美國家庭壽險 (AFL) 2013 Q1 法說會逐字稿

Good morning and welcome to the Aflac first quarter earnings conference call. Your lines have been placed on listen-only mode until the question and answer session. Please be advised today's conference is being recorded. I would now like to turn the call over to Ms. Robin Wilkey, SVP of Aflac Investor & Rating Agency Relations. You may begin.

Good morning, and welcome to our first quarter call. Joining me this morning is Dan Amos, Chairman and CEO, Kriss Cloninger, President and CFO, Paul Amos, President of Aflac and COO of US Operations, Ken Janke, Executive VP and Deputy CFO, Eric Kirsch, EVP Global Chief Investment Officer, and Tohru Tonoike, President and COO, of Aflac Japan who is joining us from Tokyo. Before we start let me remind you of some statements in this teleconference that are forward-looking within the means of federal securities laws. Although we believe these statements are reasonable, we can give

no assurance that they will prove to be accurate because they are prospective in nature. Actual results could differ materially from those we discuss today. We encourage you to look at our quarterly release for some of the various risk factors to that could materially impact our results. Now I will turn the program over to Dan who will begin with comments about the quarter and our operations in Japan and the US. I will follow up with a few financial highlights for the first quarter and then we will be glad to take your questions. Dan?

Thank you, Robin. Good morning, and thank you for joining us. I'm pleased that we met, and in many cases exceeded, our financial and operational targets for the first quarter. Let me begin with an update of Aflac Japan, our largest earnings contributor. New annualized premium sales in the first quarter up 2.6% to 53.8 billion yen. Revenues grew 9.7%, and pre-tax earnings were up 10.7% for the quarter.

Sales for the first sector products including WAYS and child endowment came in better than expected in the first quarter. This was primarily driven by consumers who wanted to make insurance purchases of first sector products ahead of the rate increase on April 2. I had said that I would not be surprised if we saw WAYS sales down 40% to 60% following the rate increase.

Based on early sales indications for April that seems like a reasonable estimate. Banks also had a strong sales push in order to end their fiscal year with solid sales results.

Additionally, we have seen consumers show interest in a variety of investment type products especially with JGB yields at historic low rates and the [Nikkei?] having risen considerably over the past several months. As such, we expect the sales of our first sector products, particularly WAYS, to be down significantly for the remainder of the year.

With respect to total third sector products, combined cancer and medical insurance sales, were down 7.1% for the quarter, which was in line with our expectations. However, remaining the leading provider of third sector products is important to us, and is the foundation of our product portfolio.

We anticipate focusing more on third sector product development now that the first sector re-rating has been complete. We mentioned last year that we are currently under penetrated in the consumers who are in their 20s to 40s. I'm pleased to tell you that we are working on getting approval of a new medical product with the FSA.

As such, we anticipate very strong second half sales. Taking all of these factors into account I believe that 2013 expectation that Aflac Japan third sector cancer and medical will be flat to up 5% is still reasonable.

Now, let me it turn to the US operations. As I mentioned last quarter, I wouldn't be surprised if sales were down slightly in the first quarter considering our biggest percentage increase last year came in the first quarter. Our results were consistent with that expectation. Aflac US annualized premium sales were down 5.2% for the quarter.

We know that small employers are still guarded with respect to their business outlook. In addition, some employees have been reluctant to make changes in their benefits in advance of the healthcare reform implementation.

In terms of relief of small businesses, if there is any recovery at all, it seems to be a jobless recovery. While there are several factors that we can't control we are driven to improve the factors that we can influence.

We continue to expand our marketing activities to maximize our future growth. With brand recognition at 94%, we continue to leverage our popularity to capture the attention of the consumers with the ultimate goal of driving sales.

I hope you have seen our newest commercials that portrays the Aflac duck as a policy holder and claimant. They have been very popular. We want to continue to educate consumers about our products while at the same time entertaining them.

Additionally, we evaluate and enhance our products to ensure that we are in step with the needs of the consumers, particularly in this economic landscape. We are also planning some aggressive new individual and group product launches.

