Where’s the $5 Value, IAG?

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            [1] => ((QBE))
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This story features INSURANCE AUSTRALIA GROUP LIMITED, and other companies.
For more info SHARE ANALYSIS: IAG
The company is included in ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

By Greg Peel

It had been a tough year for Insurance Australia Group ((IAG)). Apart from the general market malaise, payouts on a series of natural disasters cut deeply into earnings. IAG’s share price had fallen from a high over $6 to approaching $3 when QBE Insurance ((QBE)) struck.

In an opportunistic move in April, QBE made a cash/scrip offer for IAG that amounted to $4.00 at the time. Analysts were not completely surprised when IAG CEO Mick Hawker initially rejected the bid. IAG may have been struggling, but one rarely accepts a first bid and analysts agreed it was a bit on the low side. A more realistic price would have been, say, $4.60?

Sure enough in May QBE upped its bid to the equivalent of $4.60. Hawker again rejected the bid, suggesting the company was worth more than that, without actually saying how much. Now analysts were surprised. If IAG is worth more, than how much, and why? QBE was equally bemused. So it extended the bid date and popped in to have a chat with the IAG board.

When it emerged from the chat unfulfilled, QBE pulled the bid. The IAG share price tanked once more, and there were howls of protest from the market. Hawker claimed IAG was worth $5.00 a share. Analysts could not see it, and could really not see a good reason why Hawker would not accept the new bid in the first place. Under growing pressure, Hawker claimed lack of support and resigned. Mike Wilkins stepped in as CEO.

Wilkins immediately called for a strategy review, which was ultimately delivered yesterday. Speculation had been ongoing that QBE might have another go now that Hawker had departed, but there was only silence. It was left to Wilkins to not only right the ship, but to put some reasoning and hard figures behind the board’s – not just Hawker’s – decision to reject QBE. In short, to explain to the world why IAG was actually worth $5.00 when it was trading at under $4.00. The stage was set.

No analyst was surprised to learn that Wilkins intends to cut jobs and achieve cost savings, divest of dodgy UK assets, and cut the dividend. The only point of contention really was that most analysts had pencilled in a slightly more aggressive dividend cut but, nevertheless, these are all positive steps. Also positive was that FY08 insurance margin guidance was maintained at 6-8%, albeit at the “low end” of 6-8%.

But that was it.

As analysts went about cutting earnings forecast to account for the divestment of assets and lowered guidance, the one big question lingered. Why does the board think IAG is worth $5.00? Where are the numbers, projections, views that support this assertion? Why should we buy IAG?

At the end of the day only one broker out of those responding to the update this morning – Credit Suisse – is calling IAG a Buy. The other six also stuck with their earlier ratings of three Holds and two Sells. The average target, which has long been supported by speculation that QBE was just playing the game and would be back soon, was cut from $4.10 to $3.94, with Credit Suisse unsurprisingly the high marker at $4.50 (still below the final QBE bid).

The reason no broker changed its view was because nothing actually changed beyond what was always expected. JP Morgan (Underweight) suggests a three month timeframe for implementation of the changes is ambitious and risky. Merrill Lynch (Underperform) suggests there’s just nothing here to provide a catalyst for market excitement. Virtually all analysts agree that in the insurance space, QBE in particular along with Suncorp-Metway ((SUN)) both offer better value.

Only Credit Suisse (Outperform) has put some faith in the IAG initiatives, suggesting they place the insurer “in a strong position to focus on existing operations where sizeable margin expansion capacity exists”. That capacity, incidentally, has a lot to do with the assumption that FY08 was such a shocker on the natural disaster front that FY09 couldn’t possibly be as bad.

CS isn’t getting a huge argument out of the other brokers, it’s just that no one else can manage to muster any enthusiasm.

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