Loews Corp (L) — Q3 2020 Earnings Call Transcript

Thank you, Laurie, and good morning, everyone, and welcome to News Corporation's third quarter earnings conference call. A copy of our earnings release, earnings supplement and company overview may be found on our website. On the call this morning, we have our chief executive officer, Jim Tisch, and our chief financial officer, David Edelstein. Following our prepared remarks, we will have a question and answer session with questions from shareholders. Before we begin, however, I will remind you that this conference call might include statements that are forward-looking in nature. Actual results achieved by the company may differ materially from those made or implied in any forward-looking statements due to a wide range of risks and uncertainties, including those set forth in our SEC filings. Forward-looking statements reflect circumstances at the time they are made. The company expressly disclaims any obligation to update or revise any forward-looking statements. This disclaimer is only a brief summary of the company's statutory forward-looking statements, disclaimers which are included in the company's filings with the SEC. During the call today, we might also discuss non-GAAP financial measures. Please refer to our security filings and earnings supplement for reconciliation to the most comparable GAAP measures. There has been a slight modification to our earnings call format that was made in response to shareholder feedback. For a number of years now, we have taken questions from shareholders on an earnings call, either by incorporating the answers into our prepared remarks or answering them directly during our Q&A session. Recently, we've heard from shareholders that they prefer that we answer questions in the Q&A portion of the call instead of moving them into the prepared remarks, and we're happy to comply with this request. As a result, we will have a longer Q&A session. With that, I'd like to turn the call over to our CEO, Jim.

Thank you, Mary, and good morning. Let me start by focusing on capital allocation, specifically share buybacks. During our second quarter conference call, I emphatically stated my strong belief that the market was significantly undervaluing our shares. I also stated that while we plan to maintain a substantial liquidity position as our rainy day fund, we would take advantage of the market's discount and continue to buy back our stock during the third quarter. We did just that, purchasing over 5.4 million shares of Loews for about $195 million while preserving ample liquidity and ending the quarter with about $3.5 billion in cash and investments. Maintaining high levels of liquidity is fundamental to our business model because it allows us to both capture opportunity and withstand uncertainty. Like any portfolio manager, we have to balance retaining our liquidity with taking advantage of investment opportunities as they arise. Buying back shares is one of Loews' three capital allocation tools, with the other two being investing in our subsidiaries and acquiring another business. With our stock trading considerably below our assessment of its intrinsic value, share repurchases have recently been our most attractive capital allocation option. However, our decision to buy back stock has not come at the expense of any of our subsidiaries. For example, we have provided capital to Loews Hotels to help them navigate the effects of Covid-19 on the hospitality industry. All three other subsidiaries, Boardwalk, Altium, and Packaging, have not recently required parent company capital. Instead, Boardwalk and Altium have largely used their free cash flow to finance growth opportunities, and CNN has chosen to pay dividends since it hasn't had a need for additional capital. As Mary mentioned during the Q&A, we will be discussing topics submitted by our shareholders. However, I did want to highlight two key items upfront: CNN's long-term care business and the situation at Loews Hotels. Starting with CNN, let me emphasize that CNN's underlying property casualty underwriting performance for the quarter was stellar. The company had an underlying combined ratio of 92.6, compared with 94.6 in last year's third quarter, due to improved loss and expense ratios. Property and casualty pricing momentum continues with rates increasing over 12 percent in the third quarter, compared to an increase of just under 6 percent for the same period last year. Regarding long-term care, my guess is that CNN's long-term care exposure is a significant reason why CNN's valuation lags its peers. We are comfortable with the reserves that CNN has set up for long-term care. The company has been proactive in managing the long-term care business and prudent in their approach to setting LTC reserves. In the third quarter, CNN took an LTC net reserve charge of $37 million before tax, comprising a $74 million active life reserve deficiency offset by a $37 million claim reserve release. The active life reserve deficiency resulted from the continued low interest rate environment and its impact on future assumed reimbursement rates. In my opinion, CNN is taking a conservative view on future interest rates, which hopefully means they will not have to adjust for lower interest rates again going forward. Since the end of 2015, CNN's overall exposure to long-term care has been reduced by 31 percent, with the number of active policies declining from 419,000 to 288,000. So why are we so confident in CNN's management of long-term care, even in the face of market skepticism? Because we know that over the past seven years, CNN has been laser-focused and immersed in their long-term care book of business. For the six years prior to becoming CFO, Amaral was head of long-term care at the company and did an outstanding job mitigating the LTC risk for CNN. The team in place today continues to do so. CNN has managed more than 100,000 long-term care claims today, providing CNN with reliable claims experience across all policy types and age cohorts. CNN reviews its long-term care reserves in the third quarter of every year, and they post significant information regarding their review on the CNN website. If you have not already done so, please take a look at the information that they make available. Now for the second topic, I want to cover: Loews Hotels. The fallout from the current pandemic continues to negatively affect the travel and tourism industry, and Loews Hotels is no exception. We believe and hope that the second quarter was the bottom for the hotel industry and we have seen business pick up at Loews Hotels since then. While occupancy rates are still low by any historical standard, 21 of our 27 properties had resumed operations by the end of the third quarter. The resumption of operations, combined with significant expense controls enacted by Loews Hotels Management, have improved the company's cash flow situation. When the pandemic struck and Loews Hotels substantially suspended operations, we estimated that the company would generate negative cash flow of approximately $25 million per month. While still negative, Loews Hotels' cash flow is much improved going forward. We do not expect Loews Hotels' cash needs to be material to the corporation's balance sheet. With that, let me turn the call over to David.

