Globe Life Inc (GL) — Q3 2017 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 2016 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'll now turn the call over to Gary Coleman.

Thank you, Mike, and good morning, everyone. In the third quarter, net income was $153 million or $1.29 per share, a 30% increase on a per share basis. Net operating income from continuing operations for the quarter was $146 million or $1.23 per share, a per share increase of 7% from a year ago. On a GAAP reported basis, return on equity as of December 30th was 11.7% and book value per share was $43.78. Excluding unrealized gains and losses on fixed maturities, return on equity was 14.4% and book value per share was $34.27, an 8% increase from a year ago. In the life insurance operations, premium revenue increased 5% to $576 million and life underwriting margin was $153 million, up 7% from a year ago. Growth in underwriting margin exceeded premium growth due primarily to favorable results at American Income and, to a lesser extent, Direct Response. For the year, we expect life underwriting income to grow around 4% to 5%. On the health side, premium revenue grew 3% to $243 million, while health underwriting margin was up 5% to $56 million. Growth in underwriting margin exceeded premium growth due primarily to favorable claims experience. For the year, we expect health underwriting income to grow around 3% to 5%. Administrative expenses were $52 million for the quarter, up 6% from a year ago and in line with our expectations. As a percentage of premiums from continuing operations, administrative expenses were 6.4% compared to 6.3% a year ago. For the full year, we expect administrative expenses to be around 6.4% of premium. I will now turn the call over to Larry for his comments on the marketing operations.

Thank you, Gary. At American Income, life premiums were up 9% to $253 million and life underwriting margin was up 13% to $83 million. Net life sales were $57 million, up 10%, primarily because we have a higher concentration than other agents a year ago. The average producing agent count for the third quarter was 7,165, up 2% from a year ago and up 2% from the second quarter. The producing agent count at the end of the third quarter was 6,981. At Liberty National, life premiums were up 2% to $69 million, while life underwriting margin was down 6% to $19 million. Net life sales increased 19% to $12 million, while net health sales were $5 million, up 9% from the year-ago quarter. The sales increase was driven primarily by growth in agent count. The average producing agent count for the third quarter was 2,132, up 19% from a year ago and up 6% compared to the second quarter. The producing agent count at Liberty National ended the quarter at 2,123. We continue to be encouraged by the positive results at Liberty National. In our Direct Response operation at Global Life, life premiums were up 4% to $200 million. Although net life sales were down 11% to $31 million, life underwriting margin increased 7% to $31 million. The actions we have taken that have resulted in reduced sales have increased margins in total dollars. At Family Heritage, health premiums increased 7% to $64 million and health underwriting margin increased 11% to $15 million. Health net sales grew 2% to $14 million. The average producing agent count for the third quarter was 1,024, up 4% from a year ago and down 1% from the second quarter. The producing agent count at the end of the quarter was 1,030. At United American General Agency, health premiums increased 1% to $89 million. Net health sales were $9 million, down 8% compared to the year-ago quarter. To complete my discussion of the marketing operations, I will now provide some forward-looking information. We expect to produce agent count for each agency to be in the following ranges: at American Income for the full year 2017, 7,000 to 7,200; for 2018, 7,200 to 7,500; at Liberty National for the full year 2017, 2,050 to 2,150; for 2018, 2,100 to 2,300; at Family Heritage, for the full year 2017, 1,020 to 1,060; for 2018, 1,090 to 1,150. Approximate life net sales are expected to be as follows: at American Income for the full year 2017, 7% growth; for 2018, 6% to 10%; at Liberty National for the full year 2017, 16% growth; for 2018, 10% to 14%; in Direct Response, for the year 2017, 10% decline; for 2018, 2% to 6% decline. Health net sales are expected to be as follows: at Liberty National, for the full year of 2017, flat; for 2018, flat to 3% growth; at Family Heritage, for the full year 2017, 8% growth; for 2018, 4% to 8% growth; at United American individual Medicare supplement for full year 2017 flat; for 2018, 3% to 7% growth. I'll now turn the call back to Gary.

