Tower Limited (TWR) Earnings Call Transcript & Summary

Good day to you, all, and thank you for standing by. Welcome to the Tower Half Year Results Call. [Operator Instructions] Please be advised that this conference is being recorded. I would now like to hand the conference over to your first speaker, Michael Stiassny, Chairman of Tower. Please go ahead.

[Foreign Language] Good morning, and thank you for making the time to join us for this investor call and presentation of our half year results. With me in Auckland is our Chief Executive Officer, Blair Turnbull; and our Chief Financial Officer, Jeff Wright, who will take you through the results and answer your questions. When presenting our full year 2020 results in November last year, I noted that no company is immune to the ongoing challenges posted by the COVID pandemic. Our digital-first strategy has positioned Tower well and is continuing to deliver solid GWP growth and reduced management expenses. However, these positive results have been offset by an increase in large events and large house claims and general claims increases due to rising building costs. There is no question that the insurance industry, like all of New Zealand, is facing inflationary pressures emerging as a result of supply chain and other pandemic-induced challenges. Tower has taken decisive actions to address these factors, which have impacted profits in this half. Blair will take you through these comprehensive measures shortly. Our strength in digital and data is assisting us to respond quickly, and we anticipate seeing some improvement in the second half, acknowledging that it takes time for the mitigations to have full effect. Accordingly, last week, we revised our guidance on underlying profit for the 2021 financial year to between $25 million and $27 million. Despite these unprecedented times, Tower remains a resilient, strong and well-capitalized business with a solid base for continuing investment in growth. The business is increasingly nimble, and we have acted swiftly when solid growth opportunities have been identified, including the purchase of the ANZ legacy portfolio and Club Marine. Following settlement of the EQC receivable, Tower now has a solvency ratio of 309%, $97 million above regulatory minimums, and the Reserve Bank has also lowered Tower solvency condition from $50 million to $25 million. The business is in good heart, and I'm pleased to announce on behalf of the Board a resumption in dividend payments. Based on Tower's ordinary dividend policy of paying 60% to 80% of cash earnings where it is prudent to do so, a dividend of $0.025 per share will be paid on 14 July. This is a watershed moment, and I'd like to acknowledge you, our shareholders, who have supported Tower through 5 tough years. It is good to be able to reward your patience. Tower has successfully shared its legacy issues and has entered a new accelerated phase of innovation and growth. Blair has an exciting strategy that he will share with you and is wasting no time in implementing it. Innovation is at the heart of Tower in 2021, a far cry from where we sat a decade ago. I'd like to acknowledge everyone in the Tower team. Sustained premium growth and a downward trend in management expenses is testament to a solid strategy and the discipline and dedication of the people that implement it. In short, despite the COVID-induced breeze, Tower continues to be well positioned for sustainable long-term growth. I'll now hand over to Blair and Jeff, who will take you through the results and outlook before we take questions.

