Brighthouse Financial, Inc. quarterly report, Q3 FY2018

Brighthouse Financial, Inc. — Q3 2018 Form 10-Q

Reporting period: Three and nine months ended September 30, 2018; balance-sheet comparisons are to December 31, 2017. Brighthouse is a U.S. provider of individual annuities and life insurance, reporting Annuities, Life and Run-off segments, plus Corporate & Other. MetLife divested its remaining Brighthouse shares on June 14, 2018.

Key financial results

Metric	Q3 2018	Q3 2017	Nine months 2018	Nine months 2017
Total revenue	$1.422 billion	$1.972 billion	$4.939 billion	$4.962 billion
Net income (loss) attributable to common shareholders	$(271) million	$(943) million	$(577) million	$(1.046) billion
Adjusted earnings (non-GAAP)	$270 million	$(676) million	$706 million	$(72) million
Operating cash flow	Not separately provided for the quarter	$1.496 billion	$2.030 billion

Q3 net derivative losses were $691 million, versus $164 million in the prior-year quarter; nine-month net derivative losses were $1.337 billion, versus $1.207 billion. Net investment losses were $42 million for Q3 and $121 million for the nine-month period.
Net investment income rose to $853 million in Q3 from $761 million and to $2.476 billion for nine months from $2.309 billion.
Q3 total expenses were $1.790 billion (prior year $2.096 billion); nine-month expenses were $5.737 billion (prior year $5.355 billion). The filing does not provide a single comparable consolidated operating-margin measure.
At September 30, total assets were $216.946 billion, total liabilities $203.997 billion, and total equity $12.949 billion. At December 31, 2017, those amounts were $224.192 billion, $209.612 billion and $14.580 billion, respectively.
Investments totaled $81.329 billion and cash and cash equivalents were $2.144 billion. Long-term debt was $3.966 billion, compared with $3.612 billion at year-end.
Consolidated liquid assets were $33.9 billion, down from $38.3 billion at year-end; consolidated short-term liquidity was $1.8 billion, up from $1.6 billion. Parent and certain non-insurance subsidiaries had $603 million of liquid assets and $371 million of short-term liquidity.

Material changes and management commentary

Management attributed 2018 GAAP losses principally to derivative losses associated with the annual actuarial review of variable annuities and market effects on structured annuities and interest-rate derivatives. The prior-year comparison was affected by a $1.1 billion non-cash tax charge related to the MetLife separation.
Adjusted earnings increased year over year, but the comparisons are affected by that prior-year tax charge. For nine months, management cited lower tax expense and higher net investment spread as favorable, offset by higher DAC/VOBA amortization, expenses and insurance-related costs.
The third-quarter actuarial review updated variable-annuity assumptions, including lower lapse and utilization assumptions, and incorporated the NAIC variable-annuity capital-reform framework. The review’s reported nine-month impact was a $40 million reduction to net income before tax overall; its impact on pre-tax adjusted earnings was positive $186 million.
Beginning in 2018, the company changed segment capital and investment allocations (“Portfolio Realignment”). This did not change consolidated net income or adjusted earnings, but did affect segment results; management estimated it raised Life segment pre-tax adjusted earnings by $90 million to $105 million for the first nine months, with most of the offset in Run-off. Prior periods were not recast.
Shield Annuity sales rose 33% in Q3 and 38% for the first nine months versus the corresponding 2017 periods. Variable-annuity separate-account balances declined year over year, with negative net flows and policy charges partly offset by market performance.

Liquidity, capital, outlook and risks

Management said it expected to maintain a parent-company debt-to-capital ratio of approximately 25% and $2.0 billion to $3.0 billion of assets above CTE95 to support variable-annuity contracts in normal markets. At quarter-end, assets exceeded CTE98 by more than $600 million. These are stated targets and expectations, not earnings guidance.
The company issued $375 million of 6.25% junior subordinated debentures due 2058 in September. A $2.0 billion repurchase facility was undrawn at quarter-end. A $200 million share-repurchase authorization was approved; 982,057 shares had been repurchased for $42 million by September 30.
Management reported $2.0 billion of unused commitments under its revolving-credit and term-loan facilities, and $9.7 billion of funding available under a $10.0 billion reinsurance financing arrangement. It stated statutory capital at insurance subsidiaries exceeded applicable RBC requirements in the most recent annual statutory filings.
The NAIC variable-annuity reserve and capital reform is expected to take effect January 1, 2020; the company said the effect on its hedging program and capital could not yet be predicted. A new long-duration insurance accounting standard is effective in 2021; the company could not yet estimate its impact and identified variable-annuity guarantee fair-value measurement as a significant change that could increase earnings volatility and affect equity.
Key exposures include interest-rate, equity-market, credit-spread, foreign-currency, liquidity and policyholder-behavior risks; the effectiveness of hedging, actuarial assumptions, reinsurer and derivative-counterparty performance, and access to capital are also relevant. Rising rates and wider credit spreads contributed to increased unrealized fixed-income losses: gross unrealized losses reached $1.3 billion at September 30, up $931 million during the first nine months. Management concluded the securities in loss positions were not other-than-temporarily impaired.
Litigation and regulatory matters remain uncertain. For matters where a reasonably possible loss could be estimated, the aggregate range above amounts accrued was $0 to $10 million; other matters could not be estimated. Management said adverse outcomes could affect particular periods, while not then considered likely to materially affect financial position.
No formal earnings guidance was provided. Management said liquidity was sufficient for business needs under current market conditions and certain stress scenarios, while noting that financing plans and outlook depend on markets, regulatory developments and other risks.

Most important facts for investors to verify

How much of GAAP earnings volatility reflects variable-annuity guarantees and hedge-accounting or market-value movements, and whether hedge results economically offset guarantee exposure.
Effects of the 2018 actuarial review and Portfolio Realignment on future results; segment comparisons are not fully comparable because prior periods were not recast.
Insurance-subsidiary statutory capital, dividend capacity and the company’s progress toward its stated capital targets, including the effects of NAIC reform.
Liquidity under stress, including policyholder withdrawals, collateral calls, securities-lending returns and access to facilities and reinsurance financing.
Potential future effects of long-duration accounting changes, litigation or regulatory matters, and the $200 million repurchase program on capital and shareholder returns.