Good morning, everyone. Thank you for joining us today at such short notice. We really appreciate you doing that. For those of you who aren't able to join us in the room in Sydney, Nick Hawkins, our Chief Financial Officer, has also joined me today for our presentation. Today, we're delighted to be announcing a landmark strategic partnership between IAG and Berkshire Hathaway. As people know, Berkshire Hathaway is one of the world's largest and most successful companies. We see this partnership as a significant endorsement of IAG's strong franchises, our market positions, and our long-term strategy. I will expand on the details in a moment, but the key elements are threefold. Firstly, an exclusive business partnership across our respective Australian and New Zealand operations, a 10-year, 20% whole of account quota share agreement, and an immediate AUD 500 million equity placement to Berkshire.
From IAG's perspective, the strategic rationale for this partnership is compelling. It leverages our complementary operating capabilities in Australia and New Zealand. It serves to reduce volatility in our future earnings, and it enhances our capital flexibility and diversification. This provides us with significant scope to pursue future growth opportunities and to consider potential capital management. In terms of the overall financial impact, all of this aligns with our delivery of our target through the cycle 15% return on equity. In short, we believe that this is a win-win situation for both partners, but it does significantly strengthen the long-term outlook for IAG and for its shareholders. Berkshire Hathaway probably needs little in the way of introduction to you being one of the 10 largest companies in the world. What's perhaps a little less appreciated is the length of the existing relationship between IAG and Berkshire.
IAG's had a reinsurance relationship with Berkshire since the year 2000. That relationship has developed and it's deepened over the years with a growing presence on our catastrophe program, accompanied by assistance at key junctures in IAG's recent past. We view today's announcement as a step change in our relationship with Berkshire and a logical next development in that relationship. I think Berkshire views it very similarly. Let's now hear from Warren Buffett on his perspective of today's announcement.
Hi, I'm Warren Buffett, CEO of Berkshire Hathaway. As many of you know, Berkshire's a large, very diversified company here in the U.S. Despite the fact that we're in a great many businesses, our first love, our longtime love, our future love has always been the insurance business. Very shortly after I took over as CEO, in 1965, two years later, in 1967, we entered the property casualty insurance business with a commitment of about $8 million. Now we have an insurance operation that has a net worth of far in excess of $100 billion. Our board of directors, our managers, our shareholders, all love the insurance business. In the course of that business, 15 years ago or so, we entered our first commercial transaction with IAG.
As the years have passed and we've gotten to know them better and they've gotten to know us better, we both found a great deal to admire in each other's organizations. Very recently, we decided to cast aside a commercial relationship and establish a very important and enduring partnership arrangement. IAG is a terrifically strong company with great strengths in many areas. Berkshire's got some strengths, and we believe by bringing these two companies closer together as partners, that each company will benefit in a very substantial way. Even though this contract runs for 10 years, I expect for decades and decades and decades to come that both companies will benefit in many ways that we can't even perhaps visualize right now. I'm looking forward to it. Our managers are looking forward to it.
Our shareholders are looking forward to this partnership, and can't tell you how delighted I am to be with it. I should add one small footnote. In fact, it's sort of a confession. I'm 84 years old, and this is my first investment in an Australian company. I've been very derelict, but it's been worth waiting for. We've now picked the best, and we've entered into an area of the world where we've done some business before, but now we're coming in with an ownership position and better late than never and better the best than ever. Here we are in Australia, and I'm delighted to be there.
As you heard from Warren, I think both of us believe that this is a win-win partnership for our respective organizations. If we look at the strategic relationship, firstly, how that relationship will apply to our Australian and New Zealand operations. As part of our partnership, Berkshire Hathaway will transfer to IAG any personal and SME exposures and business opportunities in Australia and New Zealand. In return, IAG will transfer its existing large corporate property and liability exposures to Berkshire on renewal. The overall effect is that we'll be able to draw on each other's strengths to better service our customers and to deliver superior business outcomes. This is a long-term arrangement for an initial term of 10 years, but as you heard Warren say, our expectation is that this will be an enduring partnership.
I'll now ask Nick to walk you through the quota share and the capital aspects of our partnership.
