OUTsurance Group Limited (OUT) Earnings Call Transcript & Summary

Good day, ladies and gentlemen, and welcome to Rand Merchant Investment Holdings interim results as at 31 December 2019. [Operator Instructions] Please note that this conference is being recorded. I'd now like to hand the conference over to Mr. Herman Bosman. Please go ahead, sir.

Thank you very much, and welcome to everybody on the call. I have in the room with me, [indiscernible], who looks after our finances as well as Jan Hofmeyr and Marthinus Visser from OUTsurance. Just to set the context. I'm sure you've all been very busy this morning to look at your screen and see what's been happening on the market. So I think we're going to resist liberal references to the macroeconomic environment. We can, of course, speak about it. But I'd much rather think about the businesses in their own form without too much reliance on macroeconomic environment, which I think you have a much better idea of in any case. I guess to start off with a reflection on our results. I was thinking which adverbs or adjectives to use and I think the first one is that we are not pleased with the results. I don't think anybody can be pleased with the double-digit down despite the economic conditions. But on the other hand, we're very excited -- what we are seeing in the underlying businesses. In all 4 of the main businesses, we are seeing the fruits of investment. Obviously, that investment had a cost to it. But we're seeing some very interesting successes coming through across the portfolio. I'll start by thinking or reflecting on the 3 businesses who are not represented here. They have all reported their own results, as you would know. And then we will turn to OUTsurance where the management team has joined us today. As far as Discovery is concerned, we saw a very strong performance from the incumbent businesses across the 3 main South African businesses as well as Vitality Health in the U.K. So we're very happy that despite the difficult conditions, we've seen operational resilience at Vitality Health, and we saw the 3 South African businesses position themselves in a very good way. And obviously, life -- South African life has rebounded after a challenging 2019 year. We've seen -- or we are seeing exciting and continued growth in Vitality Group, especially in Ping An. And we are also seeing that the bank is, from an operational point of view, especially new business acquisition point of view, now tracking very strongly. So I guess, when you consider where Discovery has been in terms of the upfront investment, especially in bank, that is probably put -- well, it has put a lot of pressure on the earnings profile. But we are very confident that the successes that we are witnessing in some of those investment areas have been strong and very promising. As far as Hastings is concerned, the business, let's separate between new business and renewals. On the renewal side, we are very comfortable that after a bit of a lull, we have really picked up on the retention rates, which is a very important indicator of obviously, of both of business volumes but also of effective acquisition costs. On the new business side, the -- it's now, for the first time, been able to start putting through premium inflation increases. As you know, Hastings is mostly correlated or most correlated of all the short-term insurers in the U.K. to the pricing cycle. And although it's a short period of observation, we are now seeing premium inflation coming back into that market after almost 2 years of claims inflation outperforming or exceeding the premium inflation tendencies that we could see there. The business has maintained discipline around costs. So I think similar to Discovery, we are excited to see where Hastings will be positioning themselves over the next while, having gone through a very tough period. MMH, you would have seen their results earlier this week. And I think we similarly feel comfortable that the reset and growth targets are being tracked. The productivity of the agents have definitely increased a lot as well. And I think generally, we are extremely pleased with what [indiscernible] and his team have done over the last 2 years in not only repositioning the business, cutting out a lot of costs, but most notably, getting on the front foot as far as the staff morale and the confidence of that business are concerned. So again, that business has made a very good recovery, and we now look forward to see how they position themselves in the market. As far OUTsurance is concerned, I'll make a couple of quick comments and then hand over to Marthinus and Jan. The big challenge at OUTsurance, as the investor community has highlighted to, has been the ability to grow the 2-person lines businesses, both here and in Australia. And I think for the second reporting period, we have now illustrated that both businesses are growing, again, relatively strongly in the high single figures. And obviously, higher if you extrapolate that over and if you annualize that. The most exciting bit of the OUTsurance results, in my view, is that the upfront cost that we've invested in to upskill and upgrade our OUTsurance business operations is also now paying off. You would have seen the strong growth in premiums on the OUTsurance business side. And then we're seeing some promising new ventures you would have read in the results that we've entered into a partnership with Blue Zebra, which is a broker network in Australia. I think Marthinus will speak more about the rationale for that. And then a couple of days ago, you would also have seen that Shoprite has entered into a JV with us on a specific set of insurance products. So again, similar to the other businesses, we have, over the last number of years, invested in what we hope -- would have hoped to be future growth. And I think we are now seeing that come through in a variety of early successes. So I'll stop there, and I'll hand over to Marthinus to make a couple of further remarks on OUTsurance. And then we'll hand over to the convener to open for questions.