With a strong brand recognition and reputation for paying claims quickly and fairly, we believe consumers will be more receptive to purchasing our products. As you know, a lot of changes are taking place in the US healthcare environment and we expect these changes to impact how people choose to purchase insurance going forward. We are spending a great deal of time ensuring that we are prepared to approach this change from a position of strength.

Our job is to be multifaceted in our distribution to make sure we have the presence where the consumer wants to purchase the products. There are different distribution possibilities we are working on from creating a private exchange, to expanding our reach through insurance brokers, to empowering our individual agents.

One thing we know from nearly four decades in Japan is that even with national healthcare system, consumers have significant out of pocket expenses and our products continue to be relevant in their needs. Although there will be more competition, we believe a national healthcare system in the US actually presents Aflac with opportunities as consumers become more aware of financial protection Aflac products help provide.

As I mentioned, first quarter sales comparisons are the most challenging of the year. We expect sales to be weighted more toward the latter half of the year. We believe it is reasonable it to expect Aflac US sales through our traditional and broker channels to be flat to up 5% for the year.

Having discussed our operations, let me give you an update on the investment function. We made excellent progress in the build out of our investment team and implementation of our investment strategy. I am pleased we do not have any major investment losses in the first quarter.

While we still view Europe as an area of investment risk I believe our portfolio is better positioned than ever to accommodate market volatility in the future. Also, we are optimistic in the future de-risking of our portfolio including the sale of 25% of our Tunisian bond holdings.

As we have stated for many years, our greatest investment challenge has been to invest Aflac significant cash flow at reasonable investment yields. The US corporate bond program initiated in July of last year continues to be an effective means for enhancing Aflac Japan's new money yields.

In addition to the attractive returns, we are pleased with the positive impact to our overall portfolio quality and liquidity. For the past two quarters we have invested roughly two thirds of our investment cash flows in US denominated, publicly traded, corporate bonds, and then hedged the currency risk.

At March 31 this program represented 8.7% of our total portfolio which is well below our strategic asset allocation range.

Additionally, as part of our investment strategy we said we would invest about one third of our cash flow in JGBs. However, with ten year JGB yields hitting historic lows we want to be flexible in our asset allocation. We anticipate that the bank of Japan will keep interest rates low for the immediate future. Our investment team is carefully monitoring Japan's monetary and fiscal policies, as we have seen significant changes impacting financial markets including Japan interest rates, and yen dollar exchange rates.

We are evaluating our investment options and looking for alternatives to lower our planned JGB new money investment allocation. We will consider diversification and liquidity as we approach these investment choices. As I mentioned, Aflac's consolidated financial performance was extremely strong for the quarter. Excluding the impact from foreign currency, operating earnings per diluted share rose 5.7% for the quarter.

I was also very pleased with the increasing strength of capital ratios which demonstrates our commitment to maintaining financial strength and flexibility on behalf of our policyholder's, shareholders and bondholder's. While we have not yet completed our statutory financial statements, we estimate our quarterly RBC ratio at March 31 was above our 2012 year end ratio of 630.

We believe Aflac Japan solvency margin ratio at March 31 will also improve over the year end 2012 level of 669. As we he have communicated, given the capital structure, our ability to repurchase shares is largely tied to profit repatriation.

In contemplating profit repatriation our first consideration is the safety of the policy holders as measured by the SMR. Next, we he consider the needs of the parent company and consult with Japan's management in making the determination.

We currently expect 2013 profit repatriation to be a bit higher than the 50 billion yen we communicated last quarter. This assumes we have no additional material investment losses between now and mid June when we file Aflac Japan's FSA based financial statements.

As we have said for many years, when it comes to deploying capital we still believe that the growing cash dividend and repurchasing our shares are the most attractive means and those are the avenues we will continue to pursue. Our objective is to grow the dividend at a rate that is in line with earnings per share growth before the impact of the yen.

We had a lot of flexibility at the parent company in terms of liquidity. Given liquidity, and the strength of our capital ratios, we plan to purchase $400 million to $600 million of our shares in 2013.