Thanks, Mike, good morning to everyone. As we said, we are very excited about this strategic partnership that we have announced today and the impact that is going to have on IAG going forward. The second leg to the strategic partnership is the quota share, which commences 1 July 2015 and applies to 20% of all IAG consolidated business. It is for an initial 10-year term and serves to increase our financial flexibility and our capital diversification. The quota share is expected to result in a reduction of our capital needs of approximately AUD 700 million over the next four to five years, with approximately AUD 400 million of that captured in the 2016 financial year. It also results in significantly lower requirement for catastrophe reinsurance cover, it reduces the group's earnings volatility.
This is achieved through the increased commission income component to our earnings and our lower exposure to potentially volatile global reinsurance rates. The impact on our financials is to reduce our net earned premium by around 20%, it increases our insurance margin by roughly 200 basis points. The quota share and the changes to our earnings mix through the higher commission element also increase our confidence in delivering our through-the-cycle 15% ROE target. Our capital position has also been strengthened through the equity placement to Berkshire. This cements the strategic and long-term nature of the relationship that we have established with them. The placement of AUD 500 million is approximately 3.7% of our expanded equity base and is issued at yesterday's closing price of AUD 5.57.
As part of the partnership agreement, we also have a 24-month option to place up to an additional 5% of our expanded issued capital to Berkshire. This is equivalent to over 120 million shares and will be priced on a five-day VWAP basis if we choose to exercise that option, subject to a cap at AUD 6.50 per share. The subscription agreement with Berkshire also includes other elements, including a standstill clause, which limits Berkshire's overall ownership to 14.9% of IAG. The requirement that Berkshire must at least maintain its initial stake in IAG for the duration of the quota share, Berkshire's commitment to vote in accordance with the recommendations of the IAG board, while retaining freedom to vote as it sees fit on the remuneration report and director appointments. As you can see, all of this has been structured in a way that is aligned to our strategic partnership.
The combination of the quota share and the equity placement materially increases the group's capital position. The equity placement sees us comfortably above our targeted benchmarks, that effect will be immediate. The impact of the quota share is over a more extended timeframe, as I mentioned earlier, over half of this will affect the 2016 financial year. We acknowledge the modest dilutionary effect that the new share issue will have on earnings per share in the short term. Over the longer term, however, we expect our partnership with Berkshire to be earnings accretive for us as we fully realize the capital and the operational benefits that are available. It remains IAG's intent to manage its capital in a disciplined and efficient manner, we reconfirm our long-term target ratios of 1.4 to 1.6 of our prescribed capital amount and 0.9 to 1.1 of our Common Equity Tier 1.
Our materially strengthened capital position gives us considerable flexibility to pursue both growth opportunities and consider capital management options at the appropriate time. It is not our intention to be above our capital targets over the medium term. I'll now hand you back to Mike to address our strategy and the group's outlook.
Thanks, Nick. IAG's strategy and our strategic priorities are essentially unchanged. It's this strategy that Berkshire Hathaway is supporting as it enters into the strategic partnership with us. Our strong businesses in Australia and New Zealand represent the majority of the group, we don't see that changing. However, we also see continuing opportunities in our target markets in Asia. Now, for all of you, our ambitions in Asia are nothing new, and we continue to see enormous potential in the region. Some of the opportunities you'd be well aware of, such as the dial-up of our interest in India, which we're actively pursuing at the moment, and which we expect to be finalized by the end of this calendar year. Also, we recently announced an investment in our 6th target market, Indonesia.
This small first step saw us acquire a business with an insurance license, which is a precursor to entering into an agreement with a local distribution partner. We also see a number of further opportunities now emerging in Asia. These include participation in any potential industry consolidation in Thailand and further opportunities to expand our presence in Malaysia via our highly successful joint venture, AmGeneral. As a result of recent regulatory changes, we're exploring further opportunities in China and specifically those that give us a pan-China exposure. Asia continues to represent an important plank of IAG's strategy, given the relatively low penetration of insurance in our target markets. This, allied with the rising affluence and consumption of the emerging middle classes, presents an opportunity which we believe all forward-thinking Australian companies should be pursuing. Now to our outlook.
