3131 MarchMarch 20142014 Produced by: KAF-Seagroatt & Campbell Securities Sdn Bhd Distributed by: Jefferies Group LLC Tune Insurance

Buy Tune in, sit back and enjoy the ride

Price We like Tune Ins for its highly profitable online travel insurance business, riding RM1.94 on the fast expansion of AirAsia Group. In addition, we see upside potential from Target price the rationalisation of its newly acquired general insurance business. As such, we RM2.31 initiate coverage with a Buy recommendation at RM2.31.

Market data Financial Highlights

Bloomberg code CIMBTIH MK FYE Dec (RMm) FY12 FY13E FY14F FY15F FY16F No. of shares (m) 751.8 Gross premiums 215 368 429 488 558 Market cap (RMm) 1,458.4 Net earned premiums 158 241 284 327 377 52-week high/low (RM) 2.17 / 1.38 Operating profit 68 79 97 112 128 Avg daily turnover (RMm) 1.4 Pre-tax profit 58 77 95 110 127 KLCI (pts) 1,850.73 Net profit 41 68 81 94 109 Source: Bloomberg EPS (sen) 5.5 9.1 10.8 12.5 14.5

Net yield (%) - 2.0 1.7 1.9 2.2 Valuation PER (x) 35.2 21.3 18.0 15.5 13.4 Target price (RM) 2.31 PBV (x) 10.4 3.7 3.3 3.0 2.6 Methodology GGM ROE (%) 29% 17% 18% 19% 20% Key assumptions ROE = 19.7% Source: Company, KAF

COE = 9.9% g = 6.5% Non-conventional steals the spotlight Implied FY14 PE (x) 21.4 Implied FY14 PBV (x) 3.9 An underwriter for life and non-life insurance, Tune Ins operates through its online business Implied FY14 Yield (%) 1.4 and 83%-owned TIMB. Its niche in the online business allows for products to be offered

Source: KAF competitively due to lower distribution cost. Coupled with the low claims nature of travel-

related insurance, the online business offers lucrative margins. Despite constituting only 26% Equity | | Diversified financials Diversified | Malaysia | Equity of the group’s revenue in FY13, the segment made up 78% of its profit after tax.

Equity | Malaysia Non-Bank Financials Riding along the skies The group’s exclusive relationship with AirAsia (AIRA MK, RM2.53, BUY) puts it in a sweet Performance spot to ride on the booming air travel demand in the region, in our view. Tune Ins has also 1M 3M 12M entered into new tie-ups with external partners like Cebu Pacific (CEB PM, 46.20PHP, NR) Absolute (%) 8 1 38 and Cozmo Travel. Aside from generating revenue from travel insurance, the company is Rel market (%) 7 1 24 also able to tap into its partners’ extensive databases to market its traditional general 2.40 insurance products, thus providing upside potential for TIMB. 2.20 Good earnings prospects 2.00 We project healthy 17% earnings CAGR in FY13-16F, driven by good premium growth and 1.80 higher underwriting margins from both online and general insurance. The former is tied to our

1.60 strong passenger growth expectation for AirAsia while the latter should see a steady decline in claims ratio, as the group continues to drive its portfolio mix away from the motor segment. 1.40 Initiate coverage with a Buy recommendation at RM2.31 1.20 Feb 13 Feb 14 We initiate coverage of Tune Ins with a Buy at RM2.31. Our GGM valuation assumes a COE TIH MK KLCI of 9.9% and growth rate of 6.5%. While valuations of 18x 2014F PER and 3.3x PBV are Source: Bloomberg admittedly on the high side, we believe this is supported by good value creation and healthy

growth prospects. The stock also offers the best liquidity amongst insurance stocks in Malaysia. While net yields of 1-2% are low, we see dividend growth potential given our strong earnings expectations as well as the possibility of a step-up in payout once the wider Analyst regional footprint has been established. Joanna Cheah Joanna Cheah* +60 3 2168 8097 (603)[email protected] 2168-8097 [email protected] Produced by KAF-Seagroatt & Campbell Securities Sdn Bhd Important disclosures can be found in the Disclosure Appendix * KAF-Seagroatt

Jefferies does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that Jefferies may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Please see analyst certifications, important disclosure information, and information regarding the status of non-US analysts on page 19 of this report. Non-conventional steals the spotlight

Tune Insurance Holdings Berhad (Tune Ins) made its debut on Bursa Malaysia on 20 February 2013, with a market capitalisation of RM1.0bn. Within three months of listing, the stock had appreciated by 61% to a high RM2.17 in May 2013. It has since retraced to RM1.94 but is still 44% above its IPO price.

Chart 1 : Share price performance since listing

2.40 RM

2.20

2.00

1.80

1.60

1.40

1.20

1.00 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Jul-13 Aug-13 Sep-13 Oct-13 Nov-13 Dec-13 Jan-14 Feb-14 Mar-14

Source: Bloomberg

The group is an underwriter, both directly and via reinsurance, of general and life insurance products across the Asia Pacific region. The two core main segments of the group are online insurance business and general insurance.

