 9. The challenges in health care are well known. And spending continues to grow, driven by the increased burden of chronic conditions and the aging population. Despite this, Australia's mixed public and private health system is consistently rated highly around the world. And Australia is considered a leader when it comes to health outcomes, but how do we sustain this and improve system productivity? It requires us to challenge the status quo by continuing to think differently and trying new things. Our strategy is shaped by the 4 megatrends in health that I've spoken to you about before. And it's pleasing to see our innovation is being adopted by customers and resonating across the industry. For example, we're shifting our focus from treatment of illness to prevention, which is why we created Live Better and which has seen participation more than doubled over the past 2 years. It's also driving growth in our 9 preventative health programs, which enrolled more than 16,000 customers this year, a 64% increase compared to last year. These programs helped save the equivalent of around 55,000 bed days. The newest program, a trial in partnership with The University of Melbourne, is looking at how lifestyle support can reduce the need for hip replacements and pain management for customers with hip osteoarthritis. Another way is by investing in new patient-centric models of care. In psychiatric care, our data shows readmission rates of more than 40% within 12 months of hospitalization. This is just simply not acceptable, so our investment in iMH is introducing a new metal health model which provides integrated support for patients both in and outside hospital. Unlike the current hospital-centric funding model, we see an opportunity to support patients, when they leave hospital, through additional services, including telehealth, in-home care and community support all provided under the supervision of their treating psychiatrists and a multi-disciplinary team. We also recognize opportunities to improve access to mental health support outside the more acute settings. And that's the basis for the ongoing investment we have in our Better Minds app and our 24/7 mental health support line for customers, 2 offerings that have helped drive the fourfold increase in virtual health interactions we've had with our customers over the past 4 years. And while Australia still trails behind many countries in the uptake of short-stay surgeries, the number of our customers undergoing no-gap surgery for joint replacements, endoscopies and general surgery is now 10x what it was 2 years ago. And to meet this increasing demand, our no gap network across all modalities now stands at 34 hospitals. Many of our hospital agreements are incorporating new ways to support patients. The past few years have been challenging for hospitals and health care workers. And we are increasingly forming more innovative partnerships with providers to address these challenges and support the longer-term sustainability of the system. By providing more choice, a greater uptake of new care models will reduce the burden on a health care system already under pressure, freeing up capacity and allowing future investment in more fit-for-purpose and less-expensive settings. Now we'll go to Slide 10. Continuing to evolve our relationship with our customers by providing more choice and value is driving our strategy to innovate and grow in health. As we've said previously, we already have strong foundations in 4 large and growing health markets. Our ambitions in health are well understood: to continue to grow and provide greater value and choice for our customers as a health company. When it comes to prevention, our ambition is to continue to grow by helping our customers to take active steps to support their health and well-being. For primary and virtual care, our ambition is to grow our multi-channel, multi-disciplinary offering across the community through increased adoption of virtual health and with a particular focus on supporting customers with chronic conditions. Through community care and short stay, we are looking to expand and support a national network of short-stay hospitals; and accelerate the take-up of new models of care, including services delivered at home. However, what really sets us apart is how we're bringing all these capabilities together, providing a very different combination of these leading solutions for our customers. This puts us in an unparalleled position to help our customers be -- both be better and get better. And as I've said before, this will also enable us to grow as a business across health. We remain clear on our priorities for growth and we'll continue to pursue opportunities to support our customers through partnerships and by direct investment. As an example: This is the approach we've been taking to build our customer no gap network now working in partnership with 34 hospitals while currently investing in 2 new short-stay surgical hospitals to build further capacity in the system. And while the approach we take may be different, what's driving our strategy is not. It's about what will benefit our customers. What would drive value back to the business? And where we can make the biggest positive impact on the health system itself. Now to Slide 11. What's helping connect this for our customers has been our focus on expanding our digital solutions. Our spend on digital is nearly 5x the size of what we spent 5 years ago. A few years back, this investment was focused on making it easier for customers to purchase and manage their policy. This has been a good investment for us and our customers, with 85% of Medibank customers now engaging with us through digital channels and 82% of ahm customers using the ahm app. More recently, it has been focused to help connect our customers to our health offerings and to meet increasing expectations when it comes to choice and convenience in health. In our resident business, the number of virtual health interactions we provided to Medibank customers was up 30% to 226,000. For our nonresident and corporate customers, the number of virtual consults was up 163%. And having access to this virtual support is consistently reflected in higher customer Net Promoter Score results. Our growing investment has always supported the public system, seeing us build a digital health solution for residents across 48 postcodes in the north coast region of New South Wales. And it's also seen us build a virtual psychology clinic, which we deliver with the support of Myhealth GP clinics using the Medinet platform that we've already invested in. We continue to see huge possibilities for technology to better support health care in Australia. We have seen for ourselves how investing in our digital health capability has enabled our Amplar Health team to deliver more than 1.6 million virtual health interactions in FY '23. And in particular, there's a real opportunity in primary care to better support patients with chronic conditions both through prevention and proactive management. This will deliver benefits to both patients and practitioners and help reduce pressure in the health system. Our Amplar Health team is currently working alongside Myhealth GPs to pilot a new GP-led care model in line with recent government reforms. In the year ahead, we will continue to build out and connect new digital health services to make it easier for our customers to manage their health from prevention to navigation, to treatment. And we will continue to play a role at the center of the health ecosystem, bringing together and supporting stakeholders and collaborators to make it easy for Australians to manage their health. It makes good business sense too given the benefits it will bring to our own customers and support and connect the growing footprint of Amplar Health. So I'll now hand over to Mark.

