Mutual & Federal warns of investment income slump
Mutual & Federal (M&F), one of the country’s top short-term insurers, won’t remember 2008 fondly. Aside from the dismal performance from listed equities – which severely dented the investment income at practically every financial services company in South Africa – M&F faced a number of operational challenges. Some of these challenges were introduced by management – necessary measures to right-size the company after its lethargic first half – while others were totally beyond the group’s control.
Management’s changes came in response to a disappointing underwriting result which led to a deficit of R23m for the first six months of 2008. M&F got the balance between insurance premiums and claims paid totally wrong. The result was in stark contrast to rival insurer Santam which achieved an underwriting margin of 5.7% on its local business over the same period. To address this problem M&F undertook an “internal staff and infrastructure reorganisation,” reducing headcount by approximately 21% (or 600 people) and cancelling a number of poorly performing group schemes.
A massive blow to investor confidence
Like most of its competitors, M&F also faced declining premiums on risk insurance and a staggering increase in the “frequency and severity of commercial fire claims” in the first half of last year. But the biggest blow to investor confidence occurred when Old Mutual declared it was getting rid of its interest in the company. Soon after a proposed transaction with Royal Bafokeng Holdings fell flat, Old Mutual announced they would sell their interest to the highest bidder by way of a ‘market auction’ in September. That’s not the ‘vote of confidence’ the group was hoping for from its major shareholder. Weak equity markets saved the day, and the ‘sale’ was terminated in November.
But M&F is not out of the woods yet. Last week the short-term insurer issued a rather grim trading update ahead of its 2008 financials. They confirm every shareholder’s worst nightmare by warning of a loss from investment activities in the year to December 2008. (Insurance companies define investment income as the “dividends, interest and investment gains and losses” realised on their invested funds.) Just how much of a hit has M&F taken?
If we reduce the R850m investment return earned in 2007 by the company’s forecast decline of 120%, then the group is going to post an investment loss of around R170m! As a result the group also expects basic earnings and headline earnings per share to decline by between 100% and 120% over the previous year. Using this guidance, basic earnings per share will be zero at best, with a loss of 57.4c per share at worst. Headline earnings per share will be between zero and negative 61c! This will be the third successive annual decline at the company – hardly avoidable in a year when the JSE All Share Index fell 27%!
Hoping for better times
There is some good news for shareholders who get over the 2008 earnings shock. It seems the corrective actions taken by management have had the desired effect. The trading update suggests that “the underwriting results for the second half of 2008 [will be] significantly better that those reported for the first half of the year…” But will the group be able to boost the margin to the 4.6% achieved in FY 2007 – or the 5.8% of FY 2006? We’ll have to wait until 6 February 2009, when the results will be published, to find out.
The other concern is whether any of the country’s short-term insurers will be able to maintain new business growth through 2009. There are growing concerns that South Africa will follow the world into recession in the next 12-months… If that’s the case then the so-called ‘grudge insurance purchase’ will be an even harder sell.
Editor’s thoughts:
Mutual & Federal suffered a triple blow in 2008. They’ve had to weather disastrous equity market returns, grow new business in a softer general insurance environment, and take the cost of an extensive restructure on the chin. Under these conditions earnings had to take a knock. Will a sturdier underwriting margin be enough to see the company through 2009? Add your comments below, or send them to [email protected]
