CNO Financial Group, Inc. — Q1 2019 Form 10-Q Summary
Business context and reporting period
CNO Financial Group is a U.S. insurance holding company serving middle-income pre-retirees and retirees through Bankers Life, Washington National and Colonial Penn. Products include health insurance, annuities, individual life insurance and related financial services, distributed through career agents, independent producers and direct marketing. The filing covers the unaudited three months ended March 31, 2019, compared with the same period in 2018.
The long-term care in run-off segment reflects the remaining recaptured business after CNO ceded its legacy comprehensive and nursing-home long-term care block under a 100% indemnity coinsurance agreement in September 2018.
Financial performance and condition
| Metric | Q1 2019 | Q1 2018 |
|---|---|---|
| Total revenues | $1,023.0 million | $1,007.8 million |
| Income before income taxes | $65.6 million | $108.1 million |
| Net income | $51.8 million | $84.3 million |
| Diluted EPS | $0.32 | $0.50 |
| Net operating income | $65.8 million | $73.9 million |
| Operating earnings before taxes | $83.4 million | $94.9 million |
| Net cash from operating activities | $142.3 million | $72.2 million |
- Net margin was approximately 5.1%, compared with 8.4% in the prior-year quarter.
- Premium collections increased 1.4% to $941.5 million; first-year collections increased 18% to $391.5 million, primarily reflecting higher Bankers Life fixed-index annuity sales.
- Bankers Life operating earnings declined to $63.1 million from $77.5 million, while Washington National increased to $30.5 million from $34.3 million? The filing reports Washington National at $30.5 million versus $34.3 million, a decline. Colonial Penn remained a loss of $1.4 million, and long-term care in run-off declined to $2.5 million from $12.0 million.
- Cash and cash equivalents totaled $691.3 million at March 31, 2019, including unrestricted cash of $621.6 million. Holding companies held unrestricted cash and cash equivalents of $229.8 million.
- Total assets were $32.3 billion and shareholders’ equity was $3.84 billion. Book value per common share increased to $23.99 from $20.78 at December 31, 2018, largely due to higher accumulated other comprehensive income from investment appreciation.
- Corporate notes payable were $917.3 million. Additional borrowings included $1.65 billion of collateralized Federal Home Loan Bank investment borrowings and $1.42 billion of borrowings related to variable interest entities.
- Corporate debt to total capital was 19.3%; the debt covenant ratio was 22.8% against a maximum of 35.0%. Estimated consolidated statutory risk-based capital was approximately 416%, within management’s stated long-term target range of 400% to 425%.
Material changes versus the prior comparable period
- Revenue increased modestly, but net income fell 39% and diluted EPS declined 36%, primarily due to lower operating earnings and unfavorable fair-value changes in fixed-index annuity embedded derivative liabilities.
- Net realized investment results improved to a $16.1 million gain from a $15.2 million loss. The 2019 result included $10.7 million of equity-security gains and a $2.2 million impairment charge related to a corporate security.
- Comprehensive income was $529.0 million versus a comprehensive loss of $217.2 million, reflecting a $477.2 million after-tax increase in other comprehensive income from investment appreciation.
- General-account net investment income declined to $270.6 million from $329.1 million, while income from policyholder and other special-purpose portfolios increased to $85.2 million from $12.8 million, reflecting market-related derivative gains.
- Operating cash flow nearly doubled, while investing activities used $126.1 million, principally because investment purchases exceeded sales and maturities.
- CNO repurchased approximately 2.9 million shares for $47.0 million and declared $16.1 million of common dividends, or $0.10 per share. Remaining repurchase authorization was $237.6 million.
- The company adopted the new lease standard, recognizing approximately $72 million of right-of-use assets and lease liabilities at January 1, 2019, with no retained-earnings adjustment. Adoption of the callable-debt premium amortization standard reduced retained earnings by $3.1 million.
Guidance, outlook, commentary and risks
- Management expects 2019 free cash flow before incremental statutory capital to be $300 million to $350 million, with approximately $30 million to $50 million needed to support growth.
- Management expects Bankers Life Medicare supplement benefit ratios of 73% to 77%, long-term-care interest-adjusted benefit ratios of 74% to 79%, and Washington National supplemental-health interest-adjusted benefit ratios of 55% to 58% during the remainder of 2019.
- Colonial Penn is expected to generate 2019 earnings before realized investment gains and income taxes of $12 million to $20 million. Long-term care in run-off is expected to produce approximately breakeven normalized earnings over the long term, although quarterly results may be volatile.
- Management believes existing holding-company cash, operating cash flows and other sources will be sufficient for debt service and corporate needs, but cash flows depend on insurance subsidiary dividends, regulatory approvals, investment markets and operating performance.
- Key risks include sustained low interest rates, investment losses and impairments, mortality and morbidity experience, health-care utilization, reserve adequacy, reinsurance counterparty performance, regulatory restrictions on dividends and rate increases, litigation, tax-asset recoverability, debt covenant compliance, ratings downgrades and liquidity constraints.
- CNO carried $3.14 billion of federal net operating loss carryforwards and a $193.7 million valuation allowance against deferred tax assets. Failure to generate projected taxable income or an ownership change under Section 382 could reduce utilization of these tax assets.
- Legal matters include disputes involving Beechwood Re and Platinum-related entities. Management does not currently believe pending matters are probable of having a material effect after recorded provisions, but acknowledges that adverse outcomes could materially affect results and cash flows.
- On April 29, 2019, after the reporting date, CNO acquired Web Benefits Design Corporation for approximately $66 million, plus a potential earn-out, funded with holding-company cash.
Investor verification points
- Reconcile reported GAAP net income with net operating income and operating earnings, particularly the impact of embedded-derivative fair-value changes and investment gains.
- Assess the sustainability of Bankers Life annuity growth and the effect of lower investment yields and alternative-investment returns on margins.
- Review long-term-care reserve adequacy, reinsurance recoverables and the financial condition of reinsurers, including the Beechwood Re litigation and liquidation proceedings.
- Verify holding-company liquidity, expected subsidiary dividends, debt maturities and the availability of the revolving credit facility.
- Monitor the investment portfolio, including $3.59 billion of fixed maturities with unrealized losses, $2.21 billion of below-investment-grade fixed maturities, and $1.24 billion of investments held by consolidated VIEs.
- Evaluate the assumptions supporting the $193.7 million deferred-tax valuation allowance and the company’s ability to use its federal NOLs.
- Confirm the terms, funding and subsequent accounting for the Web Benefits Design acquisition.