Insurance Australia Group (ASX:IAG)

Peter Harmer
MD & CEO
Market Cap (AUD): 19.48B
Sector: Financials
Last Trade (AUD): 8.45 +0.02 (+0.24%)
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1. About

IAG is the parent company of a general insurance group with controlled operations in Australia, New Zealand, Thailand, Vietnam, and Indonesia. Its businesses underwrite over $11.4 B of premium per annum, selling insurance under many leading brands, including NRMA Insurance, CGU, SGIO, SGIC, Swann Insurance and WFI (Australia); NZI, State, AMI and Lumley Insurance (New Zealand); Safety and NZI (Thailand);  AAA Assurance (Vietnam); and Asuransi Parolamas (Indonesia). IAG also has interests in general insurance joint ventures in Malaysia and India.

2. Business model

 

The Company operates the following divisions:[1]

 

Division

Revenue ($M)

% of Revenue

% of Profit (before Int, Tax )

Profit drivers[2]

Consumer Division (Australia)

$8,434

51.4%

68.9%

  • The Group's profit after tax for the year was $1,001 M(2017: $1,005 M). After adjusting for non-controlling interests in the Group result, net profit attributable to the shareholders of the Company was $923 M (2017: $929 M), similar to the prior year
  • Greater than $80 million contraction in contribution from investment income on shareholders’ funds, including the effect of lower equity market returns
  • A $34 M increase in amortisation and impairment expense, after the recognition of a write-down on certain Asian assets in the first half
  • IAG’s current year reported insurance profit of $1,407 M (2017: $1,270 M) was 10.8% higher than the prior year. The reported insurance margin increased to 18.3% (2017: 15.5%)

Business Division (Australia)

$4,473

27.3%

15.3%

New Zealand

$3,267

19.9%

15.5%

Corporate and Other

$237

1.4%

0.4%

3. Strategy

 

Major strategies include:[3]

 

At IAG, its purpose is to make your world a safer place: IAG’s purpose means that whether you are a customer, partner, employee, shareholder or part of the communities IAG serves, IAG exists to ‘make your world a safer place’. IAG believes its purpose will enable it to become a more sustainable business over the long term, and deliver stronger and more consistent returns for its shareholders.

IAG's strategy is to optimise its core insurance business while creating future growth options.

Financial targets

IAG is focused on delivering through-the-cycle targets of:

  • cash return on equity (ROE) 1.5x weighted average cost of capital (WACC);  
  • a dividend payout of 60-80% of cash earnings;  
  • top quartile total shareholder return (TSR)
  • approximately 10% compound earnings per share (EPS) growth

 

Strategic Priorities

IAG has identified three key strategic priorities, supported by organisational capabilities, to deliver its strategy

 

Customer – world-leading customer experiences:

Create a delivery platform that transforms customer experiences;  

  • Better connect customers and automate processes, enabling IAG to reach more customers in a timely manner;  
  • Develop an innovation approach which provides the ability to think differently and deliver quickly;  
  • Embed cognitive capabilities and artificial intelligence that anticipate customers’ needs
  • Use data to power decision-making, allowing IAG to better understand its customers.

Simplification – simplified, modular and lower cost operating model:

  • Reduce organisational complexity by consolidating technology platforms, harmonising products, simplifying processes and systems, and executing the technology strategy;  
  • Leverage operational partners to optimise the operating model and drive scale economies across the value chain
  • Improve allocation and maximise utilisation of the preferred repairer network to reduce average claim size

Agility – an agile organisation distinguished by innovation, speed and execution skills

  • Create a disciplined approach to IAG’s management and leadership, including building stronger role clarity and introducing agile ways of working
  • Build a talent pipeline based on the skills required to deliver IAG's strategy and help IAG people transition to the future of work
  • Be recognised as a purpose-led organisation that shapes its internal and external environment.

4. Markets

 

The Company operates in markets including:[4]

 

Industry (Australia)

Industry Revenue (2018)

Annual growth (13-18)

General Insurance

$64 billion

2.2%

5. Competition

 

Major competitors include:[5]

 

  • Westpac Banking Corporation
  • QBE Insurance Group (ASX:QBE)
  • Suncorp-Metway Limited

6. History

 

1981[6]   

NRMA Insurance had grown to be the largest non-government home and contents insurer in NSW and the ACT

 

1994   

NRMA expanded interstate, with eight offices in Victoria, and a move into Queensland

 

1998   

NRMA acquired the SGIO Group, including SGIO Insurance, the largest fire and general insurer in Western Australia, and SGIC, the largest general insurer in South Australia. It also entered the Asian market, acquiring an interest in Thailand's Safety Insurance

 

1999   

A joint venture was formed between the insurance businesses of NRMA and Royal Automobile Club of Victoria (RACV)

 