Chart 2 : Tune Insurance’s corporate structure

Source: Company

(1) Online insurance business The group’s online insurance business centres on its strategic partnerships with the AirAsia Group, AirAsia Expedia and .

2 Chart 3 : Illustration of Tune Insurance’s online business model

Source: Company

Essentially, Tune Ins offers products to customers as part of their online booking process of either flights (via AirAsia), hotel rooms (via Tune Hotels), or travel-related services offered by Expedia in any country with which the broader Group has established arrangements. If a customer opts to purchase the additional insurance, it is subsequently bundled together as part of the main booking process, with the customer paying one overall fee. The customer only needs to use one set of registration information.

Chart 4 : Tune’s regional reach through online insurance

Source: Company

As the group does not currently have insurance licenses outside Malaysia, any policies purchased by customers, depending on the origin of flight, will be underwritten by its local insurance partners. The local insurance partners, in turn, will reinsure part of these exposures (on a predetermined basis but typically 30:70, according to management) back to the company’s reinsurance entity, Tune LifeRe or Tune GenRe. Where necessary, the group will reinsure a portion of its underwriting exposure to external reinsurance agents.

3 Chart 5 : Product offerings of Tune Ins’s online insurance business

Source: Company

Some of the core products being offered via its partners’ websites currently are:-

 travel insurance, sold to customers of AirAsia and branded as the “Tune Insure Travel Protection Plan” (previously dubbed AirAsia Insure Travel Protection Plan)

 lifestyle protection insurance, namely the AA Lifestyle Protection Plan and the Tune Hotels Lifestyle Protection Plan

 guest Personal Accident insurance for Tune Hotels

 travel insurance, sold to customers of AirAsia Expedia, and

 Skybus protection plan (for personal accident, luggage demand and losses) for AirAsia customers who purchase Skybus tickets online

Table 1 : Exclusive long-term arrangements with the AirAsia Group and Tune Hotels

Online Partners Period Expiry AirAsia Bhd 10 2022 AirAsia 10 2022 PT AirAsia 15 2027 AirAsia X 15 2027 AirAsia Inc 15 2027 Thai AirAsia 5 2017 Tune Hotels 10 2022

Source: Company

The relationships between Tune Ins and its online partners are protected by distribution agreements over a period of 5-15 years with the option to be renewed upon terms and conditions mutually agreed by the parties. A key risk, in our view, is unfavourable terms to Tune Ins upon the expiry of its existing agreements. As for AirAsia Expedia, Tune Ins is currently the non-exclusive insurance manager and has begun marketing its line of products through three of Expedia’s websites in Asia, increasing the potential customer reach.

Through the tie-up arrangements, Tune Ins issued 6m policies in 2012 and 8m policies in 2013. The group has continued to register growth in markets outside Malaysia. In FY13, 47% of its policies were booked in Malaysia while the remaining 53% were from (19%), Indonesia (15%), Singapore (5%), China (8%) and others (6%).

4 Chart 6 : Geographical breakdown of policies in FY13 Chart 7 : Geographical breakdown of policies in FY12

Others, 7% Others, 6% China, 5% China, 8% Singapore, 6%

Singapore, 5%

Malaysia, 46% Indonesia, 13%

Indonesia, 15%

Malaysia, 51%

Thailand, 19% Thailand, 19%

Source: Company Source: Company

Not resting on its laurels, Tune Ins successfully entered its first strategic partnership in May 2013 beyond its current arrangements with the AirAsia Group, Tune Hotels and AirAsia Expedia. The group now manages travel protection plans for all inbound flights to the Philippines, on behalf of Malayan Insurance CO (MICO), Cebu Pacific’s insurance product manager.

More recently, in January 2014, the group entered another joint venture with Cozmo Travel, a travel agency in the UAE, to manage the travel insurance business of Cozmo and its group affiliates. This will be Tune Ins’s first foray outside of Asia Pacific. Management is optimistic about the insurance and travel potential associated with the MENA market and believes it could contribute meaningfully to the group’s bottom-line over time.

(2) General insurance business The general insurance business for the Group was established in May 2012 through the acquisition of its currently 83.3%-owned subsidiary Tune Insurance Malaysia Berhad (TIMB). TIMB was formerly known as Oriental Capital Assurance Berhad (OCA).

OCA had a 35-year history as a general insurance provider in Malaysia. The company was plagued by losses in the past due to the risky and unprofitable nature of the motor segment which the group primarily underwrites. In addition, the other segments which the group underwrote such as marine, oil and gas, and energy classes were characterised by rate reductions and softening prices, resulting in underwriting losses. After three consecutive years of reported losses, OCA subsequently swung back to profitability in 2009. Based on Tune Ins’s total acquisition cost of RM163m for its 83% stake, this translates into approximately 1.2x PB and 7.5x PER, using OCA’s 2011 book value and net profit.

