What the HDFC Life-Max Financial merger means for the insurance industry

This merger is the first big merger in the 16-year-old private sector life insurance sector, which has been passing through a tough phase since the 2008 financial meltdown.

The downturn in the economy depressed stock markets, which in turn severely impacted the unit-linked insurance plans (ULIPs) that invested heavily in equities.

While the relaxation of FDI from 26 to 49 per cent came as a big shot in the arm, the sector itself is still facing growth challenges. In the past three years, DLF and ING exited the insurance business in India, while a couple of more are in the process of selling their stakes. Let's take a look what the first big merger means for the industry.

i)    Valuation discovery - Private sector life insurance hasn't seen a price discovery or valuation unlocking in the market of this order where two big players are merging together. The HDFC Life and Max Life deal would give some indication of price and valuation for the industry.

ii)    Consolidation - The industry, with over two dozen players, needs companies of scale where LIC is the undisputed leader. While there is no challenge to LIC from the current merger, the private sector players will see some consolidation to achieve scale in the industry. Product portfolio and geographic reach are two big parameters that will drive consolidation in the industry. In fact, this happened in the private sector banking space where HDFC Bank and ICICI Bank bought out other private banks to increase their geographic reach and bring new products and product expertise.

iii)    Better IPO candidate - It is also good news for retail investors who want to participate in the growth story of private sector insurance companies. The HDFC Life-Max Life merger would bring a much larger and stronger entity into the market. Both are profitable. In fact, the life insurance business took almost 10-12 years to be profitable in India. The time now is right to access the market for raising funds and also create a listed entity for more transparency and disclosures.

iv)    Technology and digitisation - The life insurance industry has been witnessing new challenges every five or six years. Initially, it was the high growth phase with scarcity of capital. They managed that phase well by pumping in capital year after year to capture growth. Then came the slowdown, which exposed their fault lines as everyone was focusing on a single product - unit-linked insurance plans (ULIPs) - which invested in equities. For the last six-seven years, the players have been diversifying into traditional products, which was the forte of LIC for decades. Today, the private players have a balanced portfolio. But they are now facing newer challenges in the area of digitisation. Many of them are selling online policies. In fact, the entire on-boarding is online. Many smaller players are not able to cope up with the challenges. In fact, these changes are threatening their business model. Surely, many smaller players would like to join hands with bigger players to better face the market and the completion.

v)    Systemic risk - No business is without risk. The regulators, especially Insurance Regulatory Authority of India (IRDA), have to be on their toes to monitor large insurance companies by increasing the oversight. A big player has the potential to impact the industry as well as other group entities.