Aflac Inc (AFL) — Q1 2023 Earnings Call Transcript

Good morning, and welcome to the Aflac Incorporated First Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Dan Amos, Chairman and CEO of Aflac Incorporated. Please go ahead.

Thank you, David, and good morning. And we're glad you joined us. Reflecting on the first quarter of 2023, our management team, employees and sales distribution, have continued to be devoted stewards of our business. Being there for the policyholders when they need us most just as we promised. The first quarter marked a good start to the year. Aflac delivered another quarter of solid earnings results, especially considering our material weakening of the yen. Looking at our operations in Japan and as noted last quarter, we are actively focused on numerous initiatives in Japan involving new and refreshed products and distribution that continues to cover from the pandemic. In addition, we are encouraged by the planned May reclassification of COVID-19 to the same level as influenza as Japan continues to emerge from the pandemic. I am pleased with the continued sales improvements, which reflect the ongoing rollout of our cancer insurance policy initially through associates and Daido Life followed by Dai-ichi Life and financial institutions. First quarter sales also reflected the refreshed first sector ways in child endowment products, which we are using as a way of reaching new customers to whom we can also sell third sector products, including cancer and medical products. I'm also encouraged by the fact that Japan Post Group began selling our new cancer insurance product earlier this month. We expect this close collaboration to produce continued gradual improvement of Aflac's cancer insurance sales over the immediate term and to further position the companies for the long-term. In addition to product, another important element of our growth strategy is our intense focus on being where the customer wants to buy insurance. Our broad network of distribution channels, including agencies, alliance partners and banks, continually optimize opportunities to help provide financial protection to Japanese consumers. And we are working hard to support each channel. Turning to the U.S. while the first quarter tends to generate the lowest sales of the year, I'm encouraged by the continued improvement in the productivity of our agents and brokers, as well as the contribution from the build-out of our network, dental and vision, and group life and disability. We are seeing success in our efforts to reengage veteran associates and at the same time, we are seeing strong growth through brokers. I'm very excited that we're in the process of refreshing our cancer protection assurance policy with increased benefits at no additional cost. We believe this will increase persistency, which will benefit our policyholders and lower our expenses. I believe that the need for the products we offer is stronger than ever before in both Japan and the United States. At the same time, we know consumer habits and buying preferences have been evolving. We also know that our products are sold, not bought. As we communicate the value of our products, we know that a strong brand alone is not enough. We must paint a better picture of how our products help address the gap that people face when they get medical treatment. We continue to reinforce our leading position and build on that momentum. As always, we continue prudent liquidity and capital management. We continue to generate strong investment results while remaining in a defensive position as we monitor evolving economic conditions. In addition, we've taken proactive steps in recent years to defend cash flows and deployable capital against the weakening yen. We treasure our track record of dividend growth, highlighted by 2022 marking the 40th consecutive year of dividend increases. We remain committed to extending this track record, supported by the strength of our capital and cash flows. At the same time, we remain in the market repurchasing shares with a tactical approach focused on integrating the growth investments we've made in the platform to improve our strength and leadership position. We also believe in the underlying strength of our business and our potential for continued growth in the United States and Japan, two of the largest life insurance markets in the world. We are well positioned as we work toward achieving long-term growth while also ensuring we deliver on our promise to the policyholders. I'm proud of what we've accomplished in terms of both our social purpose and financial results, which have ultimately translated into strong long-term shareholder return.

