Globe Life Inc (GL) — Q2 2022 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 earnings release, 2021 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 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 second quarter, net income was $177 million or $1.79 per share compared to $200 million or $1.92 per share a year ago. Net operating income for the quarter was $205 million or $2.07 per share, an increase of 12% from a year ago. On a GAAP reported basis, return on equity was 9.8% and book value per share is $54.18. Excluding unrealized losses on fixed maturities, return on equity was 12.6% and book value per share is $60.71, up 9% from a year ago. In life insurance operations, premium revenue increased 4% from the year-ago quarter to $760 million. Life underwriting margin was $198 million, up 11% from a year ago. The increase in margin is due primarily to increased premium and improved claims experience. For the year, we expect life premium revenue to grow around 5%, and at the midpoint of our guidance, we expect underwriting margin to grow around 23%, due primarily to an expected decline in COVID claims for the full year. In health insurance, premium grew 8% to $319 million, and health underwriting margin was up 7% to $80 million. For the year, we expect health premium revenue to grow 6% to 7%, and at the midpoint of our guidance, we expect underwriting margins to grow around 5%. Administrative expenses were $74 million for the quarter, up 9% from a year ago. As a percentage of premium, administrative expenses were 6.8% compared to 6.6% a year ago. For the full year, we expect administrative expenses to grow around 11% and to be around 7% of premium due primarily to higher IT and information security costs, employee costs, an increase in travel and facilities costs, and the addition of the Globe Life Benefits division. I will now turn the call over to Larry for his comments on the second quarter marketing operations.

Thank you, Gary. At American Income, life premiums were up 8% for the year-ago quarter to $376 million, and life underwriting margin was up 19% to $128 million. A higher underwriting margin was primarily due to higher premium and improved claims experience. In the second quarter of 2022, net life sales were $85 million, up 16%. The increase in net life sales was caused by improvement in productivity and new business processing. The average producing agent count for the second quarter was 9,670, down 8% from the year-ago quarter, but up 3% from the first quarter. The producing agent count at the end of the second quarter was 9,637. The decline in average agent count resulted from a challenging recruiting environment. While conditions have been tough, the components necessary for agency growth remain in place. Also, in a slowing economy, it becomes easier to recruit and retain new agents. As we have said before, agency growth is a stair-step process. It is best to compare agent counts over several years to evaluate agency growth. At Liberty National, life premiums were up 5% over the year-ago quarter to $81 million, and life underwriting margin was up 12% to $18 million. The increase in underwriting margin is primarily due to higher premium and improved claims experience. Net life sales increased 7% to $19 million. Net health sales were $7 million, up 10% from the year-ago quarter due mainly to increased agent productivity. The worksite business has picked up significantly as sales were up 11% over the year-ago quarter and 24% over the first quarter of this year. The average producing agent count for the second quarter was 2,713, flat compared to the year-ago quarter, but up 2% compared to the first quarter. The producing agent count at Liberty National ended the quarter at 2,782. We continue to see positive momentum at Liberty National. At Family Heritage, health premiums increased 7% over the year-ago quarter to $91 million, and health underwriting margin increased 9% to $24 million. The increase in underwriting margin is due to increased premium and improved claims experience. Net health sales were up 1% to $19 million due to agent productivity. The average producing agent count for the second quarter was 1,173, down 4% from the year-ago quarter. However, the agent count grew 7% from the first quarter to the second quarter. I indicated in our first quarter call that Family Heritage would concentrate on recruiting, and we are seeing results from those efforts. Producing agent count at the end of the quarter was 1,201, and the recent sales and recruiting trends at Family Heritage are encouraging. In our direct-to-consumer division of Globe Life, life premiums were flat over the year-ago quarter to $249 million, while life underwriting margin declined 16% to $29 million. The decrease in underwriting margin is due to increased policy obligations. Net life sales were $33 million, down 23% for the year-ago quarter due to lower response rates and lower paid initial premium. As a reminder, direct-to-consumer provides reduced premium introductory offers, and we do not record a sale until the first full premium is received. While changes in the macro environment have not impacted our marketing activities much in the past, the current environment with record inflation is challenging. Our typical direct-to-consumer customer is in a lower-income bracket than our agency customers and generally has less discretionary income to purchase or retain insurance. We have also had to reduce our circulation mainly as increases in postage and paper costs impeded our ability to achieve a satisfactory return on investment for certain marketing campaigns. At United American General Agency, health premiums increased 16% for the year-ago quarter to $135 million, and health underwriting margin increased 8% to $19 million. Net health sales were $12 million, up 2% compared to the year-ago quarter. I will now provide projections based on trends we are seeing and knowledge of our business. We expect the producing agent count for each agency at the end of 2022 to be in the following ranges: American Income, a decrease of 2% to an increase of 4%; Liberty National, an increase of 3% to 11%; Family Heritage, an increase of 12% to 21%. Net life sales for the full year 2022 are expected to be as follows: American Income, an increase of 12% to 18%; Liberty National, an increase of 8% to 12%; direct-to-consumer, a decrease of 19% to a decrease of 11%. Net health sales for the full year 2022 are expected to be as follows: Liberty National, an increase of 5% to 9%; Family Heritage, an increase of 7% to 11%; United American General Agency, a decrease of 7% to an increase of 3%. I will now turn the call back to Gary.