The products offered include the aforementioned AirAsia and Tune Hotels products as well as other traditional general insurance products as set out below:-

 Motor

 Fire

 Marine

 Medical Health & Dental

 Personal Accident

 Engineering

 Foreign Workers

As at 31 December 2013, TIMB had 1,138 agents. The group’s portfolio mix during the year was predominantly Motor (34%), followed by Personal Accident & Medical at 24%, Marine at 21% and Miscellaneous at 12%. The proportion of fire insurance was small at only 9% of the total gross

5 premiums, although this has expanded from 6% in 2012. Meanwhile, although motor is still the largest component of premiums, its significance has narrowed from 49% in 2012.

The group’s strategy is to rebalance its portfolio away from the motor business to more profitable segments particularly the fire, marine and engineering segments. Management has identified foreign workers’ insurance as a growth area to tap considering the expected roll-out of mega construction projects in Malaysia during the next few years.

Chart 8 : Portfolio mix, 2013 Chart 9 : Portfolio mix, 2012

Fire, 9% Fire, 6% Misc, 4%

Misc, 12% Motor, 34% PA & Medical, 24%

Motor, 49%

PA & Medical, 24%

Marine, 21% Marine, 17%

Source: Company Source: Company

The group’s acquisition of TIMB is likely the first of several acquisitions planned by the group, in order to capture higher revenue from underwriting general insurance itself. Management has indicated plans to acquire local general insurers in countries where AirAsia has a strong presence, in particular, Thailand and Indonesia. This is to enable them to directly underwrite the travel insurance, thus allowing for a higher share of profit from each policy underwritten. On 10 March 2014, Tune Ins submitted for regulatory approval to acquire a 49% stake in Osotspa Insurance, a non-life insurance company in Thailand.

6 Riding along the skies

Tune Ins’s exclusive relationship with the AirAsia Group and potential new partnerships with other airlines puts it in a sweet spot to ride on the increasing dominance of low-cost carriers (LCCs), in our view. Furthermore, the huge database of travellers which the group has access to, serves as a good platform to expand its general insurance product offerings, without the need to rely too much on costly agents.

Increasing dominance of low-cost carriers Southeast Asia continues to experience rapid LCC expansion with LCC penetration rate now approaching 60%, having steadily increased from just under 5% in 2003.

Chart 10 : Growing LCC capacity share in Southeast Asia

57.8% 58.6%

52.0%

32.4% 30.9% 30.7% 26.8% 23.2% 18.1% 13.6% 9.8%

3.3% 4.6% 4.0%

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Jan-Mar 2014

Source: CAPA

We believe there is still room for LCC penetration to rise given the rapid economic growth in most of Southeast Asia as well as the expanding middle class in the region which brings a steady rise in discretionary income levels. AirAsia is currently Asia’s largest LCC group with an in-service fleet of 172 aircraft compared to 133 for second place Lion group as at 31 December 2013.

Table 2 : Asia Pacific aircraft orders by LCC group as at 31 December 2013

Group Current fleet On order Lion 133 576 AirAsia / AirAsia X 172 388 Jetstar 116 125 VietJet 10 70 Tigerair 51 18

Source: CAPA

The Group (including AirAsia X) carried a total of 46m passengers in 2013, recording a 25% yoy growth. Tune Ins had written 8m policies during the year, which translates into a take-up rate of about 35%. This is an increase from the estimated take-up rate of 33% in 2012 (6m policies against 37m passengers).

In our view, Tune Ins’s exclusive relationship with AirAsia places it in a unique position to benefit from the booming air travel demand within Asia-Pacific. Besides Malaysia, this includes the significant market share captured through Air Asia’s various overseas operations.

7 Chart 11 : AirAsia Group’s passenger traffic growth

50 m pax yoy growth 30%

45 25% 40

35 20% 30

25 15%

20 10% 15

10 5% 5

0 0% 2009 2010 2011 2012 2013

Source: AirAsia

According to data provided by CAPA and Innovata, Thai AirAsia had an approximate 27% share of Thailand’s domestic market, based on the percentage of seats during the week of 19-25 Aug 2013 (Chart 13). In the international market, the combined AirAsia Group accounted for 12% share of capacity over the same period, second to the 30% share from the Thai Airways Group (includes Thai Airways and Thai Smile).

Chart 12 : Thai domestic capacity share, 19-25 Aug 2013 Chart 12 : Thai international capacity share, 19-25 Aug 2013

Orient Thai Business Air, Airlines, 1.4% 0.1% Thai Airways, Airways, 18.0% Thai Airways, 29.3% 27.3%

Others, 47.1%

Thai AirAsia, 7.5%

Nok Air, 26.4% Cathay Pacific, 3.2%

Tigerair, 2.1% Emirates, 3.2% Thai AirAsia, Bangkok 26.8% Qatar Airways, AirAsia, 2.8% 2.1% Airways, 2.7%

Source: CAPA & Innovata Source: CAPA & Innovata

As it stands, Indonesia AirAsia (IAA) is the largest Indonesian carrier in the international market with 17% of seat capacity while the AirAsia Group overall accounts for a 26% share. According to CAPA, IAA currently allocates 58% of its seats to international routes.