Thank you, Dan. Let me first begin with brief comments on our Japan and U.S. operations. As Dan noted, we're off to a promising start. The revised cancer product is doing well and now supported by our Yorisou Cancer Consultation Platform, providing concierge care to cancer policyholders and connecting them with non-insurance services. As we look ahead this year, we are focused on the following here in Japan: continued recovery with our longstanding alliance partners fueled by a refreshed cancer product and joint marketing and training support. Based on our preliminary read of activity levels within Japan Post, the Wings product appears to be off to a promising start and gaining traction. We are preparing to launch a new medical product in the fourth quarter. We are operating in a highly competitive environment with medical product representing 70% of the third sector marketplace. We are focused on simplifying the product and appealing to both younger policyholders with basic needs and older or existing policyholders who desire upgrading to more comprehensive coverage. The sale of WAYS is delivering on our strategy of attracting younger policyholders and cross-sell activity. We are primarily selling in our associates channel and are being cautious with respect to selling in the bank channel with limited volume expected. We understand that over the long-term, leveraging the bank channel will require marrying a competitive medical and cancer product with a formal asset formation strategy to drive shelf space. Finally, our short-term insurance subsidiary SUDACHI launched a line of affordable term medical and cancer products in April. We anticipate a modest level of sales as measured in annualized premium. The focus is on introducing young first-time buyers to the importance of medical and cancer insurance to then upgrade to more comprehensive coverage in the future. From an operations perspective, we are pleased with our expense ratio coming in below 20% in the face of continued revenue pressure. This is in part a cumulative result of addressing expenses over the past few years. Turning to the U.S., we have discussed our balanced attack and this remains the case with individual, dental and vision, group life and disability and consumer markets all contributing to sales growth in the quarter. The underlying signs of momentum remain encouraging in our agent-driven small business franchise recruiting the number of average weekly producers and agent productivity are all up in the quarter. Dental and vision sales increased 40% in the quarter with continued strength in cross-sell of core voluntary products. While this is traditionally a slower quarter in the life and disability markets, our platform is off to a strong start for the year. Finally, we are encouraged by consumer markets sales up 29% in the quarter and with new products gaining traction and alliances coming online. With expanded business lines and new distribution channels, product development is a key focus in the U.S. We have launched a refreshed approach to cancer as Dan mentioned, we've advanced coverage for mental health conditions and are adding non-insurance services to our group disability products. We are proactively driving benefit utilization through wellness campaigns and benefit endorsements to in-force policies. We know that utilization drives persistency. In terms of operations, our expense ratio remains elevated, but as Max commented on in his recorded remarks, roughly 300 basis points are due to the pace of investment in emerging growth businesses all performing in line with our expectations.

Thank you, Fred. Given recent events with the global banking system and the uncertain macro outlook as the Fed continues to raise rates to fight inflation, I would like to provide a brief update on those segments of our portfolio that are most directly impacted by the current environment. Let me start with our bank exposure. As of the end of the quarter, our total global bank portfolio is $5.6 billion with an average credit rating of single A minus. Our holdings are concentrated in large, systemically important banks located in stable countries. As of today, our U.S. bank exposure is limited to the largest banks. We have virtually no exposure to smaller U.S. regional banks. We do not have holdings or other direct exposure to any of the three U.S. banks that failed in early March. While the swift and decisive action of regulators has helped calm markets, we are watching very closely for signs of further instability in the global banking system and feel good about our holdings. Like the rest of the industry, we are seeing pressure in the commercial real estate markets. Office properties are the current area of focus given the difficult market for office leasing. Office represents approximately 30% of our total $8.1 billion commercial mortgage loan portfolio with most of our exposure in our transitional real estate book. We currently expect approximately $500 million of loans to enter into some form of foreclosure, approximately 6% of our total mortgage holdings. When going into foreclosure, we revalue the property to current market levels. In those cases where we do not yet have an independent third-party appraisal as an interim step, we establish an updated value based on our external manager's current assumptions of the local market and updated cap rates. This process resulted in a small $10 million of additional asset reserves this quarter. To offer perspective on our potential loss exposure, we have approximately $900 million of TRE loans currently on our watchlist. At the time of origination, these loans were 65% loan to value. If you apply a simple stress scenario that assumes we foreclose on the entire amount and each property declines 50% in value, a drop which would exceed what we saw during the financial crisis by about 15 percentage points, we would have to establish approximately $200 million of reserves. To be clear, this is not our base case, but it highlights that our exposure under such a severe downturn in the office segment is manageable. Although accounting rules may require additional reserves, our strong capital and liquidity position will allow us to hold these properties to maximize our recovery. Turning to our middle market loan portfolio, despite the headwinds from rates and inflation, this portfolio continues to perform quite well. Our borrowers' average leverage is stable. They have largely been successful passing through higher costs, and sponsors have generally been supportive whenever required. This quarter, we did take reserves of $20 million related to two names that were struggling with issues unique to them and not reflective of broader systemic issues in the asset class. As the primary outlet for our below-investment-grade exposure, we very deliberately built this portfolio with a strong focus on managing through the inevitable downturns in the credit cycle. Our average loan size is a very modest $16 million; we only invest in senior secured first lien positions. We utilize strict limits on position size, diversification and other characteristics. Should conditions worsen, we believe this approach will serve us well. We expect market volatility to remain elevated as the global economy absorbs the impact of higher interest rates. We will, of course, experience the impact of this volatility across our portfolio, namely in our alternatives holdings. Relative to many in the industry, our exposure is rather modest, but we expect our $2.4 billion portfolio to experience volatile marks in the near-term. We remain committed to our disciplined systemic approach to building this portfolio and fully expect to enjoy the benefits of enhanced returns over time.