Thanks, David. And good morning. The results reflect how resilient our Health Insurance business is, our strong underlying profit growth in Medibank Health and continued capital generation. Health Insurance performance includes continued policyholder growth and modestly positive jaws in the resident business and very strong policyholder growth and margin recovery in nonresident. Group operating profit was up 9% to $647.5 million. And with a significant increase in investment income, profit before tax increased 29.8% to $727.1 million. We've incurred $46.4 million of nonrecurring costs associated with the cyber crime; and expect a further $30 million to $35 million of IT security uplift, legal and other costs in FY '24. And reported EPS was up 29.8% to $0.186 per share. And underlying EPS, which adjusts for the normalization of investment returns, was up 14.8% to $0.181 per share. Moving to Slide 14. Across the 6 months to May, claims paid were $138 million or 5% below our expectation of underlying claims growth per policy unit of 2.4%. Whilst hospital claims paid were 5% below expectations, they've increased since March and were only modestly lower than expected in May. The recovery in nonsurgical claims continues to lag surgical claims. Particularly in rehab and given the persistence of this trend and changing customer preference, we believe this is now, at least in part, a permanent change which will favorably impact claims in the future. Reform continues to favorably impact prosthesis claims. And whilst public hospital claims growth has increased in line with improved bed availability, it remains below private hospital claims growth. Extras claims paid were 4% below expectations. And although dental claims have increased during 2H '23, trends are variable, particularly in more discretionary modalities. And we continue to monitor mental health and respiratory claims and the proportion of surgical procedures happening on a same-day or short-stay basis for signs if the current trends are becoming permanent. On Slide 15 comes the Health Insurance result, which shows reported revenue and gross profit grew by 4.2% and 6.3% -- or 8.3%, respectively, with the risk equalization payment in line with last year. Permanent claims savings were returned to customers through $451.7 million of giveback initiatives resulting in COVID having a modest $300,000 negative impact on operating profits. Underlying gross profit increased 8.3% to $1,223 million with underlying revenue growth of 5.1% and a 50 basis point improvement in underlying gross margin to 16.1%, including our nonresident gross margin having recovered to pre-COVID levels. And whilst the underlying management expense ratio increased 10 basis points to 7.5%, underlying operating margin was up 40 basis points to 8.6%, and underlying operating profit up 9.7% to $650.7 million. The new insurance accounting standard AASB 17 will apply from 1 July and is expected to have an immaterial impact on underlying Health Insurance operating profit. In transition, the 30 June deferred claims balance of $253.8 million will, net of tax, be transferred to an equity reserve; and used to offset future customer givebacks, recovery of deferred hospital procedures and other temporary claims impacts. Now turning to Slide 16. Over the last 12 months, the resident health insurance market remained buoyant, with policyholder growth of 1.9% only modestly below FY '22. This is despite the implementations of the adult dependent reform which has increased the number of 25- to 30-year-olds staying on family policies, which impacts the number of singles policies. Over the 12-month period, our policyholders increased by almost 11,000 or 0.6% with growth coming in the seasonally stronger fourth quarter and with a modest 0.4% decline in the Medibank brand and 3.4% growth in ahm. With the resumption of more normal business operations during the third quarter, retention rates have progressively improved despite increasing our premiums, whereas many competitors deferred their increases till early 2024. Acquisition also improved with the resumption of marketing activity and increased ahm aggregator sales. However, we continue [ to buy ourselves ] more profitable direct channels, which accounted for 55% of ahm sales this year. Aided by early benefits from adult dependent reform, growth in hospital lives was 0.9%, which is 30 basis points above policyholder growth and skewed to younger customers. We expect this reform will deliver further benefit to the industry over the next 5 years and that we will disproportionately benefit given our strong position in family policies. This should result in the percentage of insured lives that are under 30 years of age increasing. And as these customers are typically lower claiming, we expect this will positively impact the quality of the insurance pool. In FY '24, we will look to grow market share through further capitalizing on our dual brand strategy, increasing our focus on the growing corporate market and investing further where this makes commercial sense. Turning to Slide 17. Underlying resident growth claims (sic) [ claims growth ], which exclude COVID impacts, increased 4.3%. And with the return to more normal age claiming patterns, risk equalization had no impact on net claims growth this period. Underlying risk and claims growth per policy unit increased 10 basis points to 2.4%, which largely reflects the impact of adult dependent reform. Lower hospital claims growth includes the benefit of prosthesis savings and the improved risk equalization outcome, with cost inflation only having a modest impact this period. And the increase in extras is due to investment in additional benefits and sales mix. In FY '24, we expect adult dependent reform to further impact claims per policy unit; the major claims headwind to be higher public and private hospital claims inflation; and the major tailwinds the expectation of lower rehab claims, benefit from our claims management initiatives and lower extras claims growth. Based on this, in FY '24, we expect underlying resident claims growth per policy unit of 2.6%. And whilst we've -- we are yet to see the economic environment impacting demand for services, we are closely monitoring this, particularly the mix of hospital admissions and spend in more discretionary extras modalities. Slide 18 details underlying Health Insurance performance, which shows continued growth in both the resident and nonresident businesses. In the resident business, underlying gross margin was up 20 basis points to 15.6%, with revenue and claims growth per policy unit of 2.6% and 2.4%, respectively. Growth in revenue per policy unit is in line with last year, with the lower premium increase offset by a 10 basis point improvement in downgrading to 50 basis points which includes the benefit from adult dependent reform. And despite the likelihood that economic conditions will deteriorate, in FY '24, we expect downgrading of around 40 basis points with further favorable impact from adult dependent reform; and the benefit of increasing product value, portfolio management and sales mix activities. Pleasingly, the momentum in the nonresident businesses continued with policy unit growth across the last 