Announcements Insurance Rating Alerts

GCR downgrades Constantia and Conduit’s Financial Strength and Long Term Issuer ratings to BB(ZA) and B(ZA), respectively; Negative Watch

Rating Action

Johannesburg, 18 March 2020 – GCR Ratings (“GCR”) has downgraded Constantia Insurance Company Limited’s (“Constantia”) South Africa national scale financial strength rating to BB(ZA) from A-(ZA) with the rating maintained on Negative Watch. Furthermore, GCR has downgraded Conduit Capital Limited’s (“Conduit”) national scale long term and short-term issuer credit ratings to B(ZA)/B(ZA) from BBB(ZA)/A3(ZA), with the ratings maintained on Negative Watch and Rating Watch respectively. At the same time, the international scale long term issuer rating for Conduit has been downgraded to CCC+ from B, and placed on Negative Watch.

Rated Entity / Issue Rating class Rating scale Rating Outlook/Watch
Constantia Insurance Company Limited Financial strength National BB(ZA) Negative Watch
Conduit Capital Limited Long term issuer National B(ZA) Negative Watch
Short term issuer National B(ZA) Rating Watch
Long term issuer International CCC+ Negative Watch

Rating Rationale

The negative rating action reflects ongoing earnings weakness, with the expected turnaround in Constantia’s underwriting performance not having materialised as expected in 1H F20. Weak earnings have in turn resulted in a deterioration in capitalisation and liquidity relative to our expectations. GCR nevertheless notes the turnaround strategy that has been implemented, as well as initiatives that are underway to address capitalisation and liquidity weaknesses. However, the ratings have been maintained on Negative Watch to reflect potential for negative rating action if these initiatives do not materialise as expected.

Constantia’s underwriting performance has been impacted by a very high operating expense ratio, which has offset recent improvements in the net loss ratio and led to persistent deep underwriting losses (continuing in 1H F20). This has been exacerbated by fair value losses on the equity portfolio, which translated into large net losses in FY19 and 1H F20. The insurer started to implement corrective portfolio action in 2Q F20, which together with material cost cutting is expected to stabilise underwriting performance and cash generation. The extent to which this addresses earnings volatility is expected to be a key medium term rating consideration.

The large net losses have led to a weakening in Constantia’s risk adjusted capitalisation metrics, with Solvency Capital Requirement (“SCR”) coverage remaining below the minimum regulatory requirement. GCR has factored in the planned recapitalisation in the coming months (with SCR expected to improve to at least an intermediate level). However, we note the impact of the associated exposure to property and the elevated equity market risk.

Operational cash flow strain has led to weak liquidity levels, noting the limited tradability of the majority of the investment portfolio. GCR expects this to be partly addressed by proceeds from the sale of equities and improved operational cash flow.

Constantia’s intermediate market share and premium diversification are viewed to be partly offset by a level of revenue volatility (after the aggressive growth reported in earlier review years), the portfolio’s poor earnings and geographic concentration to South Africa. The ratings are restrained by the high related party exposures.

Outlook Statement

The Negative Watch on the ratings reflects the potential for further negative rating actions if the planned initiatives to address earnings, capitalisation and liquidity are not executed in line with expectations over the short term.

Rating triggers

Negative rating action is likely to follow if earnings and/or operational cash flow pressures persist, or if capitalisation does not improve in line with expectations. We may also lower the rating of Constantia if they are acquired in majority by an entity with lower creditworthiness. Over the longer term, positive rating action may follow a sustained turnaround in earnings that underpins a strengthening in the financial profile.

Analytical Contacts

Primary analyst Susan Hawthorne Senior Analyst
Johannesburg, ZA SusanH@GCRratings.com +27 11 784 1771
Committee chair Matthew Pirnie Group Head of Ratings
Johannesburg, ZA MatthewP@GCRratings.com +27 11 784 1771

Related Criteria and Research

Criteria for the GCR Ratings Framework, May 2019
Criteria for Rating Insurance Companies, May 2019
GCR Ratings Scales, Symbols & Definitions, May 2019
GCR Country Risk Scores, January 2020
GCR Insurance Sector Risk Scores, January 2020

Ratings History

Constantia Insurance Company Limited

Rating class Review Rating scale Rating Outlook/Watch Date
Claims paying ability Initial National A-(ZA) Stable March 2006
Financial strength Last A-(ZA) Negative Watch October 2019

Conduit Capital Limited

Rating class Review Rating scale Rating Outlook/Watch Date
Long term Issuer Initial National BBB(ZA) Stable May 2017
Short term Issuer A3(ZA)
Long term Issuer International B+ Negative
Long term Issuer Last National BBB-(ZA) Negative Watch May 2018
Short term Issuer A3(ZA) Rating Watch
Long term Issuer International B Stable

Risk Score Summary

Risk scores
Operating environment 16.25
Country risk score 7.50
Sector risk score 8.75
Business profile (3.50)
Competitive position (1.25)
Premium diversification (1.25)
Management and governance (1.00)
Financial profile (3.00)
Earnings (2.00)
Capitalisation 1.00
Liquidity (2.00)
Comparative profile 0.00
Group support 0.00
Peer analysis 0.00
Total Score 9.75

Glossary

Capital The sum of money that is invested to generate proceeds.
Capitalisation The provision of capital for a company, or the conversion of income or assets into capital.
Cash Flow The inflow and outflow of cash and cash equivalents. Such flows arise from operating, investing and financing activities.
Cash Funds that can be readily spent or used to meet current obligations.
Diversification Spreading risk by constructing a portfolio that contains different exposures 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.
Downgrade The rating has been lowered on its specific scale.
Equity Investment An instrument that signifies an ownership position of shares of stock in a company that is either listed or traded on a stock exchange (also known as a counter) or are unlisted.
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.
Fair Value The fair value of a security, an asset or a company is the rational view of its worth. It may be different from cost or market value.
Insurance Provides protection against a possible eventuality.
Investment Portfolio A collection of investments held by an individual investor or financial institution.
Issuer Ratings See GCR Rating Scales, Symbols and Definitions.
Issuer The party indebted or the person making repayments for its borrowings.
Liquidity The speed at which assets can be converted to cash. It can also refer to the ability of a company to service its debt obligations due to the presence of liquid assets such as cash and its equivalents. Market liquidity refers to the ease with which a security can be bought or sold quickly and in large volumes without substantially affecting the market price.
Market An assessment of the property value, with the value being compared to similar properties in the area.
Net Loss The amount of loss sustained by an insurer after giving effect to all applicable reinsurance, salvage, and subrogation recoveries.
Operating Expense Ratio Measures the proportion of operating expenses in net premiums earned.
Rating Outlook See GCR Rating Scales, Symbols and Definitions.
Rating Watch See GCR Rating Scales, Symbols and Definitions.
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.
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.

Salient Points of Accorded Rating

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; and c.) such rating was an independent evaluation of the risks and merits of the rated entity, security or financial instrument.

The credit ratings have been disclosed to Constantia Insurance Company Limited and Conduit Capital Limited. The ratings above were solicited by, or on behalf of, the rated entity, and therefore, GCR has been compensated for the provision of the ratings.

Constantia Insurance Company Limited and Conduit Capital Limited participated in the rating process via face-to-face management meetings, and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible. The information received from Constantia Insurance Company Limited and Conduit Capital Limited and other reliable third parties to accord the credit ratings included:

  • Group and company audited financial results as at 30 June 2019;
  • Four years of comparative group and company audited financial statements to 30 June;
  • Unaudited management accounts for Constantia to 31 December 2019;
  • Other relevant documents.
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