Sampo plc

OTC:SAXPF

Earnings Call Transcript 2018-Q1

[Jarmo Salonen]

Ladies and gentlemen, welcome to this call on Sampo Group's January-March 2018 results. I'm Jarmo Salonen, Head of Investor Relations at Sampo. And with me at this call, I have our group CEO and President, Kari Stadigh; Group CFO, Peter Johansson; and deputy head of P&C Insurance, Ricard Wennerklint. We will start with Kari's presentation on the developments in Q1. And before that, let me just remind you that you can follow this call live on our website, www.sampo.com/results, where a recorded version will later be available. Now I'll hand over to Kari. Kari, please.

[Kari Henrik Stadigh, Group CEO & President]

Thank you, Jarmo, and welcome to the conference call on my behalf as well. Sampo Group's profit before taxes for the first quarter amounted to EUR 445 million, which is slightly above the corresponding quarter for the previous year. Especially the underwriting result in our P&C operations was very strong, with a combined ratio of 86.5% in If and 83.7% in Topdanmark, both best ever first quarter results. In If, it is also noteworthy that the number of clients is growing in all geographies and there is a healthy premium growth in all business areas as well. Overall, I have to say that our P&C operations are performing better than ever, on plan or above. In Mandatum Life, the main thing to note is the deal with Danske Bank, which will be included in our Q2 numbers. Danske Bank will pay us EUR 197 million as an agreed compensation for the waiver by us of our put option under the option agreement from 2007 and for entering into a new long-term cooperation agreement. The new cooperation agreement entitles Danske Bank to higher commissions based on both new sales and the existing portfolio, compared to the previous agreement. Danske Bank is entitled to extend the validity of the cooperation agreement up to 15 years. This is a win-win agreement for both parties as it puts an end and cleans up that legacy from 2007, and at the same time, secures a valuable bank distribution channel from Mandatum Life and a market-leading product supplier for Danske. In the first quarter, we suffered from the weak returns in the investment market and the weakening Swedish krona. We are, however, well positioned, actually better than any of our Nordic peers, for rising interest rates or a steepening yield curve. This comment is based on our strong buffers, industry low discount rates, the short duration in our fixed income portfolio and the fact that we consolidate bank shareholding into our numbers. Nordic banks and how they are valued by the market is my final topic. Yes, markets are always right. But at this moment, the earnings potential for an investor into Nordic banks is asymmetrical. With a dividend yield in the case of Nordea of circa 8%, we have a clear downside protection. Today, the market has discounted future credit losses from the Swedish mortgage market, an unsuccessful IT project not delivering on their cost-cutting measures, more capital requirements under SSM and no increase in dividends, among others. It's a long list of bad news. However, it will not play out like this. There will not be any credit losses from the Swedish mortgage markets. Only very few top end developers will suffer, but not the main part of the market. This goes also the same way for many of the other topics. And as the market gets more confidence and information on their doubts, we are going to see a rerating of the Nordic banks and especially of Nordea. I am confident of a clearly better outcome on the valuation. And we have the patience to wait and see it out.

[Jarmo Salonen]

Thank you, Kari. And operator, we are now ready for the questions, please.

[Operator]

[Operator Instructions] We'll take our first question.

[Matti Ahokas, Head of Equity Research of Finland]

Matti Ahokas from Danske here. A question on the solvency side. First of all, the If partial internal model, which you don't report anymore, you could report the economic capital. Is this the same thing? Or is there some kind of methodological change that this economic capital figure for If solvency is not comparable to the partial internal model you reported previously? And then also continuing on the solvency side, the group solvency margin fell quite a lot quarter-on-quarter. It's at the same level as the beginning of 2016. Do you see this like 145%, 146% level as some kind of a bottom threshold? Or could you see the solvency margin going down further from these levels?

