DBRS Morningstar Assigns BBB Financial Strength Rating to Domestic & General Insurance PLC

DBRS Ratings Limited (DBRS Morningstar) assigned a first-time public Financial Strength Rating of BBB to Domestic & General Insurance PLC (DGI PLC or the Company). The trend on the rating is Stable.

KEY RATING CONSIDERATIONS
The rating takes into account DGI PLC’s moderate franchise, which, while benefitting from a leading position in the UK home appliance insurance sector, has limited diversification. It also reflects the Company’s generally low risk profile, underpinned by stable and predictable claims flow, limited market and credit risks, as well as risk management systems, which, while adequate, are constrained by the limited scale of the organisation. The Company benefits from its strong earnings generation ability, and its financial performance has remained resilient to the adverse impact from the Coronavirus Disease (COVID-19) pandemic during 2020. The Return on Equity (ROE) and combined ratio metrics are in the upper range of the peer group. While at present DGI PLC’s profitability is to a large extent concentrated on selected business partnerships, which affects our credit assessment, we expect this concentration to diminish in the coming years in line with the growing share of renewals and further expansion. DGI PLC’s liquidity risk is low, and solvency capital significantly exceeds regulatory requirements and benefits from strong capital generation. However, our view of capitalisation is adversely affected by the substantial leverage and negative equity at the holding company, Galaxy Finco Limited.

RATING DRIVERS
The rating would be upgraded in the case of continued profitable business growth leading to reduced reliance on the largest business partners contributing to DGI PLC's profitability, combined with maintaining a conservative risk profile. Significant reduction of the leverage at the consolidated company level would also lead to a higher rating.

A rating downgrade would be driven by any of the following factors: a decline in DGI PLC's solvency ratio below 130%; failure to extend contracts with key business partners, leading to the possibility of a substantial reduction in profitability; failure to reduce the concentration of earnings on the largest partners; and weaker than expected financial performance as a result of COVID-19 or Brexit.

RATING RATIONALE
DGI PLC is a specialist provider of appliance care services for domestic appliances and consumer electronic products in the UK, its largest market, and in several international markets. DGI PLC is the main regulated entity of the Domestic & General Group (D&G Group), which together with other subsidiaries, has a substantial market share in the cover of home appliances in the UK. At the financial year ended 31 March 2020 (FY2020), D&G Group was protecting 9 million appliances for 5.5 million customers on a subscription basis globally. In the UK, one in three households using appliance insurance were customers of D&G Group. The principal activity of DGI PLC is the provision of protection for home products, such as electronics, boilers, large domestic and electrical appliances, and mobile phones. Products are distributed through several channels, and repairs and replacement services are sourced directly from manufacturers or through third-party repair companies. The strategy is focused on growing the subscription business, which generates high overall customer lifetime values. The Company benefits from exclusive long‐term partnerships with strategic partners and has a good track record in extending them. A substantial part of the business partnerships are based on fixed margin contracts, which contributes to earnings stability. However, the Company operates in a specialist niche and has limited diversification.

DGI PLC’s risk profile is moderate, supported by a focus on low risk products, highly granular and relatively short-dated exposures, and substantial underwriting expertise. Cost of claims is controlled under contracts with partners, and the Company’s claims ratio was sustained at relatively low levels in recent years. The Company is not exposed to natural catastrophe or appliance recall risks. DBRS Morningstar considers DGI PLC’s market risk to be very low, reflecting high-quality fixed income instruments and no exposure to equities in the investment portfolio. The Company is exposed to counterparty credit risk through significant receivables from policyholders. However, as soon as receivables become overdue, DGI PLC discontinues the cover provided, resulting in a very low share of past dues in gross outstandings. We view risk controls as adequate, however, somewhat constrained by the relatively small size of the organisation.