Our guidance for the 2015 financial year is unchanged from that which we presented at the end of April. On that occasion, we lowered our reported insurance margin expectation to a range of 10.5%-12.5%, following the extreme weather events that we'd experienced earlier in the year. Our underlying assumptions are also unchanged. However, they do remain subject to the finalization of our year-end processes and valuations. Our GWP growth guidance remains at the lower end of our 17%-20% range as updated in February. Today, we're also providing a first look at our expectations for the 2016 financial year. For that year, GWP growth is expected to be relatively modest, reflecting the competitive conditions that we're seeing in the main markets in which we operate and the continuing relative absence of claims inflation pressures.
Our reported insurance margin expectations for 2016 are in the range of 14%-16%. This includes further realization of the benefits from the integration of the former Wesfarmers businesses, as well as those arising from the move to our new operating model in Australia. It also captures the reported margin benefit from the quota share arrangement, which is of the order of 200 basis points. Whichever way you look at it, our underlying profitability in 2016 is expected to again be strong. In summarizing today's announcement, we believe the strategic partnership that we've announced today is a significant and it's a very exciting development for IAG. It closely aligns us with a long-standing business partner while also providing clear benefits from all perspectives of the customer offering, strategic and capital flexibility, and reduced earnings volatility.
Today's announcement places IAG in a very strong position, it allows us to face the future with considerable confidence. With those comments, Nick and I are now happy to take any questions that you might have. As normal, we'll start with the questions in the room here in Sydney, then we'll go to those who've joined us on the phones. Kieren.
Thanks. Kieren Chidgey, Deutsche Bank. Mike, just interested in the 10-year agreement here. What certainty have you got around pricing through that time period? Is it just a sort of set amount they're paying you for that business through that time period, or does it get renegotiated various points going forward?
It's a set arrangement. It's a traditional quota share with a slight kicker in that we see 20% of our premiums to Berkshire. They pay 20% of the claims. They pay 20% of our costs. Plus, there is an agreed fee over and above that, which is one of the reasons why we were talking about it. It takes some volatility out of our results because we're replacing uncertain insurance margin income with more certain fee-type income.
Okay.
I think unless we materially change our business mix, it's unlikely that we would have been negotiating anything different on that transaction over 10 years.
Okay. Just a second quick question, what's the net impact on GWP? I gather it's pretty small from these portfolio transfers.
Yeah.
Is it?
I think that the portfolio that we will be transferring is probably something a little less than AUD 50 million, and it'll be considerably less than that coming the other way. Negligible impact.
All right. Thank you.
Nigel.
Thanks. Nigel Pittaway here from Citigroup. Just maybe if we can take the insurance margin guidance for 2015 that it was pre all the large losses, and the midpoint there was, what, 14.5%? Then look at what you're guiding to 2016, where the midpoint's 15%, but there's a 2% benefit from the quota share. Basically we've got a drop there from 14.5%-13%, despite obviously there being significant Wesfarmers synergies coming through in that year. Can you just explain sort of the major reasons behind that drop?
Well, I think one of the key reasons, Nigel, is we talked about our reserve releases, and we still stand by this for the 2015 year being of the order of 200 basis points or 2% on the margin. What we're talking about in the 2016 year is 1%, there's most of the movement. Plus we have called out that it's a tougher commercial market environment, we're not hiding from that. We still think that it's a very strong outcome when you look at the overall conditions in the market and the ROE profile that we're still delivering.
If we do focus on the 2% benefit, is that pretty much all due to the ceding commission, the 200 basis points improvement?
It certainly is a considerable component to it. There's a few other bits and pieces that come with it as well, including our need not to now take reinsurance on 20% of the book.
The drop in NEP is still 20%, even though you're taking lower reinsurance in the cat cover?
Yeah.
Yeah.
That's right, Nigel. What's happening is for 20% of our book, we're paying the GWP and reinsurance expense on that part of the book are the same number.
Yeah.
That affects then the NEP. Overall, the group's NEP will come down driven by that. Part of the 200 basis points will be the math for that as well. An element is the commission, an element is just a shrinking NEP number due to the way that quota share will be reflected through our financials.
Okay. Then can you just comment on how you think this will affect your relationship with the other reinsurers in the market?
Yes.
Is there any impact on that?
Yeah. We have existing relationships with Berkshire and many others, obviously, so our expectation is that it won't affect them at all, that actually going forward, we'll continue to enjoy Obviously, we have a partnership agreement with Berkshire, but we also have key relationships with a number of other major providers, we would expect those to continue on as they are.
There's nothing that they've done that's stimulated you to do this.
No.
