Sector Reuters reported that the Enhanced Annuity Market made up 28% of the market in Q4 2013 up from 2% in 2002. Yesterday s announcement from the Chancellor detailed radical changes to pension provision with the planned removal of compulsion to purchase an annuity. The impact was more acutely felt by specialist, less diversified insurers who specialise in the annuity market alone and would not benefit form additional sales from alternative investment/pension products Reuters estimate that the captive annuity market may contract by up to 50% Initial Assessment Whilst Aviva, L&G and Standard Life all fell substantially none of the declines were as severe as Partnership and Just Retirement Group that have fallen almost 60% and 45% respectively The Retail Distribution Review, implemented at the start of 2013 was already having an adverse effect on these companies (Partnership in particular) Both are also involved in the lifetime mortgage and immediate annuity market which may be an increasing source of revenue as more and more people need to fund long term costs Detailed Assessment We cannot offer a detailed assessment in the normal way as both only listed in 2013 as IPO s these would in our view have been typically overpriced Overall the declines may be warranted as this will be an increasingly competitive market, however it could also be an over reaction on the part of investors as 40-60% declines in one day appear excessive. This assessment will therefore attempt to establish whether we can justifiably take a small position in the hope that there is a turn around 1
Sector Assessment Just Retirement Group leading the way until yesterday Partnership struggling since Q4 2013 2
Initial Assessment Larger companies such as Aviva, L&G and Standard Life fell following the Chancellors announcement but significantly less than Partnership and Just Retirement Group; the main reason being the diversification of their operations that may actually benefit from an end to annuity compulsion (income drawdown etc). Reuters reports the likelihood of a severe contraction in the annuity market place; this view may be based on current conditions i.e. record low annuity rates and their current unpopularity/inflexibility. Income Drawdown often offers a significantly better option for those in ill health in terms of passing on benefits to spouses on death with no real cost for spouses pension; those buying annuities see a significant reduction in income for insuring against this event. With Income Drawdown plans significantly lower in cost and with wider investment choice the days of requiring a 100,000 fund to consider drawdown are long gone. This coupled with an increase in triviality limits to 30,000 the captive audience for annuities has been reduced even further. Bot Just Retirement Group and Partnership provide Home Equity Release Schemes that offer some diversification away from annuities, however we would also note that this is classed as a high risk advice area by the Financial Conduct Authority (FCA) and there may well be potential risks in the future that are unknown. 3
Initial Assessment Revenue and Margins Since 2011 both Partnership and Just Retirement Group have enjoyed rising revenues and profit growth We would note that Partnership suffered declining premiums that was only offset by strong investment income 1000 900 800 700 600 500 400 300 10.00% 9.00% 8.00% 7.00% 6.00% 5.00% 4.00% 200 100 0 Total Premiums Earned Total Premiums Earned Net Investment Income Net Investment Income Total Revenue Total Revenue 3.00% 2.00% 1.00% 0.00% Operating Margin Operating Margin Net Margin Net Margin PA.L JRG.L PA.L JRG.L PA.L JRG.L PA.L JRG.L PA.L JRG.L 2010 2011 2012 2010 2011 2012 4
Initial Assessment Cash & Leverage The amount of cash behind each individual share has risen over the last three years Partnership for share value is currently 1.186 and there is 60p of cash held by the company, whilst the figure for Just Retirement is lower with only 8p per share held in cash and a share price of 1.36 The figure may change substantially though with Partnership planning to pay a dividend shortly One area of concern would be the interest cover, whilst Just Retirement has interest cover of over 2x due to its relatively low level of debt Partnership has much more leverage and interest cover of 0.48. 0.60 0.50 0.40 0.30 0.20 0.10 - - 0.10-0.20 Cash Per Share Cash Per Share Cash Flow Per Share Cash Flow Per Share Free Cash Flow Per Share Free Cash Flow Per Share PA.L JRG.L PA.L JRG.L PA.L JRG.L 2010 2011 2012 5
EPS, Book Value and PE Ratios Despite concerns for annuity market EPS and Book Value for both Partnership continue to be forecast to rise This means that the forward PE ratio at current prices is considerably lower Partnership in particular Even if EPS are considerably lower than forecasts PE ratios would still remain modest 2.5 10.00 2 9.00 8.00 1.5 7.00 6.00 5.00 1 4.00 3.00 0.5 2.00 1.00 0 2010 2011 2012 2013 2014 2015 2016 0.00 2013 2014 2015 2016 PA.L EPS JRG.L EPS PA.L BVPS JRG.L BVPS PA.L Fwd PE JRG.L Fwd PE 6
EPS, Book Value and PE Ratios The graphs below show the PE ratios of both Just Retirement since listing in 2013 (Partnership not availbale) PE - Just Retirement 24 22 20 18 16 14 12 10 7
Recent Comment from Panmure Gordon in Citywire http://citywire.co.uk/wealth-manager/panmure-partnership-and-just-retirement-are-now-exceptional-buys/a741671/full 8
Considerations Change in annuity legislation surprised many and we must consider whether the effect on Partnership and Just Retirement is an over reaction. Their businesses are less diversified than larger annuity providers and involvement in what the FCA consider high risk activity of equity release is a potential future risk. There is a good chance annuities may come back into favour in the future if long term interest rates and gilt yields rise investors who would normally not take on risk are being pushed towards riskier assets by low long term interest rates. Retirees awareness of annuity options also needs to be raised. Annuity providers will have to continue due to their long term obligations to current annuitants in the event of failure the FSCS would have to step in, this has never happened and whilst we cannot discount it another outcome would be a takeover from another life company (e.g. as Phoenix has acquired closed business books). Immediate needs annuities for long term care continue to be required and the need for speciality underwriting for impaired life annuities is likely to remain both providers are competing for large defined benefit schemes business. 9
Conclusions & Action The annuity market is no doubt undergoing substantial change and whilst there is likely to be less annuity business in the current climate this could change in the future if long term interest rates rise and annuity rates become attractive to retirees who would otherwise not want to consider alternatives such as Income Drawdown. Whilst revenues are likely to decline if profit margins and earnings per share can be maintained there is the prospect for long term share appreciation from the current levels. Partnership in particular are backed by a substantial amount of cash per share whilst book value per share is also forecast to grow. Our main concern for Partnership is the debt levels and low interest cover. Overall investing in these shares would only be suitable for long term investors i.e. 5-10 years or 10+ years given the likelihood that interest rates will remain low for some time. The amount invested should be the same across defensive, cautious and balanced risk profiles with 0.75% into each for a total holding of 1.50%. 10