Fitch Ratings has published a special report examining goodwill and the potential for impairments in the North American life insurance sector. While Fitch believes goodwill impairments are likely in the coming quarters, the factors leading to these impairments have largely been factored into existing ratings.
Goodwill impairments reflect that the earnings and cash flow expected at the time of acquisition will not materialize. Over the past year, a number of life insurers have taken goodwill impairments due to ongoing challenges associated with difficult macroeconomic conditions and regulatory uncertainty, which are negatively affecting industry earnings, sales, and equity valuations.
Fitch views the balance sheet impact of goodwill impairments to be limited due to our focus on statutory capital, which significantly limits the admissibility of goodwill. Goodwill impairments do affect financial leverage ratios, which is a key credit metric. However, Fitch notes that the amount of goodwill on the industry's GAAP balance sheets, which equates to approximately 15% of aggregate GAAP shareholders' equity, is relatively modest. To better understand the potential impact of goodwill impairments to fitch's financial leverage metric, a simple stress was calculated showing a potential impairment of both 50% and 100% of goodwill. Results of this stress do not raise red flags for the sector.
Material goodwill impairments could lead to negative rating actions in certain situations, especially when unexpected. The impairment by itself does not drive rating downgrades. Key considerations for Fitch are the impairment's cause and effect on financial flexibility and how anticipated future cash flows and interest coverage are altered.
The report can be found at www.fitchratings.com
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