Thank you, Fred. Now we are ready to take your question. But first, let me ask you to please limit yourself to one initial question and a related follow-up to allow other participants an opportunity to ask their question.

Hey, good morning. In Japan Post, you talked about the revised cancer product doing well, but how are you kind of seeing the sales trajectory play out in the second quarter and through the balance of the year? Should we see it kind of accelerate in the near-term or will that take some time to play out?

Sure. This is Fred. Let's hear from Koide-san regarding Japan Post, and then Yoshizumi-san can add some insights from his perspective. Koide?

Hey, this is Koide of Aflac Japan. Our new cancer product was launched in April this year, and we believe the sales have started off successfully. We prepared extensively for the launch through training and other preparations. Mr. Yoshizumi, if you have anything to add, please go ahead.

Thank you. This is Yoshizumi of Aflac Japan. To launch this product in April, we have been thoroughly preparing. We are seeing the start of sales for this new product, which is quite promising, and it is gradually growing while meeting our expectations. However, since this product has just been launched, it's a bit early to determine its overall success. This is the product we launched this year as part of our ongoing new product initiatives. I believe we have initiated a solid process for this new product because we have been training since January and implementing new systems. We are confident that this product can succeed and could potentially lead to even greater achievements. Our initial sales for this product have been very successful, evidenced by the number of calls we are receiving at the call center and the illustrations and estimates we are providing to customers. Thank you very much.

No, that's helpful. Thank you. And on capital, the capital ratios are pretty strong with RBC north of 600 and SMR 850 plus and Holdco capital strong at $3.3 billion. But how do we think about the outlook for dividends or distributions out of the insurance companies this year? And I think you had proceeds from the reinsurance transaction, but it seems like there may be a lot of capital coming. So is there any help you can give us there?

I would start by referencing our Investor Day where we announced that on an underlying basis, we expect to generate between $2.6 billion and $3 billion of capital each year. This serves as a reasonable baseline. Additionally, we will periodically generate extra capital through various actions, with reinsurance being one of those methods. We plan to redeploy that capital alongside any additional capital we might release from maintaining high capital ratios in our operating subsidiaries or at the holding company. Therefore, over time, you should consider the range of $2.6 billion to $3 billion as a reasonable annual capital deployment for us, with periodic additional deployments from other actions. This aligns with our capital management policy where we allocate capital primarily to our dividend, which currently amounts to about $1 billion annually. We value our dividend highly and anticipate increasing it. Beyond that, we also allocate capital to share buybacks where we see suitable internal rates of return, as well as for opportunistic investments that can accelerate our long-term growth.

