Wrap Text
December 2001
Discovery Holdings Limited
(Registration number 1999/007789/06)
Share Code: DSY ISIN Code: ZAE000022331
Discovery
Interim results for the six months ended 31 December 2001
Our vision is clear: to make people healthier and protect and enhance their
lifestyles
Headline earnings + 72%
New business annualised premium income + 43%
Discovery Health operating profit + 38%
Discovery Vitality operating profit R23m
Discovery Life new business R110m
Destiny Health new business R119m
Headline earnings per share + 71%
Discovery delivers on its core purpose
Discovery's core purpose is simple yet powerful: make members healthier and
enhance and protect their lifestyles. In the six months under review,
Discovery made significant progress in delivering this vision to over 1,1
million clients:
* The Discovery Health Medical Scheme's average annual contribution increase
was again below the industry average and membership grew to cover over one
million members.
* Discovery Vitality, a key differentiator of the Discovery Health* and
Discovery Life products, launched enhancements that offer members benefits
they can use frequently, with a relatively low cost per transaction, such as
R8 movie tickets for members at Ster Kinekor cinemas.
* Discovery Life's product structure that allows cover to be linked to
international currencies saw many clients realise increased cover of up to
50%.
* Destiny Health (in the USA) wrote R119m of new business annualised premium
income in its Chicago market as Americans there started to see the benefits
of Discovery's consumer-driven, health care model.
Strong new business growth
New business growth for the period under review has been pleasing across all
Discovery's activities:
New business annualised premium income for the six months ended 31 December
2001
2001 2000 %
Rm Rm increase
Discovery Health plans 917,7 776,5 18
Discovery Life 109,6 14,6 651
Discovery Vitality 26,2 23,0 14
Destiny Health 118,7 6,1 1 846
Total 1 172,2 820,2 43
Pleasing financial results from Discovery
* Gross inflows under management grew 52% for the six months to R3,5bn from
R2,3bn
* Gross income grew by 56% to R1,9bn from R1,2bn
* Growth in net profit attributable to shareholders increased by 72% to R85m
from R50m
* Embedded value per share grew by 17% to R9,58 per share from R8,18 per
share at 30 June 2001, despite a strengthening of the valuation basis
* Barely a year after its launch, Discovery Life is close to breaking even -
ahead of the three years initially projected
Discovery Health
Delivers strength, sustainability and service for members
In excess of 1,1 million members are covered by the health plans offered
within the Discovery Health Medical Scheme, making it nearly twice as large
as its nearest competitor. This size advantage makes the risk pool robust
and stable in an increasingly volatile and complex risk management
environment. The average annual contribution increase was again below the
industry average, and the highest possible credit rating for claims paying
ability for the medical scheme was reconfirmed in November 2001.
The service focus of Discovery Health has remained intense: 30 000 calls are
taken per day with 73% answered within three rings, and 1 100 new member
applications are received daily with 98% being processed within 24 hours of
receipt. 1,4 million claims per month are paid within 12 days of arriving at
Discovery; the system is built around quality claims processing, clinical
assessment and state-of-the-art coding and imaging technology. The amounts
billed to its 125 000 corporate clients has nearly doubled in the past year,
yet the total amount outstanding at any time has fallen from 0,4% to 0,1% of
annualised premiums.
This performance has resulted in strong new business growth. Over 40 000
people joined the Discovery Health plans in the month of December 2001
alone; and for the six months under review in excess of R917m new business
annualised premium income was generated.
Key industry issues behind the headlines
The capitalisation of medical schemes to meet statutory reserve requirements
is probably one of the most important issues facing the medical schemes
industry.
Medical schemes, like other insurance entities, strengthen their ability to
pay claims by passing on the risk through the use of reinsurance.
Historically, the Medical Schemes environment recognised reinsurance when
setting down the requirements for the technical reserves to be held in the
medical scheme - the less risk it carried, the less reserves it needed in
the scheme. The new Medical Schemes Act, while still allowing for
reinsurance, does not recognise this transfer of risk in its calculation of
the mandatory reserve requirements. In the case of the Discovery Health
Medical Scheme its financial performance and reinsurance structures ensure
that its claims paying ability is secured, yet it is now required to build
up the additional reserve capital to meet the technical reserve
requirements.
