Sanlam | Initiating coverage | No room for error

Sanlam (SLM) has earned a premium rating to its traditional South African (SA) insurance peer group. Since 2014, Sanlam has traded at an average forward PE of 13x, representing a 42% premium to the average of its peers, MMI, Old Mutual and Liberty. The SLM directors' valuation (GEV) has delivered an average return on capital of 13.8% since FY'14, 60bps below our unadjusted cost of equity. Despite declining returns, Sanlam's share has traded at an average premium of 30% to the GEV since FY'14. Consistent focus on cost and capital efficiencies has generated c.R54bn in distributable assets from the mature back-book since FY'10. Sanlam has invested c.R29bn into Africa, India and Malaysia. The investment has diversified earnings, alleviating risks from a slowing SA economy. Sanlam's latest acquisition, SAHAM Finances, was purchased in three tranches at an average forward P/E of c.22x. By effectively capitalising future growth at the top of the global business cycle, we forecast a 12% RoGEV to FY'21, below our cost of equity presenting a risk to Sanlam's high rating.

Santam (SNT) has increased gross written premiums and HEPS at 8% and 5% CAGR respectively since 2007. Santam's share price has re-rated from a c.8x forward P/E in Nov ‘07 to a c.16x forward P/E in Nov ‘18 rewarding shareholders with a 15.6% CAGR total return over the period. The SA short-term insurance industry is expected to deliver the lowest claims ratio for at least 15 years in CY'18. We expect FY'18f HEPS growth of 38% y/y. We believe FY'18f will be the top of the underwriting cycle as the industry faces headwinds from slow SA economic growth, hardening international reinsurance rates and increasing weather related claims risk. In our view, the current share price reflects an optimistic view of long-term revenue and earnings growth with no buffer for climate change risks.