Right now I’m analysing some of the most popular companies in the FTSE 100 to establish if they are attractive long-term buy and forget investments.
Today I’m looking at Direct Line (LSE: DLG).
What is the sustainable competitive advantage?
Unfortunately, the rising demand for insurance, coupled with the industry’s low barriers to entry mean that competition is vicious in the sector, and Direct Line lacks a serious competitive advantage that will help it stay ahead of its peers.
Having said that, Direct Line owns a selection of household brands such as Churchill and Privilege, which gives the company a small competitive advantage.
However, the majority of the products that the company offers, have no obvious benefits to differentiate them from the rest of the pack, which means that Direct Line is losing customers to cheaper providers.
Additionally, the rapid increase in popularity of price comparison websites over the past decade, has erased Direct Line’s ability to set prices, as customers will quickly go elsewhere if they find a cheaper deal.
Moreover, both the UK and EU governments are working hard to make the insurance market fairer for customers. In particular, eliminating different premiums for male and female drivers and referral fees for lawyers acting in personal injury claims. Unfortunately, this is not making life easier for Direct Line.
Over the long term, Direct Line’s outlook is hard to predict. The company is working to cut costs and boost revenue, but the firm’s profitability is highly exposed to factors outside of its control, such as the weather and returns on its investment portfolio.
A year of bad weather, or rise in automotive insurance claims can quickly sap the company’s profit.
Indeed, Direct Line’s income is highly erratic and the company’s net profit margin has averaged 2.3% over the past four years, with a high of 5.2% and a low of less than 0% — over the same period, the company’s revenue has fallen 27%.
Moreover, the use of comparison websites, increasing competition and regulation in the industry, will keep depressing margins and profitability.
Direct Line is facing increasing competition from all sides, depressing margins and reducing the company’s profitability.
Furthermore, the firm’s income is highly dependent upon factors outside of its control, which makes it hard for the company to stay consistently profitable – not a good trait in a long-term buy and forget investment.
So overall, I rate Direct Line as very poor share to buy and forget.
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In the meantime, please stay tuned for my next FTSE 100 verdict
> Rupert does not own any share mentioned in this article.