Globe Life Inc

NYSE:GL

Earnings Call Transcript 2018-Q2

[Operator]

Good day, and welcome to the Torchmark Corporation Second Quarter 2018 Earnings Release Conference Call. Today's conference is being recorded. For opening remarks and introduction, I would like to turn the conference over to Mike Majors, VP Investor Relations. Please go ahead, sir.

[Michael Majors, VP, IR]

Thank you. Good morning everyone. Joining the call today are Gary Coleman and Larry Hutchison, our Co-Chief Executive Officers; Frank Svoboda, our Chief Financial Officer; and Brian Mitchell, our General Counsel.

Some of our comments or answers to your questions may contain forward-looking statements that are provided for general guidance purposes only. Accordingly, please refer to our 2017 10-K and in subsequent forms 10-Q on file with the SEC. Some of our comments may also contain non-GAAP measures. Please see our earnings release and website for discussion of these terms, and reconciliations to GAAP measures.

I'll now turn the call over to Gary Coleman.

[Gary Coleman, Co-Chairman and CEO]

Thank you, Mike, and good morning everyone. In the second quarter, net income was $184 million or $1.59 per share, compared to $140 million or $1.18 per share a year ago. Net operating income for the quarter was $175 million or $1.51 per share and per share increase is 27% from a year ago.

Excluding the impact of tax reform, we estimate that this growth would have been approximately 8%. On a GAAP reported basis, return on equity was 12.2% and book value per share was $48.44. Excluding unrealized gains and losses on fixed maturities, return on equity was 14.6% and book value per share grew 26% from a year ago to $42.08.

In our life insurance operations, premium revenue increased 5% to $630 million and life underwriting margin was a $161 million, up 9% from a year ago. Growth in underwriting margin exceeded premium growth, due to higher margins at American Income and Direct Response. For the year, we expect life underwriting income to grow around 5% to 7%.

On the health side, premium revenue grew 4% to $251 million, and health underwriting margin was up 8% to $60 million. Growth in underwriting margin exceeded premium growth due to higher margins at Family Heritage. For the year, we expect health underwriting income to grow around 6% to 8%.

Administrative expenses were $55 million for the quarter, up 8% from a year ago and in line with our expectations. As a percentage of premium, administrative expenses were 6.5% compared to 6.3% a year ago. For the full-year, we expect administrative expenses to be up 5% to 6% and around 6.5% of premium compared to 6.4% in 2017.

I will now turn the call over Larry for his comments on the marketing operations.

[Larry Hutchison, Co-Chairman and CEO]

Thank you, Gary. At American Income, life premiums were up 9% to $270 million and life underwriting margin was up 11% to $89 million. Net life sales were $60 million, up 5%. The producing agent count for the second quarter was 7,064, up 1% from a year ago, and up 4% from the first quarter. The producing agent count at the end of the second quarter was7,143.

At Liberty National, life premiums were up 2% to $69 million, while life underwriting margin was down 7% to $17 million. Net life sales increased 9% to $13 million, and net health sales were $5 million, up 9% from the year-ago quarter. The sales increase was driven primarily by growth in agent count.

The average producing agent count for the second quarter was 2,185, up 9% from a year ago, and up 5% compared to the first quarter. The producing agent count of Liberty National ended the quarter at 2,198.

Our Direct Response operation at Globe Life, life premiums were up 3% to $209 million, and life underwriting margin increased 21% to $36 million. Net life sales were down 5% to $35 million. As we have discussed on previous calls, the sales decline is by design. We continue to refine and adjust our marketing programs in an effort to maximize the profitability of new sales.

At Family Heritage, health premiums increased to 8% to $68 million and health underwriting margin increased 14% to $16 million. Health net sales grew 10% to $16 million. The average producing agent count for the second quarter was 1,052, up 2% from a year ago and up 6% from the first quarter. The producing agent count at the end of the quarter was 1,090.

At United American General Agency, health premiums increased 3% to $94 million. Net health sales were $13 million, up 3% compared to the year-ago quarter.

To complete my discussion on the market operations, I will now provide some projections. We expect the producing agent count for each agency at end of 2018 to be at the following ranges. American Income to 7,000 to 7,300; Liberty National 2,200 to 2,400; Family Heritage 1,060 to 1,210.

