美國家庭壽險 (AFL) 2003 Q2 法說會逐字稿

Good morning. Thank you for joining AFLAC's second quarter earnings conference call. All participants will be able to listen only until the question and answer session of the call. This call is being recorded. If anyone has any objections, you may disconnect at this time. I would like to introduce your speaker for today's call. Mr. Ken Janke, SVP of Investor Relations.

Thank you. Good morning, everybody. Welcome to our second quarter earnings conference call.

Joining me this morning is Dan Amos, Chairman and CEO, Kriss Cloninger, President and CFO, Akitoshi Kan, EVP of US Operations, Joe Smith, SVP and Chief Investment Officer. And joining us from Tokyo is Allan O'Bryant, President of AFLAC International.

Before we start, let me remind you of the safe harbor. I should point out that some of the statements in this teleconference are forward looking within the meaning of federal securities laws. And although we believe these statements are reasonable, we give no assurance that they will prove to be accurate because they are prospective in nature. Actual results could differ materially from those that we discuss today, and I'd encourage you to look at our quarterly report for some of the various risk factors that could materially impact those results.

Now let me turn the program over to Dan, who will talk this morning about our operations in the United States and Japan and the outlook for the year. Then I'll follow up with some financial highlights for the quarter. And then we'll be happy to take your questions. Dan.

Thank you, Ken. Good morning, and thank you for joining us today.

The second quarter was another strong quarter for AFLAC. Once again, our sales in Japan were much better than expected. In fact, the second quarter was the best quarter in AFLAC Japan's history. Although we were not surprised that the U.S. sales rose at a single digit rate in the quarter we had hoped they would do a little bit better. Importantly, from a financial standpoint, our operations in Japan and the United States remained solid. And we're especially pleased that operating earnings per share rose 15.8% before currency fluctuation, which is in line with our target growth.

I'll begin this morning with discussions of AFLAC U.S. Total new annualized premium sales rose 4% to $264m in the quarter. We saw similar sales patterns as we did in the first quarter, that is, the states that had strong first quarter sales also did well in the second quarter. And the states that lagged in the first quarter continued to lag.

But no new issues emerged in the second quarter. We still view the U.S. as a huge market, and we are convinced that our corrective actions will be effective. We are confident that coordinator expansion and better recruiting and training are keys to improved sales growth.

You'll recall that we experienced tremendous recruiting growth in recent years due in part to our successful advertising campaign, recruitment rose at a compound annual rate of 20.4% during the last three years. However, the number of AFLAC district sales coordinators grew at a compound rate of only 12.9% during the last three years. That's important because district sales coordinators have the primary responsibility of field training. As we said, following our first quarter release, it's clear to us that the rapid growth of our field force over the last few years stressed our ability to train and manage new sales associates.

As a result, we have intensified our coordinator expansion efforts in order to relieve that stress. However, coordinator expansion is a top down process. One of the first steps we took in the second quarter was to increase the number of territory directors from five to seven. In turn, we have also increased the number of state sales coordinators from 63 at the end of the year to 71 at the end of June. As you will recall, the state sales coordinator is the top level of commissioned sales force followed by the region and the district sales coordinators and finally the sales associates. We believe those changes will help us further expand our base of regional sales coordinators who are responsible for recruiting as well as the number of district sales coordinators. Actually, we believe those efforts have already begun to pay off. The growth of regional and district coordinators has improved through the first half of this year compared to the last half of 2002.

It's clear that coordinator expansion favorably impacts sales results. For example, the northeast territory had the biggest sales growth of any territory during the first half of this year, producing a 17% increase. I believe their strong sales growth is due in part to the foundation they built during the last half of 2002. In the last six months of the year, the northeast territory increased the number of regional sales coordinators by 23% and the number of district coordinators by 14%. They also produced a 33% increase in newly recruited agents. Those numbers were significantly better than the overall increases for AFLAC U.S. during the same period. Our other six territories have all renewed their focus on coordinator expansion and recruiting.

As I said before, it will take time for those efforts to take effect, but I'm confident our actions will work. Although it's early, we have seen some encouraging signs. Our recruiting growth so far this year has been partly influenced by a very difficult comparison last year. Recruiting was up 2% for the quarter and 4% for the six months, which compares to an increase of 29% and 32% in the same respective periods last year. Yet during the final week of this year's second quarter, we had the largest number of weekly recruits since last year's third quarter. We've also seen solid improvement in the number of new recruits who have earned what we call the fast start designation, which is an indicator of their potential success as sales associates.

We've also been making product related changes. Our new accident policy has been approved for sale in all but 12 states. However, most of the approvals came too late in the quarter to have much impact on second quarter sales. 22 states have approved a new cancer policy, and we're waiting approval for another two dozen states. We hope to see some benefit from these new products in the third and fourth quarter.