The recent devaluation of rupiah has weakened the domestic travel market and caused erosion of profitability for IAA, leading the carrier to rebalance its network towards the international market in 2014, or up to 70% of its total seat allocation.

IAA has already unveiled plans for further international expansion, targeting the Hong Kong, Vietnam and markets. This, in our view, is a positive boost to Tune Ins as insurance policy charges for international routes is almost double that of domestic routes (Table 4).

8 Chart 13 : Indonesia international market share, 14-20 Oct 2013

Indonesia AirAsia, 17.4%

Others, 33.2%

Garuda Indonesia, 14.5%

Cathay Pacific, 2.9% AirAsia, 8.1% , 4.7%

Malaysia Airlines, 5.0% Singapore Airlines, 7.8% , 6.4%

Source: CAPA & Innovata

Table 3 : Tune Ins’ travel plan rates – online and offline (quoted in RM)

Plan rates Online Offline Tune Insure One-Way Cover Domestic RM7.50 RM10.50 Tune Insure One-Way Cover Regional RM10.50 RM13.50 Tune Insure One-Way Cover International RM18.00 RM21.00 Tune Insure Return Cover Domestic RM18.00 RM21.00 Tune Insure Return Cover Regional RM23.00 RM26.00 Tune Insure Return Cover International (1-10 Days) RM34.00 RM37.00 Tune Insure Return Cover International (11-30 Days) RM54.00 RM57.00

Source: Company

Closer to home, the Malaysian market was shaken up in 2013 when rival low-cost carrier Malindo Air began operations and Malaysian Airlines pursued an aggressive expansion aimed at fighting off Malindo. Nonetheless, the AirAsia group still dominates market share as at December 2013, based on passenger movements at the International Airport.

Chart 14 : Airlines’ market shares in KLIA based on passenger movements

Malaysia Airlines, 32.0%

Others, 55.2%

AirAsia, 24.2%

Jetstar Asia, 1.9% AirAsia X, 9.3% Cathay Pacific, 2.1% Emirates, 2.7% Indonesia AirAsia, 4.6%

Source: Malaysia Airports

We see further opportunities for the local travel insurance industry in 2014, underpinned by two key reasons.

9 Firstly, we expect the intensifying competition among local carriers to continue into 2014. Thus, fares should stay low. This, in turn, is likely to stimulate demand and potentially result in a higher take-up of travel insurance, especially in view of recent risks of travel, high cost of overseas medical treatments and the financial losses incurred from trip cancellations.

Based on passenger traffic numbers reported by Malaysia Airports, 2013 was an exceptional year of growth, thanks to the emergence of Malindo which had spurred the other carriers to compete rigorously especially in the domestic space. Domestic passenger movements increased by 20% yoy while international passenger movements were up 17% yoy, fuelled by Malaysia Airlines’ entry into Oneworld alliance.

Chart 15 : Passenger movements in 2013

30.0%

25.0%

20.0%

15.0%

10.0%

5.0%

0.0% 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 -5.0%

-10.0%

-15.0% Domestic International Total

Source: Malaysia Airports

Secondly, we expect Visit Malaysia Year 2014 which aims to attract 28m tourists (up 9% from the 26m tourists in 2013), to have a positive spill over effect on number of travellers and subsequently take-up rates of travel insurance.

Chart 16 : Tourist arrivals during past Visit Malaysia Years

30.0 60%

50% 25.0 40%

20.0 30%

20% 15.0 10%

10.0 0%

-10% 5.0 -20%

0.0 -30%

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 1990 Source: Tourism Malaysia

Beyond the markets mentioned above, Tune Ins is serving 14 out of the 21 markets in which AirAsia has a presence. The LCC group will be expanding its network to India in 2014 upon obtaining its air operator’s permit and potentially re-entering Japan upon securing a new partner. Meanwhile, Thai AirAsia X and Indonesia AirAsia X are set to commence operations in the latter half of 2014. AirAsia is also keen to penetrate the North Asia and markets, leaving room for Tune Ins to expand its reach.

10 Beyond riding on the growth of AirAsia, Tune Ins has also entered its first tie-up with another airline, the Philippines low-cost carrier Cebu Pacific. The Philippines carrier is planning a notable domestic expansion in 2014, which could see the group’s share of the Philippines domestic market approach 60% from 50% in 2013, according to CAPA.

While we are uncertain at this juncture of the bottom-line impact on Tune Ins given the initial stages of tie-up (since May 2012), we believe there is good potential over the medium term given Cebu’s rising dominance and the heightened awareness for the need of travel insurance.

