Triple-A Recovery Opportunities: Aviva

LONDON -- In this short series of articles, I'm profiling three good recovery candidates for 2013: insurer Aviva  (LSE: AV  )   (NYSE: AVV  ) , drugs firm AstraZeneca, and miner Anglo American. They all start the year with a new chief executive, and a good chance that new management and a new strategy will rehabilitate them in investors' eyes.

Today I'm looking at Aviva. The composite insurer is a popular stock among private investors, thanks to its near-7% yield. Its prospects brightened markedly last summer when former CEO Andrew Moss was ousted and chairman John MacFarlane took on temporary executive responsibilities.

Strategy
He instituted a radical reworking of Aviva's strategy while looking for a permanent CEO. But strategy is not just about clever ideas, it's about doing things. Macfarlane made tremendous progress even before new CEO Mark Wilson got his feet under the desk.

There were essentially three elements to the strategy:

  1. Focus on profitable business units, exiting those that have little prospect of achieving acceptable returns. 16 of 58 business units were slated for disposal.
  2. Build the capital base, to a target of 160%-175% of the statutory requirement.
  3. Improve operational efficiency and reduce costs by 400 million pounds a year.

The big wins in the disposal program have already been made. Last month, Aviva agreed to sell its U.S. insurance business for $1.8bn. Last week, it sold its remaining shares in Dutch insurer Delta Lloyd for 350 million pounds. It has made smaller disposals in Sri Lanka and Malaysia and expects to make eight more this year.

Capital
Those disposals have pushed the company's capital surplus up to 169%, comfortably within its target range. That boosts Aviva's financial resilience and takes some pressure off the dividend.

Of the 400 million pounds in savings, the company said in November that it had already locked in 250 million pounds and had specific plans for the balance. Four layers of management have been removed.

Further improvements will come from increased operational efficiency, such as rationalising IT systems, consolidating product lines, better allocating capital, and introducing a more effective performance culture. Those will be tasks for Mark Wilson to carry forward. His previous experience at Asian insurer AIA suggests he will be able to pull this off.

Aviva isn't Barclays
It's interesting to compare Aviva with Barclays  (LSE: BARC  )   (NYSE: BCS  ) . It, too, has a new CEO and is in the throes of reviewing its business units. But whereas Aviva has undertaken major surgery, the mood music -- or spin doctoring -- coming out of Barclays suggests much more modest action. Maybe a few businesses will be trimmed, such as reputationally dangerous commodities trading, but there is a danger that the review will underwhelm investors when it is announced next month.

The two companies are also out of favor for different reasons. Aviva has suffered from poor management, serial underperformance, a weak capital position and exposure to the troubled eurozone. All but the last are being fixed, and even prospects in the eurozone are starting to look up.

Barclays is suffering because investors don't trust bank balance sheets, because of its over-reliance on toxic investment banking, and because banks are fair game for every politician, regulator, and interest group. Those things aren't so readily fixable.

Dividend
When John McFarlane introduced his strategic plan last July, he said he was working to save Aviva's dividend. To me, that meant it was under threat. So conversely, having already achieved so much of the plan, I think the dividend is safe.

There is, though, a risk that when the company announces its results in March, it decides to rebase its payout. That would give the new CEO an easier ride in building it up again. Barclays' analysts also reckon that the complex nature of Aviva's business hampers its ability to upstream dividends, though presumably that's one of the issues the restructuring is meant to address.

A cut in the dividend would almost certainly presage a drop in the share price. But it wouldn't change the fact that Aviva has become a fundamentally more profitable and efficient organization. So I would see such a situation as a buying opportunity. It's worth keeping some powder dry.

2013 looks set to be a good year for shares, albeit that there may be some bumps along the way. Long-term investors who hold their nerve may look back at this year with satisfaction. If you want to become rich, you should read this report from the Motley Fool: "10 Steps to Making a Million in the Market." It's free, and available for a limited period only. Just click here to download it.

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