Principal Financial Group Inc. - Q1 2008 10-Q Summary
Business Context and Reporting Period
This is a Quarterly Report (Form 10-Q) for Principal Financial Group, Inc. (PFG) for the period ended March 31, 2008. PFG is a large accelerated filer providing financial products and services through five segments: U.S. Asset Accumulation, Global Asset Management, International Asset Management and Accumulation, Life and Health Insurance, and Corporate and Other. The company operates primarily in the United States with international operations in Brazil, Chile, China, Hong Kong, India, Malaysia, and Mexico.
Key Financial Metrics
| Metric (in millions) | Q1 2008 | Q1 2007 |
|---|---|---|
| Total Revenues | $2,500.7 | $2,661.0 |
| Net Income | $182.4 | $265.3 |
| Net Income Available to Common Stockholders | $174.2 | $257.1 |
| Diluted EPS | $0.67 | $0.95 |
| Net Investment Income | $960.3 | $923.2 |
| Net Realized/Unrealized Capital Gains (Losses) | $(126.0) | $37.6 |
| Total Assets | $152,001.2 | $154,520.2 |
| Total Stockholders' Equity | $6,842.1 | $7,421.7 |
| Cash and Cash Equivalents | $1,120.7 | $1,344.4 |
| Short-term Debt | $175.1 | $290.8 |
| Long-term Debt | $1,406.6 | $1,398.8 |
Operating Cash Flow: Net cash provided by operating activities was $997.8 million for Q1 2008, compared to $1,224.9 million in Q1 2007.
Material Changes vs. Prior Period
- Net Income Decline: Net income available to common stockholders decreased by $82.9 million (32%) year-over-year. This was primarily driven by a $163.6 million swing in net realized/unrealized capital gains to losses.
- Investment Losses: The company reported $126.0 million in net realized/unrealized capital losses, compared to $37.6 million in gains in the prior year. This includes $41.0 million in after-tax realized capital losses related to "other than temporary impairments" (OTTI) of fixed maturity and equity securities.
- Comprehensive Loss: While net income was positive, comprehensive loss was $(594.9) million, driven largely by $(838.1) million in net unrealized losses on available-for-sale securities, reflecting widening credit spreads and market volatility.
- Segment Performance:
- Life and Health Insurance: Operating earnings increased $33.7 million to $79.2 million, driven by favorable claim development in health insurance.
- Global Asset Management: Operating earnings decreased $21.0 million to $2.7 million due to mark-to-market losses on mortgage loan inventory in the spread and securitization business.
- U.S. Asset Accumulation: Operating earnings decreased $15.6 million to $139.1 million.
Guidance, Outlook, Risks, and Unusual Items
- Market Risk: The filing highlights significant exposure to credit risk and interest rate risk. The credit disruption in the market (sub-prime mortgage and leveraged finance concerns) has led to reduced liquidity and wider credit spreads, impacting the valuation of fixed maturity securities.
- Impairments: The company recorded $40.1 million in net realized losses relating to other than temporary credit impairments of fixed maturity securities. Gross unrealized losses on fixed maturity securities available-for-sale increased to $2,519.6 million from $1,168.2 million at year-end 2007.
- Liquidity: Management believes cash flows from operations and access to capital markets are sufficient to meet liquidity requirements. However, they note that future experience regarding benefits and surrenders is uncertain and influenced by interest rates and financial strength ratings.
- Legal Proceedings: The company is involved in various litigation, including class actions regarding 401(k) revenue sharing fees. Management does not believe these will have a material adverse effect, though outcomes are uncertain.
- Accounting Changes: The company adopted SFAS 157 (Fair Value Measurements) on January 1, 2008. The adoption resulted in a $13.0 million pre-tax increase to net realized/unrealized capital gains due to incorporating creditworthiness in valuations.
Investor Verification Checklist
- OTTI Assessment: Verify the criteria used to determine "other than temporary" impairments, specifically regarding the intent and ability to hold securities until recovery, given the $40.1 million charge.
- Unrealized Losses: Review the aging of the $2.5 billion in gross unrealized losses on fixed maturity securities to assess the risk of future realized losses if market liquidity does not improve.
- Commercial Mortgage Exposure: Examine the valuation allowance for commercial mortgage loans, which increased by $12.9 million in Q1 2008, and the concentration of loans in California (18% of portfolio).
- Derivative Exposure: Review the notional amounts and credit exposure of derivatives ($32.8 billion notional; $1.2 billion net credit exposure) used to hedge interest rate and credit risks.
- Segment Earnings Quality: Analyze the divergence between GAAP net income and segment operating earnings, particularly the impact of capital market volatility on the Global Asset Management segment.