HDFC Life Insurance Co. Ltd’s performance for fiscal year 2024 (FY24) was rather uninspiring. The reported total annual premium equivalent (APE) was flat year-on-year. However, after adjusting for a non-recurring premium income of ₹1,000 crore from the previous year due to Union Budget changes regarding the taxation of maturity proceeds, FY24 APE growth was nearly 8% year-on-year, reaching ₹13,290 crore.
APE for a life insurance company is comparable to the revenues of companies in other industries. Moreover, economic profit, also known as the value of new business (VNB), is a crucial metric for valuing a life insurance company. Here, accounting profit or profit after tax (PAT) does not offer a true picture of a life insurance company’s performance as costs are generally recognized upfront, but profit from an issued policy is earned over a number of years.
Therefore, instead of using the market capitalization divided by PAT to derive the price-to-earnings multiple, one should consider dividing market capitalization by VNB to evaluate a life insurance company. This ratio stands at 37x for HDFC Life based on FY24 results, which seems high given the 5% drop in FY24 VNB to ₹3,500 crore.
Even after adjusting for the non-recurring VNB of ₹276 crore from last year’s base, the growth in VNB stands at just 3%. HDFC Life has historically commanded a high multiple relative to its VNB, justified by the strong VNB growth seen during the three years leading up to FY23.
Valuation metrics and stagnant growth
Another popular metric for valuing companies in most sectors, besides the price-to-earnings ratio, is the price-to-book value. For a life insurance company, the book value is substituted by embedded value. Simply put, embedded value is a total of adjusted book value and the present value of the future profit locked in existing policies. Based on FY24’s embedded value of ₹47,470 crore, HDFC Life’s shares quote at a multiple of 2.7x, which is not particularly cheap considering the near standstill in profit growth.
The product mix at HDFC Life shows that the unit-linked insurance plan (ULIP) accounted for 35% of total sales in FY24, up from 19% a year ago. ULIPs offer investors the chance to invest in mutual funds while purchasing life insurance. Although ULIPs are not the most profitable segment for a life insurance company, their popularity is increasing as a way to participate in the ongoing bull phase in the stock market.
Conversely, term insurance or pure risk coverage products, which are highly profitable, contributed just 5% of total policies sold. Despite the ongoing discussions about low life insurance penetration in India, HDFC Life’s results should prompt investors to reassess industry growth and the valuation of stocks before making investment decisions.