美國家庭壽險 (AFL) 2010 Q2 法說會逐字稿

Good morning. Welcome to the Aflac second quarter earnings conference call. Your lines have been placed on listen-only until the question-and-answer session. Please be advised that today's conference is being recorded. I would now like to turn the call over to Mr. Ken Janke, Senior Vice President of Investor Relations. Sir, you may now begin.

Thank you, Trey. Good morning, everybody, and thanks for joining us for our second quarter conference call. With me today in Columbus are Dan Amos, Chairman and CEO; Kriss Cloninger, President and CFO of Aflac Incorporated; Paul Amos, President of Aflac and Chief Operating Officer of our US operations; and Jerry Jeffery, Senior Vice President and Chief Investment Officer. From Tokyo, we're joined by Tohru Tonoike, who is President and COO of Aflac Japan.

Before we begin, let me remind you that some of the statements in this teleconference are forward-looking within the meanings of federal securities laws. And although we believe these statements are reasonable, we can give you no assurance they will prove to be accurate because they are prospective in nature.

The actual results in the future could differ materially from those we discuss today. So I would encourage you to look at our quarterly press release last night for some of the various risk factors that could materially impact our future results.

With that, I'll turn the program on over to Dan, who will talk about the quarter and our outlook for the year, and I'll follow up with some highlights and then we'll take your questions. Dan?

Thank you, Ken. Good morning, and thank you for joining us today. I'm pleased with Aflac's overall financial performance in the second quarter. With half the year behind us, I believe we've established a solid foundation toward achieving our annual operating earnings growth and capital strength objectives.

Let me start this morning's call with a review of the insurance operations, beginning with Aflac Japan. Aflac Japan produced strong financial results for both the second quarter and the first six months of the year. We experienced good improvement in premium income growth, reflecting our strong sales over the last several quarters.

In addition, our pre-tax profit margin continued to expand as expected, resulting in solid earnings growth for the quarter and for the first half of the year. I was especially pleased with continued sales momentum in the second quarter. Total and new annualized premium sales in yen were up 12.6% for the second quarter to JPY33.9 billion, which was a record for the second quarter production.

For the first half of the year, total annualized sales rose 11.4%. You'll recall in March of 2009, we introduced a child endowment policy, which is a popular means in Japan for savings for children's future education. Since that time, child endowment has done a solid job. Not only does our product feature the highest return ratio in the industry, but we successfully linked the marketing of our child endowment product to the new government subsidy that was first sent in June to families with the age of children of 15 or younger. This strategy has been especially effective in bank channel.

As a result, ordinary life emerged as our number one product category in the second quarter, with child endowment accounting for about half of the ordinary life category. Although child endowment product has a lower profit margin than the health products, the premium is almost three times higher than our cancer or medical products. As such, it's a solid contributor to both the top and bottom lines.

Because of the relevance, simplicity and universal appeal to families with young children, we expect our child endowment product to remain an important part of the life insurance sales category. Medical sales also remained strong and rose 23.5% in the second quarter. This increase was largely attributable to the successful revision and the promotion of our popular medical product ever.

As you know, the Maneki Neko Duck, or cat duck, advertising campaign became an overnight sensation in Japan last year. We have shifted some of the promotional spendings from the Maneki Neko advertising to support other new product introductions. So, even so the popularity of the advertising featuring the Maneki Neko Duck remains effective in generating sales. In addition to product development and the expansion of our traditional sales force, we've established a very strong position with the bank channel.

We continue to have significantly more banks selling our third sector products than any other insurer operating in Japan. At the end of June, Aflac was represented by 354, or 88% of the total number of banks in Japan. Our estimated market share for cancer and medical sales was combined at 60% in the second quarter.

As we expected, we continued to experience strong sales gains through the bank channel. Sales in the second quarter were a record JPY3.9 billion, which represents 177.7% increase over the second quarter of 2009, and a 26% increase over the first quarter of this year. In June, we introduced a revision to Gentle EVER, our nonstandard medical product.

This new product offers more benefits than the original nonstandard medical product that we rolled out in 2007. We believe it will continue to meet the needs of the consumers, who cannot qualify for our Base EVER plan. We also introduced a product called Corsage in June, which is a female-specific rider to cancer insurance.

In Japan, young women are more likely to suffer from cancer than young men. Corsage provides benefits that address the early detection of cancer and the high cost of female-specific cancers. As the number one provider of cancer insurance in Japan, we believe this new product will get consumers' attention for the strengthening of our brand and most importantly provide valuable benefits to the consumers who are looking for solutions to cancer-related costs.