I had hoped by now that we would have been able to discuss a recovery in sales. However, I have to remind myself that we are relying on the efforts of thousands of people, and those efforts could simply take a bit longer than I would like. But I want to emphasize that the changes we've made to our sales management and continue to make are necessary to maintain our long term rates of growth. For the third quarter, our best estimate is that sales will likely increase 6 to 13%. Actually, our territory directors, all of whom are listening to this call, have projected an increase of almost 16% for the third quarter. However, I prefer to be a bit more cautious and conservative outlook. If third quarter sales are up around 13%, then increasing sales 10 to 15% for the year remains a reasonable expectation.

As I said at the onset, our view of the U.S. market hasn't changed. We continue to believe that employers will look for ways to control the cost of providing insurance to their employees. In a study conducted at the end of last year by the Washington business group on health, which represents nearly 200 major employers from across the country, 80% of the employers said they planned to increase co-payments or cost sharing in 2003. And in a most recent study, the group found that 57% of the employers planned to increase cost sharing for 2004. With consumers' out of pocket health care costs rising, we should see solid demand for AFLAC's products.

Turning to Japan, it's amazing what's happening there in just the last two years. In 2001, we faced the challenge of improving sales. Since then, we have produced five consecutive quarters of double digit sales growth. AFLAC Japan's management team has done a tremendous job, and I am extremely pleased with every aspect of their business. The administrative, investment, and marketing areas are all performing at very high levels. As I hope you saw, the second quarter sales of $33 billion were the best in AFLAC Japan's history, and 11.3% increase in the sales for the quarter was significantly better than our expectations.

I am very encouraged that we saw better than expected sales from several products. Sales of Cancer Life, Rider Max, Ever, Max conversions and Ordinary Life all typed our targets. And sales through Dai-ichi Life also exceeded our expectations. Rider Max was our top selling product in Japan for the second quarter, accounting for 31% of our new sales.

Due to the success of our popular standalone medical product Ever, medical products continued to sell very well and represented 26% of our sales. And Ever remains the number one standing standalone medical product in Japan.

We are also pleased with our recruiting efforts in Japan. Through the first half of 2003, we have recruited more than 2,200 individual and corporate agencies, which puts us ahead of our recruiting target for this year. In fact, some agencies from one of our principal competitors have recently joined us. At the end of June, AFLAC Japan was represented by more than 60,800 licensed sales associates, which was 12% higher than a year ago.

As you may recall, we recently began using the AFLAC duck commercials that were created in Japan specifically for that market. One promotes Ever, while the other is a Rider Max. Those commercials quickly caught the attention of the media watchers in Japan, and, in fact, CM data bank, which is an independent market research firm specializing in rating commercials, identified Ever and Rider Max commercials as the two best insurance commercials.

AFLAC Japan also created a clever promotional item, using a miniature version of the well-known stuffed AFLAC duck. Our agencies purchased the ducks from us and in turn gave them to their accounts. After just one month, agents have bought more than 600,000 of these promotional items.

This June, I went to Japan to commemorate a milestone in AFLAC Japan's history. Based on the March 31st data from the financial services agency, AFLAC Japan surpassed Nippon life to become Japan's number one company in terms of individual policies and force. This achievement attracted attention from media regulators and agents throughout the country. It was such a significant item that we produced a special AFLAC duck commercial with a well-known celebrity that emphasized our number one position in Japan. We believe this commercial, which began airing at the end of June, will benefit our brand and enhance our sales.

In looking ahead, the second half of this year will clearly pose difficult comparisons to last year. You'll note that total new sales rose 26% in the third and fourth quarter of 2002. But given the strength of our business, we continue to believe that our sales targets are realistic and achievable. It's likely that sales will increase at the middle single digit rate for the third quarter. However, we have raised our full year sales objective from 5 to 10% increase to 7 to 10%, and I'm confident we will achieve that target.

I believe we will continue to see strong demand for our products in the Japanese market for a long time to come. Rising health care costs in Japan are resulting in greater out of pocket medical expenses for consumers. As Japan's population ages, the financial burden of consumers will increase. In addition, Japan's national health care system faces continued financial strain, which led to an increase in the co-payments earlier this year. And those trends are not likely to change any time soon. Given Japan's weak economy and the financial condition of the insurance industry, consumers are paying particular attention to the insurer's financial strength. Over many years, we have built a tremendous reputation for financial strength, and being identified by Japan's economist magazine in the June 17th issue as the safest life insurance company in Japan, supports that reputation. We believe our undisputed financial strength, quality product line, extensive distribution, superior brand, and unmatched operating efficiency will enable us to continue to lead our market sector and achieve our sales and financial targets in Japan.

