Voya Financial, Inc. — Q2 2016 Form 10-Q
Business context and reporting period
Unaudited results cover the quarter and six months ended June 30, 2016; comparisons are with the corresponding 2015 periods. Voya provides retirement, investment management, life, employee-benefit and annuity products. Results are reported across five ongoing business segments, Corporate and closed-block businesses. Amounts below are in millions of dollars unless stated otherwise.
Financial performance and position
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Total revenues | $2,696.0 | $2,968.1 | $5,705.3 | $5,572.5 |
| Income before tax | $153.1 | $486.2 | $394.4 | $747.5 |
| Net income | $136.0 | $367.1 | $328.3 | $582.8 |
| Net income available to common shareholders | $161.5 | $285.2 | $353.1 | $474.8 |
| Diluted EPS | $0.79 | $1.24 | $1.71 | $2.02 |
| Operating earnings before tax (non-GAAP) | $235.1 | $262.5 | $404.9 | $552.1 |
| Operating revenues (non-GAAP) | $2,242.4 | $2,136.5 | $4,667.7 | $4,297.7 |
Net income available to common shareholders exceeds consolidated net income because the company reported losses attributable to noncontrolling interests of $25.5 million for Q2 and $24.8 million for the first half. The effective tax rates were 11.1% for Q2 and 16.8% for the first half, versus 24.5% and 22.0% in 2015; the filing cites the dividends-received deduction and noncontrolling interests.
- Revenue mix: Q2 net investment income rose 6% to $1,175.2, premiums rose 7% to $711.6, and fee income fell 5% to $826.7. First-half premiums increased to $1,678.4 from $1,276.0, while fee income declined to $1,652.5 from $1,772.2.
- Cash flow: First-half operating cash flow was $1,658.7, versus $1,483.2 in 2015; investing used $590.2 versus $1,676.8; financing provided $218.5 versus $158.2. Cash and cash equivalents ended at $3,799.7, up from $2,512.7 at year-end 2015.
- Balance sheet and liquidity: Total assets were $217,065.4 and total shareholders’ equity $16,365.6 at June 30. Investment assets totaled $95,639.2. These insurance-company balance-sheet measures do not yield a conventional current ratio; cash held by subsidiaries is not necessarily freely available to the parent.
- Debt: Long-term debt was $3,547.5, versus $3,459.8 at year-end. There were no short-term debt borrowings and no revolving-credit borrowings; $30.7 of letters of credit were outstanding under the senior facility. The company reported compliance with debt covenants.
- Shareholder returns: Voya repurchased $337.0 of shares in open-market transactions in the first half and prepaid $150.0 under a repurchase arrangement to settle in Q3. Including that arrangement, $233.3 remained under the authorization at June 30. First-half dividends paid were $4.1.
Material changes versus the prior comparable period
- Q2 common-shareholder earnings fell 43% and first-half earnings fell 26%; diluted EPS declined to $0.79 and $1.71, respectively. Reported pretax income was weighed down by closed-block variable-annuity hedge volatility and debt-extinguishment losses.
- Operating earnings before tax, management’s non-GAAP measure, fell 10% in Q2 and 27% in the first half. Management attributed weakness chiefly to lower alternative investment income, low-rate reinvestment pressure, lower fee income, legal expenses and Strategic Investment Program costs. Q2 operating revenues increased, but operating earnings declined.
- Q2 interest expense rose to $149.7 from $56.6, including debt-extinguishment losses. Voya issued $500.0 of 3.65% notes due 2026 and $300.0 of 4.8% notes due 2046, using proceeds in part to repurchase existing debt. The company recorded $87.5 of losses on extinguishment of senior notes and $15.3 in Q2 on Aetna notes.
- First-half other comprehensive income after tax was $2,014.8, compared with a $994.5 loss in 2015, mainly reflecting unrealized securities gains. Accumulated other comprehensive income rose to $3,439.7 from $1,424.9 at year-end.
- Adoption of consolidation guidance deconsolidated 10 CLOs and 19 limited partnerships from January 1, reducing reported investment-entity assets by about $7.5 billion, liabilities by about $5.9 billion and noncontrolling interest by about $1.6 billion. The company said adoption did not affect net income available to common shareholders.
- Total AUM and AUA declined to $465.8 billion from $484.3 billion at June 2015. Ongoing-business AUM and AUA were $426.5 billion versus $441.0 billion.