Thanks, Larry. I want to spend a few minutes discussing our investment operations. First, just to talk about excess investment income. Excess investment income, which we define as net investment income plus required interest on net policy liabilities and debt was $61 million, a 7% increase over the year-ago quarter. On a per share basis, reflecting the impact of our share repurchase program, excess investment income was up 9%. The higher than normal increase is due primarily to the higher investment income, resulting from the decline and the negative impact of the weekly delays in receiving Part D reimbursements. For the full year 2017, we expect excess investment income to grow approximately 8% and excess investment income per share to grow around 11%. Regarding the investment portfolio, invested assets are $15.7 billion, including $14.9 billion in fixed maturities at amortized costs. Of the fixed maturities, $14.3 billion are investment grade with an average rate of A minus, and below investment grade bonds are $661 million compared to $753 million a year ago. The percentage of low investment grade bonds to fixed maturities is 4.4%, down from 5.4% a year ago. The decline is due primarily to upgrades to bonds that previously were classified as low investment grade. With a portfolio leverage of 3.7 times, the percentage of low investment grade bonds to equity, excluding net underlying gains on fixed maturities is 16%, down from 20% a year ago. Overall, the total portfolio is rated BBB plus to slightly under A minus for the year ago. Regarding investment yield, in the third quarter, we invested $376 million in investment grade fixed maturities, primarily in industrial sectors. We invested at an average yield of 4.43% and average rating of BBB plus at an average life of 26 years. For the entire portfolio, the third quarter yield was 5.64%, down 13 basis points from the 5.77% yield in the third quarter of 2016. As of September 30th, the portfolio yield was approximately 5.63%. The midpoint of our guidance assumes an average yield of 4.6% in the fourth quarter and a weighted average rate of 4.9% in 2018. We are still hoping to see higher interest rates moving forward. Rising money rates will have a positive impact on operating income by driving up excess investment income. We’re not concerned about potential unrealized losses that are interest rate driven since we would like to realize them. We have the intent to, more importantly, the ability to hold our investments to maturity. However, if rates don't rise, a continued low-rate environment will impact our income statement, but not the balance sheet. Since we primarily sell non-interest sensitive protection products accounted for under FAS 60, we don't see a reasonable scenario that would require us to write-off DAC 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 investment income in an extended lower interest rate environment. Now, I will turn the call over to Frank.

Thanks, Gary. First, I want to spend a few minutes discussing our share repurchases and capital position. In the third quarter, we spent $80 million to buy 1 million Torchmark shares at an average price of $77.34. So far in October, we have used $12 million to purchase 144,000 shares at an average price of $80.91. Thus for the full year through today, we have spent $255 million of Parent Company cash to acquire more than 3.3 million shares at an average price of $76.65. These purchases are being made from the Parent Company’s excess cash flow. The Parent Company's excess cash flow, as we define it, results primarily from the dividends received by the Parent from its subsidiaries less the interest paid on debt and the dividends paid to Torchmark’s shareholders. We expect the Parent Company's excess cash flow in 2017 to be around $325 million. With $255 million spent on share repurchases thus far, we can expect to have approximately $70 million available for the remainder of the year from our excess cash flow, plus other assets available to the Parent. As noted on previous calls, we will use our cash as efficiently as possible. If market conditions are favorable, we expect that share repurchases will continue to be a primary use of those funds. We also expect to retain approximately $50 million of Parent assets at the end of 2017, absent the need to utilize any of these funds to support our insurance company operations. For 2018, we preliminarily estimate that the excess cash flow available to the Parent will be in the range of $310 to $320 million. Now, regarding RBC and our insurance subsidiaries. We currently plan to maintain our capital at the level necessary to retain our current ratings. For the past several years, that level has been around an NAIC RBC ratio of 325% on a consolidated basis. This ratio was lower than some peer companies, but is sufficient for our company in light of our consistent statutory earnings and the relatively lower risk of our policy liability and our rates. We intend to target a consolidated RBC of 325% for 2017 and 2018. Next, a few comments to provide an update on our direct response operations. As Gary noted earlier, during the third quarter, we saw growth in the Direct Response underwriting margin, the first time in several quarters. The margin, as a percent of premium was 15.6%, up from 15.2% in the year-ago quarter. While higher claims will cause the underwriting margin to be lower for the full year of 2017 versus 2016, the increase in the quarter was fully in line with our expectations. On previous calls, we noted that we anticipated the margins for the full year of 2017 to range between 14% to 16%. We still anticipate the margin for the full year to be near the midpoint of this range or 15%. While it's still very early, we currently estimate the margin percentage for Direct Response will remain in the 14% to 16% range in 2018. Now, with respect to our guidance for 2017 and '18. We are projecting the net operating income from continuing operations per share will be in the range of $4.77 to $4.83 for the year ended December 31, 2017. The $4.80 midpoint of this guidance reflects a 7% increase over 2016. The increase in the midpoint of our guidance is primarily attributable to the continued positive outlook to align an underlying income at American Income and in our various health insurance businesses. For 2018, we estimate that our net operating income per share will be in the range of $5 per share to $5.25 per share, a 7% increase at the midpoint from 2017. Those are my comments. I will now turn the call back to Larry.