Thank you, Jim, and good morning, everyone. For the third quarter, Loews reported net income of $139 million, or 50 cents per share, up from $72 million, or 24 cents per share, in last year's third quarter. The quarterly increase was driven by CNN, whose net income contribution doubled to $192 million. Let me provide some brief highlights on CNN's quarter; for more details, we encourage you to review the transcript from the company's investor call earlier this morning. The year-over-year earnings increase at CNN was driven by two main factors: one, lower net reserve charges in CNN's life and group business associated with the long-term care and structured settlement businesses; and two, higher net investment income and net investment gains. As Jim mentioned, CNN's core property casualty business posted robust premium growth and strong underlying profitability in the quarter. However, total PNC underwriting results declined from Q3 2019 because of higher weather-related catastrophe losses. Catastrophe losses for the entire U.S. property casualty industry were elevated during the quarter, led by three hurricanes and the Midwest during the Western wildfires, which were also an industry event but had little impact on CNN. Before leaving CNN, I would draw your attention to the company's rock-solid investment portfolio, which at quarter end had a market value of $49 billion, an average credit rating of single A, and a net unrealized gain of $5 billion. About 94 percent of CNN's fixed maturity investment portfolio is investment grade. Again, please see CNN's transcript and shareholder materials for more details. Even though Diamond Offshore ceased being a consolidated subsidiary of Loews in this year's second quarter, it helped drive our third quarter year-over-year earnings increase during last year's third quarter. Diamond contributed a net loss of $48 million, while this year Diamond's results were no longer included in our consolidated net income. Let me now turn to our wholly-owned subsidiaries: Boardwalk, Loews Hotels, and Altium Packaging. Boardwalk's net income contribution declined from $29 million in the prior year to $20 million. The company generated quarterly EBITDA of $167 million versus $175 million last year. Net operating revenues were down slightly, primarily due to natural gas transportation contracts being recontracted at lower rates, which was expected and planned for. Revenues from growth projects recently placed in service, together with storage and parking and lending revenues offset much, but not all, of the decline. As a reminder, Boardwalk has experienced contract expirations and restructurings over the past two years related to pipelines placed into service 10 to 12 years ago. This recontracting activity essentially concluded by year end 2019. Boardwalk's increased asset base from its growth projects led to an increase in expenses, especially higher depreciation and property taxes. Additionally, the expiration of property tax abatements contributed to the year-over-year increase in expenses. Despite the Covid-19 pandemic and significant hurricane activity along the Gulf Coast, Boardwalk's operations were minimally disrupted during the quarter and the overall financial impact was negligible. The hurricanes and resulting power disruptions did impact certain customers, but the revenue impact of these disruptions on Boardwalk was immaterial. Let me highlight that both CNN and Boardwalk took advantage of the robust fixed income market in Q3 to raise money at attractive rates. Both companies issued $500 million of 10-year notes, with CNN's yielding 2.8 percent and Boardwalk's at 3.41 percent. Both