Obviously, the strength of our U.S. and Japanese business has a direct impact on our return to shareholders. One element of that return has been a policy of consistently increasing the cash dividend in line with the annual earnings per share growth before the effect of the yen. Our cash dividend has compounded at 15.5% over the last five years and 14.8% over the last ten years. In 2003 was the 21st consecutive year in which we've increased the cash dividend. Although our dividend policy has been consistent for many years, this year we've accelerated the quarter in which we usually raise the dividend from the second to the first quarter. At that time, we increased the dividend 16.7% from 6 cents to 7 cents. And just yesterday, the Board of Directors approved another increase in the cash dividend from 7 to 8 cents per share effective with the third quarter. As a result, our third quarter dividend will be 33% higher than it was in the third quarter of 2002.

I believe the Board's decision to increase the dividend twice in one year is a reflection of our strong capital base and our confidence in AFLAC's future. It also acknowledged recent changes to the U.S. tax law. With the top rate on both dividend and capital gains at 15%, dividends have become less disadvantaged from the standpoint, and that they were in the past or in comparison to share repurchase.

But don't misinterpret. The dividend increase is a sign that we are changing our appetite for share repurchase. We will continue to allocate the vast majority of our excess capital to repurchase of our shares. We bought back 2.8 million shares of our stock during the second quarter, bringing the total to 4.5 million for the first half. At the end of June, we had about 13 million shares available for repurchase on the authorization of the board of directors. Over the long time term, share repurchase will continue to support our earnings per share growth, and we expect that strong earnings growth to continue.

Coming into this year, we had an objective of increasing operating earnings per share on a diluted basis in 2003 by 15 to 17%, excluding the impact of the yen. Within that range, we set a specific target of $1.80 diluted share or 15.4% increase compared to 2002. Based on our strong results in the first half of the year, we have raised our earnings outlook to the high end of the 15 to 17% range. Our objective for 2004 and 2005 is to increase operating earnings on a diluted basis by 15%, excluding the impact of currency.

We believe those earnings objectives reflect the many opportunities we see for continued growth in the United States and Japan. And we believe that achieving those objectives will be rewarding to our shareholders. Ken.

Thanks, Dan. Let me just briefly take you through some second quarter numbers, starting with AFLAC Japan and the top line in yen terms.

Revenues were up 6% for both the quarter and the six months. Our persistency rate declined slightly but remained strong. It is at the highest among Japan's life insurance industries. Excluding annuities, the annualized rate for the six months was 93.8% compared with 94.1% a year ago. That persistency continues to reflect changes in mix and distribution.

In terms of quarterly operating ratios, as expected, the benefit ratio continued to improve compared with last year. It was 67.8% versus 68.1% a year ago. And as we've discussed several times, the decline primarily reflects the changing business mix in Japan as well as improved claims trends in some lines of business. The expense ratio for the quarter also improved and was 18.9% down from 19.4% a year ago.

As a result of the improved benefit and expense ratio, the margin rose from 12.5 to 13.3%. And as a result of the expansion in the margin, pretax operating earnings in yen increased 12.4% for the quarter. However, excluding the impact of the stronger yen and AFLAC Japan's dollar denominated investment income, pretax earnings rose 15.2% for the quarter.

Investment yields in Japan hit historic lows in the second quarter as measured by the yield on the 20 year JGB. For instance, the 20 year bond yield reached a low of 0.76% on June 12th but has since improved significantly and is right now at about 1.4, 1.5%. We continue to concentrate on other sectors in the quarter and invested our yen cash flow at an average rate in yen securities of 3.51%. Including dollar denominated investments, the blended new money rate was 3.86%.

Portfolio yield at the end of June was 4.65%, down six basis points from March and 15 basis points lower than a year ago. And through the 21st of July, we have invested or committed to invest about 70% of our estimated cash flow at an average yield of 4.06%.

Joe can talk in more detail about what's going on in the credit side, but clearly credit quality remains high and actually improves the securities rated double B or lower, we’re only 3.8% at the end of June, which is down from 4.1% at the end of March. And the unrealized losses on our below investment grade holdings were 129 million at the end of the quarter compared with 271 million at the end of the first quarter.

Now, turning to AFLAC U.S., earned premium rose 17.2% in the quarter. Investment income rose 7.1%. Total revenues were up 15.9% for the three months and 16.8% for the first half of the year. The annualized persistency rate for the six months was 73.8% compared with 74.6% a year ago. However, on a rolling 12 month basis the rate was little changed.

In looking at the operating ratios, the benefit ratio was unchanged from a year ago at 53.5%, and the expense ratio rose from 30.9 to 32.2%, reflecting less deferred costs in the quarter. The profit margin for the quarter as a result was 14.3% compared to 15.6% a year ago. And pretax operating earnings rose 6.2% for the quarter and 10.7% for the six months.

In terms of U.S. investments, the new money yield for the quarter was 6.21%, reflecting lower overall rates, versus 7.53% a year ago. And the yield on the portfolio at the end of the month, or the end of June, was 7.79%, down 15 basis points from the first quarter, and 19 basis points lower than a year ago.

