QBE's Neal in the eye of the storm

QBE's stock battering follows a claims blowout that's about more than just Sandy, and as the insurer's credibility comes under the spotlight John Neal will have his work cut out.

Insurance companies are by definition accident prone. QBE, after a long run where it defied the odds, is now in one of those periods where everything that can go wrong is going wrong and the market doesn’t like it.

QBE shares plummeted after John Neal, who succeeded long-serving chief executive Frank O’Halloran in August, updated the group’s forecast for its 2012 results. In the wake of the superstorm Sandy that so dramatically inundated the US east coast, it was never going to be good news.

It wasn’t however, just about Sandy and the $350 million to $450 million of retained losses QBE expects to experience as its share of the insurance industry incurs losses of more than $20 billion.

The US crop business which weighed heavily on last year’s results continues to be a drag on the group while it has also increased the provisioning against its $1.1 billion North American run-off portfolio by $180 million. In fact, there are a number of increases in provisioning that suggest Neal has decided to err on the side of conservatism at the outset of his tenure.

The bottom line to the revisions is that large individual risk and catastrophe claims have blown out from 8 per cent of net earned premium to 12 per cent and QBE’s insurance profit margin, which had been projected at more than 12 per cent, and is now expected to come in at about 8 per cent.

While that would translate to a net profit of about $1 billion – 30 per cent more than last year’s result, which was decimated by a spate of natural disasters towards the end of the year – it would be a long way short of the $1.5 billion to $1.6 billion profit the market had been anticipating. That explains the dive in QBE’s shares.

QBE announced plans to raise $500 million of new subordinated convertible debt in the wake of the disclosures and has commitments from investors for the issue, which will be used to repay short-term debt and recapitalise its US business.

The challenge Neal faces is one of credibility, given that today’s revised guidance is the latest in a string of downgrades over the past 12 months.

For so long QBE was regarded as a brilliantly and conservatively-managed group, consistently growing earnings through its model of growth-by-acquisition with few major surprises. O’Halloran turned it into a globally significant player in the sector.

Last year’s blow-out in large claims, which soared from $US1 billion to US2.4 billion as the US crop floods and hailstorms, the Thai floods, the Japanese tsunami, the Christchurch earthquake, Victorian storms and West Australian bushfires coincided, shook investor confidence.

It hasn’t helped that QBE traditionally invests very conservatively and has experienced the double-whammy of lower earnings on its portfolio of bonds and lower risk-free rates for discounting claims as central banks around the globe have flooded markets with cheap liquidity.

Neal will be hoping that the run of bad luck is over, that the increased provisioning will prove to be more than sufficient and that the traditional industry response to an abnormally large spate of natural disasters – a hike in premiums – will flow through to stronger QBE results. His honeymoon period as a new chief executive officer has been brief.

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