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Financial services giant ignores recession talk

23 February 2009 Gareth Stokes

With volumes of negative news blotting the financial services landscape you’d expect Discovery Limited’s results to be covered in red ink! But that’s not the case. The locally listed healthcare, insurance and investment group has rewarded shareholders with a solid set of numbers for the six-months to December 2008. It’s certainly not in as much difficult as the country’s major banks, which are writing off millions to impairments. And its 25.5c per share interim dividend makes a mockery of South Africa’s bets known ‘blue chip’ – Anglo American – which recently told shareholders they shouldn’t bank on dividends in the next couple of reporting periods.

But it wasn’t all plain sailing. Revenues were up from R3.4bn to R4.7bn; but tough economic conditions contributed to a slight reduction in profit from ordinary operations (down from R832m to R783m) and profit attributable to ordinary shareholders (from R538m to R490m). If you want to put a more positive spin on the results then operating profit from the group’s established businesses rose 31% to R1.052bn while new business (excluding the US-based Destiny Health) was up 28% to R2.798bn. There is some good news on the regulatory front too. After a lengthy battle the company’s Discovery Health Medical Schemes reached the 25% solvency level set by the Council for Medical Schemes, boasting R5.2bn in reserves. With no debt and a capital adequacy ratio of 6.4 times there is plenty of reason for cheer.

South Africa leads the way

The majority of Discovery’s profit is still earned from its South African healthcare and life assurance operations. According to management, “Discovery Health’s fundamental purpose is to provide affordable access to quality healthcare on a sustainable basis.” The company’s Discovery Health Medical Scheme remains the largest in the country, covering 2.1m lives. Membership grew by 4% in the latest six-months and the group managed to keep the lapse rate to less than 4%. It appears that consumers are still happy with the service they receive. Discovery says 97% of members chose to remain on or enhance their existing benefit packages for 2009 despite difficult conditions. We’ll have to wait to see what impact corporate insolvencies and retrenchments have on the book in the next 12-months.

It might come as a surprise that operating profit at Discovery Health grew 22% (to R475m) despite repeated claims that healthcare costs are on the rise. We have to question why the mandatory inflation plus increase was forced on individual medical aid consumers at the beginning of this year! Look out for a very impressive improvement in this profit number as inflation drops to around 6% by Q3 2009.

Activities at the company’s local life assurance operations were also praiseworthy. “Discovery Life’s performance was pleasing and exceeded expectation,” says Discovery. This result is bolstered by the company’s strong distribution model. Discovery’s “agency force, Discovery Financial Consultants, continued to grow with agents’ production significantly more than industry standards.” And there are more than 1 600 brokers selling the Discovery Invest product too. Little wonder then that business at the company’s life and investment business surged 58% to R993m for the six-months. Management notes that the increase in the lapse rate over the period was in line with expectations given the economic outlook.

Offshore business powering ahead

Discovery’ UK-based joint ventures with Prudential remain on track. The good news for shareholders is that the health side of the business, PruHealth should report a profit for the full calendar year. Discovery says the “quality and scale of PruHealth is of considerable importance, as it forms the foundation for [their] business model in the UK.” In the long-term “Vitality and the integration of PruProtect and PruHealth will provide the same product, risk management and integration advantages as in the South African market.” PruHealth’s new business grew 9% to R271m and the lapse rates remain low.

But there’s still work to be done at life insurer PruProtect. Discovery expressed disappointment when commenting on PruProtect for the full-year to June 2008. Since then, two initiatives have been put in place to address these concerns. First, the franchise distribution channel has been improved. There are now 12 franchises with 91 dedicated account managers throughout the UK, while a great deal of effort has gone to securing a telephone account management system. Negotiations are underway “to secure contracts with a variety of multi-tier and single-tier organisations that will be serviced by these two distribution channels.” The second initiative was to re-launch the product structure to address consumer resistance to increasing premium rates during the term of the policy. It seems Discovery is still tweaking its UK business to accommodate differences in the UK and South African insurance markets.

The complex winding down of US-based Destiny Health is on track and within budget. Discovery has reduced membership from 33 282 in March 2008 to 3 000 in February 2009 and is confident of completing the exit from this market within its $30m budget.

Editor’s thoughts:
It wasn’t all plain sailing for Discovery in the six months to December 2008. Large declines in listed equities resulted in R230m in ‘unrealised losses on investments’ being included in the company’s statement of equity – and that’s after R63m was ‘written off’ to the profit and loss account. Do you agree with the accounting tactics used by locally listed insurance companies to ‘gloss over’ poor performances on shareholder investments? Add your comments below, or send them to gareth@fanews.co.za

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