Okay. Thank you.
James.
James Coghill, UBS. Nick or Mike, just following on from that question about the 200 basis points, perhaps you can just give us a bit more color how the mechanics work down through the P&L, because on the revised NEP number, it's a benefit of about AUD 170 million. I'm sure we can't be thinking about the net impact of the exchange commission and operating costs being shared. It looks like there's something larger there that eventually drops down through the P&L. Could you just explain how-
Yeah
investment income works, firstly. Then secondly, how the natural perils allowance-
Yeah
the AUD 600, how that works as well?
Yeah. Everything sort of proportionally drops by 20%. That's kind of the theme here. However, what we are doing as part of this, for example, the perils allowance sort of drops from what would've been, say, call it AUD 750 down to, we talk about AUD 600 being effectively a 20% reduction because it's a gross quota share, so everything is being passed to Berkshire gross. Everything in our P&L is proportionally sort of 20% smaller, so claims are going to be 20% lower. The contribution to our admin expenses is 20% by Berkshire. In addition to that, obviously what's happening is we're giving Berkshire access to the profit pool of IAG on that 20% of our business.
The real trade here is the negotiation of that exchange commission over and above the proportional elements for IAG to be remunerated for effectively the profit stream that is now being passed over to Berkshire. We obviously didn't want to provide all of the sort of commercial sensitivities around that transaction. What we've done, we thought a better way to do that was in the context of guidance, which is really why we've given guidance today for 2016, is then provide how that quota share impacts the overall insurance margin guidance for 2016. I think you should be thinking everything's proportionally lower by 20%, but there's a kicker over and above that proportion, which lifts our margin by that 200 basis points, which is effectively the fee that we are receiving over and above the proportion.
Of course, there's the capital relief that is in addition to that.
That fee as a percentage of your capital base, that would be quite significant. It must be quite already accretive to this deal.
Well, the fee, obviously, for 20% of our business now, we don't have underwriting risk on it as such. It's a fee-based business, basically, for 20% of the group. Yeah, I mean, the metrics are different then obviously because it's a fee-based arrangement on 20% of our group versus a capital load that would normally be required.
Okay. On that natural perils allowance, you mentioned the figure of 750-
Yeah
pre the quota share.
Yeah.
Should we-
In the order
be thinking about that relative to, what was it? AUD 700 plus the AUD 150 aggregate in 2015, is that the comparable number? Have you effectively lifted it by AUD 50 million?
Yeah. There's probably a little bit of protection that we're getting in I think we might have lifted the number slightly more, by the way, but the other element in the 2016 year is that we have some protection in the first half 2016, second half of calendar 2015, around the aggregate protection. That's on a calendar year basis. Probably we're getting some help in our perils allowance by the perils that we've had in the first half of this calendar year. We get some additional protection second half of the year. That number probably would've been slightly higher. We incorporate in the elements of that, plus the quota share, we've come up with this sort of net number of AUD 600.
Thank you.
Ross.
Hi, gents. Sorry. It's Ross Farren from CBA. Apologies. Can you just talk us through how the sort of put option works that you have with them?
In what instances would it be favorable for existing shareholders for you to exercise that put option?
The mechanics are sort of relatively simple. We see it as IAG has the option at our call to issue up to roughly 125% of the expanded capital base, so it's 120 odd million shares, at any time over the next two years, capped at AUD 6.50 and priced at a five-day VWAP. The five-day VWAP, we can choose that timing anywhere in that two-year period. Essentially, what that does is create some flexibility with how we may need to access funding if that's so required. At this point, we're not thinking that we would be using that. As part of this sort of partnership arrangement, that was sort of put on the table as one of the other options available to us.
Given you are so far above your target range in capital.
Yeah
Can we say?
It doesn't feel like we're about to exercise that option next week. I suppose if that's the question. What it does do is, it was part of the package. I think the important part of this transaction is everything is part of the package. There's lots of pieces to it. There's no sort of one piece, and we've obviously had a lot of this discussion internally around one piece, would you just do that in isolation, that one piece? There's actually quite a lot in this, and it's sort of us trying to really get that whole of account package with Berkshire. This was just another element of it. What it does, I see, is effectively just give a bit of flexibility.
As I said, right now, the intention is not to exercise it, to your point, we don't have the need for that capital at this point.
