EUR 850.00 For Business Accounts Only

Morningstar | No-Moat PICC P&C's 2018 Net Profit Fell, Auto Underwriting Profit Turned Into Loss in 2H

No-moat PICC P&C's 2018 net profit fell 22% from 2017, hurt by increased sales expense and weakening investment return in the second half. During second-half 2018, the firm saw decelerating growth in premium income to 6% from 17% in the second half, while overall combined ratio worsened by five percentage points to 101% from 95.8%.

We lower our fair value estimate for PICC P&C to HKD 9.50 from HKD 11 per share to reflect our less optimistic assumptions for its near-term auto insurance growth and underwriting profitability for auto and commercial property insurance lines. The shares are largely fairly valued, trading at a 7% discount to our new fair value. The shares are trading at a low valuation level at 1.2 times 2019 fair price/book value, when compared with a range of 1 to 4 times since 2011. Given the intensifying competition and deepening pricing reform in the auto insurance market, we are concerned the underwriting margin of its core auto insurance business is facing increasing downward pressure. The consistent market share gains by close competitor Ping An Insurance has caused the firm to raise commission rates to distributing platforms and increased technology investment to improve customer experience, causing downward pressure on margin.

Non-auto insurance business became the bright spot in fiscal 2018, with premium robustly increasing 32% and combined ratio improving by 0.7 percentage point to 98.5%, driven by strong growth in liability, accident and health, agriculture and credit guarantee insurance lines. Investment income dropped 5% from 2017, as total investment return declined to 4.5% from 5.3%. With potential for easing regulations on selling expense quotas and better pricing co-ordination among auto insurance leaders in 2019, we expect this should translate to a slight improvement in underwriting margin. This, coupled with modest recovery in investment return, leads to our expectation for double-digit growth in net profits for 2019.

Hampered by increasing competition, PICC P&C’s auto insurance growth slowed to 3.9% and market share slid 0.1 percentage point to 33%. The business slid into losses in the second half, with combined ratio surging to 100.2% versus 96.5% in the year-ago period. This is the first underwriting loss over the past six years and was double hit by a 1% decline in auto insurance premium income and lifted selling expenses as the third round of auto pricing liberation expanded into three new cities. Looking into 2019, PICC P&C’s auto insurance premium outpaced the industry average despite new auto sales remained negative. Given the weakening auto sales, we expect PICC P&C’s auto insurance will achieve premium growth at around 5%. By increasing sales contribution from lower-risk customer group including self-owned car drivers, and shifting distributor mix toward lower-cost direct sales platforms, we expect a relatively steady combined ratio, probably at the cost of modest market share loss.