Investors have rightly lowered their expectations of Admiral. Drivers staying off the roads during lockdown lowered claims and pushed up profits, which are this year forecast to peak at more than a third higher than the last. However, life is about to get harder for the Cardiff-based group and its peers, because from the start of this year, insurers have been forced to offer the same deals to existing customers as new ones after a shake-up of pricing rules by the Financial Conduct Authority (FCA), aimed at ending the so-called loyalty penalty.
Premiums for new customers are almost certain to increase. The question for insurers is: how high to maintain margins? Or will some choose to sacrifice margin to grow customer volumes? Firms are loath to show their hands just yet.
Admiral’s heavy exposure to British motorists is both a blessing and a curse. The UK auto insurance market is mature and competitive, so new business must be hard-won. But because Admiral has a lower exposure to home insurance, where “price walking” is more prevalent, according to the FCA, the impact of pricing reforms could be less painful.
Efforts have been made to diversify, including launching lending products and writing more insurance internationally. But both, still in their infancy, are loss-making, and UK motor insurance accounted for almost three quarters of group turnover in the first half of this year.
Being an early backer of price comparison websites helped Admiral gain share within the UK motor market. Catering to already price-savvy customers could limit the impact on the group’s pricing structure, says brokerage Peel Hunt.
Regulatory reform is not the only potential headwind. Parts inflation and higher wage costs in garages and home repair industries should push up claims costs. The return of drivers to the roads post-lockdown will naturally push claims higher, too. Stay-at-home orders have translated into higher profits, which have also been boosted by more cash set aside against business written in prior years being released, as claims levels were not as bad as anticipated.
Analysts expect Admiral to unveil a 37 per cent increase in pre-tax profits when it reports results for the last financial year in March. But that figure is expected to sink closer to the 2019 level at £545 million for the current financial year.
Tougher trading prospects are reflected in the shares’ valuation falling to 6.8 times forecast book value, below a five-year average multiple of 7.8. That’s still a premium to peers, justified by the far superior return on equity typically generated by Admiral stemming from the group’s co-insurance and reinsurance arrangements, where other firms underwrite a portion of the risk, freeing up capital for use elsewhere.
Under those agreements, Admiral also gets a share of the benefit if the business written is profitable. The bumper commission generated in lockdown has peaked; management expects it to be lower for the second half of this year and into next. Analysts forecast £70 million over the six months to last December— less than half the £187 million that was banked during the first half.
Dividends make insurers attractive. The sale of Admiral’s Penguin Portals price comparison businesses, returning £400 million to shareholders, will contribute to a bumper dividend in respect of the last financial year. A forecast payment of 288.07p would equate to a potential yield of 9.4 per cent at the current price. The expected payout for this year would also represent a far-from-shabby 5.8 per cent yield.
The boom times might be over for Admiral but its near-term income appeal still stands for shareholders.
ADVICE Hold
WHY A generous dividend on offer this year, but the shares could come under pressure from rates uncertainty and higher claims costs
DiscoverIE
Electronic components specialist DiscoverIE is enjoying a similar run to that experienced by FTSE 100 safety equipment manufacturer Halma since the onset of the pandemic. In both cases, investors have been willing to stump up for companies they hope can generate more stable earnings from defensive end markets.
For DiscoverIE, that has meant the share price almost doubling in two years; it now equates to a steep earnings multiple of almost 42, based on forecasts for this year. Some of the optimism is not unfounded.
The FTSE 250 constituent designs, makes and supplies customised components. It has honed its focus on four sectors it sees as long-term structural growth markets: renewable energy, medical, transportation and industrial, and connectivity. These account for roughly 80 per cent of its sales. The idea is to produce components that become part of a client’s design specification, and then benefit from the repeat manufacture of that item over many years.
Ridding itself of distribution gives DiscoverIE a better chance of achieving a 10 per cent organic sales growth target. In the first half of the financial year it surpassed that goal, but missed the benchmark in each of the three years up until March 2020.
The balance sheet is in good enough shape to support further acquisitions, thanks partly to a £53.5 million share placing but also the proceeds from the sale of its two remaining distribution businesses. Net debt stands at about 0.9 times earnings before tax and other charges — below target range. Exiting lower-margin, less predictable third-party distribution work also prompted management to raise the 2025 operating margin target from 12.5 per cent to 13.5 per cent in November.
The manufacturer has not been immune to supply chain disruption and inflation, despite raw materials costs being passed on to customers. Shortages constrained organic sales growth during the first six months of the financial year, taking about 4 percentage points off the rate recorded during the period, chief executive Nick Jefferies says.
In any case, the current price should make new investors more reluctant to get behind the shares.
ADVICE Hold
WHY Further progress in hitting sales and margin targets looks priced into shares
