Phoenix Group seems confident that the coronavirus will spur insurers to offload their closed books of life policies — to the obvious advantage of the FTSE 100 funds consolidator, an avid buyer (Miles Costello writes).
It also reckons that heightened concerns about the riskiness of company balance sheets will mean more businesses take out insurance cover against the liabilities in their pension schemes, again playing to its hand as a provider.
The group may well be right that insurers’ desire to free up capital will provide it with a rich seam of funds to buy, but it is gently ironic that it should be Phoenix that is making its own move to look at auctioning off its European arm. This is in the early stages and could generate proceeds for the group of £400 million to £500 million, according to analysts.
Still, business is good for the group, which as well as managing closed life books and taking on pension risks also writes new insurance policies. While Covid-19 could throw minor spanners in the works, to all intents and purposes it has not so far.
It has taken plenty of twists and turns to get Phoenix to where it is. The company was initially built through a series of mergers of books of closed life funds, where no new customers are taken on, culminating in 2006 in the combination of Pearl and Resolution, the two biggest UK players at the time.
Fast forward through a financial crisis that wrought havoc with its policy values. This eventually led to a bailout led by hedge funds and then, in 2018, Phoenix bought Standard Life Aberdeen’s life business. This gave it an “open” life assurer that actively welcomed new customers and laid the foundations for the company in its modern guise.
The model is reasonably straightforward. Closed life funds generate cash, and large amounts of it. When a life policy matures and the customer is still alive, the pot of money that has built up reverts straight to the insurer. The bigger the book of business, the greater the economies of scale that come with it.
At the same time, selling new policies generates growth, and the opportunity to cross-sell new products to existing customers. Underwriting pension schemes is a lucrative source of income.
And in truth, Phoenix is now colossal. It has a total of £323 billion in assets under administration, split almost evenly between the Heritage, or closed, book and the open funds. Last year it generated £1.7 billion in cash, ahead of its target, and it aims to generate a further £4.2 billion over the next three years. Don’t be surprised if it surpasses the target; it has tended to in the past.
There are, of course, things that could go wrong. Like all life firms, Phoenix invests its policyholder money with the aim of matching the assets it buys to cover its long-term payment liabilities. Rock bottom interest rates mean that returns on insurers’ traditional holdings of government and corporate bonds are depressed. However, this insurer is known for its ownership of highly rated corporate debt, for hedging its exposure to equities and making extensive use of derivatives.
A tragic increase in deaths from coronavirus could mean that it has to pay out more in life assurance claims. However, the harsh truth is that it is the older-age group that has been more susceptible to the virus, which would similarly reduce its payout of retirement benefits.
For shareholders, Phoenix’s cash generation underpins an attractive dividend, which yields a return of about 6.7 per cent based on Morgan Stanley’s estimates.
The shares, broadly flat yesterday at 724½p, trade at a very light 9.3 times the bank’s forecast earnings. They are a solid buy.
ADVICE Buy
WHY Good opportunities to grow, including through fund acquisitions; the shares are cheap and the yield high
Sourcebio International
One of the best performing stocks of 2020 was Novacyt, a little-known Anglo-French diagnostics company that was quick to launch coronavirus tests and secure lucrative contracts with governments (Alex Ralph writes).
Sourcebio International, another Aim-listed stock, is seeking to replicate Novacyt’s success after returning to the public markets in October. The small-cap stock was taken private in 2016 in a £62.9 million deal led by Christopher Mills, of Harwood Capital, and Continental Investment Partners.
The loss-making business was restructured to focus on providing biopsies for the NHS from its site in Nottingham and providing cold-storage services to drug companies.
When the pandemic struck, Sourcebio repurposed part of its Nottingham plant to provide polymerase chain reaction testing. Customers include Spire Healthcare, the listed private hospitals company, Nuffield Health, the healthcare charity, and the Department of Health and Social Care. Under a contract with the department, which expired last month, Sourcebio processed more than 330,000 tests.
Sourcebio is looking for the contract to be extended when a delayed framework is set to be awarded from next month, and expects demand from commercial customers to grow. It also signed a commercial partnership with Oxford Nanopore, a biotechnology company, last month to process its tests.
The company floated on Aim in October, raising £35 million through the issue of new shares, valuing it at £120.2 million. Funds have been used to pay down debt. Harwood and Continental remain the largest shareholders, with 29.21 per cent and 22.72 per cent, respectively.
The shares have rallied by more than a third since its float, to value Sourcebio at about £162 million, although the stock dipped slightly after progress on Covid vaccines and the department’s framework was delayed from November.
Liberum, Sourcebio’s house broker, issued a “buy” note last month with a target of 200p, which the shares have exceeded. Liberum forecast testing should generate £61 million of free cash flows over the next two years, regardless of the vaccines.
ADVICE Hold
WHY Covid-19 diagnostic testing set to remain key
