Aflac (AFL) is a life and health insurer. It’s not a growth story, but the book value and dividend growth has been impressive. This is because of the massive buybacks over the last decade: Aflac has bought back almost 30% of the shares. A low valuation has its advantages!
This article is a brief analysis of Aflac, but we recommend reading the company’s reports yourself to make proper due diligence.
What does Aflac do?
Aflac (American Family Life Assurance Company of Columbus) is mainly a health and life insurer. Their Annual report from 2020 explains their business in pretty simple terms:
The Company’s principal business is supplemental health and life insurance products with the goal to provide customers the best value in supplemental insurance products in the United States (U.S.) and Japan. When a policyholder or insured gets sick or hurt, the Company pays cash benefits fairly and promptly for eligible claims.
Aflac is a bit odd: most of the revenue is made in Japan (68%) and reports in two segments: The US and Japan. Their offerings include care plans, life insurance plans, medical/sickness, care plans, cancer insurance, and annuities (in Japan). The distribution is via traditional insurance brokers and agents, but Covid-19 has sped up its online distribution channels.
To our knowledge, these two markets have together more life insurance policies in force than the rest of the world combined.
Insurance is mainly a commodity business because there is little product differentiation and consumer purchases are typically based on price. A “moat” is possible via culture and strict underwriting discipline. Those companies that have managed to develop such a culture have managed great compounded returns (Berkshire, Aflac, Markel, WR Berkley, Global Life, etc.).
The historical share price performance of Aflac:
History doesn’t necessarily predict the future, but we like to have a look at past performance. In the long run, the fundamentals can’t disconnect from the share price.
The blue line (left axis) in the chart below is the logarithmic share price of Aflac from 1990 until October 2021 (read here for linear vs logarithmic charts). The red line (right axis) is the linear graph of the five-year rolling CAGR of the share price.
Clearly, the performance was better prior to the financial crisis in 2008/09, but the CAGR is still an acceptable 10.2% since both the years 2000 and 2010.
However, much of the growth in the share price prior to 2008 was due to multiple expansions, and the opposite after the financial crisis (please see the valuation headline further below for more).
Aflac’s Book value growth:
Aflac is an insurer and insurers are often valued in terms of the old-fashioned book value.
The book value has risen from 13.6 in 2011 to 50 today. At the same time, it has paid out 8.47 in dividends. This is a hefty 15% CAGR.
Below is a chart showing the quarterly book value in Aflac from 2006 until 3Q2021 (taken from Macrotrends.net):
Does Aflac have a moat?
Talking about moats in the insurance business is hard, but Aflac has thrived for over 66 years. They had first-mover advantage in their businesses (Aflac was one of the first to enter Japan), they have an effective cost structure, and most likely know the inefficiencies in the health care systems of its two markets.
We can’t remember the source, but we believe that 80-90% of all public companies in Japan offer Aflac’s products to its employees and almost a quarter of Japanese families hold one or more policies.
In the insurance business, mostly all moats are cultural and any business that has prospered and managed more than 10% per year over decades must be doing something right (?).
Aflac’s management has skin in the game:
One factor often overlooked about Aflac is that the company is still partially owned by the founding family – the Amos family. We like family business stocks because they tend to be managed conservatively because of skin in the game.
Aflac was founded in 1955 in Columbus, Georgia, by three brothers – the Amos family, where it’s still headquartered. Since 1990 Aflac has been led by Daniel Amos, the son of one of the founders. He’s born in 1951, thus it might be a question mark how long he will continue. According to the latest proxy report, he and his family own/control 3.1% of the voting rights.
Aflac’s valuation:
Prior to the financial crisis in 2008/09 Aflac used to trade at higher multiples than today: it was once valued at 3x the book value and had a PE above 15. We copied the following valuation graph from Macrotrends.net:
Since the financial crisis, the PE ratio has been around 10-12 – significantly lower than the previous decade. Obviously, we have witnessed a multiple contraction in the price to book ratio as well:
The current book value is 50 USD per share, thus Aflac is trading at a P/B just above 1. Thirteen years ago you would need to pay 3x for the same assets!