[Peter Kristian Johansson, Group CFO]

Matti, on the internal model, it's -- actually, we have a partially internal model for If [indiscernible] so with the Swedish operation with the branches in Norway, Denmark and Finland. So outside of the model is If Holding and also If Life, which is a very small operation. And the partial internal model is only on the underwriting, so we use the standard formula on investments. But it's a reasonable proxy to look at our economic capital model what the group numbers would be. On the solvency side, the biggest change on group solvency is the treatment of Nordea, because up until end of last year, we had to report Basel I rules based on a floor, which was very high actually. So Nordea had a REA at year-end, which was EUR 45 billion and the Basel floor on top of that was EUR 76 billion. And then so altogether, REA was EUR 202 billion. So the minimum requirement was 8% of that. And now, the minimum requirement is 14.3% of their EUR 123 billion REA. So that increased the capital requirement for Nordea to EUR 240 million. Most likely, it will be the same when they redomicile to Finland, on Sampo's numbers. Then the other increase on minimum requirements comes from Nordax investment, that increased roughly EUR 80 million on PLC capital requirement. So we now have a buffer of EUR 3.4 billion, but this is with no diversification benefits and it is with very little outstanding hybrid capital. If you look at the fixed income material presentation, there, you can see that we actually internally have a very high diversification benefits, which we follow internally. So there, the buffer would be EUR 5.5 billion.

[Matti Ahokas, Head of Equity Research of Finland]

Is there a level that you feel comfortable on the reported figures? Is this a kind of level you don't want to go below? Or how should we interpret that?

[Peter Kristian Johansson, Group CFO]

We will go lower because this does not include Saxo investment.

[Kari Henrik Stadigh, Group CEO & President]

I think that we are clearly overcapitalized with more than EUR 3 billion. So if it moves a few hundred million here or there, it's not on my radar screen.

[Matti Ahokas, Head of Equity Research of Finland]

Great. And if I finally may continue on that is there some kind of target buffer on top of the 100% you would see as kind of reasonable? Or does it vary with the markets and opportunities?

[Peter Kristian Johansson, Group CFO]

Historically, we had 120% in a sense, a minimum. But now, it's probably more useful to look at the absolute euros.

[Operator]

We will take our next question.

[Unknown Analyst]

I have 3 questions. The first one is the income from your new equity stakes. Where do I see them or when will I see them? How much will they contribute? The second is if you're so confident of the rerating for the Nordic banks, why didn't you buy more shares in Nordea or other banks, I guess? And the third question is what in terms of -- if I think of the group as the sum of the parts, you kind of alluded to the fact that you think the banking operation is mispriced by the market. But how confident are you? Because you said this pretty much the same thing in September that you thought the prospects in Nordea were very good and, I guess, the market hadn't quite seen it that way since. So where does your confidence come from?

[Kari Henrik Stadigh, Group CEO & President]

Well, I think that I'm quite bullish, and I can really not say much more than what I said, that I see a clear -- or let me say so, that you saw Nordea issue subordinated paper at 3.5% return, and then you see a share trading at 1.1x book and having an 8% dividend yield. So something is wrong here in how the bond market prices the asset and how the equity market prices the asset. And in a situation like this, I'm so old so I have seen this so many times. So I think the both numbers are wrong. I think that equity like risk in bonds will be valued differently. And actually, I think that the 3.5% yield already today is closer to 4%. And then on the equity, I think that the market is always right. I'm not saying that the market is wrong. I have only seen this type of asymmetrical earning situation so many times that when the market gets more confidence and starts to tick off the box their doubts or worries, then the market will front run the news and we will see a rerating. So that's why I am quite confident. I don't know the timing. If I knew the timing, I would probably resign from here and just buy the shares, but I don't know the timing. So I just see in front of me a rerating of the banks and especially Nordea. Why don't we buy more? We can't buy more. We would love to buy more, but we can't buy more as a company. Maybe we have to consider whether we could do that individually. But that doesn't help our shareholders. So we can't buy more because we don't want to become a U.S. bank holding company, which would be the outcome if we bought as much as our appetite would be. I think that the market has now discounted all potential bad news into the share prices and, especially, I think that the Swedish mortgage market is misunderstood by the investment community. And there, I think that we will see a development that there is not going to be any credit losses from Swedish mortgages. On the other issues, I think that more clarity will come when the IT rollout, when the bank can give us more evidence that the rollout is successful. On the cost, they have a guidance, and the market sees that they follow the guidance and so on. Your first question was how and when will we see something from the 3 investments we have done in the parent company. I think that the first, which will be visible, is Nordax, where we own 36 and xx percent. That there we will see a 1-line consolidation. Saxo Bank has not yet closed, so we have to come back to that when it closes. And Nets, we will only see the valuation in our change in our fair value reserve until we exit it, which will take several years. So that's the answer on those.

