Globe Life Inc (GL) — Q4 2016 Earnings Call Transcript

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 2015 10-K and any 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 a discussion of these terms and reconciliations to GAAP measures. I will now turn the call over to Gary Coleman.

Thank you, Mike, and good morning everyone. In the fourth quarter, net income was $135 million or $1.12 per share, a 5% increase on a per share basis. Net operating income from continuing operations for the quarter was $139 million or $1.15 per share, a per share increase of 10% from a year ago. On a GAAP reported basis, return on equity as of December 31 was 12% and book value per share was $37.76 excluding unrealized gains and losses on fixed maturities. Return on equity was 14.6% and book value per share was $32.13, a 7% increase from a year ago. In our life insurance operations, premium revenue grew 6% to $550 million while life underwriting margin was $143 million, down 1% from a year ago. The decline in underwriting margin is due primarily to the decline in the direct response margins. In 2017, we expect life underwriting income to grow around 1% to 3%. Net life sales were $99 million, approximately the same as a year ago quarter. On the health side, premium revenue grew 1% to $238 million and health underwriting margin was up 4% to $53 million. In 2017, we expect health underwriting income to remain relatively flat. Health sales in total were $47 million down 21% from the year ago. Individual health sales were $37 million down 4%. The administrative expenses were $50 million for the quarter up 6% from a year ago and in line with our expectations. As a percentage of premium from continuing operations, administrative expenses were 6.4% compared to 6.3% a year ago. For the full year, administrative expenses were $197 million or 6.3% of premium. In 2017, we expect administrative expenses to grow approximately 5% and to remain around 6.3% of premium. I'll now turn the call over to Larry Hutchison for his comments on the marketing operations.

Thank you, Gary. At American Income Life, premiums were up 11% to $236 million and life underwriting margin was up 10% to $75 million and life sales were $52 million up 3% due primarily to increased agent count. The average agent in the fourth quarter was 6,874, up 4% from a year ago and down 2% from the third quarter. The producing agent count at the end of the fourth quarter was 6,870. We expect the producing count to be in the range of 7,100 to 7,400 at the end of 2017. Life sales for the full year 2016 grew 6%. We expect 6% to 10% life sales for 2017. At Liberty National Life, premiums were $67, approximately the same as the year-ago quarter, while life underwriting margin was $19 million down 4%. Net life sales increased 15% to $10 million while net health sales were $5 million, approximately the same as the year-ago quarter. The life sales increase was driven primarily by improvements in agent count. The average producing agent count for the fourth quarter was 1,781, up 16% from a year ago and down 1% compared to the third quarter. The producing agent count at Liberty National ended the quarter at 1,758. We expect the producing agent count to be in the range of 1,800 to 2,000 at the end of 2017. Life net sales for the full year 2016 grew 12%. Life net sales growth is expected to be within the range of 8% to 12% for the full year 2017. Health net sales for the full year 2016 grew 8%. Health net sales growth in 2017 is expected to be between the range of 5% to 9%. We are enthusiastic about Liberty National's prospects. Life premiums grew on a year-over-year basis for both the first quarter and the fourth quarter of 2016. The last time we had year-over-year growth per quarter was in 2004, while the fourth quarter growth was slight; there is an indicator of the positive effect of the changes that remained at this agency. We expect to seek assistance for life premium growth at Liberty National going forward. I would like to make one more comment regarding American Income and Liberty National. Roger Smith, who oversees both of these agencies, announced he will retire at the end of the year. Roger has contributed greatly to the growth of American Income and the turnaround of Liberty National. Over the past several years, Roger has developed talented leaders at both American Income and Liberty National. Steve Brewer, the President of the American Income agency division, will succeed Roger at American Income. Steve has served in his current capacity for over a year and was in SGA for American Income for 12 years prior to that. Steven DiChiaro, President of the Liberty National Agency Division, will succeed Roger at Liberty National. Steve has served in his current capacity for over five years and was in SGA at American Income before that. Roger will serve in an advisory capacity for both agencies after his retirement. Now, in our direct response operation at Global Life, life premiums were up 4% to $192 million. Life underwriting margin declined 21% to $29 million. Net life sales were down 7% to $34 million. For the full year 2016, life sales declined 9% due primarily to decreases in circulation designed to improve profitability at certain segments. We expect life sales down 4.5% to 9.5% in 2017 as we continue those efforts. At Family Heritage, health premiums increased 7% to $61 million, while health underwriting margin increased 26% to $14 million. Health net sales grew 8% to $13 million, but the average producing agent count for the fourth quarter was 947, up 8% from a year ago and down 40% from the third quarter. The producing agent count at the end of the quarter was 909. We expect the producing agent count to be in the range of 950 to 1,050 at the end of 2017. Health sales for the full year 2016 were at 2%. We expect health sales growth to be in the range from 3% to 7% in 2017. At United American General Agency, health premiums declined 2% to $89 million, and net health sales were $24 million, down 38% compared to the year-ago quarter. Individual Medicare supplement sales for the full year 2016 declined 3%. In 2017 we expect growth in individual Medicare supplement sales to be approximately 5%. I'll now turn the call back to Gary.

