2023-06-30 14:45:09 ET
Summary
- Great-West Lifeco Inc. plans to use funds from the sale of Putnam Investments to grow Empower, its wealth and retirement solution platform, as part of its U.S. growth strategy.
- Empower, headquartered in Denver, Colorado, has grown to become the second-largest retirement plan provider in the U.S. by number of accounts enrolled.
- GWO offers an attractive dividend yield of 5.5% and has a 5-year average annual dividend growth of 6%.
Author's Note: All funds in Canadian currency unless otherwise noted.
Investment Thesis
A recent influx of cash from the sale of Putnam Investments will enable Great-West Lifeco Inc. ( GWO:CA , GWLIF ) to focus on its U.S. growth strategy. Specifically, these funds will be redeployed to grow Empower, the company's wealth and retirement solution platform. Built through a number of strategic acquisitions, Empower is GWO's growth engine for future earnings and dividend growth. Leveraging the steady insurance premium revenue from its Canadian operations, GWO has been developing a robust U.S. wealth and retirement platform. The divestment of Putnam represents another important step in orienting GWO towards this growth arena.
Company Profile
Along with Sun Life Financial Inc. ( SLF ) and Manulife Financial Corp. ( MFC ) Great-West Life is one of Canada’s three large life insurance providers. GWO operates in Canada, the U.S. and Europe. Through its Canada Life, Empower, Putnam Investments, and Irish Life brands, GWO offers life insurance, health insurance, retirement and investment services, asset management and reinsurance businesses.
The company is 67% owned by Power Financial Corp. ( POW:CA ) and is the holding company's crown jewel. As an established blue chip dividend-payer, GWO offers an attractive dividend yield of 5.5%. With a market capitalization of approximately $35B, GWO trades on the Toronto Stock Exchange with average daily volume of 3.07 million shares.
Selling Putnam
Since its purchase in 2007 for $4.6B CAD, GWO has struggled to make Putnam Investments profitable. Putnam is a global money manager with US$170B in assets under management and a corporate history dating back to 1937. Over its lifetime in GWO’s portfolio, the asset has contributed a cumulative loss in base earnings. This poor performance is a result of the limited scale Putnam had in competing in the U.S. asset management market. Impacted by IFRS 4, Putnam revenue and net earnings decreased approximately 10% and 169%, respectively in 2022. According to RBC Capital Markets, as a result of outflow pressure in mutual funds and institutional funds, Putnam saw new outflows of US $1.7B in the first quarter of 2023.
On May 31, 2023, GWO announced a planned transaction with asset manager Franklin Templeton ( BEN ) to sell Putnam. Subject to regulatory approval, the transaction is valued at approximately US$1.7-1.8B. Franklin Templeton will offer 33.33 million Franklin Templeton shares worth approximately US$950M-1.0B in upfront consideration followed by US$100 million in cash six months after the transaction closes.
As part of the new strategic partnership, GWO will also transfer $25B of assets to be managed by Franklin Templeton. Following the closing of the deal, GWO will hold 1.3% of Franklin Templeton shares outstanding for a minimum of six months and 4.9% for a lock-up period of five years. In addition to initial payments, GWO stands to earn performance residuals for three to seven years based on Putnam’s performance over its current base revenue. The value of these performance payments could be as much as US$375M if Putnam growth exceeds 30% of recent base performance levels.
The deal, which is expected to close in Q4 2023, is structured for GWO to retain its net operating loss tax benefit of US$345M, related to Putnam. While the deal is neutral to GWO's book value, it helps to streamline the company’s assets and allows it to focus on other areas of growth.
Building Empower
Headquarter in Denver, Colorado, Empower has grown to become the second-largest retirement plan provider in the U.S. by number of accounts enrolled. Through its labels Empower Annuity Insurance Company of America and Empower Life & Annuity Insurance Company of New York , Empower provides comprehensive solutions to the employer-sponsored retirement plan market for 18 million participants through both business-to-business and direct-to-consumer channels.
With US$1.4T in assets under administration, the company has achieved considerable scale. GWO’s last three big acquisitions were targeting businesses that laid the foundation for Empower. In 2020 GWO acquired Personal Capital, followed by MassMutual's retirement services business in 2021 and most recently Prudential's full-service retirement business in 2022. For the latter acquisition, GWO expects to realize expense synergies of US$180M annualized once the integration is complete early in 2024.