Chart 17 : Philippines domestic market share, 9M12 Chart 18 : Philippines domestic market share, 9M13

AirAsia, 10% Zest, 10% AirAsia, 1% Tigerair, 1% Tigerair, 5%

PAL Group, 34%

PAL Group, 43%

Cebu Pacific, 45%

Cebu Pacific, 51%

Source: Philippines Civil Aeronautics Board Source: Philippines Civil Aeronautics Board

Under-penetrated insurance market Under the group’s existing distribution agreements with AirAsia and Tune Hotels, it is permitted to market general insurance products to the customer base of its partners. As at 31 December 2013, Tune Ins has built a substantial database of approximately 8.01m policy-holders. This is a more cost effective means of reaching potential customers, which also reduces reliance on agents.

Chart 19 : Non-life insurance penetration, 2012

6.0%

5.0%

4.0%

3.0%

2.0%

1.0%

0.0%

India

China

Korea

Japan

Taiwan

Vietnam

Thailand

Australia

Malaysia

Indonesia

Singapore

Philippines HongKong New Zealand New Source: Swiss Reinsurance Company Sigma Reports No.3/2013

According to an independent report by industry consultant Milliman, general insurance penetration rates (defined as the percentage of gross total non-life premium over GDP) in Malaysia, Thailand, Indonesia and the Philippines remain low, hovering below 2%. This is despite strong GDP growth at a CAGR of 16.5% from 2006 to 2011 in Asia ex-Japan. The corresponding

11 density rates (i.e. gross non-life premiums per capita) are under US$200, which is much lower than the mature markets in the region as well as Europe, North America and Japan.

Additionally, findings by Milliman show that insurance penetration could increase at a higher rate than the per-capita GDP, due to the change of income elasticity of demand for insurance as an economy matures.

Chart 20 : Non-life insurance penetration of various countries against respective GDP per capita, 2012

6.0%

5.0%

4.0%

3.0%

2.0%

1.0%

0.0% 0 10,000 20,000 30,000 40,000 50,000 60,000 70,000 80,000 90,000

Source: World Bank, Swiss Reinsurance Company Sigma Reports No.3/2013

The group’s life insurance business is currently almost negligible, contributing only 0.5% of operating profit in 2013. Nonetheless, as health care costs and medical inflation continue to exert significant pressure on both individuals as well as companies offering medical benefits to employees, we expect this insurance segment to grow and for Tune Ins to capture a higher market share in the future as the group continues to gain traction with its distribution network. We note that Tune Ins has existing business relationships with companies like the Petronas Group, Star Publication, Yinson, Kossan, and Boon Siew Group.

12 Good growth potential

Since inception in 2009, Tune Ins has been operating the travel insurance business through its tie-up with AirAsia. This was then expanded via the acquisition of TIMB in May 2012 which allowed the group to underwrite a full range of general insurance products directly in Malaysia.

The group’s net earned premiums expanded almost three-fold in FY12 upon inclusion of seven months consolidation of TIMB. This grew further in 2013, due to strong growth in its online business as well as a full year’s contributions from TIMB’s portfolio.

Chart 21 : Breakdown of net earned premiums

300 RM m

250 full consolidation of TIMB

200 includes 7 months of TIMB

150

100

50

0 2009 2010 2011 2012 2013E

Source: Company

Net claims ratio was exceptionally low prior to the TIMB acquisition at about 4%. We believe this is common to travel type insurance and particularly so for an airline like AirAsia, which is committed to the punctuality of flight departures. Upon the inclusion of TIMB, the claims ratio has risen to 39% in 2013.

Chart 22 : Net claims and net claims ratio

100 RM m 39% 45%

90 40%

80 35%

70 27% 30% 60 25% 50 20% 40 15% 30 10% 20 4% 4% 4% 10 5%

0 0% 2009 2010 2011 2012 2013E Net claims Net claims ratio

Source: Company

The combined ratio, which is a good measure of profitability for insurance companies, is calculated by taking the sum of the incurred losses and expenses and dividing them by net earned premium. This essentially reflects the proportion of premiums that are charged against operating costs and claims.

Tune Ins’s combined ratio has been superior to industry at between 38-42% over 2009–2011.

13

Even upon the seven-month consolidation of TIMB in 2012, the group’s combined ratio of 67% was better than industry average of 89%. 2013 industry numbers are not available for now but Tune Ins combined ratio has increased to 78%.

Chart 23 : Tune Ins’s combined ratios vs industry average

100% 91% 92% 90% 89% 90% 78% 80%

70% 67%

60%

50% 42% 38% 38% 40%

30%

20%

10%

0% 2009 2010 2011 2012 2013 Tune Ins Industry

Source: Company, Bank Negara

Given the ongoing rationalisation of TIMB’s old business, we believe recent numbers are not reflective of the true potential of the combined group. TIMB was previously known as a motor insurance provider, but the motor insurance segment has been risky and unprofitable for most insurers. This is largely due to premiums being regulated and therefore, insurers not being able to price appropriately for different risk profiles of different motorists.

Post acquisition, we understand that management has taken active steps to restructure its agency distribution system to improve the channel’s effectiveness in maximising profit margins. Management plans to reposition itself as a provider of a diversified portfolio of insurance products, leveraging on its motor insurance customer base to cross-sell a broader range of insurance products as well as synergising with its online insurance business.

