Genetic evolution: how an industrial giant gave birth to life insurance's newest star.

In late 2003 when General Electric Co. disclosed that it would be spinning off the bulk of its life and mortgage insurance operations, many thought the world's largest multinational corporation had apparently lost faith in the long-term prospects for the "mature" insurance industry.

But nearly two years after its birth, Genworth Financial Inc. is looking to take advantage of two major demographic trends--the aging of the U.S. population and the uptick in home ownership rates around the world.

Genworth was launched with a May 2004 initial public offering that raised $2.83 billion--the third largest IPO of all time by a domestic life insurer and the largest IPO of any company in 2004, according to Renaissance Capital and IPOHome.com. It also has its roots in a bloc of insurers either formed or acquired by GE over the course of a half-century. Though the businesses were consistently profitable, by late 2003 it was determined that the life and mortgage insurance businesses didn't fit the goals set by Chairman and Chief Executive Officer to focus on 20% or better.

Genworth forged ahead on its own, even as GE used a series of secondary IPOs to reduce its position in the company from an initial controlling interest of 70% to just 18% at year-end 2005, and with plans to divest fully by year-end 2006. For 2005, the company posted 18% growth in operating earnings per share, and its return on equity rose 90 basis points to 10.7%, moving closer to an internal goal of 12% ROE by the end of 2006.

Following an initial capital rebalancing plan that allowed the company to distribute risk-based capital at the legal entity level, Genworth has concentrated on building its portfolio of products that serve the aging U.S. market with key "safety nets" and retirement income they won't outlive, said A.M. Best analyst Tom Rosendale.

"With a sharp focus on being an innovator in key growth markets across its three reporting segments--protection, retirement income and investments, and mortgage insurance--Genworth has positioned itself for long-term earnings growth and an improved return on equity," Rosendale said. "The company's product breadth and focus on service has helped it to cement its relationships with its extensive network of distributors."

Reinventing the Annuity

Matt Sharpe, Genworth's chief marketing officer for its retirement, income and investments group, expresses the energy of the young company when he says he and his group are "trying to change the world."

The subject of Sharpe's assertion is Clearcourse, a 401(k) investment-only option the company rolled out last September that allows plan participants to buy layers of guaranteed retirement income in a separate account. Arguing that the life insurance industry's "mandate" lies in its ability to provide lifetime streams of income, Sharpe sees the product as answering pundits who opined that the annuity is not a wanted benefit within the 401(k) industry.

"We built a product that allows the consumer to treat it just like any other option, where it sits alongside all of their other investment choices," Sharpe said. "Except that, with this one, they get an annuitization benefit that is guaranteed regardless of market performance. So this gives them the feel of a defined benefit within their 401(k) option, and that goes directly at what the environment around us is starting to pull away from."

Thus far, the company has reached agreement to offer the product to its first two external clients, representing 20,000 employees and $700 million in retirement assets, but talks have been initiated with more than 40 plan sponsors representing 500,000 employees and more than $20 billion in retirement assets.

TLC for the LTC Market

Perhaps the company's biggest gamble has been its commitment to maintain its position in the long-term-care insurance market. While recent years have seen such carriers as Conseco, CNA and Aegon choosing to exit the market, Genworth has claimed the perch of the market's largest writer of individual long-term-care insurance, with the long-term-care line representing 33% of the company's protection segment.

According to Buck Stinson, Genworth's president of long-term-care insurance, the market's shake-outs were largely driven when some of the larger writers realized they miscalculated some of the basic pricing assumptions of the product. In contrast, he believes the market is showing signs of greater stability today, with both new entrants and most of the dominant writers all practicing more prudent underwriting.

Genworth traces its roots in the long-term-care business to the 1950s, and the Fireman's Fund, which pioneered the line of business before it was later sold to American Express and, ultimately, to G.E. Stinson notes the company looks to continue to be an innovator. In late 2004, Genworth launched a new simplified long-term-care product and stepped up its training program for producers, while last year, the company entered the market for group long-term-care with a focus on lower-priced policies for younger employees of small to midsized companies.

The company is preparing to roll out a universal life/long-term-care combination product in the first haft of the year to appeal to those consumers who demand a death benefit or some form of inside cash build-up. Genworth is also exploring incentives for policyholders to use home-based care, where appropriate, rather than relying on nursing homes.

While outpacing the long-term-care market as a whole, sales have remained relatively flat, increasing just 5% year-over-year from 2004 to 2005. But analyst Eric N. Berg of Lehman Brothers Equity Research believes that could change quickly. In a study of price quotes in the long-term-care market that Berg conducted in cooperation with Lenox Advisors, Berg concludes that, while the company's more conservative pricing had left them at a competitive disadvantage over the past two years, recent price increases by competitors such as MetLife and MassMutual have catapulted Genworth to once again be solidly competitive in the quest for new business.