12 months of 39.9%, including almost 20% since 31 December. Underlying gross profit increased more than 77% to $66.4 million. And with the favorable tenure and mix impacts we've seen since borders reopened, underlying gross margin improved 810 basis points to 33.6%. With high gross profit in the second half, strong policy unit growth continuing since 30 June and further growth in the worker and visitor markets anticipated, we expect solid nonresident gross profit growth in FY '24. And in the medium term, we will continue to invest in this attractive market, including by increasing product value and expanding our health offering to increase our market share. And moving to Slide 19. Management expenses were up 6.8% to $572.4 million, with growth in nonresident sales commissions and inflation partially offset by the benefit of our productivity program. As a result of significant nonresident customer growth, sales commissions, which are expensed upfront, increased $18.8 million, including almost doubling in the second half. The modest growth in D&A reflects higher spend on digital assets. And whilst deferred acquisition cost amortization also increased, this remains below the level of new acquisition costs. Operating expenses were up 3.4%, with cost inflation of approximately 4% and modest volume impacts partially offset by $7 million of productivity savings. Whilst achieving productivity savings this period has been impacted by the cyber crime, we are targeting a further $20 million savings over the next 2 years. The major drivers of expense growth in FY '24 will be cost inflation, which we expect to be modestly higher at 4.5%; a $3 million increase in statutory charges; and an additional $5 million ongoing investment in IT security. And we expect nonresident sales commissions to be in line with this year. And whilst the underlying management expense ratio was up 10 basis points to 7.5%, going forward, we will continue our productivity program and gain further benefits of scale to target a stable to modestly improving ratio whilst balancing the need to invest for growth. Turning to Slide 20 and Medibank Health. Whilst the majority of COVID impacts on Medibank Health have unwound, operating profit growth this period has been impacted by the transition out of the 1800RESPECT and Beyond Blue contracts in 2H '22. Excluding these contracts, segment operating profit was up 4.2% to $44.2 million, with a 17.2% increase in operating profit partially offset by a lower contribution from our JVs. Revenue of $277.1 million was modestly lower, with strong growth in health and well-being and diversified insurances offset by a reduction in telehealth where the prior period included COVID-related revenue. Gross profit was up 9.2% to $131.8 million. And gross margin improved 450 basis points to 47.6%, with favorable business mix, improved utilization and business efficiency partially offset by higher labor costs and other inflation. The $4.6 million increase in management expenses reflects inflation and investment in future growth. And with the modest decline in revenue, the management expense ratio increased 190 basis points to 31.6%. The business has good momentum. And we are targeting on average organic profit growth of at least 15% per annum over the next 3 years, with key areas of focus volume and performance uplift in health services, continuing to reposition the business to meet the emerging needs of Medibank customers and delivering synergies between our health businesses. Moving to Slide 21. Investment income of $138.6 million compares to a $24.8 million loss in the prior period, with the benefit of stronger equity markets, higher interest rates and narrowing credit spreads this period. The $40.3 million increase in growth portfolio income reflects significantly improved returns in both domestic and international equities, partially offset by a lower return in property. In the defensive portfolio, the significant increased income includes $55 million from the higher RBA cash rate; a $9.7 million benefit from narrowing credit spreads this period, compared to a $26.5 million cost last year; and an improved return on international fixed-interest holdings. Underlying net investment income increased $88.1 million. And the underlying investment return was up 230 basis points to 3.89%, which is a 91 basis point spread to the RBA cash rate. During the period, the average RBA cash rate was 298 basis points. And based on the current spot rate of 410 basis points, this is expected to generate an additional $20 million of interest income in FY '24. Slide 22 covers capital. We've shown the 1 July pro forma capital position which includes the impact of AASB 17 and the new APRA capital standards, which collectively increased eligible capital by $87 million and reduced the target health insurance capital ratio from 11% to 13% to 10% to 12% of premium revenue. We've temporarily increased Health Insurance capital to offset the $250 million APRA supervisory adjustment. The -- however, the business remains well capitalized with 1.8x coverage of the Health Insurance PCA and unallocated capital of almost $176 million. The increased level of required capital reflects our investment in the integrated mental health joint venture with Aurora. And we expect to contribute more capital to this JV over the next 12 months. The business continues to have strong capital generation. And with the level of unallocated capital and the ability to raise Tier 2 debt, we remain well placed to fund our M&A aspirations. And in line with this strong capital position, the Board has declared a fully franked final dividend of $0.083 per share, bringing full year dividends to $0.146 per share, which is a 9% increase and a 80.5% payout of underlying net profit after tax. And to finish, a few comments on our financial priorities for FY '24. Increasing resident market share in a sustainable way; and managing downgrading; maintaining strong growth in nonresident customers, including workers and visitors; and an increasing focus on customer life cycle management is the key to maintaining health insurance revenue growth. We continue to target ways to offset claims inflation, including through prosthesis reform, taking a broader partnership approach to hospital contracting and increasing our focus on payment integrity. Amplar will also play an important role by providing more services to Medibank customers through its prevention and chronic condition management programs and supporting the shift to new care settings at scale. At the same time, we will need to carefully balance the desire to maintain low premium increases for customers with any change in the claims environment. The markets Medibank Health operate in continue to have strong growth prospects. And in addition to our organic growth aspiration, over the next 3 years, we are aiming to invest a further $150 million to $250 million in M&A that adds scale, capability; or expands geographic coverage. And finally, we believe our main sources of difference are scale, direct distribution strength and the advantage that new capital standard provides; and we will look to increasingly leverage these benefits. Now I'll pass back to David to make some closing remarks.

