Standard & Poor’s Ratings Services lowered its insurer financial strength and long-term counterparty credit ratings on French mutual insurer La Mondiale to ‘BBB+’ from ‘A-‘. The outlook is negative.
Standard & Poor’s Report :
At the same time, we lowered the ratings on La Mondiale’s hybrid debt issues to ‘BBB-‘ from ‘BBB’; these ratings remain two notches below La Mondiale’s counterparty credit rating.
The downgrade reflects our opinion that the current investment market and adverse economy are likely to constrain La Mondiale’s ability to strengthen its financial profile, in particular its capital adequacy and operating performance, to levels commensurate with a rating in the ‘A’ category over the two-year rating horizon. We view the company’s risk-adjusted capital adequacy as a key weakness to the rating–it also impairs its financial flexibility. The rating is supported by La Mondiale’s strong competitive position, conservative investment policies, and sound liquidity management.
La Mondiale’s capitalization is “good,” but stands at the lower end of this assessment range, according to our criteria. Despite capital adequacy improvements on the back of stable earnings retention and lower volumes growth over the past two years, we consider that given the current and forecast level, capital adequacy will remain a rating weakness for the next two years. We base our view on the insurer’s sensitivity to market conditions due to its general reliance on soft, market-sensitive capital items, and to an increase in the cost of capital relating to credit risk.
Regulatory and risk-adjusted capital adequacy at La Mondiale rely heavily on hybrid debt, part of which has a first call date in 2013. In our base-case scenario, we assume that the insurer will focus on preserving its capital adequacy at least at the current level and that its capital adequacy will recover to a level more in line with the ratings over the medium term.
The effects of equity market volatilities and decreasing interest rates, in addition to a competitive environment, continue to constrain La Mondiale’s earnings and profitability indicators, in our view. La Mondiale’s net earnings have averaged €244 million a year over the past three years, which translates into an average return on equity (ROE) of 14.1% over the same period. That said, an amount of this came from exceptional items that might not be renewed in the future. Short-term new business guarantees may also somewhat weigh on profitability.
We consider La Mondiale’s cost-cutting initiatives, focus on higher-than-average unit-linked products, and increasingly cautious crediting policy to be mitigating factors. In our base-case scenario, we expect La Mondiale to continue to restore its new business margins and to maintain an ROE of at least 10% in 2012 and 2013. We expect operating earnings to increase, supported by further cost-effectiveness measures and cautious crediting policies on in-force and new business.
We view competitive position as strong, sustained by a presence across the life insurance product range (both pensions and saving offers) and specialized subsidiaries in France and Luxembourg. La Mondiale’s specialized networks include a proprietary employee sales force. Its competitive position also benefits from partnerships with private banks and brokerage.
Along with the AG2R group (main entity AG2R Prevoyance, which is rated A-/Negative/–), La Mondiale forms the AG2R-La Mondiale Société de Groupe d’Assurance Mutuelle (SGAM), which provides comprehensive life, savings, pension, accident, and health coverage in France. Furthermore, Luxembourg-based subsidiary LMEP has been growing fast, providing the group with further potential to diversify revenues.
We view La Mondiale’s investment policy as sound because it offers comparatively low credit risk exposure and high liquidity. Furthermore, La Mondiale decreased its equity exposure to 8.3% in 2011 from 10.4% in 2010. We do not expect La Mondiale to experience liquidity issues, thanks to its predominantly liquid investments. The insurer held 2.6% of its investments in cash and short-term deposits, its equities are mostly listed, and its bonds are largely rated at investment grade.
Despite pressure on net inflows, La Mondiale has weathered the adverse business conditions in the French market comparatively well (see “Investment Market Volatility Could Trigger Further Downgrades For French Insurers In 2012-2013”, published on June 28, 2012). In addition, a significant part of its reserves relates to group pensions business; this line of business is not subject to individual lapses, which significantly mitigates liquidity risk.
The negative outlook reflects our view of the risk arising from the difficult economic and financial environment, which could further constrain La Mondiale’s financial profile in future.
We could lower the ratings over the next 12 to 24 months if La Mondiale does not meet the expectations underlying our base-case scenario. We could revise the outlook to stable if La Mondiale meets our expectations on a sustained basis and, in particular, if the pressure on capital adequacy reduces.
