Spoiler: This quite lengthy submit incorporates no actionable funding concepts.
Background:
Hannover Re is a inventory that for some cause I’ve ignored for a while though I contemplate Insurance coverage shares as a part of my circle of competence. Why did I ignore them ? I used to be at all times delay from the possession construction. Hannover Re is majority owned by Talanx, which itself can also be listed. Talanx once more is owned ~80% bei HDI, which is owned by …I don’t know.
Wanting on the chart, I ought to have thought-about them earlier: Over the previous 15 years, Hannover outperformed the bigger and higher recognized friends like Munich Re and Swiss Re by a large margin and ties with Berkshire (earlier than FX):
That is very attention-grabbing, contemplating that Hannover Re is just the No. 3 international Reinsurer and Berkshire solely quantity 5. Absolute dimension doesn’t appear the drivig issue for shareholder returns within the Reinsurance business.
Deep dive Comparability: Hannover Re vs. Munich Re
As Munich Re and Hannover Re are each German based mostly corporations, I assumed it may be enjoyable to match these two , as each must report beneath iFRS and are topic to Solvency II regulation with BAFIN as major regulator. Each, Swiss Re and Berkshire run beneath very completely different regimes and can’t be in contrast so easily-
One small caveat: Whereas Hannover Re is a “pure play” Reinsurance firm, Munich Re through ERGO can also be energetic in major retail insurance coverage. Earlier than leaping into the comparability, let’s simply rapidly summarize what Reinsurance is all about.
The Reinsurance enterprise
Many Warren Buffett followers assume that (Re) Insurance coverage is a fairly simple enterprise: You gather the premiums, earn a living on the insurance coverage facet, which then creates the well-known “float at detrimental price” and then you definately earn much more cash with good investments.
Sadly, in actuality this isn’t really easy. Reinsurance is to a sure extent a “wholesale” enterprise, with the primary commodity that they’re holding in inventory for his or her shoppers, the first insurers, is capital. Primaray insurers “cede” an quantity of their premium for the case that claims are bigger than a major insurer can or need to swallow. Due to this fact the forgive the prospect to earn return on the float.
The idea behind that is in fact diversificaion, I.e. that worldwide reinsurers are higher diversified and have a decrease price of capital and many others. In actuality nevertheless, Reinsurance is a reasonably arcane artwork and much like “structured finance” typically has the primary purpose to make their shoppers “look higher” as a substitute of really transferring a variety of threat.
Within the outdated occasions, it was commonplace to really give out loans to major insurers and name them Reinsurance. In 2006 as an example, even Berkshire was fined with greater than 1,2 bn for such “pseudo reinsurance” contracts whose major purpose was to arbitrage insurance coverage regulation.
Reinsurers are usually additionally regulated a bit of bit lower than major insurers as a result of their shoppers are “subtle companies”, so guidelines and restriuctions for reinsurers are ussually a bit of bit relaxed.
The primary issue for with the ability to develop a Reinsurance enterprise is capital. With out capital, regulators won’t permit Reinsurance corporations to do extra enterprise. So preserving and rising capital is essential for Reinsurers which in flip means the upper the return on capital (fairness) the higher.
Apart from industrial corporations, Reinsurance corporations should have “tangible” Fairness as major supply of capital. Subordinated debt can alos be used as capital however “arduous tangible fairness” is the primary supply.
Hannover Re vs. Muncih Re – The small print
Let’s begin with a couple of “Compound annual development fee” (CAGR) numbers for the years 2006 to 2022 which already present a giant distinction between the 2:
A couple of first feedback right here:
Hannover Re may improve their topline by virtually 9% p.a. vs. solely 3,5% at Munich Re. Working revenue elevated “solely” by ~ 6% p.a. for Hannover whereas it declined by -6% for Munich Re.
For Munich Re, solely EPS development is optimistic and this is because of a lowering variety of shares excellent. The one class the place Munich Re comes shut is the expansion fee in divdends per share.
Curiously, Muncih Re has now much less Fairness than 15 years in the past, regardless of a rising steadiness sheet. Total, the 15 yr numbers clearly present a giant distinction between Hannover Re and Munich Re.
The query now’s in fact: Why ? Why did Hannover higher ?
Listed below are some extra numbers that may clarify a part of the story:
First we are able to see that Munich Re achieved their improve in dividends per share largely by means of a rise within the payout ratio whereas Hannover’s payout ratio remained fixed.
The second set of numbers is much more attention-grabbing: That is the proportion of Fairness to whole steadiness sheet worth. In Hannovers Case, fairness as % truly elevated wheres in Munich Re’s case, this ratio virtually halfed. So successfully, Munich Re is leveraging its Stability sheet rather more. If we transalte this into leverage multiples: Hannover has decreased its leverage from 14x to 10x, whereas Muncih Re has elevated the leverage from 8x to 14x.