Thanks, Mark. I'll just take you to Slide 25, just on looking forward. Our strategy remains unchanged. We remain committed to supporting our customers, our people and the community. In what has been a very challenging year for our customers and our people, policyholder growth is back on track following the cyber crime event of last year. We remain a strong business, and the investments we've made over several years position us well in the current economic environment. Our dual brand strategy, our products and services and our innovation in health set us apart from others and give us confidence we will continue to grow. We are well positioned in the market and remain well capitalized to fund growth. And we'll continue to use our strong balance sheet to invest in further opportunities with partners to support our growth ambitions. In particular, our focus for the year ahead is continuing to regain momentum in our resident business and to grow share across both our resident and nonresident segments. We're also focused on the continued delivery of our IT security uplift program and making our next steps to expand in health, in particular a focus on virtual health. We are a resilient organization with great people and a strong relationship with our customers. While it's been a very challenging year, we've listened and learned, and we'll continue to strengthen our business. We're in good shape. And while there's more to do, our eyes are firmly focused on continuing to play a greater role in supporting the health needs of our customers and to improve the way health care is delivered in Australia. So finally turning to our FY '24 outlook on Slide 26. We'll continue to assess claims activity and remain committed to not profit from the pandemic, returning any permanent net claims savings due to COVID to customers through additional support in the future. We anticipate further moderation in resident industry growth in FY '24 relative to FY '23, and we are aiming to achieve 1.5% to 2% resident policyholder growth in FY '24. We expect underlying claims per policy unit growth of 2.6% for FY '24 amongst resident policyholders. We are targeting $20 million of productivity savings across FY '24 and FY '25. We expect cyber crime costs of between $30 million and $35 million in FY '24 for further IT security uplift and legal and other costs related to regulatory investigations and litigation. This does not include the impacts of any potential findings or outcomes from regulatory investigations or litigations. Targeted organic and inorganic growth for Medibank Health and Health Insurance remain areas of focus. And before I hand out for questions, I would like to thank our customers and our people for their continued support during what has been a very challenging year. We have an incredible team of people at Medibank, and I know they remain energized for the task ahead as we continue to pursue our vision of the best health and well-being for Australia. [ Now keen to hear ] any questions you may have.