I'll spend a few minutes discussing our investment operations. First, I'll talk about excess investment income. Excess investment income, which we define as net investment income less acquired interest on policy liabilities and debt, was $58 million, an 8% increase over the year-ago quarter. On a per share basis, reflecting the impact of our share repurchase program, excess investment income was up 12%. In 2017, we expect excess investment income to grow by about 6% to 8%. However, on a per share basis, we should see an increase of about 9% to 11%. Now regarding the investment portfolio, invested assets were $14.8 million, including $14.2 million of fixed maturities at amortized cost. At the amortized cost, $13.4 billion are investment grade with an average rating of A-minus, and below investment grade bonds are $751 million compared to $640 million a year ago. The percentage of below investment grade bonds to fixed maturities is 5.3% compared to 4.8% a year ago. The increase in global investment grade bonds is due primarily to downgrades in securities in the energy and mining sectors that occurred earlier in 2016. However, due to the increase in the underlying commodity prices, the current market value of these securities is significantly higher than at the time of the downgrades. With a portfolio leverage of 3.7 times, the percentage of below-grade bonds to equity, excluding net unrealized gains on fixed maturities, is 19%. Overall, the total portfolio is rated high BBB-plus, just slightly under the A-minus a year ago. In addition, net unrealized gains in the fixed maturity portfolio of $1.1 billion are approximately $550 million higher than a year ago. Regarding investment yield, in the fourth quarter, we invested $607 million in investment grade fixed maturities, primarily in the industrial sectors. We invested at an average yield of 4.58% and average rating of BBB-plus at an average life of 26 years. For the entire portfolio, the fourth quarter yield was 5.75%, down six basis points from 5.81% in the fourth quarter 2015. At December 31, the portfolio yield was approximately 5.74%. For 2017, the midpoint of our current guidance assumes an increasing new money yield throughout the year, averaging 4.80% for the full year. We are encouraged by the prospect of our interest rates. Higher new money rates will 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, the continued low-interest rate environment will impact the income statement but not the balance sheet since we primarily sell non-interest sensitive protection products accounting for under FAS 60. We don't see a reasonable scenario that will require us to write off the ACE or put up additional GAAP reserves due to interest rate fluctuations. In addition, we do not foresee a negative impact on our statutory balance sheet. While we would benefit from higher interest rates, Torchmark would continue to earn substantial excess and disciplined income in an extended low-interest rate environment. Now I'll turn the call over to Frank.

