In light of the recent market run-up since the beginning of the year, I’ve been focusing my attention on large-cap, dividend-paying (and yes somewhat boring) companies to invest in. My reasoning for this is that in the event of a significant market correction, the dividend will provide an income stream during the recovery and share prices of these large established companies don’t tend to get battered quite as badly as the small-cap growth stocks I usually pay attention to. Currently, my only exposure to the insurance industry is through my investment in EBIX, however this position will be closed out soon because the company is being bought out by a Goldman Sachs affiliate. Today I will be looking at another insurance company in terms of its suitability as an investment at present time, namely Aflac Inc. (AFL).
While known for its cute advertising campaign featuring the “Duck” equally, if not more so than the actual services the company provides, Aflac is a provider of health and life insurance policies, headquartered in Columbus, Georgia. This company has grown at a 17% compounded rate since 1983, and has increased its dividends every year for the past 30. Despite being based in the US, Aflac does a significant portion of its business in Japan – seen as a risk to some and a benefit to others. Let’s take a look at some of the highlights in Aflac’s Q1 2013 report:
- Owing to unfavorable yen/USD exchange rates, revenue was unchanged from the year-ago quarter at $6.2B, however EPS increased to $1.90 compared to $1.68 – a 13% increase.
- Ignoring the currency exchange, revenue in Japan was up 9.7% and earnings up 10.7% in the first quarter. This includes an investment income increase of 7.3%.
- The company is actively engaged in a share repurchase program, having purchased 3 million shares in the first quarter at a value of $150M. The company intends to repurchase a total of $400M – $600M worth of shares by year-end 2013.
- Reiterated guidance of 4% – 7% earnings growth for 2013.
DDM analysis: As of Friday’s close, Aflac was trading at $55.69 and paid a dividend of $1.40, yielding 2.50%. Historically, the company has increased its dividend by over 19% annually over the past 10 years, but has only been averaging about 6-10% growth over the past 5 years. Using a dividend growth rate of 6.16% and a discount rate of 9% in the dividend discount model, I arrive at a valuation of $50/share.
EPS Growth analysis: My EPS growth method returned an intrinsic value of $69. Inputs to the analysis were a future EPS growth rate of 9%, a future PE equivalent to the 5-yr average 12.5, and a discount rate of 12% over a 5 year timeframe.
Valuation ratios: A look at current valuation ratios compared to historical numbers produced numbers ranging from $59 – $79 / share. These were arrived at based on an average 5-yr yield of 2.4%, avg. PE of 12.5, and an avg. PS of 1.14.
Graham Number: Plugging EPS of $6.33 and BVPS of $34.05 into the Graham equation, produces a fair valuation of $69.64.
It appears based on this analysis that AFL is undervalued, although cannot rely on the dividend alone to maintain current trading levels. My target price for Aflac is $65. I will be entering a position on Monday’s open.
Readers: What are your thoughts on Aflac? How much of a concern is the company’s exposure to Japan, and by extension its currency?