[Foreign Language] Thank you, Michael, and good morning, everyone. I'm delighted to be here sharing our half year results for 2021, which sees Tower in a very solid capital and solvency position. We have a technology and distribution advantage that sets us apart from our competitors and affords strong, long-term customer and premium growth prospects. Tower has reported a sound result for the half year. Although as indicated by our updated guidance last week, we are facing emerging external factors, such as claims inflation, which has impacted profits. Underlying net profit after tax, excluding large events, was $18 million. And reported profit for the half year was $12 million, down from $14.9 million in the prior year. Offering customers a simple and rewarding experience through our leading technology platform has helped grow Tower's gross written premium for the half year to 31 March to $194 million, up 6% on the same period last year. This was a strong result achieved despite the Pacific business declining 16%, primarily as a result of economic challenges related to COVID-19. Disciplined cost control and further efficiency have seen Tower's overall management expense ratio further improved by 2.5% to 36.5%. Customer numbers have showed healthy growth, up 2.8% to 306,000, and market share has now climbed from 8.6% to 9.3%. Tower's combined operating ratio has increased 4.9% over the prior year to reach 90.3%, reflecting the inflationary pressure on claims and higher large events. And New Zealand's parent solvency ratio was 309%, which is $97 million above the regulatory requirements and reflects our strong capital position. Tower's journey of focus and streamlining our business has entered an exciting new phase. Following the process of transformation and replatforming, we've made positive progress in resolving legacy issues. In the past 6 months, we reached a $42.1 million settlement with EQC, the Reserve Bank reduced our licensing condition from $50 million to $25 million and we simplified our structure. This has made Tower a far more robust and transparent business and one that is very well placed to enter a new -- exciting new phase of growth and innovation while also strengthening our claims, pricing and underwriting insurance fundamentals. The key to our success is leveraging our new cloud-based, scalable digital and data platform for our 3 businesses: Our flagship Tower Direct business; our unique Partnership business, which includes leading retail brands, advisory businesses and more recently, the addition of insurtechs; and the Pacific business with operations in 8 countries. Strengthening the business remains a priority, and this is particularly heightened as we face claims inflation and wider environmental macro pressures. Jeff and I will talk about these in more detail shortly. We have a technology advantage and a data focus which sets us apart from our competitors and afford strong, long-term growth prospects. Our cloud-based, digital platform enables us to scale quickly as we acquire new business and migrate customers to our advanced technology. And as a business, we have shed our legacy issues, and we're acting decisively to address emerging external pressures. Tower ends this half year in a very solid capital and solvency position with attractive growth prospects and a clear strategy to deliver sustainable shareholder value. Over the last 6 months, we have achieved gross written premium of $194 million, up 6% year-on-year, and this brings our total GWP for the past 12 months to $395 million. Our flagship Tower Direct business has delivered very strong growth of 14% year-on-year, and this has been achieved by focusing on new and existing customers with nearly half of those now holding multiple products with us. When combined with digital marketing and automated campaigns, we have also reduced our cost to acquire new business to 12% of net earned premium. Our Partnership business has delivered positive 3% growth, but the true value is in the quality of the business where we have transformed our partnership portfolio from a traditional, higher commission portfolio to a new generation of partnerships, such as corporate, retail, and advisory referral partnerships and insurtechs. All of the key partners are now on our cloud-based, digital platform at more sustainable commission levels, and we have a strong partner pipeline. Our Pacific business GWP declined by 16% primarily as a result of economic challenges related to COVID-19. However, we remain committed to the Pacific. We have launched our digital platform in Fiji, and we have a robust plan to progressively roll it out to other countries over the coming 18 months while also simplifying and streamlining our product set to align our Pacific business more closely with our New Zealand businesses. Continued improvement in cost efficiencies. So our flagship Tower Direct business continues to lead the way and highlights the customer financial benefits and efficiency afforded from a leading digital and data technology platform. With a management expense ratio of 31%, a 4% improvement on half year 2020, this compares favorably with Tower's overall combined expense ratio of 36.5%. We remain very focused on decommissioning legacy systems, and we are targeting a move from 6 to 2 systems by the year-end. Commission is also reducing as a result of our ANZ acquisition, and the full benefits of this will flow through from the first half of the 2022 financial year. The Youi portfolio acquisition is now complete, and it is pleasing to note that our retention rates are in line with our initial expectations. Emerging claims inflation. Now in the later stages of the first half, we have seen an increase in large events and large house claims as well as rising building costs. Large events in this half included the large fire at Lake Ohau village and the severe flooding in Napier in late 2020, resulting in a $9.3 million impact before tax. This is a significant increase over the $2.8 million in large event claims in the 2020 half year and should be viewed against historical data, which reflects that 2019 and 2020 had an unusually low incidence of large events. The frequency of large house claims, which are those claims that total more than $50,000, has doubled to 52 in this half compared with the same period last year. The average cost of all house claims has risen 8% to $4,620 per claim, reflecting the rising cost of building materials. As a result of these factors, our claims ratio, excluding large events, is 4% higher than the prior year at 48%. In insurance, there will always be volatility in claims. It's the nature of our business. What sets Tower apart is our ability to identify emerging trends and quickly address them utilizing the digital and data technology we've invested in. We are working with our supply chain to enhance efficiencies and moderate the increases in claims costs. We're also working with data science and risk partners to better understand the links between large events, climate change and large house fires in order to help mitigate and reduce such events in the future. Automation and data management are at the forefront of our response through optimizing digital claims management to improve quality of claims assessment, repair and settlement. We also have the ability through our leading technology capability to act swiftly to adjust ratings and underwriting if necessary. These actions will take time to gain traction. However, we expect to begin realizing benefits in the second half. The fundamentals of Tower's performance is strong. We have 3 focused and unique businesses: Tower Direct, Tower Partnerships and Tower Pacific. We are growing ahead of the market thanks to investments in our scalable, efficient digital and data technology platform. And we have steadily reduced management expenses with clear actions to further improve going forward. While large events and large house claims have offset premium growth, this has been actively addressed. Our underlying NPAT before large events was $18 million, and reported profit after tax and large events was $12 million. And in short, Tower is a solid business and well positioned for long-term growth. Delivering shareholder return. We're pleased to resume dividend payments after a 5-year hiatus. The Board has confirmed an interim dividend payment of $0.025 per share. The total interim dividend payment is $10.5 million and will be paid on 14th of July 2021. Subject to the ordinary dividend policy of paying 60% to 80% of cash earnings where prudent to do so and based on achieving FY 2021 guidance of between $25 million to $27 million, the indicative combined full and half year dividend will be between $0.05 and $0.055 per share. I will now hand over to Jeff Wright, who will take you through our financial results in more detail.