Thank you, Gary. I would like to discuss our share repurchases and capital position. In the fourth quarter, we invested $71 million to acquire 1.0 million Torchmark shares at an average price of $68.60. For the entire year, we spent $311 million of parent company cash to buy 5.2 million shares at an average price of $59.78. So far in 2017, we have spent $19 million to purchase 257,000 shares. The parent company ended the year with approximately $45 million in liquid assets. Additionally, the parent is expected to generate more free cash flow in 2017. We define the parent company's free cash flow as the dividends received from subsidiaries minus the interest paid on debt and the dividends distributed to Torchmark's shareholders. While we have not finalized our 2016 statutory earnings, we anticipate that free cash flow in 2017 will fall between $325 million and $335 million. Consequently, factoring in the assets at the start of the year, we currently expect to have about $370 million to $380 million in cash and liquid assets available to the parent for the year. This level of free cash flow in 2017 is slightly higher than in 2016, mainly due to the net proceeds from the sale of our Medicare Part D business in 2016. As mentioned in prior calls, we aim to utilize our cash as efficiently as possible. If market conditions are favorable, we expect share repurchases to continue being a primary use of those funds. We also plan to retain around $50 million of parent assets by the end of 2017, unless we need to use these funds to support our insurance operations. Regarding RBC at our insurance subsidiaries, we plan to maintain capital levels that sustain our current ratings. For several years, this level has been around an NAIC RBC ratio of 325% on a consolidated basis. Although this ratio is lower than some peers, it is sufficient for our company given our steady statutory earnings and the relatively lower risk associated with our policy liabilities. While we haven’t finalized our 2016 statutory financial statements, we expect our consolidated RBC ratio at December 31, 2016, to be about 325%. We do not foresee any changes to our target RBC levels in 2017. Now, I'd like to update you on our direct response operations. Throughout 2016, the increase in total life underwriting income was slower than the rise in premium due to higher than anticipated policy obligations from our direct response operations. As discussed on previous calls, this was due to an increase in claims related to policies issued between 2000 and 2007 as well as from 2011 to 2015. In the fourth quarter, claims came in as expected, and policy obligations were within our anticipated range for that quarter, consistent with what was reported for the third quarter. Moreover, with an underwriting margin of 16.5% of premiums, the margin for the full year 2016 fell within our expected range of 16% to 17%. Looking ahead, as indicated in the last call, we foresee a slight decline in the underwriting margin for 2017, projecting it to be between 14% and 16% of premium for the full year. Regarding excess tax benefits on equity compensation, as previously mentioned in the first quarter of 2016, we adopted a new accounting standard for how we handle excess tax benefits. This standard mainly requires excess tax benefits to be recorded through earnings, which affects Torchmark’s calculations for net income, diluted shares outstanding, and earnings per share. In the fourth quarter, the expense reduction from this standard led to a $0.04 increase in earnings per share from continuing operations. For the full year 2016, earnings per share rose by $0.13. Although several factors influenced the amount of excess tax benefits, we expect that the recognized excess tax benefits in 2017 will be slightly lower than in 2016, with stock expenses reflected in net operating income predicted to be between $2 million and $4 million for the year, compared to a benefit of $1.5 million in 2016, indicating a negative change of $3.5 million to $5.5 million. Lastly, concerning our earnings guidance for 2017, we anticipate net operating income from continuing operations per share to be between $4.57 and $4.77. The midpoint of this range, $4.67, represents a $0.03 decrease from our prior guidance. This reduction is primarily due to a $0.05 decrease stemming from the higher current share price, which is expected to lead to fewer shares being repurchased in 2017 compared to what we predicted during our last call. This negative impact of the higher share price is somewhat balanced by a slightly improved outlook for underwriting and investment income. There is widespread speculation that Congress may implement some form of tax reform in 2017. Currently, few details are known about Congress's eventual direction, including what statutory rate might be agreed upon and what potential changes to the tax base could occur. Therefore, we are not incorporating any potential tax law changes into our 2017 earnings guidance, and our estimates are based on the assumption that current tax laws will remain unchanged through 2017. Those are my comments. I will now turn the call back to Larry.

Those are our comments. We’ll now open the call up for questions.

All right. First, I had a question on the annuity business. You’ve had pretty strong underwriting income in each of the last two quarters. What really drove that? And I'm assuming it's lower amortization and stuff, but what really drove it and what's your expectation of a more normalized ongoing earnings number for that business?

Yeah. Hi, Jimmy. You're right that the increased income from the annuity business relates to lower amortization, but we slowed down the amortization of that business due to it staying on the books longer due to the lower interest rate environment. Going forward, at the midpoint of our guidance, we see annuity income probably being in that $10 million range, pretty similar to what we saw on a per-quarter basis to what we have in the fourth quarter.

Okay. And then I think you mentioned retaining $50 million of liquidity at the holding company. In the past, I thought it was $50 million to $60 million. So, not sure, has there been a change or is it still consistent with what you were planning before?

Generally consistent, but I think looking realistically that we probably be at the lower end of that range, given our starting point where we ended up in 2016 a little below $50 million just really due to some timing of some items.

Okay. And then at the final numbers in terms of sales proceeds from the Part D block, do you have the final numbers on what you are expecting to get from the Part D sale?

The numbers are totally finalized until after the end of the first quarter.

Okay.

We currently estimate that the proceeds will be around $18 million, but there may be some adjustments during the first quarter.

And then just lastly, how do you think about the impact of the exit on your investment income? I'm assuming at some point down the road, it should help your investment income. How do you think about how it affected this year, next year and the year after?

Yes, as the exit of the business occurs, we will receive the various receivables that we have on the Part D business. We did see a pickup here in 2016 as we collected a significant portion of our CMS receivables here in 2016. As of the end of 2016, we still have around $100 million of net receivable from that business. We expect to probably get around $80 million of that in 2017, and that will be fairly pro-rata over the course of the year. And then it looks like there'll be a little bit of detail on the final $20 million or so that we don't anticipate receiving from CMS until probably the end of 2018 just there is some review process as it takes a couple of years to exit the business.

