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Why Principal’s Retirement Insurance May Be Its Best Asset

April 14, 2014 | About:
Patricio Kehoe

Patricio Kehoe

7 followers

Last week Principal Financial Group Inc. (PFG) announced its newest deal with private benefits company Liazon Corp., through which the firm will offer employer-sponsored group benefit plans to small and medium businesses. While the company already sells ancillary benefit plans, this deal will now also include dental, life insurance, disability insurance and critical illness coverage in an attempt to stay on top of the insurance industry. As an industry leader, Principal has over $466 billion in assets under management and 19 million customers, fragmented among small and medium-size businesses. Furthermore, its solid fourth quarter results have encouraged investment gurus like Paul Tudor Jones (Trades, Portfolio) and Steven Cohen (Trades, Portfolio) to recently acquire large amounts of the company’s shares. So, let’s see what this insurer has in store for the future.

Broadening Horizons

Although Principal’s core business is in life insurance, the company has been pursuing a more diverse growth strategy lately, and is now focused on expanding its position in the retirement service and asset management segment. With almost 30,700 pension plans covering over 3.4 million customers, this business’ growth rate has not only boosted overall profitability, marked by a 31% annual increase in operating earnings for fiscal 2013, but also helped offset the headwinds of low interest rates and volatility in the emerging markets. In fact, the fourth quarter showed a 65% boost in premium and fee income for the segmenta , consequence of the rollout of total retirement suite products.

Moreover, Principal’s emphasis on retirement products and its use of capital salesforce for distribution has added on to the natural switching cost advantage in the insurance industry. Since plan sponsors provided with pension assets rarely switch providers, the company will likely benefit in the long term from its persistency, as seen in the quarterly 9% bump in recurring deposits.

On another note, Principal’s fee-based business model, in addition to its investment in technology, is favourable as it is both scalable and capital-light, allowing the company to efficiently cater to the needs of its clients in highly fragmented markets. Furthermore, the firm has replicated this model in its international segment, which reported a 17% increase in earnings during the fourth quarter, in Brazil, Chile and China. Its strategy of partnering with local banks has also enabled the firm to expand its service offerings, now ranging from record-keeping to money-managing services for small and medium-sized businesses. Thus, I’m bullish that growth in these key markets will continue to reap profits looking forward.

Stable Long-Term Growth

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Looking forward, Principal is set to continue its profitable trail, by gaining market share in the pension segment and expanding its business model in emerging markets. While annual revenue growth for fiscal 2013 was slow, marking a 3% rate, the company’s strategic acquisitions overseas are expected to increase this metric to a 5% CAGR until 2018. Moreover, the current 9.83% net margin is expected to expand to an average 12.6% for the years to come, while returns on equity grow from 9.42% to an average 13%.

I also remain impressed by Principal’s 14.8% EPS growth, jumping from 2012’s $1.95 to a current $2.95. With a 2.38% dividend yield above the industry average of 2.08% and the stock trading at 13.6x trailing earnings below the industry median of 14.0x, I believe investors stand to benefit from a long term shareholder position in this insurer.

Disclosure: Patricio Kehoe holds no position in any stocks mentioned.

About the author:

Patricio Kehoe
A fundamental analyst at Lone Tree Analytics

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