CNO Financial Group, Inc. — Q1 2014 Form 10-Q Summary
Business context and reporting period
CNO 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 services, distributed through career agents, independent producers and direct marketing. This unaudited report covers the three months ended March 31, 2014, compared with the three months ended March 31, 2013.
Financial performance and condition
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Total revenues | $1,084.7 million | $1,142.6 million | Down 5.1% |
| Insurance policy income | $685.9 million | $691.2 million | Down 0.8% |
| Net investment income | $369.0 million | $429.6 million | Down 14.1% |
| Income before taxes | $(169.6) million | $34.6 million | Declined $204.2 million |
| Net income (loss) | $(228.0) million | $11.9 million | Declined $239.9 million |
| Diluted EPS | $(1.03) | $0.05 | Declined $1.08 |
| Pre-tax operating earnings | $92.0 million | $71.3 million | Up 29.0% |
| Net operating income | $59.9 million | $45.6 million | Up 31.4% |
| Operating cash flow | $(480.3) million | $114.6 million | Primarily affected by a $590.3 million reinsurance payment |
GAAP net margin was approximately negative 21.0% in Q1 2014 versus approximately 1.0% in Q1 2013. The reported loss was dominated by the $278.6 million pre-tax loss on the planned sale of Conseco Life Insurance Company (CLIC), together with related tax effects and a $19.4 million increase in the deferred-tax valuation allowance.
- Bankers Life pre-tax operating earnings increased to $84.2 million from $62.1 million, supported by lower benefits and amortization and growth in the in-force block.
- Washington National pre-tax operating earnings decreased to $31.1 million from $34.0 million, while Colonial Penn reported a $6.2 million operating loss compared with a $5.4 million loss.
- Premium collections increased at Bankers Life to $600.0 million from $590.2 million and at Colonial Penn to $61.0 million from $57.2 million; Washington National collections were essentially flat at $154.7 million.
- Bankers Life's long-term-care benefit ratio increased to 131.9% from 129.4%; its interest-adjusted benefit ratio improved to 81.0% from 81.7%. Management expected approximately 79% for 2014.
- At March 31, 2014, total assets were $34.5 billion, shareholders' equity was $4.7 billion and unrestricted cash was $285.4 million, compared with $699.0 million at December 31, 2013.
- Accumulated other comprehensive income increased to $766.2 million from $731.8 million, primarily reflecting investment unrealized gains.
- Fixed maturities available for sale had a fair value of $20.1 billion, including $2.5 billion of below-investment-grade securities. Gross unrealized losses were $76.3 million.
Material changes versus the prior comparable period
- CNO entered into an agreement on March 2, 2014 to sell CLIC to Wilton Re for expected cash proceeds of approximately $220 million, subject to adjustment. The transaction was expected to close by mid-year 2014, subject to regulatory approvals and other conditions.
- CLIC was classified as held for sale. Its assets totaled $4.35 billion and liabilities totaled $4.12 billion at March 31, 2014. The sale generated a $278.6 million pre-tax estimated loss and an estimated $298.0 million net loss after tax.
- The company completed a $590.3 million payment to transfer certain long-term-care business under reinsurance arrangements entered into in December 2013. This payment was the primary reason operating cash flow was negative.
- Management discontinued the Other CNO Business segment beginning January 1, 2014, reallocated continuing CLIC overhead to operating segments and revised prior-period segment disclosures.
- Net realized investment gains increased to $23.4 million from $15.3 million, but included $11.9 million of impairment losses, including a $3.9 million commercial mortgage-loan writedown and $8.0 million related to legacy private-company investments.
- Q1 2013 included a $57.7 million pre-tax loss on extinguishment of debt; no comparable charge occurred in Q1 2014.
- The company repurchased 2.2 million shares for $41.0 million and paid $13.3 million of dividends. The quarterly dividend was increased to $0.06 per share from $0.03.
Debt, liquidity, outlook and risks
- Direct corporate obligations were $844.1 million at March 31, 2014, consisting primarily of $569.0 million under the Senior Secured Credit Agreement and $275.0 million of 6.375% senior secured notes. No revolving-credit borrowings were outstanding.
- Scheduled principal repayments on direct corporate obligations totaled $847.5 million through and after 2021, including $377.1 million due in the year ending March 31, 2019 and $275.0 million thereafter.
- Debt covenants were satisfied: debt-to-total-capitalization was 17.8% versus a 27.5% maximum, interest coverage was 8.56x versus a 2.50x minimum, and the insurance subsidiaries' aggregate risk-based-capital ratio was 427% versus a 250% minimum.
- The planned CLIC sale was expected to require mandatory debt prepayment from net proceeds exceeding $125 million. Completion was not assured and depended on regulatory approvals and customary closing conditions.
- Management expected 2014 securities repurchases of approximately $225 million to $300 million, absent compelling alternatives. The filing states that existing holding-company resources and expected cash flows were believed sufficient for obligations, but no assurance was provided.
- Management expected approximately 70% for Bankers Life Medicare supplement benefit ratios, approximately 79% for Bankers Life long-term-care interest-adjusted benefit ratios, approximately 52% for Washington National supplemental-health interest-adjusted benefit ratios and an approximately $5 million 2014 loss for Colonial Penn before investment gains and taxes.
- Key risks include low interest rates, investment impairments and valuation changes, mortality and morbidity experience, long-term-care claims and persistency, regulatory approval of rate increases and dividends, tax-asset recoverability, debt covenant compliance, litigation and regulatory examinations, and failure to complete the CLIC sale.
- The company reported effective disclosure controls and no material changes to internal control over financial reporting. It stated that no material changes had occurred in previously disclosed risk factors.
Important facts for investors to verify
- Whether the CLIC sale closed on expected terms, the final purchase price and the final gain or loss, including any required debt prepayment.
- The sustainability of positive operating earnings after excluding the CLIC disposition, investment gains and other unusual items.
- Long-term-care claims, persistency, rate-increase approvals and the adequacy of related reserves.
- Future operating cash flow after the one-time reinsurance payment and the availability of holding-company liquidity for debt service, dividends and repurchases.
- Performance, credit quality and impairment exposure in the $20.1 billion fixed-maturity portfolio, including below-investment-grade and structured securities.
- Realization of $891.4 million of recognized net deferred-tax assets and the outcome of the IRS dispute over the character of the CSHI loss and related NOLs.
- Regulatory approvals for extraordinary dividends and the effect of insurance-subsidiary capital requirements on upstream cash flows.