Earnings deteriorated due to lower sales and increasing delinquencies. Capital ratios remain strong. We believe Genworth Australia’s regulatory compliant 10NC5 bond with maturity of July 2025 and call date of July 2020 offers fair value at current mid-price of $103.3 and YTW of 4.40%
Main points
- Genworth Mortgage Insurance Australia Limited (GMA) reported 1H17 NPAT of $88.7m, down 34.7% from $135.8m reported in 1H16. Underlying NPAT, which adjusts for a mark-to-market loss of $24.8m in the investment portfolio, was relatively unchanged at $113.5m compared to $112.9m reported in 1H16
- Results were driven by lower sales and revenue – GWP declined 4% to $182.3m year-on-year while NEP (Net Earned Premium) decreased 7.5% to $221.6m
- GMA’s loss ratio ticked up 1.8% to 34.8% in 1H17, as an increase in delinquencies offset the benefit from movements in non-reinsurance recoveries on paid claims. The mining regions of Queensland and WA continue to contribute to an increase in new delinquencies, although at a slower rate
- GMA’s loan book from 2008 is so far the worst performing with current 3 months plus delinquencies at 0.50% with delinquencies having peaked at 1.20% in 2012. This loan year was affected by the economic downturn in Australia and heightened stress experience among Queensland based, self-employed borrowers who were severely impacted by the floods in 2011. GMA’s overall 3 months plus delinquency rate increased by 8bp to 0.51% in 1H17 as delinquencies for loans originated in 2012-2014 ticked up
Source: Company reports, FIIG Securities
- There is a high degree of concentration in GMA’s customer base. GMA disclosed that its top three customers accounted for approximately 66% of NIW and 71% of GWP, the largest customer account for 37% of NIW and 51% of GWP in 1H17. GMA’s exclusivity agreement for provision of LMI to Macquarie, its second largest customer, was terminated in April 2017. NAB has issued a RFP for its LMI requirements and GMA has submitted its proposal to NAB
- The group reported a regulatory solvency ratio of 1.81 times the PCA, which continues to track above the Board’s target capital range of 1.32 to 1.44 times. CET1 capital was flat in 1H17, as the reported NPAT was offset by $71.3m dividends paid and a $17.0m decrease in excess technical provisions
- The Board declared a fully franked interim ordinary dividend of 12.0 cents per share, and a fully franked special dividend of 2.0 cents per share. Since listing on the ASX, GMA has paid out all after-tax profits by way of ordinary and special dividends to shareholders. GMA announced an on-market buyback program up to the value of $100m. Genworth Financial, Inc. (“Genworth Financial”) will participate in the buy-back program to maintain its 52% holding in GMA
A link to the results is available here.
Outlook
- Outlook for the rest of 2017 is weak, with subdued economic growth and house price moderation expected. Regulatory changes will result in slower growth in investor and interest only lending. Investment loans make up over a quarter of GMA’s insurance in-force
- Performance of loans in Queensland and WA are expected to remain challenging
- Genworth Financial is facing delays in receiving regulatory approval of the merger agreement with China Oceanwide from US regulators and the merger agreement deadline has been pushed back to November 2017. As previously flagged, should this transaction fail to close Genworth Financial will need to consider all its options to shore up liquidity which includes selling its holding in GMA. GMA’s 10NC5 bond with maturity date of July 2025 does not have a change of control clause included in the documentation
Source: Company reports, FIIG Securities
Relative Value
GMA’s Basel III compliant Tier 2 10NC5 bond, maturing in July 2025 offers fair relative value when compared to bonds with similar characteristics. Current YTW of 4.40% is to the call date in July 2020. While the bonds offer slightly higher yield than peers, in our opinion, the outlook for GMA is challenging and it is facing heightened competition as shown by the recent exit by Macquarie and RFP by NAB.
Prices accurate as of 30 August 2017 but subject to change; indicative only
Sources: FIIG Securities, Bloomberg