Thank you, Blair, and good morning, everyone. Looking at the consolidated results, we can see that GWP growth continued to be a positive feature in the first half, up $10.3 million on the same period last year. This growth was offset by increasing BAU claims expense, resulting from a higher volume of large house claims and emerging house claims inflation. Management expense ratio improved by 2.5% as the benefits of the EIS platform are realized. Underlying NPAT before large events was $18 million, a decrease of 5% on the first half of 2020. Profit was also impacted by lower investment income. Reported profit of $12 million is a decrease of 19% on half year 2020, primarily impacted by the $6.5 million before tax increase in large events. Slide 15 details the key drivers of underlying profit before tax from the half year '20 to the half year '21. Compared with the 2020 half year underlying profit before tax and large events of $28 million, net earned premium increased by $8 million in half year 2021 through the Youi acquisition and growth in the Tower Direct and Tower Partnerships. Management's expenses have reduced. But the increase in BAU claims driven, as we have said, by an increase in frequency of large house claims and house claims inflation, exceeded the growth in net earned premium. In addition to the lower investment income, large events that we have previously noted was $9.3 million, well above the half year of 2020. Slide 16 provides additional detail on the impact of the previously mentioned claims issues on Tower's loss ratio. The increase in frequency of large house claims added 2.3% to Tower's loss ratio compared to first half of 2020, while emerging inflation on other house claims added 1.1%. While large house claims are historically volatile, Tower is working with data science partners to analyze this latest experience, and we will review rating and underwriting for house policies. Supply chain pressures resulting from COVID have contributed to increase in building materials cost. This led to a 1.1% increase in loss ratio due to other house claims. We continue to monitor the emerging signs of building cost inflation and are working with our supply chain to ensure we minimize these increases. With 62% of New Zealand's new business written being motor, there was also an expected impact of 1.9% on the loss ratio due to the change in mix, offset partially by a 0.4% lower motor claims expense. Lower Pacific claims expense reduced the overall loss ratio by 1.4%. Finally, the higher large event experience added 5.6% to the first half 2020 loss ratio, bringing the first half 2021 loss ratio to 53.8%. Tower's management expenses reduced $1.5 million on the prior year to $61 million in the half year 2021. Our management expense ratio has improved by 2.5%, down to 36.5%. This improvement in management expenses is largely due to the completion of the EIS project and the scalability of that platform to enable growth without a corresponding increase in expenses. This is reflected in the reduction of salary expenses by $4.9 million following the completion of the EIS project and May 2020 reorganization. Net commission expenses increased due to the inclusion of a reinsurance profit share income in the corresponding period of 2020. And finally, amortization expense increased due to the addition of Youi, ANZ and EIS. Along with other insurers, Tower continues to deal with the tail of Canterbury earthquake claims. We reduced open claims from 59 properties open at 30 September 2020 to 43 at 31 March 2021. We closed 35 claims during the period and received 16 new overcaps from the EQC and reopened 3 other claims. This was in line with expectations. While the pace of new overcaps and reopened claims continues to slow, the remaining claims are our most complex. Gross outstanding claims are now down to $26.5 million following a strengthening of $2.2 million due to tribunal claims settling for more than expected and Tower prudently increasing the allowance for future claims. We have been able to release $2.5 million in additional risk margin, reflecting the continued runoff of Canterbury claims. Tower remains in a strong capital position with actual solvency capital of $180.4 million and a solvency ratio of 309%. As we have said, this is $97 million above our regulatory minimums. The Reserve Bank also lowered our licensing condition from a minimum solvency ratio of $50 million to $25 million during the half, reflecting the diminishing risks associated with CEQ. A.M. Best have also recently reconfirmed our financial strength rating at A-, excellent. Slide 20 provides an overview of our reinsurance program. The Lake Ohau fire and the Napier flood events resulted in a half year 2021 large event claims increasing $6.5 million on the prior year to $9.3 million. Tower's aggregate cover takes effect once large events hit $14 million. So any increase in the second half to the first half figure of $9.3 million for large events will reduce NPAT by approximately $0.72 million for each million until the aggregate cover cuts in. Tower's long-term average for large events is approximately $8 million per annum. As we announced on Monday, 17th of May, we have revised our guidance for Tower's underlying NPAT in FY '21 to a range of between $25 million and $27 million. The change from the previous guidance of greater than $29.8 million recognizes increasing house claims cost and lower investment income. The guidance assumes FY '21 large events remains the same as FY '20 at $9.7 million. We have maintained this assumption to allow more ready comparison to the previous guidance. While Tower is undertaking a number of actions to address increasing house claims, claims inflation remains a potential risk to this guidance. A 1% increase in loss ratio above Tower's assumptions will result in approximately $1.2 million reduction in underlying NPAT. Thank you, and I'll now hand back to Blair, who will provide an update on our strategy and outlook.