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

I had a couple of questions. First, on Direct Response margins, I think they improved for the second consecutive quarter on a sequential basis. So if you could give us some insight on what's driving this? And then your 2018 margin guidance is consistent with '17, and I recognize it's a pretty wide range. Do you expect to see improvement as we go through 2018, or should margins be roughly flat over the next year? And then I had a question on sales, on whether you have seen an impact from hurricanes, or do you expect an impact from the hurricanes, especially in Florida, Texas in the fourth quarter on sales?

Regarding the Direct Response margin, what we're observing aligns with our expectations for the year, influenced somewhat by seasonality. Initially, expenses—specifically claims—were a bit higher during the first couple of quarters, landing closer to the lower end of our expected range. In the second half of the year, we’re noticing that the policy obligation percentage appears to have shifted towards the upper end. This pattern aligns with what we had anticipated throughout the year, likely due to seasonality. Looking ahead to 2018, we expect quarterly fluctuations in the 14% to 16% range, but we foresee it stabilizing over the next year. As for the future beyond 2018, it's premature to project, but we anticipate continuing a similar pattern along with some seasonality in 2018.

Jimmy, this is Larry. I’ll address your hurricane question. Overall, the hurricanes slowed sales of recruiting in the three exclusive agencies during September. We think recruiting of sales should return to normal levels during the fourth quarter. Before the Hurricane caused United American sales to be lower than expected in the third quarter, direct response sales were not affected by hurricanes during the third quarter. But we think sales to be down about 1% to 2% in the fourth quarter is a lag between circulation and direct response, and responses from applicants. So the impact we feel a few weeks later than it was in the agencies.

And just following up on direct response margins, is it fair to assume that there is a block within the overall business, the block written in prescription revenue that’s really was pressuring your margins, the rest of the business is higher. So over the next several years, as that block becomes a smaller proportion of the overall enforce mix, then margin should naturally improve but they’re going to be depressed versus historical levels given lower margins on that part of the business?

Jimmy, that’s exactly correct. The margins we are applying to the new business are higher than what is currently reported. As that business integrates and the 2011-2014 block begins to phase out, we anticipate seeing an eventual increase in margins. However, various factors come into play, and it may take some time for this to happen.

Frank, you mentioned estimated free cash flow for 2018 of $310 million to $320 million, which is a little bit below the $325 million effect for ‘17. Is this just due to the strong sales growth, or is there any reason that you expect that to decline year-over-year?

The decrease in next year’s free cash flow primarily comes from changes since 2016. In that year, our statutory earnings included some Part D operations that are no longer part of our income, which affects our 2017 figures. We also lost over $20 million from after-tax earnings in 2016 due to the sale of a portion of our business, which will not be reflected again. Looking ahead, we believe that we are at a low point, and we anticipate improvement moving forward after 2018.

And then your EPS guidance, so you’re assuming that that $310 to $320 million is a proxy for share repurchases?

Yes.

And then just one question on health margins, which continue to come in a bit ahead of your expectations. And you mentioned favorable experience. But should we infer that that business is more profitable than you initially expected? And I guess on that note, what are you assuming for health margins in your 2018 guidance?