2000   

NRMA got demutualised in 2000, separating its road services and insurance operations. The new NRMA Insurance Group Limited was listed on the ASX

 

2001   

The Group acquired New Zealand’s largest general insurance company, State Insurance, and the policies and renewal rights to HIH's Australian workers' compensation business

 

2002   

NRMA Insurance Group Limited became Insurance Australia Group Limited (IAG)

 

2003   

IAG acquired CGU in Australia (including Swann Insurance), NZI in New Zealand, and Zurich Insurance's NSW workers' compensation business

 

2005   

IAG expanded its presence in Asia, increasing its business in Thailand and moving into Malaysia

 

2007   

IAG acquired UK insurer, Equity Insurance Group

 

2009   

IAG established a joint venture with the State Bank of India to offer general insurance products

 

2012   

IAG completed the purchase of AMI insurance, the second largest direct personal lines insurer in New Zealand

IAG completed the acquisition of a 20% strategic interest in Bohai Property Insurance Company Ltd, headquartered in Tianjin in Northern China

IAG’s 49%-owned Malaysian associate, AmG completed the acquisition of Kurnia Insurans (Malaysia) Berhad, making AmG the largest general insurer in Malaysia, with 13% of Malaysia's general insurance market and a clear number one position in motor insurance

IAG completed the acquisition of 30% of Vietnam-based AAA Assurance Corporation (AAA)

 

2013   

IAG completed the sale of the Equity Red Star business to Aquiline Capital Partners

IAG announced an agreement to purchase the insurance underwriting businesses of Wesfarmers Limited for $1.845 billion, strengthening its position in its home markets of Australia and New Zealand

 

2014   

IAG completed the acquisition of Wesfarmers’ insurance underwriting businesses in Australia and New Zealand

 

2015   

IAG announced a strategic relationship agreement to establish a long-term partnership with Berkshire Hathaway Inc, one of the world’s largest and most successful companies.

 

2016   

AG launched Firemark Ventures a $75-million fund to invest in, and partner with, both start-ups and established businesses that have the potential to disrupt the value chain.

 

2017   

IAG announced the launch of Firemark Labs, an InsurTech innovation hub in Singapore, in a move that will connect the insurer to Singapore's global innovation network and vibrant entrepreneurial community

IAG announced the creation of a single Australian division, the Australia Division, to simplify IAG’s operating model by bringing together the former Australian Consumer, Australian Business, Operations and Satellite Divisions

 

2018   

IAG announces sale of operations in Thailand, Indonesia and Vietnam

7. Team

 

Board of Directors[7]

 

Elizabeth Bryan AM – Chairman and Independent Non-Executive Director

Peter Harmer – Managing Director & Chief Executive Officer, Executive Director

Duncan Boyle – Independent Non- Executive Director

Jonathan (Jon) Nicholson – Independent Non-Executive Director

Hugh Fletcher – Independent Non-Executive Director

Dr. Helen Nugent AO – Independent Non-Executive Director

Sheila McGregor – Independent Non-Executive Director

Tom Pockett – Independent Non-Executive Director

George Savvides – Independent Non-Executive Director

Michelle Tredenick – Independent Non-Executive Director

 

Management Team

 

Peter Harmer – Managing Director and Chief Executive Officer

Julie Batch – Chief Customer Officer

Ben Bessell – EGM Business Distribution and Group Executive

Rebecca Farrell – Acting General Counsel and Company Secretary

Duncan Brain – Chief Executive, Asia

David Harrington – Group Executive Strategy and Corporate Development

Nick Hawkins – Chief Financial Officer

Jacki Johnson – Group Executive, People, Performance & Reputation

Mark Milliner – CEO, Australia

Neil Morgan – Group Executive Technology

Craig Olsen – Chief Executive New Zealand

David Watts – Chief Risk Officer


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8. Financials

 

2018 Full Year Results Presentation

 

Financial Year 2017/2018 (ended 30 June):[8]

 

Divisions

Revenue ($M)

% Change

Profit (before Income Tax) ($M)

% Change

Consumer Division (Australia)

$8,434

3.3%

$971

3.2%

Business Division (Australia)

$4,473

5.5%

$216

23.4%

New Zealand

$3,267

(0.3%)

$218

74.4%

Corporate and Other

$237

(24.3%)

$5

(95.1%)

Total

$16,411

2.6%

$1410

5.0%

9. Risk

 

Major risks include:[9]

 

Strategic Risk

Strategic risk is defined as the risk of not achieving corporate or strategic goals due to

  • Poor business decisions regarding future business plans and strategies, and/or
  • lack of responsiveness to changes in the business environment

Strategic risk is managed by the IAG Group Leadership Team with Board oversight. Key elements in the management of strategy and strategic risk include a rigorous strategic planning program and associated oversight arrangements, with progress against strategic priorities regularly considered. IAG implements active portfolio management of its insurance operations. This involves robust and regular review of the portfolios that leads to informed decisions on the allocation of assets (scarce resources) in the most efficient and value-accretive way in order to achieve IAG's strategic objectives. Consideration of both current and future value is critical in the process. Portfolio management can involve the acquisition or divestment of other entities, for which IAG has implemented a Merger & Acquisitions Framework to help ensure the associated risks are appropriately managed. Strategic risk mitigation is further enhanced by the accountabilities of the Customer Labs function operated under the Chief Customer Officer. This function ensures IAG is accessing data-driven customer insights and reacting to such through the innovation of products, services and adjacencies.

