We are reiterating our Neutral recommendation on the shares of Prudential Financial Inc.(PRU).
Prudential has one of the best collections of businesses in the U.S. life insurance sector, with strong positions in high margin businesses and a significant diversification. Despite the recent drag on revenues (for the past couple of years) owing to the economic slump, the company has consistently increased its revenues over the past several quarters. A right mix of business and strong fundamentals have helped it garner market share from weakened competitors. Prudential is poised to improve its earnings faster than its peers in the upcoming years.
Prudential has a strong international presence that provides it with better organic growth opportunities than its peers. It has a strong footprint in Japan, with operations in the region for over thirty years. Japan accounted for about 85% of the total 2010 sales in international insurance. The Japanese market continues to present attractive opportunities for Prudential to succeed in protection products and increasingly address retirement needs. The acquisition of Star Edison, which closed on February 1, 2011, broadens the company’s distribution, increases the scale of its operations, and expands the client base by roughly 50%. Management anticipates this acquisition to be accretive to ROE and EPS based on the value of the in-force acquired and the expense synergies expected to be achieved after the integration. Prudential would be the largest foreign life insurance company in Japan based on in-force life insurance. Management expects the acquisition to catapult the group’s ROE to above 12% in 2012 and above 15% in 2015. A successful track record of integrating acquisitions in Japan further mitigates integration and execution risks.
However, we maintain a cautious near-term outlook for Prudential’s U.S. insurance business given the weak economy and high competition. We expect modest overall production from business in the next few quarters. The Individual Life business within the U.S.insurance business will likely witness weak sales primarily due to price increases implemented over the past year. A weak economy will also keep sales under pressure. In the Group Insurance business, we expect near-term results to be held back by high unemployment, limited wage inflation and intense competition. Although the current environment is challenging, we forecast Prudential to generate mid to high-single digit growth in its group insurance business over time.
Additionally, Prudential’s investment portfolio remains a source of threat because of the sizeable exposure to commercial real estate through commercial mortgage loans and commercial mortgage backed securities, hedge funds, partnerships etc.
However, Prudential has substantial financial flexibility, with balance sheet capital of approximately $1.8 billion to $2.3 billion at 2010 end. It expects excess capital of $1 billion in 2011. We think the company is in a position to participate in the consolidation of the global life insurance and retirement market. With so much cash available for transactions, Prudential seems to have the capacity to execute an accretive acquisition, leading to inorganic growth.
Newark, New Jersey-based Prudential competes with American International Group, Inc. (AIG) and MetLife,Inc. (MET).
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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