deals were vastly oversubscribed and reflected investors' confidence in their respective credit. Jim already spoke about Loews Hotels, so I will be brief. The business reported a net loss of $47 million in the quarter, excluding unusual items. The net loss was $55 million adjusted EBITDA, which excludes unusual items and includes Loews Hotels' pro-rata share of its properties, resulting in a loss of $38 million. Loews Hotels Management is focused on two interrelated objectives: one, reducing the cash flow drag and two, resuming operations judiciously and effectively. The company has aggressively reduced expenses, right-sized its capital spending, and worked with lenders to defer interest and principal pay downs. It is reopening properties when management projects that doing so will improve cash flow. As Jim mentioned, we believe that Loews Hotels turned the corner in Q2 and are on an upward trajectory. The average monthly cash flow drag is well below the $25 million we estimated during our Q1 earnings call. The exact timing of a return to profitability and positive operating cash flow, however, depends on the overall travel environment. But we believe Loews Hotels properties, such as those in Orlando, Arlington, Texas, and Miami Beach, are well-positioned to participate in the travel upswing that has already begun. Altium Packaging, which is included in corporate, had another good quarter. Demand for the company's products continues to be strong overall, with higher demand in Covid-19 related product segments such as household chemicals, beverages, and personal care, and somewhat weaker in segments such as automotive, commercial food service, and school dairy. Moreover, Invision, which is the company's recycling business, has been experiencing its best performance since it was acquired by Altium in 2014. Driving this performance has been stronger demand for recycled plastic, also known as post-consumer resin. Altium contributed a slight net loss despite its robust EBITDA. I would highlight three factors depressing net income: one, significant depreciation and amortization expense attributable to the company's recent acquisitions; two, accelerated amortization of the consolidated container trade name, which will be fully amortized by the end of the year; and three, the effect of rising resin prices in Q3. Since there is a contractual lag in Altium's ability to pass through these costs to customers, the company absorbed the cost in the quarter without recognizing the offsetting revenue. This lag is temporary and will reverse as the costs are passed through to customers. Altium's focus on new businesses is bearing fruit and should benefit results in future periods. The company has been very successful over the past months in gaining new accounts by demonstrating reliability, continued innovation, and customer focus during this challenging Covid-19 period. Turning to the parent company, pretax net investment income was $23 million, down from $36 million last year and $110 million last quarter. The year-over-year and linked quarter declines were driven by returns on equities and LP investments. During Q3 2020, we received $90 million in dividends from CNN. We expect to receive dividends from both CNN and Boardwalk during the fourth quarter. We repurchased 5.4 million shares of Loews common stock during the quarter at an aggregate cost of $195 million. We purchased an additional 667,000 shares since quarter end. Loews ended the quarter with $3.5 billion in parent company cash investments, with cash and equivalents accounting for over 80 percent of the portfolio. Let me now turn the call back to Mary Skafidas.

