5 Factors to look out for Life Insurance Stocks

INTRODUCTION

ICICI Prudential Life Insurance Co. was the first to get listed in 2016, followed by SBI Life Insurance Co. Ltd and HDFC Standard Life Insurance Co. Ltd in 2017. With low insurance penetration and density rates, there is an untapped market where the private sector has immense opportunities to consolidate its positions, considering insurance is a long-term business.

This report intends to gather various ratios from the Financials of the above three companies to evaluate how well they are fair by ranking them under metrics discussed below and consequently assessing whether the stock should be bought, held, or sold.

FACTORS

Market Cap

The following is a graph depicting the market cap of the companies at the time of listing and its market cap as of November 26, 2011.

HDFC Life has the highest market cap, followed by SBI Life and ICICI Pruli. Hence the rankings under this metric stand as follows.

EV Multiple

EV Multiple is calculated as the ratio of Enterprise Value to EBITDA. Enterprise value includes in its calculation the market capitalization of a company but also short-term and long-term debt as well as any cash on the company's balance sheet1. The following is a graph depicting the EV Multiple for March 31, 2021, and March 31, 2020.

HDFC has the highest EV multiple driven by its high market cap, followed by ICICI Pruli and SBI Life. Hence the ranking under this metric stand as follows:

Embedded Value

The embedded value represents the present value of future profits from the existing business plus net adjusted value. It is a construct from the field of actuarial science which allows insurance companies to be valued2.

Following is the embedded value of the three listed insurance companies for the half-year ended September 30, 2021

ICICI Pruli's Embedded Value grew from Rs. Two hundred fifty-seven billion in September 2020 to Rs. Three hundred two billion in September 2021, clocking a growth rate of 25.8%. SBI Life's Embedded value grew from Rs. Two hundred ninety-nine billion in September 2020 to Rs. Three hundred fifty-three billion in September 2021. The ranking under this metric stands thus.

Value of New Business Margin

Value of New Business refers to the present values of all future profits based on long-term assumptions. Consequently, VNB Margin refers to the ratio of VNB to the annual premium equivalent (APE). The following is a graph depicting the VNB.

ICICI Pruli's Value of New Business for the half-year ended 2022 saw a growth rate of 45% and its VNB margin of 27.3%. SBI Life's VNB for the half-year ended 2022 saw a growth rate of 64% and its VNB margin of 21.8%. HDFC Life saw a growth rate of 30%, and its VNB margin was 26.4%. The ranking under this metric stands as under

Cost Ratio

The cost ratio measures the funds used by a company towards operating, administrative expenses, and provision for doubtful debts. Cost ratio is the ratio of all expenses to total weighted received premium (TWRP). The expense ratio for the half-year ended September 30, 2021, and September 30, 2020, is shown in the following graph.

There has been an increase in cost ratio for all the three companies, SBI accounting for the least expense followed by HDFC Life and ICICI Pruli. Accordingly, the raking under this metric stands thus:

13th Month Persistency Ratio

"Persistency ratio is the proportion of policyholders who continue to pay their renewal premium." This ratio analyzes the quality of sales made by the insurer. Following is a graph depicting the persistency ratios for the half-year ended September 30, 2021, and September 30, 2020. 

Persistency ratio YOY for ICICI Pruli increased by 2.8%, whereas for SBI Life, the same increased by 1.55% and for HDFC Life by 4%. Hence the ranking under this metric stands as under:

61st Month Persistency Ratio

While the 13th-month persistency ratio determines the quality of sales, the 61st-month persistency ratio determines the policyholder's loyalty towards the company and customer satisfaction with overall services. The 61st Persistency ratio of the above three companies are as follows based on Regular Premium/Limited Premium Payment are as follows

While the 61st-month persistency ratio stayed the same for ICICI Pruli, HDFC Life showed significant improvement, up by 5% to 52% in the half-year ended September 2021. On the other hand, the persistency ratio for SBI Life fell by 2.62% to 47.41% in the half-year ended September 2021. Hence the ranking under this metric stands thus:

Summarizing the results of the above metrics

Analysis

The embedded value represents the value a life insurance company can generate in the future if it were to stop underwriting any more policies. Comparing embedded value with the market cap determines the value an investor is willing to pay for a stock. Accordingly, assuming the embedded value as of 30.09.2021 is the same as of November 26, 2021, the ratio is as follows:

An investor is willing to pay 2.8 times of Embedded Value for ICICI Pruli, 3.2 times of Embedded Value for SBI Life, and 4.73 times of Embedded Value for HDFC Life. An average of the above three ratios comes to 3.58. Hence it can be concluded that investors have a bullish outlook for the life insurance sector. It also means that from the above three companies, ICICI Pruli stock is the most inexpensive one at this time.

Although ICICI Pruli is behind in terms of Market Cap, Cost Ratios, and Persistency ratios compared to its peers, it was the only company to report a growth in its Net Profit with nearly a 47% jump to Rs. 445 crore, compared to HDFC Life and SBI Life, which reported a decline in net profit of 16% and 18% to Rs. 276 crore and Rs. 247 crore in half-year ended 30th September 2021. It was able to maintain its profitability amid a spike in claims. Due to all these factors, the outlook for ICICIPruli stock is Buy.

When looking at the persistency ratio, SBI Life has the lowest cost ratio; the 61st-month persistency rate shows dissatisfaction among customers of SBI Life. It could be speculated that the lower cost ratios may cause the dissatisfactory persistency ratio. Persistency ratios aside, the cost ratio of SBI is the lowest amongst its peers, and it has a high embedded value. Combined with its high reachability w.r.t. no. of branches in the country as compared to HDFC and ICICI, the outlook for SBI Life is Buy.

HDFC Life fares the best among its peers in Market Cap, EV Multiple, and Persistency Ratios, whereas ICICI Pruli had a higher VNB margin and SBI Life had a lower cost ratio. However, the ratio of 4.73 viz.a.viz its Market Cap and Embedded Value makes it the most expensive stock in the market. Further, ICICI Pruli outperforms HDFC in profitability metrics. Hence the outlook for HDFC Life is on Hold.