In our view, the combination of TIMB’s traditional business turning around and the strong growth potential of the lucrative online business should boost underwriting margins moving forward. Furthermore, net earned premiums on the online policies originating from Malaysia are boosted by the fact that Air Asia would no longer need to transfer the majority of premiums to an unrelated underwriter.

Earnings expectations We project an 18% growth in Tune Ins’ net profit in FY14F to RM81m and increases of 16% each in FY15F and FY16F. Our buoyant expectations are underpinned by the following assumptions (also refer Table 4):-

 We expect overall gross premiums to expand by 14-17% over FY14-16F. The strong growth from the online business is driven by a combination of robust passenger traffic for the AirAsia Group, rise in take-up rates of travel insurance as well as a modest increase in average premium per policy (assuming an increasing mix of premiums for international routes). For general insurance under TIMB, we project a 5% annual increase. Over the past four years, earned premiums for TIMB have grown between 1-8% p.a.

 We expect the group’s overall net claims ratio to decline gradually as the online business continues to outpace the legacy general insurance business. Under its general insurance portfolio, management has guided that they will continue to steer the portfolio mix away from the high claims motor segment and focus more on fire, engineering and marine insurance.

 We assume a flat investment ratio (investment income against net earned premiums) of 11% during FY14F-16F. The group is looking to generate steady investment income primarily via wholesale funds.

 A dividend payout of 40% is assumed, in-line with management’s guidance to pay out at least 40% of its net profit.

14

Table 4 : Key assumptions

Year to December 2013 2014F 2015F 2016F Performance indicators Retention ratio 66% 66% 67% 68% Net commission ratio 15% 15% 15% 15% Net claims ratio 39% 38% 37% 37% Management expenses ratio 24% 25% 25% 26% Investment ratio 11% 11% 11% 11% Underwriting margin 35% 35% 36% 37%

Growth Earned premiums -Online insurance 44% 48% 31% 28% -TIMB 2% 5% 5% 5%

Online growth assumptions: -Travel insurance policies written (m) 8.0 11.5 14.6 18.2 -from AirAsia Group n/a 10.5 13.6 17.1 -other tie-ups n/a 1.0 1.1 1.1 -AirAsia Group's passenger traffic (m) 45.8 57.2 70.4 84.4 -AirAsia Group's passenger traffic growth 25% 25% 23% 20% -Online take-up rates 35% 37% 39% 41% -Average premium per policy (RM) 17.2 17.7 18.2 18.7

Profitability Return on average assets 7% 7% 8% 8% Return on average equity 25% 19% 20% 21% Dividend payout ratio 42% 40% 40% 40%

Source: Company, KAF

As our earnings expectations for the group heavily depend on AirAsia’s expansion, we are mindful of the potential risks of over-relying on the latter. Under the new Financial Services Act 2013, Bank Negara limits the ownership of an individual to not more than a 10% stake in an insurance company. Common founders, Tan Sri and Datuk Kamarudin currently each own an effective 18% stake in Tune Ins through the , Tune Money and AirAsia. We understand that they have been given a time frame of five years to comply. Thereafter there could be risks of renewal of exclusivity in the partnership agreements expiring from 2017 to 2027.

Nonetheless, we are comforted to see the group’s continuous efforts to build new tie-ups with other airlines and online partners to reduce its dependency on the AirAsia Group. Furthermore, management intends to seek opportunities to acquire businesses with the relevant licenses in other core markets in Southeast Asia. We have yet to factor in any incremental revenues from their bigger share of underwriting.

Other key risks to our estimates include any unforeseen natural calamities or severe pandemics which could affect air travel. As the group currently relies on tie-ups with local insurance partners, unfavourable changes to negotiation terms could impact Tune Ins. We understand that the current arrangements with local insurance partners are subject to renewal annually. The group is also exposed to exchange rate fluctuations given the wide geographical reach of its business. There are no plans to enter into any hedging contracts to protect itself against forex volatility, according to management. Lastly, as the insurance industry is tightly regulated by Bank Negara, any changes in regulations such as capital adequacy requirements may adversely impact Tune Ins’s profitability.

15

Tune in, sit back and enjoy the ride

Tune Ins currently trades at 18x 2014F PER and 3.3x PBV. While these are above the average valuations of its global peers at 16x 2014F PER and 2.1x PBV, we believe it is justified by the group’s higher ROE and strong growth prospects. Current ROE is 18% versus the industry average of 15% while we expect the company to generate an EPS CAGR of 17% over the next three years versus industry’s growth expectation of just 7%, based on Bloomberg consensus estimates.

Furthermore, we believe Tune Ins’ business model is unique compared to traditional general and life insurance businesses. Its online insurance business model is easily scalable and centred on exclusive arrangements with various renowned partners in the region. Moreover, we believe it is exposed to a growing market segment where not only is penetration of low cost air travel across the region relatively low but the proportion of travellers opting for travel insurance, we believe, could also increase.