I think just adding to what Nick was saying there, this really is a partnership. That put option was actually offered by Berkshire. It wasn't something we asked for. They offered it as a demonstration of their ongoing support for what we were trying to do as an organization, and more particularly, the strategy that we're following. We thought that it was great as part of the overall package, and certainly gives us some confidence to look to the future. I also agree with Nick, we're not about to run out and exercise this next week because we don't have the need for the capital.
It's a fairly cheap option from their point of view then, I guess.
Yeah. It is there. It's a significant amount of money, should we need to call on it, we're not anticipating that we'll need to do that.
The quota shares, is this Australia, New Zealand, or is this including all your investments?
It covers all the businesses that we consolidate. Australia, New Zealand, and the majority-owned operations throughout Asia. If some others come in to be in a majority-owned position, it will cover those as well.
There was nothing special about that from Berkshire's point of view. We thought that was just the easiest way to define it, from an accounting point of view, what we consolidate. That's sort of the way the definition works.
Forgive me if I sound flippant, because I don't mean to be. Is Berkshire essentially getting 20% of IAG for 3.7% of the capital?
I think the answer's no. A key to the transaction, and actually where loads of the negotiation has been held, is what additional fee income or commission income or exchange commission are we negotiating over and above the proportional share of claims and expenses to compensate IAG and IAG shareholders for the access to that profit stream. That's where the deal is really. That's been a major part of the negotiation, just that bit. It's not just 3% of the equity, it's plus a fairly sizable exchange commission, which is really resulting in that 200 basis point increase in margin and the capital relief that comes from that as well.
Daniel.
Thanks. Daniel Tuohy from Morgan Stanley. Just interested how this relationship influences your aspirations in Asia.
I don't think it changes our aspirations in Asia. We've been very clear about the fact that we see Asia as part of the long-term future of IAG, and I called it out during the presentation. Currently, we're not looking beyond the six target markets that we have in Asia, and with the small investment that we made in Indonesia, we're now in those six markets. What we are starting to see is more opportunities emerging within those six. We're not bereft of opportunities in Australia and New Zealand either. Really no change to the strategy.
You don't see it provides greater optionality to deploy capital in the region? Is there any sort of view on, I guess, the amount of capital you'd like to I think going back pre Wesfarmers, you talked about a certain percentage of your business coming from Asia by 2017. Obviously, things have changed. Any sort of view on quantifying?
We'd still like Asia to be meaningful. We had previously talked about Asia representing about 10% of the group by 2017. Obviously, with bringing Wesfarmers in, just the maths of that means that it's now about seven. We still believe that Asia over the long term is the place to be, and it will be a meaningful operation for the organization. We're not setting any particular targets. More particularly, the capital that we've got is not burning a hole in our pocket saying we've got to go and do something, particularly in Asia. As Nick said, we'll be very disciplined about the management of our capital, as we've always been.
Okay, thanks.
Okay. We might just see whether we've got any questions on the phone, then we'll come back to those who've joined us here in the room in Sydney.
Thank you. For the phone parties, if you would like to register a question, please press star one on your phone and wait for your name to be announced. The first question from the phone comes from Siddharth Parameswaran from JP Morgan. Please go ahead.
Hi, Mike, Nick. A question that I have is just around the need for this capital, I suppose the raising that you're doing. You're effectively saying that this deal will reduce your capital requirements by AUD 700 million. That's very significant in the context of the amount of capital requirements that you actually have. I'm just wondering what actually is triggering this. You're flagging opportunities in Asia, but nothing has really changed from what you said before in the past. I think you said India, Indonesia, they're all quite small in the scheme of things. I was just wondering if you could give us some color as to what this might mean. Sorry, what drove this, and also just what this might mean for capital management opportunities going forward. What does this mean for your dividend payout ratio? What does this mean for capital management opportunities?
Maybe I'll start and Nick can add to this. It wasn't a capital need that drove this. We've called it a partnership because it genuinely is a partnership, and we see it's a long-term relationship that we're entering into. It wasn't just driven by the capital piece. It was also about the business opportunities that were presented, and the fact that we are looking to develop our personal lines and SME business in Australia and New Zealand in conjunction with Berkshire, likewise, that it's bringing its significant expertise in corporate property and specialty liability business to the benefit of our customers. We think when you look at the package, it's a sensible next development in the relationship that we have with Berkshire. Also I think that it's something that will service our customers and our distribution partners in a better way as well.