Following very good news results in 2009, I am thrilled by Aflac Japan's marketing and sales execution this year. We have developed a strong and balanced product line, which we have continued to enhance. Our distribution system is also performing very well and we are especially pleased with the sales momentum in the bank channel. Clearly, we are significantly ahead of our annual sales objective of a 0% to 5% increase in sales.

However, let me remind you that the second half of the year becomes much more challenging in terms of sales comparisons. That's especially true in the fourth quarter, when we'll be going up against a 15% increase in sales resulting from the successful introduction of the new EVER product. As we have discussed, we're also expecting much lower sales contributions from our largest telemarketing-based agencies and Dai-ichi Life for the full year. Yet I remain confident that Aflac Japan will achieve its sales target for the year. We continue to believe that Japan is a vast market for protection products and we believe we will retain our number one position within the third sector products.

Now, let me turn to our US operation. From a financial perspective, Aflac US continues to perform at expectations, although weaker sales have slowed top line growth somewhat over the last few years, we've experienced a significant improvement in persistency, compared with the first quarter and the year ago.

In addition, with lower benefits and expense ratios in the quarter, we produced the sharp increase in pre-tax operating earnings. As has been the case in the US market for the last several years, we continue to face sales challenges. Aflac US sales were again impacted by difficult work-site conditions related to the weak economy. Total new annualized premium sales in the second quarter were $333 million, or 2.4% lower than a year ago.

We did have two additional production days in the quarter from last year, which benefited our sales growth by 2 percentage points. For the six months, sales were 6.3% lower than a year ago. As you likely know, businesses with fewer than 100 workers have traditionally been our bread and butter, accounting for about 90% of our total payroll accounts.

In stronger economies, small businesses helped drive economic growth, but today, these small businesses have proven to be especially vulnerable to the recession. Repeated reading from the indexes of small business optimism that are lower than 90 has been unprecedented in survey history, yet that's exactly what we've been facing. The overall lack of employment growth has been leaving our associates with fewer employees to call on during reenrollments.

As we've discussed, this has been especially true with veteran agents who account for 70% of our sales in Aflac US. The employees who are still employed and accessible to our sales associates are likely to be cautious about increasing their spending on voluntary insurance products in a time of uncertainty. However, as I mentioned at the analyst meeting in May, we've seen data that suggests veteran agents are doing somewhat better than a year ago.

Historically we've counted on our ability to expand distribution through recruiting to offset the impact of the weak economy. As we discussed on our first quarter conference call, we've had record recruiting in the first half of 2009. At that time, we targeted a significant number of people who had just been laid off from large employers. We also relied heavily on internet recruiting. Those recruits were successful at generating large number of new agents, but not necessarily the quality or long-term potential of candidates we've historically hired in the past. Reflecting the difficulty of the comparison to last year's results, recruiting was down sharply again in the second quarter, although it was fairly consistent with our expectations.

To improve our recruiting results in the second half of the year and beyond, we have shifted the bonus structure from our state and regional coordinators from one that is based entirely on sales to a structure that incorporates a people-driven development component. We've also initiated a national recruiting contest that will help producers recruit. In addition, we've been rolling out a recruiting workshop that focuses on improving coordinator productivity through recruiting candidates, interviewing, and contract acceptance. Beyond just expanding the size and capabilities of our traditional sales force, we are excited about the opportunities to broaden our distribution by pursuing and strengthening the relationship with insurance brokers.

In January of 2009, we launched Aflac for brokers and began building the infrastructure needed to support our expansion in the broker market. Although our entry into the distribution outlet is fairly recent, our efforts are translating into sales. Total broker sales were up 43.1% in the second quarter on a pro forma basis, including Aflac group in the second quarter of 2009, broker sales were still up 9.5%.

We are convinced that Aflac group insurance is the right component to our core strategy of enhancing product line and expanding our distribution. We believe the addition of the group product platform is an important piece to give brokers the type of products they know and prefer. At the same time, we expect group products to enhance our sales opportunities for our traditional sales force of individual associates. Our 2010 sales objective for Aflac US enabled officers to earn a small bonus if sales were flat to down 5% in the first half of the year, with the portion only being paid if sales then were flat to up 5% in the second half.

Clearly, a decrease of 6.3% did not meet the bonus objectives for the first half of the year. For the third quarter, we expect sales to be down compared with the year-ago. We still hope to see a sales improvement in the second half of the year, but we believe sales are more likely to improve in the fourth quarter. For that to occur, we need to see veteran agents do well in their account reenrollments later this year. We need to see solid results from our current recruiting activities. We need to see continued positive--of the broker distribution and successful of the sales of group products. And, of course, it would be nice to see the confidence improve for employers and employees, as well as some strengthening in the labor market.

