Stock performance diverging from robust fundamentals and outlook
Notwithstanding turbulence caused by the severe Delta wave of Covid-19 in Q1FY22, the four listed private life insurers delivered an impressive show overall in FY22 in terms of topline growth, profitability, VNB margins and operating RoEV (including excess Covid-19 mortality being in teens). Looking at medium-term value creation by these companies in the last three to five years, the report card looks pretty solid, with absolute VNB compounding in excess of 20% and EV compounding over 16-20%. This robust performance becomes even more praiseworthy considering that it occurred against the backdrop of two years of disruption caused by a once-in-a-decades pandemic event, Covid-19. Despite such a splendid performance in a tough situation, shares of private life insurers have seen material unwarranted corrections. The current market price seems to be ignoring either growth potential or franchise strength. We reiterate our positive view on the sector and place our pecking order as SBILIFE (Buy), MAXF (Buy), HDFCLIFE (Buy) and IPRULIFE (Buy).
* Impressive navigation of Covid-19 challenged FY22: Despite Covid Delta wave-led excess mortality, listed private life insurers delivered respectable operating RoEV of ~16- 19% in FY22, with the exception of IPRU (~11%). They reported a 1-2ppts expansion in the VNB margin, which reached an all-time high for all. Notably, the severe impact of the Delta wave was well managed, and it turned out to be more of a P&L event than a balance sheet event, with the insurers’ solvency positions remaining intact even after increasing the retention limit in protection policies in the backdrop of a price hike. (Exhibit 2-5)
* Sustained EV and VNB compounding over 3-5 years: To eliminate the one-off base impact and to smoothen out variances and the impact of assumption changes, mediumterm EV compounding, along with VNB growth, is one of the better ways to measure value creation by life insurers. On 3/5-year measures, these companies have delivered a VNB CAGR of ~20-25% and EV compounding at ~15-20%. Excluding the muted performance of IPRU due to anemic APE growth, private life insurers generated healthy returns over 3/5 years, despite two years of Covid-led disruption. (Exhibit 1)
* Limited divergence in EV and VNB compounding limits scope of wide valuation gap: As we argued in our sector initiation note (Structural drivers in place for long haul growth), in the Indian life insurance space, unlike banks, the scope for a very divergent performance trend is limited once the companies have achieved scale and have a well-running brand and distribution engine. Their performance in the last three to five years, again, endorses our view of convergent performance parameters, with a slight exception of IPRU, which has delivered slightly weaker VNB and EV compounding. This narrowband performance delivery over the medium to long term will narrow the valuation gap among different players, with the valuation premium attributed to limited reasons like consistency in performance and management perception. (Exhibit 1,14)
* Market-implied valuation multiples completely ignoring franchise strength and growth story: The current implied market multiples for the private listed life insurers seem to be building in a distress scenario by either ignoring growth or ignoring franchise strength (in turn applying a very high Cost of Equity). Considering the factors such as the cost of equity, terminal growth, high growth duration and high growth rate, our sensitivity analysis suggests that for most of these names, the market-implied multiples are too pessimistic. (Exhibit 6-13)
* Medium-term trend intact; private listed life insurers poised to strengthen their position: For the life insurance industry, short-term disruptions have little impact on business and should be ignored, unless they alter the long-term story. And, the long-term story of these private life insurers, that they are sustainably gaining market share from LIC, remains unchanged. Beyond near-term turbulence, the sector’s RWRP growth should broadly track nominal GDP growth, with private leaders growing faster than that and LIC growing slower. In addition, the strength of private life insurers’ balance sheets and their business models has been well affirmed during the deadly second wave of Covid-19.
* High-quality franchise available at attractive valuation; reiterate our positive view: The life insurance stocks corrected materially in the last 3-6 months due to several extraneous factors such as the impending LIC IPO, FII outflows and some corporate issues pertaining to some of these private listed life insurers. This correction has come amid no meaningful deterioration in the operating or financial outlook of these companies. This has led to a situation where these life insurers are trading on 1Y FWD P/EV multiples almost not seen in the past, except for the couple of months during the first Covid-19 wave (Exhibit 14). Considering the risk-reward proposition reflected in growth longevity and valuation multiples, our pecking order in the sector is SBILIFE (Buy), MAXF (Buy), HDFCLIFE (Buy) and IPRULIFE (Buy). (Exhibit 15)
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