Thanks, Larry. We'll now turn to our investment operations. Excess investment income, which we define as net investment income less required interest on net policy liabilities and debt, was $57 million, down 4% from the year-ago quarter. On a per share basis, reflecting the impact of our share repurchase program, excess investment income was flat. For the full year, we expect excess investment income to decline between 1% and 2% due to higher interest on debt, but to be up around 3% on a per share basis. After three years of declining excess investment income, we expect to see growth in 2023 due primarily to the impact of higher interest rates on the investment portfolio. As to investment yield, in the second quarter, we invested $400 million in investment-grade fixed maturities, primarily in the municipal and financial sectors. We invested at an average yield of 5.29%, an average rating of A plus and an average life of 26 years. We also invested $25 million in limited partnerships that have debt-like characteristics. These investments are expected to produce additional yield and are in line with our conservative investment philosophy. For the entire fixed security portfolio, the second quarter yield was 5.16%, down 8 basis points from the second quarter 2021. As of June 30, the portfolio yield was 5.16%. While the yield declined 8 basis points from a year ago, it's worth noting that it's up 1 basis point from the end of the first quarter. This is the first time we have seen an increase in the portfolio yield since 2016. Regarding the investment portfolio, invested assets are $19.6 billion, including $18 billion of fixed maturities at amortized costs. Of the fixed maturities, $17.4 billion are investment grade with an average rating of A minus. And overall, the total portfolio is rated A minus, the same as a year ago. During the quarter, we went from a net unrealized gain position to a net unrealized loss position of approximately $814 million due to higher treasury rates and spreads. The unrealized loss position is mitigated by our ability and intent to hold fixed maturities to maturity. And overall, we are comfortable with the quality of our portfolio. Bonds rated BBB or 53% of the fixed maturity portfolio compared to 55% a year ago. While this ratio is in line with the overall bond market, it is high relative to our peers. However, we have little or no exposure to higher-risk assets such as derivatives, equities, residential mortgages, CLOs, and other asset-backed securities. Because we primarily invest long, a key criterion utilized in our investment process is that an issuer must have the ability to survive multiple cycles. We believe that the BBB securities we acquire provide the best risk-adjusted, capital-adjusted returns due in large part to our ability to hold securities to maturity regardless of fluctuations in interest rates or equity markets. The low investment-grade bonds were $585 million compared to $764 million a year ago. The percentage of below investment-grade bonds at fixed maturities is 3.2%. This is as low as this ratio has been for more than 20 years. Excluding net unrealized losses in the fixed maturity portfolio below investment-grade bonds as a percentage of equity are 10%. The low investment-grade bonds plus bonds rated BBB as a percentage of equity are 169%, and that's the lowest this ratio has been in 10 years. I would also mention that we have no direct investments in Ukraine or Russia and do not expect any material impact on our investments in multinational companies that have exposure to these countries. For the full year, at the midpoint of our guidance, we expect to invest approximately $1.3 billion in fixed maturities at an average yield of 4.9% and approximately $200 million in limited partnership investments with debt-like characteristics at an average yield of around 7.6%. We were encouraged by the increase in interest rates and the prospect of higher interest rates in the future. Higher new money rates will have a positive impact on operating income by driving up net investment income. As I mentioned earlier, we're 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. In addition, our life products have fixed benefits that are not interest-assisted. Now I'll turn the call over to Frank for his comments on capital and liquidity.

