- Genworth's planned U.S. mortgage insurance IPO alleviates liquidity concerns at the company's holding company and will unlock value for its shareholders.
- A market comp of Genworth's U.S. mortgage insurance peers implies it is a good time to take the company's subsidiary to market.
- The planned IPO is expected to be accretive to Genworth's share price and shareholders could potentially see share value increase north of 60 percent in the next 12 months.
For the longest time, Genworth Financial, Inc. (NYSE:NYSE:GNW, hereinafter "Genworth") has battled to shore up deficiencies at its life insurance subsidiaries and reduce the amount of debt held at Genworth Holdings, Inc. (Genworth Holding, Inc. is Genworth's wholly-owned subsidiary that bears the company's unsecured and promissory notes, hereinafter "HoldCo"). Since 2016, the approach to alleviate both concerns and unlock shareholder value was to sell the entire company to China Oceanwide Holding Group Co., Ltd. for a sum of $5.43 per share in cash. But more than four years later that deal has yet to consummate and, for all intents and purposes, it is not expected to close. (The China Oceanwide transaction has been extended indefinitely in order to give the acquirer time to secure financing. However, Genworth can walk away at any time without penalty.)
Despite its magnificent failure to close the transaction, Genworth has a back-up plan to unlock value for its shareholders. And, fortunately, it has been implementing the plan in earnest since 2019. It includes selling off or floating parts of its mortgage insurance portfolio and using the proceeds to pare down HoldCo debt. To this end, Genworth has raised nearly $2.1 billion since late 2019 through asset sales and has further plans to float a portion of its U.S. mortgage insurance business (hereinafter "U.S.M.I.") sometime in 2021. (It is important to note that Genworth also has a plan for stabilizing its life insurance subsidiaries through a "multi-year long-term care insurance in-force rate action plan"; this article, however, does not explicitly analyze the potential impact of the plan on Genworth's future operations.)
Unfortunately, the plan has yet to yield demonstrable results in the form of a rising stock price. This is partly, however, because the stock price has been clouded for the last several years by the defunct merger with China Oceanwide.
Nevertheless, the prudent use of cash from past asset sales along with using the proceeds from its upcoming IPO and cash-on-hand to aggressively reduce HoldCo's debt is priming Genworth's equity for a meaningful rise in the coming months. Upon executing the proposed IPO, Genworth should have ample liquidity to settle 2021 as well as 2022 debt obligations and adequate cash reserves for debt servicing thereafter. All these things bode well for Genworth's common stock and, assuming market conditions continue to improve, the company's market value is ripe to rise more than 60 percent over the next 12 months.
The main obstacle facing Genworth in the near-term is looming debt maturities. In total, Genworth has seven tranches of debt, with all but one tranche held at the HoldCo:
In February, Genworth retired all $338 million of its February 2021 unsecured notes with cash-on-hand. Then, in March, Genworth sold the remaining 52 percent equity stake it owned in Genworth Mortgage Insurance Australia Limited for sum of $370 million. Genworth used $247 million of the proceeds towards paying down its AXA settlement promissory note and kept the remaining $123 million to cushion its cash reserves. With these payments made, Genworth removed $585 million in debt from HoldCo's balance sheet and created a $863 million cash and equivalents cushion for, in part, future debt service.
But Genworth still has $660 million in unsecured notes maturing over the next 12 months, and $1.0 billion in notes due in the next 18 months. While its current cash position provides enough cash for HoldCo to retire September's notes while maintaining management's preferred 2x interest expense buffer, Genworth will still likely need additional cash for the tranches due 2022 and beyond, assuming HoldCo does not receive dividends in the near-term from its subsidiaries. Because of dividend uncertainties and looming debt maturities, the company is preparing to IPO a portion of U.S.M.I., the proceeds of which are likely to be more than adequate to cover HoldCo's liquidity needs and simultaneously give a meaningful boost to Genworth's stock price.
Values of U.S. publicly traded mortgage insurers have almost fully recovered from 2020's market bottom. According to YCharts, NMI Holdings (NMIH) market value has fully recovered while MGIC Investment (MTG), Essent Group (ESNT), and Radian Group (RDN) remain slightly below their 2020 highs just preceding the onset of the pandemic:
Market comps for the publicly traded mortgage insurers have markedly improved over the period as well:
Source: Data derived from Seekingalpha.com as of 3/27/2021
On average, mortgage insurers are trading at 9.3x TTM EBIT and 4.5x forward sales. These multiples have dramatically improved since last July when mortgage insurers were trading at only 4.7x TTM EBIT and 3.3x forward sales.
Assuming Genworth's U.S.M.I. experiences 8 percent sales growth and a 45 percent EBIT margin in 2021 (these are believed to be conservative assumptions as the sales growth rate is nearly 3 points less than U.S.M.I.'s 5-year average revenue growth and a 45 percent margin is on par with the 5-year average), the market multiples above imply that U.S.M.I. has an enterprise value worth between $3.6 billion and $5.3 billion:
Source: Author's analysis
Hence, recovering valuations and market multiplies of U.S.M.I. competitors suggest that it may be a good time to execute Genworth's planned IPO.
Genworth Valuation Following U.S.M.I. IPO
Because Genworth has several distinct operating subsidiaries, a sum-of-the-parts valuation is an appropriate methodology to ascertain Genworth underlying value. With that said, at present Genworth has only one operating subsidiary of value to its enterprise - U.S.M.I. This is because U.S.M.I. is the only subsidiary, now that Genworth is completely divested of Genworth Australia, that will contribute cash in the form of dividends on a go-forward basis. Although Genworth's life insurance subsidiaries could potentially contribute dividends in the future, it is anticipated that any and all earnings generated within those subsidiaries will go towards stabilizing their own respective operations. Hence, the value assigned to Genworth's life insurance businesses is $0.
Therefore, the only question owners of Genworth common should be asking themselves is: what is the underlying value of U.S.M.I. to Genworth?
Genworth's plan currently is to IPO only 19.9 percent of U.S.M.I. and retain the remaining 80.1 percent stake. Eventually, management could spin-off that remaining stake to Genworth shareholders tax free, but there is a very slight chance of that occurring in the next 18 months.
Source: Author's analysis
If U.S.M.I. receives a $4.5 billion enterprise value when it IPOs (Base Case), then Genworth's 80 percent equity stake would be worth roughly $3.0 billion. The proceeds from the 19.9 percent sale would provide Genworth with approximately $743 million which could be put towards paring down HoldCo's debt, currently sitting at $1.8 billion net debt (debt minus cash). This would leave Genworth with $1.9 billion in residual value from its ownership stake in U.S.M.I. after subtracting out HoldCo's debt.
On a per share basis, this exercise implies that Genworth's common is worth $3.82, or 14 percent greater than its current trading price. However, if U.S.M.I. receives an enterprise value of $5.3 billion (Best Case), the per share price of Genworth's common is worth $5.47 per share, or 63 percent higher than today's prices. Again, this valuation exercise assumes the rest of Genworth's operations are worth nil.
In closing, Genworth's plan is on track to alleviate any question of liquidity concerns for the company and also boost to the Genworth's otherwise languishing stock price.
This article was written by
Analyst’s Disclosure: I am/we are long GNW. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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