- Shares trade sideways despite first half results ahead of expectations
- Motor insurance underwriting impacts profitability
- Management reiterates 2022 guidance for 96%-98% combined ratio
Shares in insurance group Direct Line (DLG) traded sideways despite the release of its first half results that are ahead of consensus.
However today’s results will be overshadowed by the group’s recent profit warning (18 July), which sent the shares crashing to a five-year low amid surging claims inflation.
Shares have rallied by 5% over the last five days, but are down 16% during the last month, and by 32% over the last six months.
Pre-tax profit of £178 million was 15% ahead of a consensus estimate of £155 million. Gross written premiums of £1,523 million was 2% below consensus forecasts.
A Solvency 2 ratio (after capital distributions) of 152% was in line with recent guidance. This is a key measure of an insurer's financial strength
MOTOR UNDERWRITING STALLS
Management suggest that the group has adjusted its pricing for motor insurance premiums and is now writing business at its target margins.
However today’s results reveal a first half 2022 combined ratio for the motor insurance division of 105%, which was worse than the anticipated 102.7%.
The combined ratio is calculated as expense claims and costs divided by the earned premium, and is a simplified way of measuring an insurance company’s profitability and financial health.
If the combined ratio is below 100% then the insurer is earning in premiums more than it is paying out in claims and costs, and so is making an operating profit.
Recent profit warnings from both Direct Line and Sabre (SBRE) demonstrate that market motor insurance pricing has been unable to keep up with the elevated level of claims inflation.
Broker Jefferies estimates that car damage inflation increased by 13% in the second quarter, whilst new business premiums only rose by 9% year-on-year in May.
Crucially for motor insurance specialists, writing less business can have an adverse impact on operating leverage, incentivising them to defend market share.
Management have reiterated its guidance for a combined ratio of 96% to 98% in 2022, with an expectation that this will improve to approximately 95% in 2023 and to the 93% to 95% target range in the medium term.
EXPERT VIEW
According to Peel Hunt analyst Andreas Van Embden: ‘The outlook is unchanged and it will be two years before DLG’s margins return to within the target range. It will be taking action to bolster its solvency position and is confident it can sustain its regular dividend’.
