With LIC IPO back on track, it’s crucial to strike the right stock price

The Life Insurance Corporation (LIC) of India resumed its front-paged advertisements on April 11 harking its policyholders to participate in its initial public offer (IPO), discontinued after doubts were raised about its valuation/pricing, and the Russia-Ukraine conflict broke out.

Simultaneously, government officials reached out to merchant bankers to seek feedback from anchor and large investors about the valuation/price they would be interested to participate in the IPO.

These signals are sufficiently loud that the government is keen to complete the LIC IPO sometime in May.

LIC has paid-up equity of Rs 6,325 crore, divided in 632.50 crore shares of Rs 10 each, all owned by the President of India. The government/LIC filed a draft red herring prospectus (DHRP) on February 13 offering for sale (OFS) ‘up to 316,249,885 equity shares’ i.e. 5 percent of LIC’s total equity.

The DHRP specified the number of shares offered for sale, but did not state, in line with usual practice for IPOs, price for the shares offered. We can, however, try to read the government’s mind indirectly.

Pricing of LIC shares is intricately linked to the disinvestment receipts the government was looking for. The government revised disinvestment target to Rs 65,000 crore on February 1 (Union Budget). By February end, the government could collect disinvestment receipts of only Rs 13,500 crore. As there were no other disinvestment proceeds likely to come, it is fair to assume that remaining Rs 65,000 crore was expected from the LIC IPO.

If you take Rs 31.63 crore shares offered for sale (OFS) and expected proceeds of Rs 65,000 crore, it gives away the game that the government was looking to price LIC shares at about Rs 2,250 per share.

LIC’s balance sheet size exceeds Rs 40 lakh-crore, whereas the asset under management (AUM) of all mutual funds together is a little under Rs 38 lakh-crore. LIC’s market share of new business premium (NBP) on September 30 was about 65 percent with the next largest life insurer commanding only about 8 percent market share. LIC’s assets attributable to non-participating policyholders exceeded Rs 15 crore, after bifurcation, at the end of Q3 December 2021.

LIC’s embedded value (present value of future assets together with market value of net assets) assessed by actuaries in February approximated Rs 5.4 lakh-crore.

Its market share in the insurance business is, however, fast declining.

In 2000, when life insurance was opened to the private sector, LIC had 100 percent market share. In fiscal 2021, it had come down to about 65 percent. In individual new business premium, private life insurers’ share crossed 50 percent in 2021.

In the first 11 months of FY 2021-22, LIC’s total premium growth was only 0.24 percent, whereas industry growth was 8.43 percent, bringing down LIC’s share to 61.4 percent.

It also generates much lower returns on its AUM. In FY21, LIC’s gross yield on life fund at 8.3 percent was the lowest among the top six life insurers.

LIC is faltering on both growth of new premium, and better returns on its investments.

The DHRP discloses that LIC’s earning per share (EPS) averaged Rs 4.47 per share during 2019-2021. At the desired price of Rs 2,250, LIC’s price-earning (P/E) ratio exceeds 500! — that’s more than five times the P/E ratio of its peers (81.46 for SBI Life, and 94.26 for HDFC Life).

To spice up profitability for shareholders vis-à-vis policyholders, LIC has increased its share of non-participating funds (profit over assured returns of these funds go to only shareholders) from 24.8 percent at end March 2021 to 37 percent in September 2021.

LIC earned a net profit of Rs 2,971 crore in FY2021, and Rs 1,672 crore in nine months of FY2022. Its profits for 2021-22 are unlikely to exceed Rs 3,500 crore, which gives an EPS of Rs 5.5.

A multiple of 100 to an EPS of 5.5 gives a price of Rs 550 for LIC share.

This will be quite high, but anything beyond this will be only short-changing the investors.

A price of Rs 550 for 632.5 crore shares places the total valuation of LIC’s shareholders’ equity at about Rs 3.5 lakh-crore, which is less even than the embedded value of Rs 5.40 crore, which was jacked up from Rs 95,605 crore at the end March 2021. The risk factors stated in the DHRP indicates that LIC itself is not very confident about this high embedded value.

Selling 31.6 lakh-crore shares at Rs 550 per share will yield the government only Rs 17,380 crore.

The government can either increase the size of LIC IPO, or raise further disinvestments later to meet its goal of Rs 65,000 crore.