This is complex, because medical schemes are not-for-profit entities and may
not raise capital using traditional methods, the only alternatives are to
increase member contributions or reduce their benefits. This results in what
is known as the "death spiral" - healthy members opt out, leaving behind
sick members. This in turn lowers the quality of the risk pool and drives up
costs until the scheme is no longer financially viable.
Alternatives need to be found that shield members from increased
contributions or reduced benefits. Discovery believes it should use its
strength to find new solutions to meet this objective.
Two such proposed solutions were presented to the Registrar of Medical
Schemes. However, neither proposal was accepted.
The first proposal, which is still subject to an appeal, involved a complex
insurance structure through RMB Structured Insurance. The second was for
Discovery to inject the funds it had access to into the medical scheme
through a subordinated loan structure.
A new solution that satisfies the requirements of the Medical Schemes Act
while protecting members' interests has now been tabled. The rule amendment
required to enact this solution has been submitted by the trustees of the
medical scheme and awaits the registrar's approval.
The Discovery Health Medical Scheme's reserving solution means members don't
pay more.
The new Discovery Health Medical Scheme solution accepts the premise,
required by the Registrar, that it is through members' contributions that
reserves have to be built up within the scheme.
However, this would place a serious short-term financial burden on members.
To avoid this, Discovery will use its financial strength and access to
capital: the amount required to meet the statutory reserve requirements will
be paid on behalf of members into the medical scheme. Members will then
repay this amount over the period of their membership. But because a portion
of the current member contributions have already been allocated to build up
the required reserves over time, medical scheme contributions will be
reduced going forward. The amount by which the medical scheme contributions
are reduced will then be used by members to repay the money paid into the
medical scheme on their behalf. Therefore,members still pay the same
effective amount for their medical cover; there are no additional costs. If
a member leaves the scheme, there are no further repayments.
This solution satisfies both the interests of members and the requirements
of the Medical Schemes Act. In short, it meets the following fundamental
principles:
* fund the reserve requirements for 2002, and into the future
* maintain all benefits
* no interim contribution increases
* ensure equity between generations (i.e., today's members should not fund
reserves for future members)
* comply fully with the Medical Schemes Act.
Discovery Life
Significant progress barely one year after launch
Discovery Life has set out to change the risk assurance market fundamentally
and aims to be in the top three life assurers in its chosen market in terms
of new business market share. The strategy pivots on radical product
innovation and a focused distribution channel.
Whereas most life products combine investment and risk into a single
product, Discovery Life has focused only on pure risk solutions. They
include protecting life cover from a depreciating Rand, objective
assessments for disability and severe illnesses, and the launch of the
Global Education Protector, a risk product for child education which
includes an international network of tertiary institutions. The ongoing
volatility of the South African Rand has provided confirmation of the value
offered to policyholders, who can link their Discovery Life Cover to
international currencies.
Discovery Consulting Services strengthened its national distribution
footprint with the establishment of an additional four focused distribution
outlets around the country (now totalling 16), and achieved increased
penetration in the independent intermediary market, with over 2 800
financial advisors having sold a Discovery Life policy. In addition, a group
life product was launched into this distribution environment and is set to
leverage the Discovery Health client base.
This approach culminated in new business annualised premium income of R110m,
which is approximately 20% of all new business sold by independent
intermediaries in the risk assurance market.
Discovery Vitality
Making Discovery clients healthier - a fundamental product differentiator
Discovery Vitality fulfils two crucial objectives for Discovery. Firstly, it
is an actuarially structured wellness programme, based on scientific
principles, that rewards over 760 000 Discovery clients for leading a
healthier lifestyle. Secondly, it differentiates both Discovery Life and
Discovery Health in the market in terms of the value delivered to clients.
In October 2001 Vitality launched enhancements that offer Vitality members
benefits they can use frequently, with a relatively low cost per
transaction. This supplemented existing Vitality benefits that give members
access to benefits, such as flights and hotel accommodation, that are used
less frequently but have a high value per transaction.
The launch of R8 movie tickets at Ster Kinekor cinemas was one such
enhancement, and has proved popular. Over 2 000 members signed up per day in
the first six weeks of the offering. The lifestyle magazine offer has been
successful with over 7 000 members subscribing in the first month. Vitality
continues to deliver real value to Discovery clients, while offering
Discovery the benefit of enhanced customer retention and access to valuable
information.
