CNO Financial Group, Inc. quarterly report, Q3 FY2022

CNO Financial Group, Inc. — 2022 Q3 Form 10-Q Summary

Business context and reporting period

CNO is a holding company for U.S. insurance businesses serving primarily middle-income pre-retirees and retirees through health, annuity, individual life and related products. Distribution channels include exclusive and independent agents, direct marketing, consumer channels and worksite sales. This unaudited Form 10-Q covers the three and nine months ended September 30, 2022, with comparisons to the corresponding 2021 periods.

Key financial metrics

Metric	Q3 2022	Q3 2021	9M 2022	9M 2021
Total revenues	$905.3 million	$968.3 million	$2,603.2 million	$3,047.4 million
Income before taxes	$137.2 million	$128.0 million	$461.9 million	$419.6 million
Net income	$105.0 million	$99.8 million	$353.4 million	$325.2 million
Diluted EPS	$0.91	$0.77	$2.99	$2.44
Net operating income	$56.9 million	$92.8 million	$208.1 million	$257.1 million
Operating earnings before taxes	$74.3 million	$119.3 million	$272.0 million	$331.8 million
Operating cash flow	Not separately provided for quarter	Not separately provided for quarter	$334.5 million	$479.0 million

GAAP net income increased despite lower revenues and lower operating earnings, primarily because higher interest rates reduced the fair value of fixed-index annuity embedded derivative liabilities, producing a $236.5 million pretax benefit in the first nine months. Net operating income, which excludes significant market-related and other non-operating items, declined materially.

Total insurance product margin was $207.3 million in Q3 and $603.8 million for the first nine months, down from $223.6 million and $659.9 million, respectively, in 2021.
Q3 insurance margins were $39.8 million for annuities, $124.1 million for health and $43.4 million for life. Nine-month margins were $121.5 million, $362.3 million and $120.0 million, respectively.
Collected premiums from annuity and interest-sensitive life products increased 10% in Q3 and 15% for the first nine months, to $426.6 million and $1.343 billion, respectively.
At September 30, 2022, total assets were $33.0 billion, total liabilities were $31.7 billion and shareholders’ equity was $1.298 billion, compared with $5.260 billion at December 31, 2021.
Accumulated other comprehensive loss was $2.166 billion at September 30, versus accumulated other comprehensive income of $1.947 billion at year-end 2021, primarily reflecting investment market losses.
Unrestricted cash was $498.0 million; cash including amounts held by variable interest entities was $553.5 million at September 30.

Material changes versus prior comparable periods

Revenue declined 6.5% in Q3 and 14.6% for the first nine months. The decline primarily reflected market-related changes in policyholder and special-purpose portfolios and lower investment gains.
Net investment income from policyholder and other special-purpose portfolios changed from income of $18.7 million in Q3 2021 to a loss of $20.9 million in Q3 2022, and from income of $171.3 million to a loss of $184.0 million for the first nine months.
Total investment losses were $17.7 million in Q3 and $99.2 million for the first nine months, compared with losses of $2.3 million and gains of $26.2 million, respectively, in 2021. The 2022 nine-month amount included a $46.9 million increase in allowances for credit losses.
Other comprehensive loss was $1.001 billion in Q3 and $4.113 billion for the first nine months, driven largely by unrealized investment losses as interest rates rose and credit spreads widened.
Annuity margin declined by $12.7 million in Q3 and $54.9 million for the first nine months, primarily due to market volatility affecting fixed-index annuities. Health margin increased in Q3 but was approximately flat for the first nine months. Life margin declined in Q3 and was flat year to date.
Allocated expenses increased 7.1% in Q3 and 5.7% for the first nine months, reflecting continued investment in growth initiatives. Fee segment earnings declined to $1.4 million in Q3 and $14.5 million year to date.
The company repurchased 7.2 million shares for $170.0 million in the first nine months and declared $48.7 million of dividends. The quarterly dividend increased to $0.14 per share from $0.13.

