Prudential Financial, Inc. — 2019 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2019; comparisons are primarily with fiscal 2018. The filing also reports fourth-quarter results. Prudential is a global insurer and investment manager, with approximately $1.551 trillion in assets under management at year-end. Its businesses span asset management, U.S. workplace and individual insurance and retirement solutions, Assurance IQ, international operations, and the Closed Block.
Financial performance and condition
- Revenue: $64.807 billion, up 2.9% from $62.992 billion. Premiums declined to $34.202 billion from $35.779 billion; net investment income rose to $17.585 billion from $16.176 billion. Realized investment losses were $459 million, versus gains of $1.977 billion in 2018.
- Profit: Net income attributable to Prudential was $4.186 billion, up from $4.074 billion. Diluted EPS was $10.11, versus $9.50. Income before taxes and equity in operating joint ventures was $5.085 billion, compared with $4.834 billion. The effective tax rate was 18.6%, versus 17.0%.
- Fourth quarter: Revenue was $19.223 billion, net income attributable to Prudential was $1.128 billion, and diluted EPS was $2.76. The comparable 2018 quarter reported revenue of $18.432 billion, attributable net income of $842 million, and diluted EPS of $1.99.
- Segment adjusted operating income before tax: $6.098 billion, down from $6.368 billion. Retirement increased to $1.301 billion from $1.049 billion; Group Insurance to $285 million from $229 million; PGIM to $998 million from $959 million. Individual Annuities declined to $1.843 billion from $1.925 billion, Individual Life to $87 million from $223 million, and Corporate and Other losses widened to $1.766 billion from $1.283 billion. International Businesses rose to $3.359 billion from $3.266 billion. Assurance IQ contributed a $9 million adjusted operating loss after acquisition.
- Cash flow: Operating cash flow was $19.625 billion, investing cash flow was negative $17.028 billion, and financing cash flow was negative $1.634 billion. Cash, cash equivalents and restricted cash increased $979 million to $16.474 billion.
- Balance sheet and debt: Total assets were $896.552 billion, up from $815.078 billion; total equity was $63.719 billion, up from $49.031 billion. Short- and long-term debt totaled $20.579 billion, up from $19.829 billion. Reported total liabilities were $832.833 billion.
- Investments and liquidity: Total investments were $522.760 billion. The parent company had $4.061 billion of highly liquid assets excluding net borrowings from its intercompany liquidity account. Management stated that capital and liquidity were adequate for reasonably foreseeable stress scenarios.
- Capital and shareholder returns: Management reported $53.652 billion of capital. The 2018 RBC ratios for major U.S. insurance subsidiaries were 385% for PICA, 511% for PALAC, and 417% on a composite basis; 2019 RBC results were not yet filed, though management expected them to exceed target levels. In 2019 Prudential repurchased $2.5 billion of shares and declared $1.644 billion in common dividends; annual dividends were $4.00 per share.
Material changes versus 2018
- Net income increased modestly, while GAAP results were affected by sharply different investment and market-related items. 2019 included $1.624 billion of favorable pre-tax comparative effects from annual assumption reviews and refinements, but also $1.492 billion of unfavorable realized-investment variance and a $1.169 billion unfavorable variance from variable-annuity embedded derivatives and related hedges.
- Other income improved markedly, including equity-security gains; however, realized investment gains turned to losses, largely reflecting derivative results. Prudential reported a $1.253 billion 2019 loss from changes in variable-annuity embedded derivatives and hedge positions, after related DAC and other costs.
- Other Divested and Run-off Businesses, principally long-term care, reported $452 million of income versus a $1.535 billion loss in 2018. The comparison largely reflects the prior-year $1.458 billion long-term-care assumption-update charge; 2019 long-term-care results included a $9 million charge from assumption updates.
- Prudential acquired Assurance IQ in October 2019. Closing consideration was $2.212 billion, including cash and shares; additional payments of up to $1.15 billion depend on performance targets through 2022. The year-end fair value of contingent consideration was $105 million, and the acquisition generated $2.128 billion of goodwill.
- Prudential began multi-year programs intended to improve margins through technology, systems and workforce changes. Implementation costs were approximately $400 million for 2019, including about $365 million in the fourth quarter.
- Beginning in the second quarter, immediate market-condition impacts on estimates of profitability were excluded from adjusted operating income. This reporting change affects year-over-year comparability.
- Net unrealized investment gains in other comprehensive income were $17.195 billion before tax in 2019, compared with an $8.393 billion loss in 2018; year-end AOCI was $24.039 billion, versus $10.906 billion.
Outlook, risks and unusual items
- Management expected 2020 results to benefit from the company’s diversified businesses and saw opportunities in asset management, pension risk transfer, workplace financial wellness and digital distribution. It also cited low interest rates, fee compression and other market challenges, and did not provide a consolidated earnings-per-share forecast in the supplied filing text.
- Under a specified 2020 interest-rate scenario, Prudential estimated an unfavorable net investment income effect of $40–$60 million from reinvestment activity in U.S. operations and a separate $40–$60 million effect in Japanese operations. These are scenario estimates, not earnings guidance.
- Principal risks include low interest rates and asset-liability mismatches; equity, credit and foreign-exchange volatility; variable-annuity guarantees and hedge effectiveness; mortality, morbidity and policyholder behavior; liquidity and derivative collateral demands; counterparty and investment losses; ratings downgrades; regulation and tax changes; cyber and operational risk; and execution and integration risks related to Assurance IQ and the margin-improvement programs.
- Two putative securities class actions filed in late 2019 and January 2020 alleged that Individual Life mortality assumptions and reserves were inadequate and that income was overstated. The filing stated the estimated aggregate range of reasonably possible losses in excess of established accruals, for matters where an estimate could be made, was less than $250 million; this is not a maximum exposure estimate.
- The IRS challenged the validity of Prudential’s Brazil tax election; the company disagreed and intended to defend its position. An adverse outcome could increase tax expense over time. Prudential also identified significant estimation uncertainty in insurance guarantees, DAC and long-term-care reserves; these were critical audit matters.
- The auditor issued an unqualified opinion on the consolidated financial statements and internal control. Assurance IQ was excluded from the internal-control assessment because it had been acquired during 2019 and represented less than 1% of consolidated assets and revenue.
Most important facts for investors to verify
- Whether the $4.186 billion of net income and $10.11 diluted EPS are sustainable after separating recurring operating performance from realized gains and losses, assumption updates, market effects and run-off business results.
- How variable-annuity guarantee liabilities, hedge results and collateral needs respond to changes in interest rates, equity markets, volatility and policyholder behavior.
- Whether long-term-care assumptions, premium-rate increases and morbidity experience support recorded reserves and future cash flows.
- Assurance IQ’s progress against its performance targets, integration costs and expected synergies, including the potential contingent payment of up to $1.15 billion.
- Actual 2019 statutory capital ratios and the capacity of regulated subsidiaries to distribute capital to the parent, given restrictions on dividends and capital transfers.
- Developments in the mortality-related securities litigation, other regulatory matters, and the Brazil tax-election dispute.