Table 5 : Global peer comparison

Company PER PB ROE Dividend yield 3-year EPS CAGR 2014F 2015F 2014F 2015F 2014F 2015F 2014F 2015F 2013E-2016F BANGKOK INSURANCE PCL 24.3 24.3 1.6 1.5 9.5% 10.1% 2.5% 2.5% -6% LPI CAPITAL BERHAD 17.0 15.1 2.2 2.1 13.4% 13.9% 4.7% 5.1% 7% SAMSUNG FIRE & MARINE INS 12.7 11.0 1.2 1.1 9.5% 10.2% 1.9% 2.1% -10% AUSTBROKERS HOLDINGS LTD 19.0 17.1 2.9 2.7 16.8% 16.9% 3.5% 3.8% 1% SYARIKAT TAKAFUL MALAYSIA 11.3 10.1 3.0 3.0 26.0% 25.9% 4.6% 5.4% 7% SAMSUNG LIFE INSURANCE 19.8 18.0 0.9 0.9 4.9% 5.0% 1.5% 1.7% 11% HANWHA LIFE INSURANCE 10.9 9.9 0.8 0.7 7.3% 7.3% 2.6% 2.9% 10% DONGBU INSURANCE 8.3 7.2 1.1 1.0 14.7% 14.7% 2.4% 2.7% 16% PRUDENTIAL PLC 13.8 12.4 3.0 2.6 22.7% 21.4% 2.7% 2.9% 13% BANGKOK LIFE ASSURANCE 15.4 13.3 3.0 2.5 21.0% 20.9% 1.7% 1.9% 14% COVER-MORE GROUP 21.4 19.5 3.2 3.1 14.9% 14.5% 1.6% 3.9% 10% AVERAGE 15.8 14.3 2.1 1.9 14.6% 14.6% 2.7% 3.2% 7% TUNE INSURANCE 18.0 15.5 3.3 3.0 18.4 19.1 1.7 1.9 17%

Source: Bloomberg, KAF

The closest comparable, in our view, is the Cover-More Group (CVO AU, AUD2.12, Non Rated), which is a travel insurance and medical assistance provider in Australia. Cover-More trades at 21x PER on 2014 estimates, a premium to Tune Ins with lower projected ROEs and lower three-year EPS CAGR, based on Bloomberg estimates.

We initiate coverage of Tune Ins with a Buy recommendation and RM2.31 target price, providing 19% potential upside from the current price. Our positive recommendation is predicated on the following:-

 A unique business model – We like Tune Ins’s niche in the online space due to three key reasons: (1) It gives the group an edge in offering products at competitive pricing due to its lower distribution cost; (2) The online insurance business which is predominantly travel policies generally experiences low claims ratios; (3) The scalable business model allows the group to tap into other providers using online means to distribute their products, whether locally or regionally. It can also generate incremental revenue by leveraging on its partner AirAsia’s captive customer base.

 Proxy to booming LCC travel – Along with the increasing dominance of low-cost carriers, we believe Tune Ins offers exposure to the booming air travel demand through AirAsia, which currently commands the biggest LCC market share in the region. At the same time, Tune Ins does not have to take on inherent fuel risks and declining passenger yields as the airlines. In fact, increased competition among carriers could actually benefit Tune Ins as low fares stimulate demand and more travellers, resulting in increased online insurance take-up rates.

 Good earnings growth outlook – We project group earnings to grow at a CAGR of 17% in FY13 and FY16. We expect the online travel insurance business to be the main earnings driver. We also see potential upside over the medium term from more profitable traction in non-travel segments.

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 Superior ROEs and good trading liquidity – Although valuations are admittedly on the high side, we believe they are supported by good value creation and healthy growth prospects. Moreover, Tune Ins offers the best liquidity amongst insurance stocks listed in Malaysia.

Chart 85 : Average traded value of listed Malaysian insurance players

LPI Capital

Syarikat Takaful

Allianz Bhd

Pacific & Orient

Manulife Holdings

Tune Insurance

0 500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000

2013 YTD 2014

Source: Bloomberg

Valuing Tune Insurance We have valued Tune Ins based on the Gordon growth valuation methodology, as we believe it best captures value creation from the group’s aggressive medium-term growth plans. Using a sustainable ROE of 19.7% based on FY16F, COE of 9.9% and a long-term growth rate of 6.5%, we derive a fair PBV multiple of 3.95x for Tune Ins. Our 9.9% COE is similar to what we have applied to LPI Capital (LPI MK, RM16.78, BUY), the other insurance player under our coverage. Meanwhile, our 6.5% long-term growth rate assumption incorporates both organic growth as well as the expansion plans of the group.

Multiplying the fair multiple with the estimated shareholders’ funds of RM441m as at end-FY14, we obtain a fair equity value of RM1,740m for the group, which translates to a target price of RM2.31. At fair value, the stock trades at 21.4x 2014F earnings declining to 18.5x next year.