Yes, thanks. Just a bigger picture question for Japan. Obviously, you've had a lot of success there with the cancer block for years, but it sounds like you're losing market share in medical. If you look at the benefits, there definitely is some overlap in terms of hospitalization and surgical benefits. So I guess my question is, is there a risk that people will just start using medical insurance to cover their cancer exposure and as a consequence, the cancer insurance market will just continually shrink?

We're going to go to Koide-san and Yoshizumi-san to help you out with that Suneet.

Let me start by saying this is Aflac Japan Koide. Cancer is a unique illness that often requires long-term treatment and mental support. Thus, it's essential to have a cancer protection policy when preparing for such a situation. Awareness about cancer is increasing in Japan, as one in two people will experience it in their lifetime. Currently, the enrollment in cancer insurance is lower than that in medical insurance, indicating a significant potential for cancer insurance sales in the future. In conclusion, having medical insurance does not eliminate the necessity for cancer insurance.

One of the things I would also add is that I have mentioned in my comments our Yorisou cancer care consulting practice, which is really wrapping non-insurance services around our cancer policies for our policyholders and that's gotten off to a good start and is building. And I mentioned that only because one of the things we do have to do, Suneet, is continue to differentiate and protect our leadership position. And we differentiate the overall value proposition of a cancer product, not just from the enhanced coverage, advanced treatments, advanced types of care, but we also wrap that policy with non-insurance services and that really differentiates it from a traditional and often basic medical product sold to individuals.

Got it. And then, I guess, one on the transitional real estate and middle market loans. If I just look at the book yields that you're disclosing, and compare them to what we saw at FAB, I mean, I think they're up 175 basis points to 200 basis points in six months. So I'm just curious how have these borrowers essentially been able to pay what is a pretty sizable increase in interest payments and kind of what's the outlook there?

Yes, thank you. This is Brad. It's a very good question. A couple of things I'd say in response to that. On the transitional real estate book, most of those loans contain rate caps, so the sponsors are protected from the large increase in rates. In fact, our average rate cap is about 200 basis points below where SOFR is today. Now that benefits the borrower; we still get the benefit of the higher rate. They just get the offset through the rate cap and the hedging that they've put in place. On the middle market loan portfolio, there's a couple of things at play here. First, these are largely service-oriented companies, which means they generate a fair amount of free cash flow. Now that's less free cash when you have a higher cost structure. But these companies have also been part of a growth strategy for the underlying sponsors who own these. So they've continued to perform well; they're continuing to grow. Margins have been relatively stable. And while cash flow may be reduced, they are taking actions to mitigate that. The overall thesis for most of these companies remains intact.

This is Dan. I want to revisit the question about cancer insurance. It took me a moment to get connected. We have an aging population in Japan, and cancer is primarily an age-related disease. I've been involved since we were licensed in Japan, and I believe there is a greater demand for cancer insurance now than ever before in the country. It makes perfect sense due to the nature of the disease. So not only do I disagree with that question, but I strongly believe the opposite is true. People are increasingly interested in purchasing cancer insurance. We've been successful in selling it, but it tends to appeal more to middle-aged individuals than to younger ones. Our challenge is to engage younger people, as they are generally less concerned about cancer. This is no different than it was in 1974. It's about finding effective ways to reach them, and we have developed some strategies for this. Ultimately, I want to convey that we believe the market for cancer insurance is more significant now than it was in 1974.

Okay. Thanks, Dan.

Hey, good morning. So first, just a question for Brad. On the real estate portfolio, commercial real estate, you mentioned a loan-to-value at origination of 60%. What would you guess that is now given that rates are higher since you've originated most of these loans? And then obviously, demand for office space has dropped over the past couple of years because COVID is gone and work from home.

