Prudential Reiterated at Neutral - Analyst Blog

We are maintaining our Neutral recommendation on the shares of Prudential Financial Inc. ( PRU ) following the third quarter earnings release. The company lagged our estimates during the third quarter, due to higher one-time charges related to weak equity and interest markets.

However, we expect the company to get over these macroeconomic issues soon as it is actively working to make its business mix less sensitive to these external uncontrollable variables. Prudential has also been aligning its business by shedding its non-core operations. Also, we believe the company is better positioned compared with its peers, given its solid and growing international business.

Prudential, the second-biggest U.S. life insurance company has one of the best collections of businesses in this sector, with strong positions in high margin businesses and a significant diversification.

Prudential is set to benefit from the aging American population. The company will see a huge demand for retirement benefits products as baby boomers enter retirement. The U.S. Census Bureau projects that nearly 25% of the population will be 65 years or more by 2050. Prudential's vast distribution network, superior brand image and a long lived presence will give it a competitive edge vis-à-vis its peers.

Prudential also boasts of a strong international presence that provides it with better organic growth opportunities than its peers. Revenue from its international business (mainly consisting of Japan and Korea) accounted for approximately 40% of 2010 net income. Prudential has a strong footprint in Japan, with operations in the region for over thirty years.

About 85% of the total sales for the year 2010 in international insurance business came from Japan. Japan is a market that continues to present attractive opportunities for Prudential to successfully build protection products and increasingly address retirement needs. The acquisition of Star Edison, which closed on February 1, 2011, broadened its already strong position in the U.S.

The company is eyeing the fast growing Chinese life insurance market that has expanded at an average of 30% a year, over the past three decades. Since the insurance penetration is still far below the average levels in the Chinese market, the region offers attractive growth opportunities.

Prudential is also focusing on its core areas - Asset Management, Annuities and International business. It has eliminated other allied businesses such as Health care, property and casualty, retail brokerage, investment banking and commodities.

Recently, the company announced that it would sell its stake in a Mexican private pension-fund manager to Grupo Financiero Banorte SAB. Management expects to generate ROE of 13% to 14% by 2013 by doing away with less profitable businesses that have been dragging the overall return.

However, some of the headwinds facing Prudential include exposure to businesses which guarantee minimum return like annuities and universal life, will keep capital under strain. A low interest rate environment will increase the value of these liabilities which might lead to additional reserve accretion. Though the company has put its hedging and risk management strategies in place, these might prove insufficient, thereby negatively affecting the operating results.

Also, Prudential's investment portfolio remains a source of threat because of its exposure to commercial real estate, through CML and CMBS, hedge funds, partnerships etc. Moreover, the ongoing low interest rates will keep pressure on net investment income.

Nevertheless, Prudential has been successfully generating shareholders value by resorting to shareholder-friendly measures such as share repurchase and dividend payments. Recently, the company increased its annual dividend to $1.45 from $1.15 per share.

With enough excess capital, Prudential has the capacity to execute an accretive acquisition, leading to inorganic growth. We also think that the company is in a position to participate in the consolidation of the global life insurance and retirement market.

Prudential competes closely with MetLife Inc. ( MET ) and American International Group Inc. ( AIG ). The stock retains a Zacks #3 Rank, which translates into a short-term 'Hold rating.

AMER INTL GRP ( AIG ): Free Stock Analysis Report

METLIFE INC ( MET ): Free Stock Analysis Report

PRUDENTIAL FINL ( PRU ): Free Stock Analysis Report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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