Direct Line Insurance Group Plc – Operating with Strong Capital Position

Direct Line Insurance Group Plc (LON: DLG) is a FTSE 250-listed General Insurance Company, which operates through four segments – Motor, Home, Commercial, Rescue and other personal lines.

On 10 November 2020, the Company will announce the trading update for the quarter of 2020.

Rationale for Valuation – Buy at GBX 295.08

• The loss ratio and expense ratio recorded by the Company in the past three years was considerably below the industry median, which shows the Company will be more profitable in the future.
• As per valuation metrics, EV/Sales, EV/EBITDA, Price/Earnings, Price/Cash Flow and Price/ Book Value multiples of the DLG are currently lower as compared to the corresponding multiples of the Insurance industry. It reflects, shares are undervalued as compared to the industry.
• In the last year, the Company has delivered a decent return of ~11.06%, which was higher as compared to the FTSE Mid 250 Index.
• The Company has shown a strong balance sheet with further opportunities to improve its effectiveness.
• From the technical standpoint, the 100-day simple moving average price is currently at GBX 276.40, which is lower than the current price and also reflects an uptrend in the stock.

Key Risks

• The falling equity markets and interests' rates could put pressure on the insurers' balance sheets, life product profitability and investment management fees in short-term.
• The Covid-19 pandemic could also impact business operations.
• Any uncertainty in the financial transactions and losses above the charged premiums could lead to financial and insurance risk.

Financial Highlights (for the six months ended 30 June 2020 (H1 FY20), as on 4 August 2020)

(Source: Company Website)

• The Company has shown a decent performance in H1 FY20, with a return to paying dividends and improving current year profitability. Led by the strong premium growth seen in Q1 FY20, the gross written premium increased by 0.4% year-on-year.
• Direct own brand in-force policies increased by 2.0% year-on-year in H1 FY20, with continued growth across Green Flag, Motor and Commercial direct own brands.
• The Group witnessed a strong capital position with a solvency capital ratio of 192% after dividends.
• The Board proposed an interim ordinary dividend per share (increased by 2.8% year-on-year) of 7.4 pence.
• It delivered growth in policy count and premiums in H1 FY20 driven by strong growth in Van.

One Year Share Price Chart

Daily Chart as of 10 September 2020, before the market close (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: Price/Book Value Approach (NTM) (Illustrative)

Conclusion

The Company has launched initiatives with an estimated full-year investment of £80 million to £90 million to support the customers and local communities through the unprecedented crisis created by Covid-19. For 2020, it continues to anticipate a combined operating ratio of 93% to 95%, normalised for weather and anticipate restructuring costs of £60 million over 2019 and 2020. It also expects a net investment yield of around 1.8% in 2020. Further, DLG is reiterating the expense ratio target of 20% by 2023. It has shown a strong solvency position, reflecting financial resilience. Direct Line Insurance reiterated the target of attaining at least a 15% per annum of return on tangible equity (RoTE). Moreover, it is still making good progress on the strategic and technology transformation.

Based on the decent growth prospects, and support from the valuation as done using the above method, we have given a “Buy” stance on Direct Line Insurance Group at the current market price of GBX 295.08 (as on 10 September 2020, before the market close at 9:10 AM GMT+1), with lower double-digit upside potential based on 1.72x Price/NTM Book Value (approx.) on FY20E book value per share (approx.).

*All forecasted figures and Peer/Industry information have been taken from Refinitiv, Thomson Reuters.

*Dividend Yield may vary as per the stock price movement

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