Johannesburg, 17 May 2018 — Global Credit Ratings has today affirmed Conduit Capital Limited’s national scale issuer ratings of BBB(ZA) and A3(ZA) in the long term and short term respectively. The ratings have been accorded a Stable outlook. Furthermore, an international scale rating of B+ has been accorded; with a Stable outlook.
SUMMARY RATING RATIONALE
Global Credit Ratings (“GCR”) has accorded the above credit ratings to Conduit Capital Limited (“Conduit”) based on the following key criteria:
Driven by an experienced management team and a supportive shareholder base, Conduit has outlined a clear strategy to expand the group into a broader insurance related group, complemented by a portfolio of non-insurance investments that can contribute to long-term net asset value enhancement. Nevertheless, Conduit’s performance remains dependent on its major subsidiary, short-term insurer Constantia Insurance Company Limited (“CICL”).
The group’s performance has thus been hampered by the large underwriting losses reported since FY16. CICL has, however, implemented corrective action, with the core Accident & Health class reporting a much lower underwriting loss in 1H FY18. The high expense ratio has been attributed to investments made in systems and infrastructure to drive business growth. Accordingly, the demonstrated ability to introduce new lines of business and underwrite additional premium is critical to achieving the scale necessary to operate profitably. This would allow CICL to reduce its combined ratio to around 100% over the near term (towards the target of 95%), the level necessary to expand the investment portfolio.
The acquisition of two investment portfolios has bulked up Conduit’s overall investment portfolio and provided meaningful stakes in five core equity holdings. However, as the share prices of these investments have mostly disappointed, overall fair value gains have been low and portfolio concentration has deepened. Nevertheless, management remains committed to current investments and expect the share prices to improve over the longer term to reflect the growth in underlying earnings.
Due to the large loss in FY17, CICL’s solvency ratios weakened to approximate the internal targets of 1.25x CAR cover and international solvency of 45%. However, with the transfer of the Snowball Wealth (Pty) Limited equity portfolio and a cash equity injection in 1H FY18, CAR cover spiked to 5.9x at 1H FY18 and international solvency exceeded 200%. Such strong metrics provide ample headroom to absorb the short-term losses and facilitate future premium growth. This was recognised in GCR’s upgrade of CICL’s claims-paying ability ratio to A(ZA) Stable outlook, in February 2018.
Ongoing shareholder support has enabled Conduit to implement its growth and investment plans, without recourse to debt. Nevertheless, Conduit does foresee debt being part of its long-term funding mix and has registered a R2bn DMTN programme. Such funding will likely only be needed towards the end of FY19 and the initial drawdown should be relatively moderate. Moreover, current liquidity metrics are supported by around R300m in unencumbered cash and the c.R200m value of the equities held directly by Conduit. The group also has around R120m in treasury shares which it can sell.
Conduit’s liabilities rank subordinate to those of CICL, and thus its credit rating is lower than CICL, albeit that the level of downward notching implied by the subordination has been weighed against the implied support offered by other group assets. Although CICL’s claims paying ability rating was recently upgraded, this was reflective of the transfer of a portion of equities from Conduit to CICL. This substantially reduced the level of unencumbered assets within the group, albeit liquidity remains adequate. GCR notes that from a consolidated perspective, the level of equity investments within Conduit is little changed since the acquisition of the two portfolios, underpinning the stable rating despite CICL’s improved credit strength.
A return to underwriting profitability is essential for positive rating progression. This would include the demonstrated ability to expand the new lines of insurance over the medium term while attaining targeted margins, in conjunction with strong value growth in the unencumbered share portfolio. Conversely, continued high claims experience and the large cost base, in the absence of significant premium growth, will likely lead to further underwriting losses and undermine the group’s growth plans.
| NATIONAL SCALE RATINGS HISTORY | |
| Initial/ last rating (May 2017) | |
| Long term: BBB(ZA); Short term: A3(ZA) | |
| Outlook: Stable | |
| International long term: B+ | |
| Outlook: Negative |
ANALYTICAL CONTACTS
| Primary Analyst | |
| Eyal Shevel | |
| Sector Head: Corporate and Public Sector Ratings | |
| (011) 784-1771 | |
| shevel@globalratings.net | |
| Committee Chairperson | |
| Sheri Morgan | |
| Senior Analyst: Corporate Ratings | |
| (011) 784-1771 | |
| morgan@globalratings.net |
APPLICABLE METHODOLOGIES AND RELATED RESEARCH
Criteria for Rating Corporate Entities, updated February 2018
Criteria for Rating Short Term Insurance Companies, updated May 2018
Criteria for Rating Insurers’ Debt and Hybrid Equity Instruments, updated May 2018
Constantia Insurance Company Limited rating reports (2001-2018)
RATING LIMITATIONS AND DISCLAIMERS
ALL GCR’S CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://GLOBALRATINGS.NET/UNDERSTANDING-RATINGS. IN ADDITION, GCR’S RATING SCALES AND DEFINITIONS ARE ALSO AVAILABLE FOR DOWNLOAD AT THE FOLLOWING LINK: HTTP://GLOBALRATINGS.NET/RATINGS-INFO. GCR’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, PUBLICATION TERMS AND CONDITIONS AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE AT HTTP://GLOBALRATINGS.NET.
