How Discovery arrived at its R3.3bn Covid-19 provision, and will it affect Discovery Bank?

 Discovery's headquarters in Sandton.  Photo: Elvira Wood
Discovery's headquarters in Sandton. Photo: Elvira Wood
  • Discovery anticipates that it will need to reserve R3.3 billion for the potential claims and lapse resulting from Covid-19
  • The R2.2 billion reserved for mortality claims is the largest to be announced by any local life insurer
  • Discovery CEO says the group would rather err on the prudent side
  • The group will still be able to make additional investments into Discovery Bank

Discovery has announced the biggest provision for potential Covid-19 claims and policy lapses in the country yet. The insurance group announced on Monday that it has set aside approximately R3.3 billion, which some analysts who attended its conference call thought was "large and unexpected".

Some R2.2 billion of this provision is for possible mortality claims and the remaining R1.1 billion is for economic impact such as possible lapses and cover downgrade by clients, explained Discovery Group CEO Adrian Gore. Sanlam last week announced that it has set aside a R760 million reserve for Covid-19. But Discovery is the first to put an actual estimate of what it anticipates paying out in claims.

Rather safe than sorry

"The R2.2 billion is obviously a very, very large number. I think it's bigger than what we've seen out there. We've taken a view that as best as possible, we would like to play it forward, make enough provision now," said Gore.

Discovery chief health actuary Emile Stipp said the insurance group looked at Covid-19 fatality rate estimates and death experiences in other countries. From that data, he said, it became clear that the impact of Covid-19 pandemic hasn't yet been felt in SA as far as death rates are concerned. Discovery's provision model assumes that there will be a second wave of infections in both SA and the UK, where the company also has life insurance operations through VitalityLife.

As for the R1.1 billion set aside for possible lapses and cover downgrades, Discovery considered how its clients were affected during the 2008/9 global financial recession but expects their affordability challenges to be more severe this time.

Warwick Bam, head of research at Avior Capital Markets, said Discovery was prudent on its provision because it is arguably too early and too difficult to make an accurate assessment of what the actual impact of Covid-19 will be.

"Discovery are the first to apply an estimate to the potential impact of Covid-19 and Discovery’s peers will take careful note," said Bam.

Richard Cheesman, senior analyst at Protea Capital Management, said if Discovery ends up needing less than the R3.3 billion it has set aside, it will release some of the provision in the future which will bolster earnings.

Won't affect investing in Discovery Bank

Because the Covid-19 provision won't affect Discovery's capital position right now, but rather future cash flows, Gore said the group will forge ahead with its plans of growing Discovery Bank, just as other companies are choosing to hold off on some capital expansion projects to preserve cash. Discovery planned to invest over R1 billion into the bank in the 12-month period that is ending on 30 June.

"The bank plan is fully intact. There will be additional capital investment according to the plan," said Gore, adding that the next year will be a critical one for Discovery Bank as it completes the migration of existing credit card clients to the bank. The group expects to finish migrating its credit card clients from FNB which was previously the credit provider for those cards in July.

Gore said Discovery Bank should still get to break-even or profitability around 2022 to 2024 as originally planned.

The bank now has over 177 000 clients with 330 000 accounts. The bank's retail deposits, money that customers have put in the bank, have grown to over R2.1 billion. However, it still pales in comparison to other new entrants in terms of customer numbers. TymeBank had 1.6 million customers and 850 000 active accounts at the end of April, and African Bank's MyWorld account had 214 000 account holders at the end of January 2020.

Gore said in the current low interest rate environment, Discovery Bank's "dynamic interest rate" has given it a strong competitive advantage.  They dynamic rate pays customers personalised interest rates on their positive balances depending on how well they manage their finances. Because of this, said Gore, Discovery Bank is able to comfortably compete on benefits without going down the price competition path.

But Discovery Bank is holding back on lending

Gore said use of credit by Discovery Bank customers has declined and the bank is happy with the quality of its book as most of its rivals are reporting or expecting a surge in non-performing loans. Gore said Discovery Bank is being "very, very careful about granting of new credit".

"While we obviously want to grow during this period, we are very, very scared of new clients' access to credit and that's being watched very, very carefully. It's a handbrake to an extent on growth but I think we can overcome that and that's something we won't compromise on at all," he said.

Cheesman said because of its good digital infrastructure and a target market which has fared somewhat better, Discovery has done a good job growing its bank considering that this is not a favourable environment to build a bank.

"Discovery Bank has probably outperformed the other new entrants. Account and deposit growth since interim results does support this," he added.

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