Management commentary, outlook, risks and unusual items
- Rates and outlook: Management said low rates can constrain product demand and profitability, compress spreads as lower-yielding new investments replace maturing assets, and raise guarantee costs. The general-account portfolio yield was approximately 5.0%; management expected reinvested fixed-income proceeds in the remainder of 2016 to earn 3.25%–3.75%. In a modeled scenario of an immediate fall in the 10-year Treasury yield to 1.0%, held through 2019, management estimated ongoing-segment operating earnings before tax would be 2%–9% lower annually than its baseline, with a cumulative 65–70 RBC-percentage-point reduction in new capital generation over 2017–2019. These are scenario estimates, not formal earnings guidance.
- Closed-block annuities and hedging: Q2 CBVA pretax income fell to $56.5 from $180.5; first-half income was $102.5 versus $151.1. Market-driven guarantee hedge losses were partly offset by gains from changes in nonperformance risk. Management emphasized that hedging is designed primarily to protect regulatory and rating-agency capital, not to eliminate GAAP earnings volatility. Subsequent to quarter-end, Voya added interest-rate floors and modified its capital hedge overlay.
- Segment trends: Q2 operating earnings rose in Retirement ($140.5 versus $128.4), Annuities ($72.6 versus $61.0) and Individual Life ($50.3 versus $37.7), but declined in Investment Management ($31.8 versus $47.0) and Employee Benefits ($32.3 versus $37.7). Corporate’s operating loss widened to $94.3 from $53.3, principally from Strategic Investment Program and legal costs. First-half operating earnings declined in all segments except Individual Life.
- Investment and valuation risks: The fixed-maturity portfolio had $377.5 of gross unrealized losses at June 30, down from $1,578.1 at year-end, principally as interest rates fell. The portfolio included $6.7 billion in energy-sector fixed maturities, 86.3% investment grade. Exposures to guarantee derivatives and certain fair-value estimates rely on policyholder-behavior and other unobservable assumptions; market changes, lapses, mortality, volatility and basis risk can produce materially different results.
- Alternative investments: First-half ongoing-business alternative investment income was a loss of $38.5, versus income of $32.8 in 2015. Carried-interest reversals were $30.2 in the first half; $26.9 of previously accrued carried interest remained subject to possible future reversal if fund performance hurdles are not maintained.
- Legal contingencies: Management estimated aggregate reasonably possible losses above accrued amounts of up to approximately $75.0 at June 30; some matters could not be estimated. The company stated an adverse outcome could affect results or cash flows in a particular period. It also disclosed litigation judgments under appeal, including $36.8 awarded to plaintiffs and a separate $12.5 judgment for Fireman’s Fund.
- Capital access and distributions: Insurance-subsidiary dividends are subject to regulatory limits and approvals. One Minnesota subsidiary had negative earned surplus and could not make ordinary dividends without regulatory approval. Ratings downgrades could raise funding costs, collateral needs, surrenders or liquidity pressure. A two-notch downgrade of insurance-subsidiary financial-strength ratings was estimated to add $25.4 in reinsurance collateral requirements; derivative collateral needs also could increase.
- Other commitments: Off-balance-sheet investment commitments included $505.1 to acquire mortgage loans and $1,660.4 to purchase limited partnerships and private placements. The company disclosed $1.9 billion of credit facilities utilized, with $3.2 billion of unused commitment shown in its facility table. Consolidated investment-entity assets are not available to Voya’s general creditors.
Important facts for investors to verify
- Reconcile GAAP net income, common-shareholder income and management’s non-GAAP operating earnings, including the substantial CBVA and debt-extinguishment effects.
- Review the performance and capital implications of low interest rates, reinvestment yields, guarantee liabilities and Voya’s hedge programs; compare modeled sensitivities with subsequent results.
- Track alternative investment and carried-interest reversals, and determine whether fund performance recovers or triggers further reversals.
- Assess credit quality, unrealized losses, energy and commercial-real-estate exposure, valuation assumptions, and the effect of interest-rate or credit-spread changes.
- Monitor parent-company liquidity, subsidiary dividend capacity, ratings, collateral requirements, credit-facility usage and the timing and cost of debt refinancing and share repurchases.
- Follow material litigation and regulatory developments, including the appeals and the disclosed reasonably possible loss range.