 

Insurance Risk

Insurance risk is defined as the risk that the Group is exposed to financial loss as a result of:  

  • Inadequate or inappropriate underwriting
  • Inadequate or inappropriate product design and pricing
  • Inadequate or inappropriate reserving including unforeseen, unknown or unintended liabilities that may eventuate
  • inadequate or inappropriate claims management
  • insurance concentration risk (e.g. by locality, segment, or distribution channel)

 

Reinsurance Risk

Reinsurance risk is defined as the risk of:

  • insufficient or inappropriate reinsurance coverage
  • inadequate underwriting and/or pricing of reinsurance exposures retained
  • inadequate or inappropriate reinsurance recovery management
  • reinsurance arrangements not being legally binding
  • reinsurance concentration risk
  • credit counterparty concentration risk to reinsurers, which is covered under the credit risk section of financial risk.

 

Financial Risks

Financial risk is defined as the risk of:

  • Adverse movements in market prices (foreign exchange, equities, credit spreads, interest rates etc) or inappropriate concentration within the investments funds
  • A counterparty failing to meet its obligations (credit risk)
  • Inadequate liquidity
  • Inappropriate capital management

 

Market Risk

Foreign Exchange Risk

IAG operates internationally and so is exposed to foreign exchange risk from various activities conducted in the normal course of business. Foreign exchange exposure is managed by IAG Asset Management and the Group Treasury function.

 

Price Risk

The Group has exposure to equity price risk through its investments in equities (both directly and through certain trusts) and the use of equity-related derivative contracts.

 

Interest Rate Risk

Fixed interest rate assets and liabilities are exposed to changes in market value derived from mark-to-market revaluations. Financial assets and liabilities with floating interest rates create cash flow variability. IAG's interest rate risk arises primarily from fluctuations in the valuation of investments in fixed interest-bearing securities recognised at fair value and from the underwriting of general insurance contracts, which creates exposure to the risk that interest rate movements materially impact the fair value of the insurance liabilities (the insurance liabilities are discounted with reference to the government yields). Movements in interest rates should have minimal impact on the insurance profit or loss due to IAG's policy of investing in assets backing insurance liabilities principally in fixed interest securities that are closely matched to the duration of the insurance liabilities (period to settlement). Therefore, movements in the fair value measurement of the assets broadly offset the impact of movements in the insurance liabilities from changes in interest rates.

 

Credit risk

Concentrations of credit risk exist where a number of counterparties have similar economic characteristics. IAG's credit risk arises predominantly from investment activities, reinsurance activities, premium debtors and dealings with other intermediaries. IAG maintains a credit risk appetite, which is approved by the Board, and a Group Credit Risk Policy that is consistent with the Board's risk appetite. The policy outlines the framework and procedures in place to ensure an adequate and appropriate level of monitoring and management of credit quality throughout IAG with the Group Treasury function responsible for implementation. IAG maintains sufficiently diverse credit exposures to avoid a concentration charge added to the regulatory capital requirement. The maximum exposure to credit risk loss as at reporting date is the carrying amount of the assets/receivables on the balance sheet as they are measured at fair value.

 

Investments

IAG is exposed to credit risk from investments in third parties, for example, debt or similar securities issued by those companies. At the reporting date, there are material concentrations of credit risk to the banking sector, in particular, the four major Australian banks. The credit risk relating to investments is regularly monitored and assessed, with maximum exposures limited by credit rating, counterparty, industry, and geography. The assets backing insurance liabilities include predominantly high credit quality investments, such as government securities and other investment grade securities, which reduce the risk of default

 

Reinsurance Recoveries on Paid Claims

Reinsurance arrangements mitigate insurance risk but expose IAG to credit risk. Reinsurance is placed with companies (reinsurers) based on an evaluation of their financial strength, terms of coverage and price. At the reporting date, there are material concentrations of credit risk in relation to reinsurance recoverable, in particular to large global reinsurers. IAG has clearly defined policies for the approval and management of credit risk in relation to reinsurers. IAG monitors the financial condition of its reinsurers on an ongoing basis and periodically reviews the reinsurers’ ability to fulfill their obligations under respective existing and future reinsurance contracts. Some of the reinsurers are domiciled outside the jurisdictions in which IAG operates and so there is the potential for additional risks such as country risk and transfer risk. It is IAG policy to only deal with reinsurers with credit ratings of at least Standard & Poor’s BBB+ (or other rating agency equivalent) without collateralisation, other than a mandatory placement to meet local regulatory requirements. Where the credit rating of a reinsurer falls below the required quality during the period of risk a contractual right to replace the counterparty exists. Some of the reinsurance protection is purchased on a ‘collateralised’ basis, where reinsurers either deposit funds equivalent to their participation (trust or loss deposits) or provide other forms of collateral (letters of credit).

