Genworth Financial, Inc. — Q2 2013 Form 10-Q
Reporting period: Three and six months ended June 30, 2013. Unless otherwise stated, amounts are in millions of dollars. The filing is unaudited.
Business context and reporting period
Genworth operates U.S. life insurance, international and U.S. mortgage insurance, international protection, and runoff businesses. On April 1, 2013, it completed a holding-company reorganization: the new public parent, Genworth Financial, Inc., became the successor issuer, while Genworth Holdings became its subsidiary. The U.S. mortgage insurance businesses were distributed to the new parent, and New Genworth guaranteed Genworth Holdings’ senior and subordinated notes. Genworth Holdings contributed $100 million to U.S. mortgage insurance subsidiaries as part of a capital plan.
The wealth management business was classified as discontinued operations after an agreement to sell it for approximately $412 million. Closing was expected in Q3 2013, subject to customary conditions and regulatory approvals. Prior periods were re-presented; the reorganization and discontinued-operations treatment affect comparisons.
Financial performance and position
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Total revenue | $2,371 | $2,402 | $4,674 | $4,717 |
| Income from continuing operations before tax | $247 | $109 | $484 | $191 |
| Net income | $180 | $109 | $321 | $188 |
| Net income available to common stockholders | $141 | $76 | $244 | $122 |
| Diluted GAAP EPS | $0.28 | $0.16 | $0.49 | $0.25 |
| Net operating income (non-GAAP) | $133 | $67 | $284 | $84 |
Q2 and first-half revenue declined about 1% year over year, while common-stockholder net income rose 86% in Q2 and doubled for the first half. Management attributed improvement primarily to lower U.S. mortgage insurance losses; first-half results also benefited from lower international mortgage insurance losses and favorable variable-annuity market effects. Net operating income excludes items including investment gains and losses, discontinued operations and unusual items; it is not a substitute for GAAP income.
- Cash flow: First-half net cash from operating activities was $646, versus $220 in 2012; investing activities provided $718, versus using $106; financing activities used $1,262, versus $725. Continuing-operations cash and cash equivalents were $3,613 at June 30, compared with $3,632 at year-end 2012.
- Balance sheet: Total assets were $107,576, down from $113,312 at December 31, 2012. Total liabilities were $91,674, down from $95,531; total stockholders’ equity was $15,902, down from $17,781. Equity fell mainly as accumulated other comprehensive income declined with lower unrealized investment gains, hedge values and foreign-currency translation.
- Debt: Long-term borrowings were $4,720; non-recourse funding obligations were $2,054; securitization-related borrowings were $317. No long-term debt maturities were due before $490 million of Genworth Holdings notes in June 2014. Genworth Holdings held $856 of cash and cash equivalents and $150 of highly liquid securities at June 30.
- Investment income and impairments: Net investment income was $821 in Q2 and $1,635 for the first half, down 3% and 3%, respectively. Annualized weighted-average investment yield was 4.8% in Q2 and 4.7% for the first half, each 0.1 percentage point below the comparable 2012 period. First-half net other-than-temporary impairments were $17, compared with $56.
- Comprehensive income: Total comprehensive loss was $1,581 in Q2 and $1,845 for the first half, reflecting substantial other comprehensive losses despite positive net income.
Material changes versus prior periods
- U.S. mortgage insurance reported net operating income of $13 in Q2 versus a $25 loss, and $34 for the first half versus a $69 loss. The segment’s loss ratio improved to 70% in Q2 and 66% for the first half, from 127% and 136%. U.S. mortgage delinquencies declined to 9.18% at June 30 from 10.99% a year earlier, although the delinquency rate on bulk loans rose to 6.52% from 3.86%.
- International mortgage insurance first-half net operating income increased to $170 from $83, largely because an $82 million Australian reserve strengthening in Q1 2012 did not recur and claims were lower. Total international primary insurance in-force fell 3% year over year to $583 billion; new insurance written fell 12% to $35.1 billion.
- U.S. Life Insurance first-half net operating income increased to $164 from $128. Long-term care insurance first-half sales fell 23% to $83 million; life insurance sales fell 73%, and fixed annuity sales fell 53%, with management citing product actions and low interest rates.
- International Protection first-half net operating income was $7 versus $8; revenue declined 5% to $407, mainly due to lower European consumer lending and runoff clients. Runoff first-half net operating income declined to $22 from $29, with volatile investment and variable-annuity results.
Outlook, management commentary, risks and unusual items
- U.S. mortgage insurance outlook: Management expected modest profitability in 2013 and improvement in 2014, but warned that seasonality could produce a marginal net loss in the second half of 2013. The outlook depends on housing-market recovery, loss trends, litigation costs and other factors. GEMICO’s risk-to-capital ratio was approximately 23.8:1 at June 30, below the 25:1 regulatory maximum, versus 36.9:1 at year-end 2012. Regulatory waivers and GSE approvals are revocable.
- Capital and restructuring: The June expense-reduction plan eliminated approximately 400 positions, including 150 open roles, and targeted $80–$90 million in annual pre-tax savings when fully implemented. The company recorded a $20 million pre-tax charge ($13 million after tax) and cautioned that savings and timing are not assured.
- Long-term care: Management continued pursuing in-force premium increases and product changes. Its stated target was $200–$300 million in additional annual premiums when the current rate-action round is fully implemented, subject to approvals. By June 30, 25 states had approved increases representing approximately $115–$120 million of that target. Approval timing and amounts vary by state.
- Mortgage insurance capital plan and Australia: Genworth said a potential sale of up to 40% of its Australian mortgage insurance business remained a key goal; an IPO was not expected before Q4 2013 and could be delayed. S&P maintained an AA- rating with a negative outlook, while Moody’s had lowered the Australian subsidiary’s rating to A3. S&P indicated ratings could be reviewed if a partial IPO were not completed within the next year.
- Market and investment risks: June market volatility and rising interest rates reduced the fair value of investments and hedges. Management cited continued low yields, spread volatility, credit and real-estate risks, foreign-exchange movements and potential future investment write-downs.
- Legal and regulatory matters: GEMICO paid approximately $4 million to settle the CFPB’s review of captive reinsurance arrangements and agreed to a 10-year restriction on entering into or revising certain arrangements and violating RESPA. Related private lawsuits remain; the filing says outcomes and possible losses cannot be estimated, and no amounts were accrued. Separate Bank of America/Countrywide arbitrations concerning mortgage insurance claims handling remained in settlement discussions.
- Other unusual items: The wealth management sale was expected to produce an additional after-tax loss of up to $10 million at closing. The filing also describes ongoing litigation, regulatory inquiries, rating sensitivity, statutory capital requirements and uncertainty around the pace of the company’s turnaround.
Important facts for investors to verify
- Whether the wealth management sale closed, its final proceeds and any loss at closing.
- Whether U.S. mortgage insurance remains below required risk-to-capital limits and retains state waivers and GSE approvals; monitor delinquency, reserve and loss-mitigation trends.
- Progress on the Australian mortgage insurance minority sale or IPO, and resulting rating or capital effects.
- Actual delivery and timing of the expense plan’s $80–$90 million annual savings compared with restructuring costs and any effects on key personnel.
- State approvals and realized premium benefits from long-term care rate increases, alongside claim severity, persistency and loss ratios.
- Developments in captive-reinsurance litigation and the Bank of America/Countrywide arbitrations, for which potential losses were not estimable in the filing.
- Parent-company liquidity, subsidiary dividend capacity and the June 2014 $490 million note maturity; common dividends remained suspended.