Prudential Financial (NYSE:PRU) is scheduled to report earnings for the first quarter of 2013 on Wednesday, May 1.  The insurer delivered a strong performance through 2012 capped by the landmark pension transfer agreements with General Motors (NYSE:GM) and Verizon (NYSE:VZ), which led to a 73% increase in revenues for the calendar year. The company also capitalized on The Hartford Financial Services Group’s (NYSE:HIG) divestiture and acquired its individual life insurance business.
Our price estimate of $58 for Prudential’s stock is in-line with the current market price.
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Retirement And Annuities
The aforementioned GM and Verizon agreements allowed the total group annuity account value to surpass $60 billion at the end of 2012 and also added 150,000 retiree accounts to Prudential’s coverage. The increase in premiums was offset by a subsequent increase in insurance and annuity benefits expenses of $32 billion while net investment income remained in line with the figure for 2011. Excluding the group pension transfer deals, the gross sales and deposits for the retirement division were down 35% from the prior year due to lower sales of stable value wrap products.
According to our estimates, the full year operating margin for the U.S. retirement solutions division dropped from 17% in 2011 to 4% as net investment income did not match the growth in premiums and expenses. The company was able to generate float for investments through this deal. Around 75% of Prudential’s investment income is from fixed maturities like government bonds which are influenced by interest rates. Since most of Prudential’s investments are in fixed maturity securities, we remain conservative with our short-term forecast for margins, particularly in the prevalent low interest rate environment.
Outside the group pension transfer agreements, Prudential is one of the leading providers of retirement solutions to individuals across the U.S. According to sales data from LIMRA, Prudential was the highest seller of variable annuities in 2012 with market share of 14%. The company capitalized on MetLife’s (NYSE:MET) exit from the market. MetLife was the highest seller in 2011 but decided to cut back on its equity linked product to reduce risk in 2012. In terms of total annuity sales, Prudential is second behind the U.S. subsidiary of its British namesake, Jackson National Life.
Under the present economic uncertainty, variable annuities remain a popular investment for Americans. With MetLife pulling out of the market, we expect Prudential to gain market share in the coming years. However, the profitability of the product depends largely on the company’s ability to maintain underwriting discipline, which will enable it to earn a margin over the costs involved with providing benefits and managing assets. Expenses involved include policyholder benefits, interest credited to account balances, interest expense, amortization of deferred policy acquisition costs and other expenses related to policy acquisition. The operating margin for the individual annuities business has been around 30% for the last few years.
Outside of the U.S., Prudential operates under the “Pramerica” name in Japan, Taiwan, Italy, Korea, Brazil, Argentina, Poland and Mexico. The company earns about 30% of its revenues and 40% of its operating income from international operations and has shown high double digit growth outside the U.S. since the acquisition of AIG’s (NYSE:AIG) life insurance and annuity units, Star Life Insurance Co., Ltd. and Edison Life Insurance Company in 2011. 
Japan is the biggest hub of operations for the company outside the U.S. Japan is also the second biggest life insurance market in the world after the U.S., accounting for 20% of the world’s premiums and more than half of the premiums originating in Asia.  The company has a market share of over 10% in terms of new business face amount in the country. For more on life insurance in Japan, read our article An Overview Of The Japanese Life Insurance Market
At the end of 2012, Prudential also ventured into China with a life insurance joint venture with Chinese conglomerate Fosun International Limited; Pramerica Fosun Life Insurance Company Ltd. China (excluding Hong Kong and Taiwan) is the world’s fifth largest life insurance market.  With over $130 billion in premium volume, the country accounts for 5% of the world’s premiums and 14% of the premiums originating in Asia. The country led the world in premium growth rate from 2000 to 2010 with a compound annual growth rate (CAGR) of close to 20%, although the enforcement of regulations regarding distribution led to a slowdown in growth in 2011.  However, insurance penetration, measured by taking premiums as a percentage of GDP, is still below 2%. In comparison, more mature Asian markets like Japan and South Korea have life insurance penetration close to 8%. ((Swiss Re’s World Insurance and figures for GDP growth are taken from the World Bank’s website))
We expect high growth international markets, particularly in Asia in the coming years.
Prudential’s management has a history of shrewd acquisitions and deals like the acquisition of Star and Edison from AIG. The company recently sold off its Wealth Management Solutions to Envestnet Inc. in a $33 million deal.  The division was a small part of Prudential’s business.Notes:
- Prudential Financial To Announce First Quarter 2013 Earnings; Schedules Conference Call, Investor Relations [↩]
- Prudential Financial acquires AIG Star and AIG Edison in Japan [↩]
- Swiss Re’s World Insurance [↩] [↩]
- Foreign Insurance Companies In China, PWC, December 2012 [↩]
- Prudential selling wealth unit to Envestnet, Bloomberg, April 12, 2013 [↩]