By turning to some other items, you heard that we purchased 2.8 million shares in the quarter at an average cost of about $31.56 per share. The debt to total capital ratio was 23.4% at the end of June compared with 25.5% a year ago. The non-insurance interest expense was $5m compared with $4m in the second quarter of '02. And parent company expenses were $10m, down from $17 million a year ago.

Because of the improvement in the profit margin in Japan, the pretax margin for the total company rose from 12.4 to 13%, and the after-tax margin improved from 8.1% to 8.4%. The tax rate was little changed. It was 35.4% versus 35.1% on an operating basis for the quarter. And as you saw operating return on equity remains strong and was 22.7% for the quarter.

As reported, operating earnings per diluted share rose 21% to 46 cents, which was slightly better than consensus. The stronger yen increased operating earnings by 2 cents per share for the quarter, excluding the impact from the yen, operating earnings increased 15.8% per diluted share for the quarter and 18.9% for the six months.

Finally, let me comment briefly on the outlook for the balance of the year. As you heard, we've raised our expectation for this year's operating EPS growth to the high end of the 15 to 17% range, excluding the impact of currency. In short, we now expect to earn $1.82 before currency fluctuations rather than the $1.80 we had previously expected. If we achieve that target and if the yen remains at its current level of around 120 yen to the dollar for the balance of the year, we would expect our earnings to be reported around $1.86 for the full year. The current first call consensus is $1.85. Under that same scenario, third quarter earnings would likely be 46 cents per share, which actually is the current first call estimate.

And, again, as you heard, our objectives for 2004 and 2005 remain unchanged, and that is to increase operating eastern earnings per diluted share 15%, excluding the impact of the yen.

We'd be happy to take questions now.

Thank you. At this time, we are ready to begin the question and answer session. If you would like to ask a question, please press star 1. You will be announced prior to asking your question. If you would like to withdraw your question, press star 2. Once again, to ask a question, please press star 1.

Our first question comes from David Lewis of SunTrust Robinson Humphrey.

Thank you. A couple of questions. Dan, can you talk a little bit about kind of your change in guidance. I guess it may be just conservatism. I know you don't know the answer. In looking at the sales trends in the U.S. But you did kind of change to a wider range than what you told us after the first quarter. Are you really seeing anything different in the first three weeks of the July period, or is it just a little more conservatism?

And then secondly, can you discuss what kind of impact you think the Cook County, Illinois enrollment potential might add to the third quarter, if there were any other large groups added the in the third quarter last year that might make that comp more difficult?

You're right, David. I am being conservative. As I told you, the territory directors, who I've had a weekly conference call with them now for nine weeks in a row, have to give me a report on what's going on, and then I monitor it every week. But I don't see anything that, in my mind, makes me comfortable that all of a sudden we're just going to jump up with a 16% increase. And so I've taken the position that, well, what if sales don't improve and they stay at the same rate we're at? That's roughly the six. The 13 is what we probably need to continue to make the 10 to 15 area. So it's just a conservative approach of what's going to go on.

The one thing all of you have to remember is the changes that we talked about in the first quarter, we didn't make until the second quarter. For example, the territory directors didn't go into effect until May 1. So everything has taken a little while to do, and coming from sales, I actually spent ten years doing this. And people ask me why am I more confident that I think the U.S. will turn around easier than Japan? And my answer is because I did this for ten years, and I know that it goes back to the old expression of blocking and tackling, and that's what we've got to do is recruiting and training.

We do have this large account coming in. I believe it will help the north territory significantly. And we're encouraged by that. There are other accounts that we had the potential of getting that I don't want to go in any great detail of, but there are five on the list that have high name recognition. But I never count them until I see the business end. I learned that a long time ago. But there are a lot of accounts that are still out there, still talking to us. I think with the change in healthcare and how the consumers are having to pay more out of pocket expenses, the employers are making it available to us. Does that answer your question, David?

Yeah, it does. But on the other five large accounts, if those were to flow through, that would be more likely a fourth quarter enrollment period?

I would say so, yeah. The Cook County will be the third quarter, for sure.

And just on the recruiting, it slowed down fairly substantially. Do you have any outlook for that in the second half?

It picked up in the month of June significantly. And it was a matter of turning on the pressure a little bit. Again, remember, last year we were up over 30% at the end of three quarters, and we were trying to write the billion dollar mark, and everybody just stopped recruiting. And it takes a little while to get it back going. And I'm confident that you're going to see a lot of improvement in the third quarter in recruiting.

Thanks very much.

Nigel Dally of Morgan Stanley.

Dan, you had a significant U.S. marketing campaign in the second quarter. Hoping you can discuss whether you've got any plans for special sales promotions in the second half of this year for the U.S.