Thank you, Jimmy. The average loan-to-value when we originated these loans was 65%. The specifics of the office portfolio really depend on the individual asset and are influenced by overall occupancy, along with additional investments needed to increase occupancy. For loans currently being revalued, we've seen a decline of about 30% to 35% based on feedback from our managers and the updated cap rates. However, I should note that this decline is specific to the assets we are in the process of foreclosing and may not be applicable to all office space.

Okay. And then fair to assume that the numbers are smaller, but there's a similar decline across the rest of the portfolio in terms of value as well?

Again, it depends on the specific asset. Not all office in the portfolio is bad. We have some that are performing very, very strongly. They have good occupancy. The business plans are at or above plan. And we don't expect those to have seen nearly the price declines as those that have less occupancy and are resulting in us taking the keys.

Hi, good morning. First one I had is just on the potential impact if the yen rates or JGB yields, I should say, were to go up in a more significant way. I know you guys have provided the financial analyst brief meeting and so forth some sensitivities to your capital ratios. But could you maybe unpack how something like that would affect your business maybe across sales, like maybe the product mix. What are the ways that would impact your business?

This is Fred. From a business perspective, and I'll let Max comment on capital sensitivity, and I would invite either Koide or Yoshizumi-san to comment on. But as you start to see rates recover, then you start to bring in some of the first sector savings products, particularly the yen-based products as potentially being able to price to offer up a more valuable value proposition, a better value proposition to the consumer. So you can see some of that, but it takes quite a while, because the way that reserve discounting works in Japan, you have to go for quite a while of rate recovery before you are able to price more appealing and make the product more appealing broadly. So you need to have consecutive years, if you will, of recovery. But it does add some added tailwind to those products. I don't think you see much of any impact to the other aspects of our business that are far less rate-sensitive and are really more of a morbidity play, as you can imagine. Max, I'll let you comment on the SMR dynamics, ESR dynamics.

Well, Alex, you obviously know the sensitivities to SMR, ESR, RBC, et cetera. But I would make one comment, and that is that as we get closer to ESR adoption in Japan, that is going to make our business slightly less interest rate sensitive. And the reason I say that is that our yen interest rates are now going to be much more aligned between the assets and liabilities, which means that movements in interest rates are going to follow more the economics of it, i.e., the economic impact on our business is going to flow through and have an economic impact on our capital base as well. So that means that our sensitivity is somewhat less, which obviously then means that currently I can tell you that we do hold volatility capital associated with interest rate volatility. And to some extent, if you have a lower interest rate sensitivity going forward, that means that you obviously need slightly lower in terms of a volatility buffer. All of this is going to be optimized as we get closer to ESR adoption, so I'm not going to put a number on what that is, but I am encouraged by what I see in terms of the sensitivity to interest rates.

Got it. That's helpful. And then for a follow-up, I wanted to ask about the additional benefits you were talking about for the U.S., some of the things you're doing to improve persistency. I mean, could you help us think through what some of those things may be? And I mean, when I hear higher benefits and no additional costs, I would think maybe that would put pressure on the benefit ratio itself. But maybe I'm not thinking about that right.

First, good morning. This is Virgil from the U.S. Let me give you a perspective first on what are we doing to help improve our persistency. The first thing I'll say, though, is you saw the numbers, and given that the numbers reflect a 12-month rolling period, I will first start by saying that we did see improvement in our lapses during Q1. If you compare Q1 of this year to Q1 of last year, our lapses were down about 20% when it comes to related premium. What we've done though to ensure we continue to see a turn with this is that we stood up an office of persistency. The intent there is to get a team of data-driven experts to look at the analytics behind what are some of the key drivers to help improve persistency, but also put together a framework and a governance framework to ensure there are actions going forward. Some things we've already done this year would be to drive utilization of benefits. You heard Fred allude to this in his comments, but we launched a wellness campaign in Q1. What we're really trying to do is really push preventive maintenance when it comes to helping our consumer base. But more importantly, though, it is to drive utilization of the benefit. When people utilize the benefits, we generally see a higher persistency, generating more loyalty to the product and have them keep them longer. So during a five-week period, during the campaign, for the wellness benefit alone on the individual products, we saw a 27% increase in wellness utilization on that particular product line. You will see us continue to do things like that, but the premise would be driving utilization. Another key foundational effort would be remembering that our products are portable with a lot of movement in the job market. If you see someone leave one organization to go into another, or perhaps no longer working with their current employer, you can keep your coverage with Aflac. We're making sure there's ease of portability, making sure we've improved our ways to collect money through billing mechanisms and ensuring we have digital needs for people to go online to keep the available coverage. So those are some of the things I'll share right now, but overall, I am pleased to say that there is progress and we have a definitive focus on that going forward for the remainder of the year.