Thank you, Herman. Yes. I mean I'll first look at a group level and specifically look at growth and then the loss ratio and the cost ratio. In terms of growth, we're quite pleased, as we said by the improvement we've seen and being sustained in this half. Overall, gross written premium was up 6.1%. That was muted slightly by the exchange rate move in Australia where the rand got slightly stronger. And if you ignore that, we would have been close to 7%. Importantly, if you break that 7% gross written premium down, premium inflation has been very low. It's continuing to be low. So you're typically looking at premium inflation of around 3% and then unit growth of just below 4%. And we think that's just a solid result. And the unit growth at both OUTsurance and Youi was similar at just below 4%. I mean, reasons for the low premium inflation is really on the strong on the motor side, where we've seen reduction in client frequencies. We also see, obviously, the economy is playing a role with people buying fewer newer cars and having longer replacement cycles. Importantly, new business premium was up 14.5%, which is also a good leading indicator for the longer run. In terms of operating profit, we were down 6.9%, but that was largely led by a higher claims ratio because of natural peril events. Last year was really a more normal year, but this year was really above our sort of 5-year and 10-year average points. We had in Australia, we retained losses of $50 million between the bush fires and the large hailstorm in Queensland, whereas in the previous period, we only retained losses to the value of $17 million. And then in South Africa, whereas the previous 6-month period was catastrophe-free, this year, we had 84 million worth of catastrophic clients and on top of that, 20 million increase in power surge and death claims as a result of loadshedding. So if you look at our attritional losses, through underlying loss ratio, those things were flat year-on-year and in line with our target. So fundamentally, we're writing good quality business. We're not cutting rates to boost growth. It was really normal volatility in natural peril events. And I think it's fair to say we're quite pleased by the performance of our reinsurance program in mitigating the impact of these losses. If we think back 5 years ago, where we had similar multiple events, the impact on our net loss ratio was bigger than what it was this time around with the addition of the aggregate reinsurance, which we also now have to improve that result. In terms of the cost ratio, we're marginally up year-on-year, but one has to break that down into the units to better understand it. And I think the big positive here is that in OUTsurance Personal, we already -- we've seen the cost ratio turn and it's on the way down again. And the main reason for that was really that the increase was related to a larger investment in marketing and acquisition costs. And because that's an upfront cost, you have a bit of a hockey stick effect. And now we're gaining on that front. In terms of commercial, the cost ratio is still up. But as we pointed out, this year is the peak of our investment in the agency force. And I think a very encouraging number is the half year premium growth for business OUTsurance at 18.5% growth in gross written premium. We expect that to hit the 20% mark by full year. All the parameters on the agency business also looking good in terms of loss ratio and lapse ratio. Let me -- if we could perhaps just look at some of those new growth initiatives. We've previously pointed out that we've got big market share in terms of direct insurance or the core center business. But the split in the market between direct and face-to-face is sort of leveled out. And as such, for us to enable further growth in our markets, we need to do face-to-face. And I think our commercial agents business is a good example where we're successfully applying that. But on top of that, we also have the agreement now with Shoprite and the first product there will be in the funeral space, with low average premium products like funeral. It's critical to have low-cost distribution and I think this partnership will enable that low-cost distribution as well as the physical footprint, which is so critically to -- critical to winning that market segment. Another possible product in that space would be paid insurance. Then another example of our wider set of products and channels since we also rolled out our warranty product in South Africa. We think with people keeping the vehicles longer, it's quite a relevant product. And with -- in the first few months, we exceeded 1,000 sales per month without any advertising at all. On the Youi side, we entered with -- into an agreement with Blue Zebra. Now the obvious question might be why not also do an agency or our own agency force like we have in South Africa. But the financial dynamic is different in Australia. Your average salaries are much higher relative to your average premiums. And that's why the agent model just simply does not stack up there and a broker model allows you to have a more variable cost model. Blue Zebra has got extensive distribution skills. We have good underwriting skills and it is the view if we combine these 2 that we can certainly grow into the higher end first lines book, but also in the SME side of business profitably. So that is quite an exciting new venture for us as well. Yes, I think that's in a nutshell sort of some of the exciting developments there. Maybe we can open up for questions.