Second, new products. Do you have any details on sales growth in the states which had the new products for the full quarter versus states that did not?

In terms of the sales contest yes, we do have -- insurance companies have sales contests all the time. I mean, there's one going on right now. But what you're talking about is additional contests. Yes, we do. I've always had this one contest that's the most effective contest that there is. I try not to use it but every few years because it's so aggressive. But what we do is we actually match up, in a kind of what we call a boxing match, we'll match every state against each other. And for a period of time, and the winner goes on stage, gets recognition. The loser also gets recognition in a negative manner. It is enormous pressure. And that contest is going on in the second half of the year, and it is not something you want to lose. And so that will have some positive impact.

Frankly, the contest we had in the second quarter, I didn't think worked very well. In terms of we had one -- the other contest that we had -- we had two. One dealt with more recruiting, more training, and it worked very well because we saw the June numbers jump dramatically. So the sales number didn't have the impact, but the recruiting contest and the training contest did have a positive impact.

Nigel, it's Ken. The other part of your question, a lot of the approvals on the new accident plan came late in the second quarter, and we really didn't see any material difference in the sales with those with the new product or without the new product.

Thank you. That's great.

Jason Zucker of Fox-Pitt Kelton. You may ask your question.

Good morning. I had a couple of questions as well. Dan, just judging from your comments, which have been pretty confident, would it be safe to say that you're thinking that the second quarter was probably an inflexion point for lower sales growth and lower recruiting growth?

Well, what I would say about the second quarter is -- I want to go back to something. These sales numbers are very difficult on a 13-week for us to predict. We have missed it for the last three years in a row. Just none of you cared because we've missed it on the high side. But predicting 13 weeks with thousands of people, we just can't predict within a few percentage points. And whether we were up 4% or 7%, That's the best guess that we've got in terms of doing it. So I can't tell you that I'm -- yes, I wanted 7% or 8%, but 4% was -- getting it within that 13 weeks is not a significant change, in my opinion. Now, if it had been negative, it would have been, but it wasn't.

And I think that the morale I have been to -- I've probably seen thousands of people in the second quarter. I went to territory meetings of three of the territories. Basically, a half of the country. And then I went to eight states in addition to that. And I've been traveling around trying to find out, getting down to the field again, because I spent ten years there. I can identify with what's going on. And I believe that business came in because of the AFLAC duck campaign, came in so easily for a three-year period, that they just thought it would flow in. And when it kind of slowed down, they said, oh, it will come back and everybody's got to work harder now. It's like getting older and gaining weight, you have to work harder as you get older. We have these compound increases of 29 and 28 and 16.5, you've got to work a little harder to get the next increase.

And so I think we've issued that challenge. Some of the people that have been with us a long time and making a lot of money are having to review their position and whether or not they want to get in and work that hard. If they don't, then they'll retire or whatever. But all in all, we're aggressively positioned in this company to be back on target and to pick things back up at the level that we think are acceptable, and we're not going to accept anything less than that because the market is too big. It's just a huge market, has enormous potential, and anything else is unacceptable.

And, Dan, just to follow up, you said in the past that you thought maybe a 12 to 15%, I believe, long term sales growth rate is probably a good target. Would that still be accurate?

Yeah, I think it is. You know, I want to get through this year, but I really do. I mean, one of two things. If it isn't, we got to find out what's going on because, you I mean, there's enormous -- we've only got 5% penetration less than that. Why not? It certainly should be able to do that. I think, once we get these coordinators in place, we'll be back in position to pick it back up and do well. And we're doing that right now. So, yeah, I do believe that's potential.

And last quick question. You talked about recruiting being better in June. What about monthly producing agents? Did we see a similar trend there where perhaps the agents were higher in June than the average for the quarter?

Jason, this is Ken. You notice that the monthly average producers was up 10% for the quarter year over year. It was down a little bit sequentially, and that mainly came because April was pretty weak. But in the month of June, we actually had a record number of writing agents in that month. Higher than any other month we've ever had.

And I assume then higher than the 16.9 that was printed for the quarter?

The month of June alone was about 18,800.

Okay. Thank you.

Ed Spehar of Merrill Lynch. You may ask a question.

Thank you. I was wondering if we could talk about sort of the outlook for sales, Japan versus U.S. And I guess what I'm thinking about is that Japan was better than expected, and it seems like you're still staying conservative with the outlook. And then if we go to the U.S., you know, you might consider this splitting hairs, but I think a number of us would think that the U.S. seemed to be at least somewhat worse than expected, and yet the outlook is suggesting what seems to be a pretty aggressive rebound in the second half.

Well, yeah, that's true. What I would say there is that in 2001 we said the same thing and we made it. Everybody questioned us about Japan sales and how we could turn it around, and we were able to do it. There are no guarantees. If I could guarantee you that it would happen, I would be the only CEO that could. So I can't do that. But I can tell you that we've got a foundation in which we believe that it's attainable.

