Fitch Ratings has maintained
A full list of rating actions is at the end of this commentary.
Key Rating Drivers
Fitch Prism Model Score at Risk: The RWN reflects the possible drop in SGL's Fitch Prism Model Score upon completion of the proposed sale of the group's fully owned banking subsidiary,
SGL's Fitch Prism Model Score, which is measured on a group-wide basis, moderated to the upper end of 'Strong' in the financial year ending
Capital Base to Drop: SGL's consolidated net assets of AUD12.8 billion at FYE22 will decline following the sale of the bank. This included AUD4.3 billion of net assets belonging to the banking operation. SGL also maintained AUD849 million of total capital in excess of internal targets in respect of its operating subsidiaries. Subordinated capital instruments of AUD1.4 billion relating to SML receive equity credit in the
High Natural Hazards Costs: SGL is exposed to natural perils as a large home and motor insurer, but profitability has been supported by the group's strong reinsurance programme. The higher frequency and severity of extreme weather events, coupled with rising reinsurance costs, has resulted in SGL continually increasing its natural hazard allowance. We believe significant changes to the reinsurance programme, including higher net retentions in the face of rising reinsurance costs, could undermine SGL's profitability and capitalisation.
Improved Underwriting Result: SGL's combined ratio improved to 89% in FY22, from 93% in FY21, reflecting strong top-line growth and portfolio underwriting actions by SGL. The ratio also benefitted from the sharp uptick in the discount rates used to value claim liabilities. We expect underwriting profitability to moderate over the next six to 18 months due to inflationary pressure and a higher natural hazard allowance and reinsurance costs, albeit partly offset by Covid-19 pandemic-related reserve releases for business-interruption policies on favourable court outcomes.
Market Volatility Affects Earnings: The improved underwriting gains in FY22 were partly offset by unrealised losses stemming from SGL's bond portfolio, causing net profit after tax from the non-life insurance operation to drop to AUD315 million in FY22, from AUD712 million in FY21. However, we expect SGL's near-term earnings to be supported by stronger reinvestment yields, as the insurer reinvests its fixed-income portfolio, which has a relatively short duration.
Favourable Company Profile: SGL's company profile is supported by a 'Favourable' business profile and 'Moderate/Favourable' corporate governance compared with that of other Australian insurers. SGL is the second-largest non-life insurer by premium volume in
The successful sale of the bank will allow SGL to focus on its core non-life insurance operation. SML's contribution to SGL's earnings has been historically lower (FY19-FY21 average: 32%), despite rising to 53% in FY22, due to weaker investment returns in the insurance business.
Low Financial Leverage: SGL's borrowings at the holding company level to support the bank's capitalisation have not been overly burdensome, and the group's financial leverage ratio, which factors in financing debt of the insurance operation as well as SGL's borrowings on behalf of SML, was low at 12% at FYE22 (FYE21: 11%).
RATING SENSITIVITIES
We expect to resolve the RWN once the sale is completed or it is announced that the sale will not proceed and once detailed information on SGL's ultimate capital position is available. This is likely to take more than six months.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
SGL and AAI's ratings may be downgraded by one or more notches if the group fails to maintain the Fitch Prism Model Score well into 'Strong' for a sustained period
Non-life total prescribed capital amount coverage falling to below 1.50x
Deterioration in SGL's company profile, including a weaker franchise or a large drop in market share
Weaker Viability Rating for SML
Non-life combined ratio of over 98% for a sustained period
Financial leverage ratio above 23% for a sustained period
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Maintaining the Fitch Prism Model Score well into 'Strong'
Further improvement in SGL's company profile, with greater geographical diversification of the non-life operation, coupled with a stronger standalone bank profile
Best/Worst Case Rating Scenario
International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from '
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg
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