Genworth Financial, Inc. — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017. Unaudited results are compared with the corresponding 2016 periods. Amounts are in U.S. dollars; financial-statement amounts are in millions unless otherwise stated. Genworth operates mortgage insurance businesses in the U.S., Canada and Australia, U.S. life insurance businesses, and a Runoff segment.
Financial results and position
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Total revenues | $2,223 | $2,236 | $4,394 | $4,021 |
| Income from continuing operations before tax | $401 | $351 | $733 | $501 |
| Income from continuing operations | $271 | $241 | $487 | $368 |
| Net income available to Genworth common stockholders | $202 | $172 | $357 | $225 |
| Diluted GAAP earnings per share | $0.40 | $0.34 | $0.71 | $0.45 |
| Adjusted operating income available to common stockholders | $151 | $123 | $294 | $226 |
- Revenue and earnings: Q2 revenue was nearly flat year over year; common-stockholder net income rose 17%. First-half revenue rose 9% and common-stockholder net income rose 59%. The filing attributes much of the first-half premium increase to comparison with a 2016 life reinsurance transaction; the 2017 result also benefited from higher investment gains and lower expenses.
- Investment gains and taxes: Net investment gains were $101 million in Q2 and $135 million in the first half, versus $30 million and $11 million, respectively, in 2016. Effective tax rates were 32.5% for Q2 and 33.6% for the first half, compared with 31.3% and 26.5% in 2016.
- Cash flow: First-half operating cash flow was $1.308 billion, compared with $1.066 billion in 2016. Investing activities used $523 million versus $1.284 billion; financing activities used $755 million versus $2.348 billion. Cash and cash equivalents ended June at $2.853 billion, up $69 million from year-end.
- Balance sheet and debt: Total assets were $105.016 billion and total equity $14.996 billion at June 30. Long-term borrowings were $4.205 billion, non-recourse funding obligations $310 million, and securitization borrowings $63 million. Long-term borrowings were $4.180 billion at year-end 2016. Consolidated cash is not all freely available to the holding company.
- Liquidity constraints: Genworth Holdings held $758 million of cash and cash equivalents, including about $45 million of restricted assets; it also held $100 million of U.S. government securities. The company targets holding-company liquidity of at least 1.5 times expected annual debt interest plus $350 million. Insurance subsidiaries’ net assets are restricted; approximately $12.9 billion at Genworth Financial subsidiaries was restricted at June 30. The company suspended common-stock dividends and repurchases indefinitely.
Material changes and segment performance
- Mortgage insurance: Q2 adjusted operating income was $91 million for U.S. Mortgage Insurance, $41 million for Canada, and $12 million for Australia, versus $61 million, $38 million, and $15 million, respectively, in Q2 2016. U.S. and Canadian results benefited from lower claims and favorable reserve development. Australia faced higher delinquencies and aging-related claim pressure on a first-half basis.
- U.S. Mortgage Insurance’s Q2 loss ratio fell to 2% from 24%, including an $15 million favorable reserve adjustment; Canada’s fell to 4% from 20%. Australia’s Q2 loss ratio was 34%, versus 36%, and management expected its full-year 2017 loss ratio to exceed the 2016 level of 34%. Management expected Canada’s full-year 2017 loss ratio to be consistent with or moderately below 2016’s 22%.
- U.S. mortgage insurance new insurance written declined 14% in Q2 year over year. U.S. risk-to-capital was approximately 13.1:1, below the 25:1 regulatory maximum; estimated PMIERs assets were about 122% of requirements. Canada’s new insurance written fell 81% in Q2, largely reflecting regulatory changes and lower bulk activity; its regulatory MCT ratio was approximately 167%, above the 150% supervisory target.
- U.S. Life Insurance: First-half adjusted operating income declined to $92 million from $146 million. Q2 adjusted operating income was $39 million, down from $55 million. Long-term care results faced higher claim severity and reserve needs; life insurance was affected by unfavorable mortality and term-policy lapses; fixed annuities improved relative to a prior-year charge.
- Runoff and Corporate: First-half adjusted operating income was $25 million for Runoff versus $10 million, helped by equity-market performance. Corporate and Other’s adjusted operating loss narrowed to $89 million from $157 million, mainly due to prior-year litigation, debt and restructuring costs that did not recur.
Outlook, management commentary and key risks
- China Oceanwide transaction: The proposed all-cash acquisition is valued at approximately $2.7 billion, or $5.43 per share. Shareholders approved the merger in March, but required U.S., Chinese and other regulatory approvals remained outstanding. The parties had withdrawn and refiled their CFIUS notice in July. On August 1 they announced an agreement in principle to extend the August 31 termination date to November 30, but definitive extension documents had not been signed as of the filing. Genworth targeted completion in Q4 2017; completion was not assured.
- If completed, China Oceanwide committed to contribute $600 million toward the 2018 debt maturity and $525 million to U.S. life businesses, in addition to $175 million previously committed by Genworth Holdings. Without the transaction or alternative capital, management warned of pressure on ratings, liquidity, debt refinancing and the feasibility of restructuring; asset sales, potentially including mortgage insurance operations, may be required.
- U.S. life restructuring and long-term care: Internal reinsurance transactions aligned most life and annuity business under GLAIC and long-term care under GLIC. July 2017 transactions were expected to reduce GLIC’s risk-based capital ratio by 15–20 points in Q3 and would be unwound if the merger is terminated. Management continued to pursue long-term care premium increases and benefit changes. In the first half, 36 state approvals represented a weighted-average 29% increase on about $184 million of annualized in-force premiums; 46 additional filings covered about $240 million.
- Long-term care remains exposed to claims, reserve assumptions, policy terminations and state approval of rate increases. New York required GLICNY to add $58 million of statutory reserves in Q2 and the company expected about $178 million of additional statutory reserves over 18 months. The Penn Treaty liquidation led to $21 million of accrued guaranty fund assessments in Q1. Management noted future reserve and DAC changes could materially affect results.
- Low interest rates pressure life and annuity profitability and contributed to fixed immediate annuity premium deficiencies. Market, credit, foreign-exchange and counterparty risks also affect the investment portfolio and derivatives. The filing reports $62.799 billion of available-for-sale securities at fair value, with $253 million of gross unrealized losses; management said it did not intend or expect to be required to sell securities in loss positions before recovery.
- Legal matters: A securities class action settlement for $20 million, inclusive of fees and costs, had received preliminary court approval; final approval was scheduled for November 15, 2017. Other litigation and regulatory matters remain, and the filing says outcomes and potential losses generally cannot be estimated clearly.
- Guidance: The filing does not provide consolidated earnings guidance. Management’s stated outlook includes the segment loss-ratio expectations above and a Q4 2017 target for the proposed transaction, subject to approvals and extension of the merger termination date.
Investor verification priorities
- Confirm whether the merger termination date was formally extended, whether regulatory approvals were obtained, and whether the transaction closed on the stated terms.
- Track the $600 million debt-maturity commitment, the $525 million U.S. life capital commitment, the May 2018 debt maturity, and Genworth Holdings’ actual accessible liquidity.
- Review long-term care claim-reserve assumptions, statutory reserve additions, state rate approvals and the planned GLIC/GLAIC separation; assess the effect on statutory capital and ratings.
- Separate recurring operating performance from investment gains, favorable reserve development, prior-year transaction comparisons and other non-GAAP adjustments.
- Monitor mortgage-insurance capital sufficiency, delinquency trends, Canadian regulatory changes, Australian customer concentration and regional claim pressure, and any litigation or regulatory developments.