Thanks, Gary. First, I want to spend a few minutes discussing our share repurchase program, available liquidity, and capital position. The parent began the year with liquid assets of $119 million and ended the second quarter with liquid assets of approximately $318 million. This amount is higher primarily due to the net proceeds of the issuance in May of a 10-year $400 million senior note with a coupon rate of 4.8%, less amounts used to temporarily reduce our commercial paper balances. The net proceeds will ultimately be used to redeem our $300 million 3.8% senior note maturing on September 15, with the excess proceeds being available for other corporate purposes. In addition to these liquid assets, the parent company annually generates 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 parent company debt. During 2022, we anticipate the parent will generate between $355 million and $365 million of excess cash flows. This amount of excess cash flows, which, again, is before the payment of dividends to shareholders, is lower than the $450 million received in 2021, primarily due to higher COVID life losses and the nearly 15% growth in our exclusive agency sales in 2021, both of which resulted in lower statutory income in 2021 and thus lower cash flows to the parent in 2022 than were received in 2021. Obviously, while an increase in sales creates a drag on the parent's cash flows in the short term, the higher sales will result in higher operating cash flows in the future. We anticipate that approximately $145 million of excess cash flows will be generated during the second half of the year, out of which we anticipate distributing approximately $40 million to our shareholders in the form of dividend payments. In the second quarter, the company repurchased 1,388,000 shares of Globe Life Inc. common stock at a total cost of $134.2 million at an average share price of $96.64. Total repurchases during the quarter were higher than normal as we accelerated approximately $50 million of repurchases from the second half of the year given favorable market conditions. These additional repurchases were at an average price of $94.39. Year-to-date, including $11.6 million in purchases made so far in July, we have repurchased 2.4 million shares for approximately $234 million at an average price of $98.22. Taking into account the liquid assets of $318 million at the end of the second quarter plus the estimated $145 million of excess cash flows expected to be generated in the second half of the year, we anticipate having around $463 million of assets available to the parent for the remainder of the year. As previously noted, we have used $12 million for buybacks so far this quarter and anticipate using approximately $40 million to pay shareholder dividends and approximately $180 million in net debt reduction, leaving approximately $230 million for other uses. As noted on previous calls, we will use our cash as efficiently as possible. We still believe that share repurchases provide the best return or yield to our shareholders over other available alternatives. Thus, we anticipate share repurchases will continue to be a primary use of the parent's excess cash flows along with the payment of shareholder dividends. It should be noted that the cash received by the parent company from our insurance operations is after our subsidiaries have made substantial investments during the year to issue new insurance policies, expand and modernize our information technology and other operational capabilities, and acquire new long-duration assets to fund their future cash needs. As discussed on prior calls, we have historically targeted $50 million to $60 million of liquid assets to be held at the parent. We will continue to evaluate the potential capital needs, and should there be excess liquidity, we anticipate the company will return such excess to the shareholders in 2022. In our earnings guidance, we anticipate between $410 million and $420 million will be returned to shareholders in 2022, including approximately $330 million to $340 million through share repurchases. With regard to the capital levels at our insurance subsidiaries, our goal is to maintain our capital at levels necessary to support our current ratings. Globe Life targets a consolidated company action-level RBC ratio in the range of 300% to 320%. For 2021, our consolidated RBC ratio was 315%. At this RBC ratio, our subsidiaries have approximately $85 million of capital over the amount required at the low end of our consolidated RBC target of 300%. During 2022, the NAIC will be adopting new RBC factors related to longevity and mortality risk, also known as C2 factors. While the longevity risk factors that primarily relate to life contingent annuities will have little impact on our subsidiaries, the new mortality factors do apply to our products and will increase our company action-level required capital by