Saying goodbye to Steadfast

Insurance broker Steadfast's fall-year result was decent, but only given the poor state of its industry. Underlying earnings before interest, tax and amortisation (EBITA) increased 43 per cent to $130 million. However, a good $34m of the $39m increase was due to recent acquisitions Calliden and QBE agencies; organic growth was 6 per cent.

This wasn't a bad effort given policy prices were flat in the period so the growth came from writing more policies. The Steadfast network placed $4.5 billion of premiums, up 4.5 per cent, though again this was mainly due to new brokers joining the network. Organic growth came to just 1.5 per cent.

Key points

• Gross written premium placed grew 1.5 per cent

• Agency business has supplier risk

• Internet will undermine business model

The insurance industry is undergoing rapid change, which is making life difficult for Steadfast and main rival Austbrokers. The growing popularity of alternative forms of reinsurance, such as catastrophe bonds, has set off a domino effect by forcing reinsurers to lower rates to remain competitive. This then makes it cheaper for general insurers to write policies, which, in turn, leads them to lower prices so they themselves can remain competitive.

Ultimately this trickles down to Steadfast, which earns a percentage of every dollar its clients spend on a new policy. As insurers lower their premiums, Steadfast earns less in commissions. We expect policy prices to remain flat or fall further in the medium term, which will make growth difficult.

Agencies business

In February 2015, Steadfast purchased QBE's agency underwriting business, making it Australia's largest underwriting agency group. Revenue for the division, which writes and accepts policies on behalf of insurers, increased 91 per cent to $139m, or 9 per cent after removing the effect of acquisitions.

Still, the division now accounts for 43 per cent of EBITA and adds risk (see Steadfast: Interim result 2015). QBE is under contract to underwrite for the agency business for another nine years, but if it eventually decides to end the relationship, Steadfast will be forced to find a new underwriter or face a sharp decline in written premiums. This differs from its broker business, which has a diverse group of products and insurers on offer.

What's more, the internet has thrown a spanner in the works. The complexity of insuring businesses – which their wide variety of business models and hence wide variety of risks – once offered Steadfast protection because small business owners couldn't jump online to buy insurance like they would for travel or car insurance. This meant they needed Steadfast to act as a middleman but a number of insurers now offer internet-based, direct-to-consumer commercial insurance.

As we explained in Austbrokers faces new threat, nearly a fifth of small businesses buying property, general and professional liability insurance already initiate their purchase online, with more than half willing to do so if they have previously purchased personal insurance using the internet. It isn't a huge leap from there to completing actual transactions online – especially given small businesses have more straightforward policies than large corporations. We expect small businesses to increasingly seek out direct insurance online, which makes Steadfast's broking business look like a sitting duck.

Management expects underlying net profit of $85m-$90m in 2017, an increase of 4-9 per cent, and it noted that "acquisition opportunities continue unabated". Given the rapidly changing insurance industry and increasing risks to Steadfast's business model, we're becoming uneasy about the company's future and so it's hard to pin down a valuation. As such, we're going to focus on more attractive opportunities and so are CEASING COVERAGE.