Principal Financial Group, Inc. — Q3 2009 Form 10-Q
Business context and reporting period
Principal Financial Group provides retirement and asset-management products, life and health insurance, and related services. This unaudited report covers the quarter and nine months ended September 30, 2009; comparisons are with the corresponding 2008 periods unless noted. Balance-sheet comparisons are with December 31, 2008. Amounts are in millions except per-share data.
Financial and operating highlights
| Metric | Q3 2009 | Q3 2008 | Nine months 2009 | Nine months 2008 |
|---|---|---|---|---|
| Total revenue | $2,270.3 | $2,497.8 | $6,616.7 | $7,656.6 |
| Net income | $204.2 | $108.7 | $490.8 | $469.4 |
| Net income available to common stockholders | $184.7 | $90.1 | $447.8 | $432.6 |
| Diluted EPS | $0.57 | $0.35 | $1.54 | $1.66 |
Q3 revenue fell about 9% year over year, while common income roughly doubled, primarily because realized investment losses were lower. For nine months, revenue declined about 14% and common income rose about 4%; diluted EPS declined from $1.66 to $1.54, reflecting in part the increase in shares outstanding following the May stock offering. Total expenses were $2,022.0 in Q3 and $6,040.4 for nine months. Net investment income was $853.3 for Q3 and $2,541.9 for nine months, down from $1,079.7 and $3,030.9, respectively. Q3 and nine-month net realized capital losses were $66.6 and $285.1, respectively.
Segment operating earnings, as defined by management and excluding adjusted realized capital losses and other adjustments, were $238.7 for Q3 versus $251.2, and $603.2 for nine months versus $763.7. Nine-month earnings declined in U.S. Asset Accumulation ($385.1 versus $428.5), Global Asset Management ($25.5 versus $67.4), International Asset Management and Accumulation ($79.4 versus $107.9), and Life and Health Insurance ($197.7 versus $219.8); Corporate operating losses widened to $84.5 from $59.9.
At September 30, 2009, total assets were $137,379.5, up from $128,182.4 at year-end; total investments were $63,607.0 and cash and cash equivalents were $3,241.2. Separate account assets and liabilities were each $61,518.7. Total stockholders’ equity was $7,606.7, compared with $2,569.3 at year-end, substantially reflecting improved unrealized investment values and the equity issuance. Gross unrealized losses on available-for-sale fixed maturities were $3,390.3, down from $8,215.6 at year-end.
Total debt was $1,693.2, down from $1,791.4; short-term debt fell to $107.1 from $500.9 while long-term debt rose to $1,586.1 from $1,290.5. Debt-to-capitalization excluding accumulated other comprehensive income improved to 16% from 20%. Management reported $1,254.5 of excess capital in holding companies and $834.4 of credit facilities, with $107.1 drawn at quarter-end.
For the first nine months, operating cash flow was $1,794.4 versus $1,867.2; investing activities provided $1,156.2 versus using $4,018.3; and financing activities used $2,317.4 versus providing $3,075.7. Cash increased $633.2 to $3,241.2. Financing cash flows included $1,123.0 from common stock issuance and $745.1 from long-term debt issuance, alongside net investment-contract withdrawals.
Material changes and management commentary
- May 2009 capital raising: 58.2 million common shares were issued for net proceeds of $1,109.1; $750.0 of senior notes were issued at 7.875% due 2014 and 8.875% due 2019. Debt proceeds primarily refinanced maturing notes.
- Management attributed lower revenue to reduced premiums and fees, weaker investment income, lower account values and assets under management, and foreign-exchange effects. Expense savings partly offset these pressures.
- Q3 results included an $18.9 after-tax increase in net income from correcting a prior-period deferred policy acquisition cost (DPAC) amortization error. Management said the error was not material to prior periods, but the current-quarter correction could be material to Q3 results; it was not material to nine-month results.
- The company recorded $510.0 of total other-than-temporary impairment losses on available-for-sale securities for the first nine months, with $162.4 of fixed-maturity noncredit impairment recognized in other comprehensive income under newly adopted accounting guidance. Mortgage valuation allowances also increased.
- Management estimated 2009 pre-tax pension expense of $157.6, up $145.3 from 2008, with about $39.4 expected in Q4. It cited lower plan-asset returns and a lower discount-rate assumption.
Outlook, risks and contingencies
The filing provides no specific earnings or revenue guidance. Management said it believed operating cash flows, available borrowing and capital resources were sufficient for current and reasonably foreseeable liquidity needs, while maintaining historically high cash holdings and exploring capital-flexibility options. It noted that higher cash balances reduce investment yields. The board declared an annual common dividend of $0.50 per share, approximately $159.5, payable December 4, 2009.
Principal identified risks from difficult capital markets and economic conditions, market and credit-spread movements, investment impairments and valuation judgments, equity-market declines affecting assets under management and fees, policy surrenders, ratings downgrades, liquidity and capital access, foreign currencies, claims and reserving experience, regulation, litigation and taxes. The company reported that credit spreads and market liquidity had improved in Q2 and Q3, but recovery in unrealized values remained dependent on market conditions. Commercial mortgage loans classified as problem, potential problem or restructured rose to $401.7 (3.90% of the portfolio) from $184.5 (1.64%) at year-end. The company reported $3.302 billion of unrealized losses on Principal Life securities held in a continuous loss position for at least 12 months and said it did not intend, and was not more likely than not required, to sell the securities before recovery.
Management did not believe pending litigation or regulatory matters would have a material adverse effect on the business or financial position, while acknowledging uncertain outcomes could materially affect results in a particular period. Guarantees had maximum exposure of approximately $238.0; management considered material payment unlikely. The filing also disclosed derivative counterparty exposure, collateral requirements, and possible additional collateral if specified credit-rating triggers were activated.
Important facts for investors to verify
- Whether the $18.9 after-tax DPAC correction materially affects interpretation of Q3 earnings and how future DPAC amortization is expected to develop.
- Credit performance and valuation of commercial mortgage loans, CMBS, corporate bonds and other structured securities; track impairments, unrealized losses and watch-list exposures.
- Whether lower account values, net outflows and weaker segment operating earnings persist, and whether expense reductions can offset revenue pressure and higher pension costs.
- Liquidity, holding-company excess capital, debt service and rating outlooks, including potential policyholder withdrawals or derivative collateral calls following a downgrade.
- Dividend capacity and the effect of common-stock dilution from the 2009 offering on per-share results.