Thank you, David. Let's move on to the Q&A section of the call. We have a number of questions to respond to from shareholders. The first one is for Jim. Jim, have you considered buying in the outstanding shares of CNN to take advantage of the discount in stock?

Well, I have always believed that having a public valuation marker for CNN is really important, especially to our shareholders. On a very rough basis, CNN comprises about half of the value of Loews, with the other half being our net cash, our assessment of the value of Boardwalk, Altium, and our total business impact, and maybe even beyond just being a marker. There are other reasons to keep CNN as a public company. First, being public is important to attracting top talent. The top executives in any company want at least a portion of their compensation to be based on the performance of the shares of their company. By being public, we are able to provide that incentive to our top talent. Secondly, we think it's essential; the transparency that comes from being public is important to CNN's regulators as well as the rating agencies. As everybody knows, CNN trades at a ridiculously low valuation, and yet the P&C industry stocks likewise trade at a crazy valuation. Finally, our share repurchases of Loews stock allow us to take advantage of the discount valuation that CNN's trading at, as well as the discount in those shares for its non-C.M.A. assets—what we like to call a very significant double discount in our share repurchases.

Great, thank you, Jim. The next question relates to the exceptional year for catastrophe losses in the insurance business. Jim, would you please discuss how housing and the insurance industry are managing through these challenges?

Well, Mary, you're certainly right, it's been a banner year for catastrophe losses, not only for CNN but for the industry overall. There have been only four quarters over the past 40 quarters where CNN has experienced net catastrophe losses coming in at or above $160 million, and two of those four quarters over the past 10 years occurred in 2020. Through the third quarter, our pretax catastrophe losses were more than $530 million compared to just $128 million last year. Even if we exclude the losses from Covid and from civil unrest, which were roughly about $250 million, CNN's year-to-date catastrophe losses would still be running at more than twice last year's level and, of course, well ahead of our plan. Despite these really exceptional events and catastrophes, I am impressed by how the P&C industry and also CNN are managing through it all. If someone had told me in January that 2020 would be filled with storms, fires, civil unrest, and the pandemic, I would have said that CNN would have a miserable year as a result. However, despite this litany of events, CNN is still quite profitable, with $400 million of corporate income and $300 million of net income through the third quarter, and it continues to find profitable avenues for growth, especially due to the hard rate market that the insurance industry is currently experiencing. Catastrophe losses come with the territory in the property casualty industry, and we believe that CNN is effectively managing its current exposure while also achieving strong rate increases on catastrophe-exposed businesses. I'm reminded that the insurance industry has not always been financially prudent, and this is an advantage of being associated with a particular industry for over 40 years. I have a little historical perspective here. There were years back in the 70s, 80s, and 90s when the industry did not have true capital discipline and would write business at just about any price. Today, the industry is reacting to catastrophic events and low interest rates by obtaining rate increases where they are justified. In my view, this change is a result of increased demand from equity investors for profitability, which has led insurance management to focus more on capital efficiency.

Great, thank you, Jim. The next question also concerns CNN, focusing on CNN's long-term care business. Jim, could you tell us your assessment of CNN's long-term care business and the risks that it poses to CNN?

As I said in my prepared remarks, CNN's long-term care exposure is likely the biggest reason why CNN's valuation lags its peers. As I also mentioned, for the past seven years, CNN has been actively managing its long-term care book of business to reduce risk and optimize results. Since 2015, CNN's exposure to long-term care has materially reduced, with the number of active policies declining by over 30 percent. Additionally, over the past few years, CNN has been able to further reduce the risk profile of its long-term care block of business by achieving meaningful premium rate increases and also offering policyholders attractive options to reduce benefits in return for reduced future premiums. Now, Moralez, on their call today, focused on long-term care, and I suggest that everyone review their remarks and look at the significant information on long-term care that's posted on CNN's website. Let me make two additional comments on the net reserve charge that CNN took in the third quarter. First, and very significantly, a $37 million net charge on a block this size is quite modest. Secondly, the charge was attributable to the historically low level of interest rates that we're currently experiencing with these latest estimated changes going forward. CNN is assuming that a 10-year Treasury note will trade at slightly over 1 percent three years from now and likewise in 2021, assuming the 10-year note will yield what historically is a paltry 2.75 percent. In my opinion, CNN is taking a very conservative view on future interest rates, which hopefully means they won't have to adjust for lower interest rates again going forward.