Thank you very much. I know there's a traditional seasonal 4Q increase in the expense ratios, but there's also expense increases around product launches. So with the new cancer product being rolled out in Japan Post in the second quarter and are there any efforts really through that channel dated back before the pandemic, can you maybe talk about one-off efforts to train agents or any market partnerships that we should be thinking about? Thank you.

John, I want to ensure I understood the last part of your question regarding the expense ratio changes from quarter to quarter related to product launches. What was the final part of your question?

Yes. Yes, so with the new cancer product being rolled out in Japan Post in the second quarter, are there any efforts to retrain the agents or remarket the partnership and expenses associated with that, because big launch since before the pandemic.

Understood. Why don't we do this? Let's go to Yoshizumi to talk about the training and rollout of training for Japan Post agents. And then Todd Daniels is with us and can comment on any implications for expense ratio. So why don't you go ahead, Yoshizumi-san?

Regarding the training for Japan Post, we have both companies' management engaged at every level of the process. We are following a cycle of planning, executing, checking, and taking action to ensure everything is progressing successfully. During this process, we aim to identify and address any weaknesses. Both companies are actively monitoring and addressing these issues. For instance, every three months, we hold a strategic alliance committee meeting with top management from both companies to discuss these matters. Additionally, we are enhancing our training methods in the associate channel.

Now this is Aflac Japan Koide once again. Regarding expenses, normally, when we launch a new cancer product, we will be doing training or renewing our solicitation materials, et cetera. This is a standard procedure that we follow when introducing a new product. So that's what we did for this new cancer product as well.

And Todd, I don't know if you have any color on timing of expenses. John, the premise of your question, that was correct. And that is, for example, this quarter, we had a pretty low expense ratio in Japan, but that oftentimes can move around with the timing of product launch and training and promotion costs. Todd, if you have any comments on that?

Yes. I agree, Fred. I think the first quarter is traditionally lower with expense ratio, and you see a higher expense ratio later in the year with IP and marketing spend. But we have been paying for the training and the marketing of the product all throughout the quarter, so a lot of that is cost. And now you have the sales of the product and most of the acquisition expenses will be amortized into DAC. So you should see a slightly higher expense ratio as expected in the second quarter, but not really materially a result of Japan Post.

John, for the full-year, we would expect to have an expense ratio in the 20% to 22% range.

Hi, thank you. I had a couple of questions for Brad on the CRE portfolio. And I was hoping you could talk more about the common factors among the loans that are entering foreclosure. And then also maybe talk about what's driving the $900 million of CRE loans you have on your watch list currently. Maybe how that watch list has changed in the past few months and what's the risk of that growing over time.

