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Morningstar | Suncorp Starts Capital Management Initiatives Following the Life Sale. FVE AUD 14.50 Unchanged

In late February, no-moat Suncorp Group, completed the sale of its life insurance business to TAL Dai-ichi Life Australia for approximately AUD 725 million. Suncorp will retain about AUD 600 million in net sale proceeds after separation and transaction costs, hybrid capital repayment and other provisions. The sale of the life business is expected to result in an aftertax noncash loss of approximately AUD 880 million when the group reports fiscal 2019 results on Aug. 8, 2019. Suncorp will continue to sell life insurance products to customers via a 20-year distribution agreement with TAL Dai-ichi, generating distribution income for Suncorp. Suncorp will bear no underwriting liability on the products sold on behalf of TAL Dai-ichi.

Suncorp previously flagged its intention to return the surplus capital to shareholders via a small fully franked special dividend and will be seeking shareholder approval for a pro rata return of capital and a share consolidation. Suncorp confirmed on March 22, 2019 that it will pay AUD 8 cents per share in fully franked special dividends to shareholders on May 3, 2019, representing approximately AUD 100 million of net sale proceeds. Suncorp continues to target approximately AUD 500 million for a pro rata return of capital to shareholders and a share consolidation, subject to shareholder and regulatory approval. The pro rata capital return should be around AUD 40 cents per share. The sale is expected to be marginally accretive to cash ROE in fiscal 2019.

We update our forecast dividends for fiscal 2019 to include the just announced special dividend, and now forecast total fully franked dividends of AUD 78 cents per share. Our fiscal 2019 cash earnings forecast of AUD 1.05 billion is unchanged as is our AUD 14.50 per share fair value estimate. At current prices, the stock is fairly valued, trading 8% below our valuation. Consensus earnings estimates for fiscal 2019 are around AUD 1.09 billion and dividends of AUD 75 cents per share.

Despite the stronger underlying performance expected for second half fiscal 2019, in our view the group continues to struggle with external factors including natural peril costs, volatile investment performance and unexpected regulatory expenses. We are on board with management’s responses to these external factors, but the remedial action is expensive. In addition to upping natural peril allowances and reinsurance cover for 2019, management have increased expected regulatory spend by AUD 50 million or 55% to AUD 140 million in fiscal 2019. Elevated regulatory spend will likely repeat in fiscal 2020.

Despite the soft first half fiscal 2019 performance, with cash earnings down 12.5% to AUD 413 million, the financial services business continues to benefit from its diversified business structure and strong balance sheet. We expect cash earnings of approximately AUD 632 million in second half fiscal 2019, mainly driven by a sharp recovery in Australian general insurance profits. If achieved our fiscal 2019 cash NPAT of AUD 1.05 billion will still be about 2% lower than fiscal 2018.

The group’s general insurance business disappointed in first half due to elevated natural peril costs. We expect a solid banking performance in the second half to follow an equally solid first half. The strong New Zealand first half profit contribution should ease somewhat in the second half but will still be a good outcome compared with fiscal 2018.

The announced sale of Suncorp’s general insurance distribution business, Resilium, via a management buy out process is immaterial to Suncorp Group financial results and has no impact on our earnings forecasts or valuation. An independent Resilium will continue to distribute Suncorp’s GIO and Vero branded products as well as insurance products from other insurers. Sale proceeds were unspecified with the sale expected to complete by June 30, 2019.