Discovery doubling up 

Discovery is on track to double the size of its business in the next five years as its next phase of scaled organic growth has gotten off to a strong start. 

The company has so far exceeded its ambitious goals during this phase, although CEO Adrian Gore told Daily Investor that Discovery is not oblivious to the scale of the task that lies ahead. 

This new phase of growth follows a decade of significant investment in the company’s new offerings, particularly the launch of Discovery Bank, which it has pumped R14.5 billion into. 

During this investment phase, the company’s profit growth slowed from an annual rate of 22% in the decade before to a mere 9%. 

Its spending on new initiatives skyrocketed to an average of 15% from a previous run-rate of 8% per annum. As a result, its return on equity took a hit, and its cash conversion ratio declined. 

However, Gore argued that this phase was necessary to ensure the company could escape the inevitable plateau a business enters as it matures. 

After a decade of unfettered growth, companies enter a phase of limited expansion and potential stagnation. 

Gore explained that there are two ways out of this – acquisitions or organic growth. Discovery chose the latter and invested heavily in its own offerings. 

This decade of investment has positioned the company very well for a new phase of growth, where it expects to have an annual profit growth rate of 15% to 20%.

Its spending on new initiatives will be significantly reduced as its bank is now profitable, with investment in these offerings declining to 5% of total spending. 

Discovery’s cash conversion ratio is expected to rise between 60% and 70% during the next five years, and its debt load will come down significantly, freeing up further cash to be returned to shareholders or invested in the business. 

Gore said having these lofty targets is good, but hard work and execution are needed to ensure the strategy provides the desired results. 

In its first set of results following the announcement of this new strategy, Discovery revealed that it is actually exceeding these targets. 

With profit growth of 27% year-on-year, a cash conversion ratio of 75%, and a bank that is profitable ahead of schedule, the strategy appears to be paying off. 

Gore is the first to admit that such strong profit growth of 27% is unlikely to be sustained but said Discovery is well-equipped to hit its lofty targets. 

“We think the five-year projection for this kind of growth is a good one. But having said that, as we go forward, if it plays out like we are currently seeing, it also provides optionality,” Gore told Daily Investor. 

“There may be opportunities that come up that we have not thought of yet. So, the default case is five years of this growth. We can achieve that. It is hard to do, but it is doable.”

Gore explained that if Discovery manages to grow at its expected rate of 15% to 20% per annum, the company will be double the size it currently is in terms of profit. 

Key to this is Discovery Bank’s growth, which Gore said shot the lights out during the interim results period to hit profitability ahead of schedule. 

The bank is expected to grow its operating profit by around R400 million a year during the five-year phase, with it generating R3 billion in profit in 2029. 

Another centre of growth is Discovery’s international business, with strong demand for its Vitality health insurance in the UK and US, which generates value foreign currency earnings. 

Its investment in Chinese insurance giant Ping An is also going from strength to strength, with it contributing R424 million to Discovery’s bottom line in the last six-month period. 

However, the company will have to navigate major challenges during this period, many of which are beyond its control. 

Gore said the company spends a lot of time and resources to ensure that short-term swings from interest rate changes to tariffs on trade do not significantly impact its businesses. 

“There are a lot of substantial economic risks. We have tried our best with regard to the structure of the organisation so that these risks do not hurt us.” 

“Across all of our various matching and hedging strategies, the one fundamental issue is to not take risks on stuff that we are not in charge of.” 

Gore explained that Discovery tried to minimise the economic risk to the business as far as possible to ensure that everything was in its own hands. 

“Then you are left with the core operating execution risk, which we think we understand well. So, I do not think there is an execution risk, and there is no capital risk.” 

Some of Discovery’s strategies include ensuring that the assets and liabilities of its businesses are all in the same currency and are matched according to duration. 

It also ensures that with its debt structures, all of its interest rates are hedged. On top of this is adequate reinsurance structures for catastrophic events and potential lapses. 

Gore admitted that this limits some of the upside from something unexpectedly beneficial happening but said it is more important to minimise any potential downside. 

Crucially, these strategies enable the company to focus on the long term and look beyond any short-term fluctuations. 

“Our view is that we are not traders. We are operators and do not speculate on short-term fluctuations. We do not take a single view on anything for the immediate benefit. We look at things over the long term.”