[Operator]

On to our next question.

[Wajahat Rizvi, Research Analyst]

Wajahat Rizvi from Deutsche Bank. I have 2 quick questions please. One is on Nordea capital requirement increase. Is there anything you can do to actually reverse that increase over time? Any changes to model or any discussion with the regulator, which could reduce that capital requirement again in the future? And then secondly, you talked a bit about Nordax. Looking at their public disclosures, it looks like they make around SEK 550 million. Would that be sort of a straight consolidation of 36% your share coming to your accounts, or any other guidance you would give on Nordax, please?

[Peter Kristian Johansson, Group CFO]

On Nordax, it would be -- is that the pretax number you're referring to? So it would be the net profit. We take 36% of the net profit in one line consolidation. On the capital side, so we -- how we report the capital requirement goes under the conglomerate directive and there is nothing we can do about that. The Swedish regulator has a Pillar 1 minimum, which is 14.3%. That means Tier 1 and plus Tier 2 capital. So it doesn't include the Pillar 2 requirements. When Nordea redomiciles to Finland, it most likely -- this is my guess, Nordea hasn't communicated anything on this one. But most likely, it will stay at 14.3% because if I look at the OP group, which is of a large mutual bank here in Finland, they are under ECB so they have a 14.3% minimum capital requirement. And this is something we can do nothing about.

[Operator]

We'll take our next question.

[Jonathan Peter Phillip Urwin, Director and Equity Research Insurance Analyst]

Jonny Urwin here from UBS. A quick question on the underlying loss ratio development. There's a bit of a deterioration in the quarter. I know it bounces around quite a lot, the underlying loss ratio, and you're reluctant to sort of draw any trends. So I just wondered if you could tell us what you think pricing is doing versus claims inflation at the moment in each of your key P&C markets, that would be great.

[Ricard Wennerklint]

That's actually a fairly easy question because price changes seen in general are in line with claims inflation, regardless actually if what market you look at or which business area.

[Jonathan Peter Phillip Urwin, Director and Equity Research Insurance Analyst]

And is there any areas of rising claims inflation at all?

[Ricard Wennerklint]

Not really worth mentioning from a group perspective or that I think will have had an effect on group combined ratios. We have discussed claims inflation in Norway, particularly in motor business for some time, higher now than a year or 18 month ago. But it's really no business area or no product line that have had an effect on the group results when it comes to claims inflation.

[Operator]

We'll take our next question.

[Blair Thomson Stewart, Head of the UK and European Insurance]

It's Blair Stewart from BoAML. Just on the life business, we seem to have gone from a quarterly run rate of about EUR 50 million up to about EUR 70 million this quarter. Just wondering if that's something we should expect going forwards. I don't think you changed the discount rate in this quarter, so on the assumption that you don't change it going forwards, is EUR 70 million the new EUR 50 million? And sticking with the life business, I think it would be fair to say that the agreement with -- or the distribution agreement with Danske has been at times disappointing in terms of the amount of volume that they've been able to drive through their branches. What changes have you made to ensure that, that will be more successful other than just higher commissions, of course. But what gives you confidence that, that will be a more successful agreement going forwards? And finally, I noticed that obviously, the higher reserve release in Q1 and in P&C -- and I appreciate that these things can be volatile on a quarter-on-quarter basis. But I wonder, Ricard, if you could just remind me of your reserving principles in the P&C business in terms of trying to assess what reserving buffer there might be because I suspect it's meaningful.

