Saga growing earnings and dividends

With its soon-to-be-launched Saga Possibilities membership scheme, management is trying to cross-sell more products to its core "high affinity" customers, which account for a fifth of the customer base, but three-quarters of profits. Despite this potential, the shares are valued at an unchallenging multiple of earnings and promise an attractive yield.

Saga offers insurance underwriting and retail broking services, as well as travel products. Within the retail broking division - which accounted for 60 per cent of pre-tax profits last year - motor broking has recently been driving growth due to a number of initiatives to improve performance. During the summer of 2015 management established a motor panel, comprising third-party insurers, which meant around 30 per cent of net premiums for renewal policies were placed with third-party underwriters last year. These policies tend to be more risky, so the panel allows the broking business to take on higher-margin customers without the need for holding capital in its underwriter. The panel generated an additional £3m in profit last year which, coupled with a lower level of discounting and contributions from an acquisition, helped push pre-tax profits for the motor broking business up 58 per cent to £45m. And management said it has seen a very positive start to the year on motor premiums, with strong levels of new business running in excess of claims inflation. This bodes well for further profit improvements this year.

The home broking business has suffered recently due to increased competition within the market, which limited premium inflation. This resulted in a slight dip in pre-tax profits for this part of the broking business last year, which were down 3.5 per cent to £61m. However, one of the benefits of the diversity of services Saga sells is that it can more easily withstand pressure within individual broking markets. Overall the retail broking business grew pre-tax profits by 9 per cent to £138m.

Pre-tax profit for the underwriting business also dipped slightly last year to £73m, but this was due to lower reserve releases and start-up costs associated with its quota share arrangement with NewRe. The benefit of this quota share arrangement - which covers three-quarters of the downside risk associated with all motor policies written from 1 August 2015 for accidents occurring from 1 February 2016 - is reduced capital requirements for the business, as well as lower risk and volatility.

However, the travel business is growing solidly, with pre-tax profits up a healthy 10 per cent to £15m last year. The tour operating business was the division's star performer, increasing pre-tax profits by almost a third to £11.5m. Meanwhile, the benefit from strong demand for Saga's cruises was offset by a £5m charge relating to maintenance of its Saga Sapphire ship. The signs of growth look promising for next year, with reservations for departures 8 per cent ahead for 2018. As a result, the business is on track to hit its target of doubling cash profits to £40m by January 2018 - a year ahead of schedule. Management is now targeting growing the business's pre-tax profits by four to five times during the next five years.

Improving cash generation means management has improved its dividend payouts to shareholders. During the 12 months to January 2017, the group increased its target payout range to between 50 and 70 per cent of net earnings, from between 40 and 60 per cent in the previous year. During 2017, management paid out 62 per cent of net earnings, up from 57 per cent the previous year. Another benefit of increasing cash generation is that the insurer has steadily reduced debt. Net debt was down to 1.9 times cash profits last year, from 2.3 times in 2016. This is within its medium-term range of between 1.5 and two times.