Approximate life net sales trends for the full year 2018 are expected to be as follows: American Income, 4% to 8% growth; Liberty National, 8% to 12% growth; Direct Response, 7% to 10% decline.

Health net sales trends for the full year 2018 are expected to be as follows: Liberty National, 4% to 8% growth; Family Heritage, 5% to 9% growth; United American Individual Medicare supplement 10% to 10% growth.

I will now turn the call back to Gary.

[Gary Coleman, Co-Chairman and CEO]

I want to spend a few minutes discussing our investment operations; first, excess investment income. Excess investment income, which we defined as net investment income less required interest on net policy liabilities and debt was $60 million, a 3% decrease over the year-ago quarter.

On a per share basis, reflecting the impact of our share repurchase program, excess investment income was flat. Year-to-date, excess investment was up 1% in dollar to the 4% per share. For the full-year 2018, we expect excess investment income to grow by around 2%, which resulted per share increase of 4% to 5%.

Now regarding the portfolio, invested assets were $16.1 billion, including $15.4 billion of fixed maturities and amortized costs. Of the fixed maturities, $14.7 billion are investment grade, with an average rating of A- and below investment grade bonds were $688 million compared to $672 million a year ago.

The percentage of low investment grade bonds of fixed maturities is 4.5% compared to 4.6% a year-ago, with a lower portfolio leverage of 3.2 times, the percentage of below investment grade bonds to equity, excluding net unrealized gains on fixed maturities is 14%.

Overall the total portfolio is rated BBB+, the same as the year-ago quarter. In addition, we have net unrealized gains in the fixed maturity portfolio of $935 million approximately $732 million lower than a year ago due to primarily the changes in market interest rates.

In the second quarter, we invested $182 million in investment-grade fixed maturities, primarily in industrials and financial sectors. We invested at an average yield of 5.16%, an average rating of BBB+, and an average life of 18 years.

For the entire portfolio, the second quarter yield was 5.57%, down 11 basis points from the 5.68% yield in the second quarter of 2017. As of June 30, the portfolio yield was approximately 5.56%.

At the midpoint of our guidance, we are assuming and an average new money rate of around 5% for the remainder of the year. We would like to see higher interest rates going forward. Higher new money rates have a positive impact on operating income by driving up excess investment income.

We are not concerned about potential unrealized losses that are interest rate-driven, since we would not expect to realize them. We have the intent, and more importantly, the ability to hold our investments to maturity. However, if rates don't rise, a continued low interest rate environment will impact our income statement, but not the GAAP or statutory balance sheet, since we primarily sell noninterest-sensitive protection products accounted for under FAS 60. While we would benefit from higher interest rates, Torchmark would continue to earn substantial excess investment income in an extended low interest rate environment.

Now, I will turn the call back to Frank.

[Frank Svoboda, CFO]

Thanks, Gary. First, I want to spend a few minutes discussing our share repurchases and capital position. The parent company's excess cash flow, as we define it, results primarily from the dividend received by the parent from its subsidiaries, less the interest paid on debt and the dividends paid to Torchmark shareholders.

We expect excess cash flow in 2018, to be around $325 million. Thus, including the assets on hand at the beginning of the year of $48 million, we currently expect to have around $375 million of cash and liquid assets available to the parent during the year. In the second quarter, we spend $88 million to buy 1 million Torchmark shares at an average price of $84.54.

So far in July, we have spent $20 million to purchase 243,000 shares at an average price of $83. Thus, for the full year through today, we have spent $195 million of parent company cash to acquire approximately 2.3 million shares at an average price of $85.16. These purchases were made from the parent company's excess cash flow.

As noted on previous calls, we will use our cash as efficiently as possible. If market conditions are favorable, we expect that share repurchases will continue to be a primary use of those funds. We also expect to retain approximately $50 million of parent assets at the end of 2018, absent the need to utilize any of these funds to support our insurance company operations.

Now, regarding capital levels at our insurance subsidiaries. Our goal is to maintain capital at levels necessary to support our current ratings. For the past several years, that level has been around an NAIC RBC ratio of 325% on a consolidated basis.

In light of the current tax reform legation and proposed investments to the NAIC RBC factors, we are having discussions with the rating agencies to determine the appropriate target consolidated RBC for our insurance subsidiaries going forward. We will continue our dialogue with them over the next several months before making any final decisions.