[Operator Instructions] The first question comes from Kieren Chidgey from Jarden.

A couple of questions. Maybe just starting on your inflation outlook for the Health Insurance division, just wondering if you can put in context this 2.6% outlook for resident's given you were sort of trending, I think you've said, 4% to 5% below your underlying claims estimates the last 6 months through to May. Does that 2.6% outlook sort of include a fairly significant rebasing of sort of that underlying claims base for the things you called out like rehab and prosthesis? I'm just trying to get a sense of the building blocks in terms of indexation for hospitals going forward relative to realization of these structural benefits you've seen in the rearview mirror.

Kieren, thanks for your question. So the 2.6% is based off the underlying expectation for FY '23, not the statutory expectation. So that's just the methodology. And you're right. The 2.6% is our net outcome. And it includes an expectation of higher inflation in both public and private hospital claims costs, but there is a benefit from an expectation of lower rehab costs going forward. So we've spoken to you for some time about rehab claims being much lower than our pre-COVID expectation. In FY '23, they tracked 15% below our expectation, and so we're now calling part of that difference a permanent impact on claims in FY '24.

Okay. And I mean, how much of that 4% to 5% differential on underlying claims essentially has been allowed for in that 2.6% moving forward? Is it only a proportion of it? Is there further potential into '25? Or if you fully realize what you think is structural at this point.

We included less than half of the current softness in rehab claims in FY '24, bearing in mind that under some of our hospital partnership agreements we will share some of the permanent softness in rehab claims or lower rehab claims with some of our hospital contracting partners.

Okay. And then just a second question around sort of your outlook, I guess, around policy growth and downgrading. I think you're flagging downgrading unlikely to deteriorate from here. I'm just interested in what's giving you the confidence in that notwithstanding sort of the very good result on that front through the back half of FY '23. I just presume the environment incrementally gets tougher through '24.

Yes, that's right, Kieren. So the basis of our forecast for '24. We look at the second half of FY '23, which is about a 30 basis point level of downgrading. You might recall the first half of '23 had significant investment in loyalty but also in retention offers during the cyber crime, [ so we always ] expected the FY -- the second half '23 number to be lower. That came in at 30 basis points. So as we look forward into FY '24, we're expecting some further benefits from adult dependent reform because that's a benefit to the level of downgrading, but we are building in some economic headwinds into that expectation of 40 basis points. And we're pretty comfortable with that number, subject to, of course, the economic environment not deteriorating markedly lower but -- and becoming a lot more challenged and stressed than what we're expecting.

All right. And are you seeing any more switching or sort of lapse activity coming through more recently?

Kieren, thanks for the question. Look. The switching market is slightly up but usually changes and fluctuates based on when premium increases get put through various insurers, as you have seen in the market within a few years of changing seasonality. I think what we are seeing is really strong retained growth in the industry. If you look at the [ APRA ] results from last night, yesterday, we saw 1.9% policyholder growth for the year, but if you back out adult dependent reform, that's still around 2.3% growth in hospital lives, which compared to 2.7% last year is very strong continued result notwithstanding all the challenges in the system. So as we look forward to FY '24, yes, we do think that, that overall growth rate may come down just a little bit again, but what's really pleasing for the longer-term industry fundamentals is that very strong growth in under 30 to 102,000, that "30 years or under" hospital lives growth in the last year, which is the biggest growth we've seen in 10 years. So I think we see that as being part of the sort of tailwinds for FY '24.

The next question comes from Vanessa Thomson from Jefferies.

I just wanted to ask for some more color about the permanent behavioral changes you've seen. You -- I think, if I got it right, the rehab in the home is now being [ passed through to ] future expectations. Is there any changed future expectations with regard to respiratory and psych claiming?

So Vanessa, maybe with what we're currently seeing now. So we're still seeing softness in mental health claims, albeit in the last 6 months there has been an increase. And respiratory claims are still well down on what they were versus pre-COVID levels. We're currently not assuming either of those trends become permanent into the future, so to the extent any of that -- to the extent those claims trends continue through '24 and '25, there could be potential future tailwinds for claims inflation.

And then I just wanted to ask for some color around the productivity savings and how that will be built out into '24 and '25.

All right, so we'll put them in 3 main buckets. So that's the digitization of our customer interactions; and that's quite a significant component of productivity program, particularly in FY '24. And when we look into FY '25, we're also moving to a new premises, which will have a smaller footprint, in Melbourne. So that will also deliver a significant degree of the savings in FY '25, but across both of those years will be your typical business efficiency and process improvement work which is an always-on activity that we have here.

And it will be equally split, like symmetrical.

Yes, I wouldn't -- I mean I think that's not a bad starting assumption, Vanessa.

The next question comes from Andrew Buncombe from Macquarie.

Just the first one is back on the downgrading assumption of 40 basis points going forward. Can you just give us some color on how you think that could potentially change half-on-half?

Andrew, I'm expecting a much narrower range half-on-half in '24 versus what we saw in '23. The first half of '23 was escalated for a number of one-off investments during the cyber crime, so we'd expect it to be a lot more evenly distributed; having said that, a likely slight second half skew just given the premium increases do go through in the second half. And that's typically a precursor to a downgrading conversation for some customers.

That makes sense. And then my other question was just in relation to the 2.6% claims inflation guidance. I'm just trying to wrap my head around whether you're assuming any utilization of DCL in that number. So I'm just trying to understand. Is the 2.6% gross or net of utilization of some of that provision?

[ For our methodology is ] underlying claims inflation is completely excluding anything that relates to a COVID catch-up or the DCL. So that methodology hasn't changed, so that is without any use of the DCL. So that is the underlying expectation which is what we'd expect to see, excluding any claims recovery because of COVID.

The next question comes from Nigel Pittaway from Citi.

Just, first of all, back to the 2.6% underlying claims growth assumption. Previously you'd said that prosthesis savings would be much stronger in -- well, not much stronger but stronger, I should say, in '24 than in '23. And yet you don't seem to have mentioned that at all in discussing that this time around, so I just wondered sort of where you're sitting on that at the moment.

