Stocks In Focus: IAG, June 11 2025

0:28A listener production. to look at me. It's just audio only. So yeah, if you want to get a bit more from the multiple, make sure you do that. On both platforms, please subscribe. Good for you. Good for us. Like the video if you don't mind. If you're on the video watching right now, it helps other people find it and make sure we get a bit more relevant to a few more people. If you're getting some value out of it, hopefully other people will as well. All right. That's all out of the way. Last thing I have to say is this is general advice only. We don't tell you personally what you should do. We are saying this is what we think in general about an investment idea or a particular company.

0:57In this case, We're going to talk about IAG, the insurance group, but it is also a point in time. So things will change over time as we move. With that out of the way, let me introduce to you Motley Fool Analyst and Portfolio Manager, Chris Copley. Chris, g'day. G'day, Scott. How's it going? Good, mate. Thank you for letting me get through all that boilerplate. But now we get to the really, really good stuff. IAG, we love a three-letter acronym, don't we? But this one, better known by their brands. Tell us about IAG, the business, if you will. Yeah, so IAG, Insurance Australia Group, is Australia's largest general insurance company.

1:31So just a quick bit on insurance first. So what we call general insurance here in Australia and many other places around the world, it's often referred to as the property and casualty insurance market. So often in insurance, it's often divided into a couple of buckets. So you've got on one side life and health insurance, and this type of insurance is often considered far less volatile, I guess. It's easier to predict things such as life expectancy, for example, of broad populations. So earnings in this area can be a little bit more predictable. Then for businesses like IAG, they offer insurance products which cover things you own.

2:10So things like your house and your car. And it also covers other risks and liabilities as well. So things like travel insurance, workers' compensation, professional liability, and the list goes on. As you said, many of us may not recognize IAG in particular, but you'd likely recognize some of the brands under its umbrella. NRMA Insurance, for example, is probably the biggest one. CGU is another one. AMI in New Zealand, and there's a few others as well. MA originally was its first business. It was created back in around 1920 and the company was actually listed for a little while as NRMA Insurance Group and then later renamed.

2:52And this was more than a couple of decades ago, though, of course. But, yeah, recently the business also announced its intention to partner with RACQ as well. So if that acquisition of its insurance book goes through in the next few months or so, then there's another familiar brand to many, particularly us Queenslanders, under its umbrella as well. So the vast majority of its insurance offerings are in the retail market within Australia and New Zealand. So essentially insurance products more tailored to individual customers. So things like vehicle insurance, home insurance, travel insurance again.

3:26But then the company also has an intermediated segment. And this is where instead of selling insurance to the consumer directly, there's a middleman involved such as an insurance broker. and often brokers are used in more complex insurance products. So commercial property, for example, or other liability type insurances for businesses and staff. So workers' compensation, director's insurance, for example. And this is where risks can often be a bit more specific and pricing needs to be a little bit more tailored to different risks and situations as well. So often a broker is involved in there as well.

4:05Insurance is a massive industry, very competitive industry. I mentioned earlier they're the largest general insurance company in Australia. They generated around$16 billion in gross premiums in the last full financial year and it looks like it's market share in Australia's, depending what you include or not in the figure, somewhere around the 20 % to 30 % or so mark. I think another important point to discuss about insurance industry and the Insurance Australia Group is how they make their money as well. That's an important thing to understand. And really, earnings broadly comes down to two different components in this industry.

4:39The first is underwriting profitability. So, without going down the rabbit hole too much into definitions, essentially, an insurance company receives premiums from customers, monthly premiums that they pay in order to be covered for various risks. If these premiums are larger than the claims that they have to pay to their customers if a certain event occurs or accident occurs, plus obviously the general operating expenses that are involved in managing the company as well, then the company can make an underwriting profit. Often margins can be very low. Sometimes different insurance businesses actually don't make any margin on this component at all.

5:19In fact, they can sometimes lose money from underwriting. And in that case, they're completely reliant on the earnings that come from the second source, which is referred to as the float. So essentially, the float is the money that insurance companies collect from their customers. Insurance companies actually invest this cash, largely in low-risk government bonds, and they make some returns on this money before the customer's claims have to be paid out from that cash as well. So your Insurance Australia group, over the past couple of years or so, it's generated really good earnings from underwriting profits, and it's also been generating growing investment income as well as interest rates have been rising in Australia and globally so it's had a few very couple of good years as well for the for the business nice man that's a great summary of what is a very complex business a lot of pointy heads doing a lot of calculations at those head offices but that's what comes out of it you've done a fantastic job describing it motley fool money for more subscribe to the free newsletter at fool.com.au forward slash listener.

6:21Let's go from the business end to the investment because a good business can be a good investment or a bad investment. So we've talked about the company. Let's go to the investment. We're going to talk about two sections, mate, as you know, the pros and the cons. Give us the pros, if you would, for an investment in IAG. Yeah. So when it comes to investing in insurance companies, it's very difficult to provide much differentiation relative to your peers, right? All you really have to compete on is price. Brand awareness in the retail segment can also help a little bit as well, but largely it's price.