Thank you, Jim. The next question also stays on the CNN topic, asking whether shareholders can expect to receive a special dividend from CNN.

We still have a quarter to go in 2020, so it's really too early to be making any specific comments about whether or not CNN will pay a special dividend. It's been an extraordinary year for catastrophe losses, that's for sure. I can't speak for the CNN board, which hasn't had a discussion about special dividends, and we still have four months to go until the board actually makes a decision on a special dividend. So I guess we'll just have to wait and see what happens.

Okay, we are switching to Boardwalk. A shareholder would like to know if growth projects are slowing in the midstream space. Can you comment on that, Jim?

From everything Boardwalk is saying, it's very likely that there will be a slowdown. In fact, I would say we're in the middle of a slowdown for larger scale projects because our customers are moving out their final investment decisions. However, Boardwalk expects to continue seeing smaller growth opportunities with power and industrial customers, primarily due to Boardwalk pipeline's proximity to some of our industrial gas customers.

Thank you. The next question is for David. David, there have been several recent bankruptcies of exploration and production companies. Can you please comment on the financial strength of Boardwalk's customers?

Sure. Mary, thanks. Over the past several years, Boardwalk has focused on diversifying its customer base to include more end users such as power plants, industrial customers, and LNG off-takers, a strategy that proved beneficial this year. By diversifying in this way, Boardwalk has been able to strengthen the overall credit profile of its customer base. More than 70 percent of Boardwalk's revenue backlog is derived from investment-grade companies, and Boardwalk has letters of credit or other types of collateral from some of its customers that are not investment grade or are unrated, which provides an additional measure of security. In 2020, one of Boardwalk's customers declared bankruptcy, and another seems to be on the verge. Because of the credit protections in place for these customers and, importantly, the ability to remarket any returned capacity, these bankruptcies will not have a material financial impact on the company. Stepping back, since the pandemic hit in mid-March, Boardwalk has maintained uninterrupted service to its customers while simultaneously taking measures to ensure the safety of its employees and operations. At the end of the third quarter, Boardwalk had well over $9 billion in contracted revenues, with over $600 million of net new contracts added to backlog during 2020.

Right, we have another question for our CFO, David. Can you provide an update on the cash needs of Loews Hotels?

Absolutely. As Jim already commented, let me provide a little more detail. When Loews Hotels suspended operations at almost all its properties in the early spring, we estimated that negative cash flow would average around $25 million per month. We went on to say that we would reopen a property if doing so was expected to improve that property's cash flow. Loews Hotels has responded to the pandemic-induced sudden downturn by transforming its operating model, including dramatically reducing property level and management company expenses. As we all know, properties began coming back online during the second quarter. 13 properties resumed operations during Q2, another six during Q3, and one more hotel last week. As anticipated, Loews Hotels' cash flow has improved as properties have resumed operations. Expenses have been managed aggressively, and capital spending has been right-sized for the current environment. While the company continues to generate negative cash flow, it is significantly less than the $25 million per month cited in April. I'd be remiss if I didn't mention how difficult the past eight months have been for Loews Hotels' team members. Thousands of employees were furloughed when the pandemic struck, and less than half of the furloughed team members have returned to active duty. Early on, Loews Hotels put programs in place to assist affected team members, including a multi-million dollar relief fund and continued medical insurance for furloughed employees for several months. Additionally, Loews Hotels has instituted enhanced safety and well-being standards and protocols for team members and guests. In solidarity with all of Loews Hotels' team members being financially impacted by this crisis, all three members of our office of the president, Jim, John, and Andrew Tisch, reduced their salaries by 50 percent as of April 1 and their bonuses by 50 percent for the entire year. Back to you, Mary.

Thank you, David. Staying with Loews Hotels, Jim, this next question is for you. It's about whether Loews Hotels are looking to buy or sell any hotels, and how has Covid impacted its development projects?

