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Aflac Looks Cheap, but Exposure to Europe Raises Concerns

The high-quality insurer's shares might be attractive for investors bullish on the region, but risks remain.

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Aflac (AFL), one of the highest-quality insurance companies and among the few to which we award an economic moat, is currently trading at a discount to both historical multiples and our fair value estimate. The company's business model in Japan is one of its strengths, as a loyal customer base, high retention ratios, and a low-cost sales model help it produce strong returns on equity. On the other hand, the unique, long-duration liability profile of this business combined with the lack of a long-dated corporate bond market in Japan forced Aflac to turn to the euroyen market and other European issuances to match the cash flows of the claims payments. As a consequence, the company has substantial exposure to troubled European sovereigns and financial institutions. While the company is making the right steps to derisk its portfolio, the uncertainty surrounding the eventual outcome of the situation in Europe gives us pause. That said, given the historically low valuation, this might be an attractive entry point for investors with a more positive (or even neutral) view on the region.

Aflac Is a High-Quality Insurer
In general, we do not like the life insurance business model. Intense competition, commodity products, and losses that take a long time to realize cause us concern. One exception is Aflac, which is often classified as a life insurance company, although its main product is actually supplemental insurance. The company routinely generates returns on equity consistently in the upper teens, driven by its first-mover advantage and fierce loyalty in Japan, its primary market. Additionally, it has a low-cost sales model from marketing its products through the workplace, and customers have little incentive to switch. We believe Aflac has one of the best operating models among all of the insurance companies we cover.

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Drew Woodbury does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.