In an earlier article here, I argued that Lincoln National's (LNC) turnaround efforts will restore the company to prosperity. More than two months later and the stock is up by 12.2%, nearly doubling the return of the S&P 500 over the same time period. Analysts rate the stock a "buy" and I continue to find favorable risk/reward. With that said, at this point, MetLife (MET) is the more attractive insurer and thus receives a near "strong buy" recommendation.
From a multiples perspective, both financials are quite cheap. Lincoln trades at a respective 7.2x and 5.7x past and onward earnings while MetLife trades at a respective 6.9x and 7.2x past forward earnings. With investors at Lincoln concerned about the recoverability of the $3B goodwill balance and low interest rates, MetLife has a lower risk profile. MetLife has a dividend yield that is also 60 bps higher at 2% and has considerably less stock volatility.
On the third quarter earnings call, Lincoln's CEO, Dennis Glass, nevertheless, mentioned how the company will address the low interest rate environment:
"Low interest rates and capital market volatility continue to drive headlines for this industry. As we've shared previously, although sustained low interest rates would impact the rate of earnings growth for Lincoln over time, we do not expect low rates to materially affect the balance sheet. Importantly, given low rates, we have taken and continue to take decisive action across the organization to protect aggregate margins. For example, as discussed earlier this year, we entered into $1.3 billion of Treasury locks with an implied yield of 6.45% and extended the duration of the life portfolio. We are actively repricing products as needed to reflect market conditions. We are making strategic investments to grow revenues and earnings. We are taking risk out of the organization and actively managing expenses."
DAC deferrals are nevertheless dropping and the acquisition costs have been higher than anticipated. Analysts are expecting 30% goodwill impairment and continued hesitancy over DAC write-offs.
Consensus estimates for Lincoln's EPS forecast are that it will grow by 28.7% to $4.17 in 2011, decline by 5.8% in 2012, and then grow by 9.4% in 2013. Assuming a multiple of 7.5x and a conservative 2012 EPS of $3.89, the rough intrinsic value of the stock is $29.18, implying 29.7% upside. However, if the multiple plummets to 5.5x and 2012 EPS turns out to be 9.7% below consensus, the stock would fall by 13.2%.
A more attractive play on insurance can be found in MetLife. Perhaps Lincoln would benefit from stealing a few of its competitor's secrets to stability. The company has a major catalyst at hand in its creation of unique variable annuity deals. The ability take on the risk clients are exposed to in the capital markets will be greatly beneficial in building loyalty. Roll-up rates have also been slashed two times in the last two quarters by 100 bps to 5%. This will further help drive loyalty and top-line momentum.
Management has further done a strong job in de-risking the business. It recently announced that it is dropping - not selling - the retail mortgage loan operations. The effort to immediately divest this interest is, in my view, more significant than what the market has acknowledged. It will help prevent the company from being deemed "systemically important," which would lead to exposure to more onerous regulations and oversight. This decision followed the announcement that MetLife sold the majority of its depository business to General Electric (GE) - a deal that will close in the second quarter of 2012. Management is further divesting underperforming units in order to create greater efficiency around the inflection point of a recovery.
Consensus estimates for MetLife's EPS forecast are that it will grow by 11.9% to $4.90 in 2011 and then by 3.1% and 10.3% more in the following two years. Assuming a multiple of 10x and a conservative 2012 EPS of $4.95, the rough intrinsic value of the stock is $49.50, implying 36.2% upside.