Company Reports

After reasonably uneventful earnings updates, it is hard to pinpoint a single specific driver for the turnaround in bank sentiment. Still, we think part of it is that a likely lower cash rate eases housing fears and provides banks an opportunity to reprice loans and deposits to protect margins. Major bank share prices increased 23% since November 2023, outperforming the 16% increase in the Morningstar Australia Index over the same period. The major banks' weighted average price/fair value estimate is 1.14, up from 1.05 in the last quarter. Nonmajor banks trade at a price/fair value of 0.85.

Suncorp is a well-capitalized financial services business with a dominant market position in the Australian and New Zealand general insurance industry and a regional banking franchise. In addition to offering insurance under the parent name, key brands in Australia include AAMI, GIO, Bingle, Apia, Shannons, and Terri Scheer. In New Zealand, key brands include Vero, AA Insurance, and Asteron Life. The insurer carries concentrated weather and earthquake risk in Australia and New Zealand and in particular Queensland, which makes up around 25% of gross written premiums in Australia.

No-moat Suncorp’s first-half results offered no surprises from the late January trading update. Half-year cash earnings for the insurer advanced 14% on the prior corresponding period to AUD 660 million, buoyed by double-digit premium rate increases and strong investment returns. Gross written premium increased 16%, reflecting home and motor policyholder growth of around 2% and significant premium increases in response to higher reinsurance costs, elevated natural hazards, and ongoing cost inflation. Net investment returns also served as a key contributor to earnings, more than doubling to AUD 396 million.

Originally announced in July 2022, ANZ Group’s acquisition of Suncorp Bank is almost over the line. The Australian Competition Tribunal granted approval and overturned the Australian Competition and Consumer Commission’s earlier rejection. Federal Treasurer approval and changes to Queensland state law are required, but the competition regulator was the biggest obstacle, in our view.

We increase our fiscal 2024 profit forecast 4% after no-moat Suncorp provided a mostly positive update. Gross written premium, or GWP, growth ahead of the previous 10% guidance; natural hazard cost allowances unchanged; investment income benefiting from higher cash rates; and full-year margins expected to be at the midpoint of the 10%-12% guidance range. However, the short-term tailwinds are insufficiently material to move our AUD 13.50 per share fair value estimate.

Suncorp is a well-capitalized financial services business with a dominant market position in the Australian and New Zealand general insurance industry and a regional banking franchise. In addition to offering insurance under the parent name, key brands in Australia include AAMI, GIO, Bingle, Apia, Shannons, and Terri Scheer. In New Zealand, key brands include Vero, AA Insurance, and Asteron Life. The insurer carries concentrated weather and earthquake risk in Australia and New Zealand and in particular Queensland, which makes up around 25% of gross written premiums in Australia.

Australian banks face low credit growth, softer net interest margins, and an increase in loan losses in the short term. Industry returns on equity will be suppressed in fiscal 2024. However, we expect loan and deposit pricing changes in the medium term to lift margins to a level that allows wide-moat-rated major banks to generate maintainable returns above our 9% cost of equity.

The short-term outlook for Australian banks is challenging with margins under pressure, loan losses expected to rise, and inflationary cost pressures unable to be offset by cost-cutting initiatives. Industry returns on equity are suppressed, hence we expect loan and deposit-pricing changes in the medium term to lift margins to a level that allows wide-moat-rated major banks to generate returns above our 9% cost of equity.

Suncorp’s fiscal 2023 cash profit increased 86% to AUD 1.25 billion, 6% shy of our AUD 1.33 billion forecast. The miss is down to the New Zealand insurance profit being far weaker thanks to natural hazard events. Propelling the result was the Australian insurance division, where profit leapt to AUD 755 million from just AUD 174 million last year. Price increases drove 10% growth in gross written premium, but the claims ratio was modestly higher, leaving investment income on shareholder and policyholder funds of AUD 504 million to do the heavy lifting. Higher cash rates provided a nice tailwind to insurance earnings and a smaller contribution to the 28% increase in Suncorp Bank profit to AUD 470 million.

Suncorp shares have risen around 20% in the last 12 months and now trade in line with our AUD 13 fair value estimate. On a forward P/E of 14 times and fully franked dividend yield of 5%, we think the earnings recovery after some difficult years is finally being priced in. Three sequential La Nina years had resulted in a material increase in large natural hazard claim costs.

Suncorp’s two-part investor forum outlined how it plans to achieve previously announced targets of 1) an underlying insurance margin of 10%-12% and 2) a banking cost-to-income ratio of 50%. We think the insurance margin is achievable, with our forecast at 11% in fiscal 2023. This is decent step up from 8.9% in fiscal 2020 but is similar to the average over the last five and 10 years. We expect margin improvements to come from premium price increases, more digital sales and client interactions, and using scale to drive down repairer costs. Suncorp’s scale benefits are not new, but with margins and returns falling, we believe insurers will have renewed focus on claim approvals and repair costs. IAG and Suncorp account for more than half of the motor and home insurance market, and we expect they can assert some pricing power on repairers reliant on their business.

Suncorp is a well-capitalised financial services business with a dominant market position in the Australian and New Zealand general insurance industry and a regional banking franchise headquartered in Queensland. In addition to offering insurance under the parent name, key brands in Australia include AAMI, GIO, bingle, Apia, Shannons and Terri Scheer. In New Zealand key brands include Vero, AA Insurance and Asteron Life. Some brands are specific to certain states, but at a group level, the insurer carries concentrated weather and earthquake risk in Australia and New Zealand, and in particular Queensland which makes up around 25% of gross written premiums in Australia.

Suncorp Group's adjusted cash profit for fiscal 2014 of AUD 1,304 million exceeded our AUD 1,230 million forecast because of a stronger-than-expected performance in general insurance and banking. Otherwise, there are no major surprises in the 2014 reported profit of AUD 730 million (up 48% on fiscal 2013), with 2014 earnings including a previously flagged AUD 496 million non-cash write-down of the Suncorp life division intangible assets, following a belated recognition of worse-than-expected future claims and lapse assumptions. The life division reported cash earnings of AUD 84 million, down 30% on fiscal 2013. The final fully franked dividend of AUD 0.40 per share and a AUD 0.30 special dividend take total dividends to an attractive AUD 1.05 per share for the year, up significantly on the AUD 0.75 paid for fiscal 2013. Despite the special dividend, Suncorp maintains a strong capital position with in excess of AUD 831 million of additional capital held above operational targets. General insurance continues to improve, with a AUD 1,010 million profit, up 14% on 2013. The impressive 14.3% underlying insurance margin is in line with previous guidance. The previously troubled banking division reported a much-improved profit of AUD 228 million.

Diversified financial services conglomerate Suncorp Group provided an update following the recent devestating bushfires in New South Wales. The group has received approximatley 400 claims, with an estimated total claim value of AUD 60 million to AUD 70 million. The estimated cost is within Suncorp's full-year allowance of AUD 565 million. Despite inherent claims volatility in the general insurance industry, we are confident of the long-term outlook for Suncorp's insurance arm. On the banking side, Suncorp reported solid loan growth and, importantly, reduced loan impairment losses. Our positive view is retained and our fair value estimate increases 8% to AUD 14.00 on the back of stronger loan growth within the commercial small to medium enterprise and agriculture business sectors, and lower bad debts in the core consumer and commercial property loan books. At current prices the stock is moderately undervalued, trading at a 5% discount to our fair value.