approximately 4% to 5%. We believe the conservative statutory reserve levels held for our life insurance products already provide for a very strong total asset requirement. Given the consistent generation of strong statutory gains from operations from our product portfolio, these new factors will simply result in even stronger capital adequacy at our target RBC ratios. At this time, while we do not anticipate that any additional capital will be required to maintain the low end of our targeted RBC ratio, the parent company does have sufficient liquid assets available should additional capital be required. At this time, I'd like to provide a few comments related to the impact of COVID-19 and our excess non-COVID policy obligations on second quarter results. In the second quarter, the company incurred approximately $8.4 million of COVID life claims relating to approximately 30,000 U.S. COVID deaths occurring in the quarter as reported by the CDC. However, these incurred claims were fully offset by a favorable true-up of COVID life claims incurred in prior quarters. Based on the additional claims data we now have available related to first-quarter COVID deaths, we now estimate that our average cost per 10,000 U.S. deaths in the quarter was approximately $2.4 million, down from the $3 million average cost previously estimated on our last call. As a result, the net COVID life claims reported in the second quarter were not significant overall or at any of the individual distributions. For the full year and at the midpoint of our guidance, we now estimate we will incur approximately $62 million of COVID life claims, a decrease of $9 million from our prior estimate. This estimate assumes an estimated 60,000 U.S. COVID deaths and an average cost per 10,000 deaths of approximately $2.8 million in the second half of the year. While we had favorable experience with respect to COVID losses incurred in prior quarters, we did experience higher life policy obligations from non-COVID causes. The increase from non-COVID causes of death are primarily medical related, including deaths due to lung disorders, heart and circulatory issues, and neurological disorders. The losses that we are seeing continue to be elevated over 2019 levels. As stated on prior calls, we believe these higher deaths are due in large part to the pandemic. Given the lessening number of COVID deaths, we do anticipate these claims will moderate over the remainder of the year. In the second quarter, we estimate that our excess non-COVID life policy obligations were approximately $28 million, $10 million higher than expected, primarily due to adverse development of first-quarter incurred losses in our direct-to-consumer channel. For the full year, we anticipate that our excess life policy obligations will be around $64 million or around 2% of our total life premium. Essentially, all of the entire obligations relate to higher non-COVID causes of death. With respect to our earnings guidance for 2022, we are projecting net operating income per share will be in the range of $7.90 to $8.30 for the year ended December 31, 2022. The $8.10 midpoint is higher than the midpoint of our previous guidance of $8.05, primarily due to a greater impact of our share repurchase program. We continue to evaluate data available from multiple sources, including the IHME and CDC to estimate total U.S. deaths due to COVID and to estimate the impact of those deaths on our in-force book. We estimate the total U.S. deaths from COVID will be in the range of 215,000 to 275,000 and that our cost per 10,000 deaths for the year will be approximately $2.5 million. Before I close, a few comments with respect to the potential impact of the upcoming changes of long-duration accounting that will be effective in 2023. As I discussed on our February call, we expect the new accounting guidance to have a significant impact on our reported GAAP income and our reported equity, including accumulated other comprehensive income, or AOCI. The impact on GAAP income will primarily result from changes that affect the future capitalization and amortization of deferred acquisition costs and, to some degree, changes in the manner of computing policyholder benefits. The impact on AOCI will primarily be related to the new requirement to revalue policy reserves using current discount rates. The new accounting guidance is especially relevant to our GAAP financial statements since nearly all of our business is subject to the new rules. Our products are highly profitable and persistent, and we have many policies still on the books that were sold decades ago. While the GAAP accounting changes will be significant, it is very important to keep in mind that none of the changes will impact our premium rates, the amount of premiums we collect, nor the amount of claims we ultimately pay. Furthermore, it has no impact on the statutory earnings or the statutory capital we