Debt, liquidity and capital

Direct corporate obligations were $1.138 billion, consisting primarily of $500 million of senior notes due 2025, $500 million due 2029 and $150 million of subordinated debentures due 2060.
There were no borrowings under the $250 million revolving credit facility, and no scheduled direct corporate debt maturities occur before May 2025.
FHLB investment borrowings were $1.640 billion, collateralized by investments with an estimated fair value of $2.1 billion. Borrowings related to variable interest entities were $1.115 billion.
Holding company liquidity was $162.3 million, above the $150 million minimum target. First-nine-month free cash flow was $132 million.
Estimated consolidated statutory RBC was 375%, equal to the company’s target and above its 350% minimum risk-appetite threshold. Insurance subsidiaries paid $109.6 million of dividends to CDOC during the first nine months, subject to applicable regulatory limitations.
Corporate debt to total capital was 46.7% on a GAAP basis, but 24.7% excluding accumulated other comprehensive income or loss.

Guidance, outlook, risks and unusual items

Management expected continued positive sales momentum in the fourth quarter, continued but lower net favorable COVID-19 effects on insurance margins, slightly higher investment income allocated to products and lower unallocated investment income due to alternative-investment yields.
Fourth-quarter fee earnings were expected to benefit seasonally from Medicare annual enrollment and employer benefit enrollments. Expenses were expected to remain higher as the company invests in growth while pursuing operating efficiencies.
Management expected 2022 free cash flow to be below the $380 million generated in 2021 because of moderating alternative-investment yields, tapering COVID-19 benefits, capital strain from new business and the prior reduction of capital and excess liquidity.
Market volatility had reduced fixed-index annuity margin by approximately $48 million in the first nine months. Continued volatility was expected to have directionally similar adverse effects.
COVID-19 created mixed effects: unfavorable mortality for life products and favorable claims experience in health products. Management cautioned that favorable health and long-term-care claim impacts may not continue.
The company expected to adopt the long-duration insurance accounting standard in the first quarter of 2023. Preliminary estimates indicated a $1.8 billion to $2.2 billion decrease to accumulated other comprehensive income or loss and a $100 million to $200 million decrease to retained earnings at transition; estimates remained subject to change.
Investment exposure remains significant. Fixed maturities available for sale had a fair value of $20.3 billion, including $3.183 billion of gross unrealized losses; 96% of the portfolio by fair value was investment grade under NAIC designations 1 and 2.
Other risks include interest-rate and credit-spread volatility, future realized investment losses, insurance mortality and morbidity, long-term-care claims, reinsurance counterparty risk, regulatory restrictions on dividends, litigation, tax matters, cybersecurity and the recoverability of deferred tax assets.
The IRS was examining the company’s 2016–2018 tax returns. Several material legal proceedings remained pending, although management did not believe existing matters were probable of having a material adverse effect based on information available at the filing date.

Important facts for investors to verify

Whether the large unrealized investment losses and accumulated other comprehensive loss stabilize or lead to realized losses, capital pressure or changes in insurance-company liquidity.
The sustainability of favorable COVID-19-related health and long-term-care claims experience and the effect of mortality trends on life margins.
The final impact, transition adjustments and implementation controls for the long-duration insurance accounting standard in the first quarter of 2023.
Whether market volatility continues to reduce fixed-index annuity margins and whether higher rates provide offsetting benefits through derivative liability remeasurement.
The ability of insurance subsidiaries to maintain a 375% RBC target and upstream dividends sufficient to support holding company liquidity, debt service, dividends and repurchases.
Changes in investment credit-loss allowances, below-investment-grade exposures, VIE performance and the company’s $358.1 million of unfunded commitments to limited partnerships and hedge funds.
The outcome of pending litigation, regulatory matters and tax examinations, including any effect on capital, liquidity or future earnings.