Although our sales outlook for Aflac US remains cautious in the short-term, our view on the US market has not changed for the long-term. We believe the US provides a vast underpenetrated market for our products and following the passage of healthcare reform earlier this year, we believe employers and consumers will better understand the need for our products just as they have in Japan. We also believe that brokers will increasingly view Aflac's products as meaningful, relevant, and beneficial to their business and beneficial to their clients' needs. Overall, we're pleased with Aflac's consolidated financial performance in the second quarter and the first half of the year.

Excluding the benefit of the stronger yen, operating earnings per diluted share rose 10.8% in the second quarter and 11.2% in the first half of 2010. That keeps us on track for achieving our earnings growth objective for this year. We also remain pleased with the quality of our balance sheet and our capital position.

As we discussed, we do not believe a massive re-risking or restructuring of our portfolio is likely or necessary. However, you will recall that we've indicated that we would selectively de-risk if opportunities arose or if the credit view of a specific holding changed. That is precisely what happened in the second quarter. As we announced in June, we exchanged the perpetual upper Tier 2 security of European financial institution for higher rated fixed maturity senior debt instrument. We also reduced our perpetual holdings of another European bank through a privately negotiated transaction. In addition, we sold our entire holdings of the Greek sovereign debt. Through these three transactions, we enhanced the quality of the balance sheet and our risk-based capital ratio. Maintaining an RBC ratio remains a priority for us, and you'll recall that this is a primary component of the management incentive plan for all officers.

Our official objective for 2010 is to maintain a ratio in the range of 375% to 475%. However, we plan to work toward finishing 2010 with a higher RBC ratio than the year ended 2009, a ratio of 479%. Based on the preliminary statutory numbers, we estimate that our risk-based capital ratio exceeds 560% at the end of June compared to 539% at the end of the first quarter.

Historically, our strong capital generation has allowed us to maintain a policy of increasing the cash dividend in line with our earnings growth before the effect of the yen. As I've conveyed over the last several quarters, we would like to return to that policy when we believe it's prudent to do so.

Extending our lengthy record of 27 consecutive annual increases in the cash dividend, it is important to us and to our owners. Along those lines, I fully expect the board of directors to approve a modest increase in the cash dividend effective with the fourth quarter of this year. Additionally, we continue to believe that share repurchase is an effective means for enhancing shareholder value. As you know, we have taken a conservative approach during the financial crisis by focus on capital preservation. I am still convinced it makes sense to maintain a high degree of conservatism given the economic uncertainties around the globe.

However, with the year generally developing as we had hoped, it's increasingly likely that we will resume our share repurchase activities in early 2011. As I'm sure you know, the other primary component of the operators'--officers' management incentive plan is to grow operating earnings per diluted share before the impact of foreign currency. In that regard, I think it's reasonable to see our operating earnings per share up 10% this year before the impact of the yen. That result would be consistent with our objective of a 9% to 12% increase this year. Our objective for 2011 remains an increase of 8% to 12% in operating earnings per diluted share before the impact of the yen.

As we look to the balance sheet of this year and beyond, we continue to believe that Japan and the United States each have characteristics that make them ideally suited for the products we offer. Aflac has earned the distinction of being the best-branded Company for voluntary supplemental products in each country. Importantly, both markets offer opportunities for growth.

In pursuing our growth objective, it's clear that we continue to face challenges, particularly in the United States. However, our business is strong from an operational perspective and we have confidence in our business model and our people. We also have the strength in our balance sheet that will allow us to continue to fulfill the promises that we've made to our customers and the expectations of our shareholders. Ken?

Thank you, Dan. Before we get to your questions, let me share with you just a few of the financial highlights for the quarter, beginning with Aflac Japan. In terms of revenues in yen, the top line grew at 3.2% for the quarter. Investment income rose 3%. The persistency rate actually improved a bit in the quarter. And for the first half of the year, on an annualized basis, the persistency rate excluding annuities was 94% compared with 93.9% a year ago. In terms of the quarterly operating ratios, the benefit ratio continued to improve over last year and was 59% in the quarter compared with 60.4% a year ago.

The expense ratio for the quarter was unchanged at 19.9%. Reflecting the lower benefit ratio, pre-tax margin rose from 19.7% to 21.1% in the quarter. With the expansion of the margin, pre-tax operating earnings increased 10.8% for the quarter in yen. For the quarter, we invested our cash flow in yen securities at an average rate of 2.55%, and including dollars, the blended new money rate was 2.77%. The portfolio yields stood at 3.71% at the end of June, which is down 4 basis points from the end of March, and 14 basis points lower than a year ago.

For Aflac US, revenues rose 5.1% for the quarter. As Dan mentioned, the persistency rate improved significantly and was about 74% for the quarter. The annualized rate for the six months was 71.1%, up from 69.6% a year ago. For Aflac US operating ratios, the benefit ratio was 51%, compared with 51.6% a year ago. The operating expense ratio decreased from 32.3% to 31.3% due to lower DAC amortization related to the persistency improvement.