In June, the NAIC issued adjustments to certain RBC factors to reflect the reduction of the corporate income tax rate from 35% to 21%. These new factors will be effective for 2018. Taking into account these new factors we have roughly estimated that our company auctioned level RBC ratio for the year-end 2018 could be in the range of 275 to 285%.

As previously noted, we have not yet finalized our target RBC ratio. However if we were to set a target ratio of 300% to 325%, it would require a price point of 100 million to 225 million of additional capital. We understand that we may not be required to meet the appropriate target RBC ratio immediately and then we would be able to or could be allowed to reach the target over period of time.

Given the fact it's actual form increase our GAAP tax lease substantially and thus lower our debt to capital ratio, we have additional borrowing capacity. Thus, we are confident that we can fund any amount to be contributed without a significant impact on our excess cash flow. Furthermore any additional borrowings that should not adversely impact earnings as the additional capital will be invested by the insurance companies in long duration assets.

Next the few comments on our operations. With respect of our Direct Response operations, the underwriting margin as a percent of premium in the quarter was 17% compared to 15% in the year-ago quarter. This is primarily attributable to favorable claims in the second quarter of this year compared to higher than normal winner claims in the second quarter of 2017.

On our last call we estimated that the underwriting margin percentage for the full-year 2018 would be in the range of 15% to 17%. Now for the full-year 2018, we are estimating the underwriting margin percentage for Direct Response to be in the range of 16% to 18%. We are encouraged by the improve clients experience and the fact that the underwriting margin percentage for the last four quarters has averaged 17%. We are obviously pleased with the underwriting income from Direct Response to increase again.

With respect to our stock compensation expense we saw an increase during the quarter, primarily attributable to the decrease in the tax rate and excess tax benefits in 2018, as a result of the tax reform legislation. We are anticipating these expenses for the full year of 2018 to be in a range of $21 million to $23 million.

Finally, with respect to our earnings guidance for 2018 we are projecting the net operating income per share will be in the range of $6.02 to $6.12 for the year ended December 31, 2018. The $6.07 midpoint of this guidance described for the $0.07 over the prior quarter midpoint of $6, primarily attributable to the continued positive outlook for underwriting income especially for our Direct Response channel.

Those are my comments. I will now turn the call back to Larry.

[Larry Hutchison, Co-Chairman and CEO]

Thank you, Frank. Those are our comments. We will now open the call up for questions.

[Operator]

[Operator Instructions] Our first question comes from Ryan Krueger with KBW.

[Ryan Krueger, KBW]

First on Direct Response, on the updated margin expectations, as we look beyond 2018, at this point would you expect the margins to continue to gradually move back up or as we think about that as something that would be more stable at this point?

[Larry Hutchison, Co-Chairman and CEO]

Good morning, Ryan. At this point of time with the information that we do have today, we do anticipate the margins really continuing is that 16% to 18% range. As always, we won't give really a guidance one year after, but looking forward we know that the new business that we’re putting on the books has a little bit of underwriting margin higher than that, but it will take some time for that to really I think bleed into the result.

[Ryan Krueger, KBW]

And then last quarter you've indicated interest in Gerber Life. As the sale process has continued to move forward, is that still a property that you're interested in acquiring and looking at?

[Gary Coleman, Co-Chairman and CEO]

Frank, why don’t you take that question?

[Frank Svoboda, CFO]

Certainly, in accordance Ryan with our corporate policy, we are not addressing or taking any questions regarding any possible transactions prior to a formal announcement, if and when such an announcement is made.

[Operator]

Your next question comes from Jimmy Bhullar with JP Morgan.

[Jimmy Bhullar, JP Morgan]

So just on the potential acquisition, how do you think about your capacity to do a deal? And how large of a deal, you could do without really tapping into or without really issuing equity, so just using that and actually maybe using some of the capital capacity within your subsidiaries?

[Larry Hutchison, Co-Chairman and CEO]

Just in general terms with respect to any large transactions or potential acquisitions or whatever of course, any analysis we would do have to stand on its own as far as any merits are concern. We do look and we said we have around as of the end of the year, we anticipate we have around $700 million of debt capacity just to stay within some of the guidelines or rating agencies some established to keep our current ratings.