One other attention-grabbing facet is that in each circumstances, tax charges have declined considerably. That is clearly an impact that can not be simply repeated. The lower in tax charges largely explains the distinction between the EBT CAGR and the Working Revenue CAGR for each of them (roughly 1% p.a.).
Depite the rather more conservative steadiness sheet, the typical ROE for Hannover Re is ~5% greater over the 15 years than for Munich Re. To a sure extent, that is mirrored in the next valuation for Hannover, each in 2006 and now for 2022. However this distinction is big.
The ultimate two traces have a look at the signifcance and the development of the monetary outcome, i.e. the results of the float.
In each circumstances, Monetary outcomes are greater than the working revenue which signifies that over these 15 years, each firm misplaced cash with Insurance coverage, i.a. the float was not free.
Nevertheless, in Hannover Re’s case, Insurance coverage almsot broke even, whereas in Muncih Re’s case the Insurance coverage outcome was considerably detrimental.
The final line lastly exhibits us how a lot of the monetary outcomes consits of “ongoing returns” (dividends, curiosity funds) and what quantity relies on realized good points. Once more, Munich Re’s monetary result’s of decrease high quality
Comparability abstract:
Compared, Hannover Re clearly seems to be like the higher enterprise. They managed to develop rather more, obtain higher ROE’s regardless of having a way more conservative steadiness sheet.
Munich Re in distinction appeared to have centered totally on returning capital to shareholders. This sounds nice in concept however for Reinsurance, the place capital is the primary useful resource for development, it won’t be the optimum technique.
Munich Re has an amazing overview on their share purchase backs:
So it’s attention-grabbing to see that despit huge purchase backs at costs effectively beneath as we speak’s share value, Hannover Re has created considerably extra worth by retaining capital and rising the enterprise as a substitute.
Is Hannover Re now a “purchase” ?
If I might be compelled to purchase one of many two shares, I might clearly go for Hannover Re. Regardless of the slighly greater valuation, for my part the standard of the enterprise is considerably higher.
Nevertheless the large query is: Is Hannover Re a stand-alone purchase ?
The Reinsurance business is meant to enter a “arduous market”, which implies rising costs and rising income if there aren’t any massive Cat losses. As well as, greater rates of interest ought to improve curiosity revenue over time. Some traders even contemplate Insurance coverage shares as one thing of a “no brainer “proper now.
However, with a trailing P/E of ~18, Hannover Re trades at an traditionally very excessive degree (ex 2008/2009). With regard to Value/Guide, the present degree of two,7x ebook worth, displays a premium of greater than 100% to the historic common.
Hannover Re has clearly been buying and selling too low cost for a few years, however now, the inventory seems to be to me about pretty valued. The inventory clearly has momentum and will run greater on the again of accelerating income in 2023, however for my typical inevstment horizon of 3-5 years, I don’t see that a lot upside.
Is Talanx a purchase as a substitute ?
Talanx, itself listed, owns 50,2% of Hannover Re. With a market cap of twenty-two,6 bn for Hannover Re, one may in concept deduct 11,3 bn from Talanx’s Market cap to see what one pays for the Main insurance coverage half.
Talanx itself has a market cap of solely 11,3 bn, so one will get the first insurance coverage “at no cost”.The inventory additionally has underperformed its main subsidiary considerably over the previous 10 years:
Talanx had a web revenue of 1 bn after minorities in 2021, which incorporates ~ 600 mn EUR from Hannover Re. This leaves us with ~400 mn of Primaty insurance coverage web revenue, which might translate to a “honest” market cap of 4-6 bn for the first insurance coverage enterprise.
At first sight, this could imply that there could possibly be a 50% upside to honest worth for Talanx. Nevertheless, adjusting for the low free float and common holding reductions and an extra 1 bn in debt, the upside may be solely half of that and even much less.
If Hannover Re itself could be undervalued, Talanx could possibly be a pleasant option to play this not directly, nevertheless as I assume Hannover Re is pretty valued, Tlaanx doesn’t look that enticing to me at a supeficial look.
Abstract:
Though this submit didn’t generate any “actionable funding concepts”, I nonetheless assume there’s a lot to be taught, a minimum of I did. My take aways are:
1) Hannover Re is an efficient instance {that a} boring enterprise with a reasonable valuation can generate excellent long run returns with comparatively unspectular development charges (~7% EPS development each year)
2) Munich Re is an efficient instance, that share buy-backs aren’t such a “no brainer” as many traders assume, particularly once they come on the expense of development.
3) In the long run, the essentially higher run enterprise performs higher. Interval.
4) Hannover Re can also be a very good instance that creating worth in Insurance coverage through the precise insurance coverage enterprise may be simpler than attempting to “spice” issues up with extra dangerous investments.
