Mail Bag: Manulife (MFC) Part II

In a recent E-Mail a reader asked,

Brad,


I know that you have always been a fan of Manulife as a DivG investment. Currently I don't own any shares and I am considering taking an initial position. As you are probably well aware MFC took a 50% dividend cut. I was wondering whether this action has changed your view of MFC as a good DivG investment.


Jeroen

I had an opportunity in late September to attend the Thursday session of the Scotia Capital Financials Summit as a guest of a client when new Manulife CEO Donald Guloien spoke on the future prospects of the business.

For the majority of the day a host of companies spent their time highlighting their current or new initiatives on risk reductions to calm anxieties over last years global financial crisis and Guloien's presentation was no different.  A CEO is the face of a business and in many ways a corporate politician, but Guloien did take the time to discuss the current situation Manulife finds itself in.  The big emphasis was on the availability of capital and strengthening an already dominant market position in life insurance products.

The main challenges I noted that the company faced dealt with the actual and perceived impact of equity markets on their variable annuity products, the low interest rate environment the company currently finds itself in and the capital they require to participate in adventagious acquisitions.  I did enjoy hearing that the company intends to raise its margins and charge a higher premium for risk (something they failed to do in the past).  I was impressed by the fact that Manulife is now the 4th largest global life insurer behind China Life, AXA and Generali putting the company in a good position to leverage their scale globally.

The company did lose their AAA credit rating (they remain AA+) and I wasn't impressed with the earnings guidance they presented for 2009/2010 because they chose to exclude any impact of market conditions on their segregated fund guarantees.  Guloien did attempt to soften the unease of the company reducing its dividend by 50% by stating that the company's capital position now and in the future is better served by retaining more earnings within the business.  It was quite clear to me (and others) that management within the company is still concerned of their exposure to equity markets and that cutting the dividend was a prudent decision to save the approximately $700 million for other purposes.  The withdrawing of what the company terms "rich features" from products appears to be a conservative move but there was limited information available on a new line of variable annuity products Guloien mentioned in the presentation.

Not a lot changed with respect to the asset quality of their insurance assets (see Taking Stock in MFC) but I was concerned with a chart that showed the company still has considerable exposure to unrealized losses that could impact asset values if sold.

To answer Jeroen's question directly I am still a fan of Manulife despite the troubles the company faced over the past twelve months.  I wasn't thrilled with the 50% cut in their dividend, but when capital is at the premium we saw earlier this year when companies came to the market to raise money prudent decisions are necessary.  I don't expect the dividend to rise anytime in the next 12 months, but I have done well with the stock as I bought near the bottom of its 52-week low and the company continues to occupy a 3.40% position in my Dividend Growth portfolio (DivG).

I don't see any reason, at present, to overweight MFC as I did with the Canadian banks I hold but I still feel their strength of operations in insurance and annuities will help them smooth out the wrinkles left over from their foray into segregated funds; a lesson they will likely remember for a long time.  MFC is likely to remain a good long-term investment that should reward investors with patience.  It still remains at the core of my DivG portfolio, but a stock I watch much more closely than I did before.

Disclosure: I currently have a position in Manulife (MFC), Bank of Nova Scotia (BNS) and a life insurance policy with AXA

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Value Stimulus: Procter & Gamble

I’ve made reference in a few posts now to a long held investing thesis of mine regarding healthcare companies and my reasoning for classifying certain consumer products companies in the healthcare portion of my portfolios. In essence I’ve had a single focus for the healthcare component of my investments and it follows this line: “I’m not targeting just the health of people here at home, but those all around the world.”

The reasoning for this focus is very simple and was outlined quite nicely just last week at the annual shareholders meeting of Procter & Gamble (PG) by new CEO Bob McDonald. McDonald made reference to a long-term growth initiative that the company has been focused on regarding investments in emerging markets (China and India) and the need to increase market penetration to reach more consumers.

Currently annual per capita spending (based on 2008 estimates) of P&G products in the US was roughly $100 per consumer. This contrasts with $70 per capita in the UK, $40 in Germany and $20 in Mexico. China and India combined account for spending of less than $4 per capita. McDonald made a statement that bringing per capita spending in both China and India to Mexico levels ($20) would boost sales at P&G by over 50%.

The math is pretty simple when you consider that new consumers in emerging markets will begin to use an increasing amount of personal care products (oral care) and cleaning products to improve their standard of living. The execution by Daniela Riccardi, President of Greater China operations, has been so far a slow methodical approach but over time companies such as Procter & Gamble and Colgate-Palmolive should begin to build up market share and increase sales at a quickened pace. This not only increases sales globally but differentiates operations for the companies so that slowed growth in one or two economies doesn’t drag earnings momentum as much as during this past recession.

Disclosure: I own shares in Procter & Gamble (PG) & Colgate-Palmolive (CL)

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Costco Connecting with Consumers

Since initiating a position in Costco (COST) with a LO in August I’ve been both surprised and pleased with the performance of the common shares as I’ve watched them rise over 30% in the face of both good and bad news of weak consumer data and the relative performance of other retail stocks.
Costco released their Q4 and full year 2009 results today and I’ve been busy updating my spreadsheet to get a sense of what the landscape for Costco might look like come the release of their full year report in December.

The numbers were good by analyst estimates with Costco’s net sales down 3% to $21.9B as of August 31st, 2009. Net income for the fourth quarter was down $0.05/share or 6% YoY. These numbers, while down, illustrate the ability of management to minimize sales erosion during a recession and keep consumers in their warehouses buying products and using services.

I’ve tried for most of the morning to get some early numbers from the company on their gross margins so I can quickly compare their 2009 results with previous years. If readers remember my post on Costco from last year (Taking Stock in COST) there was a large portion dedicated to explaining the importance of how Costco doesn’t compete on price by staying committed to maintaining their margins.

Historically gross margins (as a % of sales) have averaged 10.28% with management improving this metric over the last five years to an average of 10.60%. When you compare these numbers to other retailers Costco has a clear advantage and one it protects very well with the type of business it operates (membership).

I did find in the numbers today that SGAE (selling, general and administration expenses) as a % of sales has climbed to 10.38% vs. a historical average of 9.56%. Hopefully this reflects an improved effort to reduce sales erosion by management rather than going lack on their long-term commitment to stay in control of costs. SGAE had been holding steady at an average of 9.80% over the past five years so an increase to nearly 10.4% does seem high despite the increased challenges a recessionary environment presents.

I was glad to see that Costco has increased their number of warehouses by nearly 9.4% to a total of 560 warehouses. This is well above their average yearly commitment of a 6% increase and will help to improve future earnings of the company by providing a larger retail footprint domestically and globally.  Companies with strong balance sheets and high margins have both the cashflow and financial resources to expand operations in a recession in anticipation of better performance when the economy recovers.

The market in turn seems to be rewarding the company (and shareholders) for their consistent and effective operations in this economic environment where consumer spending has fallen and unemployment remains high.  I know that with the purchase of my first home I've been an even more regular Costco shopper for all assortment of household needs, groceries and supplies.


Disclosure: I own shares in Costco (COST)



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