Discovery shares dropped after it waived its dividend due to uncertainty created by the Covid-19 pandemic and flagged a possible capital raise to help fund its Chinese business.
The group also became the first major SA corporate to announce a mandatory Covid-19 vaccination policy for all its staff beginning on January 1 — a change announced in its annual results on Thursday. Discovery said the decision followed lengthy due-diligence on the issue that concluded it had a “clear moral and social obligation" to protect its staff, which was further informed by its core purpose of making people healthier.
The dividend waiver came even as the financial services group announced a strong profit of R3.22bn for the year ended June 2021, a 1,730% increase on the R176m the previous financial year. Headline earnings per share (Heps), which excludes one-off items, increased 910% to 454.7c from 45c the previous year. It said the reintroduction of an ordinary dividend would be considered on an ongoing basis.
The group's shares had fallen more than 10% to R118.10 by 3.45pm after it hinted at a possible rights issue to raise the R1.5bn in capital needed to help its Chinese investment, Ping An Health Insurance, expand and meet evolving prudential requirements in that market.
Discovery said the effect of Covid-19 in SA had been about five times more severe on a risk-adjusted basis than in the UK. The group’s life insurance business was particularly hard hit by the pandemic, suffering a 55% drop in normalised profit from operations that came in at R1.341bn for the fiscal year. All the group’s other large divisions, which include Discovery Health, Discovery Invest and Discovery Vitality, managed to grow their normalised profit from operations during the year.
Discovery Bank, in which the group is still investing heavily to grow its market penetration, narrowed its operating loss to R1.094bn in the fiscal year, a 7% improvement on the prior financial year. The bank grew clients by more than 32% to 362,000.
Discovery CEO Adrian Gore told Business Day the bank was “on track” to reaching the target of between 600,000 and 700,000 clients, at which point it was expected to start turning a profit.
“You lumber hard to get to the breakeven point but thereafter once you scale on top of what’s very much a digital platform, the profitability is substantial,” he said, adding that the bank was, in time, likely to be more closely integrated with Discovery Invest, its long-term savings platform.
Ping An Health, in which Discovery has a 25% stake, will require about R6bn in additional capital to finance growth and meet changing prudential regulatory requirements in China. About R1.5bn of that amount will come from Discovery “in the near future”, and Discovery said it was evaluating whether the optimal funding mechanism would be debt or equity.
The group said that if it opted to fund the investment by raising equity capital it would likely follow a similar strategy to the final buyout of the FNB credit card book in 2018.
That action involved a R1.85bn rights issue — selling new shares to raise capital — to fund the purchase of FirstRand’s 25.01% stake in Discovery Bank and its remaining 25.01% economic interest in the Discovery card joint venture. Should it go that route, Discovery said the money would be ring-fenced for its investment in China to ensure that capital is allocated with discipline.
“The business case to invest a further R1.5bn is absolutely a no-brainer,” said Gore. “If we do this through an equity raise it will be a voluntary placement to the rand in terms of what we need for Ping An. If it is a rights issue, I see it to the rand. In other words, the discipline in terms of the exact amount required is what we’ll raise.”
Discovery increased the R3.4bn in provisions set aside at the end of June 2020 to cover expected retail life and health insurance claims, given its expectations for the third wave of coronavirus infections and an expected fourth wave. The group said it could not establish a provision for group life policy claims — those signed with employers to cover multiple staff members — due to the accounting treatment applicable to short-term contract boundary policies of such business.
After using almost R1.9bn of the provisions set aside at the end of its previous fiscal year, it bulked those up during the past fiscal year, leaving it with just over R3bn in provisions to deal with the ongoing effect of the pandemic.
“The R3bn is an IFRS provision,” said Gore. “It's not a solvency issue, its purely how many claims we can take before the accounting provisions run out and you start getting hit in your earnings.”
Update: September 2 2021
This story has been updated throughout.
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