I think as we noted on last call, that there is -- in connection with the acquisition at least in the past and as we’ve had -- well, as we said in the past, we would be able to probably go over that some of the guidelines that they established as long as we would have a plan to able to get back underneath those, using some of the cash flows from any required entity to get ourselves within our appropriate debt to capital ratio.

So, that’s probably the extent of what we can do without having issue some type of equity or without at least having to partner with somebody on some type of transaction.

[Jimmy Bhullar, JP Morgan]

And then on your margins overall in the life business are pretty good this quarter. But Liberty, the margin in the last couple of quarters have been weaker than they used to be, I think in the 24% to 25% range recently versus 27% plus in the past. Is there anything specific going on in terms of claims trends just normal possibly in the benefits ratio?

[Gary Coleman, Co-Chairman and CEO]

Jimmy, we were -- the underwriting margin in second quarter was 24.5%, we were lower in that the first quarter because we had a high claims quarter, but we expect declines even out. But even as that, I think that our margin will be in the 24% to 25% rise for the year and last year was at 26% and the reason for the lower margin is the amortization, is little bit higher and that’s because the volume in new business, we put on the books in recent years has little bit higher amortization rate than the older are running off.

It's not a huge difference. It's a gradual trend. We were -- amortization was a 31% last year and it will be just below over 32% for this year. That along with the fact that our non-referred acquisition expenses are little higher, little over 6% now versus 5% last year, and that's due to the additional technology cost that in proven our agency operations. But that's just a -- that shouldn't go higher, so again getting back to it we are not in the 26% range where we were last year I think we're more than 24% to 25% range going forward.

[Jimmy Bhullar, JP Morgan]

And then just lastly on expectation for Direct Response sales, I think you mentioned that for this year you expect 8% to 10% 12% drop. You were down 11% year-to-date but were down only 5% in 2Q. So, are you expecting results to get worse from than 2Q in the second half? Or is your guidance is somewhat conservative?

[Larry Hutchison, Co-Chairman and CEO]

The guidance is we'll be down 7% to 10% for the entire year 2018. We don’t expect the sales to get weaker, but lower volumes in the second half of the year in terms of the Direct Response. So I think that will be the early 2019, we start to see positive sales growth in a Direct Response channel.

[Operator]

Our next question comes from Erik Bass with ‎Autonomous Research.

[Erik Bass, ‎Autonomous Research]

You moved up the growth guidance for help underwriting margins pretty materially for the year. So just hoping you can talk about the drivers of better outlook for that business?

[Gary Coleman, Co-Chairman and CEO]

Erik, it's the -- the improved guidance, there is really -- we're experiencing little better claims experience than we expected. And it's been two quarters now and we expect that to continue for the year. And that's really not just a one particular distribution it's really across the board in terms of the Family Heritage, the other health or American Income and Liberty National. And so, we do there -- we’ve increased our underwriting income estimate.

[Erik Bass, ‎Autonomous Research]

And your sales guidance for health was also pretty promising, I guess, should we expect premium growth to start to pick-up there as well?

[Larry Hutchison, Co-Chairman and CEO]

Within time here with some of that, but that will definitely flow through the additional premium growth here, probably not so much impacting this particularly year, maybe just a little bit of the year or the remainder of the year, but more in 2019.

[Gary Coleman, Co-Chairman and CEO]

Yes, Erik, last year health premiums grew to 3%. And I think if I 'm right, the midpoint of our guidance we're expecting more of a 4% or little bit higher increasing in 2018.

[Erik Bass, ‎Autonomous Research]

And then just lastly and you mentioned in your discussion or your script that you have or having ongoing discussion with the rating agencies, I know A.M. Best recently put Torchmark on a negative outlook and I realize your business is much rating sensitive than many others. But how important is it for you to maintain the A+ rating? And again, what actions would you contemplate to do this, if needed?

[Gary Coleman, Co-Chairman and CEO]

Well, it's -- we would like to retain that rating, but it really even A.M. Best rating is not new that much in our marketing operations. So, it's -- if we had to down grade there to say, hey, I don’t know that that would be a big effort. We would like to retain that rating, but I think as Frank has mentioned, we got to work with A.M Best, the other rating agencies. I think we feel like we have appropriate capital levels and I think we need to work with them to and make our case there as we see where we go. Frank, do you have any comments?

