Following news this morning that French, non-life mutual insurer Covéa is exploring a move for the reinsurance business of AXA XL, analysts feel a sale could be positive for AXA and increase its valuation by up to 6%.
After failing to acquire SCOR in 2018, and then seeing its agreement to purchase PartnerRe break down due to pandemic-induced economic uncertainty in 2020, Covéa appears eager to diversify into the reinsurance space.
In April of this year, AXA XL announced the consolidation of its reinsurance operations under AXA XL Re, a move designed to more easily bifurcate and evaluate the performance of its insurance and reinsurance businesses.
Predominantly, AXA XL Re’s business is mostly comprised of renewing reinsurance policies previously underwritten by XL Bermuda Ltd., which AXA acquired in 2018.
At €4.7 billion, AXA XL Re now accounts for roughly 25% of the group’s premiums and, analysts at Berenberg estimate that this business accounts for c.33% or €400 million of AXA XL’s full-year 2021 €1.2 billion earnings target.
For a number of reasons, analysts at Berenberg “believe a deal would be very positive to the AXA valuation”.
Firstly, analysts state that the sale would reduce earnings volatility at AXA, and point to the firm’s +/-€1.5 billion pre-tax nat cat earnings volatility, which is on group earnings of around €8.4 billion (c.18%).
This view is shared by analysts at J.P. Morgan, who said today that a key positive from such a deal would be the fact it would “reduce earnings volatility at AXA which has increased materially after the acquisition of XL in 2018.”
Based on a potential sale price of between €4 billion and €5 billion, Berenberg analysts estimate the deal would create a gain of up to €1 billion worth up to €0.40 per share.
Expanding on this, analysts explain that if the deal is at €5 billion, and AXA XL Re’s net profit is €400 million, then it would be on 12x price-to-earnings (P/E), which is far above AXA’s own 8x P/E.
“This clearly would create value,” say analysts.
The final key positive highlighted by Berenberg concerns the group’s solvency. By reducing required capital, analysts say the deal could potentially add to AXA’s solvency, while also help the firm decide on capital management.
“Adding all these factors together mean we estimate the valuation of AXA could rise by 4-6%. Essentially, while we believe that the commercial lines and speciality part of AXA XL are good fits with AXA, the reinsurance business adds too much volatility. Therefore, in our view AXA is not the best long-term owner of this business,” say analysts.
Alongside reduced earnings volatility, analysts at J.P. Morgan add that the deal would also give management an opportunity to return extra capital to shareholders, which would show disciplined capital management.
Expanding on this point, analysts at J.P. Morgan state: “One key update that is important to say whether it would be a positive or a neutral deal would be to see what AXA management would do with any such potential proceeds. If AXA considered doing a share buyback with any such proceeds, we believe it would be a positive; however, if AXA were to look to recycle the proceeds in another M&A then such a deal might not be seen as a positive as there would be overhang on capital management.”
And finally, the sale would lower the implied cost of equity on AXA’s shares that analysts note had increased following the takeover of XL Group in 2018.
While Covéa’s appetite for owning a global reinsurance business is clear, it remains less clear how willing AXA is to offload its AXA XL Re operation at this time.