American Equity Investment Life Holding Company — Q2 2018 Form 10-Q Summary
Reporting period: Three and six months ended June 30, 2018; unaudited interim results. The supplied filing identifies the registrant as American Equity Investment Life Holding Company, not American National Group Inc.
Business Context and Financial Position
The company specializes in individual annuities, primarily fixed index deferred annuities. Premium collections for deferred annuities are generally recorded as deposit liabilities rather than revenue. Earnings are driven mainly by investment income, investment spreads, annuity charges, derivative results, and management of policyholder crediting rates and acquisition costs.
- Total assets were $61.6 billion at June 30, 2018, compared with $62.0 billion at December 31, 2017.
- Total investments were $49.0 billion, including $44.9 billion of fixed maturity securities and $2.8 billion of commercial mortgage loans.
- Policy benefit reserves were $56.9 billion; total liabilities were $59.2 billion.
- Stockholders’ equity was $2.4 billion, down from $2.9 billion, primarily reflecting a $671.7 million other comprehensive loss.
Key Financial Metrics
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Net income | $93.9 million vs. $26.9 million | $234.9 million vs. $80.9 million |
| Diluted EPS | $1.03 vs. $0.30 | $2.58 vs. $0.90 |
| Total revenues | $685.5 million vs. $819.1 million | $804.3 million vs. $1.75 billion |
| Net investment income | $533.3 million vs. $493.5 million | $1.04 billion vs. $979.1 million |
| Non-GAAP operating income | $86.6 million vs. $63.7 million | $164.3 million vs. $123.3 million |
| Operating cash flow | $(143.6) million vs. $831.4 million |
- Aggregate investment spread was 2.64% in the quarter and 2.60% for the six-month period, compared with 2.72% and 2.71%, respectively.
- Average annuity account balances increased approximately 7% year over year to $49.5 billion for the quarter and $49.2 billion for the six-month period.
- Annuity deposits after coinsurance were $1.07 billion in the quarter and $2.01 billion for the six-month period.
- Effective tax rates declined to 17.8% for the quarter and 19.5% for the six-month period, compared with 33.1% and 33.6%, respectively, reflecting the Tax Cuts and Jobs Act.
- Cash and cash equivalents were $1.26 billion, down from $1.43 billion at year-end.
- Debt included $494.3 million of senior notes and $242.8 million of subordinated debentures. The company had no borrowings under its $150 million revolving credit facility.
Material Changes Versus Prior Comparable Period
- Net income and diluted EPS increased substantially, supported by higher investment income, growth in annuity account balances, favorable changes in embedded derivative valuations, and lower tax rates.
- Reported revenue declined because derivative fair-value results were materially less favorable than in 2017, particularly for the six-month period. The six-month change in fair value of derivatives was a loss of $318.9 million versus a gain of $653.4 million in 2017.
- Net realized investment results shifted to losses of $38.4 million in the quarter and $38.1 million year to date, compared with gains of $3.9 million and $6.2 million. Management attributed the losses primarily to repositioning the investment portfolio toward higher yields and improved risk or duration characteristics.
- Other comprehensive income changed to a loss of $219.6 million for the quarter and $671.7 million year to date, primarily because of higher interest rates and wider credit spreads reducing unrealized investment values.
- Operating cash flow declined to an outflow of $143.6 million, principally reflecting changes in derivative collateral and other working-capital items.
- Senior debt costs declined following repayment of a $100 million term loan and refinancing of $400 million of 6.625% notes due 2021 with 5.0% notes due 2027.
- Annuity deposits increased 2% before coinsurance and 1% after coinsurance in the second quarter, but declined 1% and 3%, respectively, for the six-month period, reflecting competitive pressure.
Guidance, Outlook, Risks and Unusual Items
- No formal earnings or sales guidance was provided in the filing.
- Management expects profitability to depend on invested-asset growth, investment spreads, credit performance, policyholder crediting rates, option costs, acquisition costs, operating expenses, and taxes.
- Management cited continued low interest rates and low yields on preferred credit-quality investments as a headwind to investment spreads. The company stated it could reduce its cost of money by approximately 59 basis points by lowering current crediting rates to contractual minimums, subject to competitive and contractual limitations.
- Approximately 97% of the fixed maturity portfolio was investment grade under NAIC designations. Gross unrealized losses on fixed maturity securities increased to approximately $858.5 million from $268.9 million at year-end; management considered the losses temporary.
- Net other-than-temporary impairment losses recognized in operations were $2.4 million for the quarter and $3.3 million year to date.
- The estimated risk-based capital ratio was 384% at June 30, 2018, compared with 378% at December 31, 2017. A credit facility covenant requires American Equity Life to maintain an RBC ratio of at least 275%.
- Interest-rate sensitivity is significant. A modeled 30-basis-point increase in rates was estimated to reduce fixed maturity fair value by approximately $1.0 billion and stockholders’ equity by approximately $356.6 million after specified adjustments.
- Key risks include interest-rate movements, credit deterioration and impairments, annuity surrender activity, competition, option costs, regulatory changes, litigation and regulatory investigations, and restrictions on dividends from insurance subsidiaries.
- Unfunded commitments at June 30, 2018 included $81.7 million for commercial mortgage loans, $48.3 million to limited partnerships, and $3.8 million to secured bank loans.
Most Important Facts to Verify
- Registrant identity: Confirm whether the intended company is American Equity Investment Life Holding Company or American National Group Inc.; the supplied filing is for American Equity.
- Reconcile the large gap between GAAP net income and reported revenue caused by volatile derivative and embedded-derivative fair-value changes.
- Assess whether the decline in investment spread and the increase in unrealized losses could affect future earnings, statutory capital, or liquidity.
- Review the quality, duration, and concentration of the fixed maturity portfolio, including the increase in securities with unrealized losses.
- Evaluate annuity sales trends, policyholder withdrawals, surrender activity, and the company’s ability to reduce crediting rates without harming competitiveness or retention.
- Confirm the sustainability of operating cash flow and the availability of subsidiary dividends to fund holding-company debt service and expenses.
- Review regulatory, litigation, reinsurance, and counterparty exposures, including the company’s derivative collateral and embedded-derivative assumptions.