Maybe I'll let Nick talk about what this means for our capital long term, although we've tried to call out that we're going to be disciplined, and we did say that we wouldn't hold excess capital over the medium to long term.
Hi, Sid. Just to sort of make a comment on a few of the points you made. In relation to dividend policy, we believe the policy of 50%-70% of our cash earnings has served us well over the last six or seven years. The idea of returning to shareholders but continuing to invest back into our business, both Australia, New Zealand, and Asia, we believe that's the right strategy for our organization. We're not changing our dividend policy. Where we are being clear when we get the point that we've given you some pro formas as at 31 December showing impact of the quota share and the AUD 500 million placement, that does give us a fair bit more flexibility around our capital. What we've said is, over the medium term, we're not going to hang on to it.
We don't feel compelled to buy things, and that we also get the ROE dilutive nature of holding surplus capital and investing it at 6% or 7% pre-tax in our shareholders' funds. What we are saying is in the medium term, if we're above our targets, we'll conduct some sort of capital management initiatives.
If I could just follow up with one other question. Effectively this deal, on my calculation, if I take the effect of the quota share against the boost to the insurance margin against the effect, the loss in net earned premium, I get about 3% dilution coming through on earnings in FY 2016. Then there's also effectively an increase in your share count of 3.8%. It seems like quite a dilutive deal. To do this just for a strategic relationship seems like quite an expensive deal.
Yeah.
Do you have-
Sid, I think the quota share in isolation is marginally EPS accretive. The equity rise, and I flagged it when I was talking to that page, is clearly dilutive because we're raising AUD 500 million and sort of back to the point of investing it in our shareholders' funds at sort of pre-tax 6% or 7%. I would say the quota share is not the way you articulated. The quota share, our view on that is that it's marginally accretive to the group. We're taking out volatility, that's part of the play here as well obviously. We would agree that obviously when we add in the equity rise as well, that makes the whole trade, in the short term, marginally dilutive. That's sort of probably stating the obvious to you guys, where that's just bolstering our capital reserves.
Sorry, am I missing something? Effectively you're saying that there's a boost of two percentage points on the insurance margin from the quota share, there's a loss of 20% of the premium. The underlying margin, surely isn't that EPS dilutive?
Yeah. Well, there's a few more moving parts to all that, our view would be versus the prospects of 2016 when I overlay the quota share, that that in isolation would be a marginally EPS accretive deal for IAG shareholders. When we add the equity bucket in as well, that's the bit we're saying if you add that in addition to the quota share, that brings us down to be modestly dilutive, only a little bit. I mean, the masses, you guys can do that as well. No, I don't agree with your comment that on the quota share. We would see that as marginally accretive.
Actually the real trade here is, in our opinion, that actually we're trading volatility for more certainty, and you're trading insurance risk for fee-based income, and as part of that, there's this opportunity, as we articulated, to release capital off the book to the tune of $700 over the next four or five years.
Okay, great. Thanks.
Thank you. The next question comes from Toby Langley from Merrill Lynch. Please go ahead.
Oh, hi guys. Just a couple of questions. On the arrangement with Berkshire, is there any kind of non-compete in the lines of business that you do come up against one another?
As I said, Toby, during the presentation, it's an exclusive arrangement. Basically, Berkshire will be transferring to us its personal lines and SME business and opportunities in Australia and New Zealand, so they won't be competing. Likewise, given the size of it and given the greater skills and the greater appetite that Berkshire has for large corporate property and liability business, we won't be going into that business. To that extent, yes, we're not competing. We're actually cooperating.
On your other reinsurance arrangements, what's the impact of this deal?
Well, none, really. I think it goes to the question that Nick was asked earlier. Don't know whether you want to add any more to that.
We're obviously shrinking. We will be shrinking our reinsurance buying, just as a sort of global comment, by 20% on everything, because this is a gross quota share, so our buying in the market, everything else being equal, is 20% lower. As an example, when we go to market, assuming the exact same program we currently have on the main catastrophe tower, at the moment, we buy just over $7 billion. That number will shrink by 20% when we go to market. That's just the one we talk about a lot. There's across all of our reinsurance, both our liability and long tail classes, as well as our property and sort of catastrophe covers, everything shrinks by 20%.
