Prudential Financial, Inc. — 2012 Form 10-K
Reporting period: Fiscal year ended December 31, 2012; filed February 22, 2013. The filing is an annual report, not a standalone fourth-quarter filing. Prudential is a global insurer and asset manager with approximately $1.060 trillion in assets under management. Its reporting separates the Financial Services Businesses from the Closed Block Business, but the businesses are not legally separate.
Key financial results
| Metric | 2012 | 2011 |
|---|---|---|
| Total revenue | $84.815 billion | $49.030 billion |
| Income from continuing operations before tax and equity in joint-venture earnings | $676 million | $4.909 billion |
| Net income attributable to Prudential Financial | $469 million | $3.566 billion |
| Diluted EPS, Common Stock | $0.94 | $6.99 |
| Operating cash flow | $20.909 billion | $12.377 billion |
| Cash and cash equivalents, year-end | $18.100 billion | $14.251 billion |
| Total assets / total equity, year-end | $709.298 billion / $39.291 billion | $620.244 billion / $34.841 billion |
| Short- and long-term debt, year-end | $27.213 billion | $26.958 billion |
Net cash provided by operating activities was $20.9 billion; investing activities used $15.4 billion and financing activities used $1.3 billion. Cash increased $3.849 billion during the year. Prudential reported $398.654 billion of general-account investments and $253.254 billion of separate-account assets at year-end. No consolidated operating margin is highlighted here because the business mix and large pass-through insurance transactions make simple revenue margins less informative.
Material changes and unusual items
- Revenue rose sharply, principally because two pension risk-transfer transactions generated approximately $32 billion of premiums. Those premiums were largely offset by related policyholder benefits and reserve increases; the transactions expanded the Retirement segment.
- GAAP earnings fell substantially despite Financial Services Businesses pre-tax adjusted operating income increasing to $3.949 billion from $3.836 billion. Adjusted operating income is a company-defined, non-GAAP segment measure and is not a substitute for GAAP results.
- A major driver of the earnings decline was a $2.377 billion unfavorable pre-tax currency translation effect on economically matched non-yen assets and liabilities in Japanese operations. The accounting mismatch affected earnings while much of the offset was recorded in accumulated other comprehensive income (AOCI). Prudential also reported a $1.684 billion net realized investment loss in the Financial Services Businesses, versus a $1.986 billion gain in 2011.
- Variable-annuity embedded derivatives and related hedges produced a $962 million net loss after related DAC and other-cost effects in 2012, compared with a $1.424 billion net gain in 2011. These marks can create substantial GAAP volatility.
- Long-term-care results included a $639 million pre-tax reserve and acquisition-cost charge, driven by revised interest-rate and morbidity assumptions, partly offset by anticipated premium increases. Prudential stopped selling individual long-term-care products in March 2012 and group products in August 2012.
- Prudential recorded $170 million of aggregate pre-tax out-of-period adjustments in 2012. The filing says management considered the adjustments not material to previously reported periods or the current year.
- Results reflect retrospective accounting changes for acquisition-cost deferrals and pension accounting; historical comparisons were revised. The acquisition-cost change reduced previously reported December 2011 equity by $3.0 billion in total and does not affect cash flows.
Segments, outlook and risks
- Financial Services Businesses adjusted operating income before tax was $3.949 billion. International Insurance increased to $2.704 billion from $2.263 billion; Individual Annuities rose to $1.039 billion from $662 million. Asset Management declined to $503 million from $782 million; Individual Life declined to $384 million from $482 million; Group Insurance fell to $16 million from $163 million. Corporate and Other recorded a $1.335 billion adjusted operating loss.
- Management gave strategic priorities, not a specific 2013 earnings forecast: pursue retirement-income and pension-risk-transfer opportunities, grow U.S. insurance through distribution, and expand in selected international markets. It expected low U.S. interest rates to continue pressuring portfolio yields. Under a stated hypothetical scenario, the company estimated a $51 million adverse effect on domestic net interest margins in 2013 and $154 million in 2014 from reinvestment on certain guaranteed-rate contracts.
- Prudential was under consideration by the Financial Stability Oversight Council for possible designation as a systemically important non-bank financial company. The outcome and any resulting capital, liquidity, stress-testing or supervisory requirements were uncertain.
- Material risks include prolonged low rates, market declines and volatility, variable-annuity guarantee and hedging risk, reserve and policyholder-behavior assumptions, investment and counterparty losses, yen and other foreign-exchange movements, ratings changes, regulatory changes, and limits on subsidiary dividends to the holding company.
- Litigation and regulatory matters include unclaimed-property/escheatment and retained-asset-account disputes, securities-related claims, and other proceedings. The estimated range of reasonably possible losses in excess of accruals, where estimable, was $0 to approximately $225 million; the company cautioned that outcomes are uncertain.
- Capital and liquidity indicators: domestic life-insurer RBC ratios exceeded regulatory minimums; Prudential Insurance and PALAC each reported RBC above 400%. Prudential Financial held $8.563 billion in cash and short-term investments at the parent level and had $3.75 billion of committed credit facilities with no borrowings outstanding at year-end. These resources do not remove legal-entity and regulatory constraints on moving funds among subsidiaries.
- Common Stock dividends were $1.60 per share for 2012, up from $1.45; the board announced a $0.40 quarterly dividend for first-quarter 2013. Prudential repurchased $650 million of Common Stock during 2012. Future distributions remain subject to board decisions, capital needs and regulatory restrictions.
Important facts for investors to verify
- How much of the 2012 revenue increase and future business growth is attributable to the pension risk-transfer transactions, and what are their associated margins, capital demands and risk profile?
- How sensitive are earnings, AOCI, statutory capital and liquidity to yen movements and to changes in interest rates, equity markets and variable-annuity policyholder behavior?
- What is the underlying trend in adjusted operating income by segment, and how does management reconcile that non-GAAP measure to GAAP earnings?
- Will anticipated long-term-care premium increases receive regulatory approval, and could further reserve charges result?
- What will be the outcome of potential systemic designation, escheatment matters and other litigation, and how might these affect capital, liquidity or shareholder distributions?
- How much parent-company liquidity is available after debt service, planned capital contributions, dividends and subsidiary dividend restrictions?
- Review the full audited statements and notes for reserve assumptions, derivative exposures, debt maturities, guarantees and the effects of retrospective accounting changes. The auditor issued an unqualified opinion and reported effective internal control over financial reporting as of December 31, 2012.