Insurance stocks such as CBL are hard to value. This is because the rules banks face are different to other companies, which can impact the way we forecast their cash flows. For example, insurance companies are required to hold more capital to reduce the risk to shareholders. Examining factors such as book values, as well as the return and cost of equity, can be practical for estimating CBL’s true value. Below I’ll determine how to value CBL in a relatively useful and uncomplicated method. View our latest analysis for CBL
Why Excess Return Model?
Before we begin, remember that financial stocks differ in terms of regulation and balance sheet composition. CBL operates in New Zealand which has stringent financial regulations. In addition, insurance companies generally don’t hold substantial portions of tangible assets on their books. Therefore the Excess Returns model is appropriate for deriving the true value of CBL as opposed to the traditional model, which puts weight on factors such as capital expenditure and depreciation.
How Does It Work?
The key assumption for this model is, the value of the company is how much money it can generate from its current level of equity capital, in excess of the cost of that capital. The returns above the cost of equity is known as excess returns:
Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)
= (9.84% – 8.98%) * NZ$1.75 = NZ$0.01
Excess Return Per Share is used to calculate the terminal value of CBL, which is how much the business is expected to continue to generate over the upcoming years, in perpetuity. This is a common component of discounted cash flow models:
Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)
= NZ$0.01 / (8.98% – 2.76%) = NZ$0.24
Combining these components gives us CBL’s intrinsic value per share:
Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share
= NZ$1.75 + NZ$0.24 = NZ$1.99
Compared to the current share price of NZ$3.08, CBL is trading above what it’s actually worth. This means there’s no upside in buying CBL at its current price. Valuation is only one side of the coin when you’re looking to invest, or sell, CBL. There are other important factors to keep in mind when assessing whether CBL is the right investment in your portfolio.
Next Steps:
For insurance companies, there are three key aspects you should look at:
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1. Financial health: Does it have a healthy balance sheet? Take a look at our free bank analysis with six simple checks on things like leverage and risk.
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2. Future earnings: What does the market think of CBL going forward? Our analyst growth expectation chart helps visualize CBL’s growth potential over the upcoming years.
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3. Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether CBL is a dividend Rockstar with our historical and future dividend analysis.
For more details and sources, take a look at our full calculation on CBL here.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.