[Operator Instructions] The first question comes from Warren Riley of Bateleur Capital.

Just 2 questions from my side. On the Shoprite deal, can you just give us some more color in terms of how this will roll out? Where will this be sold in the Shoprite stores? Will this be through the money market counters or the tellers? And if you can just give a bit of more information on the economics of the agreement. That's the first question.

Warren, it's Jan here. Yes. So we'll essentially roll out across all the main Shoprite brands. And we'll obviously start with a funeral product. And as our first product, you also see probably the biggest opportunity at this stage. And that will be sold through the money market counters. So already, obviously, those Shoprite money market counters do a variety of financial transactions, including transfers and bill payments. So we'll be obviously connecting into that infrastructure to sell the funeral products. We haven't disclosed the economic parameters of the relationship yet. It would be in the form of a joint venture with an economic profit share going back to the Shoprite Group by virtue of preference share arrangement. So that would be quite similar to how our arrangement with FNB works on the homeowners cover business. So a very similar format.

Next question on -- you indicated that Youi has incurred around $9.5 million in Jan 2020 relating to hailstorms. I just want to get a sense of what the weather-related losses were in the prior year base, if there is any?

Yes. We can comment, in the prior year, in the 6 months from Jan to June, we had 2 events. Back then, our retention level was $8.5 million. So that retention would have totaled $17 million. Remember, in Australia, our reinsurance is on a prepaid basis, so we don't pay reinstatements there unless we exhaust our cover. And this year, we now have had 2 events in this period, the Jan to June period so far, hailstorm in January and flash flood in February. And our retention is currently $9.5 million. So we'll obviously retain the 2x $9.5 million. Also worth pointing out then is maybe just the aggregate cover, which we have in place. Once our aggregate natural payroll losses as for financial year exceed a certain threshold, then we can plan back on that. We've now entered that aggregate cover zone, and that cover is for $28 million. So it's basically 3 retention levels. So all natural perils for the remainder of the year up to $28 million will be 100% covered. Obviously, if we burn through that, then we'll be in for those claims again.

[Operator Instructions] The next question comes from Roger Williams of Centaur Asset Management.

Regarding Hastings, you increased your retention by dropping premiums quite substantially, but your claims experience was substantially worse. Have you -- has the pricing been slightly off, you've maybe given back too much discounts? And consequently, your experience hasn't been as good as expected? Or is there another reason?