are required to maintain for regulatory purposes, nor will it cause us to make any changes in the products we offer. In other words, the accounting change will in no way modify the way we think or manage our business. Under the new standard, our GAAP earnings will be higher. The annual amortization of deferred acquisition costs, or DAC, will be lower than under current guidance in the near to intermediate term due to changes in the treatment of renewal commissions, the treatment of interest on DAC balances, and the methods of amortizing back. We currently estimate that these changes will increase net income after tax in the range of $120 million to $145 million on an annual basis. Due to the treatment of deferred renewal commissions in our captive agency channels, we do expect the impact of this change to diminish over a period of time. It is important to note that our policyholder benefits reported for 2021 and 2022 will be required to be restated to reflect the new guidance. While we aren't able to provide a range of expected impact at this time, the restated policy obligations as a percent of premium are expected to be lower in both 2021 and 2022 than under the current guidance due to the treatment of COVID life claims and other fluctuations in claims experience in both of these years as the new guide requires us, in concept, to recognize these fluctuations over the life of the policies. This will result in higher net income in both 2021 and 2022 than reported under current guidance. Going forward, we anticipate that our policy obligations as a percent of premium will be similar in the near term to those restated percentages in the absence of assumption changes. With respect to changes to the balance sheet and AOCI, the new guidance adopts a new requirement to remeasure the company's future policy benefits each quarter utilizing a discount rate that reflects upper-medium-grade fixed income yields, with the effects of the change to be recognized in AOCI, a component of shareholders' equity. On the transition date, which will be January 1, 2021, the company expects an after-tax $7.5 billion to $8.5 billion decrease in the AOCI balance as of this date due to this new requirement since the discount rate to be used will be lower than what was used in valuing the future policy benefits under existing guidance. Given the long average duration of our liabilities, changes in the current discount rate could have a meaningful effect on the reported AOCI. For instance, if we were to hold all else equal as of the transition date, but use current discount rates as of June 30, 2022, the after-tax decrease in AOCI due solely to the increase in future policy benefits would have been only in the range of $2.4 billion to $3.2 billion. Keep in mind that AOCI would also be adjusted in such a situation to reflect changes in the valuation of the fixed maturity bond portfolio. As discussed on the February call, while the new guidance requires the company to recognize the inherent unrealized interest rate loss for purposes of determining AOCI, it ignores the unrealized gains from underwriting margins that are available to fund future policy benefits and changes in interest rates. Given our strong underwriting margins, this submission has the effect of reporting the policy liability that understates the value of these margins. This fact, along with the noneconomic impact of this new requirement for determining our future policy obligations for AOCI purposes, we continue to believe that equity, excluding AOCI, will be a more meaningful measure of Globe's financial condition going forward. The new guidance also requires a more granular assessment of the ratio between present value of benefits and the present value of gross premium, also known as a net premium ratio. Any blocks of business that require increases in future policy benefits to minimum levels or that have a net premium ratio greater than 100% will require a decrease to the opening balance of retained earnings. At the transition date, we expect this adjustment to retained earnings to be less than $50 million. We will provide more discussion of the impact of the accounting change in our second quarter Form 10-Q to be filed next month, and we may be in a position to provide more guidance on our anticipated restated 2021 and 2022 operating income and initial views on 2023 earnings on our next call. 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 question first just on the persistency. And it seems like during the pandemic, you benefited from people unwilling to cancel policies, and now you're seeing an uptick in lapse rates. Do you think that's because of the weaker economy? Or is it because of a catch-up from what's happened during the pandemic as the pandemic impact is fading? Or are there other reasons that sort of make you concerned about persistency getting worse if we, in fact, do enter a recession?