Empower has been the most exciting growth story in GWO’s portfolio in recent years as well as a key driver of growth for GWO’s parent company, Power Financial. In the most recent quarter , Empower’s base earnings reached $251M, up approximately 13% QoQ and 65% over Q1 2022. This boost is largely attributable to the integration of Prudential assets acquired in 2022. Stripping out the impact of the Prudential acquisition, base earnings were still up approximately 20% over the same period in 2022. At $224M, the majority of base earnings are contributions from the Defined Contribution segment, which was up 22% over Q4 2022. While a smaller segment at $27M, Empower Personal Wealth base earnings decreased by approximately 33% compared to the previous quarter.
According to GWO President & CEO, Paul Mahon on the company's most recent earnings call :
Among the highlights in the first quarter of 2023, include Empower launching, Empower Personal Wealth, a new division focused on making wealth management simpler, clear, and more accessible. Empower helps bring together everything a client owns and owes in one comprehensive dashboard from credit cards and cash to loans, investments, and retirement accounts. The dashboard paired with advisor insight makes it easier than ever for clients to take control of their personal wealth.
Overall, the U.S. base earnings as a segment have grown from 8% in 2017 to 21% in 2022. The current level of organic growth in the segment of 5-6% on the book of business is more than double the market average. In the first quarter of 2023, GWO's base ROE was 15.8%, below the company’s medium-term target of 16-17%.
Dividend Profile
GWO pays a quarterly dividend of $0.52 for an annual payout of $2.08. Most recently in February 2023, the dividend was boosted 6% from $0.49 per share to $0.52. At current share prices, this equates to an attractive 5.5% dividend yield. The company’s 5-year average annual dividend growth of 6% has been supported with 5-year average annual EPS growth of 8.8%. The company has paid a quarterly dividend for the past 33 consecutive years with no cuts. Great-West has increased its payout each year for the last eight years.
GWO has delivered a 5-year average dividend payout ratio of 58.1%, above the company’s target payout ratio 45-55%. At current levels, the GAAP dividend payout ratio of 62% indicates that the company needs to boost earnings to maintain its dividend growth and payout goals. At current levels, the cash dividend payout ratio of 43% indicates a well-covered dividend.
In January 2023, GWO was approved to pursue a renewed normal course issuer bid, authorizing the purchase for cancellation of up to 20 million shares, representing approximately 2.15% of its shares outstanding.
Risk Analysis
In Q1 2023, GWO reported a total Life Insurance Capital Adequacy Test, or LICAT ratio of 127%. This compares to 144% for Sun Life and 131% for Manulife. This Q1 LICAT ratio of 127% was calculated under the new regulatory LICAT guidelines that incorporate IFRS 17 accounting principles, so the most recent figure is not an apples to apples comparison to previous quarters. GWO has tended to have a lower LICAT score than its peers on a historical basis.
Appreciation in the Canadian dollar could be a headwind for the company with significant revenues denoted in euros and U.S. dollars. Similarly, a return to low interest rates would be negative for investment returns. GWO, along with other insurers, has been negatively impacted by poor market performance over the last year, as asset-based fee revenues has struggled on lower asset prices.
GWO's financial leverage of 33% is relatively high as a result of the debt the company has issued to fund recent acquisitions. As the Empower business has been built on acquisitions, there is an added execution risk as GWO will need to effectively integrate these new assets to realize pro firms synergies. GWO has a good track record of integration from previous deals.
The closing of the Prudential deal in 2022 also resulted in a bump in credit risk with an increase in the mix of BBB and lower-rated bonds in GWO’s investment portfolio by approximately 5% to 30% following the acquisition of Prudential’s retirement business. Overall, however, GWO has a strong balance sheet and a reasonable risk management profile that is reflected in investment-grade credit ratings from all major ratings agencies.
Investor Takeaways
The divestment of Putnam will allow GWO to focus on its U.S. growth opportunities. The exit from this asset management space creates a more streamlined company with a clearer path towards revenue growth. As GWO adds scale to Empower, the platform will become a powerful contributor to earnings growth. GWO offers an attractive 5.5% dividend yield that is well covered at current levels. Future dividend growth will be supported by contributions from GWO's growing retirement and wealth management franchise.
For further details see:
Great-West Lifeco: Progress On Growth Strategy And A 5.5% Yield