[Frank Svoboda, CFO]

I don’t really have anything more to add to what you said. And we'll continue -- we would like to maintain where we're at, but we'll continue to work with them. And we do think that there are reasonable arrangements for why target levels could be able to bit less than 325% and we'll make our case and over this coming months.

[Operator]

Our next question comes from Alex Scott with Goldman Sachs.

[Alex Scott, Goldman Sachs]

I had a question about the, there is a recent Supreme Court ruling related public labor unions and just around collective bargaining fees. And I guess there's been some speculation that it could lead to reductions and just like the members of public sector labor unions. So the question I have for you guys was just. When I think about Torchmark's earnings stream and sales, how much of it currently comes from unions? And is there any way for you to help us to mention what portion comes from the public sector versus the private sector unions?

[Gary Coleman, Co-Chairman and CEO]

Let’s try to address what percentage comes from the public sector versus the other unions, but currently of that 30% of the new business that we issued with American Income comes from the union relationship or union lease. And those still go last 10 years that percent only drop or dependent upon the referrals. And our certainly union relationships are important as only those referrals. The non-union members come from our union relationship. So, we’re hopeful that this will have a major impact on the public unions. But we have relationships of all the international and the local unions of the U.S. and so I don't see it have any material impact on Torchmark.

[Alex Scott, Goldman Sachs]

And when I think about the enforce, if they were a greater than expected reduction in unions. Would it -- do you think would it affect persistency? And I guess specifically what I'm asking is, are the premiums paid by the union in some cases? Or are they paid by the individual in which case, maybe it would stay with them, even if it dropped out of the union?

[Gary Coleman, Co-Chairman and CEO]

The premiums were paid by the individuals not the union. And so, if there is a reduction in union members, it does have to do with the payment process.

[Operator]

Our next question comes from John Nadel with UBS.

[John Nadel, UBS]

I've got a just a couple of quick ones. One, Garry, I think you mentioned on excess investment income and expectation that in dollar terms, it would grow around 2% in 2018. I think in the first half of the year it's running at just about 1%. What’s the driver of the sort of acceleration? I know it's only modern. Is that just about new money yields being a bit better? Is it about cash flows being maybe stronger?

[Gary Coleman, Co-Chairman and CEO]

John, the new money would have a little bit of the impact would be small. I think the big impact is that we have a little bit of timing difference on the some non-fixed maturity income, limited partnership income we have, but a little bit lower in the second quarter and that should pick up. We should regain that in the second half of the year. I think that's the -- and also the interest expense on the short-term debt is going to stabilize, we believe itself. I think it's a combination of those two things that would give us -- that will give us 2% to 3% growth.

[John Nadel, UBS]

And then, I know in American Income and Liberty, there has been a pretty sizeable correlation off course it's been agent count growth or producing agent talent growth than sales growth. Family Heritage though we saw a pretty sizeable pick-up in sales growth than your agent account is growing, but not nearly as quickly. What sort of happening there? It seems like productivity is certainly improving. Is there something on the product offering side that has changed? Or is there something on the demand side that you think has changed?

[Larry Hutchison, Co-Chairman and CEO]

Something on the operating side, the products are basically the same but we've seen as an increase in the percentage of agents submitting business. We've also seen an increase in the average premium submitted for our agent. The emphasis should -- Family Heritage then have consistent in production, and so the emphasis is resulting an increase in percentage of agents producing. Long-term, it's a close correlation between agent growth and production, John. In the short-run, really its productivity has a bigger driver for quarter-to-quarter.

[John Nadel, UBS]

And then the last one maybe for Gary or Frank, what dialogue if you had to-date with the rating agencies? I was interested in your comment Frank that it sounds like you think there might be an opportunity to sort of raise your risk base capital level or recovery, if you will, the risk based capital ratio over a long-term period of time than necessarily having to get there by year-end 2018. Does that -- is that something that you are just speculating? Or is that something that you've had some initial discussions with the rating agencies around?

