CNO Financial Group, Inc.

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 3/5

CNO Financial Group, Inc., is a holding company that operates as a provider of insurance products, primarily focused on the American senior and middle-income markets.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

CNO Financial Group operates in the insurance industry, focusing on providing life, health, and annuity solutions to the middle-income and senior markets in the U.S. They target the demographic that needs affordable financial products but are not always properly served by the major financial players. CNO operates through several divisions:

  1. Washington National (WN): This division primarily distributes supplemental health insurance, Medicare Supplement and Medicare Advantage plans, and life insurance. These products are targeted towards the senior market.
  2. Bankers Life: This division focuses on providing life, health, and long-term care insurance and annuities to the middle-income and senior markets. They use career agents and independent marketing channels to distribute their products.
  3. Colonial Penn (CP): This division offers a variety of term and whole life insurance and other life insurance products direct to consumers through television and other direct-response marketing methods. It aims to provide affordable, straightforward options for the underserved market.

CNO’s business model revolves around creating value by leveraging a multi-channel distribution strategy and targeting specific demographics with differentiated products. They do not primarily focus on selling high premium, high profit margin complex policies, preferring volume sales with modest profit margins.

Competitive Landscape

The insurance industry is highly competitive, characterized by:

  • Numerous players: Including large established companies and smaller, niche players. This creates pricing pressure.
  • Product standardization: Basic insurance products are often commoditized, making brand differentiation difficult.
  • High regulatory requirements: Insurance is a heavily regulated industry. Companies must comply with a complex web of rules.
  • High investment requirements: Insurance companies need to make significant upfront investment in sales & distribution, technology and policy administration.

CNO’s competitive position stems from a focus on a specific niche of underserved customers (seniors and middle-income), and specialized distribution strategies.

What Makes CNO Different

  • Focus on the senior and middle-income market: They target specific demographics often neglected by larger competitors.
  • Multi-channel distribution: CNO utilizes different distribution channels, including captive agents, independent agents, and direct-response methods, to reach their target customers.
  • Specialized products: CNO provides simpler, easily understandable products, particularly for those who have not the time or inclination to understand or appreciate complicated policies.
  • Efficient operations: CNO emphasizes cost control and operational efficiency. They do not have large head offices nor fancy perks.
  • Acquisition strategy: CNO has often grown and expanded its business through acquisitions and mergers with other similar companies. The rationale being that the industry is fragmented, and thus consolidating helps to capture market share, lower costs, and improve the efficiency of distribution.

Financial Analysis

  • Revenue Distribution: CNO’s revenue comes primarily from the premiums of its different insurance policies, which comprise a significant portion of total revenue. They also generate some of their revenue from investment income and a small fee income. However, premiums are by far the most important aspect to consider. The geographical distribution is concentrated in the USA.
  • Margins:
    • CNO typically reports a moderate operating margin given its business model. The company is very focused on the senior and middle-income markets, which tends to produce more stable earnings but at lower margins than those focused on complex and high premium policies.
    • The expenses can be generally divided into insurance policy costs (such as medical and life-related costs) and selling expenses.
    • The company’s overall profitability is strongly dependent on their ability to effectively predict claims and limit their expenses. A small miss on claims will have an outsized effect due to their modest profit margins.
    • The 2022 and 2023 results have been affected by negative performance at one of their main insurance operations (Washington National) in a number of areas.
  • Balance Sheet:
    • CNO has a reasonably healthy balance sheet with total assets above their total liabilities and a decent amount of equity, but nothing special, considering its business model.
    • One of the concerns, however, is the amount of insurance policy liabilities, which has increased over time.
    • They have managed to contain their debt at a reasonable level, allowing for more flexibility.
    • While current asset ratios and solvency are okay, there is not any extra or additional safety, given the company’s liabilities are predominantly long-term.
    • They have a negative trend of decreasing book value of equity per share. This is because of dividends and share repurchases, but, also, partially because of poor results.

Key Takeaway: CNO’s financial health is neither the strongest, nor the weakest, compared to their peers. There is an ongoing problem with some segments of their business and an expected change in economic conditions that can affect the stock. Their balance sheet has no glaring risks, but there is some cause for caution.

Recent Concerns and Management’s Perspective

  • Lowered guidance: In Q3 2023, CNO lowered their full-year EPS guidance, mostly attributed to losses in its long term care policy line due to elevated mortality rates and continued challenges in claims costs. This affected their share price and highlighted the problems they are facing. Management stated that this trend has continued into Q4 2023.
  • High reinsurance costs: CNO is facing higher costs related to reinsurance, which increases their expenses and reduces their profit margins. In particular, they are trying to find other reinsurers for older life insurance policies.
  • Increased interest expenses: CNO has been negatively impacted by high borrowing costs due to high prevailing interest rates. They have also reduced some borrowings by selling some of their investment assets. While their debt has fallen, they might face problems if the overall economy goes into a downturn.
  • Strategic restructuring: The company is making changes to its strategy, selling or restructuring less profitable parts of the business. This has the potential to benefit the firm, as they will be able to focus on their best and most profitable areas, but it also comes with additional expenses and changes that might cause disruptions. This also exposes the business to some uncertainty regarding its future revenue stream.
  • Management’s approach to lower guidance: Management has stressed a “bias toward conservatism” in their forecasting process, suggesting that they want to make sure they are able to meet or beat expectations. However, they have indicated that the root of the problem was that the company didn’t have the best internal control and that will be improved soon.

Moat Rating: 2/5

  • Limited moat: CNO has some brand recognition, but its moat is not particularly deep or wide. They do not compete on a high-end/high-profit segment and hence do not have very high returns or specialized products.
  • Switching costs: There are little to no switching costs for insurance customers, meaning it is easy for a customer to leave CNO and go with another supplier.
  • Customer loyalty: Customer loyalty in general is not high, and is probably even lower in CNO’s target demographics. As such, CNO cannot rely on high customer loyalty.
  • Competition: They face strong competition and it is difficult for them to capture an outsized market share.

Understandability Rating: 3 / 5

CNO’s business model is reasonably easy to understand. They sell life and health insurance to middle-income and senior markets. Their revenue streams and operating expenses are not difficult to understand either. The company’s operations may be quite complex in practice, it is a multi-faceted business with many segments. And hence a little more complicated than a simple business.

Balance Sheet Health Rating: 3/5

CNO has a reasonably healthy balance sheet, but the increase in liabilities coupled with the recent difficulties have lowered their balance sheet rating. While they are not overly leveraged with debt, this remains a risk.

In summary, CNO Financial is a company with a defined and focused strategy within the insurance industry. While they have the potential for long-term growth, they face challenges that may affect their returns. The ability of management to make use of CNO’s unique advantages will be a major factor in determining their performance.