Sure. Thanks, Erik. On the common factors, it's really a combination of the leasing velocity not being quick enough relative to the original business plan and the sponsors being unwilling to continue to support the asset. In many cases, we have an upcoming maturity. And when that happens, we have a couple of choices. We can enter into negotiations to extend and renew the loan. But in those examples, we always require additional protections. It usually involves a pay down of the loan to reflect the current market and current progress of the plan. It can include personal guarantees, cash sweeps, a variety of other things. Then we usually get paid a little more as well. And if the sponsor is unable to meet those, that's when we enter into a more intense workout process, which will usually lead to foreclosure. And that's been the bulk of the issue with the $500 million currently in process of foreclosure. I do want to mention though that of that $500 million, we do have occupancy; these are running on average about 60%, which obviously is lower than we would like and the sponsors would like. But these are not sitting there as empty buildings; they are functional, they do have tenants, it's just a matter of continuing to grow the tenant base and that has slowed in this current environment. As to the $900 million, that's just our forward look on loans where we do have maturities coming up. We do have some issues with the underlying business plan. We are in negotiations with the sponsor and we're still unclear on exactly how those situations will resolve. But if we thought they were imminent, they would have been included in that $500 million. So we're watching that $900 million very closely, but those are largely issues that are coming down later in the year.

The additional capital you would have besides that is related to rating migration. When you take ownership of a property, it shifts from being a loan to being owned real estate equity and an operated property. For example, if we were to add $500 million of real estate-owned equity instead of having it as a mortgage loan, that would negatively affect our SMR by 5 points, which is relatively modest. If we add $100 million to our U.S. balance sheet, changing from a loan to real estate-owned equity, that would lower our combined RBC ratio by 8 points. Keep in mind that these figures may not be perfectly linear, but they provide a good idea of our sensitivity.

Good morning. Just a few follow-ups on the real estate foreclosures. The $500 million that you're, I guess, in the process of foreclosing on, did you not take any reserves or losses on those? And if not, is that just because of the value of the land still exceeds the value of the loans? That's my first question.

Yes. That is where the $10 million of additional reserves came from. It was related to the $500 million in process of foreclosure. The reason it wasn't larger is that the decline in the asset, including the physical property and any peripheral value, was not severe enough to impact our 65% loan to value ratio.

Got you. That makes sense. What about the lost net interest income? You were presumably getting 8% or 9% yields on these loans. Now, as they become owned real estate assets, would you expect there to be a meaningful change in the yield on those assets? Sorry, go ahead.

Sorry, Tom. Yes, it's a really good question. It's one we spend a lot of time on. These properties, by and large, are generating some income. There is an NOI coming off of them. It is going to be lower than the yield we're getting on the underlying loan, and that is baked into all of our projections and planning.

Got you. And Brad, any indication on the $500 million, are we talking about eight or nine going to four, six, two? Like some range would be helpful.

Yes. Well, right now, it's currently nine properties. We think that reflects our current best estimate of the number. There are different levels of discussions going on in the workout process with the sponsors. We may have a couple of those break positively where they end up coming out of this bucket. But at this point, we think that's unlikely and we believe it was prudent to assume that this full $500 million are going to be foreclosed and become real estate-owned.

Hey, good morning. Could you give an update on any plans to refresh the Japan medical product? I think it's about 18 months old, and you tend to refresh the product every two years or so.

Yes. As I mentioned earlier, we are prepared to launch our new product in the fourth quarter. The goal is to offer a simplified product that appeals to younger and new policyholders, as well as a more comprehensive version that caters to existing and older policyholders looking for extensive coverage. That’s our primary strategy. I’ll hand it over to Yoshizumi-san for his insights on the rollout of the medical product and our marketing approach for it.

Thank you for the question. Regarding the Japanese medical market, it is very competitive. The focus of the competition is primarily on acquiring young to middle-aged customers, which is a key target for all companies. The market is asking for products with reasonable premiums and simple benefit structures. We are planning to launch a new product that emphasizes these aspects and will provide us with a competitive advantage. We aim to regain our market share, particularly in large, collusive agency channels where competition is intense. Currently, we are working collaboratively between Japan and the U.S. to develop a strong product, and we are fully prepared for its launch.

Yes, I think we've covered it here. I would say roughly half of our sales are to individuals younger than 50 years old, and it may be even more than that. We're achieving over 40% cross-sell results to new and younger policyholders, which is critical for us. We want to attract younger customers and see cross-sell activity because that's fundamental to our strategy of returning to the market.