GLOSSARY OF TERMS/ACRONYMS USED IN THIS DOCUMENT AS PER GCR’S Corporates GLOSSARY
| Accounting | A process of recording, summarising, and allocating all items of income and expense of the company and analysing, verifying and reporting the results. |
| Assets | A resource with economic value that a company owns or controls with the expectation that it will provide future benefit. |
| Benefits | Financial reimbursement and other services provided to insureds by insurers under the terms of an insurance contract. |
| Bond | A long term debt instrument issued by either: a company, institution or the government to raise funds. |
| Capacity | The largest amount of insurance available from a company. In a broader sense, it can refer to the largest amount of insurance available in the marketplace. |
| Capital | The sum of money that is invested to generate proceeds. |
| Claim | A request for payment of a loss, which may come under the terms of an insurance contract. |
| Credit Rating | An opinion regarding the creditworthiness of an entity, a security or financial instrument, or an issuer of securities or financial instruments, using an established and defined ranking system of rating categories. |
| Diversification | Spreading risk by constructing a portfolio that contains different investments, whose returns are relatively uncorrelated. The term also refers to companies which move into markets or products that bear little relation to ones they already operate in. |
| Equity | Equity is the holding or stake that shareholders have in a company. Equity capital is raised by the issue of new shares or by retaining profit. |
| Illiquid | Markets or financial instruments are described as being illiquid if there are few buyers and sellers. Assets may also be considered illiquid. It may be difficult, or even impossible, to find a reliable price for an illiquid security. |
| International Scale Rating LC | International local currency (International LC) ratings measure the likelihood of repayment in the currency of the jurisdiction in which the issuer is domiciled. Therefore, the rating does not take into account the possibility that it will not be able to convert local currency into foreign currency or make transfers between sovereign jurisdictions. |
| Liabilities | All financial claims, debts or potential losses incurred by an individual or an organisation. |
| Long-Term Rating | A long term rating reflects an issuer’s ability to meet its financial obligations over the following three to five year period, including interest payments and debt redemptions. This encompasses an evaluation of the organisation’s current financial position, as well as how the position may change in the future with regard to meeting longer term financial obligations. |
| Loss | The happening of the event for which insurance pays. |
| Net Asset Value | The value of an entity’s assets less its liabilities. It is a reflection of the company’s underlying value and is usually quoted on a per share basis. |
| Policy | The legal document issued by the company to the policyholder, which outlines the conditions and terms of the insurance. |
| Portfolio | A collection of investments held by an individual investor or financial institution. They may include stocks, bonds, futures contracts, options, real estate investments or any item that the holder believes will retain its value. |
| Premium | The price of insurance protection for a specified risk for a specified period of time. |
| Rating Outlook | A Rating outlook indicates the potential direction of a rated entity’s rating over the medium term, typically one to two years. An outlook may be defined as: ‘Stable’ (nothing to suggest that the rating will change), ‘Positive’ (the rating symbol may be raised), ‘Negative’ (the rating symbol may be lowered) or ‘Evolving’ (the rating symbol may be raised or lowered). |
| Reinsurance | The practice whereby one party, called the Reinsurer, in consideration of a premium paid to him agrees to indemnify another party, called the Reinsured, for part or all of the liability assumed by the latter party under a policy or policies of insurance, which it has issued. The reinsured may be referred to as the Original or Primary Insurer, or Direct Writing Company, or the Ceding Company. |
| Risk | The possibility that an investment or venture will make a loss or not make the returns expected. There are many different types of risk including basis risk, country risk, credit risk, currency risk, economic risk, inflation risk, liquidity risk, market or systemic risk, political risk, settlement risk and translation risk. |
| Shareholder | An individual, entity or financial institution that holds shares or stock in an organisation or company. |
| Short Term | Current; ordinarily less than one year. |
| Short-Term Rating | A short term rating is an opinion of an issuer’s ability to meet all financial obligations over the upcoming 12 month period, including interest payments and debt redemptions. |
| Solvency | With regard to insurers, having sufficient assets (capital, surplus, reserves) and being able to satisfy financial requirements (investments, annual reports, examinations) to be eligible to transact insurance business and meet liabilities. |
| Statutory | Required by or having to do with law or statute. |
| Underwriting | The process of selecting risks and classifying them according to their degrees of insurability so that the appropriate rates may be assigned. The process also includes rejection of those risks that do not qualify. |
SALIENT FEATURES OF ACCORDED RATINGS
GCR affirms that a.) no part of the rating process was influenced by any other business activities of the credit rating agency; b.) the ratings were based solely on the merits of the rated entity, security or financial instrument being rated; c.) such ratings were an independent evaluation of the risks and merits of the rated entity, security or financial instrument.
Conduit Capital Limited participated in the rating process via face-to-face management meetings, teleconferences and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.
The credit ratings have been disclosed to Conduit Capital Limited with no contestation of the ratings.
The information received from Conduit Capital Limited and other reliable third parties to accord the credit ratings included:
- Audited financial statements for FY17, and four years comparative numbers
- 1H FY18 unaudited published financial statements
- GCR rating report for Constantia Insurance Company Limited
- Investment and capital allocation policy document
- Details of investment portfolio at February 2018
- Five year forecast model for Conduit
The ratings above were solicited by, or on behalf of, the rated client, and therefore, GCR has been compensated for the provision of the ratings.
GCR affirms Conduit Capital Limited’s rating of BBB(ZA), Outlook Stable.