6:54So being the largest provider by market size can provide some benefits. And in particular, the business can spread its fixed costs over more premiums, helping them to write more profitable policies or otherwise write policies which are cheaper than what its peers can offer. another advantage from its scale is a more significant data set relative to many of its competitors and this can help the business you know make even more I guess informed policy decisions also it's a significant financial resources means that the business can make more significant investments in technology as well which will hopefully help to create an even further gap in terms of operating efficiencies relative to its smaller competitors as well and And in fact, it looks like over the last few years, the company is right in the middle of a big technology transition and migration at the moment as well, which will hopefully drive further operating efficiencies for the business.

7:54For example, they're currently using AI across its claims processes, claims process to help speed it up, I guess. And that's just one example of things that they're doing. But yeah, there's a whole range of tech migration stuff that's going on at the moment. Another advantage and potential reason to consider Insurance Australia Group as an investment is that the insurance industry cycles often don't coincide with general economic type cycles. So it can provide a little bit of a diversification benefit during periods of weakness as well. Also, with a lot of its earnings coming from fixed income yields in its investment segment, It can also have counter-cyclical type elements here as well, where the cash that it generates from its investments actually increases when interest rates increase.

8:46Often when interest rates increase, it more broadly has a negative effect on company share prices otherwise. And then one final point for dividend investors, the company has a partially franked dividend yield in the mid 3 % as well. So it does provide some income for those looking for it. Very nice, mate. So some good reasons to consider IAG as an investment, but we always try and show both sides of the coin. When we do our recommendations, by the way, for our members, we absolutely say, hey, we like this a lot. We still include risk because there are still risks that can, things that can go wrong.

9:19This time around, IAG is not a formal recommendation in this space. We're simply sharing Chris's insights and analysis of the company. So we've done the pros, let's go to the cons. Why would you consider not investing in IAG? Well, right now, recent results have shown its insurance margin sitting a little above its longer-term insurance margin targets. Premium inflation insurance has been one of the fastest-growing inflation categories over recent years, and this has certainly helped the business and many of its competitors deliver some pretty good results recently. The insurance industry can be cyclical, though.

9:54So, you know, there are risks that if competition increases and the environment gets tougher, that margins will decline and potentially so to Willett's dividend. So that's something to keep in mind. We've also seen a rise in natural disasters more recently. I mean, just this year, I'm from the Brisbane area, we saw a recent cyclone, which caused a fair bit of damage, and we haven't seen a cyclone here for decades. The company and other insurance providers, they need to make sure that they're adequately provisioning for these types of events, because otherwise it could very well impact its ability to purchase reinsurance protection at attractive price as well as impact its longer-term profitability margins as well.

10:35And then the final, I guess, risk for insurance companies is that if interest rates actually continue to decline, it can mean a decline in their investment income as well, particularly as the older bonds mature and the business has to purchase new ones with lower yield. So, yeah, these are the major risks for IAG and, I guess, more broadly, the insurance industry as well. Very nice, mate. Look, you've given us a good set of pros, good set of cons. I'm not sure which way you're going to lean on this one. So I'm curious. I'm going to ask you to look into your crystal ball. Five years, we're long-term investors at the Multifill, at least five years.

11:07Go out five years for me. Do you reckon IAG is likely to beat the market or do you reckon it might just fall behind? Yeah, it's a tough one. My gut feeling probably has the business as an underperformer over the next several years, but it really depends on the industry cycle and conditions and that can be so hard to predict. If you average out its earnings and its dividend over the last 20 years or so and you do that in five-year buckets, five-year periods, there really hasn't been much growth which has come from the business for a while. It's a very competitive market. They already have very significant market share so its profitability in a big way just comes down to the conditions of the market.

11:44Its valuation right now is sitting around or just below its long-term averages at around 17 times earnings or so but its return on equity is also a little bit higher than its usual averages due to the strong insurance margins that we're talking about before and this may not necessarily be sustainable so from a price to book value perspective which is a lot more commonly used metric in valuing insurance companies the business is trading at quite a high price near three times book or so and if you go back at I guess the history of the business and buy it each time it trades for around three times book often a few tough years tends to follow that so yeah there are certainly some some things to like about the business as an investment but I'm not sure it's the most attractive opportunity right now.

12:27Very nicely done nicely explained too thank you very much Chris Copley for sharing your view on IAG and breaking the business down a little bit for our listeners and viewers thank you for spending time with us we appreciate it and we look forward to seeing you again until we do full on. The Motley Fool and people appearing in this program may have positions in the companies mentioned. General advice only. Please speak to your financial professional to understand how it may pertain to your situation. Subscribe to the free newsletter at fool.com.au forward slash listener. The Motley Fool operates under Financial Services Licence 400691.