Overall, we believe the differences, particularly at Liberty National and American Income, are due to some favorable claims in the second and third quarters that we expect will continue through the remainder of the year. Looking ahead, we anticipate a slightly higher profitability than we previously expected, especially at American Income, where the claims have been at the lower end of what we usually see on a quarterly basis. For 2018, I expect Liberty National to remain close to those levels, potentially just over $50 million, with overall margins in the 23% to 25% range, while for American Income, margins will likely stay in the 48% to 50% range.

This is Gary. The overall margin is going to be very similar in '18, as well as in '17 which is similar to '16. So we had some changes within the mix, but it's still going to be overall about the same profit margin.

I just had a couple of 2018 expectation questions. I guess one can you just talk about your expectations for the overall life underwriting margin? Could you talk about your expectation for the growth in 2018?

Ryan, as far as underwriting on the life side remember this is really early. What we’ll find is more we get to February but we're looking to see somewhere around a 4% to 8% increase in life underwriting margins in 2018.

And can you, I guess same for excess investment income. What are your expectations for the growth in 2018 there?

There we're looking at somewhere between 2.5% to 4% growth. At the midpoint, a little over 3% and that would translate into about 7% increase on a per share basis.

My two of my questions. The last one I had was on American Income margin improvement that we saw this quarter. You seen those adjusted I think it's perhaps sustainable. Anything specific, is that driven by better revenues or something on the expense side?

At this point in time, Bob, there is really nothing that’s very specific with respect to the. We just are seeing some favorable claims here the past couple of quarters, clearly little bit better than what we've historically seen. If you look at that overall margin it's typically been in that 31% to 32% to 32.5% range. We're looking at being, year-to-date we're close to 32 and at least for the remainder of the year, we do see what the favorable results that we’ve had so far really continuing in through the remainder of the year, and probably being somewhere in that 32% to 32.5% range for that full year on that margin. And at this point of time, and Gary said, it's really early and difficult to say. We're really looking at probably still being in that 31% to 33% range for 2018 and probably at the midpoint still being right around that 32%. Bob, the thing that is causing margins to be up a little bit is the policy obligations. Last year, policy obligations were 32% year-to-date; that’s where we are but the quarter was 31% and we look for that to be fourth quarter as well. Does that improvement continue? We think it will. That’s not a big difference between 31% and 32%. And if you go back in the past, we’ve been in that 31% to 32% range in terms of policy obligations. Right now, it looks like the 31% is going to hold but we’ll know more when we get to February after we’ve had another quarter’s experience.

So it's just favorable mortality or just more revenues?

Well, I think it's favorable mortality but also there is a set part of it that’s due to the conservation program providing more revenue. But I think the bigger part of it is improved mortality.

And that’s just through better underwriting or just luck, or maybe just try to extrapolate of that trend?

Well, I think it's too early to determine if that trend is going to continue. We think there’s…

Thanks for taking the question. I have one on RBC ratio, and I guess more specifically just given the denominators, the tax affected item. What would you say would be expected impact of potential tax reform, and would it have any implications on your cash flow guide for 2018?

Alex, you’re exactly right in that. If there is some tax reform that it can have some impact on that RBC factors itself as a tax benefit that are tuned in getting those are clearly, we would end up having some reduction in our RBC percentage from that. We’ve estimated that if the tax rates were to go down from about 35% to 25%, there probably would be an RBC reduction of around 50 basis points. And at this point in time, it's really difficult to determine how the regulators and rating agencies will react to that. And what may be an appropriate RBC percentage really should be targeted going forward with that. But at this point in time, we are comfortable that we could fund whatever additional capital might be required, either through the issuance of additional debt or the excess cash flow that’s necessary. But at this point in time, we would think that we don’t see that we would need to or at least not anticipate that we would need to reduce our use of excess cash flows to fund any shortfall. You have to remember also that the tax reform is also going to generate lower current taxes as well, so that’ll be replenishing that over time as well.

Okay, thank you for joining this morning and we’ll talk to you again next quarter.