Suncorp king of insurance oligopoly as IAG falters

The economic theory says that two players that dominate a sector – like Suncorp and IAG – will reach a state of equilibrium with prices settling below the monopoly price and above the competitive price.

That can be a very profitable place to be, especially when premiums are rising, as usually happens in the insurance industry following natural disasters.

Firms can avoid the threat of regulatory intervention for cartel behavior by tracking each other’s prices and reacting accordingly. They don’t need to have an explicit or tacit agreement to collude, which would be a criminal offense.

Positioned well

Theoretically, the members of the oligopoly should make equally attractive investment returns on capital assuming equal access to technology, people and uniform regulation.

But over the past year, Suncorp has streaked away from its rival and is well positioned to cement its position as the preferred general insurance industry stock.

Suncorp’s latest half-year profit provided insights into why the Brisbane-based insurer is gained the edge on its Sydney-based rival, IAG.

First, its main insurance brand, AAMI, now has national leadership and is showing the highest net promoter score (NPS) since 2016. NPS measures the willingness of consumers to recommend a brand or product to a relative or friend.

Another one of the five brands in the portfolio, Shannons, is “just shooting the lights out in the engine,” according to Suncorp chief executive Steve Johnston.

“It appeals to an enthusiasts market,” he says.

“It’s got great pricing, great risk selection, a great brand proposition, and it’s now the second biggest motor brand in the portfolio with double-digit growth. I mean, it’s extraordinary. ”

Johnston says the brand portfolio at Suncorp is a big differentiator from IAG. But the most important development has been reducing Suncorp’s cost of claims.

“This is the first real big effort we’ve made in terms of creating what we call best in class claims,” ​​Johnston says.

We’re suppressing the cost of inflation by managing our supply chains and managing our claims lodging significantly better.

Steve Johnston, Suncorp CEO

“The cost of claims is such a huge cost base that you don’t have to make too many big changes to have a material benefit.

“In home insurance we’ve improved our building panel and digitized our lodging so, in those hazard events 50 percent of claims are being lodged digitally as opposed to sitting in a call center queue for hours and hours.”

Suncorp’s insurance result was helped by a 7.5 percent increase in gross written premiums to $ 4.47 billion in the six months to December. This figure excludes the dumping of insurance portfolios regarded as being too risky.

A measure of Suncorp’s success efforts to cut the cost of claims is the net loss ratio, which was broadly flat in motor and home insurance as pricing increases and close management of claims costs offset the impacts of inflation.

Negative inflation effect

Johnston says Suncorp is experiencing a negative inflation effect, despite the COVID-19 induced supply chain bottlenecks.

“The ABS construction data is pointing to 7 percent underlying inflation in home repairs, but we’ve got negative inflation,” he says.

“In motor, its 4 to 5 percent inflation for the industry, and we’ve got 1.5 percent or something like that.

“We’re suppressing the cost of inflation by managing our supply chains and managing our claims significantly better.”

Suncorp has managed to avoid the scale of impairments and other customer remediation issues that hit the IAG balance sheet in the year to June 2021. Suncorp is dealing with remediation issues and customer complaints, but they have not warranted separate disclosures.

IAG made a $ 1.15 billion provision for potential business interruption claims associated with COVID-19, pre-tax provisions of $ 238 million for customer refunds, a $ 40 million Swann Insurance class action settlement, and $ 51 million in a failure to pay staff what they were owed.

Former IAG chairman Elizabeth Bryan apologized to IAG shareholders for these risk failures. It is possible IAG will be able to write back some of the $ 1.15 billion impairment, but that will depend upon the outcome an appeal to the full bench of the federal court.

When asked about IAG’s impairments, Johnston says, “I don’t know what the competitor’s doing, but they’ve obviously had some risk-based issues and that’s for them to work through.”

However, he did say Suncorp had been affected by the heightened regulatory oversight from the Australian Prudential Regulation Authority caused by IAG’s failure to offer discounts for having multiple insurance policies.

IAG has said it is working on “legacy issues, pricing capability and product information uplift”.

Johnston highlights the complexity of IAG’s technology platform as a key differentiator between the two companies.

“They’ve got so many complex systems over there,” he says.

“One of the things that we did a few years ago was take our policy administration system from 14 down to one and that makes it a lot easier.

“I think they’ve got 20 or 30 pricing systems at the moment. So, that’s where the complexity comes in. ”

Slow progress

IAG has said it is rationalizing its computer systems, but progress has been slow.

Bryan said policy wording at IAG “did not accurately reflect our complex, model-based pricing algorithms.”

“Actually based pricing is arguably inherently complex, but that’s not an excuse in a customer-focused company,” she said.

IAG’s chief executive Nick Hawkins said last year that he was moving to fix the system complexity.

“I think the history of our place is lots of acquisitions, lots of core systems that have been used to run the company – there’s been some progression around that,” he says.

“But we are making a significant change at the moment. I mean, I believe we are a well-intentioned organization, but complexity caused us some problems. ”

Johnston has put a plan in the market for Suncorp’s lifting performance. The promise is to “deliver a growing business with a sustainable return on equity above the through-the-cycle cost of equity”.

“The general insurance business is targeting an underlying insurance trading ratio in fiscal year 2023 of between 10 and 12 percent, and a bank cost-to-income ratio of around 50 percent,” the plan says.

In the half year to December, Suncorp Bank saved the company by delivering $ 200 million in earnings, or about half of the earnings for the period.

Johnston has high hopes for the bank as it lowers its costs, wins back the support of mortgage brokers and concentrates on servicing business customers during the COVID-19 recovery.

One of the aspects of the Suncorp interim profit that stands out is the amount of capital generated during a period when capital usually goes backwards because of claims generated by natural perils.

“If you look at our capital waterfall, you’ll see we’ve actually grown the capital balance in insurance by $ 35 million when we would normally have a headwind of $ 50 or $ 60 million at that time of year,” he says.

That contributed to Suncorp having about $ 500 million in excess capital sitting on the balance sheet.

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