Okay, great. Just lastly, you've called out for years previously on what you expect to inject into India. Are those numbers still the same?
Yeah, at this stage, as I said, we're looking to go from 26% to 49%. We said that we thought that'd be of the order of $150 million. That still stands. We are in the negotiation or going through the process, actually, because there's an agreed process, we're confident that we'll have that completed by the end of this calendar year.
Okay, thank you.
Thank you. The next question comes from Ingrid Groer from Goldman Sachs. Please go ahead. You're mute. It's Ryan Fisher.
Sorry, it's not Ingrid. It's Ryan. Just a quick question or more a comment. I'm just running the maths, unless we're missing something really significant, I completely agree with Sid's logic. I'm just hoping, given the significance, that Nick, you can help us to reconcile here.
Sure.
Just to be really crude about it, if you take the NEP and you reduce it by 20% and you add 2% to your margin, you're going to get 8, 9% less insurance profit in AUD terms. Before adjusting for the extra shares, the extra investment income and the capital, whatever, you're down about 8, 9% on insurance profit. A bit of a reduction when you allow for shareholders' funds, presumably for the minorities will be reduced as well. It's very difficult to see how you're saying that that's accretive in its own right. Could you let us know which line item we're missing?
I'm trying to think of the best way to go about that. The way to look at this, maybe we'll spend just a couple of minutes now and we can talk about it more after, it's probably easier rather than holding it all up for everyone. What happens is obviously everything shrinks by 20%. We get this, however, this big kicker in this fee-based income, essentially over and above the proportional share of our claims and our expenses. That's obviously fee-based income that doesn't have any capital behind it. The net impact of that moves our margins, as we articulated, by around 200 basis points. When I look at that as a package, what that does in our view, compared to where we were heading in 2016 around earnings per share, is it's modestly accretive.
There are some other benefits around just the quantum of reinsurance that we're buying. Obviously, it comes down. There are some other benefits that are available to us as part of the way that works. We're pretty confident on that net effect as we've articulated, ex the equity raise on this transaction being modestly EPS accretive in the straightaway. Via adding the extra equity, the extra AUD 500 million, that's what brings it back a little bit. We can talk through that line by line after this call if you want, Ryan.
Okay, thank you.
Thank you. At this time, we're showing no further questions over the phone.
Okay. Any more here in the room? Oh, James. Yeah.
Mike. Excuse me. James Coghill, UBS. Mike, just two more questions on governance. Again, like Ross, I'm not saying it is an issue, that I'm just trying to get some concepts clear in my own head. The first question relates to the 14.9% that Berkshire can effectively get up to. They've effectively become an insider through this transaction, and they'd have more insight than any other shareholder as to how IAG is performing. Can you just explain the mechanism other than the put option through which Berkshire can increase their stake further?
They can buy on market. I think that your initial statement that they have more information than the rest of the market is actually not accurate.
This has been done on the basis of information that's available to all shareholders, and we see it as a strong affirmation from Berkshire about the organization and the strategy that it's putting forward. The 14.9% is a standstill. We have the capacity, obviously, to put another 5%, but Berkshire also has the capacity to go into the market and buy.
They're privy to no additional information that I say would be privy to?
Yeah.
All the information I have access to, Berkshire also has access to that.
James, it's probably a question for them, but certainly the way we've conducted business, in my opinion, that they are not insiders. That's the way they've conducted business with us, actually.
The second issue is more a disclosure one around that exchange commission. Are you in a position to disclose when the result comes out what that is and how that mechanism works? Because it's clearly quite significant-
Yeah
to the way it drops through the P&L.
Yeah.
To quote your words, Nick, most of this transaction is effectively selling 20% of-
Yeah
the business for an exchange commission.
Correct
existing shareholders are entitled to understand exactly how that's been structured.
Yeah. We've got to balance I agree with your comment there, James, just sort of around the confidentiality of the arrangements that we've put in place. What we've tried to do, and the reason we've given guidance today, was to give some insight onto the financial effects of 2016. By the way, obviously our June 2015 financials, this will have no effect.
No effect.
It's a go forward from one July. We'll look at how we can, in the constraints of what we've agreed is around confidentiality, around how we can help investors get more clarity on exactly the mechanics of how that works, and we'll look to do that in August.
Thank you.