First, let me talk about Loews Hotels with a long-term growth strategy. The company, as we've said before, is focused on growth in two ways. First, by investing in and developing hotels with built-in demand drivers, like it has done so successfully with Universal Studios, and also in Arlington, Texas. Secondly, the company is focused on developing and operating hotels for the group business, while the hotel recovery is currently powered by leisure travel. We really do believe that corporate travel, along with meetings and events, will come back as the pandemic wanes. But before the pandemic hit, most hotels began to evaluate their portfolio and to sell a few hotels that didn't align with the current growth strategy, and they continue to do so opportunistically. This includes one hotel that was sold earlier this year in Canada. At the start of this year, Loews Hotels had three projects under development and scheduled for opening this year. Two of those hotels, the Line by Loews in St. Louis and the Kansas City Hotel, have already opened. The third hotel under development is the 2,000-room Endless Summer Dockside Suites, which is located in Universal Orlando's theme park. This property is in the final stage of development, and its opening date will be announced very soon. The hotel will be our eighth hotel on the Universal campus and bring our Universal room count to nearly 9,000 rooms, or about half of the total rooms in the Loews Hotels system alone. Loews Hotels continues to remain focused on its strategy of developing hotels in markets that have unique built-in demand generators with potential for group business.

Thank you, Jim. The next question is for you as well. Can you please comment on when you expect to see the hotel industry recover from the effects of the pandemic? Will Loews Hotels' recovery lead or lag the industry's recovery?

I'm reminded of the old saying: 'He who lives by the crystal ball, falls to the ground in glass, but I shall forth anyway.' Industry analysts believe that a full recovery is anywhere from two to five years in the future. The truth is that a recovery in hospitality is highly dependent upon how and when the pandemic is contained. At the end of the third quarter, as we said before, Loews Hotels had 21 hotels that had already resumed operations. Although there's been a steady increase in demand, occupancy rates still remain considerably below historic norms. That's really important; occupancy rates are still below historic norms. The recovery is currently being led by leisure business, and more than half of Loews Hotels' assets fall into that category, such as our properties at the Universal Orlando campus, as well as other assets like the Loews Miami Beach Hotel and many others in Arlington, Texas, which just hosted the World Series. We're seeing, in fact, a lot more driving business than we ever thought possible. Urban center properties are still lagging due to a reduction in corporate travel, but we believe Loews Hotels properties with unique demand generators will recover more quickly than our urban properties.

Okay, thank you, Jim. And our last question is for David. David, how has Covid-19 affected your packaging business, Altium? Can you please give us an update?

Sure. I mentioned this in my remarks, but let me go over it again. Demand for the company's products has been strong overall. There are certain products that benefited from Covid, such as household chemicals, beverages, and personal care. Other segments were somewhat weakened by Covid, including automotive, commercial food service, and school dairy, although I would point out that the weaker segments began to rebound in the third quarter. Two bright spots this year for Altium are Invision, the company's recycling business, and Altium Healthcare, a business created from recent acquisitions that diversifies Altium into the growing pharmaceutical packaging market. As I mentioned earlier, Invision has been experiencing its best performance since 2014, while Altium Healthcare is exceeding expectations due to strong synergies and continued progress on operational efficiencies and other savings initiatives. As a result, Altium Healthcare is ahead of plan for the year despite Covid-19. Overall, I would say the company's results are running modestly above plan, a plan that was finalized pre-pandemic. I would also say that commercially, Altium's new business efforts have been very successful over the past few months. The company is winning new accounts by differentiating itself through reliability, continued innovation, and customer focus during this difficult Covid period. We hope that this focus on new business and the new business wins will benefit financial results in future periods. Back to you, Mary.

Thanks, David. Thank you, David and Jim. This concludes the call. As always, thanks to all of you for your continued interest. Please feel free to reach out to me with any additional questions at MSkafidas@loews.com. A replay will be available on our website in approximately two hours. Over to you, Operator.