It was meant to be the jewel in the government’s crown but the public market debut of the country’s biggest life insurer, the Life Insurance Corporation of India (LIC), proved to be anything but that. In fact, at the press conference to announce the launch of LIC’s initial public offering, Tuhin Kanta Pandey, secretary, Department of Investment and Public Asset Management, had a tough time fending queries on why the government was selling LIC so cheap.
The IPO was valued at 1.1x LIC’s embedded value of ₹5,40,000 crore compared to listed peers’ 2x to 4x. Pandey told journalists at the interaction that comparing LIC in terms of embedded value to other players may not be the correct approach given the difference in sizes. While the media felt the government was selling its prized jewel cheap, in hindsight it seems the government and the bankers knew the worth of what they were selling.
The government got the valuation that it wanted but it has left investors with losses, for now. The Centre sold over 22.13 crore shares (3.5% stake) at ₹949 a share, but the insurer listed at a discount of 9% to the issue price on May 17 and slipped further 13% over the subsequent sessions to end at ₹840.20 on May 19. Not just retail investors but policyholders and employees’ investments, too, have turned negative despite being offered a discount. The insurer had offered a discount of ₹60 to policyholders and ₹45 to retail investors and employees, translating into an issue price of ₹889 and ₹904, respectively.
While bankers and the government would argue that the listing came amid global rout across markets, there were already enough indications that the debut was a risky proposition.
Subhash Chandra Garg, former finance secretary and chief policy adviser at Subhanjali, told Fortune India that LIC was always a recipe for disaster considering that on a price to earnings multiple the stock was exorbitantly priced. The insurer’s earnings per share (EPS) averaged at ₹4.47 in three preceding years and stood at ₹2.38 for the first half of FY22. At the offer price of ₹949, the multiple that the insurer commanded was in excess of 200 times, and despite the correction the current multiple is around 185 times. “That’s pretty expensive by any standards,” says Garg.
Considering the multiple of listed peers SBI Life and HDFC Life, which averages around 90 times, LIC’s stock should be quoting at ₹402, says Garg. That’s more than 50% lower from the current price.
However, a section of the market believes that profits in the coming years will increase from the past, following the bifurcation of the single policyholders’ fund into participating and non-participating funds last year. Under a participatory fund, a policyholder can get a share of the profits of the company unlike non-participatory funds.
Prior to the listing, the insurer used to distribute 95% of the profits made every year in the form of bonuses to participating policyholders and the rest to shareholders. As a result of the split, the embedded value jumped nearly five-fold to ₹5,39,686 crore (as of September 2021) compared with ₹95,605 crore in March 2021.
Post the split, participating policyholders’ profit pool will be limited to the fund belonging to them, whereas new shareholders, the government, and new investors, will have rights to the surplus from non-participating policyholders’ funds. As a result, some analysts believe profits for shareholders will increase in the coming years.
However, a lot hinges on LIC’s ability to diversify its product mix to include high-margin non-participating products, says Suresh Ganapathy, analyst at Macquarie Securities India. Though LIC has a 1.3-million strong distributor network, Ganapathy feels there will be several challenges in scaling up the non-par business.
Credit Suisse, however, believes LIC has an edge. The foreign brokerage house points out that LIC’s gross non-par margin is 83% versus 11% for participating products. A switch towards non-par products can raise the insurer’s profitability, as a 10% shift in the annual premium mix from participating plans to non-participating plans can push new business margins to 20%.
Garg feels that expectations of bumper profits ahead are misplaced. Against ₹2,971-crore profit generated for its shareholders in FY21, LIC raked in ₹1,672 crore for the nine months of FY22. Garg feels even if the insurer were to generate profits of ₹3,500 crore, translating into an EPS of ₹5.54 per share, investors will not be better off. “Even if 100% profits are distributed to shareholders, the investment yield works out to 58 paise per share. For a modest 2% dividend yield, the share should be trading at ₹275,” says Garg.
The challenge about earnings also comes from the fact that LIC generates lower returns on its assets under management. In FY21, its gross yield on life fund at 8.3% was the lowest compared with six other life insurers’ earnings of 8.6-9.9%. “LIC’s investment record and policies do not inspire confidence that it would be able to earn such investment returns,” feels Garg.
LIC has publicly stated that it’s unlikely to come out with follow-on public offer for at least a year. But given its performance amid the market meltdown, it’s quite likely that the corporation may continue to stay in the list of PSU stocks that continue to trade below their IPO prices.