So, more normal number yield, it will take till '19 to get to a more normal number on investment income and no lag effect from this?

Ultimately yes, so there is a little bit of a drag that we're going to see here in 2017. Probably around the $2 million to $3 million range of a net drag, but then ultimately it will be cleaned up for the most part by the end of the year into '19.

But Jimmy, that's a comparison. Excuse me, the drag in 2016 was $9 million. So, we hope for $2 million to $3 million.

Thank you.

Good morning Torchmark. Direct response margins were flat sequentially, but you're guiding to further decline from the Q4 run rate in 2017. Have we turned the corner there or is it still a little bit of marginal deterioration?

Yeah Bob, I think we do anticipate having a little bit of marginal deterioration in 2017. And just to add, the 2002 through 2014 years related to the RX business that we primarily do on the RX business that we talked about in the past as that really goes through its maturity, if you will, in its higher years and then starts to decline as an overall percentage of our premium. Looking past 2017, we really see it stabilizing for the most part in maybe that 14% to 15% range. So, there might be just a slight deterioration past 2017, but at this point in time, it’s really difficult to determine exactly until we see what impact the changes that we made at the end of '16 and on our 2017 sales will ultimately have.

Okay. Thank you. And one quick follow-up on the guidance on news rates for 2017 up 4.8. How does that compare to what you're getting today? Do we need a further increase in rates to get there?

No. Excuse me Bob, I'm dealing with a cold here. As we mentioned, we invested 4.58% in the fourth quarter. For this quarter, we are a little above our expectations, sitting in the high 4.80% range. We anticipated that the first quarter would be around 4.70% and then gradually increase toward the end of the year, nearing 5%. Our goal is to reach 4.80%. We are slightly ahead in the early part of the first quarter, and we hope that trend continues.

Okay. You said you're getting above 4.80% now, I missed…

Yeah, a little above 4.80% right now.

Okay. Appreciated. Thank you.

Hi, thank you for the question. Looking at the amortized cost of your invested assets, I'm considering the excess investment income calculation; you finished 2016 with approximately $14.2 billion. I understand there are various cash flows involved. Should we expect that to grow in the 2% to 3% range annually, or will there be an increase due to some of these proceeds?

Okay. John, you're talking about the growth in the fixed maturities assets?

The $14.2 billion of invested assets in your excess investment income count?

Yes. I believe we are anticipating growth of 4% to 5% over the next two to three years.

Okay. Each year.

Yeah, each year, right.

Okay, that’s helpful. I have a hypothetical question. I understand your guidance doesn't consider any changes in statutory tax rates, which makes sense, and even if something does happen, it doesn’t seem likely to occur soon. But if domestic corporate tax rates were to fall, let’s say from 35% to 20%, 25%, or even lower, do you anticipate being able to capture all of that benefit to your bottom line? Or would you expect to price new product sales differently, perhaps resulting in a quicker sales growth while still aiming for a similar after-tax return on equity, recognizing that a greater portion of your profit margin might come from the lower tax rate? Do you understand what I'm getting at? I’m not sure if I’m articulating that clearly.

I believe I understand your question, John. It's quite difficult to predict how sales might be affected, and we haven't really considered how we might adjust pricing in relation to changing tax rates. If tax rates were to decrease to 25%, we would definitely anticipate a reduction in the cash taxes we pay, but at this moment, we are unsure about how changes to the tax base might be implemented to facilitate that adjustment.

Understood.

We would and we should end up having a benefit on the GAAP side clearly. On the statutory side, it's a little bit more difficult to see exactly how that might materialize and how that might impact future cash flows, if you will.

Okay. I'm curious, it's more of a philosophical question, right? Because I suppose at the end of the day, a lower corporate tax rate is intended to help the consumer and grow the economy faster. So, in that respect, I am wondering if you would target a higher return on equity recognizing a lower tax rate or if you would just look to pass along savings in the form of a lower premium rate to customers.

Well, John, in our businesses, the direct response we will consider more than others because there is more price competitive there. In our agency operations, it's not that price competitive. So, I think we would be careful about what we did with those premiums.

Okay. Understood. All right. I'll take it offline with you. Thank you.

All right. Thank you for joining us this morning. Those were our comments and we'll talk to you again next quarter.