[Gary Coleman, Co-Chairman and CEO]

Yes, so far John, we've had -- we have to have discussions with Moody's and we've had discussions with A.M. Best obviously and at least there are some of those discussions with Moody's. They at least indicated the potential a little bit on a company-by-company basis and we have indicated that we would be outside of that realm. But that at least if there was a willingness to, if companies were coming in below their target RBCs for their ratings that there at least be some, some limited period of time that they would give out to replace that capital, generally giving some creases to the fact that, with the new tax law, generally it's considered to be a capital favorable or at least a credit favorable event. So, we build that, but again the companies would need to be making commitments and having some type of a plan in order to do so, in order for them to give a method of time. So, these still have in those indications.

[John Nadel, UBS]

And then at your current rating levels assuming they would downgrade, how much incremental borrowing capacity would you estimate Torchmark had?

[Gary Coleman, Co-Chairman and CEO]

Again, as by the time we get to the end of the year, we would estimate that we'd have above $700 million.

[John Nadel, UBS]

Right, okay, so this $100 million to $225 million estimate, really does not push you anywhere push you anywhere close to your upper limit, if you will?

[Gary Coleman, Co-Chairman and CEO]

Yes, that’s the way we’re looking at it.

[John Nadel, UBS]

And from a cash flow coverage, you feel very comfortable with that too I assume.

[Gary Coleman, Co-Chairman and CEO]

Absolutely, we've been on a -- we're -- we currently have a cash flow coverage of about five times and its above what the rate agencies look for us to have, and we feel really comfortable with that. We also got some optimism knowing that our nine in a quarter debt that's coming due here in 2019. We're looking at that and evaluate that. But as we refinance that, we'll obviously be able to refinance that at a lower rate and that would give us some additional cushion, if you will on those coverage ratios.

[Operator]

Our next question comes from Bob Glasspiegel with Janney Montgomery Scott.

[Bob Glasspiegel, Janney Montgomery Scott]

The outlook for Direct Responses since improved a little bit. Can you give us a little bit more color on whether it's pricing working its way through the system or just experience bottoming out? And how soon you think you can put your foot on the gas pedal on this one?

[Frank Svoboda, CFO]

Bob, with respect to what's really kind of drive the incremental guidance, there really is the claims settling in again in the second quarter, really did give us some additional confidence with respect to where those claims should emerge here for the remainder of 2018. In part, it's due to some of the changes that we did make overall to our marketing and underlying process is, but at this point in time, most of changes didn’t go way into 2017. So, we’re not seeing a lot of experience from that again. So, a lot of it is really just a settling down with some of other claims in that 2011 to 2015 era of policy. So, again, that gives us some added comfort. With respect to the sales volume…

[Larry Hutchison, Co-Chairman and CEO]

Sales volume, what we’re seeing for 2018 is that, our meeting enquiries fully down of our 1% or 2%. Our main volume will be down another 2% or 3%. For the same time, our electronic enquires were up 6% to 10% and circulation is up about 6% to 8%. And when we look at our most recent analysis of the profitability of capital increases in 2016 to '17 in all states, and we’re going to maximize total profits, we’re going to the previous phrase and certain those face. Those reduced rate we implemented at the end of third quarter and that will be -- that should result in a pickup in sales in the first or second quarter of next year. Any additional adjustments to rates will depend on future results. We’re really focused on maximizing total profits, not try to just maximize the margin.

[Gary Coleman, Co-Chairman and CEO]

Bob, to summarize, well it's -- right now, the improvement is really but this -- frankly, it's in the lower claims. Now, we -- as we mentioned, we haven’t seen the full impact of the underwriting, it changes that we in prices, but what we have seen from those so far is positive. We don’t give guidance past to year as far sales, but we think sales as Larry mentioned will increase. And so, we're really positive about of Direct Response and while we think the margin that we reached the bottom low as anything it will increase with best of the positive. We think with the improved sales growth, we'll get higher premium growth and the combination although that is very positive because we think we will see greater growth in underwriting income. After having two years where our underwriting income was declining, we're going to see growth this year and we think that growth will continue.

[Bob Glasspiegel, Janney Montgomery Scott]

And just a follow-up on Frank's color on potential borrowing, but I think you were seeing was you can now invest your cost of debt or roughly match it with whatever you borrow, so the income impact for borrowing wouldn’t be material?

[Frank Svoboda, CFO]

I do think that's correct Bob.

[Operator]

[Operation Instructions] I am showing no more questions in the queue at this time.

[Michael Majors, VP, IR]

All right, thank you for joining us this morning, and we'll talk to you again next quarter.