GE's Next Crisis Could Be in Insurance.


Teresa Rivas

Oct 26, 2018

General Electric's (GE) insurance unit took a big charge earlier this year, but the pain may not be over, warns one analyst.

     Where we were: From its Power business to its balance sheet, there has been no shortage of issues, bears argue, that will weigh on GE.

     Where we're headed: GE's insurance problems may seem like old news at this point, but Gordon Haskett Research Advisors warns they may flare up again.

     GE's new CEO has won the stock several fans, but other skeptics don't think that a leadership change alone can fix GE's problems, pointing to problems with GE's Power business and potentially large liabilities at GE Capital. The latter was of course in the headlines earlier this year, when GE said that it would take a huge $15 billion charge to bolster reserves at its insurance unit -- and that business may be once again the source of more woe, argues Gordon Haskett's John Inch.

     Inch reiterated an Underweight rating and $11 price target on GE Friday, writing that accounting changes could cause yet more problems for GE.

     Here's the problem: In August, the Financial Accounting Standards Board (FASB) issued ASU 2018-12 "Targeted Improvements to the Accounting for Long-Duration Contracts," an update that Inch believes could lead to GE being on the hook for "billions" more for its insurance reserves, "on top of $15 billion in cash already committed," Inch writes. The ASU 2018-12 changes will apply to GE and other insurance companies that issue long-duration contracts (life insurance, disability income, long-term care insurance and annuities) effective in 2021. Inch highlights one of the crucial mandates of the update -- one that requires insurers to adopt a "standardized discount rate (an upper-medium grade -- low credit-risk -- fixed income instrument yield) versus discount rates applied at the discretion of the insurance company, which are effectively rarely, if ever, modified."

     Think back to January again: The numbers were big, with a $9.5 billion charge on the heels of review and reserve testing of its insurance portfolio and $15 billion in cash-reserve payments (paid through 2024), so it's no surprise that the market reacted very negatively to the news. However, Inch believes that, big as those figures were, GE actually "settled on the minimum amount of contribution required with its regulator." It gets even worse when you consider that the pool of potential claimants appears to be hitting an age inflection, which could require more payouts.

     Inch writes that in GE's 2017 10-K filing the company lowered its discount rate (the insurer's expected investment yield) from 6.2% to 5.7%, one of the catalysts that triggered the required reserve boost. Yet he believes that 5.7% is still too high, and "will likely have to come down" in light of the new FASB standard. "At this juncture, while the precise degree of mandated decline remains uncertain, the magnitude is expected to be significant." GE's filing noted that if the company were to take down its expected investment yield by 25 basis points, the move would result in a $1 billion increase in future policy benefit reserves, all else remaining the same. Thus, he concludes "GE could once again find itself owing billions more to top up its insurance reserves."

     GE is down 2.2% to $11.53 in morning trading.

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