Thank you, Jeff. Today's results demonstrate the resilience of a customer and digitally-led Tower business even in the face of COVID and inflationary headwinds. We are continuing to grow to drive down expenses and to respond quickly to the changing economic environment. You can be confident that we are very focused on addressing the challenges we've identified, improving profitability and continuing to leverage our technology, customer and partnership advantage for growth. We have a clear and focused set of 5 strategic priorities. We are relentlessly focused on our customers, deepening our relationships with them through rewards, new products and other offerings that make sense and drive value. Our core strategy is around personal lines and small- to medium-sized commercial in New Zealand and the Pacific region. As you have seen today, we are leveraging the full capability of our cloud-based platform by using data and digital to attract more customers and partners to Tower. We are finding the best people to partner with and to get their help to keep innovating and delivering. And importantly, we are committed to maintaining a strong capital and solvency structure, demonstrating we are a strong and stable business that delivers value for shareholders. In today's challenging world, we've all learned a critical success factor is being able to quickly analyze challenges and opportunities, pivot and adapt. And to this end, digital and data are central to Tower. Our flagship business, Tower Direct, operates fully on our new platform. It's paving the way for other businesses, Partnerships and the Pacific. MyTower is at the center of our digital platform, a full online sales and service experience that now has over 100,000 registered users. MyTower allows us to have a richer, deeper relationship with our customers. Our Tower Direct business is growing strongly with 60% of Tower Direct new business now sold online. Around half of Tower Direct's customers have 2 or more risks with us. They also stay with Tower significantly longer on average, around twice that of a single product holder. And furthermore, the cost to acquire a customer online is around half that of the telephone. Our telephone strategy is to support customers with more complicated claims and service inquiries, ensuring the right inquiries and tasks are handled through the right medium. However, we want to be available to customers whenever and however they wish to connect with us, whether that's online or via the telephone. The heart of the MyTower strategy is that customers are more engaged and satisfied, buy more and stay longer. Unique partnerships distribution. A key element of our strategic focus has been on securing mutually beneficial partnerships that drive significant growth. In the half, we celebrated 30,000 insured risks with Trade Me Insurance customers, and we are in the process of renewing our special retail partnership with Trade Me for a further 5 years. We are providing insurance for a range of new corporate partners, including CSC Buying Group, the New Zealand Defence Force and Auckland Council. And today, we also announced a partnership with a leading Australian insurtech, Open, which will see Tower underwrite their new personalized insurance brand, Huddle, which is due to market in late 2021. We are building what we believe is a truly unique, new generation of insurance partnership model, one that relies less on higher commission and more on a technology capability, customer experience and more balanced and complementary referral arrangements with our partners. And core to our strategy is a quality, innovative, balanced product range which enables us to deepen our relationships with customers, improve revenue and increase retention. Last year, we acquired the referral rights for Club Marine, and we will shortly launch an end-to-end online boat experience. To keep pace with our customers' lifestyles and expectations around environmental concerns, we have also innovated our current products to cover electric vehicles, e-bikes and e-scooters. We're also creating new products in conjunction with partners. We were delighted to recently announce Tower is partnering with Allianz, one of the world's largest insurers, to launch our new Pet and Travel products in the coming months. Continuing to grow, partner and innovate as a leading digital and data business will only be possible with the support of our fantastic Tower team and the communities we serve. And it's particularly pleasing to see the cultural diversity across our business is strong with well over half of our people identifying as non-European. We continue to put measures in place to not only celebrate diversity, but also track and measure our progress to ensure we are continually developing as a business. Our ongoing digitization has enabled us to increase the flexibility and agility of our workforce, and 10% of our people now permanently work from home. For those of us in Auckland, we will soon move to a new 6 Green Star-rated building from August 2021. The new space will promote more agile ways of working, collaboration, creativity and relentless focus on our customers. We've made progress -- positive progress on measuring our New Zealand carbon footprint, and we will measure our Pacific footprint over the coming months. We will also develop and report on a carbon action plan with a view to reducing our carbon footprint and developing transparent climate reporting. As we have previously noted, our work with data science partners will help to better understand risks and also increase transparency around the effects of climate change. We look forward to sharing this information in the future. Investing for the long term. Tower is continuing to invest in initiatives that will bring attractive long-term growth and a stronger fundamentals to deliver shareholder value. And year-to-date, we have committed investments totaling $22 million, and we will continue to seek opportunities to invest in the business and look for further sensible and prudent investment opportunities. Tower is a well-capitalized business with a strong balance sheet and solvency margins. We have delivered a sound result with above-market premium growth. We have further improved our management expenses, and we are delighted to have resumed dividends in this half. However, Tower is far from the finished product, and we know there is work to be done. Looking forward, our focus is on driving shareholder value by accelerating growth and innovation through a relentless focus on customers, taking decisive action to address emerging challenges with claims inflation and continuing to invest in our digital and data platform to drive efficiency and support growth. We will be holding an Analyst Day in early September 2021, and we look forward to talking to you in more detail about our strategy to accelerate momentum. Thank you for your time this morning. I will now hand back to the operator to ask for questions.