Yes. So this time last year, we thought that prostheses savings would be mostly higher in FY '24 than FY '23 largely because of additional cardiac price reductions. Having said that, just before the changes were implemented, the extent of those price cuts was reduced, so year-on-year, we're now expecting very similar dollar value of prostheses savings. So it's effectively neutral to -- year-on-year to our claims inflation.

And I guess, how will you determine whether or not to use the -- sort of the equity reserves now for deferred claims? I mean it does seem as though you've got a sort of fair buffer there, so if claims do spike, you've got the offset through that equity reserve. So does that lead you to -- I mean presumably that means you should have pretty strong confidence that your 2.6% is reasonably conservative. Is that a fair assessment? Or what am I missing?

2.6% is realistic rather than conservative, Nigel. And we've shown for the last 3 years that we do our best to ensure we don't co-mingle COVID impacts with underlying claims expectations. I think that's a very short-term and losing strategy, so we'll use exactly the same methodology we've used for the last 3 years to actually ensure that we're not mixing up what's a claim recovery versus underlying claims trends. And we've got some really good analytics and a lot of history and data that will actually support us in that determination.

[ I think it's important to note ] just on top of that, that we've -- we are remaining committed to not profiting from COVID. That claims reserved is there for either a catch-up in claims or to give back to our customers. We'll maintain the level of transparency we have done on that going forward, and that commitment, we will continue to honor.

Yes. Nigel, I mean, go back to the second financial slide. And it shows that, whilst we're $138 million and 5% below our COVID -- pre-COVID expectations claims of 2.4% growth, if you look across from December through May, there was quite a significant recovery in claims so we were only $8 million below that underlying expectation in the month of May. And so we're actually trending back to what -- a lot closer to what the pre-COVID expectation was relative to where we were 12 or 24 months ago. I mean important here is we can actually pick which particular specialties and procedures [ are soft ] versus others. And that's why, by separating out rehab claims from surgical claims, we can actually see there is a trend that is a lot different in rehab compared to what it is in surgical. And that's what's giving us the confidence to actually say that trend is now becoming permanent.

Okay. And then maybe just on the growth in the overseas business. I mean I think previously you'd said you had expected the number of students and workers get back to pre-COVID levels in what was then sort of 12 to 24 and now it would be 6 to 18 months. Is that still your expectation, or do you think it will get back a bit quicker? How should we think about that?

Yes. Look. Before COVID, there was probably around 360,000, 370,000-odd student visas in the country. Right now it's almost 0.5 million. Now they haven't all come into the country; and the intake more recently has been very, very strong. I think our expectations are still that, that student market is going to be bigger, of -- as those students return, than pre COVID. I think we're probably at a stage now where it's probably got back to that level and now we're in a position for growth. I think, from our perspective, we've retained all of our university accounts. We are winning our fair share, if not more than our fair share, of new accounts. And we're increasing distribution strength to offshore agents, so I think we're well positioned, as we've been investing in this segment, to continue to grow share in that market that I think is now going to be bigger than it was pre COVID.

And Nigel, what gives us confidence is when we look at the second half of '23. And since the -- so we had strong growth in the second half. We closed -- [ our spot ] balance closed [ that's ] almost 10% higher than our average balance. And we've had strong growth in the last [ 3 ] months, so since balance date, so we see some really good tailwinds on customer numbers and revenue going into the first half of '24. I'd expect, though, that business to -- the profitability of that business and with gross profit to be more driven by customer numbers and revenue going forward from here rather than margin recovery. We now have essentially recovered our gross margin back to what it was pre COVID.

[Operator Instructions] The next question comes from Dan Hurren from MST Marquee.

I know you touched on this before, but I was hoping just in regards to the lapse rate. Could you just talk about the journey across FY '23 how that's changed and how it's moving into this financial year?

I think I might make some comments just generally on the quarters of FY '23 because we've talked about that a few times maybe, Mark, on specifically the lapse rate, but we had very strong growth in Q1. And obviously then the cyber crime event saw us lose around 13,000 policyholders. Our aspiration that we had when we talked to you in February was to have a relatively stable policyholder growth for the group, which we've -- which we saw come through. And then in Q4, we've seen both brands grow. Our acquisition rate in that Q4 is -- was very similar to the previous years. That gives us a lot of confidence going forward. I think retention rates were slightly lower than Q4 the previous year just because -- mostly because of our premium increase that we put through in that June period which was expected. I think once -- now that, that has gone through and now the rest of the industry is putting through premium increases through September and October, I think that's what gives us confidence for our growth going forward.

That's a great answer, David. Thanks. I think, if you just look back at the APRA data and look at the -- what's making up the [ whole of fund ] policy order growth, you see the new to industry has been pretty stable. So that's supporting acquisition. Really where the softness in policyholder growth has been versus the prior 12 months was in exits. So we had -- exits were up. And a lot of those, a lot of that reflects that there's softness in extras only. So whilst you're still seeing strength in both retention of hospital insurance and acquisition of new policies with hospital coverage, we are seeing some softness particularly in lapse on extras only. And that's the market we play in but not a market we necessarily chase. It's typically lower profitability, particularly if it comes through the aggregators. They're typically switching customers. And so that's where I think you're going to see the softness in here. That would typically be the most marginal if you have got a PHI customer who's a new entrant into the market that doesn't take hospital cover. So that's where we're watching the market very, very closely.