And, again, Ed, I feel much more comfortable trying to predict the U.S. than I do trying to predict Japan because of just working with it so long a period of time. But certainly, it is aggressive to go back to that. As I said, the third quarter's 6 to 13% increase is what I said. The territory directors said 16. I think that's too aggressive. And I'll just have to wait and see. But I think all the moves we're making are the right moves. And from a combined basis, we are ahead at the corporate level when you look at Japan and the U.S. combined. Funny, in 2001, that same thing was true. When you add the U.S. sales and Japan sales, we actually were able from a combined basis to make it. And that's one of the reasons the earnings have come through is that we had a disappointment in sales, but yet the earnings numbers have continued to make it because combined we made it. And this year, on a combined basis, we made it, and so here we've gone ahead and projected 2004 and 2005 what the earnings will be, and we're not backing off at all on that. In fact, we raised it for this year.

If I could just follow up, when we talk about what the field's looking for, the 16% growth in the third quarter in sales, I mean, I would assume that the field historically has always been aggressive relative to what you've actually done. I mean, I'm just thinking that you've got a lot of aggressive individuals out there, and I don't think anyone's going to come in there and tell you -- I certainly wouldn't come in and tell you that I'm going to be down in a quarter.

And I guess the second thing is, if we look at the slow down in sales that we've had in the U.S., the precursor to that was a slow down in recruitment late last year or in the fourth quarter of last year. And you've given us a number of statistics that sound positive for a turn at some point. But I'm just wondering where we are with recruitment today. Doesn't that at least pose a challenge, 3Q and 4Q?

Let me say this about sales projections. I've been worried about these projections they've been giving me for some time. And so what I did was these seven territory directors, I'm giving for the third quarter, a $50,000 bonus to the territory director that gets the closest to the number that they actually achieve in sales. No matter what their number is. So it doesn't have anything to do with sales. If you've projected a 3% increase, then if you hit 3 on the nose, then you're going to win the $50,000. The person that chose 17% increase, unless they fall within that guideline. So being enthusiastic about sales does not help you under this new bonus I'm putting in just for one quarter to get everybody's attention.

I'll also say that the 16%, when we first got the number, it was much higher than that, and we lowered it. I just told them that there's no way they're going to make that. And so this is their conservative view of what they're going to do. But you are correct. I never get a sales number that isn't on the high end of the range. But I will say, in 2001 and 2000 the projections were lower than what they came in with. They actually exceeded it by a great degree. And there was something else you asked.

Let me follow up on one thing about the recruiting, Ed. Because what we've said is really, to get recruiting going, we need to expand the coordinator base. We need to increase the number of regional coordinators to improve recruiting capacity. We need to increase the number of district sales coordinators to increase our training capacity. And that's kind of the infrastructure you need to support better recruiting. Well, if you look at what happened in the second half of last year, our regional coordinator base in the U.S. increased 1.9%, and the district sales coordinator base creased 0.6%. That's in the second half of last year.

Well, in the first half of this year, we've seen a 4.4% increase in the regional coordinator base and a 6.4% increase in the district coordinator base. Now, I think everyone in this room would say that those numbers need to be higher, but they're clearly going in the right direction, and those are the kind of things that need to be done to support better recruiting in the quarters ahead.

Okay. Thank you.

Our next question comes from Liz Werner (ph) of Sandler O'Neill.

Good morning. I had a question on margins in the U.S. And I was wondering, given the infrastructure you're putting in place with respect to the coordinators, does that set the bar higher in terms of the amount of sales volume you need to get to achieve certain levels of profitability? I know you do have a lot of variable costs, but I'm just wondering if you've kind of given yourself this infrastructure?

And when you look at your pretax profit margins, do you have a target or an expectation of where they might be headed?

Yes. This is Kriss Cloninger, and I'll try to handle that. Regarding the infrastructure that we're putting in place, most of that infrastructure is, in fact, on a variable cost basis financed out of commissions and overrides we pay based on production.

As far as other payments to coordinators and infrastructure related issues in the field, we do pay bonuses based on production and other management activities such as recruiting and training and the success of new agents. And those bonuses vary with the success of the field in achieving the objectives we set for them. So most of those costs related to field infrastructure are variable costs in nature. We have very few fixed costs we commit to.

Regarding profit margins in the U.S., yes, we do have a target. I believe that, in our first quarter 10-Q we expressed the sentiment that our first quarter profit margin for AFLAC U.S. would be in the -- or the profit margin for the year would be in the 14.5 to 15% range, may have been 15.2. I don't recall. But, yeah, we do have that margin as part of our plan for year. And year to date, I think we're on track for the low end of that range.

In the second quarter, we did have our profit margin drop down to about 14.3% of revenue. But that's related to the several items. The primary one of which relates to the low production for the second quarter.

