The life insurance industry has been facing a tough combination of extreme pressure on product pricing as well as low interest rates. This industry pressure has been exasperating insurers over the past few years and weighing on stock prices.
Today, the market provides two compelling opportunities to purchase robust life & health insurers at less than half of their equity book value. At currently reduced prices, both recapitalized businesses with improving return on asset metrics could reasonably double in valuation over the next few years.
CNO Financial ) is a life, health, and long term care insurance business focusing on middle class and retired Americans. CNO recently invigorated their recapitalization by issuing low cost long term debt and paying back shorter term debt and convertible shares while reducing outstanding shares by 12%.
CNO is currently trading at 0.43x book value. Given the aforementioned industry issues, CNO Financial’s return on equity (“ROE”) was 3.9% for the 12 month period ending 9/30/12. Yet the product pricing environment continues to improve and a return to high single digit ROE metrics is reasonable over the next few years.
CNO Financial Business Units
Banker’s Life & Casualty sells life insurance, long term care, annuities, Medicare Supplement / Part D / Advantage plans to middle income Boomers and retirees. Banker’s Life is easily the largest division of CNO worth 2/3rds of CNO’s value.
Banker’s Life has been recently shifting away from annuity sales. Third quarter total sales declined 5% from the second quarter, reflecting an annuity sales decline of 35% while life insurance sales rose 5%, medical supplemental insurance rose 9%, and short term care sales rose 8%. Banker’s Life is targeting a 14% IRR for its expanding long term care segment.
Like Banker’s Life, Washington National sells a similar suite of products to working Americans. Washing National’s core segment sales were up 9% in the third quarter. CNO’s third segment, Colonial Penn, sells simple, low cost life insurance to lower & middle income retirees in urban/metro areas.
At 9/30/12, CNO had $310 million of liquidity including $150 million of deployable capital at the holding company. Segment EBIT grew from $309.4 million in 2010 to $344.3 million in 2011 and is on pace through 9/30/12 to deliver north of $375 million in 2012.
CNO has $893 million of net operating loss carry-forwards which are worth roughly $610 million when discounted over forward years at 10%.
With a recapitalized balance sheet and improving cash flow and ROE metrics, CNO Financial’s stock price has the potential to dramatically increase in the coming years. CNO generated $250 million during the first 9 months of 2012 and could be producing $400 to $500 in free cash annually over the next few years.
In 2015, management believes they can be an investment grade company producing 9% ROE paying 20% of earnings as a dividend. If this happens, CNO could easily trade for book value which would imply a value of $25 per share which would represent a 150% gain from today’s stock price.
Genworth Financial )
Like CNO Financial, Genworth’s main economic unit is its US life & health business. However, Genworth also owns a mortgage insurance business in the US, Canada, and Australia as well as a US wealth management business and an international protection insurance arm.
As you may expect, Genworth’s balance sheet was significantly impaired by losses in the US mortgage insurance business over the past 5 years. This affected Genworth’s debt ratings and reduced the equity price as liquidity concerns arose. Yet, in late October, the company’s board implemented a strategy which will provide the company ample liquidity to operate over the next couple years until the mortgage insurance business returns to profitability.
Genworth recently announced their intentions of divesting the non-core businesses of (1) international protection and (2) wealth management. This announcement follows the January 2011 exit of the variable annuity business and the October 2011 exit from selling supplemental Medicare insurance products.
Upon completion of these divestitures, Genworth will have two main business lines (1) U.S. life & long term care insurance and (2) global mortgage insurance with the majority of business in the US, Canada, and Australia. (Note: Genworth is planning to partially IPO the Australian mortgage insurance business in late 2013.)