Jimmy, there are several reasons that could be causing the slight uptick in lapses: the economy, inflation. We've said in the past that during periods of inflation, we haven't seen that much impact on persistency. But of course, this is the highest inflation we've had in 40 years. So it's reasonable to think that inflation could be affecting persistency, especially in the direct-to-consumer area. But also, the end of the government COVID relief payments is less income in the hands of our policyholders. That could have an impact. And also, we think we're seeing a little bit of impact of some insurers feeling like they no longer need the coverage. Maybe they bought it at the beginning of the COVID outbreak, and now they're seeing or feeling like they don't need the coverage. It's hard to pinpoint what the causes are. But I do want to emphasize that we're not concerned about having adverse persistency getting worse. What we're seeing is it looks like it's getting back towards the pre-pandemic levels. At this point, we don't see anything to indicate that that's going to be an ongoing increase in lapses.

Can you discuss the labor market and your ability to recruit and retain agents given the current tight conditions?

While it's been a tough recruiting market, sequentially, we did see the producing agent count increase at American Income, International, and Family Heritage. What's more important than the labor market are the components necessary for agent growth, and those remain in place. All three agencies are opening new offices in 2022. Management has projected to grow by 5% to 10% this year, and we're providing additional sales technology to the agency forces. Also, in a slowing economy, Jimmy, it's always easier to recruit and retain new agents.

Can you provide the actual COVID claims for this quarter and the corresponding reserve release? I understand that you had a negative $1 million impact from COVID on a net basis. What were the specific claims and the reserve releases that resulted in this negative net outcome?

Yes, Jimmy, as I mentioned, we estimate that our COVID-related losses are approximately $8.5 million specifically for Q2 due to incurred deaths, and there was a favorable adjustment of about $9 million to $9.5 million for prior period claims. Regarding DTC, we initially projected around $5.6 million, but it turned out to be approximately $2.5 million as a negative net benefit for the quarter.

I was hoping you could provide a little bit more color on the non-COVID mortality experience this quarter, particularly in the direct-to-consumer block and maybe talk a little bit as well about the out-of-period adjustment there. And I guess where you see margins being for DTC in the near term and where you think they can get to if mortality normalizes?

Yes, Erik. In the second quarter, we initially estimated around $18 million in total excess obligations. However, we ended up with approximately $28 million, which is about $10 million more than we expected, and all of that was related to non-COVID issues. Lapses were actually a bit favorable, coming in higher than anticipated for the quarter, contributing to the release of some excess reserves. That $10 million difference was linked to direct-to-consumer claims, indicating higher policy obligations incurred in the second quarter due to non-COVID claims. Overall, both DTC and the organization noticed a slight misclassification regarding non-COVID claims, which were somewhat higher than expected. It's difficult to determine if this is due to changes in how death certificates are recorded or other factors affecting our estimation techniques. This higher non-COVID figure somewhat offsets the favorable developments observed with COVID. For the entirety of the year, we estimate that non-COVID excess claims for DTC will be about 2% to 5% of premiums, totaling around $50 million in excess obligations for direct-to-consumer related to non-COVID causes of death, with approximately 3% related to COVID.

And then from a margin standpoint, I guess, looking forward, in a normal environment, would you still expect to be in sort of, I guess, the 17% to 18% margin range for DTC and kind of 28% for life overall?

Yes. For the full year, we estimate that we're probably somewhere in that 11% to 13% range for our projected margin for the entire year. And with COVID, if you will, the higher obligations for COVID and non-COVID being around 8%, that kind of points to around 20%. But with some of the favorable persistency that we've had in the past couple of years, our amortization of our DAC is a little bit favorable. If you kind of normalize all that, it kind of does bring you back down in that 17% to 19% range, right around 18% to 19%.

And 28% sort of for the overall life business. Is that still reasonable?

That is reasonable, yes.

And if I could just squeeze in one last quick one. For the LDTI impacts, I think you gave the earnings impact on a net income basis. Would you expect much difference in operating income?

No, it would be essentially the same. Some of the components of net operating income, how we think about excess investment income versus some of the underwriting income and how we treat required interest on that, those components will be a little bit different, but the overall net operating income would be the same impact overall.

So just to kind of follow on with the excess non-COVID claims of about $28 million this quarter, did I recall correctly that you were expecting about $64 million of excess non-COVID for the year? Is that correct?

That's correct.

You previously indicated a guidance of $64 million, and despite having $10 million more than expected this quarter, are you still maintaining that guidance?

Yes, that is correct. Throughout the year, we expect the additional impact to be less than what we experienced in the first and second quarters. However, we maintain an overall estimate of about $64 million. We have raised our expectations regarding the share of that related to the increases in non-COVID deaths. What has occurred is that these increases have been balanced out by a reduction in our excess obligations tied to lapses. As our persistency has declined and lapses have increased, some of the excess reserves we held have been released, which counters the higher non-COVID claims, keeping our total for the year roughly the same.

And nothing would lead you to believe that in '23 or 2024, assuming and hoping that COVID dissipates, that this excess non-COVID will be a problem?

Yes. Recently, our actuarial team revisited and examined the connections between higher non-COVID losses and the timing of COVID deaths. We have observed a significant correlation between COVID deaths, particularly related to heart issues, circulatory problems, neurological disorders, and more recently, lung disorders. Given the strong correlations we've identified throughout this pandemic, and with the decline in COVID deaths, we feel confident that the excess non-COVID causes of death will also begin to decrease. At this time, we have no evidence suggesting that these numbers will remain elevated in the long term, and we anticipate they will return to more normal levels.

