QBE Insurance says it is not going to need to raise capital in 2009, despite market reports suggesting otherwise, but it says it is facing an increasingly tougher climate in which to boost profit this year.
In fact the chairman John Cloney and CEO, Frank O’Halloran made it clear in their addresses to yesterday’s AGM that the country’s largest insurer will be luck to earn more this year than it did in 2008.
Lower interest rates and returns on the company’s invested funds will more than offset higher returns from its underwriting business.
In some ways the company (like big competitors such as Warren Buffett’s insurers in his Berkshire Hathaway company), are unwitting victims of the sharp fall in interest rates engineered by central banks in major markets like Australia, the US, UK and Europe to battle the impact of the credit crisis and the gathering recession.
The shares fell 54c, or 2.8%, to $18.41 yesterday, compared to the 2.3% drop in the wider market.
Mr Cloney told the meeting that the company had "just completed the first quarter of 2009 and I am pleased to report that we are on track to meet our targeted full year insurance profit margin of 16% to 18%.
"We expect that 2009 will be another difficult year for investment yields given the global economic uncertainty.
"In these circumstances, we will be very pleased if we are able to maintain or increase profitability over 2008 levels."
The range for the insurance margin of 16% to 18% is less than the 18.7% the company earned in 2008.
That was made up of an underwriting profit of 11.5% (12% expected for 2009) and investment income of 8.2% (4%-6% expected for this year).
"Our return on investments will be enhanced by approximately $270 million of foreign exchange gains, net of interest rate differentials, and $45 million of pre-tax gains on the repurchase of more of our perpetual debt in mid March.
“Our overseas shareholders’ funds are now substantially unhedged," Mr O’Halloran said .
"We expect our combined operating ratio to be less than 88% in 2009, provided that our large individual risk and catastrophe claims do not exceed 10% of net earned premium.
"This means that we have an allowance of $1.4 billion for large claims which are defined as claims of $2.5 million and above.
"This compares with large claims of $1.1 billion in 2008.
"The expected increase in gross written premium and net earned premium and the lower combined operating ratio will likely mean a significant increase in underwriting profit by close to 30% in 2009.
"In a full year, based on a $30 billion cash and fixed interest portfolio, a 1% movement in interest rates is equivalent to around $300 million profit before tax.
"Our short duration strategy means that an upwards movement in interest rates will be very beneficial for shareholders.
"We will continue our low risk investment strategy in 2009. We are targeting to achieve a gross yield of around 3.0% in 2009.
"The substantially lower interest rates and the need to match our currency liabilities with investments of the same currency, as well as our focus on quality, means we need to be patient until economic conditions improve."
So that means no real boost to earnings until interest rates turn up.
Mr Cloney said the company didn’t need to raise fresh capital, despite a spate of market reports and suggestions that it did need to replenish its balance sheet.
"One of the major areas of concern expressed by investors post the results announcement has been around the QBE Group’s capital adequacy position.
“This has, to some extent, been fuelled by various reports and speculation in the market that QBE is about to undertake a further capital raising.
"Let me restate the message in the annual report and provided by the CEO post the results."
He said that at the end of the 2008 financial year (December 31) "QBE had more than $3.3 billion capital in excess of our calculation of the regulatory minimum capital requirement.
“QBE’s regulatory capital remains more than adequate with an estimated 1.7 times the minimum capital requirement using the new risk based methodology issued by our Australian regulator, APRA, which came into effect on 31 March 2009.
"Our capital adequacy multiple, which has slightly increased since year end, is substantially higher than our minimum target of 1.5 times. It is not in the interests of shareholders to hold excessive regulatory capital.
"QBE’s shareholders’ funds have grown considerably over the past 5 years up from $4.0 billion in 2004 to over $11.1 billion at the end of 2008.
"Our focus is to maintain optimum levels of capital to meet the requirements of all our global stakeholders and at the same time ensure that returns to shareholders are maximised.
"The quality and extent of QBE’s financial strength is designed to ensure that the company is well placed to capitalise on opportunities likely to emerge from the current global economic conditions.
"The directors continue to ensure that the financial strength of all QBE operating entities is maintained at levels adequate to meet the requirements of our policyholders, business counterparties, regulatory authorities and rating agencies.
"We are confident that our capital levels are sufficient to meet our budgeted growth plans for 2009 and beyond.
"We continue to adopt a low risk strategy for the management of our investment portfolio which, at year end, was close to $29 billion. Equity
