AFLAC: Ugly duckling stock, but dividend swan?
Widely recognized by its AFLAC duck brand icon, this health and life insurance provider has, like most financials, recently seen its stock [[AFL]] badly beaten down in the market on fears of “toxic” assets exposure – in this case hybrid securities issued by European financial institutions – and associated ratings downgrades. Yet the company says it doesn’t anticipate a need to raise capital, expects to meet its 2009 earnings goals and – of great importance to dividend investors – has affirmed plans to maintain its dividend.
Of course we’ve heard similar assurances before from other companies with not-so-pleasant end results. But given AFLAC’s history of superior return on equity (ROE) and earnings growth, and a current stock price down 75% from its 2008 highs – at $17 per share (with a corresponding dividend yield of 6.7%) – it’s certainly got my interest.
A member of the dividend elite
AFLAC has earned a place among the most elite dividend stocks. Not only is it a Dividend Aristocrat – for consistently increasing dividends every year for at least 25 consecutive years – it’s still in a position to claim continued strong earnings coverage of its dividend.
According to DividendInvestor.com, AFLAC has shown 26 consecutive years of dividend increases, with a five-year dividend growth rate of over 26%. Clearly the dividend growth rate won’t continue at those levels, but certainly should be able to continue at a double-digit annual pace in line with expected earnings growth. AFLAC’s dividend payout ratio is currently not a concern at about 43%, based on last year’s earnings.
Trading 50% below fair value
Starting with last year’s earnings of $2.62 per share and a consensus five-year earnings growth rate of about 13% (and conservatively assuming 0% terminal growth thereafter), DCF analysis gives a fair value for AFLAC of about $40 per share. Dropping the five-year earnings growth rate to 6% gives a fair value of about $30 – still almost double what it’s trading for now.
A check with Ockham Research yields similar results. AFLAC’s price/sales and price/cash earnings ratios are significantly below recent historical values, and its dividend yield is above average – all suggesting that the stock is undervalued at these levels based on current fundamentals.
Extremely oversold, but downside momentum still strong
A 25-year price chart of AFLAC (below) shows that the stock is currently trading below the bottom of its long-term uptrend channel (which in this case is three standard errors below the linear regression trendline):
While it’s extremely oversold here, it seems likely to eventually drop into the $10-$15 area given its current downside momentum. The technical picture could turn quite positive if, over the coming weeks, the stock price stabilizes and shows some slowing in its downside momentum.
Bottom line
Clearly – as is the case with almost every stock trading at a large discount to its fair value – there are some potentially significant issues weighing heavily on the shares of AFLAC. And, in the current economic and market environment, it’s understandable why market participants would be inclined to “sell first, and ask questions later.”
Still, the stock price at this point may be more a reflection of fear than the actual likelihood of those fears being realized. And AFLAC’s strong operating history and profitability provide some reassurance that any losses that are realized will be manageable.
I’m short some August 25-strike puts in AFLAC – a position I initiated just prior to the stock breaking down into the $20s – which means I could eventually be put shares of AFL at $25 (for a net cost basis in the low $20s). I’m currently comfortable with this position (although my timing could certainly have been better), but still may decide to roll it over into some lower-strike longer-term options (LEAPS) as a defensive measure.
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