Destiny Health (USA)
Chicago market starts to respond to the Discovery vision
The concept of consumer-driven health care is now catching on in the US
health care market and where Destiny Health operates, in the Chicago area,
more intermediaries and clients are adopting this model. With 8 million
people, this market is roughly the size of the South African health care
market. Destiny Health has had success in its strategy of increasing product
flexibility and intensifying marketing activities. In addition, a Vitality
programme was launched in October 2001 to more than 550 intermediaries. The
result of these initiatives has been encouraging - over 150 companies are
now covered by Destiny Health delivering R119m new business annualised
premium income.
In articles in USA Today and the New York Times, Destiny Health has been
mentioned as a pioneer in what is being called the new "consumer-driven
health plans". The Vitality programme has featured on the NBC television
channel and in the Chicago Tribune as a unique "paying-for-wellness"
approach. In the USA Today article it becomes clear that Destiny Health is
not only considered an attractive option because of its unique product
offering, but also because of its focus on service.
Destiny Health will continue its drive to deliver on its commitment of
signing up 12 000 members by the financial year-end. The current rate of new
membership growth is encouraging and Destiny believes this target is
aggressive, but achievable.
Financial commentary
New business annualised premium income ("new business API") increased 43% to
R1,2bn from R820m for the six-month period under review. Of this, the health
business accounted for R918m (79% of new business API) compared to the prior
half-year of R777m (95% of new business API). The balance of the new
business API was generated by Discovery Life R110m ( 9% of new business
API), Destiny Health R119m (10% of new business API) and Vitality R26m (2%
of new business API).
Gross inflows under management grew 52% to R3,5bn from R2,3bn for the six
months ended 31 December 2001. Of the R3,5bn gross inflows (2000: R2,3bn)
R3,4bn was attributable to Discovery Health and Vitality (2000: R2,3bn).
Commission consists of payments to intermediaries for sales of Discovery
Life policies. The transfer from the individual life policyholder
liabilities is effectively the release of margins inherent in the policies
to meet front-end loaded selling expenses.
This culminated in a growth in profit before taxation of 154% to R145m
(2000: R57m) after the absorption of losses from Destiny Health in the
United States of America of R54m (2000: R24m).
Earnings per share grew 71% after taking into account an increase in the
number of shares in issue of 4,6 million being an issue of shares to the
share incentive trust on 1 November 2001.
Diluted earnings per share is calculated by adjusting the number of shares
in issue for the shares that will be issued over the next 5 years for the
Discovery Life preference share structure which was implemented to reward
the management of Discovery Life for the creation of shareholder value.
The minority interest reflected in the balance sheet increased by R117m as a
result of an issue of preference shares by Destiny Health.
The operating income of Discovery Health tends to be weighted to the second
half of the financial year as premium increase anniversaries are on 1
January each year. The increase in Vitality profit before investment income
and taxation should be viewed after taking into account the provision of
R22,5m made for the six months ended 31 December 2000 for losses in respect
of Health & Racquet Club contracts following the liquidation of LeisureNet.
Vitality's operating margin of 21% will reduce in the next six months due to
an increase in the benefit offerings.
Discovery generated R80m net cash flow from operating activities; this is
after absorbing R14m of Destiny Health's operating costs and R109m in
respect of Discovery Life's new business costs.
In the unlikely event that the claims of the Discovery Health Medical Scheme
exceed its monthly premiums, reinsurance and stop-loss insurance cover,
Discovery has secured a R650m cash facility from FirstRand Bank. Should the
Scheme ever have to access any of these funds, it would not have to be
repaid by the Scheme, because Discovery Holdings has indemnified FirstRand
Bank against such claims.
Embedded value increased by R584m for the half-year. The embedded value per
share grew 17% to R9,58 per share from R8,18 per share at 30 June 2001 on a
more conservative basis. Once again better than expected retention of
clients, a greater than expected increase in annual premiums and
profitability on the reinsurance contract with Discovery Health Medical
Scheme account for much of the positive experience variances of R105m.
Accounting policies
The same accounting policies and methods of computation are followed in the
interim financial statements as those used in the most recent annual
financial statements.
