Mutual LV= weighs merger or disposals as capital rules bite

One of Britain’s largest financial services mutuals has been involved in a secret hunt for a merger partner as a combination of tougher capital requirements and low interest rates hamper its profitability.

Sky News has learnt that LV=, which has nearly 6m UK customers across insurance, pensions and income protection products, has held aborted talks in recent months with Royal London, its fellow mutual, about a possible tie-up.

Those talks are said to have broken down amid a disagreement over the structure of a deal.

LV=, which has received a number of enquiries from other insurers about an acquisition of its profitable general insurance division, is also understood to have been exploring whether to sell any of its individual units.

It was unclear on Tuesday whether any discussions were ongoing about potential transactions, but insurance industry sources said that they were likely to be continuing.

LV= - previously known as Liverpool Victoria - employs more than 6000 people, and counts 1.1m of its customers as members, making it the biggest friendly society in the country.

It operates across the life and general insurance sectors, and is the UK's biggest provider of individual income protection.

The mutual is also the third-largest car insurance provider in Britain, and has been set the objective by its new chief executive, Richard Rowney, of becoming the industry's "challenger brand".

That target has, however, been set against a backdrop of rapid and profound regulatory reform - with mutuals such as LV= at a comparative disadvantage to their competitors because they are unable to issue new shares to raise capital.

Proposals from the Treasury to enable mutuals to issue shares are expected at some point, but would require secondary legislation to enact.

Solvency-II - the new European regulatory regime governing the Continent's insurance sector - has been heavily criticised by big UK-based insurers, including Legal & General (LSE: LGEN.L - news) and Prudential (SES: K6S.SI - news) .

LV= is adhering to a more onerous standard formula, as opposed to a so-called internal model, under the Solvency-II rules, further adding to its regulatory burden.

The insurance sector has also been hit this month by a Government announcement about changes to the discount rate applied to personal injury claims.

One source said that LV= was not certain to offload its general insurance arm, but that the friendly society's board undertook regular reviews of the business to establish whether members would benefit from an attempt to crystallise the value in the division.

General insurers are currently relatively highly valued by investors, suggesting that an auction could be attractive to LV=.

Last September, the mutual announced a slump in half-year earnings, with group operating profit in the six months to June 30, 2016 falling to £33m from £79m a year earlier.

"Our capital position is satisfactory…although we continue to explore options to increase our Solvency II ratio," Mr Rowney said in September.

"We are operating in a prolonged low interest rate environment with significant volatility and this has created challenging market conditions.

"We will remain disciplined in the management of the business, exercising strict controls over the allocation of capital to the right product areas."

The mutual is expected to announce its full-year results on April 12.

A spokesman for LV= declined to comment.