Great. And could you just remind us where you are in your cycle with major hospital renegotiations?

We've got -- go ahead -- I'll see if Milosh wants to comment after I have some opening remarks. We've got contracts with around 450 hospitals around the country. And typically the agreements are between 2 and 3 years, so it's pretty much an always-on activity for us. Last year or the FY '23, we completed actually a sizable number of agreements. And around 50% of our outlays, private hospital outlays, we re-contracted. The coming year, '24, we've got a lower percentage. I think it's around 30%, but it is challenging in the hospital environment. And we all have to continue to work hard to keep the pressure off premiums, so we're actually having really constructive conversations with all our partners. And as we've shared before, particularly moving our contracting agreements from what historically was very much an indexation-based contractual agreement to much more of a partnership approach where we are jointly working out how we can maintain affordability for consumers, access to quality health care but also to sustain the system.

Yes. David (sic) [ Dan ], Milosh here. That's absolutely right. There's a slightly lower balance in the coming year than the year past. And just reinforcing your point about more strategic partnerships, that's increasing now. And what we're also seeing is an appetite to have longer agreements so that we can continue to address more fundamental care models and sustainability for consumers in terms of access and affordability.

The next question comes from Siddharth Parameswaran from JPMorgan.

Just a couple of questions, if I can, please. And firstly, Mark, I just wanted to make sure I understood just the impacts of AASB 17 on your results in FY '24. There is a slide that you have in there which is helpful, but I just want to be clear. When we do our forecast now, should we be -- are you basically saying we should be having an impact of about $40 million on our earnings? Would you be splitting that out in how you'll be presenting numbers going forward? I was hoping you could, firstly, just make some comments around that; and also just how any further givebacks you have will actually affect the profits that we see.

Sure. The one known impact in FY '24 statutory earnings is that [ $39.7 million ] impact on operating profit, Sid. So that relates to the 1 April to June premium increased deferral which we expensed under 1023 in FY '23, but we'll need to amortize that over the contract life, which is 12 months, 1 April to 1 April, going into FY '24. So that will impact statutory earnings, but then we'll adjust for that in underlying earnings. That's the major change for AASB 17. We're expensing the DAC going forward, but you'll have caught that in the presentation, that our DAC amortization was slightly higher than our new acquisition costs this year. So these are 2 major impacts. So to the extent we actually did another $100 million cash giveback to customers, as an example, that would again impact statutory earnings by $70 million after tax. And we'd adjust that against the equity reserve so there'd be no impact on underlying earnings, no impact on capital. So effectively, Sid, what we're doing is we're replacing the DCL with the equity reserve and we'll use the equity reserve to balance between stat and underlying earnings.

Okay, so there will be -- I mean, when you look at stat earnings, there will be some impacts which -- from both these issues.

Yes. So in the same way that we've used the DCL to reconcile between statutory and underlying earnings over the last 3 years, we'll use the equity reserve to do that reconciliation to underlying earnings going forward.

Okay, okay. Can I just ask about your [ promise ] around COVID as well? When does that end? And when will you start assuming that the current experience is actually more reflective of a go-forward situation?

I mean, to be clear, our expectation is that the pandemic has ended but not necessarily that claims impacts have ended, so we still have a potential that there will be further claims recovery. So you saw in May that claims were broadly back in line with underlying expectations. To the extent they recover even further, we will draw on the reserve. If we go through another 12-month period and claims continue to be below that 2.6% underlying expectation, then we will have to readdress whether any further of these claims trends are becoming permanent, Sid, but we are now -- based on the April and May experience and what we've seen since balance date, we are actually trending back towards what the underlying claims expectation is.

I mean I'm just looking at your chart, yes. I mean it's still down, isn't it? I mean it's -- overall on a hospital basis it's still down about 3% versus your assumption, so I presume that there's still a little bit of a gap which -- and just to be clear: I mean, is there any room for taking that into your -- I suppose, in the way you're thinking about -- I mean, is all that 3% COVID? Or could any of that be seen as some -- as due to some of the initiatives that you've undertaken to keep claims costs lower?

And largely the gap in FY '23 was due to nonsurgical claims being softer than what we're expecting. You will have seen surgical claims are up within 1% of our underlying expectation. So largely that's softness. And I'll just put it in context, Sid: We were probably $45 million below our underlying expectation in December and we were $8 million below that in May, so the trend is getting back very -- predominantly back to the underlying expectation, but that largely is driven by nonsurgical claims. And there's only a few categories of those that they're actually fairly easy for us to actually test whether or not they are becoming permanent or if there's any short-term factors. I mean rehab is the best example of that. I mean we've got a number of statistics that say -- both in terms of customers that were referred into rehab and then the number of customers that have out-of-hospital rehab. And those statistics have been so persistent that it's really evident now that's a permanent trend.