DGI PLC’s profitability ratios are very strong, which we attribute to operating in a profitable segment, its solid track record in maintaining partnerships, and its significant experience in underwriting. In our view of earnings ability, we also take into account DGI PLC’s stable revenue stream, which has been on a growth trend in recent years. We also highlight the resilience of the business model to economic downturns, confirmed by steady financial performance during the six months ended September 2020 despite the adverse coronavirus impact. DGI PLC’s three‐year average ROE and the combined ratio averaged a strong 33.5% and 89.9%, respectively, over the last three years. In FY2020, DGI PLC’s net profit increased by 11% to GBP 29.6 million, driven by the transfer of business from an unregulated D&G Group company, DGS, under the “Customer First” project and the increased share of renewals. We highlight that a substantial share of DGI PLC’s earnings are generated under the contract with an important business partner, which constrains our assessment of DGI PLC’s franchise and earnings. However, we expect this concentration to diminish over time with a growing share of renewals and continued expansion.

DBRS Morningstar considers DGI PLC’s liquidity risk to be low, reflecting the high predictability of claims and adequate liquid assets, which consist of cash, financial investments, deposits with credit institutions, and money market funds, held mainly with institutions rated at “A” or above. DGI PLC’s liquidity position is also supported by stable cash flows from policyholders.

In assessing DGI PLC’s capitalisation, we take into account the Company’s relatively high solvency ratios, which significantly exceed the regulatory requirements. At end‐FY2020, DGI PLC’s Solvency II Regulatory Ratio was 202.0%, compared with 257.6% at end‐FY2019. Of the qualifying capital resources (GBP 124.8 million at end-FY2020), GBP 30 million was in the form of irrevocable standby letters of credit provided out of the revolving credit facilities drawn by Galaxy Finco Limited—the holding company—and its subsidiaries. The end-FY2020 capital requirement was GBP 61.8 million. DGI PLC is committed to maintain its regulatory solvency of at least 130%. We positively note that DGI PLC benefits from strong capital generation. In our view, capital flexibility is somewhat constrained by the fact that the upstream dividends from DGI PLC contribute to the servicing of debt by the holding company. We note, however, that a substantial portion of the D&G Group’s profit is generated outside of the regulated business perimeter. Our view of DGI PLC’s capital is adversely affected by negative equity and substantial indebtedness at the holding company, Galaxy Finco Limited.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

The Grid Summary Grades for DGI PLC are as follows: Franchise Strength – Moderate/Weak; Risk Profile – Good/Moderate; Earnings Ability – Strong/Good; Liquidity – Good/Moderate; Capitalization – Moderate/Weak.

On 18 January 2024, Morningstar DBRS amended the above press release to replace “Financial Strength” with “Franchise Strength” in the Grid Summary Grades disclosure.

Notes:
All figures are in British pound sterling unless otherwise noted.

The principal methodology is the Global Methodology for Rating Life and P&C Companies and Insurance Organizations (21 July 2020, https://www.dbrsmorningstar.com/research/364260/global-methodology-for-rating-life-and-pc-insurance-companies-and-insurance-organizations).

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

The sources of information used for this rating include Company Documents, Meetings with Management, Galaxy Finco Limited Q2 FY2021 to FY2017 Investor Presentations, DGA/DGI Solvency and Financial Condition Reports for FY2020 to FY2017, Galaxy Finco Limited Consolidated Financial Statements for the six months ended 30 September 2020 to FY 31 March 2016, Domestic & General Insurance PLC FY2020 to FY2016 Financial Statements, and S&P Global Market Intelligence. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

This rating concerns a newly rated issuer. This is the first DBRS Morningstar rating on this issuer.

DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar's outlooks and ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/371348.

Ratings assigned by DBRS Ratings Limited are subject to EU and U.S. regulations only.

Lead Analyst: Tomasz Walkowicz, Vice President, Global Financial Institutions Group
Rating Committee Chair: Elisabeth Rudman, Managing Director, Global Financial Institutions Group
Initial Rating Date: 14 December 2020
Last Rating Date: Not applicable as there is no last rating date

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