The profit margin for the quarter was 17.7%, up from 16.1% a year ago. As a result, pre-tax operating earnings rose 15.0% for Aflac US in the quarter. The new money rate for Aflac US investments was 6.11%, down from 7.45% a year ago. The yield on the portfolio at the end of June was 7.04%, down 2 basis points from the first quarter, and 18 basis points lower than a year ago.

Looking at some other segment or line items, noninsurance interest expense in the second quarter was $31 million compared with $17 million a year ago, which reflects our debt issuance in 2009. Parent Company and other expenses rose from $6 million to $16 million in the second quarter of 2010. I would point out that Parent Company expenses were unusually low a year ago. In addition, the higher Parent Company expenses reflected lower realized foreign currency gains and also lower Parent Company investment income compared with a year ago.

Total Company operating margins rose, reflecting the improved profitability of both Aflac Japan and Aflac US. The pre-tax margin rose from 18.2% to 19.3%. The after-tax margin increased from 12.0% to 12.6%.

On an operating basis, the tax rate was slightly higher at 34.7% compared with 34.2% a year ago. Net earnings per diluted share for the quarter were $1.23 compared with $0.67 in 2009. Total net realized investment losses were $0.12 compared with $0.53 per share in 2009. Before the impact of ASC 810, we had a realized investment gain of $8 million, or $0.02 per diluted share in the second quarter.

We realized investment gains of $81 million in the quarter from the exchange of two perpetual securities. The sale of our Greek sovereign debt resulted in an after-tax loss of $67 million. We also had $6 million of other losses on smaller transactions. The impact of ASC 810 produced an after-tax loss of $66 million, or $0.14 per diluted share. That loss was attributable to the valuation of foreign currency, interest rate, and credit default swaps. I would point out this is a GAAP-only issue. It has no impact on our Japanese financial results or our US statutory results. And the bonds related to those swaps were in an unrealized gain position at the end of June.

As reported, operating earnings per diluted share rose 12.5% to $1.35. The stronger yen increased operating earnings by $0.02 per diluted share, and as Dan mentioned, excluding the effect of the yen, earnings were up 10.8% for the quarter. In terms of the outlook for the balance of the year, as you've heard, we've affirmed our objective of a 9% to 12% increase in operating earnings per diluted share before the effect of the yen this year.

Although as Dan mentioned at our analyst meeting and again today, we expect that the full year will be close to 10%, a 10% increase for the full year before currency fluctuations. That would equate to $5.34 for the full year, assuming no change in currency from last year's average rate. If we achieve the 10% increase and the yen averages 90 for the balance of the year, we would expect operating earnings to be $5.44 for the full year.

In using that same foreign currency rate assumption, we would expect third quarter operating earnings to be $1.35 to $1.38. I would note that the current first call estimate is $1.36. We would now be happy to take any questions that you have. Again, if you would, please try and limit your question to one so we can get through everyone that has a question. And, Trey, I'll turn it back to you.

Thank you. At this time, we're ready to begin the question-and-answer session. (Operator Instructions) One moment for the first question, please. Our first question does come from Andrew Kligerman of UBS. Your line is open.

Good morning. With regard to the child endowment product, recognizing that the diet, part of the diet -- there was a change in control and there was also talk about the benefit moving from 13,000 yen per child to 26,000. What do you think the probability is now, given that change in the diet? And then following along those lines, clearly your sales were extremely strong in that product line. Do you think that, given that you introduced it in March of 2009 that the momentum will continue?

I would like for Charles to answer that. Charles?

Yes, sir. The political outcome of the election is in many ways going to lead to the initial policy decision that led to the child, the payment to be -- whether they be expanded to double the amount or not. That, that is up in the air because of the outcome of the election. The question also affects the fiscal discipline of the budget and so on, and that is going to be the subject that will be debated in the coming session. So no decision has been made on that.

Charles, then can you handicap it or give us a little sense of how you feel which way it's going to go?

Watching Japanese politics over the years, I definitely -- I'm not going to be handicapping it, but I think one thing I should say, though, is that this was one of the most important key promises and goals that DPJ, Democratic Party of Japan has articulated. And as you know, despite the Upper House election outcome, the Lower House election that resulted in the majority, strong majority for the Democratic Party of Japan will maintain DPJ in power until another election is held in a lower house. So you can expect the DPJ will want to try to maintain as much as possible this program, because it was such a key aspect of their sort of initial policy execution.

And then the growth?

The growth and the amount, you mean?

No, no, I meant the growth in the product sales.