The interim financial statements comply with Statements of Generally
Accepted Accounting Practice.
Dividends
In line with Discovery's policy no dividend has been declared.
On behalf of the board
L L Dippenaar A Gore
(Chairman) (Chief Executive Officer)
27 February 2002
Group gross inflows under management
for the six months ended 31 December 2001
Six months Six months Year
ended ended ended
December December June
2001 2000 2001
Unaudited Unaudited Change Audited
Rm Rm % Rm
Gross inflows
under
management 3 547,0 2 336,7 52 5 479,4
Less: Medical
scheme
contributions (1 311,5) (892,4) 47 (2 116,9)
Less: Money
market
contributions (357,5) (239,0) 50 (558,9)
Gross income
of group 1 878,0 1 205,3 56 2 803,6
Group income statement
for the six months ended 31 December 2001
Six months Six months Year
ended ended ended
December December June
2001 2000 2001
Unaudited Unaudited Change Audited
Rm Rm % Rm
Gross income
of group 1 878,0 1 205,3 56 2 803,6
Less:
Reinsurance (158,7) (114,6) 38 (251,4)
1 719,3 1 090,7 58 2 552,2
Investment
income 113,6 62,0 135,9
Income 1 832,9 1 152,7 59 2 688,1
Outgo (1 703,8) (1 016,2) 68 (2 379,3)
Operating
expenses (533,6) (321,3) (732,5)
Claims and
policyholders'
benefits (1 001,6) (642,1) (1 473,9)
Commissions (110,6) (2,2) (86,7)
Vitality
benefits (74,9) (64,9) (131,6)
Net deferred
acquisition
costs 16,9 14,3 45,4
Excess of
income over
outgo 129,1 136,5 308,8
Transfers
from/(to)
policyholder
liabilities
and reserves 36,7 (70,6) (20,9)
To linked
policyholder
funds (31,2) (39,7) (67,8)
From/(to)
individual
life policyholder
liabilities 120,3 (3,0) 83,0
To health
insurance
durational
and AIDS
reserves (52,4) (27,9) 88 (36,1)
Transfer to
investment
reserves (21,2) (8,9) (11,5)
Net profit
before
taxation 144,6 57,0 154 276,4
Local
operations 198,3 80,7 146 336,7
Foreign
operations
- Destiny (53,7) (23,7) (60,3)
Net profit
before
taxation 144,6 57,0 276,4
Taxation (59,2) (19,9) 197 (145,9)
Net profit
after taxation 85,4 37,1 130,5
Minority share
of loss - 12,6 0,5
Net profit
attributable to
ordinary
shareholders 85,4 49,7 72 131,0
Earnings per
share (cents) 22,1 12,9 71 34,0
Headline
earnings per
share (cents) 22,1 12,9 71 46,3
Diluted headline
earnings per
share (cents) 21,9 12,9 70 46,2
Weighted average
number of shares
in issue
(000's) 386 792 385 304 385 695
Diluted weighted
average number
of shares
in issue
(000's) 389 314 385 304 386 571
Group statement of changes in equity
for the six months ended 31 December 2001
Invest-
Share Share ment Retained Translation
capital premium reserve earnings reserve
Total
Group unaudited Rm Rm Rm Rm Rm Rm
31 December 2000
Balance at
1 July 2000 0,4 486,1 2,7 107,7 3,4 600,3
Net profit for
the period 49,7 49,7
Transfer from income
statement 8,9 8,9
Translation of foreign
subsidiary 2,2 2,2
Issue of capital * 10,0 10,0
Balance at
31 December 2000 0,4 496,1 11,6 157,4 5,6 671,1
31 December 2001
Balance at
1 July 2001 0,4 496,9 14,2 238,7 6,1 756,3
Net profit for
the period 85,4 85,4
Transfer from income
statement 21,2 21,2
Translation of
foreign subsidiary 5,8 5,8
Issue of shares * 46,9 46,9
Balance at
31 December 2001 0,4 543,8 35,4 324,1 11,9 915,6
*Amount is share par value
Group balance sheet
at 31 December 2001
December June
2001 2001
Unaudited Audited
Rm Rm
Assets
Non-current assets 1 364,4 1 203,3
Fixed assets 193,1 153,5
Loan receivable 317,6 262,8
Investments 853,7 787,0
Current assets 955,9 838,0
Accounts receivable 472,0 452,7
Cash and cash equivalents 483,9 385,3
Total assets 2 320,3 2 041,3
EQUITIES AND LIABILITIES
Capital and reserves 915,6 756,3
