Over-50s financial specialist Saga (LON:SAGA) today suffered a bit of a saga of its own as a slew of bad news hit the market today within its preliminary results. The share price contracted 40% on opening, but since has recovered slightly. Still, it could be said that the markets were not expecting this type of news:
The share price is now half of what it was in the summer last year, and drops to a multi-year low. The drop is even more pronounced if we go back another couple of years where it was mostly in excess of 200p.
Saga are a well-established service in the United Kingdom, providing a range of products for the over-50s such as general insurances (car, medical, life). Rather oddly for a financial house, it also has a holidays division, and ‘Saga’ holidays are relatively well known, and the company also operates two cruise ships allowing it to provide complete holidays.
In recent years this has been a slick operation, generating good profits and paying dividends as well as wrestling with a large debt pile. It is a well regarded share on Stockopedia, but the decline has been priced in for a while now. The most recent update in January was an ‘in-line with expectations’.
There is a lot to report here with several bits of news, most of them bad for shareholders. First the outlook by the CEO:
Over recent years Saga has faced increasing challenges from the commoditisation of the markets in which we operate, especially in Insurance. This has had an impact on both customer numbers and profitability. Although Underlying Profit Before Tax for the 2018/19 financial year is in line with our expectations, the long-term challenges we face and the results demonstrate that Saga cannot grow without a clearly differentiated offering to its customers.
Arguably this has been known for some time. We go on:
In response, today we are launching a fundamental change to the Group’s strategy to return the whole business to its heritage as an organisation that offers differentiated products and services. This will give our customers and members a compelling reason to come to us and stay with us.
As a first step, we are announcing the launch of a new approach to Insurance. This focuses on direct channels and products that offer attractive innovative features, moving the conversation from price to value. Our new three-year fixed price insurance offering is a powerful indication of our change in approach.
This sounds like a load of corporate speak. If a true differentiated insurance product was available by now, would we not have seen elements of it? Going from price to value could cut both ways, giving better customer figures at the expense of profits.
It does seem that there will be an ‘investment’ in customers:
As a result of lower margins in Insurance, a change in approach to renewal pricing, lower reserve releases and investment in new products, Underlying Profit Before Tax for the 2019/20 financial year is expected to be between £105m-120m. Therefore, we have taken the difficult decision to reduce our final dividend and write down goodwill. The fundamental changes we are making are essential to address the long-term challenges facing our business. They will support future growth in customers and profits, and generate attractive cash flows for Saga.”
As a comparison, underlying profit before tax was £190m for 2018 and £180m for this year, so that is a very large cut. The additional cut of the dividend from 9p to 4p also adds insult to injury.
Not included in the opening statement was a non-cash impairment charge to goodwill of £310m which swings the statutory results into a loss.
Insurance is often a more complex subject than it appears, and may run contrary to general macroeconomic conditions. It is fair to say that insurance has become more of a commodity, and the rise of comparison sites mean that customers have become more price sensitive and also stay for a shorter period of time.
That being said, more frequent switching offers operators like Saga opportunity to acquire customers, and they have positioned themselves as a specialist for the older end of the market, who on one hand may cost more, but may be less inclined to change.
As we can expect, insurance forms the core of the earnings for Saga. Some 2.7m policies were writen at an average £44 per policy. However, they also have a successful underwriting business, which contributed £79.2m in profit. Travel is the smallest segment, but still contributed £20m to underlying profits. It could be the case that this may be the segment most under threat as recent warnings by TUI and Thomas Cook have shown.
We have no research on Research Tree to go on, but the profits generated are real and converted to cash. It is no surprise that the dividend has been cut: in the last year, this cost the company almost £100m and on a much reduced EBITDA for 2020 it would be not possible to keep it at this level. Even at the reduced level it may prove to be expensive.
The balance sheet is quite intangible heavy: from total assets of £2.6bn, over £1.5bn were intangible, before the write down today. That compares to £1.42bn of liabilities, which are much more tangible, the bulk being debt and also liabilities related to insurance provisions.
A note about cash from the last annual account:
The footnote is quite interesting. Although not on the same scale, Flybe had a similar issue: a lot of cash on the balance sheet but it was restricted in that it was a payment for services not yet discharged.
Debt levels from the interims can be seen here:
The level of the debt does not seem too bad, and unlike a pure finance company there are a couple of real assets behind it: Saga owns two cruise ships. The reason why debt did not go anywhere in the past year can be glimpsed from the cashflow statement: £185.7m of operating income was swallowed up by dividends (£100.9m), investments in assets (£100m) and tax and interest (£48.1m), which contributed to a net outflow.
There is a lot going on here, and my gut feeling is that things are not good. A change in strategy is by no means guaranteed to pay-off, and blights the accounts for the next few years with adjustments. Furthermore, with the level of intangible costs here there could be further impairments if it doesn’t work out.
The insurance markets have changed for good I feel, and customers have mandated the change from value to cost for good reason: many of the benefits of insurance are not realised into way into the future, and it has become easier to value differences and make trade-offs. For example, the benefit of having a courtesy car versus a £20 increase in premium. It is up to insurance companies to reverse this, and in my view there is a generational shift happening: the pensioners of tomorrow will be well versed in computers and comparing.
The performance of the company is good, as evidenced by the large number of policies they write. But a strategic move from cost to value may lose a lot of those numbers, as like they have observed, insurance is a commodity.
On a plus side, the company trades cheaply on all metrics now, although that isn’t enough to tempt me. 2/5