Weekly Stock Call

July 20, 2010
Current Price – C$14.98


Manulife Financial Corporation (MFC) has been caught up in what has been termed “a perfect storm” for life insurance companies, but has come through with a stronger balance sheet and improved policies on risk management. The steep decline in equity markets in 2008, combined with near zero interest rates, contributed to drastic reductions in MFC’s net income in that year ($0.5B in 2008 vs. $4.3B in 2007) and its share price suffered accordingly. The reduction in profits can be principally attributed to $3.8B in charges from its equity exposure in a group of products known as “variable annuity guarantees”. The charges highlighted the company’s overexposure to these products, insufficient capitalization and inadequate hedging efforts. Subsequently, MFC has shored up capital reserves with new equity and restructured debt, and has taken a strategic decision to reduce it’s reliance on variable annuity products for revenue (premiums and deposits down from $18.5B in 2008 to $11.3B in 2009). While markets remain skittish, equities will likely recover eventually, interest rates will rise and MFC’s share price should see a stunning recovery. In the meantime, the company continues to pay a decent dividend (3.5% yield), make strategic acquisitions at discount prices and expand geographically.

Manulife Financial is a leading Canadian-based financial services group operating in 22 countries and territories and offering services in individual life insurance, group life and health insurance, long-term care services, pension products, annuities, mutual funds and banking products. The company has annual premiums and deposits of $71B and more than $439B under management.


Valuation

Based on a blend of valuation methods (discounted cash flows, dividend discount model and, historical and industry price ratios) I arrive at a current valuation for Manulife Financial Corporation of C$24.19.

Expected return should this price be realized in the markets within the next 12 months would be:

Price yield       61.5%
Dividend yield   3.5%
Total return     64.9%


Risks

Listed below are some of the immediate risks faced by the company. For a more complete discussion of risk, refer to the company’s annual report.

Regulation – It is likely that increased regulation and capital requirements will be forthcoming in the wake of the recent financial crisis that could, at least on a temporary basis, materially impact earnings.

Actuarial and Risk Management - As MFC is in the risk business, fundamental errors in actuarial calculations, asset allocation and diversification, and hedging activities could have material adverse impact on earnings.

Acquisitions – Frictions, discontinuities and unrealized synergies with companies acquired as part of MFC’s strategic growth plan could have material impact.  


The Numbers

Share Price ($CDN) 14.98 
Market Cap ($CDN B) 26.7 
No. Shares (M) 1,763 
ROE 13.3%
ROA 1.7%
P/E Ratio 6.9 
Price/Sales Ratio 0.6 
Price/Book 1.0 
Total Debt/Equity 0.24


Analyst – David Scollon

Disclosure - At publication of this analysis I hold no position in this security, but may take a long position in the future. I do not take short positions in any of the stocks reviewed on this site, nor do I receive any compensation from the companies studied for publication of my opinions.


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