Ask most people about Aflac (NYSE: AFL ) , and they'll automatically start talking about the company's duck commercials. But those who've focused more on Aflac stock than on its advertising have been richly rewarded lately, and with new efforts to foster growth in the insurance company's largest market, Aflac has huge potential to cash in on improving conditions among its customer base.
Aflac has done an excellent job of carving out a lucrative niche for itself in the U.S. insurance industry, with its focus on supplemental insurance that provides additional coverage beyond what traditional carriers provide. For instance, major health insurers UnitedHealth (NYSE: UNH ) and WellPoint (NYSE: WLP ) offer broad-based insurance coverage that forces them to take on a huge amount of risk and almost eliminates their ability to customize policies to respond to changes in demand for certain services. That reduces their opportunity to shift their business focus to capitalize on changing trends. By contrast, Aflac can target more lucrative niche offerings, such as coverage for cancer and other specified diseases, accident coverage, and short-term disability policies. Moreover, with such finely carved-out coverage, it's easier for Aflac to adjust rates to reflect specific loss experience.
The U.S. market has been a huge growth driver for Aflac recently, with the company having seen premium-revenue gains of more than 30% last year. Yet in terms of Aflac's overall business, the U.S. is only a small part of what drives its results and its stock price, as the Japanese market makes up almost 80% of the company's revenue, and the company has more than 85% of its assets in Japan. It covers about a quarter of all Japanese households and tops the market in Japan in terms of total policies in force.
The importance of Japan to Aflac makes the ongoing reforms and stimulus attempts on the part of Japanese Prime Minister Shinzo Abe and the Bank of Japan critical to the company's future success. If the Japanese government can finally get the island nation's economy moving forward after 20 years of weak performance, the impact on Aflac could be huge.
What a Japanese recovery could bring
Some analysts have focused on the negative aspects of Japan's efforts on Aflac stock, pointing out that the sharply weaker yen makes the company's profits from Japanese customers worth less in U.S. dollar terms. Admittedly, after years of benefiting from the gradual strengthening of the yen, Aflac investors aren't used to seeing the other side of the currency coin.
Yet Aflac itself doesn't see currency as an important element for long-term investors. As it discussed in its first-quarter earnings release, Aflac doesn't actually convert between yen and dollars, making the issue one of financial reporting rather than true economic impact. Therefore, Aflac believes looking at currency-neutral metrics of its success is the better way to assess its business.
Moreover, a Japanese economic revival would have huge positive impacts on Aflac and its stock. Rising bond rates would enhance income in the company's bond portfolio, adding to profits. A stronger economy would give more customers the chance to buy policies, adding to revenue growth.
Why Aflac's future looks promising
Aflac itself believes in its future prospects, as company repurchases of Aflac stock returned $150 million to shareholders during the first quarter of 2013. That doesn't guarantee further share-price gains, but the vote of confidence should reassure investors of the potential that the insurer has.
With the stock trading at less than nine times trailing and forward earnings, Aflac's share price doesn't truly reflect the full extent of its growth prospects. Japan's recovery could provide the long-awaited catalyst to send Aflac stock much higher in the coming years.
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