[Operator Instructions] Your first question comes from the line of Andrew Buncombe from Macquarie Bank.

Just the first one, you've mentioned average house claim costs are rising at about 8%. Do you feel like you're repricing enough to account for this and to hold margins? Any color on that repricing side would be helpful.

Thanks, Andrew. Yes, the 8% growth was year-on-year to the 31st of March. I think our announcement last week flagged that there's potential for that to continue through the second half. Obviously, repricing initiatives come from a couple of places. We see our primary obligation is to ensure we work with the supply chain to avoid having to pass-through rating increases. But ultimately, the market would expect that there would be some flow-through. We also have to take into account the competitive landscape as well. We are actively working on that now. Generally speaking, there was always a cycle of rating increases going through any portfolio. We have just increased our focus now on the house claims, in particular, but inevitably could be other areas over the coming weeks.

Sure. That makes sense. And then the next one, what do you think is an achievable MER over the medium term? You've obviously called out the Direct portfolio in New Zealand is currently [ printing ] 31%. But at a group level, what do you think is achievable?

Thanks, again, Andrew. Look, I think we are trying to build the other 2 divisions into the image of the Tower Direct portfolio. We still think there's further room for improvement within the Tower Direct portfolio itself to get it below 30% in the medium term. As we've mentioned on several occasions, the EIS platform does allow growth without commensurate increase in management expenses. So we would be expecting all businesses to get closer to that 31% and the Direct business itself to get below that over the medium term.

That makes sense. And then just a final one from me. There's been new sort of articles going around in the last couple of weeks about EQC changing their building cap again. Can you just give us some thoughts on how that could potentially impact Tower if they increase that earthquake cap again, please?

Yes. I mean, obviously, the first impact would be that we no longer need to buy the same level of reinsurance cover that we do. And ultimately, that would reduce our component of customers' premiums. Of course, offsetting that is EQC. We then have to pass-through the cost of their increased program to all of New Zealand basically. I think Tower's view on that is that they need to be very careful if their assumption is that there would be a 0 net cost in New Zealand. So our preference would be a lower cap.