Just -- this may not have been part of your question, but I want to go ahead and address it because it came up in some of the discussions Ken and Robin had last night with the analysts and related to the amount of costs we defer. Basically, for six months, our premium's up 18%. Our level 1 expenses are up 17.5%. But our production's only up about 6%. And the amount of costs we defer typically are based on the unit costs we incurred in the prior year. And so if we had the same unit costs and production increases 6%, the deferrals only go up 6%. So what happens is that, if gross expenses are up 17.5%, net expenses after deferrals are going to be up significantly more than 17.5%. And that's exactly what happened.

Now, the question is why didn't we adjust those things? Normally, we look at the amount we defer as sort of a percent of what we incur, and we want that to be reasonably consistent over time. And yet that percentage went down in the second quarter. We allowed it to stay down. We didn't true it up in the second quarter, in order to be conservative and because we're still optimistic that our annual production can come closer to our originally stated target through the full 12 months than it did in the first 6 months. So if production recovers in the third quarter, we may or may not adjust the expenses. If it doesn't, we'll take a look at what we're deferring as a percent of what we're incurring and make sure that that's reasonably consistent with what we achieved over time.

So our margin, to summarize, was lower than our target in the second quarter for AFLAC U.S., but for the corporation as a whole, we were in good shape.

Okay. Thank you.

Dan Johnson (ph) of UBS Global Asset Management. You may ask a question.

Thank you very much. AIG made a reference in their conference call this morning about plans to enter the voluntary benefits market in a much bigger way this year, mainly in the small, medium sized business market. What I'm interested in, have you seen this effort yet by AIG?

And when's the last time you actually had a new significant competitor attempt to mimic the AFLAC model?

You're talking about the U.S.?

Yes, sir.

No, we have not seen anything along those lines. I guess the last time anybody tried was maybe GE Capital, when they talked about it. And now they've gotten out. And Prudential. And then, of course, All-State was going to kill us when they bought American Heritage. They're a nice company, but we haven't seen any impact. Again, I think it goes back to our specialization aspect. It's not we're smarter than anybody else, it's all we concentrate on. And no matter what happens to this particular market, we're just going to spend all of our time. And AIG, on the other hand, has so many other issues.

The other thing is our profit margin has been lower than the other companies. Now, I don't know what specifically AIG, but I know that the company they bought, American General, had a higher profit margin. So it made it harder to compete with us. But I haven't seen it recently. But there's nothing that gives me any concern in terms of AIG other than they're a fine company. But from a competitive standpoint, I think it's the distribution that drives everything. Because that's what is our problem right now in terms of why we're not up 15 is because we don't have as many in the distribution system. And no one's got a distribution system like we do.

Fair enough. And then the last question for Kriss, just a commentary on the outlook. I usually say given a flat expectation for yields although they've been anything but flat over the last six weeks. Given that, where do you think we'll see portfolio yields fall out for the remainder of the year? And you've cautioned us before about some larger assets coming off the books at much higher than average yield. So if you have a thought on '04, that's always appreciated.

I'm going to let Joe take that comment, if you don't mind.

Absolutely. Thank you.

Right now, we're looking at projecting the -- for the end of the year, if our plan, which we think is very achievable for the remainder of new money in Japan, that the overall portfolio yield will end up around 4.57, 4.58. As you said, it's been very volatile. And yields in Japan have basically doubled from their lows, going back up. We've had yield increases also in the U.S. So we had a lot of volatility, as you said, over the last six weeks.

Going forward, we think that we've been very conservative. We think our plans are achievable going forward. But we are going to see some -- even though we've had some volatility, yields, at least in the U.S., are still lower than where they were a year ago. So we're going to see some deterioration in portfolio yield in the U.S. But it's not going to be a huge amount.

Overall, about 30% of our portfolio is callable. But that's all long dated calls out 10 and 20 years, and so we don't see that as a problem. We do have some large maturities this year in Japan, and we factored that in to our growth rate and net investment income in Japan of around 3.5 or 4% once you take into account the yen. If you take out the yen, it's about 5.5%. But we factored all that in, and it fits with our overall corporate goals, and we don't think it's going to be an issue.

The 5% yen investment income growth was an '04 expectation?

No. That's '03. If you take out the effects of the yen, that's for '03. '04, we haven't really started looking at '04. We keep the same new money assumption of 3.5 for our budget purposes going forward. But, when you see where yields are in Japan, I mean, again, they've been very volatile, but they're moving in our favor.

Thank you very much.

Our next question comes from Andrew Kligerman of UBS Securities.

Good morning. Two questions on Japan. The first one, Dan, I think I heard you correctly in indicating guidance of sales in Japan being up in the single digits in the third quarter. If I'm correct, why would you give that versus 5 to 10%? It sounds like you may be hedging on the down side a bit.