This is Koide from Aflac Japan. I would like to provide some additional information. Last year in October, we adjusted the rates for the Child Endowment and WAYS products. The goal was to attract new and younger customers to these products, focusing on selling a level premium type of product. As Fred mentioned, this type of product is crucial for associates to sell, but it is not very popular in the bank channel. Consequently, associates' sales were prioritized. As Dan mentioned earlier, these products complement third sector products well, and we are leveraging them to enhance third sector sales. The proportion of WAYS products sold through banks remains very low and is expected to remain limited this year.

What I would like to do moving forward is to significantly expand our sales of third sector products by using Child Endowment and WAYS as a trigger and catalyst. That's all from me. Thank you.

Hey, thanks. Good morning. I have a couple of questions regarding the transitional real estate. Can you tell me the total people reserve specifically for the transitional real estate that you're currently holding? Additionally, I wanted to confirm whether the $900 million on the watch list is in addition to the $500 million that may be foreclosed, or if the $500 million is included within the $900 million.

Yes. Thanks, Ryan. Let me start with the second question first. The $900 million does include the $500 million, so there is an additional $400 million that we're monitoring. The CECL reserves are primarily related to the loan book. The division between middle market loans and transitional real estate shows that about 35% to 40% of the total CECL reserve is tied to mortgage loans.

And Ryan, our total CECL reserve was $250 million.

Thank you, guys. And thank you for all the color on the loan books. Extremely helpful. So Brad, on the commercial mortgage loans, I think you mentioned the process of making office buildings more attractive for tenants and leases. I guess my understanding on office is that they, sort of, have to be super new and exciting to attract new leases. We've heard that the cost of that can be super expensive at times. So just curious if you have any thoughts on that and if the $10 million reserve math incorporates that.

Yes. Thanks, Michael. You're right. In this environment, the leasing that is occurring is migrating towards newer properties with nicer amenities. About 80% plus of our total TRE book is in Class A properties. But keep in mind too, the nature of transitional real estate is that transitional piece. These loans are providing that funding to reposition the asset. A lot of them are lease-up transitions. So our capital is going to refresh the asset. So through this process, we're getting, in most cases, the newest most refreshed with the current amenities asset in the local submarkets. So that is one very good thing we have going for us. But in some cases, the business plans just need a little bit further work, and that's what's resulting in some of the foreclosures. The rate caps are in place for the duration of the loan. Only those loans that have reached maturity and are undergoing some form of workout will lose that protection. The majority of the portfolio prior to maturity remains safeguarded by these rate caps. This applies to essentially the entire transitional real estate book. However, for middle-market loans, it's only a very small percentage.

Thank you for the follow-up. I have a question for Dan regarding succession, particularly in relation to the CEO role. You've mentioned some sales targets for 2025 and 2026. What are your thoughts on your role and the timing of any transitions?

Well, I'm not going to be that good a retiree and I'm not in that big a hurry. I just had a physical at Emory and got a good report. So I plan on staying around a few more years. But I still think my number one responsibility is to make sure I have it prepared. We never know what can happen in life, and we've got to have a company ready to go and go uninterrupted. And so that's one of the things that I'm doing. I will say, for example, with Virgil and the changeover to Teresa, that's been smooth. I will say that Eric's changeover to Brad has been smooth. You go back to Koide, we've gone uninterrupted as things take place. And to me, that's one of the things I have to make sure happens. And I promise you, I'm working toward that with the Board of Directors, who ultimately make the call. But we have very structured and very intense meetings about what goes on in regard to personnel and human resources at our August meeting. And so I'll be constantly updating on what's going on there. But I would say I'll be around a few more years. So unless the Board gets tired of me, look for me to be here.

Thank you, Andrea, and thank you all for joining us this morning for our call. Please reach out to the Investor and Rating Agency Relations team if you have any questions. And we look forward to speaking with you soon, and wish you all continued good health. Have a good one.