[Kari Henrik Stadigh, Group CEO & President]

I don't think you can draw a conclusion of any run rate in Mandatum Life. We showed now our result of EUR 70 million. If the Danske deal closes as it should in Q2, I think that the underlying run rate will be lower if we already have EUR 200 million on top there. So but we are not talking big differences. I myself have been assuming above EUR 50 million is the bottom and somewhere above EUR 50 million. But how high it will, of course, depend also on the investment markets. On the sales volume with Danske, we have no guarantee that how they will perform. I think they are strongly incentivized now to perform in their sales here because they pay upfront for a long-term sales agreement, so that should be positive. But we don't know how they prioritize life sales compared to their other products in the distribution channel. It's always a question. From a profit perspective, I think it's important that our expectations that the relationship will produce roughly EUR 20 million of annual pretax profits. And then we must remember that if the portfolio transfer had taken place, there would have been dissynergies of above EUR 5 million. So now in this situation, the payback for taking this deal instead of the old deal is favorable for us monetary-wise immediately with a pretax B of 4 to 5. However, it's a strategic relationship and, therefore, it's a win-win for both parties. So Danske has now the best product portfolio as an offering from a life insurance company in Finland, and we have the only remaining free bank distributor exclusively working for us. So it's a win-win deal. Volumes are to be seen.

[Ricard Wennerklint]

And on the reserving, we haven't changed our methodology. We continue to be conservative. So to the extent that there are any margins in the reserves, they are at the same level end of the quarter as they were in the beginning of the quarter. But you're right, prior year gains were higher in the first quarter than what we have normally seen or guided even in a low-inflation environment. That's to some extent sort of neutralized of the fact that the first quarter had a more normal winter compared to first quarter last year for instance, so you don't really see it in the bottom line number. We see a 1% improvement compared to last year. And for me, that's roughly where we were in the Quarter 1, 1% better than last year. So I think that's roughly what I have to say on reserves.

[Blair Thomson Stewart, Head of the UK and European Insurance]

And just on the reserving, was it specific case estimates that were revised? Or was it just a general sweep of the reserves that occurred in the quarter?

[Ricard Wennerklint]

It was actually both individual case reserves and just the fact of continuing to see low inflation. So it was no particular line of business or products. Bear in mind, of course, that most of our reserves are with the long tail business, so you would expect more from moat around -- and workers' comp or liability compared to the short-tail business but nothing really in particular.

[Blair Thomson Stewart, Head of the UK and European Insurance]

I mean, you say 1% better than last year, that's just your assessment broadly of where the market is now compared to last year. Is that fair to say?

[Ricard Wennerklint]

That's my assessment of where we are compared to 1 year ago. And as you can see, we also guide 1% lower end of first quarter this year compared to end of first quarter last year.

[Operator]

Move on to our next question.

[Unknown Analyst]

I've got 3 questions, please. The first one is really just to clarify your comment on the 1 point improvement you're seeing -- you've seen in the first quarter. So is that basically -- are you saying that the 3-points increase in the combined ratio when we adjust for reserve leases and losses is all down to weather and, therefore, underlying is better? That's my first question. Secondly, just my question is on Mandatum and the EUR 200 million pretax gain you're due to receive by continuing your distribution agreement with Danske. I was wondering whether you had any plans on how you would deploy the proceeds. And finally, just in terms of the capital, the Solvency II capital models for If, the gap between the economic or partial internal model and the standard formula is quite wide now. So I was wondering whether you plan to resubmit your partial internal model for approval at some stage in the future.

[Ricard Wennerklint]

Let's start with the 1%. My comment was only to say that we are reporting 1% lower combined ratio than last year. We have guided 1% lower for the full year. There are ups and downs in this, and the big difference now compared to last year if I look at sort of general environment is that we've had a normal winter this year. We didn't have that last year. So that's a -- that's the worsening, but of course then on the positive side this quarter, we have had higher prior year gains than what we normally have had.

[Kari Henrik Stadigh, Group CEO & President]

On Mandatum, we haven't made any decisions how to deploy the proceeds. Partly, it will be returned to the parent through an extra dividend, but we haven't made any decisions on that.

[Peter Kristian Johansson, Group CFO]

On the models side, basically, what is binding us is the S&P model. But this gives us more flexibility having the partial internal model from the Swiss regulatory perspective. To move [indiscernible]

[Unknown Analyst]

Okay. But is there -- no, thank you.

