Prudential Looks Oversold As International Expansion Provides Upside Potential
Prudential Financial's ( PRU ) stock has fallen by nearly 10% since the company reported a net loss of net loss of $593 million for the third quarter of 2012 in early November. Keeping in mind that the top-line was mostly influenced by a $1.3 billion pre-tax net realized investment loss which included a loss of $684 million from derivatives and hedging activities, a currency fluctuation driven $521 million loss and impairments and credit losses of $107 million, we believe that the correction was overdone. Our price estimate of $56 for Prudential's stock implies a premium of nearly 10% to the current market price. Below we take a look at some factors influencing our valuation for the company.
Business As Usual
Despite what the headlines read, Prudential actually had a solid third quarter with a 50% year-on-year increase in premium income, complemented by a 28% increase in policy fees. For the first nine months of 2012, premium income increased by around 30% over the same period in 2011.
Prudential primarily earns income from its international operations in Japan, Taiwan, Italy, Korea, Brazil, Argentina, Poland and Mexico under the name "Pramerica". The international insurance division accounts for a third of the company's $50 billion revenues. Japan is currently the biggest bread-winner for Prudential, accounting for 56% of the net premiums, policy charges and fee income (see Prudential To Expand Its Asian Reach With Japan As The Fulcrum for more details).
Prudential acquired Star Life Insurance Co., Ltd. and Edison Life Insurance Company from AIG ( AIG ) last year, expanding its market share, in terms of new business face amount, in the country from 7.3 to 10.4%. In the third quarter, the popularity of the Single Premium Yen-based whole life bank channel product led to a 20% increase in sales.
The company recently launched a life insurance joint venture - Pramerica Fosun Life Insurance Company Ltd. - with Chinese conglomerate Fosun International Limited. This seems like a wise move: insurance penetration in China measured in terms of premium income as a share of GDP is below 4%. In comparison, the insurance penetration in a mature market like the U.K. is around 14%. Coupled with the country's vast population of over 1 billion, this presents significant potential for future growth. For more details see our article Prudential Financial Ready To Enter China.
India also presents a huge opportunity for growth. The Indian government has increased the limit for foreign direct investment in insurance from 26% to 49%. The Union Cabinet recently approved the proposal, and the bill is being taken up by the country's Parliament. Life insurance penetration in India is around 4.4%. The country's population is second only to China and its economy has performed well despite the economic uncertainty in the U.S. and Europe. Given these conditions, we believe it is only a matter of time before Prudential looks to expand its joint venture with DLF Group, DLF Pramerica Life Insurance Company Ltd. (DPLI).
We expect a steady increase in Prudential's share of the international market on the back of expansion in emerging markets like India and China and its reputation in more mature markets like Japan.
Verizon A Done Deal
Group insurance is Prudential's second biggest insurance division, accounting for about 10% of the company's net revenues. The insurer recently completed a pension risk transfer agreement with Verizon ( VZ ), covering approximately 41,000 members of Verizon's pension plan and about $7.5 billion in pension liabilities. The agreement follows the $29 billion deal with General Motors ( GM ) earlier this year. We expect more companies to follow the example set by the two and transfer obligations to insurers. The Russell 1000 Index of large U.S. companies revealed a $435 billion gap between pension liabilities and assets leaving a big hole for insurance companies to fill.
Individual Life Helped By Hartford
Prudential is also expected to complete $615 million reinsurance deal with Hartford Financial Services Group ( HIG ) in early 2013 whereby the later will transfer more than 700,000 life policies investment assets with a statutory book value of around $7 billion, reserved for future claims on these policies to Prudential. See our article How Does Prudential's Acquisition Of Hartford's Life Insurance Business Affect Both Companies? for more details.
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