"What our study found is that across three age categories, Genworth's Privileged Choice policies were at a significant price disadvantage of 24% to 30% a year ago and today Genworth's prices beat the best of competitors' prices by 5% to 18%," Berg wrote in an investor's briefing.

But whether the long-term risks associated with the product will reward the company's patience remains an open question, argued Chad Hersh, senior analyst in the insurance practice of Celent.

"It is impossible to know whether staying in the ETC market and assuming a leadership role will pay off in the long term, since no one has enough experience in LTC claims to really know if the underwriting was done profitably," Hersh said. "Only time will tell if the risks will pay off, particularly as the primary buyers of LTC insurance begin to age over the next decade"

Finding a Home

Though usually perceived as a life insurer, Genworth's greatest growth through its first two years has been in private mortgage insurance, where it is the fifth-largest writer in the United States, the second largest in Canada, and the top writer in Australia, according to the company. In addition, the company has active operations in nine European countries, and entered the Mexican mortgage insurance market in the fourth quarter of 2005.

Altogether, mortgage insurance represents roughly 40% of the company's operating earnings, with premium income split almost equally between the domestic and foreign markets.

Key Points

* Two years after its birth, Genworth is looking to take advantage of two trends--the aging of baby boomers and the uptick in home ownership.

* Perhaps Genworth's biggest gamble is its commitment to its position in the long-term-care markets.

Much of the growth has accompanied the recent build-up in U.S. housing prices, but J.P Morgan equity analyst Jimmy S. Bhullar projects that conditions in the domestic market have already hit a peak and are likely to deteriorate over the coming years, as the housing bubble begins to deflate. "Low interest rates have been one of the key drivers of the robust housing market over the past few years. In the near-term, rising rates could help persistency and lead to faster growth in insurance in-force, but higher rates could pressure house prices, which will likely cause an increase in mortgage insurance delinquencies."

By contrast, notes Morgan Stanley equity analyst Nigel Dally, Genworth's position in international mortgage insurance markets should continue to see steady growth for the foreseeable future. He projects the international market will produce returns on equity in the high teens for several years to come, and that Europe and other markets could grow from just 10% of earnings today to as much as one-third of the segment's income in 2010.

Stepping on the Scale

Dally estimated in early December that the company then held $1.4 billion of surplus capital, including $800 million of debt capacity and $600 million of excess surplus capital, and is generating some $500 million to $700 million in new excess capital each year. Thus, one of the most pressing questions faced by Genworth going forward is where to direct that capital.

"Genworth's risk-based capitalization has improved since its 2004 IPO, and continues to be adequate for the company's current A+ financial strength rating (as of Feb. 6)," noted A.M. Best's Rosendale. "Under the direct control of GE, capitalization of the group had historically been managed rather aggressively, with significant variations in the stand-alone levels of risk-based capital among its insurance operating companies"

But since earning its independence, Genworth has been more cautious in its capital allocations. Its acquisitions strategy has focused primarily on distribution, such as the January 2004 acquisition of Hochman & Baker and the third quarter 2005 deal for CJM Planning Corp., while also looking at blocks of mortgage insurance and life and annuity business.

Stewart Johnson, equity analyst for Friedman Billings Ramsey, said his expectation is that most of the company's improvement in returns will be driven by share repurchases, contrary to his preference to see the company exploit its opportunities to expand its businesses. Nonetheless, he pointed to Genworth's Jan. 20 announcement that it would acquire Medicare supplement insurer Continental Life Insurance Co. for $145 million as a positive sign.

"I'd like to see them continue to buy up blocks of business like the recent announcement," Johnson said. "It may not be a multibillion dollar purchase, but when you do a couple hundred million here and there, it adds up."

Hersh believes a more sizable acquisition is not out of the question, and noted that the company had been rumored to be a potential buyer for Allstate's life insurance business. He characterized the company as in a "strong position to make sensible acquisitions," which he said are likely to be focused on opportunity buys rather than simply those to drive growth.

"Genworth certainly seems to embrace their G.E. heritage--conservative, but with aggressive growth and marketing goals," Hersh said. "They appear to be well-managed and process-oriented, which are good genes to inherit."

* Genworth's greatest growth in the past two years has been in private mortgage insurance.

Genworth Financial Inc.

Date incorporated: Oct. 23, 2003 Headquarters: 6620 W. Broad St., Richmond, Va. Chairman and chief executive officer: Michael D. Fraizer No. of employees: 6,850 Major lines of business: Long-term-care insurance, mortgage insurance, annuities, life insurance, payment protection Capital and surplus: $3.4 billion (A.M. Best estimate as of 9/2005) Premiums written: $6.5 billion (2005, for all lines of business) Shareholder equity: $13.3 billion (as of 12/31/2005) Total assets: $105.3 billion (as of 12/31/2005)

Sources: Genworth Financial and A.M. Best Co.

What's in a Name?