Tohru may want to comment, but I think the growth is going to continue for some time. Certainly through this year, because it's really just kicked off in June with them receiving funds. And so -- and the driver has really been the bank channel of this product. So Tohru, do you have any other comments about it?

No, I agree with you that we have been seeing the steady growth of the child endowment fund this year and so we have no reason to think that that momentum will change in the near future. I expect to see relatively strong sales of this product going forward.

And then the follow-on, just given that you mentioned the margin of this product is lower but the premiums are 3x. I don't know if this is a question for Kriss, but do you think that the benefits -- you've seen steady increases in the Japanese benefit ratio for so many years, does this signal the beginning of that kind of leveling of the benefit ratio or maybe even a decline in the improvements?

Andrew, it will put a bit of a drag on the benefit ratio itself. The underlying improvement in the health product benefits will not be affected by this child endowment. And the increase in total profit is a function of the increase in revenues and the change in the margin. So what we're doing here is increasing revenues faster than we were. We were accepting a slightly lower margin, but we're improving the overall profitability of the Company in the aggregate. We're adding value to the Company. So that's, there's a little give and take between revenue growth and margin expansion. All in all the profits are going up.

Okay, thank you.

Our next question does come from Nigel Dally of Morgan Stanley. Your line is open.

Great, thanks, and good morning, everyone. So on the US recruiting, I noticed that (inaudible) year ago comparison there's still somewhat weak results in the high unemployment rate. Can you give us some color on why we're not seeing more recruiting in the current environment? Also is it possible for you to provide an early rate on whether the new bonus structure to promote recruiting is having the desired impact? I know it wasn't in place for the full quarter, but any initial color on whether that program's meeting your expectations would be helpful. Thanks.

Obviously, recruiting comparables were extremely difficult. When you look at the quarter sequentially in terms of total recruits, the number fell lower than we had hoped, but in line with our expectations from a total bandwidth standpoint. The lack of coordinators that we mentioned in the previous quarter's call definitely had an impact on the on the total recruiting.

Honestly, in terms of what I'm hearing out there from some of the people across the country, the continued extension of unemployment benefits is having some adverse. People believe that if they go out an take a commission-only job they are going lose their unemployment benefits and the continued extension of doing so has provided many people with a belief that they are going to continue to be able to receive those benefits for an undetermined period of time.

So that has had some adverse effect based on what I'm being told. In terms of the bonus structure itself, we do believe that it's grasping hold. As any bonus change, it takes some time for people to understand it and what all it means to adjust their business accordingly. I believe we began to see that adjustment in the second quarter. We'll continue to see it in the third quarter.

I hope to begin to see incremental improvement in our recruiting numbers. I think the things that we mentioned that we're doing, the recruiting contest, the additional training, the bonus structure change, all will begin to take effect. Can I give you a direct answer on how quickly that will turn? No, I cannot. Thirteen weeks is just too short a timeframe to really give you that turnaround, but I do expect in the coming quarters that recruiting will begin to turn and become a better -- become better results of what we're seeing today.

Thanks.

Our next question does come from Jimmy Bhullar of JPMorgan. Your line is open.

Hi, thank you. Good morning. I had a question on the capital deployment. Your RBC obviously is slightly north of 560%. I think by year end it could get close to 600%. Assuming stable macro trends, how much are you likely to deploy it towards buybacks next year? Would it just be the capital that you generate next year, or would you also draw down on your RBC ratio?

Well, we've been patient in building capital so far this year. As you say, we're improving RBC ratio. If what you speculate comes to pass and we end up at, say, around, 600% at the end of the year, we'll be taking a look at it.

Historically, we were on a run rate of about 12 million shares a year of share repurchase. We've said maybe 6 million to 12 million is kind of a resumption level if things continue to be stable to improved. We still have to -- I want to be cautious, though, and say we're still waiting for another quarter or two.

We like the improvement in the securities values that we've seen, the relative stabilization, I think, in the fair value of the portfolio, and the improvement in the unrealized loss position. We also like the fact that we've reduced our exposure to perpetuals and the like over the last 12 months. So that's maybe a little bit of a long answer to say we intend to get back to historical repurchase levels if conditions warrant.

And then I just wanted to follow up on your comments on like the momentum in Japan and like in the child endowment product continuing.

If I look at sales year to date, I think you're up around 11.4% roughly in Japan in the first half. So obviously comps get tougher in the fourth quarter, but the 0% to 5% guidance, is that ultra conservative, or is there some amount of conservatism built into that or was there something in the first half other than just easy comps that might not repeat in the second half?

Tohru, do you want to answer that? Yes.

Yes. I think given the results of the first six months, the sales (inaudible) are up by 11.4%. We are feeling very confident that we are achieving the goal of 0% to 5% for the full year. Of course, we are expecting to have a very difficult comparison, particularly in the fourth quarter. That would make the gross number lower than we are seeing now, but I don't see any reason why we should be expecting our sales going down further.

