Weekly Broker Wrap: Insurance, Health Care, Advertising And Gaming

This story features INSURANCE AUSTRALIA GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: IAG

-Not easy building scale in insurance
-Sonic best placed with Obamacare
-Decline in print ads continues apace
-Aristocrat well placed in US market
 

By Eva Brocklehurst

There's no such thing as an insurance cycle, according to CLSA. The definition is too simple. There are many interlocking cycles dependent on the type of insurance, geography and a host of other factors. So that makes for an oversimplification when talking about a cyclical earnings "high" and consequently downgrading the sector. Having said that, CLSA does not dispute that there's a top forming but maintains it's important to de-construct how the down leg will play out. Moreover, what's more interesting is how long it takes for mounting competition to take hold.

The broker speculates that 5-10 years from now, Insurance Australia's ((IAG)) and Suncorp's ((SUN)) market share in personal lines will have dropped to 50% from 70%. Such a reduction does not spell doom, in CLSA's view. Natural perils set the home and motor insurance segments apart. Cars can be moved. Houses cannot. Large capital expenditure is required to cover home insurance. In contrast, cars are, in the broker's words, "a breeze". The analysts, therefore, query why the Challenger brand success in motor insurance should necessarily be translated to success in personal lines. Building an insurance book means facing greater headwinds than the incumbents. This has a big impact on time and capital. Here, IAG and Suncorp have advantages of massive scale. The analysts observe that QBE Insurance ((QBE)) is very good at what it does as Australia's premier commercial insurer and is probably protected against a rapid drop off in rates.

Deutsche Bank believe the competitive threats to IAG and Suncorp are on the rise. Conceding there is little risk these trends will stop these two from delivering record underlying margins in FY14, the broker does envisage risks to top line Gross Written Premium targets. Expectations that margins will hold up out to FY16 does not take enough note of the emerging competition.

Aside from yield, the broker finds limited value appeal in either IAG or Suncorp, with Sell and Hold ratings respectively. IAG and Suncorp averaged 7.1% GWP growth in home and motor insurance in FY13, less than half the 15.7% achieved by competitors in these classes. The broker estimates a collective 180 basis points of lost market share in FY13, leaving IAG with 28% share and Suncorp with 30.7%. Challenger has been most successful in targeting pockets of more attractive risk, in Deutsche Bank's view. QBE is following suite, in a way, looking to target lower risk drivers through Australia's first telematics offering for motor vehicles. Deutsche Bank retains a preference for QBE among general insurers.

While the so-called Obamacare in the United States – actually the US$1.4 trillion Patient Protection And Affordable Care Act – does not replace private insurance, which covers 55% of the population, CIMB suspects the legislation is accelerating a consumer-directed approach to the provision of health benefits. This is a move away from employer-sponsored insurance and shifts responsibility for payment and selection of health care services to employees. Over the past five years, the growth of consumer-directed plans has accelerated.

What does this mean for the Australian health care players in the US market? The broker considers Sonic Healthcare ((SHL)) the key beneficiary in terms of volume expansion in laboratory services and preventative services provided without out-of-pocket expenses. The implications for CSL ((CSL)) are more negative, despite the fact that most products are critical to the treated population. This is because of higher costs, growing discount programs and more restrictions requiring evidenced-based patient outcomes. As well, ResMed ((RMD)) faces increased headwinds from the impact of competitive bidding on the durable medical equipment channel. Cochlear ((COH)) is more disadvantaged than perceived at first glance. Top rate health insurance coverage is required to drive the uptake of implants in adults. Increased excise tax on devices might help too.

Australian agency advertising spending declined in September as political advertising eased in the wake of the federal election. Credit Suisse notes metro advertising spending in newspapers declined 32% in the month and this represents the fifteenth consecutive double-digit contraction and the worst monthly result on record. Regional newspaper advertising spending fell 20% while magazine advertising spending fell 15%. Digital remains the major engine of growth with a 19% year-on-year growth rate. TV advertising growth moderated but remains positive. Metro free-to-air spending grew 1% year-on-year, regional declined 3% and Pay TV spending rose 4%.

Of the stocks in the sector, Credit Suisse likes Seven West ((SWM)) as a strong micro story in traditional media and Ten Network ((TEN)) for its leverage to a recovery in ratings and free-to-air advertising. Carsales.com ((CRZ)) has strong exposure to digital advertising, which is maintaining strong momentum. JP Morgan notes metro TV advertising is returning to more normal trends and the start to FY14 was slightly above Seven West's guidance. Metro newspapers are still challenged and this implies that the difficult conditions for Fairfax Media ((FXJ)) and News Corp ((NWS)) will continue. Moreover, the broker believes that negative revenue trends at Fairfax will require further cost cutting. JP Morgan has an Overweight rating for Seven West and Prime Media ((PRT)) an Underweight rating for Fairfax and SEEK ((SEK)).

CIMB has surveyed the slot machine market at the G2E conference, held in Las Vegas during 24-25 September. CIMB surveyed industry participants to obtain feedback on the new machines that were presented by the manufacturers at the conference. Key findings were that replacement rates in 2014 may be higher than current market is allowing, 34% of respondents indicating replacement rates may increase by 5% year-on-year. New product feedback was positive and Aristocrat Leisure (ALL)) was a clear winner (not rated), with 22% of respondents indicating they were most impressed by its new product. CIMB would not be surprised if there was a shake up of market share in North America and Aristocrat could be a beneficiary.
 

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