For some, Aflac (NYSE:AFL) has become an American insurance icon, with its well-known duck-spokesperson overshadowing for many the value of its distinctive line of supplemental insurance lines. Given the uproar about healthcare reform in recent years, Aflac's insurance products have gained greater notice among U.S. customers. Yet Aflac still does the bulk of its business across the Pacific in Japan, and that has left the company vulnerable to exchange-rate fluctuations. Coming into Tuesday afternoon's second-quarter financial report, investors expected the strong dollar to hit Aflac hard, but the insurer wasn't able to match even their lowered expectations with respect to its earnings. Let's take a closer look at Aflac and what its latest results say about the insurer's future.
Aflac gets another dose of the yen flu
As we've seen over several quarters now, Aflac's foreign-exchange exposure played a huge role in holding back the company's results. Total sales declined by more than 9% from year-ago levels to $5.29 billion, even though that was actually somewhat less extreme than the greater than 10% drop in revenue that most investors had expected to see. The bottom line was even uglier for Aflac, as net income fell by more than 29% to $573 million, and Aflac's preferred metric of operating earnings per diluted share was off nearly 10% to $1.50 per share, falling short of the $1.52 per share consensus figure among those following the stock.
Once again, the magnitude of the dollar's strength is hard to exaggerate. Aflac saw an average yen/dollar exchange rate last year of just over 102, but this year, the corresponding figure was more than 121, or nearly 16% weaker over just a single year. Aflac said that the weaker yen cost the company $0.14 per share in operating earnings, accounting for nearly all of the downward pressure on the bottom line.
The contrast between Aflac's results in Japan and the U.S. was also striking. Even in local-currency terms, Aflac Japan saw a 1.2% drop in premium income, with flat revenue from year-ago levels and pre-tax operating earnings falling nearly 9% on a currency-neutral basis. As we've seen in past quarters, sales of cancer coverage and medical products, which Aflac refers to as third sector sales, climbed 25%, but first-sector sales in areas like child-endowment policies and the WAYS life-insurance product suffered a 12% drop. By contrast, premium income in the U.S. climbed 1.6%, and total revenue rose by nearly 2% even as operating earnings fell slightly from year-earlier levels.
CEO Daniel Amos focused on the positives in Aflac's report, noting how the third-sector performance in Japan exceeded expectations. "I am pleased that our second quarter results in both Japan and the United States reflected solid performance," Amos said, "and advanced our progress toward achieving the company's annual objectives."
What's next for Aflac?
Amos is also fairly optimistic about Aflac's future. The company expects that sales of cancer and medical products in Japan will rise between 7% to 10% for the full year, which represents faster growth than Aflac originally expected despite tough comparisons in the fourth quarter of 2015. Within the U.S. market, Aflac continues to believe that sales gains of 3% to 7% for the year are possible, with an emphasis on driving its new business pipeline toward the direction of outside brokers and larger employers.
Aflac also reiterated its commitment to shareholders, repeating earlier expectations to buy back $1.3 billion in common shares by the end of the year. Overall, Aflac has been in a stronger capital position, making it possible to repatriate profits from the Japanese unit back to the U.S. and support dividend payments and further repurchases.
Aflac's overall earnings guidance was consistent with investor expectations. The insurer believes third-quarter earnings will end up between $1.40 and $1.53 per share, assuming that exchange rates remain relatively close to current levels. For the full year, earnings of $5.88 to $6.17 per share on an operating basis are also in line with what shareholders are looking to see.
Overall, Aflac shareholders seemed disappointed by the continued struggles that the insurer faces because of the strong dollar, with the stock moving down by 2% in the first half-hour of after-hours trading following the announcement. Still, with a solid dividend and the ongoing demographic advantages of dealing with aging populations in Japan and the U.S., Aflac has plenty of potential to see a long-term rebound and reward patient investors.