So in short, I think we are feeling very confident in achieving the goal. There is some -- maybe I could say it is somewhat conservative, but I don't see it as ultra conservative because I know that the fourth quarter last year was a very strong quarter.

Okay, thank you.

I'll make one other comment. The third quarter will be the telling quarter because the fourth quarter I would take flat to small increase right now because it was such a big quarter. It was the biggest fourth quarter I think we ever had. And we won't have the momentum of that new product and the new ad campaign. So that's the reason our conservatism at this particular point.

Yes, the reason I'm asking is let's say you're 10% up in the third quarter. Even with the flat fourth quarter, you would end up 8% for the year. So any comments you could make on your, like, sales in the first month of the third quarter? Or is that too early?

No, we can't do that.

Okay, thanks.

Jeff Schuman of KBW, your line is open.

Thank you. Couple items for Kriss. Maybe you talked about this a little bit at the Investor Day, but can you remind us what the difference is between life margin or life ROE versus the health? I think we have the chart that showed the different benefits, but it's a pretty wide range and I'm not sure that maps well if you kind of bottom line margin or ROE differences. So how much really is the difference in profitability between life and health?

I would say the average expected margin on the health products is probably in the 15% of premium neighborhood. The traditional ordinary life is around 10%. The child endowment is somewhat interest sensitive and it's priced at 1.85% assumption. If we are able to earn 2.5%, the profit margin is around 5% of premium. If we're able to earn 3% new money, the profit margin increases to about 9%.

So you can see it's somewhat less than traditional ordinary life, but the premium is significantly higher. So the profit per policy written is comparable to a health policy. But as I said, on average, it's going to reduce the overall margin of the business a little bit, but it's going to grow the revenue faster.

And it's going to add to the profitability of the overall block. So I hope that gives you a sense.

Yes, it's very helpful on the margin. Then if we're translating to ROE is it proportional? In other words, if the historical traditional life policy was 10% margin, health was 15%, that's two-thirds. I mean, is the ROE also two-thirds or not?

Well, I hesitate to ask, because we don't use ROE as a primary driver of our pricing and profitability analysis. We do look at how much capital we have to invest in each product category. And I try to make sure that the capital investment required from a regulatory reporting point of view is similar, or that the no product presents a particular capital drain on us.

I want the capital investment for each product returned within a reasonable period of time. Generally it's less than five years. Most products, it's less than two years, because I don't want to have to allocate sales based on committed capital. So we try to avoid doing that. And that's just not a primary focus that we have. To us, return on capital is a by product of our primary pricing algorithm of looking at return on premium.

Okay. That's helpful. Just lastly, quick follow-up on Jimmy's question on the share repurchase. I think if you get back to 12 million shares at the current price of $600 million, dividend's $500 [million-ish], [net] earnings are $2 [billion-ish], so I guess we need to budget for some debt service in there. But if you get back to 12 million shares, it would seem that you would still be building capital. I mean, is that the simple correct math? Is that still where you would be heading in 2011 is just to build capital?

Yes, I think so. Our interest expense is higher than it has been because we've had to, we've had to use dollar debt instead of yen debt. And that's slowed growth a bit.

But, yes, you're in the ballpark with those kind of numbers. And we're still going to be cognizant that there are still some potential downgrades out there and the like that could impact RBC through higher capital requirements. And quite frankly we're keeping an eye on any changes to the solvency margin requirements in Japan because we have not only RBC to watch, but we've also got solvency margin measures on the FSA reporting basis that we have to pay attention to.

We're in good shape with that now. We're at 939% or so, and that's okay for the big Japanese life operations. But we're not in the upper half of those solvency margins. And I still want to make sure that we're in good shape from a Japan reporting point of view, too. So that's something we hadn't talked about a lot, but it's an element of the equation that's out there.

Okay, thanks a lot.

Colin Devine of Citi, your line is open.

Good morning. I was wondering if we could talk a little bit about the investment portfolio, Kriss. First, it's to clarify on the sales of perpetuals in the second quarter, what the statutory impact was and also I know you reported the capital gain on the sale, but unless I'm mistaken weren't those previously impaired positions so it was more of a recovery on a prior write-down than a gain on selling those?

And then as -- I guess I want to understand what happened between the end of the first quarter, and I suppose early June, that caused you to sell the HBOS piece, lock in the loss, and why you hadn't impaired that on a statutory basis earlier? And if you're now starting to reexamine your policy of not impairing the perpetuals on a statutory basis.