 

Premium Receivable

The majority of the premium receivable balance relates to policies which are paid on a monthly instalment basis. The late payment of amounts due under such arrangements allows for the cancellation of the related insurance contract eliminating both the credit risk and insurance risk for the unpaid amounts. Upon cancellation of a policy the outstanding premium receivable and revenue is reversed. IAG is also exposed to the credit risk associated with brokers and other intermediaries when premium is collected via these intermediaries. IAG’s exposure is regularly monitored by ALCo with reference to aggregated exposure, credit rating, internal credit limits and ageing of receivables by counterparty.

 

Liquidity Risk

IAG's liquidity position is derived from operating cash flows, access to liquidity through related bodies corporate and interestbearing liabilities (with some denominated in different currencies and with different maturities). IAG complies with its liquidity risk management practices, which include a Group policy, and has the framework and procedures in place to ensure an adequate and appropriate level of monitoring and management of liquidity.

 

Outstanding Claims Liability and Investments

Underwriting insurance contracts expose IAG to liquidity risk through the obligation to make payment for claims of unknown amounts on unknown dates. The assets backing insurance liabilities can generally be readily sold or exchanged for cash to settle claims and are managed in accordance with the policy of broadly matching the overall maturity profile to the estimated pattern of claim payments.

 

Capital management risk

IAG's capital management strategy plays a central role in managing risk to create shareholder value whilst meeting the objective of maintaining an appropriate level of capital to protect policyholders' and lenders' interests and meet regulatory requirements. IAG has a documented description of the capital management process (ICAAP) and reports annually on the operation of the ICAAP to the Board, together with a forward-looking estimate of expected capital utilisation (as represented in IAG’s Capital Plan) and capital resilience (ICAAP Annual Report). Adequacy of IAG's capital position is judged relative to the Board's Capital RAS, with an internal capital model (ICM) used to assess the risks of breaching the minimum levels established in the Capital RAS. Scenario analysis and stress testing are important adjuncts to the ICM. The amount of capital required varies according to the business underwritten, the extent of reinsurance and investment asset allocation.

 

Operational Risk

Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people, and systems or from external events. When controls fail, an operational risk incident can cause injury, damage to reputation, have legal or regulatory implications or can lead to financial loss. IAG does not aim to eliminate all operational risks but manages these by initiating an appropriate control framework and by monitoring and managing potential risks. The Board is responsible for oversight of the Operational Risk Framework and approval of the Operational Risk Management Policy, and any changes to it. The Board and Group Leadership Team believe an effective, documented and structured approach to operational risk is a key part of the broader RMF that is outlined in IAG's RMS.

IAG's Operational Risk Framework, inclusive of the Group Operational Risk Policy, operates within IAG's RMF. The Operational Risk Framework and supporting Operational Risk Policy and procedures aim to ensure that consistent governance mechanisms and practices are in place and that activities are undertaken which involve operational risk are continually assessed and managed with appropriate regard to the Group's RAS and the achievement of IAG's objectives. The Operational Risk Framework is supported by aligned frameworks, policies, and procedures for key aspects of operational risk. For example, Fraud and Business Continuity Frameworks and policies are in place as are various other operational risk policies. Management and staff are responsible for identifying, assessing and managing operational risks in accordance with their roles and responsibilities. IAG's Internal Audit function also reviews the effectiveness of controls and processes surrounding operational risk.

 

Regulatory Risk

Regulatory Risk and Compliance is defined as failure or inability to comply with applicable laws, regulations or codes excluding failure of staff to adhere to internal policies/procedures and meeting contractual obligations. IAG works closely with regulators and regularly monitors developments across its international operations to assess potential impacts on its ongoing ability to meet the various regulatory requirements. IAG acknowledges that a Royal Commission is the highest level of public inquiry in Australia. The Board, together with Management, is committed to cooperating fully with the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (the Royal Commission). IAG has provided submissions to the Royal Commission, and resources and expertise have been allocated to ensure any request arising from the Royal Commission is addressed with the appropriate consideration and importance. While it is likely the Royal Commission will make recommendations that could impact the broader financial services landscape in Australia, it remains too early to predict the nature and extent of these changes and any consequential impact these may have for IAG's businesses.