Genworth Financial, Inc. — Q2 2011 Form 10-Q
Reporting period: Three and six months ended June 30, 2011; comparative periods ended June 30, 2010. Unaudited consolidated financial statements. Genworth operates Retirement and Protection, International, and U.S. Mortgage Insurance segments, plus Corporate and Other.
Financial performance
Amounts below are in millions of U.S. dollars, except per-share data.
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Total revenue | $2,655 | $2,410 | $5,223 | $4,831 |
| Income (loss) before taxes | $(66) | $72 | $80 | $191 |
| Net income (loss) | $(60) | $77 | $56 | $289 |
| Net income (loss) available to common stockholders | $(96) | $42 | $(14) | $220 |
| GAAP diluted EPS | $(0.20) | $0.08 | $(0.03) | $0.45 |
| Net cash from operating activities | — | $842 | $557 |
- Q2 revenue rose 10%, but benefits and expenses increased 16% to $2,721, principally reflecting higher policy-reserve costs. Six-month revenue rose 8%, while expenses rose 11% to $5,143.
- Net investment income increased to $881 in Q2 and $1,711 for the half year. Weighted-average investment yields were 5.1% and 5.0%, respectively, versus 4.8% and 4.6% in 2010. Net investment losses narrowed to $40 in Q2 and $68 for six months, compared with $139 and $209.
- Net other-than-temporary impairments were $26 in Q2 and $62 for six months, down from $51 and $131 in the comparable 2010 periods.
- Net operating income (loss) available to common stockholders, a non-GAAP measure, was $(74) in Q2 versus $118, and $24 for six months versus $232. It excludes after-tax investment gains and losses and certain unusual items.
- Segment net operating income (loss), Q2 / six months: Retirement and Protection $149 / $276 (prior year $114 / $236); International $107 / $231 (prior year $105 / $196); U.S. Mortgage Insurance $(253) / $(334) (prior year $(40) / $(76)); Corporate and Other $(77) / $(149) (prior year $(61) / $(124).
- At June 30, total assets were $112.3 billion, total liabilities $96.8 billion, and total stockholders’ equity $15.6 billion. Cash and cash equivalents were $2.831 billion, down from $3.132 billion at year-end 2010. Accumulated other comprehensive income was $2.062 billion, up from $1.492 billion, largely reflecting unrealized investment gains and currency translation.
- Balance-sheet borrowings included $4.755 billion of long-term borrowings, $3.374 billion of non-recourse funding obligations, and $452 million of securitization-related borrowings. The company had access to $1.9 billion under revolving facilities, with no borrowings outstanding and $279 million used mainly for letters of credit.
- Six-month cash flows: operating activities provided $842 million; investing activities used $6 million; financing activities used $1.169 billion. Cash declined by $301 million after exchange-rate effects.
Material changes and notable items
- U.S. mortgage insurance reserves: Q2 reserve strengthening of $299 million followed lower cure rates and aging delinquencies. Management attributed approximately $102 million to worsening recent experience and approximately $197 million to its expectation of further deterioration and continued housing-market weakness. Prior-year reserve strengthening totaled $494 million for the first half, including $382 million in U.S. mortgage insurance and $144 million in long-term care.
- U.S. Mortgage Insurance reported a Q2 net operating loss of $253 million versus $40 million a year earlier; its Q2 loss ratio rose to 369% from 141%. Primary U.S. mortgage delinquencies were 87,464, or 11.71%, at June 30, down from 95,395, or 12.21%, at December 31, 2010. The filing also states GEMICO exceeded the 25:1 maximum risk-to-capital requirement and continued writing in certain states under waivers or other arrangements.
- Long-term care reserve pressure reflected higher claim severity and duration, particularly in older policies. Long-term care net operating income fell to $31 million in Q2 from $47 million and to $71 million for six months from $87 million.
- In June, Genworth agreed to sell its Medicare supplement business for $290 million cash, subject to customary capital adjustments; closing was expected in Q4 2011, with a realized gain anticipated. The sale had not closed by the filing date.
- Financing actions included issuing $400 million of 7.625% senior notes due 2021, repaying ¥57.0 billion of senior notes at maturity, and issuing AUD$140 million of subsidiary subordinated floating-rate notes due 2021. Genworth also redeemed the remaining Series A preferred shares for $57 million and repurchased $57 million of non-recourse notes, recognizing a $17 million pretax gain.
- Genworth Canada repurchased shares for CAD$160 million; a wholly owned subsidiary tendered shares and received CAD$90 million, retaining approximately 57.5% ownership. A separate proposed transfer of Genworth Canada shares, estimated at $375 million, to support U.S. mortgage insurance statutory capital remained under regulatory review.
Outlook, management commentary, and risks
- The filing provides no consolidated earnings guidance. Management expected lower life and long-term care sales in the second half of 2011. It expected further U.S. home-price declines during 2011 and elevated U.S. unemployment for an extended period.
- Management expected Australian mortgage insurance loss pressures to persist through the rest of 2011, with possible moderation in 2012. It described European conditions as slow-growth and uncertain, while noting improving profitability in lifestyle protection insurance from lower claims and repricing.
- Management said investment-market improvement continued in the first half, but cited European sovereign-debt concerns, U.S. debt-ceiling uncertainty, wider credit spreads late in Q2, and continuing housing-market stress. It stated that portfolio securities in unrealized loss positions were expected to recover amortized cost and that the company did not intend, and was not more likely than not required, to sell them before recovery; it also warned worse collateral or issuer performance could lead to future write-downs.
- Key risks include uncertain insurance reserve estimates, U.S. mortgage delinquencies and cure rates, long-term care claims, credit and investment losses, interest rates, foreign exchange, counterparty and reinsurance performance, regulatory capital restrictions, and ratings downgrades. After the July 20 reserve announcement, S&P lowered financial strength ratings of GEMICO and GRMIC-NC to BB- from BB+.
- Genworth received a June 22 subpoena from the New York Attorney General concerning an industry-wide unclaimed-property and escheatment investigation; it said it was cooperating. The filing says litigation outcomes and possible loss ranges could not be reasonably predicted. Management reported disclosure controls were effective and no material change in internal control over financial reporting.
Most important facts for investors to verify
- Whether U.S. mortgage insurance cure rates, delinquency aging, claim severity, and reserve development stabilize or require additional strengthening.
- Whether statutory-capital waivers and alternative underwriting entities preserve U.S. mortgage insurance capacity, and the completion and terms of the proposed capital transaction involving Genworth Canada shares.
- Long-term care claims trends, the timing and effectiveness of approved in-force rate increases, and the Medicare supplement sale’s closing, capital adjustment, and realized gain.
- Cash and holding-company liquidity, subsidiary dividend capacity, debt maturities and refinancing costs, and continued access to revolving facilities and capital markets.
- Performance and valuation of mortgage-backed and other structured securities, including Level 3 positions, and the effect of currency and market movements on earnings and equity.
- Developments in the New York escheatment inquiry and other litigation or regulatory matters; the filing does not provide a clear estimate of potential losses.