And then if we could also just focus on how you're looking at impairments, unless I'm mistaken, there's about $1.2 billion of investments you're carrying today that are trading, I guess, on average [through] positions at about a third of their carrying value. Is that the other issue that's out there that could put some very real pressure on your statutory RBC ratios?

Well, there's a lot of questions there, Colin. Let me start and I may ask Jerry Jeffery to chime in with some details. But first, relative to our impairment policy on statutory, that's credit oriented. We carry most of our debt securities on an amortized cost basis for statutory purposes until we have reason to believe that they are impaired from a credit perspective.

As you know, GAAP requires us on our perpetual holdings to use an equity-oriented impairment method, where if the security is trading below par value by a certain percent for a fixed amount of time, then we're compelled to recognize an other than temporary impairment for GAAP purposes. But that can occur even if we believe that we're going to get all our money back on these securities.

Now, you mentioned some securities trading at significant discounts to par that we haven't written down for statutory. And specifically, those are the, probably the three Greek banks that we continue to hold. And as we'll report in our 10-Q, we've done our own stress testing and credit analysis on those three Greek banks, assuming some level of restructuring of the Greek sovereign bonds.

And in our opinion, those banks will continue to be financially solvent and able to service their debt to us. So we don't see the need to write down those securities for statutory purposes. Let me go back to Jerry for comments relative to the HBOS. It's true that the capital gain that we realized on a couple of the perpetual exchanges we did in the second quarter generated a capital gain for GAAP because we had previously impaired them.

And they generated a capital loss for statutory. But let me ask Jerry for comments, maybe on the details of that.

Yes, Colin, just to talk a bit about what prompted the exchanges and the sale, in the case of the two exchanges that Ken described earlier, well, the one exchange that took place in the second quarter was -- it enabled us to move up in the capital structure and it also actually gave us a net increase in investment income. So that was an extremely compelling situation and it improved our overall portfolio condition.

In terms of the HBOS, the decision to sell was really motivated based on our concentration in that name. We're comfortable with HBOS. The particular security we sold was and is a must-pay security. So we were extremely comfortable that we would not need to impair from a statutory basis, but we did think it made a great deal of sense from a concentration perspective to sell that particular holding.

And reduction in concentration did benefit our risk-based capital ratio to some extent. And in fact, those exchanges, the net result on a statutory basis was a modest improvement in RBC.

Can you just clarify what the statutory loss because I think that's the bottom line here rather than reporting it as a gain. What -- when it's all said and done, what did you lose on the HBOS position? And I guess I'm not clear why it wasn't impaired in the first quarter on a statutory basis since you made the decision to sell it.

Well, the decision to sell it was made in the second quarter, Colin, not the first quarter. And the statutory loss on a pre-tax basis was slightly in excess of $100 million.

Okay, and just finally, could you discuss the level of below investment grade bonds seems to be continuing to rise despite the sales that you've undertaken.

Well, the -- that percentage did increase only because of the downgrading of the three Greek banks.

Okay, thank you.

Our next question does come from Steven Schwartz of Raymond James. Your line is open.

Hey, good morning, everybody. Just wanted to talk quickly about Japan, particularly Corsage. I want to follow up on that. Was that introduced in June? It wasn't clear to me.

Yes. Tohru, do you want to make any comments?

Yes, it was introduced in June (inaudible).

And it's really just getting kicked off. But this -- conceptually, we have found that the females are continuing to be the decision makers on cancer policies and, therefore, these riders and these new concepts are to get females' attention of what's being offered. Also at the banks, it's very positive from that standpoint, so that's the driver behind this.

Okay. Just to follow up on this, my impression had been that the cancer policies were mostly bought by older Japanese, yet I think you were citing younger Japanese females possibly buying that. Was I wrong about my initial assumption?

Go ahead, Tohru.

Yes, you're right. Historically, the longer -- older people tend to buy more cancer policies than the younger people. So we wanted to expand our sales to the younger generation.

And in particular, this year, in the quarters (inaudible) the Japanese government promotion of the national anticancer program, many municipalities are taking up that program and have introduced their own version of the anticancer. So our introduction -- those movements are typically focusing on the prevention of the cancers of younger women. So our introduction of Corsage is in accordance to the movement of these government promotions.

Okay, and then one more, if I may. I wasn't quite clear, Dan, your statement about the Maneki Neko Duck and advertising. Were you saying you were moving resources, are you moving away from the Maneki Neko Duck, or are you expanding that to other products?

What I was saying is because we've now been pushing the endowment plan, it does not have the Maneki Neko Duck connected to it. So it's been some shift in actually selling it a little bit more so. We're trying to find ways to keep it in front of consumers because they like it.

But it's just -- a lot of our advertising in Japan, if you remember, is product-specific. And it ties different types of campaigns, whether it be certain celebrities that, Japanese celebrities. We have a particular female that pushes the cancer product and we have a male that does some other things. So it varies a little bit.