Table 6 : Target price derivation

Sustainable ROE (%) 19.7% Cost of equity (%) 9.9% Long-term growth (%) 6.5% Implied PBV (x) 3.95 Shareholders' funds (RM m) 441 Equity value (RM m) 1,740.1 No of shares (m) 751.8 Fair value per share (RM) 2.31

Source: KAF

Over the next six to 12 months, key events to look out for would be the potential acquisition of local insurance partners in other core markets. This would allow Tune Ins to capture a bigger underwriting share. Secondly, there are developments within the AirAsia Group which could solidify Tune Ins’s business growth such as the targeted launch of AirAsia India in May, relaunch of AirAsia Japan, as well as the commencement of operations by Indo AirAsia X and Thai AirAsia X. Lastly, we believe strong earnings delivery supporting the company’s growth potential would be another catalyst for the share price.

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Financial Statements

Income Statement

Year to December (RM m) 2012 2013E 2014F 2015F 2016F Gross earned premium 215 368 429 488 558 Reinsurance (56) (127) (145) (162) (181) Net earned premium 158 241 284 327 377 Investment income 12 22 31 35 41 Other income 14 32 37 41 46 Net claims incurred (44) (94) (109) (122) (138) Commission expenses (37) (63) (75) (86) (100) Management expenses (30) (58) (70) (82) (97) Other expenses (5) (1) (1) (1) (1) Finance costs (10) (2) (2) (2) (2) Profit before tax 58 77 95 110 127 Tax expense (10) (4) (10) (11) (13) Minority interests (7) (5) (5) (5) (5) Net profit 41 68 81 94 109

Source: Company, KAF

Balance Sheet

Year to December (RM m) 2012 2013E 2014F 2015F 2016F Property and equipment 13 14 14 14 14 Investments 474 535 630 725 836 Reinsurance assets 160 246 246 246 246 Insurance receivables 76 87 102 116 133 Other receivables 37 85 99 113 128 Intangibles 5 5 5 5 5 Investment property 3 3 3 3 3 Goodwill 24 24 24 24 24 Cash and bank balances 23 24 27 48 69 Total assets 816 1,023 1,151 1,294 1,459 Insurance contract liabilities 440 504 577 660 754 Deferred tax liabilities 3 2 2 2 2 Provision for taxation - 0 0 0 0 Borrowings 132 - - - - Insurance payables 68 67 77 86 96 Retirement benefits 1 1 1 1 1 Other payables 31 52 52 52 52 Total liabilities 675 626 710 802 906 Share capital 61 75 75 75 75 Reserves 47 285 333 390 455 Minority interests 33 37 32 28 23 Total equity 141 397 441 492 553

Source: Company, KAF

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Disclosure Appendix

Recommendation structure Absolute performance, long term (fundamental) recommendation: The recommendation is based on implied upside/downside for the stock from the target price and only reflects capital appreciation. A Buy/Sell implies upside/downside of 10% or more and a Hold less than 10%. Performance parameters and horizon: Given the volatility of share prices and our pre-disposition not to change recommendations frequently, these performance parameters should be interpreted flexibly. Performance in this context only reflects capital appreciation and the horizon is 12 months. Market or sector view: This view is the responsibility of the strategy team and a relative call on the performance of the market/sector relative to the region. Overweight/Underweight implies upside/downside of 10% or more and Neutral implies less than 10% upside/downside. Target price: The target price is the level the stock should currently trade at if the market were to accept the analyst's view of the stock and if the necessary catalysts were in place to effect this change in perception within the performance horizon. In this way, therefore, the target price abstracts from the need to take a view on the market or sector. If it is felt that the catalysts are not fully in place to effect a re-rating of the stock to its warranted value, the target price will differ from 'fair' value.

Analyst Certification The views expressed in this research report accurately reflect the personal views of the analyst(s) about the subject security(ies) and subject company(ies); and no part of the compensation of the research analyst(s) was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in the report.

Disclaimer This report has been prepared solely for the information of clients of Jefferies Group LLC and KAF Group of companies. It is meant for private circulation only, and shall not be reproduced, distributed or published either in part or otherwise without the prior written consent of Jefferies Group LLC and KAF-Seagroatt & Campbell Securities Sdn Bhd. The information and opinions contained in this report have been compiled and arrived at based on information obtained from sources believed to be reliable and made in good faith. Such information has not been independently verified and no guarantee, representation or warranty, express or implied, is made by KAF-Seagroatt & Campbell Securities Sdn Bhd as to the accuracy, completeness or correctness of such information and opinion. Any recommendations referred to herein may involve significant risk and may not be suitable for all investors, who are expected to make their own investment decisions at their own risk. Descriptions of any company or companies or their securities are not intended to be complete and this report is not, and should not, be construed as an offer, or a solicitation of an offer, to buy or sell any securities or any other financial instruments. KAF-Seagroatt & Campbell Securities Sdn Bhd, their Directors, Representatives or Officers may have positions or an interest in any of the securities or any other financial instruments mentioned in this report. All opinions are solely of the author, and subject to change without notice.

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