DBRS Comments on Manulife Dividend Cut

DBRS notes that today’s decision by Manulife Financial Corporation’s (Manulife or the Company) Board of Directors to reduce its dividend rate by 50% is expected to preserve close to $800 million annually in shareholder capital. This is the latest in a recent line of actions taken by the Company to build and preserve capital following the adverse impact of weakening equity markets and falling interest rates on its actuarial reserves and reported earnings. While DBRS regards this dividend reduction as extraordinary for a Canadian financial institution, the decision is nevertheless prudent in the context of the current operating and market environment. There are no implications for the Company’s ratings at this time. However, DBRS recognizes that further large losses without a corresponding build-up in common equity capital would likely lead to downward pressure on the ratings.

The Company is actively attempting to build a capital cushion to see it through the current uncertain environment that could impact Manulife through movements in the equity markets and interest rates, and resulting changes in customer and policyholder behaviours. While providing a defensive cushion against adverse results that would otherwise give rise to the need for a dilutive share issue, additional capital would also ease the funding of any opportunistic growth opportunities that could arise in the current industry context. The Company regards retaining more earnings as the least expensive way of building this capital buffer.

As a result of the issuance of close to $2 billion of net new capital in the first half of 2009 and the large losses incurred in Q4 2008 and Q1 2009, the Company’s total debt ratio, including preferred shares and hybrids, increased to over 20%, which is in excess of the norm for Manulife.

The Company estimates that its normalized earnings, excluding the impact of equity and credit market movements, should be between $3.0 billion and $3.4 billion annually. At the new dividend rate, the payout ratio is likely to be approximately 25%, which is in line with the Company’s long-term average. The reduced dividend payout ratio is a reflection of more conservative economic and market assumptions.

The recovery in global equity markets in the second quarter of 2009 resulted in a recovery in earnings tied to non-cash gains related to segregated fund guarantees. However, lower interest rates and a continued weak credit environment gave rise to a number of offsetting losses. In the meantime, the regulatory capital ratios of its major operating subsidiary, The Manufacturers Life Insurance Company, remain healthy at 242%, up from 200% a year ago.

The Company also anticipates that a review of actuarial reserves in Q3 2009 related to changes in policyholder behaviour and the still-weak economic and credit environment will result in an additional charge to income in the third quarter. Because Manulife remains more exposed to equity market weakness through its variable annuity guarantees (even though it is actively reducing this potential exposure), it is prudent to build capital against downside risks.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Canadian Life Insurance Companies, which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.