Share capital and share premium 544,2 497,3
Reserves 371,4 259,0
Minority interest 184,0 67,2
Policyholder liabilities and reserves 383,6 437,2
Current liabilities 837,1 780,6
Accounts payable 769,9 568,1
Taxation payable 67,2 212,5
Total shareholders' equities
and liabilities 2 320,3 2 041,3
Group cash flow statement
for the six months ended 31 December 2001
December December June
2001 2000 2001
Unaudited Unaudited Audited
Rm Rm Rm
Net cash inflow
from operating
activities 79,9 110,2 370,4
Cash generated
from operations
before working
capital changes 56,4 123,1 240,9
Working capital
changes 176,4 (37,8) 61,5
Cash generated
from operations 232,8 85,3 302,4
Interest and
dividends 51,7 27,8 73,6
Taxation paid (204,6) (2,9) (5,6)
Net cash outflow
from investment
activities (98,1) (183,8) (294,3)
Net cash inflow from
financing activities 116,8 67,2 67,2
Net increase/(decrease)
in cash and
cash equivalents 98,6 (6,4) 143,3
Cash and cash
equivalents at
beginning of year 385,3 242,6 242,6
Effects of exchange
rate changes - - (0,6)
Cash and cash
equivalents at
end of period 483,9 236,2 385,3
Segmental information
for the six months ended 31 December 2001
Health Life Vitality Destiny Total
New business
annualised
premium income 917,7 109,6 26,2 118,7 1 172,2
Gross inflows
under
management 3 340,5 67,4 111,4 27,7 3 547,0
Expenses,
claims and
commissions (1 352,4) (180,6) (88,3) (82,5) (1 703,8)
Transfer (to)/
from reserves (52,4) 120,3 - - 67,9
Net profit before
investment
income 141,4 (1,3) 23,1 (54,9) 108,3
Investment income 36,3
Net profit before taxation
and minority interests 144,6
for the six months ended 31 December 2000
Health Life Vitality Destiny Total
New business
annualised
premium income 776,5 14,6 23,0 6,1 820,2
Gross inflows
under
management 2 273,6 3,0 58,5 1,6 2 336,7
Expenses,
claims
and
commissions (892,7) (25,5) (71,3) (26,7) (1 016,2)
Transfer to
reserves (27,9) (3,0) - - (30,9)
Net profit
before
investment
income 102,5 (25,5) (5,4) (25,1) 46,5
Investment income 10,5
Net profit before taxation
and minority interests 57,0
Group embedded value statement
At 31 Dec- At 31 Dec- At
ember ember 30 June
2001 2000 Change 2001
Embedded value Rm Rm % Rm
Shareholders' funds 915,6 671,1 36 756,3
Plus: Destiny Health
Inc. start-up costs 146,5 43,1 240 92,8
Total value of
shareholders' funds 1 062,1 714,2 49 849,1
Value of current
business 2 793,9 1 993,6 40 2 406,7
Cost of capital (115,6) (54,7) 111 (99,8)
Total embedded value 3 740,4 2 653,1 41 3 156,0
Number of shares
(millions) 390,6 386,0 1 386,0
Embedded value
per share (R) 9,58 6,87 39 8,18
Diluted embedded value
per share (R) 9,52 6,87 39 8,15
Six months Six months 12 months
to 31 Dec- to 31 Dec- to
ember ember- 30 June
2001 2000 Change 2001
Embedded value
profit Rm Rm % Rm
Embedded value at
31 December 3 740,4 2 653,1 41 3 156,0
Embedded value at
30 June 3 156,0 2 115,6 49 2 115,6
Increase in
embedded value 584,4 537,5 9 1 040,4
Capital raised (46,9) (10,0) 369 (10,8)
Embedded value
profit 537,5 527,5 2 1 029,6
Components of embedded
value profit
Profit from new
business (at point of sale)
from Life, Health and
Vitality 269,9 213,9 26 581,5
Profit from existing
business
* Expected return 197,6 149,8 32 286,7
* Change in basis (79,9) 40,1 (83,9)
* Experience
variances 104,8 97,5 7 190,5
Return on shareholders'
funds 45,1 26,1 73 54,8
Embedded value
profit 537,5 527,4 2 1 029,6
Embedded value of new business
Six months Six months 12 months
to 31 Dec to 31 Dec- to
ember ember 30 June
2001 2000 Change 2001
Health and Vitality Rm Rm % Rm
Gross profit from
new business at
