Is Aflac's Stock Cheap?

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Numbers can lie -- but they're the best first step in determining whether a stock is a buy. In this series, we use some carefully chosen metrics to size up a stock's true value based on the following clues:

  • The current price multiples.
  • The consistency of past earnings and cash flow.
  • How much growth we can expect.

Let's see what those numbers can tell us about how expensive or cheap Aflac (NYS: AFL) might be.

The current price multiples
First, we'll look at most investors' favorite metric: the P/E ratio. It divides the company's share price by its earnings per share -- the lower, the better.

Then, we'll take things up a notch with a more advanced metric: enterprise value to unlevered free cash flow. This divides the company's enterprise value (basically, its market cap plus its debt, minus its cash) by its unlevered free cash flow (its free cash flow, adding back the interest payments on its debt). Like the P/E, the lower this number is, the better.

Analysts argue about which is more important -- earnings or cash flow. Who cares? A good buy ideally has low multiples on both.

Aflac has a P/E ratio of 9.0 and an EV/FCF ratio of 2.2 over the trailing 12 months. If we stretch and compare current valuations to the five-year averages for earnings and free cash flow, Aflac has a P/E ratio of 10.1 and a five-year EV/FCF ratio of 3.1.

A positive one-year ratio under 10 for both metrics is ideal. For a five-year metric, under 20 is ideal.

Aflac is a mouthwatering four for four on hitting the ideal targets, but let's see how it compares against some competitors and industry mates. 

Company

1-Year P/E

1-Year EV/FCF

5-Year P/E

5-Year EV/FCF

Aflac

9.0

2.2

10.1

3.1

MetLife (NYS: MET)

12.2

8.4

10.6

10.4

Prudential Financial (NYS: PRU)

7.8

4.94

8.9

5.8

Hartford Financial Services Group (NYS: HIG)

4.2

3.9

12.4

3.1

Source: Capital IQ, a division of Standard & Poor's.

One thing to note here is the EV/FCF numbers are misleading in the insurance industry due to the dynamics of their floats and investments. Instead, we can look to their price-to-book ratios as another measure of cheapness to go with the P/E ratio. Aflac's at 1.4, MetLife's at 0.6, Prudential's at 0.7, and Hartford is at 0.4.

Numerically, we've seen how Aflac's valuation rates on both an absolute and relative basis. Next, let's examine ...

The consistency of past earnings and cash flow
An ideal company will be consistently strong in its earnings and cash flow generation.

In the past five years, Aflac's net income margin has ranged from 6.9% to 10.7%. In that same time frame, unlevered free cash flow margin has ranged from 28.8% to 40.5%.

How do those figures compare with those of the company's peers? See for yourself:

anImage

Source: Capital IQ, a division of Standard & Poor's; margin ranges are combined.

Additionally, over the last five years, Aflac has tallied up five years of positive earnings and five years of positive free cash flow.

Next, let's figure out ...

How much growth we can expect
Analysts tend to comically overstate their five-year growth estimates. If you accept them at face value, you willoverpay for stocks. But while you should definitely take the analysts' prognostications with a grain of salt, they can still provide a useful starting point when compared to similar numbers from a company's closest rivals.

Let's start by seeing what this company's done over the past five years. In that time period, Aflac has put up past EPS growth rates of 3.7%. Meanwhile, Wall Street's analysts expect future growth rates of 10.5%.

Here's how Aflac compares to its peers for trailing five-year growth:

anImage

Source: Capital IQ, a division of Standard & Poor's; EPS growth shown.

And here's how it measures up with regard to the growth analysts expect over the next five years:

anImage

Source: Capital IQ, a division of Standard & Poor's; estimates for EPS growth.

The bottom line
The pile of numbers we've plowed through has shown us the price multiples shares of Aflac are trading at, the volatility of its operational performance, and what kind of growth profile it has -- both on an absolute and a relative basis.

The more consistent a company's performance has been and the more growth we can expect, the more we should be willing to pay. We've gone well beyond looking at a 9.0 P/E ratio, and we see some good numbers all around. Aflac rarely looks cheap compared with peers on a price-to-book basis, but it's a quality company worth paying a premium for. Add in a 3.4% dividend yield and Aflac's looking pretty cheap by the initial numbers. But this is just a start. If you find Aflac's numbers or story compelling, don't stop. Continue your due diligence process until you're confident one way or the other. As a start, add it to My Watchlist to find all of our Foolish analysis.

To see the stocks that I've researched beyond the initial numbers and bought in my public real-money portfolio, click here.

At the time this article was published Anand Chokkaveludoesn't own shares in any company mentioned.The Motley Fool owns shares of Aflac.Motley Fool newsletter serviceshave recommended buying shares of Aflac. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

Copyright © 1995 - 2011 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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