Suncorp Group Ltd (ASX: SUN) has risen by 8% in 2016. This is well ahead of financial services peers Westpac Banking Corp (ASX: WBC) and AMP Limited (ASX: AMP). They have declined by 12% and 1% respectively. Suncorp's recent full-year results provide evidence that it offers a relatively favourable risk/reward ratio.
Reduced risk
A key element of Suncorp's appeal is its diversity. It operates a wide range of businesses and this provides it with a cushion in case of poor performance in one segment. For example, Suncorp's general insurance division experienced a margin reduction in the 2016 financial year, but this was offset by strong performance from its banking, life and New Zealand operations. This near-conglomerate structure reduces its risk profile and improves its investment potential.
Further, Suncorp's financial standing reduces its risk profile yet further. Its balance sheet is strong and has capital levels which are slightly above the top of the target ranges. Its general insurance core tier 1 (CET1) ratio is 1.21 times the Prescribed Capital Amount (PCA), which is above Suncorp's target of 0.95 to 1.15. Likewise, its bank segment CET1 ratio of 9.21% is ahead of its 8.5% to 9% target level.
Strategy
Suncorp's strategy centres on elevating the customer to drive growth. This means cross-selling multiple products to the same customer and Suncorp's new organisational structure makes this task simpler. A key facet of this new structure is the Suncorp marketplace. It provides a space for existing customers to self-select new products and services, which are intelligently suggested for them by the system based on their prior activity.
The strategy may seem simple, but it has yielded strong results. For example, a third of Suncorp's customer base are classed as 'connected customers', which means that they have two or more product requirements met. The retention rate of connected customers is 96%, which indicates that if Suncorp is able to cross-sell to its customers, it leads to higher recurring revenue and earnings visibility.
Suncorp's new strategy also reduces its cost base. It has invested $55 million and expects to record annualised savings of around $80 million. This has contributed to improved margins in its life business as well as a 90 basis points improvement in its bank segment's cost/income ratio.
Income
Suncorp's sound financial standing, diversification and the success of its strategy mean that it is able to pay out 80% of cash profit as a dividend. It equates to a yield of 5.3% versus 4.2% for the ASX. Although Suncorp's dividend payout ratio is unlikely to increase since it is as the top end of its target range, an 80% payout ratio is nevertheless sustainable given Suncorp's low risk profile.
Outlook
While Suncorp has risen in 2016, it trades at a discount to the ASX. Its P/E ratio is 15.3 versus 18.5 for the ASX and when its income prospects, strategy and low risk profile are factored in, Suncorp's risk/reward ratio is highly favourable.