But I was just pointing out that there was a little bit of shift in that. The only other point I want to make on the, that Tohru was talking about, remember, the actual number of policies sold, because the premium in Japan is age-specific, dollar -- I mean, yen basis, it's much higher because they are older in terms of premium coming in.

But we have always done very well on younger ages in Japan, as well as older ages, so it's never been skewed just older ages buying cancer policies. We've had a lot of success with 30-year-olds in Japan buying our cancer policies.

Okay, great. Thanks.

Our next question does come from Randy Binner of FBR Capital. Your line is open.

Hi, thanks. I think this one is for Kriss or Jerry, but just thinking about new money yields, at the Investor Day you laid out both Japan and US new money yields for 2010 and 2011, but both in Japan and the US the ten-year government bonds are yielding lower and that's kind of a widespread concern.

So I would just be interested to kind of think about how long we could sustain lower, lower market yields and still adhere to the new money yield guidance you gave at the Investor Day?

Well, the new money yield guidance we gave, I think, for Japan was in the 2.75% to 3% range. And we're at the lower end of that today, or actually below the lower end of that right at the moment. What we did in the first half of this year, though, buy more JGBs, and Jerry may want to comment on that. We had several private placements that generated yields between 2.75% and 3%, but we also bought a fair number of JGBs.

We're looking -- I'll just say that we're spending additional resources both -- well, primarily personnel and evaluating our investment strategy and trying to look at some of the alternatives in front of us. I'll say that we've been trying to look at more nonfinancial names, for example. But one of the effects of that is to lead us to somewhat shorter duration securities than we've historically purchased from the financial names.

And we're looking at some other strategies to try to maintain those ranges of new money yields that I quoted in the analyst speech. Jerry, do you want to add --

Yes, actually, one thing I should say is I think our new money yield forecast for Japan was 2.5% for 2010. And at the moment, we're slightly ahead of that for the first six months of the year. And it is true that we have, we, I think, have invested approximately 60% of our second quarter new money in JGBs and the simple reason is we did not want to be chasing yields and taking unnecessary risks.

So we were still able to achieve our new money yield targets and not take what we thought were unwarranted risks. Obviously, I think going forward, we've got a challenge ahead of us, but our net investment income remains on target and on budget. So I think we are -- we're going to struggle. But as Kriss mentioned, we're looking at other ideas, some of them shorter duration ideas. There are opportunities out there and we are still able -- we're still hitting our targets.

Yes, Ken pointed out to me that I misstated the range that we presented at FAB. It was 2.5% to 3% instead of 2.75%. We had reduced it this year for the first time just to reflect current economic conditions. I apologize for that misstatement.

No problem at all. I guess the follow-up I would have is if the ten-year benchmarks in both countries stayed at their current level through the end of the year, I guess notwithstanding new opportunities, do you think it would be realistic to be bale to hold the low end of that guidance or would it potentially have to slip?

I think we could still meet the guidance even with the rates where they are today. And today they are as low as they have been in several years, if ever in the US Notwithstanding that, given what we've been able to achieve and given what I'm saying that we're contemplating investing in, I still think 2.5% is achievable in Japan.

Okay, great. Thank you very much.

We're almost to the top of the hour, Trey. We have time for one short question, one short answer, and that's about it.

Thank you. Our final question does come from Ed Spehar of Bank of America. Your line is open.

Thank you. Kriss, I want to go back to the capital discussion. And I guess you report good earnings. Stock's down a couple percent, I think, perhaps on some concerns about lower margin child endowment sales. But I was wondering, or I would suggest maybe the market's also a little frustrated about the discussion around capital.

And I guess the issue is that if the math is potentially at a 600% RBC by the end of this year I think is reasonable. I think with the type of share buyback you could be contemplating based on your comments, a 700% RBC by the end of 2011 is potentially a reasonable expectation as well.

So I'm just wondering, how do we, how do we think about this? Because it seems to me that you have to address this capital situation at some point or else the RBC ratio is going to explode.

I mean that has to be an issue for returns at some point down the line, especially if some of the sales are in sort of some lower margin businesses. Probably not a short answer, but I think it is a very important issue for everybody.

It's a shorter answer than you'd probably expect. I think it's unreasonable to think that we would allow RBC to explode and to have us sit on capital at a level that essentially remains sterile. We're just looking for the comfort level, Ed, and then we'll turn it loose.

Okay, thanks. Look forward to it.

Okay.

Well, thank you all for joining us again. If you have any additional questions or follow-up, please feel free to give me a call or send me an e-mail. Thanks. And we hope to talk to you soon.

Today's conference has ended. All participants may disconnect at this time.