Unum Group Needs to Earn Investors' Trust - Barron's

Disability insurer Unum Group (UNM) claims its troubles are in the past, and has reported a profit for two years in a row. But Barron's Jonathan R. Laing strikes a note of caution, warning investors might be better off letting Unum prove itself for a couple more years before jumping in.

In 2005, Unum reached a costly settlement with 49 states over allegations that it unfairly terminated or denied coverage to disabled clients. The company also faced a profit-hit from significantly underpriced policies sold to doctors, lawyers and other professionals. Those policies are now being phased out and claims reserves have been bulked up.

With these two issues behind it, a stock price around $10 per share vs. book value of $19 per share and company forecasts of 2009 EPS of $2.44-$2.55, investors might be tempted to dive into the stock. But if past performance is any guidance, there could be unfortunate surprises in store and even recent profit gains may be not be as straightforward as they appear.

Unum has a history of alarming setbacks. Several times in the past it has reported large losses as a result of having to take massive reserve charges after several years of apparently illusory earnings growth. These blow-ups happened in 1999, 2003 and 2004, and annual losses reached up to $386B.

One area of potential concern is Unum's reserves for future claims. The insurer may be overly optimistic in this area. The company has a reserve account called Incurred But Not Reported [IBNR]; it holds money meant to cover claims that past experience tells insurers they will face even though the claims haven't yet been filed. Over the past six years, Unum has lowered this account from 6.3% of total reserve to 4.9% last year, giving profits a hefty boost along the way. Company officials attribute the decline to positive factors, including improved claims-management efficiencies and a better selection and mix of insurance risks. They also say the money went into reserves for actual claims. But the bottom line remains the same: without the IBNR money, earnings would have been directly penalized.

There are other signs of accounting maneuvers to improve earnings. The company sets aside money for when customers fail to pay premiums - but in 2006 and 2007, Unum tapped that reserve to send $16.5M and $4.5M straight to profit. Last year, Unum withdrew $2M from that reserve, and also withdrew and added to earnings $7.3M from a real-estate reserve account. To believe the company, this was all the result of a better book of business than in the past.

Some other points of worry:

• Frequent accounting changes at Unum make tracking year-to-year financial performance difficult.
• Though its investment portfolio is fairly conservative, it could face further investment charge-offs.
• Unum is at a disadvantage compared to rivals StanCorp (SFG) and MetLife (MET) because of its lower rating of claims-paying ability, and will have a hard time boosting premiums in a competitive environment.

Put simply, "two years of good results isn't enough for me to completely trust them," says one analyst who is neutral on the stock. "I'll need another couple of years of good earnings without big write-offs before I'll completely buy in to the story."

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• Unum Group (UNM): Q4 EPS of $0.63 beats by $0.01. Revenue of $2.32B (-12.1%) vs. $2.62B. Sees 2009 EPS of $2.45-2.55 vs. $2.64. (PR)

Comments

[know nothing:]

Agreed.

Mar 02 09:02 PM

[Joee:]

Not sure that the change in IBNR is really that big a deal. It will change with a changing mix of premiums (which were basically flat over the 3 years you mention) and changes in reserving practices on existing claims. Ultimately, it is a GAAP accounting issue. GAAP is not real valuable in properly valuing financial companies.

What is interesting about UNUM is in addition to paying its dividends it repurchased $700 million in stock and retired an additional $300 million in debt. Good for both shareholders and policyholders.

The story of an insurer is not in GAAP results but in its statutory results and really cash flow...about $3/share in 2008.

Mar 03 10:09 AM