Nigel's got another question.
Nigel Pittaway from Citigroup here again. Sorry, just a real quickie, I think, correct me if I'm wrong, previously you said the reserve releases would run at 2% of NEP for longer than-
Yeah
FY 2015. The fact that you're now saying 1% in 2016, is that telling us they're not going to run that far, or you just want to be conservative?
I think, Nigel, I think if you look at the slide, it says at least 1%.
I think your point is our NEP has come down, are we reducing from one down to a smaller number? I think we just left. We didn't try to be too scientific in that number. We thought about this point, we've just left at least 1%.
Okay.
There's nothing more to be read in than that.
Okay. Thank you.
Yeah.
Slightly carping point, surely through their reinsurance relationship, Berkshire have more insight than most investors.
Yeah. That's probably a question for them, isn't it? Around whether or not they believe because of that makes them a insider and restricts them from trading our shares. Certainly it's the way we've conducted business over this negotiation of the strategic partnership. I think that they have essentially dealt with publicly available information, that's a question for them, really.
Nothing else? Any more on the phones? One last take.
Thank you. The next phone question comes from Andrew Adams from Credit Suisse. Please go ahead.
Yeah. Hi, guys. I just wanted a quick question to understand how the reinsurance works from one July. You've got a $250 attachment point at the moment for your main cap program. From one July, Berkshire comes in, takes 20%. Is your exposure just for the 80 still $250?
Yeah.
Yes.
Yeah. We could have gone about restructuring our programs and reduced everything down by 20%. We think we're just going to leave it all as it is for the next six months, and then go about that process. Of course, it takes a little while to build this up as well. Effectively put that new program in place one January 2016, fully aware of this. What we are actually doing, we do renew some of the program one July, some of the long tail classes and the way we cover that. We were putting those programs in place with quota share. On the calendar year programs, we're essentially just going to leave them as they are.
Andrew.
You're not repurchasing the net perils allowance, I take it from those comments?
We might. You're talking about what used to be the 150 excess 700 layer?
Yeah.
Yeah, we might.
Well, I guess for six months it just looks like you've increased volatility because you used to attach at 2.5% of NEP.
Yeah.
Now you're attaching at 3% of NEP.
Yeah.
It actually looks like I'm more exposed to weather.
Probably, Andrew, the only other comment we'll make on this, and there's another twist to this, which is the protection we have under the aggregate. Actually, there's an argument that our MER at the moment is roughly AUD 25 million because of the fact that we're into our aggregate or on the cusp of it. Actually, and we're probably, because the medium term view is still the AUD 250, or I think you can probably assume you can proportionately reduce that down at 1 January 2016. Actually right now, and hopefully for the remainder of calendar 2016, because of the way the aggregate plays into our protection, actually there's an argument that actually our MER is actually AUD 25 million right now. Assuming we don't have any more terrible events this year, that'll be in place for the rest of the calendar year.
That came into our thinking as well. I think net-net, we haven't dialed up our volatility or risk in the next six months. I think it's actually at a practical level, what we're doing makes sense, and because of other things playing in, we've got that reduced volatility anyway, and we'll get everything in order with the quota share from 1 January 2016.
Okay, great. Thanks, Ross.
Thank you. At this time, we're showing no further questions over the phone.
Okay. Daniel, probably one last question.
Yeah, thanks. I think Berkshire had a MGA set up with Steadfast to provide personal lines business. Will that, in effect, be you going forward, or will that continue to be Berkshire?
That will effectively be us. That will be part of the business that will transfer over to IAG. Steadfast obviously is already an important partner of IAG, and we see that will just strengthen the partnership even further.
Okay. Just to be clear then also, Berkshire can't write personal lines and SME business in Australia?
New Zealand.
New Zealand.
It's an exclusive arrangement-
Okay
both ways.
Okay. Thank you.
With that, can I thank everyone for the time. Thank you for coming along today. As I said at the outset, we're really excited by this. We think that it is a great long-term partnership, which we believe will show benefit, and a win-win situation to both partners. We're really pleased that we've been able to talk to you about it today, and as we proceed on, and certainly as we get to August, we'll be able to show more about what the effects of this are going to be on IAG. Thanks again for coming along today. We're excited by it. Hopefully, you've been informed by the presentation. Wish you a good rest of the day. Thank you.