Roger, it's Herman. I think the -- it's obviously a bit of a waterbed, when you push one place, it reacts on another. But I guess what we were seeing, and when I was talking in the past, it's not that long ago, we saw that there was almost uncontrolled claims inflation across the market, certain single event floods, et cetera, but this generally, the claims inflation was rampant at 5% to 7% while you -- while the market generally was unable to even put through nominal increases. Now the claims as for the reporting period that you may be referring to definitely would be out of our range. And I think we're doing a lot of work to bring that within the 75%, 79% range that -- as indicated. And we are slowly seeing an improvement in that. However, when you look at the premium inflation side, you would have seen the steps in the cycle that has turned over the last 4 to 5 months. Hastings has actually reacted a bit sooner and have started to push through mid-single-digit increases on the product. And that was without compromising our typical #1 rating or #1 rank as new business right here. So I think we tend to think about new business and premium increases on -- in that way, i.e., what is your market share, what is your times top of the PCW table and how is that then related to the margin that you're writing at. The better indicator for us in terms of the secondary business, of course, it has a premium inflation element to it, is the retention rate because that is something that we were struggling last year sort of in the middle of the year. And that has not been actually increased or not improved only by a factor of dropping prices. It's actually been guidewire system that has now been implemented completely. So you have a much better way to interact with your clients. We've also implemented a dynamic discount model where because you have better information and more instant data, you are able to give the call center operators the ability to dynamically think about price adjustments. So maybe this has not come soon in the numbers that you're seeing completely yet because obviously, there's definitely a lag effect. But what we are trying to do is to operationally improve retention rather than merely putting price decreases, too.

Okay. So I mean, if your premium increases are in line with cost increases, it's unlikely your underwriting margin is going to improve in the short term, or was it better than that?

Well, the business is relatively geared to your ability actually to push through the premium increases. So that's typically your first indicator that, that it would improve. I think similar to our OUTsurance, we're not trying to -- we try to write the right business. So if you write the right business and you're able to put premium inflation through your claims, your claims should come down. So I think the 2 are not necessarily related in our minds. We still want to write the right business for the right price. I think there were exogenous factors that made the claims experience so much worse in the last year or 2. That's definitely the observation we have over the last 4, 5 months and long way that lasts.

While I'm on the line, can I ask another question or is there others?

Of course.

Just structurally, you've got this offer code and then the RMI affiliate managers. It's relatively small in the scheme of things. Also Hastings is kind of a partial associate, partially owned by OUTsurance. Are you looking at maybe structuring your business slightly different? It would just make maybe more logical sense if Hastings was 100% owned by OUTsurance because it's their core business. And then RMI affiliate managers, it just doesn't look like it's ever going to amount to anything.

Yes. I hear 3 questions. Yes, we are constantly considering what the best structure for our business is. And that's something that's receiving constant attention. The second one, whether RMI will amount to something, call it relevant within the group. We need to exhibit patience here. I think everybody on the call is involved in the asset management industry in some form or another. And it's probably been the worst 5 years, if not the worst 5 weeks that the industry has had. We are comfortable that our 10-or-so affiliates are operationally, strategically, financially in as good a space as possible. But as you know, when you're in the space of $5 billion to $15 billion of assets under management and you are starved of asset growth either organically or through market action, it is very, very difficult to get into breakeven and a nice profitable position. So most of our affiliates are profitable, but I guess on the margin, if I have to be honest. So I guess the best answer I can give you is, we are exhibiting patience because we are quite excited what these businesses could do if the market changes. Now, of course, you may reply that's anybody's guess. But I guess that is exactly where we are. We don't want to throw that out with the bathwater without giving it a chance in a hopefully expanding market. And as far as our OUTsurance, Hastings is concerned, yes, we could do that. I guess at the moment, we feel that the partnership is quite an interesting one. At the time when we did it, the size of the investment from an OUTsurance only point of view was such that they didn't want to do the whole block on their own. And similarly, from our point of view, we didn't want to go in without our operational and strategic partner next to us. So I'm not sure what -- whether the -- what's bothering you is a structural or reporting or a financial, but we actually see it as one investment that we've made together as the 2 businesses. So we're not really hassled by any friction or any sort of structural deficiencies. But we -- but back to my first answer, yes, we are looking at -- constantly looking at seeing what the best structure for our business is.