Aflac Reports $629M Profit, Upgrades Full-year Outlook
Friday, October 28th, 2016
Aflac Incorporated reported its third quarter results.
Reflecting the stronger yen/dollar exchange rate, total revenues increased 13.4% to $5.7 billion during the third quarter of 2016, compared with $5.0 billion in the third quarter of 2015. Net earnings were $629 million, or $1.53 per diluted share, compared with $567 million, or $1.32 per share, a year ago.
Net earnings in the third quarter of 2016 included $25 million, or $.06 per diluted share, of after-tax net realized investment losses from securities transactions and impairments, compared with net after-tax losses of $72 million, or $.16 per diluted share, a year ago. Hedging costs related to certain dollar investments of Aflac Japan on an after-tax basis were $122 million in the quarter, or $.30 per diluted share. Realized after-tax net investment gains from other derivative and hedging activities in the quarter were $40 million, or $.10 per diluted share. In addition, net earnings included an after-tax loss of $12 million, or $.03 per diluted share, from other and nonrecurring items.
Aflac believes that an analysis of operating earnings, a non-GAAP financial measure, is vitally important to an understanding of the company's underlying profitability drivers. Aflac defines operating earnings as the profits derived from operations, inclusive of interest cash flows associated with notes payable, but before realized investment gains and losses from securities transactions, impairments, and derivative and hedging activities, as well as other and nonrecurring items. Aflac's derivative activities are primarily used to hedge foreign exchange and interest rate risk in the company's investment portfolio as well as manage foreign exchange risk in certain notes payable and forecasted cash flows denominated in yen. Management uses operating earnings to evaluate the financial performance of Aflac's insurance operations because realized gains and losses from securities transactions, impairments, and derivative and hedging activities, as well as other and nonrecurring items, tend to be driven by general economic conditions and events or related to infrequent activities not directly associated with the company's insurance operations, and therefore may obscure the underlying fundamentals and trends in Aflac's insurance operations. Due to the unpredictable and uncontrollable nature of these reconciling items, the company does not calculate a GAAP equivalent of its forward-looking operating earnings guidance.
Furthermore, because a significant portion of Aflac's business is in Japan, where the functional currency is the yen, the company believes it is equally important to understand the impact on operating earnings from translating yen into dollars. Aflac Japan's yen-denominated income statement is translated from yen into dollars using an average exchange rate for the reporting period, and the balance sheet is translated using the exchange rate at the end of the period. However, except for certain transactions such as profit repatriation, settlements of reinsurance retrocessions, and the Aflac Japan dollar investment program, the company does not actually convert yen into dollars. As a result, Aflac views foreign currency translation as a financial reporting issue rather than an economic event for the company or its shareholders. Because changes in exchange rates distort the growth rates of operations, readers of Aflac's financial statements are also encouraged to evaluate financial performance excluding the impact of foreign currency translation. The chart toward the end of this release presents a comparison of selected income statement items with and without foreign currency changes to illustrate the effect of currency.
The average yen/dollar exchange rate in the third quarter of 2016 was 102.37, or 19.3% stronger than the average rate of 122.15 in the third quarter of 2015. For the first nine months, the average exchange rate was 108.58, or 11.3% stronger than the rate of 120.81 a year ago. Aflac Japan's growth rates in dollar terms for the third quarter and first nine months were magnified as a result of the stronger yen/dollar exchange rate.
Operating earnings in the third quarter were $748 million, compared with $672 million in the third quarter of 2015. Operating earnings per diluted share in the quarter increased 16.7% from a year ago to $1.82. The stronger yen/dollar exchange rate increased operating earnings per diluted share by $.15 for the third quarter. Excluding the impact from the stronger yen, operating earnings per diluted share increased 7.1%.
Results for the first nine months of 2016 were also magnified by the stronger yen. Total revenues were up 6.8% to $16.6 billion, compared with $15.6 billion in the first nine months of 2015. Net earnings were $1.9 billion, or $4.59 per diluted share, compared with $1.8 billion, or $4.14 per diluted share, for the first nine months of 2015. Operating earnings for the first nine months of 2016 were $2.2 billion, or $5.25 per diluted share, compared with $2.0 billion, or $4.60 per diluted share, in 2015. Excluding the positive impact of $.26 per share from the stronger yen, operating earnings per diluted share increased 8.5% for the first nine months of 2016.
Total investments and cash at the end of September 2016 were $128.9 billion, compared with $126.0 billion at June 30, 2016.
In the third quarter, Aflac repurchased $200 million, or 2.7 million shares, of its common shares. For the first nine months of the year, the company repurchased $1.2 billion, or 18.8 million of its common shares. At the end of September, the company had 29.6 million shares available for purchase under its share repurchase authorizations.
Shareholders' equity was $22.8 billion, or $55.84 per share, at September 30, 2016, compared with $22.6 billion, or $54.98 per share, at June 30, 2016. Shareholders' equity at the end of the third quarter included a net unrealized gain on investment securities and derivatives of $6.1 billion, compared with a net unrealized gain of $6.4 billion at the end of June 2016. The annualized return on average shareholders' equity in the third quarter was 11.1%. On an operating basis (excluding total net realized investment gains/losses in net earnings, unrealized investment gains/losses, and derivative gains/losses in shareholders' equity), the annualized return on average shareholders' equity was 18.3% for the third quarter of 2016, or 15.1%, excluding the impact of the yen on operating earnings.
