Tuesday, October 21, 2008

Sun Life Q3 2008 Earnings

RBC Capital Markets, 21 October 2008

Sun Life's pre-released Q3/08 results highlighted the pressure that the company is facing on earnings, but also that the company has ample capital resources.

Earnings pressure to continue

• The fully diluted loss was $0.71 per share versus our expectations for a profit of $0.11. The consensus estimate was $0.73 per share, but we do not believe the market believed that number.

• The after-tax impact of equity markets on earnings was $326 million while credit hurt earnings by $636 million. Both were larger than we had expected.

• If excluding the impacts of credit and equities, EPS would have been $1.00. However, we believe there will be other credit and equities hits in Q4/08, so we do not assume that "normalized" profits will be earned in Q4/08.

• We believe that equities alone could lead to a $0.80 hit on Q4/08 EPS if equity markets stay at current levels. We will review our estimates as Q4/08 progresses.

• We do not expect credit to hurt the company's earnings as much in Q4/08, given stabilization in areas that hurt the company in Q3/08 (financial services).

Capital levels adequate and are set to rise

• We believe that the company has adequate capital as at Q3/08, using a MCCSR ratio target of 200% and a RBC target of 300%. The MCCSR ratio was disclosed at 202%; we believe that the MCCSR ratio at the holding company level is slightly below 200% and management indicated that capital was injected in the U.S. operating subsidiary to maintain the ratio over 300%.

• We expect downward pressure on the MCCSR ratio in Q4/08 organically (potentially about 10 percentage points from equities alone).

• The CI gain could boost the MCCSR ratio by 40 percentage points.

Environment difficult but stock is cheap

We maintain our Outperform rating. SLF trades at 1.17x BV (1.12x pro-forma the CI gain). Pressure on earnings is significant in the near term but since we expect pressure from equities to abate in 2009, we look for Sun Life to post a meaningful earnings recovery, especially given recent movements in the CAD/USD. We also believe that Sun Life has ample capital to navigate through the near term earnings pressure.