Reinsurance Group of America, Incorporated — Q3 2011 Form 10-Q Summary
Business context and reporting period
RGA is a global life and health reinsurer operating through U.S., Canada, Europe & South Africa, Asia Pacific, and Corporate and Other segments. The filing covers the three and nine months ended September 30, 2011, compared with the same periods in 2010, and the balance sheet as of September 30, 2011 versus December 31, 2010.
Key financial metrics
| Metric | Q3 2011 | Q3 2010 | 9M 2011 | 9M 2010 |
|---|---|---|---|---|
| Total revenues | $1.995 billion | $1.956 billion | $6.481 billion | $5.988 billion |
| Net premiums | $1.776 billion | $1.647 billion | $5.301 billion | $4.858 billion |
| Income before taxes | $171.5 million | $197.2 million | $613.8 million | $588.6 million |
| Net income | $147.4 million | $128.2 million | $441.1 million | $377.7 million |
| Diluted EPS | $1.98 | $1.72 | $5.94 | $5.06 |
| Net income margin | 7.4% | 6.6% | 6.8% | 6.3% |
| Operating cash flow | Not provided quarterly | Not provided quarterly | $834.0 million | $1.330 billion |
Investment income, net of related expenses, was $268.2 million in the third quarter and $976.7 million for the first nine months. Investment-related gains were a $139.6 million net loss in the quarter and an $11.4 million net gain year to date. The third-quarter loss was driven primarily by unfavorable derivative and embedded-derivative fair-value changes.
At September 30, 2011, total assets were $31.183 billion, total investments were $24.268 billion, cash and cash equivalents were $802.7 million, and stockholders’ equity was $5.663 billion. Cash, cash equivalents, and short-term investments totaled approximately $884.4 million. Outstanding short- and long-term debt totaled $1.615 billion, compared with $1.216 billion at December 31, 2010; the average interest rate on debt was 6.04%. The collateral finance facility liability was $681.0 million.
Material changes versus the prior comparable period
- Net premiums increased 7.8% in the quarter and 9.1% year to date, supported by life reinsurance growth and favorable foreign-exchange effects. Assumed insurance in force increased to $2.615 trillion from $2.479 trillion at September 30, 2010.
- Quarterly pretax income decreased 13.0%, while nine-month pretax income increased 4.3%. Quarterly results were pressured by wider credit spreads, lower interest rates, weak equity markets, lower investment income, and unfavorable U.S. embedded-derivative valuations.
- Net income increased 15.0% in the quarter and 16.8% year to date, aided by a substantially lower effective tax rate of 14.1% in the quarter and 28.1% year to date, versus 35.0% and 35.8%, respectively, in 2010.
- Operating cash flow declined $496.3 million year to date, primarily because claims, acquisition costs, taxes, and other operating cash outflows increased more than premium and investment-income inflows.
- RGA issued $400 million of 5.00% senior notes due June 2021, generating approximately $394.4 million of net proceeds. It also repurchased portions of its collateral finance facility notes, recognizing pretax gains of $50.9 million in the quarter and $55.8 million year to date.
- RGA repurchased 838,362 common shares for $43.1 million during the quarter and increased its quarterly dividend to $0.18 per share from $0.12.
- Segment pretax income increased in Canada and was broadly stable in Europe & South Africa for the nine-month period, but declined in the U.S. and Asia Pacific. Asia Pacific results included estimated $6.5 million of net losses from the Japan and New Zealand earthquakes.
Guidance, outlook, commentary, risks, and unusual items
The filing does not provide formal earnings guidance. Management stated that industry trends had not materially changed from the 2010 Annual Report and that industry consolidation and continued demand for mortality-risk reinsurance should support growth, although at lower rates than historically experienced in some markets.
Management believes liquidity is sufficient for at least the next 12 months, including scenarios involving early treaty recapture and higher-than-expected death claims. The company does not rely on short-term funding or commercial paper and reported no current liquidity pressure. Its $750 million revolving credit facility matures in September 2012; there were no cash borrowings outstanding and $213.9 million of issued but undrawn letters of credit under the facility.
Low interest rates are expected to pressure investment yields. Management estimated that, if rates remained at current levels for five years, investment yield could decline approximately 50 basis points, reducing returns on equity by an estimated 15–20 basis points in 2012 and approximately 50 basis points by 2016.
- Q3 included a $139.6 million net investment-related loss, including unfavorable changes in variable-annuity and modified-coinsurance or funds-withheld embedded derivatives. These changes generally did not affect current cash flows or underlying treaty crediting rates.
- Other-than-temporary impairments recognized in earnings totaled $8.8 million in the quarter and $19.3 million year to date, primarily involving structured securities and, year to date, European financial-institution equity securities.
- A $32.5 million Canadian tax benefit corrected deferred tax liabilities related to previously enacted tax-rate changes. Management concluded the correction was immaterial to prior periods.
- Adoption of the future deferred policy acquisition cost accounting update on January 1, 2012 is preliminarily expected to reduce opening retained earnings by 6%–9% of stockholders’ equity and reduce pretax income by 7%–14% in 2012 and affected retrospective periods. These estimates may change.
- Material risks include mortality and morbidity volatility, catastrophe exposure, reserve adequacy, credit and interest-rate risk, equity-market volatility affecting annuity guarantees, currency movements, counterparty and retrocession recoverability, collateral requirements, regulatory constraints, and changes in accounting standards.
- The company reported no material litigation, no material changes to previously disclosed risk factors, and effective disclosure controls and procedures.
Important facts for investors to verify
- Reconcile the improvement in net income and EPS with the decline in quarterly pretax income and the unusually low effective tax rate.
- Assess the sensitivity of earnings, capital, and liquidity to embedded-derivative valuations, credit spreads, interest rates, equity markets, and hedging effectiveness.
- Review the decline in operating cash flow and the adequacy of approximately $884.4 million of cash and short-term investments relative to claims, collateral, letters of credit, and other obligations.
- Evaluate the increased debt balance, the December 2011 $200 million senior-note maturity, and the September 2012 revolving-credit-facility maturity.
- Analyze investment portfolio credit quality, unrealized losses, structured-security exposure, Level 3 valuations, and the company’s ability and intent to hold securities to recovery.
- Confirm the ultimate impact of the January 2012 deferred acquisition cost accounting change on retained earnings, reported income, and comparability.
- Review catastrophe and earthquake losses, mortality experience, treaty recapture exposure, retrocession recoverables, and guarantees supporting affiliated and unaffiliated reinsurance obligations.