From policyholder to shareholder: Key metrics to check for life insurance companies before investing!

Before making an investment, it is crucial for investors to grasp the company's business model and the associated evaluation procedure.

Transitioning from policyholder to shareholder involves understanding the intricacies of investing in life insurance companies beyond simply purchasing a policy. Before delving into stock investments, it's crucial to grasp the underlying business model and the methods for evaluating performance.

Investing in life insurance companies carries inherent risks due to their long-term nature and significant initial costs. Thus, relying solely on financial statements may offer an incomplete picture of their profitability and value creation.

To make well-informed investment decisions in the life insurance sector, it's imperative to analyze various key financial parameters. This article aims to delve into these metrics to provide a comprehensive understanding of assessing life insurance companies before making investment choices.

Embedded Value (EV)

Embedded Value is a pivotal metric for evaluating a life insurance company's worth. It encompasses the anticipated profitability from current underwritten policies and the company's net worth. Calculated by combining adjusted net worth (ANW) and the discounted value of profits from in-force policies (VIF), consistent growth in Embedded Value signifies stability, which is favourable for potential investors. For instance, in FY23, HDFC Life Insurance Company, a prominent player, boasted an embedded value of Rs 39,527 crore.

Value of New Business (VNB)

The Value of New Business quantifies the profitability of new business written within a specified period. It represents the present value of future profits to shareholders when new business contracts are initiated. Understanding VNB is crucial for assessing fair valuations and evaluating an insurer's earnings potential. In FY23, HDFC Life Insurance Company witnessed a 37 per cent growth in VNB, rising from Rs 2,675 crore to Rs 3,674 crore.

Value of New Business (VNB) Margin

VNB Margin is a paramount metric offering insights into a life insurance company's profit margin. Calculated by dividing the Value of New Business by the Annualized Premium Equivalent, a higher VNB margin indicates superior profitability. HDFC Life Insurance Company recorded VNB margins of 27.6 per cent in FY23, reflecting robust profitability.

Persistency Ratio

The Persistency Ratio gauges the duration customers retain their insurance policies, significantly impacting insurer profitability. Comparing a company's persistency ratios to global benchmarks is essential for assessment. Higher persistency implies increased profitability, while lower persistency indicates potential issues. For instance, a 61-month persistency ratio of 50 per cent suggests half of the customers cease premium payments after five years.

Solvency Ratio

The Solvency Ratio serves as a key indicator of an insurer's financial health, mandated by defined solvency norms. Maintaining a solvency ratio of at least 150 per cent, as per IRDAI guidelines, ensures minimal bankruptcy risk. It's calculated by comparing the available solvency margin to the required solvency margin. HDFC Life Insurance Company boasted a healthy Solvency Ratio of 203 per cent in FY23, showcasing its capacity to meet short-term and long-term liabilities.

Incorporating these metrics is essential for evaluating a life insurance company’s fundamentals. Additionally, comparing these metrics with industry peers facilitates assessing relative performance. Considering industry trends and softer factors like brand image further aids in making well-informed investment decisions, tapping into growth opportunities within the Indian insurance market