[Operator]

Our next question?

[Per Gronborg, Research Analyst]

Per Gronborg from SEB. My first question, I'll return to the Danske bank deal. Just a clarification. On the original deal, you had EUR 75 million in goodwill that would be offset in the gain. Will that still be offset, or will you keep that goodwill on your balance sheet?

[Kari Henrik Stadigh, Group CEO & President]

We will keep the goodwill on the balance sheet, so it doesn't change now.

[Per Gronborg, Research Analyst]

Okay, Okay. Perfect. The EUR 20 million that you talked about is reduction in profit from Mandatum from the deal disappearing. Now Danske have got better terms, how much of those EUR 20 million are you expecting to get back or to keep on your P&L?

[Kari Henrik Stadigh, Group CEO & President]

I think that we are, at least in the beginning, we are expecting this business to generate gross profit for us of EUR 20 million, so it's unchanged. The positive change in number is more a round-up figure.

[Per Gronborg, Research Analyst]

Okay, perfect. A question on your running yield. You addressed your running yield without taking into account the currency hedges. You had previously addressed the impact of currency hedges. Can you update on what your running yield will be, including currency hedges in If and Mandatum?

[Kari Henrik Stadigh, Group CEO & President]

So, we are not really thinking of the currency hedges. Our running yields are more or less the same now. In Mandatum it's -- last year, it was 2.4. Now, it's a 2.6. In If, it's at the same level, 1.5 as the year before. So currencies fluctuate. They come and go, and we don't have a number of net of currency hedges on top of that.

[Per Gronborg, Research Analyst]

But isn't it correct, that a lot of part of those investments are in U.S. dollars, and I assume you don't have an open exposure to U.S. dollar.

[Kari Henrik Stadigh, Group CEO & President]

Part of them are in U.S. dollar, and we have a small open position also in U.S. dollars at this moment.

[Operator]

We go to our next question.

[Vinit Malhotra, Research Analyst]

This is Vinit from Mediobanca. I just was curious, in the press release, you mentioned the challenging market environment for Sampo. Were you just referring to the exchange rates? Or were you referring to motor markets or could you just clarify on that, that would be very helpful.

[Jarmo Salonen]

The references is to the capital markets, not to the actual operations of any of our insurance businesses, if I understood your...

[Vinit Malhotra, Research Analyst]

I mean, it's remarkable -- because in life, it was one of the highest quarterly reserves ever. Hello? Hello?

[Jarmo Salonen]

Yes, we can hear you well.

[Vinit Malhotra, Research Analyst]

Sorry. Sorry, I interrupted. Please carry on.

[Jarmo Salonen]

No, I think I said what I...

[Vinit Malhotra, Research Analyst]

I was curious because in life, we've seen one of a very high -- I mean, obviously equity market gains were flowing life probably. Yes, it was a tough-ish environment but -- okay. So you were referring to the investor market only.

[Jarmo Salonen]

Yes, but Vinit, not the mark-to-market returns. They were not particularly high…

[Kari Henrik Stadigh, Group CEO & President]

I think you are mixing up mark-to-market and AFS results here. Mark-to-market returns in Mandatum was slightly negative on the investments.

[Vinit Malhotra, Research Analyst]

Yes. And can I just follow up on the underlying apologies for the -- the P&C underlying growth ratio. I mean, last year, I think in 1Q was somewhat -- my understanding that there was a 1 point good weather fortune in that number. That still leaves a gap of 2 points between that adjusted level and today's normalized winter quarter level. Is there anything else you would like to point out to explain that gap? Or is it just volatility, a random fluctuation that we should understand?

[Ricard Wennerklint]

Well, as far as I can remember, I don't think we did any normalization in the beginning of last year and we haven't tried to do it this year. There are a number of things you can, of course, argue that you can normalize for in insurance, weather being one of them, large claims being another. And, of course, prior year gains. I tried to make an indication earlier that I think that the reported combined ratio for this year being 1% lower than last year is a good indication of where we feel the sort of the performance of the business is. If you want to go into detail in the numbers, you will, of course, see that this first quarter was more of a normal winter quarter in the Nordic season. Last year, it was a very, very good winter from an insurance perspective. So that's the difference. But all in all, if I would try to do the normalization gain, I would put us roughly 1% better than we were in the first quarter of last year.