[Operator Instructions] The next question comes from Julian Braganza from Goldman Sachs.

Just on the margins. So you haven't given margin guidance into '24, but just given what you've said around claims inflation and downgrading, are you effectively implying stable gross margin from here into '24 and just given the rate increases that you've got?

So if we can deliver 40 basis points of downgrading and based on the 2.96% premium increase we had, that should give us flattish jaws, noting, though, that we only have the premium increase until 1 April. So the 3 months of FY '24, we don't yet know what our premium increase will be, but -- and to extent we can actually deliver that downgrading outcome and claims inflation isn't different or materially different to what we're expecting, that will deliver a flat or flattish jaws outcome for us, Julian...

Okay, great. And it's still the expense story in terms of just impact on net margins.

Well, it's probably what happens in overseas as well as what happens in the expanded nonresident business as well. So to extent we grow the nonresident business faster than we do resident, that business has a higher gross margin than resident. And then of course, it is the -- it is an MER conversation as well, but I wouldn't expect to see in the short term any significant improvement in MER. We are guiding to a stable to modestly improving ratio. I think, if there was -- I mean we'd want to take any opportunity we could to invest in future growth rather than necessarily bank a big improvement in MER in the short term.

Okay. And just in terms of the seasonality in your gross margins half-on-half, are you still expecting that into FY '24?

[ I'd say ] our gross margin depends on hospital service days. So typically the first half has more hospital service days and therefore higher claims. And that largely reflects most surgeons go on holiday for the month of January, so to extent holiday plans of the surgeons in Australia doesn't change, I'd still expect the first half to have higher claims and therefore a lower gross margin in the PHI business.

Okay, great. And last question, just on the -- just on M&A, just interested in your -- any observations at a high level what you're seeing in the market in terms of prospects that might be interesting there across -- more so in the health insurance space given that you've called that out as well.

I think across health -- I mean in terms of our pipeline. Particularly we're just very focused on our target markets, and the pipeline is actually strengthening. I think -- in terms of PHI specifically, I think that's probably we'll see some impact on the competitive position over the next year or 2 as some of those factors change, like the new capital standards and the competition changes. I think we remain interested in that space but really only where that is an opportunity in a distressed sense from that target. I think our main focus really is in health. And we've got our pipelines and opportunities across all of our target markets in health that we're looking to explore, which is why we've restated our expectation or our ambition to spend between $150 million and $250 million in that space.

We have time for one last question. It comes from Scott Russell from UBS.

A couple of questions, please. And firstly, on the nonresident, I think in May you lifted the guidance on gross profit to be double FY '22. It was up 77%. Where did that come up short in that June quarter?

So we weren't as precise as saying it would -- absolutely going to double, but you're right, Scott. We've taken a slightly more conservative approach into the year-end claims realization just because we've seen some quite slow payment patterns coming in that business. So we've taken a conservative reserving approach in the business. We've also seen really, really strong growth and a changing mix in some of our customers as well, so we've applied an appropriate level of caution going into year-end.

Okay, I see. Second question, on the inorganic strategy, though you've maintained the guidance for $150 million to $250 million to be deployed over the next 3 years. So that language hasn't changed. Maybe you can remind us how much you've spent, so far. I think there have been some small injections, but maybe more to the point, given the APRA charge of $250 million, how do you envisage -- let's assume that, that remains for 3 years. How do you envisage funding those acquisitions from internal resources?

So maybe to answer the first question. We'd have spent around $25 million on M&A in the last 12 months, bearing in mind it does take time to actually identify [ and to ] actually land the transaction. In terms of the APRA overlay, you'll note we've still got almost $176 million of unallocated capital, which is well above what we had 12 months ago. So that APRA overlay, I mean, effectively that's just the deferral of $167 million of capital we would have otherwise released into unallocated capital. We still have $176 million to invest, so that's -- I think that's enough to fund our short-term aspiration. To put it in context: Had we not had the APRA overlay, I would have expected our unallocated capital number would have been around $350 million.

Well, I think, just to further that, as I said before, the pipeline in health, for investments, is actually stronger than it was probably this time last year. We are looking at investing in those higher-growth markets in health that can generate a strong return in their own right but can also add value back to our business and help the system change. I think, as regards to the APRA overlay, we have remained very strongly engaged with APRA through the last year in particular since the cyber crime event. And I think our priority and focus right now with APRA is to help them understand the detail of the work that we've already done on the uplift program and then work to continue on that over the coming months.

Yes. And Scott, assuming the overlay wasn't [ released ], it would go to unallocated capital in the first instance. I think, in the second instance, we're actually generating strong capital, anyway, so we'd expect to generate more unallocated capital during the course of the year. And to the extent we needed to, we still have the Tier 2 market open to us, so there'll be no issue in terms of funding the top end of that aspiration range.

Thank you. That does conclude our conference for today. Thank you for participating. You may now disconnect.