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Morningstar | Suncorp's Life Insurance Sale Delayed Until End February 2019. FVE AUD 14.50 Intact

Suncorp Group has delayed the sale of its Australian life insurance business to Feb. 28, 2019 from the previous intended date of Dec. 31, 2018 due to the slower than expected approval from the Australian Prudential Regulation Authority, or APRA. The extraordinary general meeting for Suncorp shareholders to vote on the proposal for the pro rata return of capital and share consolidation is now expected to be held following the completion of the sale in late February. The EGM was previously scheduled for Dec. 13, 2018.

Suncorp entered into a nonbinding agreement for the sale of the life business to TAL Dai-Ichi, or TAL, for approximately AUD 725 million, on Sept. 4, 2018. The sale is expected to result in a noncash write-down of AUD 880 million with approximately AUD 600 million of the net sale proceeds to be returned to shareholders in fiscal 2019. Suncorp will enter into a 20-year distribution agreement with TAL. The life business reported a AUD 58 million NPAT for fiscal 2018 and we now assume completion end February 2019 with an estimated reduction in fiscal 2019 group NPAT of approximately AUD 20 million. The life business is completely excluded from our forecasts from fiscal 2020 and beyond.

Suncorp has applied to the Australian Taxation Office for a “Class Ruling to confirm the Australian tax consequences for certain shareholders who hold their shares on capital account for tax purposes.” If approved, the capital return will follow the completion of the sale of the Australian life business. Separately, Suncorp’s banking division has made a steady start to fiscal 2019, delivering modest first-quarter loan growth, pristine asset quality, and a robust capital position. Longer term, the outlook for Suncorp Bank is mildly positive, but the regional bank lacks the competitive advantages of the wide-moat major banks. Based on APRA statistics, Suncorp Bank’s home lending is up 4.6% in the year to Sept. 30, falling just short of the all-bank growth rate of 4.9%.

Suncorp’s banking division grew its loan book AUD 265 million or just 0.5% over the quarter to AUD 59 billion, with residential lending dominating, growing AUD 361 million or 0.8% to AUD 48 billion as at Sept. 30, 2018. On a year-on-year basis, total lending increased 4.2% and residential lending 4.5%. No change to our fiscal 2019 group cash profit forecast of AUD 1.25 billion and our AUD 14.5 fair value estimate. The stock screens as fairly valued at current prices.

Suncorp Bank’s 0.8% quarterly mortgage loan growth was in line with overall Australian mortgage growth, but management expects a further slowing in growth throughout fiscal 2019 due to tighter home loan application verification. Management previously contended strong growth in home loan balances was due to an improved customer product range and simplified lending processes, but these advantages are being reduced due to intense competition in the market for new lower risk home loan customers.

Business lending contracted slightly in the quarter, with loan balances decreasing AUD 90 million to close out the quarter at AUD 10.8 billion with lending to the agribusiness sector disappointing. But year-on-year business lending increased 3.7%. As expected, the quality of Suncorp’s business loan portfolio remains sound, with limited exposure to high-risk lending segments of inner-city apartment development and businesses affected by the resources industry slowdown.

Suncorp Bank’s prudent risk management continues to underpin strong credit quality, with default risk across loan portfolios declining further. Evidence is the unsustainably low loan loss rate with impairments reported as net positive for the quarter rather than the usual net negative. The net positive movement was due to a small number of customer recoveries more than offsetting write-downs. Gross impaired assets of AUD 140 million remained steady during the quarter.

We maintain our fiscal 2019 forecast loan loss rate of 5 basis points, equating to a bad-debt expense of AUD 31 million. We expect the loss rate to gradually increase to 12 basis points by fiscal 2023, at the lower end of the bank’s expected long-term loan loss range of 10 to 20 basis points. In our view, the credit environment remains benign and leading credit indicators do not point to any notable signs of stress.

The bank’s common equity Tier 1 ratio of 8.9% is comfortably within the bank’s target range of 8.5% to 9.0%. Despite Suncorp Bank’s common equity Tier 1 ratio being 1.3%-1.8% lower than the four major banks' capital ratios at Sept. 30, 2018, capital levels satisfy APRA’s lower capital threshold for nonmajor banks. Suncorp Bank is comfortably complying with the regulator’s macro prudential measures.

Suncorp Bank’s balance sheet is sound with good funding and liquidity capacity. Household deposit growth--a source of cheap funding--continues to impress. At call deposits grew at 4.7 times system over the quarter due to improvements in improved digital and payment capabilities. APRA banking statistics indicate Suncorp Bank’s household deposit growth of 5.6% for the 12 months to Sept. 30, 2018 was modestly below total banking system growth of 6.0%. However, the 3-month deposit growth rate looks healthier at 2.9%, modestly above the system growth of 2.6%. We maintain our forecast for deposit growth of 6% for fiscal 2019. Term wholesale funding conditions remain healthy and we like the recent increased focus on customer deposit growth as it enables optimisation of the funding mix.

We forecast further margin pressure in fiscal 2019 and our margin forecast of 1.80% reflects a very competitive market for home loans and ongoing funding pressures. Updated guidance for fiscal 2019 is for net interest margins to be at the lower end of the 1.80%-1.90% target range. Wholesale funding costs continue to be pressured by the elevated bank bill swap rate.