Investment Analysis
Australian Competition Tribunal (ACT) appeal outcome is uncertain. ANZ is appealing to ACT. The process considers the full merits of the ACCC decision, both legal and evidence presented by both parties. New evidence can be provided, and the ACT decision is final and binding. Federal Court can be used in certain circumstances for grounds for appeal.
ACT has struggled with reliance in recent years. 2020 TPG Telecom-Vodafone Hutchison ACCC appeal skipped the ACT and went straight to the Federal Court. Recent comments from ACT head Justice Michael O’Bryan suggested limiting the scope of an appeal, with the ACT not being there just to offer ‘re-hearing’.
ACCC key areas for reduced competition; 1) homes loans; 2) SME loans; 3) Agribusiness. Reduced competition in retail deposits was not a concern. In our view, a reduction in the level of service providers is at the heart of the economic benefit ANZ sees in this transaction. SUN could potentially split out the Agri-bank and business lending, but this would only increase deal complexity and likely reduce the net proceeds of the transaction which already has ~$800m in transaction costs.
Alternatives to an ANZ sale? Three alternatives; 1) Sell to another party; 2) retain the bank; or 3) demerger/in-specie distribution.
In our view, only Bendigo and Adelaide Bank (BEN) of the domestic players would be interested, and appeal to pass the ACCC process. BEN trades at 0.75x price to book, so it would be unlikely that it would be willing to pay a 1.3x price to book that ANZ is paying. At 1.0x book, SUN proceeds to fall to $3.4bn or net proceeds of ~$2.6bn.
SUN retaining the bank is unlikely over the long term. Ultimately SUN Bank lacks scale (particularly funding) and is a drag on both the multiple and ROE across the cycle. A less palatable option would be to pursue a demerger, which effectively passes the question of value over to shareholders.
Does the current share price factor in a successful Bank sale?
SUN has historically traded at ~13% discount to IAG on PER basis (currently 18% discount). Adjusting for the implied value of the SUN bank using the BEN PER multiple as a proxy, we find that SUN has historically traded at a ~8% discount.
At present the bank adjusted PER multiple is at a 9-10% discount. In other words, the share price is not currently factoring in any success of the ANZ/SUN transaction.
Market earnings estimates. Few of our analyst peers had factored in a successful sale of SUN Bank to ANZ, so we expect little change to FY24E and FY25E earnings estimates.
SUN has previously guided to using net proceeds for capital management. At $4.1bn of net proceeds (equivalent to ~$3.20 per share), we expected SUN would split the proceeds ~25% to special dividends and ~75% to on-market share buybacks.
Investment View
We downgrade SUN from Buy to Hold.
SUN is operating in the sweet spot of the insurance cycle. Stable market share, strong premium growth, and the prospects of falling claim inflation and improved investment earnings suggest that return on equity can improve further in this cycle.
The market has upgraded SUN’s NTM earnings by >25% since mid-2022, including 10-15% higher Bank earnings.
The ACCC’s rejection of the SUN Bank sale does not impact the SUN insurance business. We do see risk to SUN’s valuation multiple, which is essentially flat since SUN/ANZ deal was announced and will be unable to move higher whilst the ACT appeal is ongoing. The prospects of capital management have also been delayed, creating uncertainty on the timing of any of the $4.1bn of net proceeds.
In our view, it is far from certain that the ACT will come to a different outcome to the ACCC, given the deal fundamentally reduces the number of independent banks operating (primarily) in QLD. There is no crisis or solvency pressure in the background which has assisted prior M&A in Australian Banking.
Risks to Investment View
The business of providing insurance inherently involves the pricing of risk. A wide range of variables including factors outside of the company’s control can have a material influence on both the earnings and capital base of SUN.
Lower-than-expected insurance premium increases or higher claims inflation could eat into the current expectations of improved earnings for SUN. Higher than-expected reinsurance costs could also impact earnings.
SUN is attempting to sell its Retail Bank to ANZ Group (ANZ). It’s uncertain whether regulators will allow this transaction to proceed.
Increased competition in the domestic general insurance market or accelerated loss of market share could weigh on earnings growth. The market is currently rational in its pricing.
Figure 1: SUN bank sale scenario ANZ vs BEN – potential net proceeds
Figure 2: SUN PER adjusted for bank vs IAG. SUN historically trades at an 8% discount
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Figure 3: SUN return on equity has lifted off the back of improve earnings estimates.
Figure 4: SUN Dividend yield
