Stock Fundamentals

ICICI Lombard: Well-covered for the long term

Radhika Merwin | Updated on May 10, 2020 Published on May 10, 2020

Pain ahead for motor and health business, but focus on profitable segments and market share gains to aid earnings

A significant moderation in the growth of motor insurance business that was already under pressure, a slowdown in health business and a sizeable provision for diminution in the value of investments impacted the performance of ICICI Lombard in the latest March quarter. Disruption in business caused by Covid-19 could accentuate the pain in the coming quarters.

The motor portfolio is likely to be impacted by the subdued growth in new vehicles sales, no hike in third-party (TP) premium rates (for now) and postponement of policy renewals. Retail health indemnity and health benefit segments could also witness moderation in growth.

A likely increase in claims in the motor and health segment and a notable fall in the realised return on investment book could also impact earnings going ahead.

That said, ICICI Lombard’s long-term focus on profitable segments, remaining selective in businesses it underwrites, healthy solvency ratio, market leadership and a strong focus on technology should help it tide over volatile times. At the current price, the stock is trading at about 46 times FY20 earnings; the stock traded at similar levels a year ago.

The stock has fallen by about 12 per cent so far this year. Investors with a long-term horizon can continue to hold the stock.

Faces headwinds

In FY20, the company’s gross direct premium income (GDPI) reported a decline of 8.1 per cent y-o-y. After excluding crop (the company took a conscious call to exit crop business), GDPI, however, grew by 10.5 per cent y-o-y, in line with the industry growth.

In the March quarter, GDPI grew by 2.9 per cent (excluding the crop segment) against inthe dustry growth of 4.3 per cent.

The lower-than-industry growth was mainly due to the company’s decision to remain cautious on the motor TP business. In the March quarter, the motor TP GDPI declined by 11.6 per cent y-o-y.

That said, the company has been focussing on the more profitable motor own-damage (OD) business, which saw a growth of 3 per cent in the March quarter.

The traction is decent, given that the structural change in the segment (regulatory changes) was impacting the business and the Covid-19 induced disruption only accentuated the pain.

In September 2018, the mandatory long-term insurance that kicked in, required customers to take mandatory five-year TP cover for new two-wheelers and three year for cars. Insurers vying for the more profitable motor OD business have been competing intensely on pricing, which have led to a fall in overall OD premiums in the industry.

The weak auto volumes impacted the business further.

The pandemic outbreak and lockdown further impacted the motor business, with new vehicle sales taking a hit. Also, the insurance regulator IRDAI has given a forbearance on renewal of motor TP and health policies falling due between March 25 and May 3 (payment can be made on or before May 15). This also impacted the renewal business.

Going ahead, lower premium growth, lower renewals and no hike in TP rates will continue to impact the business. The regulator had notified that insurance companies have to continue to charge TP premium rates that were applicable for FY20, and the earlier hike in TP rates for FY21 will not apply until further notice. While there has been a fall in the claims-loss ratio (ratio of claims incurred to net earned premium) of both motor OD and TP in the March quarter owing to the lockdown, there could be an increase once the lockdown is lifted. Also, lower premium growth can further lead to increase in claims ratio.

On the health segment, too, growth has been impacted due to the ongoing lockdown and lower disbursement from bank and NBFCs. Health, travel segment witnessed a 2.6 per cent GDPI growth in the March quarter. The increase in the overall commission and expense ratio during the quarter was mainly due to the lower commission on health reinsurance. Growth could remain subdued in the near term, but should increase over the long run. The claims ratio under health has slightly inched up in the March quarter; it could increase further in the coming quarter. However, the company expects to mitigate risk by taking a cautious approach to government health schemes; within its benefit portfolio, it is only offering group policies to diversify the risk.

After an increase in rates across eight sectors from March 2019, reinsurance rates were increased under the fire segment, with effect from January 2020. This should aid growth in the fire segment. However, marine and engineering segments may witness a decline due to reduced economic activity. In FY20, property and casualty GDPI (fire, engineering, marine, liability) grew by 20.4 per cent y-o-y.

Investment book

In the March quarter, the loss ratio fell to 69.9 per cent from 71.7 per cent in the December quarter, mainly on the back of an improvement in motor segment claims. Two ratios — loss and combined — are used to measure the profitability in insurance business. While loss ratio is the total incurred losses in relation to the total premiums, combined ratio measures the incurred losses and expenses in relation to the total premiums.

ICICI Lombards’ combined ratio inched up to 100.1 per cent in the March quarter (from 98.7 per cent in the December quarter) due to higher expense and commission ratio.

Profitability is also dependent on float management. ICICI Lombard has one of the largest investment books among private players (at ₹26,327 crore as of March 2020). In the light of interest rates softening and the provision of ₹120 crore made for diminution in investments, the realised return on the investment book has come down notably to 7.9 per cent in FY20, from 9.4 per cent in FY19. Going ahead, realised return could moderate further if rates continue to fall.

 

This can impact the overall earnings of the company. However, ICICI Lombard’s strong solvency ratio of 2.17 times, market leadership and long-term focus on profitable segments lend comfort in uncertain times.

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Published on May 10, 2020
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