In yen terms, Aflac Japan's premium income, net of reinsurance, increased 1.1% in the third quarter. Net investment income decreased 8.6%, as the stronger yen/dollar exchange rate significantly impacted the reporting results of our dollar-denominated income, with approximately 46% of Aflac Japan's third quarter investment income dollar-denominated. Total revenues were down .5% in the third quarter. The pretax operating profit margin decreased in the third quarter to 20.7% from 21.9% in the prior year, reflecting the effect of the stronger yen and an increase in the benefit ratio in the quarter. Pretax operating earnings in yen decreased 6.4% on a reported basis and decreased .4% on a currency-neutral basis. For the first nine months of the year, net premium income in yen increased 1.0% and net investment income declined 5.2%. Total revenues in yen were unchanged, and pretax operating earnings were down 2.8%.
Aflac Japan's growth rates in dollar terms for the third quarter were magnified as a result of the significantly stronger yen/dollar exchange rate. Net premium income increased 20.6% to $3.6 billion in the third quarter. Net investment income was up 9.1% to $661 million. Total revenues increased 18.7% to $4.3 billion. Pretax operating earnings increased 11.7% to $882 million. For the first nine months, net premium income was $10.2 billion, or 12.6% higher than a year ago. Net investment income increased 5.6% to $1.9 billion. Total revenues were up 11.5% to $12.1 billion. Pretax operating earnings were $2.6 billion, or 8.2% higher than a year ago.
In the third quarter, total new annualized premium sales decreased 16.2% to ¥26.5 billion, or $259 million. Third sector sales, which include cancer and medical products, increased 2.5% in the quarter. Total first sector sales, which include products such as WAYS and child endowment, decreased 54.0% in the quarter.
For the first nine months of the year, new annualized premium sales were down 1.4% to ¥87.9 billion, or $809 million. Third sector sales increased 5.0% in the first nine months of the year.
In the third quarter, Aflac U.S. net premium income increased 1.4% to $1.4 billion. Net investment income was up 1.7% to $176 million. Total revenues increased 1.4% to $1.5 billion. Reflecting continued favorable claim trends, the pretax operating profit margin was 20.9%, compared with 18.8% a year ago. Pretax operating earnings were $323 million, an increase of 12.4% for the quarter. For the first nine months, total revenues were up 2.1% to $4.6 billion and net premium income rose 1.9% to $4.1 billion. Net investment income increased 3.7% to $526 million. Pretax operating earnings were $946 million, 9.5% higher than a year ago.
Aflac U.S. total new annualized premium sales decreased 1.8% in the quarter to $324 million. For the first nine months of the year, total new sales were up .9% to $999 million.
The board of directors announced a 4.9% increase in the quarterly cash dividend, effective with the fourth quarter payment. The fourth quarter dividend of $.43 per share is payable on December 1, 2016, to shareholders of record at the close of business on November 16, 2016.
Commenting on the company's third quarter results, Chairman and Chief Executive Officer Daniel P. Amos stated: "From a financial perspective, Aflac Japan generated solid results in the third quarter and for the first nine months. As you may recall, last month at our Tokyo Analysts Briefing, we upwardly revised our annual third sector sales expectations from a range of down 3% to up 2% to a range of flat to up 5%. We are very pleased with third sector sales results for the quarter and the first nine months of the year. Aflac Japan generated a third sector sales increase of 2.5% for the quarter and 5% year to date, reflecting strong results despite facing difficult comparisons. However, I would remind you that the fourth quarter presents difficult comparisons. Long-term, we continue to believe the compound annual growth rate for third sector sales will be in the range of 4% to 6%. Turning to first sector sales, we are encouraged by the significant progress we've made with our actions to limit sales of our first sector products, especially given the negative to low interest rate environment in Japan. First sector sales decreased 54% in the quarter, which puts us well on our way to achieving our goal of decreasing first sector sales at least 50% in the second half of the year.
"From a financial perspective, Aflac U.S. produced strong performance in the third quarter and for the first nine months. While sales in the quarter were disappointing, I believe the measures we've taken to strengthen our sales infrastructure are laying the groundwork for better sales opportunities in the future. I would also remind you that fourth quarter sales – and particularly the last three weeks of the year – significantly influence our annual sales results. Therefore, it becomes increasingly challenging to project full-year sales, even after the first nine months. Taking all these factors into consideration, we believe Aflac U.S. will require a particularly strong fourth quarter in order to meet the lower end of our 3% to 5% targeted increase for 2016.
"We remain committed to maintaining strong capital ratios on behalf of our policyholders. We believe our capital strength positions us to repatriate in the range of ¥120 to ¥150 billion for the calendar year 2016. We are on target to repurchase about $1.4 billion of our common stock in 2016, with $1.2 billion already repurchased during the first nine months.
"The board of directors' action to increase the dividend by 4.9% demonstrates our commitment to reward our shareholders. This marks the 34th consecutive year of increasing our cash dividend. Our objective is to grow the dividend at a rate generally in line with the increase in operating earnings per diluted share before the impact of foreign currency translation.
"Having completed the first nine months of the year, I am pleased with the company's overall results. We believe those results, combined with our outlook for the remainder of 2016, well-position Aflac for another year of solid financial performance. As we continue to focus on initiatives designed to drive future growth, our expectation is to increase spending in the fourth quarter, particularly related to promotional and IT initiatives. I am extremely pleased that we are upwardly revising our 2016 operating earnings per diluted share outlook from a range of $6.17 to $6.41 to a higher range of $6.40 to $6.60, both of which exclude the impact of the yen. If the yen averages ¥100 to ¥110 to the dollar for the fourth quarter, we would expect operating earnings, a non-GAAP measure, to be approximately $1.53 to $1.82 per diluted share in the fourth quarter, making full-year operating earnings per diluted share approximately $6.78 to $7.07 per diluted share."