Benign Weather And Rising Climate Risks Will Shape A Cautious Outlook For This Insurer

Catalysts

About Tower

Tower is a New Zealand based general insurer focused on house, motor and related personal lines, supported by a growing network of bank and digital distribution partnerships.

What are the underlying business or industry changes driving this perspective?

• Record FY25 earnings have been helped by unusually benign weather and very low large event costs of $7.2 million, so a return to more typical natural hazard activity could pressure the BAU claims ratio of 41.3% and reduce underlying NPAT from the FY25 level.
• The current soft rating cycle and management’s expectation that FY26 growth comes from volume rather than rate leave limited room to lift average premiums if competition remains intense, which can cap gross written premium growth and compress net margins.
• Heavy investment in digitisation, AI, contact centre platforms and brand, alongside higher commission costs for new bank partnerships like Westpac, is already visible in a management expense ratio of 31.4% and guidance of 31% to 32% in FY26. This could delay progress toward a lower expense base and limit earnings leverage.
• Long term climate risk and reinsurer focus on adaptation mean that Tower’s risk based pricing and hazard transparency, while helpful for portfolio quality, may keep pressure on higher risk customers. This could potentially weigh on premium volume in exposed regions and create a headwind for revenue growth.
• Ongoing Canterbury earthquake provisions of $7.9 million after tax, customer remediation costs of $10.9 million after tax and continued regulatory and systems work signal that legacy and compliance expenses may remain a recurring drag on reported profit and free cash generation.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Tower's revenue will grow by 6.4% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 13.6% today to 9.7% in 3 years time.
• Analysts expect earnings to reach NZ$72.3 million (and earnings per share of NZ$0.21) by about January 2029, down from NZ$83.7 million today.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 12.4x on those 2029 earnings, up from 8.0x today. This future PE is greater than the current PE for the AU Insurance industry at 8.1x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.1%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Benign weather and unusually low large event costs of $7.2 million in FY 2025 may not persist over the long term, and a return to more typical natural hazard activity could lift claims, pressure the BAU claims ratio and reduce earnings.
• Management is targeting gross written premium of more than $750 million by FY 2028, supported by digital investment, new products and bank partnerships such as Westpac and Kiwibank. If these initiatives are effective they could support higher revenue growth and earnings than a flat share price view implies.
• Risk based pricing and a stronger house portfolio have already reduced expected average annual flood losses by 21% per policy and 16% overall. If this risk selection continues to improve the loss profile it could support net margins and long term profitability.
• Ongoing investment in digitisation, AI, Amazon Connect and process automation is intended to lower the management expense ratio from the current 31% to 32% range toward a medium term 28% to 30% target. If these programs deliver the intended efficiencies they could increase net margins and earnings.
• New bank and distribution relationships, including Westpac from July 2026 and access to a Kiwibank back book over the coming 18 months, are aimed at growing policy volumes. If these channels scale effectively they could lift gross written premium and support higher long term earnings than a flat share price outlook assumes.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of NZ$2.12 for Tower based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of NZ$2.45, and the most bearish reporting a price target of just NZ$1.8.
  
• In order for you to agree with the analysts, you'd need to believe that by 2029, revenues will be NZ$742.0 million, earnings will come to NZ$72.3 million, and it would be trading on a PE ratio of 12.4x, assuming you use a discount rate of 7.1%.
  
• Given the current share price of NZ$1.96, the analyst price target of NZ$2.12 is 7.8% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.