point of sale 186,3 221,3 (16) 557,0
Cost of capital (9,9) (7,4) (25,7)
Net profit from new
business at point
of sale 176,4 213,9 (18) 531,3
Experience variances
and expected return 27,6 16,8 64 61,6
Net profit from new
business at valuation
date 204,0 230,7 (12) 592,9
6 months 12 months
to 31 Dec- to
ember 30 June
2001 2001
Life Rm Rm
Gross profit from new business
at point of sale 99,2 54,7
Cost of capital (5,7) (4,5)
Net profit from new business
at point of sale 93,5 50,2
Experience variances and expected
return 6,8 10,8
Net profit from new business at
valuation date 100,3 61,0
Review of the embedded value statement
Following a strengthening of the basis and continued new business growth,
the embedded value increased by 19% to R3 740,4 over the six-month period to
31 December 2001. The diluted embedded value per share increased 17% to
R9,52 per share from R8,15 per share at 30 June 2001.
The value of local shareholders' funds increased by R11,6 million at 31
December 2000 from that published in the prior year due to the
reclassification of investment reserves to shareholders' funds. For the
purposes of embedded value, Destiny Health start-up costs are included in
the value of shareholders' funds.
The reduction in Health and Vitality new business embedded value is
primarily a function of the strengthening of the basis.
The relative increase in the Life new business profitability for the period
ended 31 December 2001 is primarily due to high start-up costs included in
the valuation at 30 June 2001.
All costs of capital numbers were calculated as at the valuation date.
The embedded value at 31 December 2001 has been calculated using the same
method as the 30 June 2001 calculation. The table below illustrates the
assumptions used as well as the impact of the change in basis on the value
of existing business calculated at 30 June 2001:
Impact of
basis
change
31 Dec- 31 Dec- July - Dec-
ember ember 30 June ember
% 2001 2000 2001 2001
Risk discount rate
- Health and
Vitality 16,5 18,0 16,5 -
- Pre-funding 15,0 18,0 15,0 -
- Life product 15,0 n/a 15,0 -
Medical inflation 10,5 10,5 10,5 -
Expense inflation
- Health and
Vitality 9,0 8,0 8,0 (52,5)
- Pre-funding 8,0 8,0 8,0 -
- Life product 8,0 n/a 8,0 -
Tax rate 30,0 20,0 30,0 -
A further R27,4 million reduction in the embedded value is due to the
strengthening of the lapse and mortality assumptions used to calculate the
value of the life business.
The embedded value calculations, excluding the value of Destiny Health, have
been reviewed by QED Actuaries and Consultants (formerly Hymans Robertson
Consulting Actuaries) who have confirmed that the methodology and
assumptions used to determine the embedded value are reasonable.
Tillinghast - Towers Perrin, the international consulting actuaries, have
reviewed the methodology and assumptions used to determine the value of
current Life business and the value of new Life business and have confirmed
that, overall, they are reasonable.
Directors
L L Dippenaar (Chairman), A Gore (Chief Executive Officer), B Swartzberg
(Chief Operating Officer), S D Whyte*, N S Koopowitz*, H P Mayers*, J M
Robertson*, R B Gouws, S R Maharaj
*Executive
Transfer Secretaries
Computer Share Services Limited
(Registration number 58/03546/06)
2nd Floor, Edura, 41 Fox Street
Johannesburg, 2000
PO Box 61051, Marshalltown, 2107
Secretary and Registered Office
A Cimring
155 West Street
Sandton 2146
PO Box 786722, Sandton, 2146
Tel: (011) 529-2888
Fax: (011) 529-2958
e-mail questions to: AskTheCFO@discoveryworld.co.za
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