DBRS Confirms Ratings of Power Financial Corporation at A (high) and Pfd-2 (high)

DBRS Limited (DBRS) confirmed Power Financial Corporation’s (PWF or the Company) Issuer Rating and Senior Debentures rating at A (high) and Cumulative First Preferred Shares (Series A) and Non-Cumulative First Preferred Shares ratings at Pfd-2 (high). All trends are Stable.

The confirmation of the Company’s ratings results from the application of DBRS’s “Global Methodology for Rating Life and P&C Insurance Companies and Insurance Organizations” (the Global Insurance Methodology), which was used to confirm the Issuer Rating of A (high) with a Stable trend of Great-West Lifeco Inc. (GWO), PWF’s major operating subsidiary. GWO, a large insurance organization that contributes approximately 74% of PWF’s year-to-date 2017 earnings, is the largest contributor to the Company’s earnings and overall strength. Hence the primary methodology used to rate GWO, the Global Insurance Methodology, is also the primary methodology used to rate PWF. The diversification and overall strength of the Company’s combined subsidiaries, in addition to the assessment of the financial strength of the PWF legal entity, have prompted DBRS to conclude that the sum of the parts is sufficiently strong enough for the PWF Issuer Rating to be at the same level as GWO’s.

PWF is a corporate holding company controlling two major Canadian financial services providers: GWO, one of Canada’s three largest life insurance companies, and IGM Financial Inc. (IGM; rated A (high) with a Stable trend by DBRS), Canada’s largest non-bank-owned mutual fund company. Through a 50/50 partnership with Belgium’s Groupe Frère-Bourgeois, PWF also shares a 55.5% equity interest in Pargesa Holding SA (Pargesa), a Swiss holding company with indirect interests in a limited number of largely European-based companies through Groupe Bruxelles Lambert SA. PWF, in turn, is 65.6% owned by Power Corporation of Canada (POW; rated “A” with a Stable trend by DBRS). POW is controlled by the Desmarais family, and the POW group of companies is managed by an inner circle of long-serving professional managers. Reflecting this ownership and management, PWF benefits from a strong capital position, high liquidity and prudent decision making, with an emphasis on conservative and integrated risk management.

The Company’s business strategy consists of taking long-term investment positions in a limited number of well-positioned businesses that are self-sustaining from a capital perspective. Part of the free cash flow generated by these investments passes through to PWF in the form of a steady stream of dividends that, in turn, supports the creditworthiness and debt service capacity of the Company. PWF’s debt service coverage ratios are strong at 15.2 times as at the nine months ended September 30, 2017 (9M 2017). Similarly, capitalization remains conservative, with the Company having a debt and preferred shares-to-capitalization ratio of 14.9% as at 9M 2017, a level that has declined from 2012 levels of around 18%. Capitalization is mainly in the form of perpetual preferred shares, which the Company views as a cost-effective and lower-risk form of capital than debt. On a non-consolidated basis, PWF had about $1,065 million in cash and short-term securities as at September 30, 2017, reflecting the Company’s conservative financial management approach. The Company’s large liquid pool of assets positions it well to handle any potentially adverse situations that may arise as well as enabling it to take advantage of any acquisition opportunities that may occur.

Through GWO and IGM, PWF is focused on the manufacture and distribution of insurance, protection, wealth management and investment products, including mutual funds. The Company’s indirect equity interest in Pargesa provides some modest additional geographic and industry diversification. The Company’s concentration in the financial services sector exposes it to some concentration risk, where it is subject to external market forces, including the low-interest-rate environment and equity market volatility, potentially affecting earnings. The Company’s return on equity has been on a slightly declining trend in recent years, although earnings are strong considering the challenging current operating environment. PWF is cognizant of the emerging issues and challenges presented by the low-interest-rate environment, increasing regulatory requirements, disruptive technological forces and higher customer expectations and has taken steps to modernize its subsidiaries to enable them to adapt to the changing environment.

DBRS believes that PWF operating businesses have strong, well-diversified distribution channels that constitute one of the core operating strengths of PWF, allowing it to deliver a range of financial products. PWF realizes that there is a large market for financial advice, given the complexity of most insurance and wealth management products as well as general demographic trends, including an aging population in need of financial planning advice. However, the large proportion of PWF earnings that comes from GWO and IGM exposes the Company’s advice-centred distribution model to disruptive forces, including increasing regulatory focus on fiduciary duty, rapidly evolving technology and shifting customer expectations. Given the importance of distribution to the Company’s advice-centred distribution model (consisting of career agents and consultants, independent financial advisors and brokers), the Company is investing in further strengthening the distribution networks at IGM and GWO. This strengthening includes efforts to use digital technology to increase productivity and improve the quality of advisors.

RATING DRIVERS
PWF’s credit ratings could come under pressure if there is a significant deterioration in the creditworthiness of a major operating subsidiary, a sizable shift in the Company’s risk profile resulting from a major divestiture or acquisition or a material increase in unconsolidated financial leverage giving rise to a deterioration in coverage ratios. Negative rating pressure may also arise from evidence of governance and control issues. Conversely, the Company may potentially benefit from any upgrades to the ratings of GWO.

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrs.com.

The applicable methodologies are DBRS Criteria: Rating Corporate Holding Companies and Their Subsidiaries (December 2016), Global Methodology for Rating Life and P&C Insurance Companies and Insurance Organizations (December 2016) and Rating Companies in the Asset Management Industry (December 2016), which can be found on our website under Methodologies. In addition, DBRS Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers (December 2016) was used to assess the preferred shares.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: Stewart McIlwraith, Senior Vice President, Head of Insurance - Global FIG
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer - Global FIG and Sovereign Ratings

The rated entity or its related entities did participate in the rating process. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities.

For more information on this credit or on this industry, visit www.dbrs.com.