Establishing a brand name for a new, multibillion-dollar enterprise is a challenging proposition, and even more so when the brand it replaces is one as ubiquitous as General Electric.

If you're Genworth Financial, you call on a man named, appropriately enough, Buzz.

With nearly every existing word in the English language subject to a potential trademark claim, the challenge was to find an invented word that could convey instant familiarity and trustworthiness to consumers and investors alike, said Buzz Richmond, Genworth's senior vice president for branding.

Beginning in 2003 with more than 1,000 possible names, the company ran through the gauntlet of lawyers, linguists, international experts, and focus groups, with each successive round culling the candidates, Richmond recalled. Eventually, the candidates were reduced to three finalists, before senior management ultimately chose Genworth.

"When we put it into Outlook and Word, we had to add it, because, obviously, it's not a real word," Richmond said. "But we just couldn't be more thrilled with it."

Easing the company's transition to the new name has been its tagline, "Built on G.E. Heritage," which Genworth featured prominently in a series of television spots starring the equally high-profile tennis couple Andre Agassi and Steffi Graf. However, that tie will soon be cut, as Chairman Michael D. Fraizer disclosed during the company's year-end conference call that a new slogan would be unveiled, likely in the second quarter.

"The tie-back to G.E. was kind of a tether that kept everybody comfortable, so our partners could say, yeah, we can still work with these guys," Richmond said. "The new positioning this spring will be much more standing on our own."

Among the greatest catalysts enabling the company to establish its brand in such a short time span, Richmond believes, was its decision in mid-2004 to participate in the final two episodes of NBC's hit reality show The Apprentice, which aired in December of that year. The Mark Burnett series, starring Donald Trump, was the top new show of the 2003-2004 television season among total viewers, and was then drawing an average of 20.7 million people watching each week.

The Apprentice was kind of that leapfrog in our first six or seven months of the year that really brought us into the public frame," Richmond said. "It gave us a credibility and cache that we never could have achieved on our own."

From Wall Street To K Street

Even as Genworth executives huddle in their Richmond headquarters to plot their next moves, it is not lost on the company's leadership that many of the most important decisions affecting the future of its industry are actually being made two hours to the north--in the halls of Congress.

To lead its lobbying efforts, the company tapped industry veteran Roger Levy to serve as senior vice president of government relations. Levy, who joined Genworth last May from D.C. law firm Piper Rudnick LLP and spent a stint early in his career with the Independent Insurance Agents of America, remains best known on Capitol Hill for his more than 20 years with Travelers Insurance Cos. and Citigroup.

Most notably, Levy served as Citigroup's point man in efforts to push through the comprehensive financial-services reform bill known then as H.R. 10, but more commonly known today as the Gramm-Leach-Bliley Act.

But as monumental as that legislation was, Levy sees even larger challenges on the horizon in the form of debates about pensions, Medicare, Social Security and retirement security only likely to grow more intense as more of the baby boomers move into retirement. It is in this space, he believes, that Genworth can distinguish itself to public policy leaders as a company that provides products and services capable of addressing Americans tendencies to be undersaved and underprotected.

"We've all learned or begun to learn how to save for retirement," Levy said. "What we haven't done as well as we should, either as individuals or in crafting public policy, is figure out what to do with the funds after you crack the nest egg open."

Levy sees progress on that front, pointing to recent provisions of the House and Senate budget reconciliation bills that would allow public-private long-term-care partnerships in all 50 states, rather than the current four. But challenges also lie ahead, particularly in the area of tax policy. In addition to perennial calls to abolish the estate tax, the life industry recently took notice of recommendations made last fall by the President's Advisory Panel on Federal Tax Reform to treat as taxable income the inside build-up of cash value in life and annuity policies.

"I think the focus now is going to be more on making the tax cuts permanent than on trying to translate the recommendations from the tax panel into legislation and actually pursue something," Levy said. "We're all going to be able to chew this one over a bit longer, make our cases, and see what we come out with"

Frank Keating, president and chief executive officer of the American Council of Life Insurers, praised the work done by Genworth Chief Executive Officer Michael Fraizer and the company's advocacy team, which he said stands to be "a major player in public policy for years to come."

"Genworth hit the ground running two years ago," Keating said. "The company has contributed significantly on a wide range of retirement security issues, but on long-term-care insurance and annuities in particular. Their input into ACLI on these and numerous other topics is vital."

Protection

Segment Net Earnings

                Payment
        Group   Protection   Long-Term Care    Life

2005     6%      16%         30%              48%     $568 Million

2004     6%      15%         33%              46%     $528 Million

Retirement Income and Investments

Segment Net Earnings

         Institutional   Fee based    Spread Retail

2005      15%            24%          61%            $247 Million
2004      19%            29%          52%            $153 Million

Mortgage Insurance

Segment Net Earnings

        United States      International

2005     47%               53%             507 Million
2004     53%               47%             426 Million

Note: table made from bar graph.

Source: Genworth Financial