Prudential Financial, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; balance-sheet comparisons are to December 31, 2016. U.S. GAAP results are unaudited. Prudential provides insurance, annuity, retirement, asset-management and related financial services in the U.S. and internationally.
Key financial metrics
Amounts in dollars are in millions unless otherwise noted.
| Metric | Q1 2017 | Q1 2016 or prior date |
|---|---|---|
| Total revenue | $13,670 | $14,329 |
| Net income attributable to Prudential Financial | $1,369 | $1,336 |
| Diluted earnings per share | $3.09 | $2.93 |
| Dividends declared per common share | $0.75 | $0.70 |
| Adjusted operating income before tax, management measure | $1,660 | $1,325 |
| Operating cash flow | $1,646 | $6,327 |
| Cash and cash equivalents, quarter-end | $13,308 | $14,127 at Dec. 31, 2016 |
| Total assets / total equity, quarter-end | $797,365 / $46,974 | $783,962 / $46,088 at Dec. 31, 2016 |
| Short- and long-term debt, consolidated | $19,308 | $19,174 at Dec. 31, 2016 |
| Total investments, quarter-end | $450,887 | $444,240 at Dec. 31, 2016 |
GAAP net margin was approximately 10.0% in Q1 2017, calculated as attributable net income divided by revenue. This ratio is affected by investment gains and losses and should not be read as a normalized operating margin.
Material changes and operating results
- Revenue fell about 4.6% year over year, while attributable net income rose about 2.5%. Net investment income increased to $4,061 from $3,670, but net realized investment gains declined to $427 from $1,881. The prior-year comparison included substantial derivative gains.
- Management’s adjusted operating income before tax increased to $1,660 from $1,325. By segment, results improved in Individual Annuities ($468 vs. $328), Retirement ($397 vs. $219), Asset Management ($196 vs. $165), Group Insurance ($34 vs. $26) and International Insurance ($799 vs. $779); Individual Life was slightly lower ($118 vs. $120). Corporate and Other losses widened to $352 from $312.
- Management attributed the overall net-income increase to a favorable comparison from changes in interest-rate risk management, better segment operating results and Closed Block results. These were partly offset by less favorable changes in variable-annuity embedded derivatives and hedges, and lower realized gains. Adjusted operating income is a non-GAAP management measure, not a substitute for GAAP earnings.
- Operating cash flow decreased to $1,646 from $6,327. Investing activities used $3,011, financing activities provided $430, and cash declined by $819 during the quarter.
- Prudential repurchased 2.9 million shares for a reported total cost of $312 and declared $327 of common-stock dividends. The 2017 repurchase authorization was up to $1.25 billion; $937.5 million remained available at March 31.
Liquidity, debt and capital
- Parent-company highly liquid assets were $4,692 at quarter-end, including net intercompany liquidity-account borrowings; excluding those borrowings, they were $4,020. The parent’s stated minimum liquidity target is $1.3 billion.
- No amounts were drawn on committed credit facilities at March 31. Debt covenants were reported in compliance. Consolidated borrowings increased $134 from year-end.
- Management reported $43.8 billion of capital, including equity excluding AOCI and capital debt, and said it was consistent with ratings targets. The latest reported statutory RBC ratios were as of December 31, 2016: 457% for Prudential Insurance, 867% for PALAC and 527% for the composite major U.S. insurance subsidiaries. International solvency margin ratios were 841% for Prudential of Japan and 967% for Gibraltar Life.
- Separate-account assets and liabilities were each $293,805; these are customer-related balances and are not equivalent to unrestricted company liquidity.
Outlook, risks and unusual items
- Low interest rates: Management expected reinvestment yields to remain below portfolio yields, pressuring future yields. For specified U.S. adjustable-crediting-rate contracts, a hypothetical 10-year Treasury rate of 2.45% through 2018 implied an estimated pre-tax adjusted-operating-income impact of negative $11 in 2017 and negative $49 in 2018 versus reinvestment at current average portfolio yields. A separate hypothetical 25-basis-point reduction in 2017 new-money yields in Japanese and Korean operations implied a negative $10–$15 impact on 2017 adjusted operating income. These are scenarios, not formal earnings guidance, and exclude stated potential offsets and other factors.
- Management cited asset-liability management, hedging, product repricing and product design as mitigants to low-rate and market risks. It also highlighted exposure to interest rates, equity markets, currency movements, credit losses, policyholder behavior and reserve assumptions. The filing reported no material change in economic market-risk exposure since year-end 2016.
- Q1 included approximately $82 of accelerated long-term compensation expense due to a plan change: $27 in Corporate and Other and $55 in business segments. A $21 tax benefit arose from adopting share-based payment accounting guidance.
- Variable-annuity guarantees and related hedges are sensitive to market movements and assumptions; the associated Level 3 future-policy-benefit liability was $7.6 billion. Management stated that the fixed-income instruments and derivative assets in the relevant entities exceeded the economic liability managed under its ALM strategy at March 31.
- Reasonably possible litigation and regulatory losses in excess of established accruals were estimated at less than $250, for matters where an estimate could be made. Management said outcomes are uncertain and could affect results or, in some cases, financial position. Securities-lending indemnifications totaled $5,816, supported by collateral valued at $5,943; the related accrued liability was zero and management considered payment remote.
- Regulatory developments included a DOL fiduciary-rule applicability delay to June 9, 2017 and a transition period through January 1, 2018. The filing provides no clear companywide earnings or revenue guidance. Management reported disclosure controls effective and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Reconcile GAAP earnings with adjusted operating income and assess the unusually large year-over-year changes in derivative and embedded-derivative results.
- Review the full segment discussion, including Individual Annuities risk management, Retirement reserve experience and International Insurance currency effects.
- Test the low-interest-rate scenarios against current assumptions, guaranteed minimum crediting rates, product repricing and actual reinvestment yields.
- Confirm the latest insurance-subsidiary statutory capital and solvency data; the ratios cited here are year-end 2016 figures, not March 2017 measures.
- Review debt, captive reserve-financing arrangements, dividend restrictions, securities-lending exposures and the status and potential range of litigation and regulatory matters.