Does the multiple contraction imply that the return on equity (ROE) is mediocre?
No, the average ROE over the last ten years has been a very acceptable 16%, the highest among the “peers” (companies can be hard to compare):
| AFL 16.2% |
| MFC 8.6% |
| PRU 6.7% |
| SLF 9.8% |
| PUK 15.5% |
| MET 6.9% |
| GL 13.6% |
The PE is currently around 10 – which is very low in today’s market.
Capital allocation: Is Aflac a Dividend Aristocrat?
Yes, Aflac is a Dividend Aristocrat and has raised the dividend for at least 39 years in a row, as far as we can see (correct us if we are wrong). The payout ratio has been between 15-35% over the last decade and hence there is further room for dividend growth. The current dividend yield is 2.5%.
We are not dividend investors, we prefer to look at total returns, but because of Aflac’s low valuation, the headwind of dripping is lower than in most stocks.
What is often overlooked, however, is that Aflac has made huge buybacks recently, which makes sense given the low valuation, especially compared to the broader market. With a PE of 10 and strong cash flows, you can buy back big chunks every year.
At the end of 2011, there were 939 million shares outstanding, while Aflac today has only 671 million shares outstanding. That is a healthy 29% reduction in the share count! The last 12 months have seen a 5.9% reduction.
Arguments against Aflac:
Are there any arguments against Aflac? Of course, every investment has its cons:
First of all, Aflac is not a growth story. The revenue today is the same as in 2011. Most of the EPS growth has come from “financial engineering”.
Remember that Aflac tends to drop hard when the market is hit by a recession. During the financial crisis in 2008/09 the stock dropped from a high of 23 to a low of 6, a scary 74% drop. The same thing happened during the Covid mess in March 2020: a 52% drop. Aflac has a lot of corporate bonds in its investment portfolio.
Back in 2008 Aflac lost on investments in both Lehman and Washington Mutual, which both went bankrupt, and Wall Street was very worried about its other investments. This resulted in an insanely cheap stock in 2009, trading at a PE of 5-6.
Some investors might be scared away by the fact that most earnings are in the Japanese yen. However, we can turn that around: it’s a hedge against a weak dollar due to revenue in YEN and it owns Japanese bonds. Also, keep in mind that the “exchange problem” is completely outside the control of the company and will have little impact on the actual business being valued. We can also mention that Japanese stocks trade significantly cheaper than US stocks. Berkshire Hathaway has invested in a few Japanese companies, as well.
Is Aflac recession-proof?
Insurance is one of the last things people cut to save money. An indication of what happens during tough times might be indicated in the 10-K from 2006 to 2010 (during the financial crisis in 2009/09):
However, Aflac, like all insurers, has a massive bond portfolio. If there is a financial crisis later, and it surely will come sooner or later, Aflac’s investments will be the cause for concern – not the underwriting.
The investment portfolio per 30. September 2021 looks like this:
Conclusion:
Aflac is not an exceptional company, nor is it an exceptional business. But it’s an interesting investment because of its consistent low valuation (for a decade) that does its trick even for a slow-growing company.
We believe Aflac offers good risk/reward. It’s certainly not a very exciting investment, but we believe it offers good risk-adjusted returns over the next decade.
What kind of return can we expect?
If we use the very simple formula by the late John Bogle, we can add the EPS growth to the current dividend yield (plus any multiple expansion). The current dividend yield is 2.5%, and the EPS has grown at about 9% over the last decade. This means 10-12% annual returns.
This will not set the world on fire, but in a market where quantitative easing has led to massive multiple expansion, a moderately valued stock like Aflac can turn into a winner if the markets get nervous.
Any multiple expansion is a bonus.
Disclaimer: We are not financial advisors. Please do your own due diligence and investment research or consult a financial professional. All articles are our opinion – they are not suggestions to buy or sell any securities.