As I said, that makes a lot of sense. And then just lastly, on lapsation, you gave some really good reasons, inflation, less government assistance, etc. Given the environment we're in, I guess, is the expectation that we could kind of see these elevated lapses, particularly in direct-to-consumer, over the foreseeable future?

Yes. From our guidance midpoint, we expect lapses to return to normal levels. While it's possible that they may remain slightly elevated in direct-to-consumer, we are confident that the exclusive agencies will maintain normal persistency due to the nature of our agent interactions. Overall, we anticipate that lapses for the remainder of the year will align with pre-COVID levels.

Yes, Andrew, I would add that we have observed more increases in the lapse rates for policies issued in the last two to three years. For older policies, the lapse rate increase has not been as significant. This suggests that some of the more recent policyholders may believe they no longer need the coverage. Currently, when we examine older policies, we do not see any signs indicating a significant shift, and we expect this trend to continue. We will continue to monitor the situation, but thus far, the lapse rates appear to be returning to levels seen in 2019.

Actually, let me just sneak one in. American Income looked good. Your guidance has bumped up 1% in terms of agent count on that growth over the year. Are you getting a little more encouraged by what you're seeing? Is it easier to recruit than you thought three months ago?

Yes, we are encouraged. We're noticing increased interest in the opportunities available, and there's been a change in the economy as recruiting has risen during the second quarter and continues to this day. Our goal is to convert more of those recruits into productive agents, and we are seeing this process unfold. There is typically a delay between recruiting and having productive agents. I believe that the increase in recruitment we experienced in the second quarter will persist into the third quarter, especially at American Income. The American Income position is also more appealing. A significant portion of our sales, 85%, remains virtual, and given rising gasoline costs and inflation, there is a pressing need to engage in business. Additionally, the ability to work from home brings about more expenses. Therefore, I think the prospects at American Income are significantly better than they were prior to COVID.

My first question, you previously talked about a 20% increase in average premium. How did that trend in 2Q '22? Just trying to dimension if the consumers may be pulling back on a size of policy possibly.

Well, I'll address it from an agency standpoint. We're talking about the average premium per sale; what we see is that increasing across the three agencies. So at American Income, Family Heritage, and in our Liberty National unit, the average premium has increased, and that's what's driven sales: the increase in productivity and average premium and also the percentage of agents submitting business. As you've seen in the agent counts, the average agent counts were fairly flat quarter-over-quarter. As we added agents in the second quarter, that did help sales at Family Heritage more than the other two agencies. I think the other thing you're seeing is, particularly at Liberty National, I mentioned in the script that the worksite sales increased both year-over-year with a substantial increase in the fourth quarter. I think what you're seeing is a return to normal in terms of that worksite market that's helping the average premium increase and the productivity of agents in that market also.

And then my follow-up question. You provided some great color on the portfolio. Clearly, some concern generally in the world about economic growth and the changing business cycle. And appreciate BBB portfolio is targeted for multiple sectors. But can you talk about maybe plans to reunderwrite for potential credit rating changes and whether you'd opportunistically maybe trim some of the BBBs?

We made some adjustments in the second quarter by selling $185 million in bonds, which represents about 1% of our portfolio. These bonds did not raise any credit concerns, but with the market conditions favorable, we sold them to reinvest in higher-grade bonds. We moved from BBB bonds to AA bonds and municipal bonds, which increased our earnings as we reinvested at a higher yield. This higher quality also reduces our required capital, and we were able to offset some prior-year tax gains, making it beneficial overall. This strategy reflects our approach to taking advantage of opportunities to enhance portfolio quality. We are confident in the portfolio's quality; over the last three years, we've added more municipal bonds in the AA category. Our ratio of BBB and below investment-grade bonds compared to equities is at its lowest point in 10 years. We are also optimistic about the existing issues on our books; during the pandemic, companies strengthened their balance sheets, leading us to believe that our portfolio's quality will remain strong moving forward.

