Growth or Margin? Life insurers' conundrum in the September quarter

Strong premium income growth of SBI Life and HDFC Life in Q2 cements the Street's conviction, and at 27.4% VNB margin I-Pru Life surprises investors

An interesting trend came out of the September quarter (Q2) results of leading private sector life insurers – SBI Life, HDFC Life and ICICI Prudential Life (I-Pru Life). While HDFC Life and SBI Life led the segment with net premium income growth of 35 per cent and 27 per cent year-on-year, respectively, suggesting that the sector might have recouped from the pandemic faster than anticipated, I-Pru Life’s 6.3 per cent premium growth was a drag. Yet, I-Pru Life has surprised with 27.4 per cent value of new business (VNB) margin in Q2 – an increase of 630 basis points (bps) year-on-year and 340 bps sequentially, making it the most profitable in the business. HDFC Life saw its VNB margin rise 20 bps YoY and 130 bps sequentially to 25.6 per cent in Q2, while at 18.8 per cent (up 30 bps YoY) SBI Life remained a laggard.

So, how did I-Pru Life shore up its profitability despite weak growth? The answer lies in its product mix, which sharply turned in favour of protection plans. These tend to be margin-yielding and sticky in the longer run. Product mix of SBI Life also underwent some alteration, with group savings and protection business almost doubling in Q2 when compared with the year-ago period. Compared to individual plans, which may carry higher operating costs in the initial phase, group plans bring in volume but aren’t margin-yielding. A sharp surge in contribution from these products dampened SBI Life’s margins. For HDFC Life, the product mix remained stable, also reflecting on its margin profile.

The question is whether the trend is sustainable. For SBI Life, much of the margin improvement going forward would depend on the insurers’ ability to pass on higher reinsurance costs. Analysts at Emkay Research note the need to re-price its existing protection plans. “(SBI Life's) management has confirmed that the current protection plans are cheaper than HDFC Life’s. However, after a price hike, competition from HDFC Life would surely play an important role,” they add. As for HDFC Life, analysts at Nomura say, with the product mix remaining balanced, margins should stay steady at current levels. For I-Pru Life, analysts at Motilal Oswal Financial Services say that VNB margins may touch 28 per cent in FY23 with the protection and annuity segments driving growth.

That said, Suresh Ganapathy of Macquarie Capital cautions that competitive intensity has lately increased and he would be cautious on pricing. “Many (insurers) may not even be hedging appropriately and taking a risk into the shareholder's account for giving the guaranteed returns,” he spells out.

There are two other critical aspects that would also decide the trajectory – the slowly rising share of unit-linked insurance plans, or ULIPs, as characterised in Q2, and the trend emerging in the persistency ratios (which indicates how long customers continue with their policy).

A sharp rebound in equities has put the limelight on ULIPs, after four quarters of lull. Barring HDFC Life, where the share of ULIPs continued to decline in Q2 to 21 per cent from 27 per cent in Q1, SBI Life and I-Pru Life witnessed an incremental improvement in ULIPs’ flows. In absolute proportion, the share of ULIPs reduced from 67.2 per cent a year ago to 47.8 per cent in Q2 for I-Pru Life and from 43 per cent to 32.6 per cent in the same period for SBI Life. However, of the Rs 2,100 crore of new business premiums, Rs 1,625 crore (60 per cent) came from ULIPs for SBI Life. For I-Pru Life, the number stood at about 50 per cent – Rs 701 crore of ULIPs out of Rs 1,465 crore worth of new premium. Even as life insurers guide that they would maintain the product mix prudently, the overall market momentum may be the ultimate guiding force.

Likewise, persistency ratio trends are quite varied for each player (see chart). Going ahead, if insurers decide to focus more on maintaining or expanding the 13-month persistency, it may eventually impact profitability.

More importantly, as analysts at Nomura say, the key risk for life insurers is the worsening of the current Covid-19 situation and the inability to sustain the current improvement in growth and margins, and improve persistency. Despite these concerns, if life insurance stocks appeal to investors, the recent meltdown in valuations needs a mention. This has positioned the stocks as attractive for long-term investors.