Well, we're going against a 26% increase in the second half. And, I just want to be cautious here. But we raise the overall for the year 7 to 10, and we're running, 11.5 right now year to date. So if they come in at 5, we've easily got the 7 made. So I'm just trying to be cautious here because we are going against those things we mentioned late last year, early this year, where we said, we're going against Dai-ichi saying they're going to slow down. We're going against the Max conversions. And so it's just taking a very conservative approach.

And then one other interesting comment you made about Japan was that you had won over an agency from a competitor. Could you give a little color on the size of that agency? And could that also be on the flip side a concern to you that you could lose some of your agencies to competitors?

No. I think what's happening with these competitors -- and I don't want to call any specific names -- but they decided to get in the business of doing direct response. And in doing direct response, they are actually in conflict with their agents. And it's made some of the agents mad, and that's how we picked it up.

I see.

It's because of that.

Which suggests we wouldn't lose them because we're not doing that.

Point out also it's not just an agent, it's agencies.

I meant agencies. How big was it, just out of curiosity?

Allan?

Allan O’Bryant: Not a lot, but it's been -- it's between 10 and 20.

Got you. Thanks a lot.

Joan Zief of Goldman Sachs, you may ask your question.

Thank you. I just have a few questions. The first question is from a compensation standpoint, have you thought of any changes in stock options as a compensation strategy? And are you thinking about expensing those options? And can you just review with us again what that would have meant to your earnings if you had done that?

I'll get Kriss to touch on that.

My second question is can you give us some feel for what the corporate expense run rate is going to be for the rest of the year? I mean, is the 10 million a quarter a more realistic level, or should we think that there was there something unusual in the quarter that would have caused that expenses to come down?

All right. Let me handle those two. First of all, on the corporate expense, last year, we took a write-off of our investment in a PEO organization of about $7 million in the second quarter. So corporate expenses before that charge off were about 10 last year, and they're about 10 this year. So, in the 10 to 12 range, Joan, is where our normal corporate expenses are, and that's where I expect them to say for the rest of the year.

Regarding stock options, the compensation committee makes the decision on what kind of options to grant or whether to go to restricted stock and the like. And quite frankly, options have worked fairly well at AFLAC. As opposed to the companies where the stock has been extremely volatile and most of their options are under water. For us, it's been a more reasonable tool for long term compensation, and we haven't had a lot of discussions about changing.

We did look at expensing stock options last year. We got pretty close to doing it, but we backed off for various reasons. One of which -- the primary reason in my mind is that there's still at the FASB some discussion about valuation measures and some concern over whether Black-Scholes is the most appropriate way to set values to stock option grants. And there's a lot of discussion too about truing up stock options and the like for actual changes in value of those things. So we decided we would just wait until the final measure came out. And, basically, there was only down side to us implementing stock option expensing. It would only cost us about, I'd say, 6 cents a share for the year. It was going to be order of magnitude $30m to 32, 35 million, and that's roughly 6 to 7 cents a year. And it would have been consistent for us in each of 2002, 2003, and in all likelihood, 2004. Actually, one of the reasons I thought about doing it was to help us improve our percent increase in EPS even though it lowered the actual EPS. But we decided there was more -- there wasn't any real benefit to our shareholders in doing it, so we decided not to do it.

I just have one other Follow-up question. Dan, you talk about, for the U.S. sales, the strategies that you have put into place, splitting the territories, adding the sales coordinators, et cetera, et cetera. Have you thought about any other potential strategies that you may need to pursue just in case that, for some reason or another that strategy doesn't bring your sales growth to the target that you are hoping for?

Oh, yeah. If it doesn't work, we'll do something else. I promise you, if there's one thing about me, if something doesn't work, I'm going to change it and try something else. So, yes, we have some other things. But I'm totally confident this is going to do it. It's just how long it takes us. And I think we've turned and we'll see.

But we look at everything from tweaking the advertising to putting more money in different places. But I think we've got a good role model here in what's happened in the northeast. If it was 4% across the board, I'd be much more worried than it is seeing 17% in the northeast. That tells me it's not an economy question, it's a question of coordinator expansion, as I pointed out in my speech. So I still feel very good about that.

The areas that are the weakest right now are the ones that we've made the changes in. And I have confidence in that management team will pick it back up. But there's usually a dip. I think I gave you all an example of last year we changed Florida, and it dipped. And this year they're up 22%. So generally, the changes run a little bit behind, usually anywhere from three months to nine months or whatever it might take. But I sense that it will do it. But the answer is we'll do whatever it takes to get it done. And we have all the intentions in the world of picking it back up because I will not let up on this.

Thank you.

That brings us to the top of the hour, so we're going to conclude the call at this time. I hope everyone got their question in. If they did not, please give me a call on our toll free number. We'd be happy to talk with you then. Thanks for your attention. Look forward to talking with you soon.