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Robust growth outlook, attractive valuations

* Star Health’s stock performance has been under pressure due to concerns over business model sustainability for standalone health insurers (SAHIs) if the government modifies the Insurance Act to allow a composite license.

* We note that SAHIs have inherent business model strengths that are difficult to replicate in a short time, such as a wide product portfolio, deep engagement with hospitals, claims processing capabilities and underwriting capabilities.

* On the other hand, life insurers have built an agency network over the years that gives them an advantage. Nevertheless, there is an overlap of life insurance agents having tie-ups with health insurers and changing the same would not be easy.

* In line with its guidance, Star Health delivered 18-20% premium growth in Apr-May'24. In the medium term, we expect combined ratio improvement to be driven by an increase in the share of its bancassurance channel (mainly credit-linked benefits-based products) and unwinding of URR from 1) the price hike of FHO implemented in FY24 and 2) a rising share of long-term products.

* We expect Star Health to report a CAGR of 18%/29% in NEP/PAT over FY24- 26E and RoE to improve to 17% in FY26 from 13% in FY24. The stock trades at FY26E P/E of 21x. We maintain BUY with a one-year TP of INR730.

Composite license: Inherent business model bodes well for SAHIs

Recently, Mr. Siddhartha Mohanty, Chairman of Life Insurance Corp. of India (LIC), made an announcement that the insurer may enter the health insurance segment and can explore inorganic options if a composite license is approved by the government. This move would need a change in the Insurance Act. After this announcement, concerns have been raised around the sustainability of the leadership of SAHIs. The key concern is that life insurers will disrupt the business model and SAHIs could lose market share. With the entry of new players, the market share loss is inevitable, but we note that SAHIs’ inherent business model still gives them an advantage:

* Claims processing capabilities: In FY23, the industry processed 27.5m health insurance claims vs. 2.3m life insurance claims. The frequency of claims in health insurance and the complexity of claims processing is multifold of life insurance claims. SAHIs have built robust processes, which have evolved over the years using the historical claims experience. This is difficult to replicate.

* Hospital network: SAHIs have developed deep relationships and engagement with hospital networks in the country and have set up network agreements, which offer a win-win deal to all stakeholders (customer, insurer and hospital). Star Health/CARE/Niva Bupa/Manipal Cigna have arrangements with 14,295/9,400+/10,000+/8,500+ hospitals.

* Product innovation: SAHIs, through their robust database on medical history of Indian population, have been launching specialized products, such as cancer care, diabetes care, senior citizen, young star and women specific. Emulating the same in the initial stages would be a challenge for life insurers.

Agency strength of life insurers a key distribution advantage

* Life insurance companies have been increasing their agency count over the past few years. The total count for the industry/private players/LIC has gone up by 27%/38%/17% between FY20 and FY24. In FY24, the industry increased the agency count by 10.6%. ? We note that the agency channel dominates retail health distribution with a 73% share for the industry in FY23.

* A majority of the agents selling health insurance products are associated with life insurance companies. In case a composite license is allowed, shifting the customer base from the existing health insurance company to another player will be a tall task.

Product mix likely to be favorable

* Star Health is focusing on improving its product mix, wherein the share of creditlinked benefits based products sold via the bancassurance channel is expected to double over the next few years from 5% in FY24.

* Additionally, the share of long-term policies (greater than one-year term) has increased to 6%. As URR unwinds into NEP from these businesses, we expect improvements in the combined ratio. ? Similarly, the price hike implemented for renewal policies of Family Health Optima benefitted GWP in FY24, but will be earned as NEP in FY25, which will help the combined ratio.

Expanding branch and hospital network

* Star Health has the deepest branch presence in the country among SAHIs and private players. This bodes well for a granular growth over the medium term.

* Of over 19,000 pin codes in India, the company is present in 17,106 pin codes via its sales distribution network.

* Even in terms of hospital network, it has been expanding its presence and deepening its association.

* The ratio of hospitals with agreements to total hospitals increased from 65% in FY21 to 74% in FY23. Resultantly, the share of cashless claims being processed at these hospitals increased from 55% in FY21 to 74% in FY24.

Loss ratios to improve in FY25

* About 87% of paid claims in FY24 were cashless vs. 80% in FY23. Cashless TAT improved with 95% of claims being settled within two hours.

* Around 34% of agreed network hospitals (representing 75% of the cashless claims) have been on-boarded under the authorized auto adjudication initiative. This helps to drastically reduce TAT.

* Star Health has also tightened its underwriting standards to enhance its focus on quality business, leading to recalibration of some geographies and portability business.

* Furthermore, benefits of price hikes, mix shifting toward benefit-based products and further gains from fraud detection will help reduce the overall loss ratio.

Valuation and view: Focusing on profitable growth; reiterate BUY

* Star Health has tightened its underwriting standards to focus on high-quality business. We remain optimistic about the overall prospects for Star Health, backed by: a) strong growth in retail health, given under-penetration, b) strong push from the banca channel, c) sustained growth in specialized products, and d) deepening presence.

* Star Health is expected to increase prices by 15-20% in 1QFY25 for its senior citizen health insurance product and Young Star insurance product. These products account for ~10% of the total premium.

* We believe that Star Health can deliver long-term growth with the investments made in profitable channels and products. We reiterate our BUY rating on the stock with a TP of INR730 (based on 30x FY26E EPS).

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