[Operator]

We'll move on to our next question.

[Unknown Analyst]

[indiscernible] Going back to capital allocation. The market at the moment at least is clearly rewarding the insurance business better than the banking business. Does that -- and I know you're saying, well the banker will bounce back. But longer term, you still -- at heart, you did -- you're still, from my point of view, an insurance company. What -- how much of that 3 billion buffer could we see deployed in insurance deals potentially? I'm thinking Baltics, but I don't know, there might be other stuff I'm thinking.

[Kari Henrik Stadigh, Group CEO & President]

I don't think that we are that much in an M&A mood right now. I don't see any -- in a way, we are a proxy for all of you into the Nordic financial sector. And our latest investments have been in payment infrastructure, trading platforms and consumer credits. And that means that we have seen them as more favorable. I have no plans -- I haven't heard of any internal plans to expand our exposure in the Baltics. I think that we have a very strong position in the Baltics. We don't need any more business there. On the buffer, we have always wanted to be overcapitalized and especially that capital could be used in a downturn to take on more -- at more attractive valuations. At this moment, we are not going to use the EUR 3 billion for anything exciting. We want to stay strongly capitalized in this environment.

[Operator]

We'll take our next question.

[Oliver Troop]

This is Oliver Troop from Bernstein. I wondered if you could just provide an update on the competitive environment in your main P&C markets. And in particular, are there any areas where you've noticed any increases or decreases in the intensity of competition you're facing? And then also, I'd be really interested to hear more of your thoughts on the Swedish mortgage market and then what makes you so confident that -- I think you said it's only the top-end developers that you think will face losses?

[Kari Henrik Stadigh, Group CEO & President]

Well, I am so old again that I have seen real crisis, and that was early '90s. Then, we had a real crisis. This Lehman was not anything compared to that. And even then, we couldn't get -- there were no real mortgage losses of any magnitude. I think that in Sweden, the demographics are such that there is a real big need of new housing. I think of up -- almost 40,000 people move into Stockholm every year. The GDP is growing. Interest rates are low. Certainly, you will see asset bubbles and especially top-end developers might have gotten a little bit or in a big way carried away. But loan to values in Nordic banks are such that we are not going to see any credit losses en masse from those. The normal mortgages that for instance, the main banks have given out, they are very, very prudent. So it's not an area of worry for me.

[Ricard Wennerklint]

On the P&C, the competitive environment in Q1 was actually -- it wasn't -- it was a very calm quarter. If I should find one area where it was maybe a bit more heated than normally it was the commercial market. They did -- sort of the larger segment of the commercial market where they have seen some increased competition. And we have talked about it earlier that that's the segment that we think are coming up to premium increases slightly higher than claims inflation, generally speaking. But other than that, it was a very calm quarter.

[Operator]

We'll take our next question.

[Unknown Analyst]

Just a quick question on Topdanmark for Peter. If you could explain us the accounting differences between Topdanmark standalone and -- in your accounts, and how much of this is structural, what the structural difference will be over time. And sorry, if this has already been asked, but just to make sure I understand this correctly.

[Peter Kristian Johansson, Group CFO]

Okay, thanks. Yes, this is unfortunate that we had to change partly their numbers to be in line with -- If's way of accounts or the auditors didn't give way on this one. But so basically, Q1 going forward, you will see that Q1 would normally be higher because majority of Topdanmark's premiums come in the first quarter, they say, that -- around 50%. So this will even out during the year, so at the end of -- when we report the full year numbers, then basically we have the same numbers than Topdanmark. So the coming quarters will be again marginally lower.

[Operator]

There appears to be no other questions at this time. I'll turn it back for any closing or additional remarks.

[Jarmo Salonen]

Thank you, operator, and thank you all for your attention. Have a great evening and please remember that tomorrow is a public holiday in the Nordic countries. Talk to you on Friday. Thanks.

[Kari Henrik Stadigh, Group CEO & President]

Thank you.