Thursday, August 02, 2007

Great-West Lifeco Q2 2007 Earnings

BMO Capital Markets, 2 August 2007


Slightly positive.


No changes to our 2007E and 2008E EPS of $2.40 and $2.75, respectively.


The $40 target price is unchanged, representing 14.5x 2008E EPS.


Overall, results in the quarter were good, with particular strength in Europe and Canada. New business growth remains attractive across all major segments: Canada, US Financial Services and Europe. The Putnam acquisition is expected to close shortly and the company has left open the option of issuing some equity to help finance the transaction; however, GWO is analyzing alternatives to minimize any equity issuance. Of note, GWO did disclose that it has US$1.2 billion in exposure to US subprime residential mortgages, representing 1.1% of general fund assets. It is important to note that 99.2% is AAA rated, all fixed rate, 78% loan-to-value, 70% of the exposure came prior to 2006 and we estimate that GWO has been active in these types of securities since at least the mid 1990s. Despite these assurances, we suspect that GWO’s exposure to subprime mortgages could weigh on the shares, at least in the short term. We are maintaining the Outperform rating, based on attractive new business growth over the last few years to drive earnings, cost management and the benefits from the Putnam acquisition.
RBC Capital Markets, 2 August 2007

Fully diluted EPS of $0.61 for Q2/07 were up 18% versus Q2/06 and were ahead of our $0.57 estimate and the street estimate of $0.59. Expected earnings from the in-force business were up a very strong 26%, and experience gains remained high, accounting for 21% of pre-tax earnings. The quarterly dividend per share was raised from $0.255 to $0.275. We were looking for an increase to $0.26.

We maintain our Outperform rating and 12-month price target of $40. We believe that Great-West is one of the better stocks to own in our universe in turbulent times given the conservative nature of the company. We believe that the company has less exposure to potentially weaker equity markets and deteriorating credit quality, notwithstanding exposure to U.S. sub-prime mortgages. We believe that earnings upside could come from the integration of announced acquisitions, including Putnam, and potential improvements in U.S. healthcare results.

We believe that Great-West's share price is temporarily held back by the potential for a share issue to help finance the Putnam transaction. Management indicated at the time of the transaction announcement that it may issue up to C$1.2 billion in equity to finance the transaction, which is a short-term risk to the stock price. This risk is mitigated by our belief that Power Financial will likely subscribe for a large portion of the offer, and we believe that management will favour other types of financing options, if available, and issue less equity than the $1.2 billion figure, particularly since the appreciation in the Canadian dollar against the U.S. dollar reduces the ultimate purchase price.