First question is the $28 million of elevated non-COVID excess that you referenced, was any of that related to prior period catch-up from 1Q? And if so, how much of that $28 million would have been 2Q versus 1Q?

Yes, about $10 million of that really did relate to a catch-up from Q1, and that was primarily a direct-to-consumer issue.

So if we were to look at kind of a normal margin in direct-to-consumer, we should probably be adding the $10 million back from a run rate perspective.

Yes, I think that would be right.

You also referenced on direct-to-consumer, some of the expenses like shipping costs, etc., have gone up, making it less attractive. If that was the case, how did you respond to that? Did you just scale back in mailings? Did you change pricing at all? What was the response to that?

I think I wouldn't agree with the statement that it's less attractive. Remember with direct response that the acquisition expenses incurred prior to the sale are contrasted to the agencies where you incur the acquisition expense at the time of the sale. As we think about direct-to-consumer, we determine our mailings, we determine our insert media based on our analytics, which is based on tests that we do. As we see lower response rates, we then lower the volume of those mailings and insert media. It's really maintaining the return on investment that's adequate for that particular campaign. During the year, we have 30, 40, 50 campaigns going on. Each one is measured independently. We expect in direct-to-consumer that we're going to have a reduction in our mailings this year of about 9%, and our insert circulation will decrease in a range of 9% to 11% for 2022. As the campaigns continue, if the economy improves and we see a higher demand for life insurance again, it's not really increasing the investment; it's increasing the investment in response to the results we're seeing in those campaigns.

And then just a final one for me on LDTI. So it's kind of interesting. You had a meaningful positive from a GAAP operating earnings perspective. But at least upon the initial balance sheet implementation date, looking back to when rates were lower, I think it would have resulted in Globe having a negative book value given the size of the adjustment to AOCI. And I realize that's a lot less now with where rates are. I think you said the transition impact was all the way down only $2 billion to $3.2 billion as of June 30. So that's clearly a lot less of an impact. But any initial sense just given those two kind of large impacts positive on the income statement but meaningful negative on GAAP book value? Any initial response from the rating agencies that you think this is going to be consequential? Because I think I heard you say earlier, and I think every other company has said this won't impact capital adequacy at all. But is the fact that that could have resulted in a negative book value raising any eyebrows at the rating agencies or not necessarily?

So Tom, to clarify, as of December 31, 2020, which is when we would be restating the balance sheet, our total equity was approximately $8.8 billion. The adjustment we are expecting will not push us into negative territory; it will keep us close to the midpoint of that range, indicating about $1 billion of positive GAAP equity at that transition date. However, this still represents a considerable decline in the reported equity, which we reiterate is linked to market adjustments because market rates at that time were considerably lower than our average portfolio yield. Our average portfolio yield was around 5.8%, while the average market yield was closer to 3%, fluctuating with the curve. Thus, the drop is significant compared to that period. Fortunately, as the curve has improved from December 31, 2020, up to now, it has mitigated some of the impact. This is one of the reasons we view AOCI not as a challenging measure for evaluating the company, as it is largely driven by interest rates and will evolve over time. Regarding the rating agencies, we do not foresee any issues at this point because our actual ability to generate cash flows, repay our debts and obligations, and maintain overall operational strength remains intact, particularly concerning our cash flow and statutory earnings generation. As we continue discussions with them, we will provide more insights. Over time, they will take into account not just our situation but also that of others in the industry.

I have one more follow-up on LDTI. The increase in GAAP earnings of $120 million to $145 million annually, is that something you expect to be relatively stable over the intermediate term? I believe you mentioned that it will decline over time. Could you provide a little more insight on that?

Yes, we expect that in the near and intermediate term it will remain relatively stable. It will gradually increase as the new rules necessitate us to pay deferrable renewal commissions, which will lead to an increase in our amortization related to new business as we record that business. There will also be future impacts on existing business. However, it will take some time for these changes to have a significant effect.

And then on the increased C2 mortality factors, would that have much of an impact on your future free cash flow generation? Or would you view that as more of a one-time increase to required capital?

Yes, it will primarily be a one-time increase to the required capital that we need to consider. While there may be some incremental impact from year to year due to growth in that business, it shouldn’t have a significant effect moving forward.

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