IAG reduces earnings volatility with long-term reinsurance agreements
IAG today announced it has purchased reinsurance protection to mitigate natural perils volatility for the next five years, alongside securing adverse development protection for its $2.5b long-tail reserves.
The company also confirmed it is on track to achieve FY24 Reported Insurance Profit and Margin around the upper end of guidance ranges.
- Two strategic agreements with global reinsurers improve future financial stability
- Long-term natural perils volatility protection with Berkshire Hathaway and Canada Life Reinsurance provides greater certainty over natural perils cost for customers
- Adverse Development Cover with Enstar reduces long-tail risks
- Reduced volatility delivers an expected capital benefit of around $350m
- FY24 Reported Insurance Profit and Margin on track to be around the upper end of guidance ranges
Executing on IAG’s strategy
IAG Managing Director and CEO Nick Hawkins said: “Today’s announcement is an important milestone in our strategy to create a stronger, more resilient IAG.
Our long-term relationships with leading global reinsurers have allowed us to secure an innovative reinsurance arrangement that benefits our customers and shareholders.
Nick Hawkins
Managing Director and CEO
“Our long-term relationships with leading global reinsurers have allowed us to secure an innovative reinsurance arrangement that benefits our customers and shareholders. It will provide greater certainty over the cost of natural perils cover for our customers, stabilise our earnings and reduce our capital requirements.
“This cover, combined with the long-tail protection we are announcing today, provides IAG with a strong capital base on which to continue to develop our business in Australia and New Zealand.
“Investment in our brands and customers continues and the business now has more than five million insurance policies migrating to our new Enterprise Platform technology. We are already seeing improvements to the customer experience as well as delivering the business the ability to better price and manage risk.
“The platform is designed to support our existing business and allows us to execute at scale. We expect to accelerate the rollout of the platform through the remainder of the calendar year.
“We’re also pleased to confirm that we’re on track to achieve FY24 Reported Insurance Profit and Margin around the upper end of guidance ranges we set at the beginning of the financial year,”
Mr Hawkins said.
Berkshire Hathaway and Canada Life Reinsurance provide long-term natural perils’ volatility protection
IAG has entered into a comprehensive five-year natural perils reinsurance agreement starting from July 2024 with National Indemnity Company, a subsidiary of Berkshire Hathaway Inc and Canada Life Reinsurance, providing up to $680m of additional protection annually, and up to $2.8b over the entire five-year period.
In conjunction with IAG’s quota share and traditional reinsurance protections, this will effectively limit natural perils costs to $1,283m in FY25 (67.5% of gross claims costs of $1,900m), an increase of approximately 17% on the FY24 natural perils allowance of $1,098m.
The reinsurance against natural perils events provides material downside protection for future earnings volatility against extreme weather events and weather patterns. As a result, the expected FY25 net natural perils costs are capped at $1,283m in over 90% of modelled scenarios. To exceed this cap, gross natural perils costs will need to exceed $2.9b (pre-quota share for events capped at $500m).
Based on IAG modelling, in the majority of years of the agreement, a profit commission arrangement delivers a graduated premium offset. This is in addition to the financial benefit of any favourable natural perils experience, and as a result, the range of potential financial outcomes are weighted to the upside.
The annual cost of the protection will be flat for the five years, with the annual natural perils allowance (FY25: $1,283m) only increasing relative to the underlying exposures.
Mr Hawkins said: “Australians and New Zealanders have experienced multiple extreme weather events over the past five years which has resulted in increased reinsurance costs and ultimately property insurance premiums. This long-term agreement will help to provide greater certainty over natural perils cost as extreme weather events become more frequent and severe.
“For our shareholders, this transaction builds on IAG’s comprehensive reinsurance strategy and provides greater earnings stability and reduces our capital requirements,” Mr Hawkins added.
Long-tail adverse development protection with Enstar
In addition to existing protections covering long-tail lines, IAG has also purchased an adverse development cover (ADC) which provides $650m of protection for IAG’s long-tail reserves of approximately $2.5b at 1 January 2024.
The transaction, which is subject to regulatory approval, is with Cavello Bay Reinsurance Limited, a wholly owned subsidiary of Enstar Group Limited. It applies to portfolios across Australia including Product & Public Liability, Compulsory Third-Party Motor, Professional Risks and Workers’ Compensation. The ADC includes explicit cover for Molestation and Silicosis up to a sublimit of $50m.
IAG Chief Financial Officer William McDonnell said: “This additional long-tail protection is a further demonstration of IAG’s ability and ongoing effort to reduce financial risk, capital requirements and earnings volatility.
“We are confident that our long-tail liabilities are appropriately provisioned, complementing the improved underwriting risk profile of our Intermediated business. This reinsurance protects against deterioration due to the inherent uncertainty of long-tail insurance risks such as adverse judicial developments and superimposed inflation,” Mr McDonnell said.
FY24 financial update
IAG confirmed it is on track to report the FY24 Reported Insurance Profit and Margin around the upper end of guidance ranges.
IAG’s FY24 Reported Insurance Profit is expected to be around the upper end of the $1.2b to $1.45b (FY23: $803m) guidance range. The FY24 Reported Insurance Margin is also expected to be around the upper end of the 13.5% to 15.5% guidance range taking into account the additional ADC cost and assuming net natural perils costs for June are in line with seasonal expectations.
The FY24 Underlying Insurance Margin, which includes the additional ADC cost and removes the impact of natural perils experience, is expected to be around the mid-point of the 13.5% to 15.5% range.
FY24 Gross Written Premium (GWP) growth is expected to be consistent with the ‘low-double digit’ guidance.
Capital impact and financial targets
As a result of the additional reinsurance protections, IAG expects, subject to APRA approval, a reduction in its Prescribed Capital Amount of around $350m.
IAG will provide its formal FY25 guidance in conjunction with its FY24 results announcement on 21 August 2024. IAG’s Reported Insurance Margin target on a ‘through the cycle’ basis remains at 15% with the lower capital requirement, combined with recent organic topline growth, expected to deliver an increased Return on Equity ‘through the cycle’ target of between 14% and 15%.
