Why Aflac's Stock Is Worth Owning

The next selection for the Inflation-Protected Income Growth Portfolio is supplemental insurance giant Aflac (NYSE: AFL  ) . Best known for the accident-prone duck that is its mascot, Aflac is a powerhouse in supplemental insurance in the U.S. and the No. 1 writer of individual insurance policies in Japan. 

And in spite of the tsunami-induced nuclear meltdown that devastated Japan in 2011, Aflac managed to continue its string of increasing dividends, which has now reached 30 consecutive years. Any insurance company capable of (literally) riding out a storm like that and coming out largely intact has a solid foundation. Combine that with that growing and well-covered dividend, and it earns a place in this real-money portfolio.

Why it's worth owning in the iPIG Portfolio
To earn a spot in the portfolio, a company has to pass a series of tests related to its dividends, its balance sheet and valuation, and how it fits from a portfolio diversification perspective.

Dividends:

  • Payment: Aflac's dividend currently sits at $1.40 a share, a yield of about 2.6% based on Wednesday's closing price. 
  • Growth history: The company has raised its dividend every year for the past 30, with the most recent being a raise from $0.33 to $0.35 for its December 2012 payment. .
  • Reason to believe the growth can continue: With a payout ratio of 22%, the company retains more than three-quarters of its earnings to invest for future growth. That low payout ratio also gives the company flexibility to maintain its payment if that anticipated growth doesn't materialize as quickly as hoped.

Balance sheet and valuation:

  • Balance sheet: A debt-to-equity ratio of around 0.7 indicates that Aflac does use debt, but it hasn't overleveraged itself to the point where a near-term financial hiccup would derail it.

Valuation: The company easily passes a valuation test pioneered by none other than Benjamin Graham, the founder of value investing. That said, Graham's equation does take interest rates into account, and today's low rates make stock values seem cheaper than they would be in a more normal rate environment. Still, even dialing rates back up to more "normal" levels, Aflac would look decently priced.

Diversification fit:
The previous picks for the portfolio included:

As the first insurance company in the portfolio, Aflac fits pretty well from a diversification perspective.

What are the risks?
Of course, no investment is without risk. As with any insurer, Aflac is in the business of pricing probability and risk. If it gets the pricing wrong, or if the proverbial "black swan" hits, Aflac can quickly get into a world of hurt. Consider what happened in the past few years to fellow insurer Allstate. With billions of losses from hurricanes and the financial crisis in the middle of the last decade, Allstate's equity got crushed and its dividend slashed.

If risk management and balance-sheet strength were all that mattered, Berkshire Hathaway (NYSE: BRK-A  ) (NYSE: BRK-B  ) would likely be a stronger pick for this portfolio than Aflac. Among insurers, Berkshire Hathaway has a stronger balance sheet than Aflac and an unsurpassed team of risk pricers, led by none other than legendary investor Warren Buffett.

Still, two things keep Berkshire Hathaway out of this portfolio while Aflac makes the cut. For one, Berkshire Hathaway does not pay a dividend, and dividends are central to the iPIG portfolio's income-growth investing strategy. For the other, Berkshire Hathaway would have been more problematic from a diversification perspective. After all, it owns an electric utility (MidAmerican), restaurant (Dairy Queen), and railroad (BNSF), and this portfolio already owns positions in those industries.

What comes next?
When the Fool's disclosure policy allows, I plan to buy Aflac's stock for the Inflation-Protected Income Growth portfolio, as long as it remains below $55 a share. I expect to invest around $1,500 in a 5% allocation in the portfolio, with 20% of the portfolio still remaining cash. Watch my article feed for details of the next pick, coming soon.

Also, to score the performance of this pick, I'm making an outperform CAPScall on the stock at Motley Fool CAPS, putting my All-Star ranking on the line along with the plan to invest cold, hard cash.

More expert advice from The Motley Fool
Warren Buffett's long track record of success has made him one of the best investors of all time. With Buffett at the helm, Berkshire Hathaway has grown book value per share at a compounded annual rate of 19.8% for nearly 50 years! Despite an incredible historical track record, investors have to understand the key issues to watch moving forward. To help investors, The Fool's resident Berkshire Hathaway expert, Joe Magyer, has created this 
premium research report on the company. Inside you'll receive ongoing updates as key news hits, as well as reasons to both buy and sell the stock. Claim a copy by clicking here now.


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