We are already off to a great start with our share repurchase plans for the year. In the first quarter we purchased approximately 3 million shares or about $150 million. I think this shows we are even more comfortable with this range.

Additionally, we expect to accelerate our share repurchase in 2014. Maintaining strong capital levels remains a priority for us. At the same time, generating an industry leading return on equity, excluding the yen impact, is also extremely important to us and to our owners.

Accordingly, the compensation committee of the Aflac's board of directors made a decision to include operating ROE as a component of the bonus structure for Aflac senior management effective this year. On an operating basis, our first quarter ROE was 23.4%.

Keep in mind our ROE is sensitive to currency fluctuations because we have largely hedged equity into dollars but not all of our earnings. This means when the yen weakens our ROE declines. Had the yen remained unchanged since the end of the year, our operating ROE would have been 26.1%.

So even with the weaker yen, I think it is still reasonable to expect our operating ROE to range between 20% and 25% for 2013. In yesterday's release, we reaffirmed our 2013 guidance of 4% to 7% increase in operating earnings per share excluding the impact of currency.

This range reflects the impact of investing significant cash flows at historically low interest rates. I would also remind you that our 2012 earnings were better than expected. Although the yen is significantly weaker to the dollar, the fundamentals of our business and our operations are strong.

Overall, I am pleased with Aflac's position in Japan and the United States, the two largest insurance markets in the world, and first and foremost we are focused on protecting our policyholder's and providing value to our investors. We are fortunate that in the process of doing so we have the privilege of providing financial protection to more than 50 million people worldwide. Now, I will turn the program over to Robin.

Thanks, Dan. Let me go through you first quarter numbers starting with Aflac Japan. Beginning with top line, revenues up 9.7% for the quarter excluding the effect of the weaker yen in the quarter revenues were up 8.4%. The annualized persistency rate excluding annuities in the quarter was strong at 95.0% compared with 94.5% last year.

Net investment income increased 7.3%. Excluding the benefit of the weaker yen in the quarter on Aflac Japan's dollar denominated investment income, net investment income rose 1.2%. In terms of quarterly operating ratios, the benefit ratio to total premiums increased over last year going from 71.5% a year-ago to 72.4% in the first quarter, primarily caused by the growth of the net benefit reserves for our ordinary life line of products, most notably WAYS. The expense ratio for the quarter was 17.1%,down from 18.1% a year-ago.

The expense ratio was impacted primarily by lower net commissions associated with the sale of the life product lines. As a result of the lower expense ratios, the pretax profit margin rose slightly from 21.3% to 21.5% in the quarter.

Turning to Aflac US, total revenues rose 3.9% in the first quarter. The benefit ratio to total premium decreased over last year going from 55.1% a year ago, to 54% in the first quarter. This was generally in line with normal seasonality effects during the quarter.

The annualized persistency rate for the first three months was strong but stable at 74.7%. No change from last year's results. The expense ratio for the quarter was up 32.5%, up from 31.4% a year ago and is in line with normal first quarter activity. The profit margin for the quarter was relatively unchanged at 19.5% compared to 19.6% a year ago.

Turning to investment activity for the quarter, starting with Aflac Japan, approximately $1.8 billion of Aflac Japan's new cash flow was invested in the corporate bond program for gross yield of 3.72% and an annualized hedge cost of 30 basis points. The yield net of hedging costs was 3.42%. This brings the total cash flow invested in the corporate bond program to approximately $8.8 billion.

The total yield on the corporate bond program of 3.41% excluding hedge costs. Approximately 30% of our new cash flow for the quarter was invested in JGB's with an average yield of 1.53%. The new money yield for the quarter, all in, was 3.03% an increase of 30 basis points from the fourth quarter and up 100 basis points from a year ago.

The yield on the portfolio at the end of March was up 3.01%, up 14 basis points from the fourth quarter and 17 basis points lower than a year ago. In terms of US investments, the new money yield for the quarter was 3.69% an increase of 17 basis points from the fourth quarter and the yield on the portfolio at the end March was 6.19%, down 16 basis points from the fourth quarter and 42 basis points from a year ago.

Turning to some other items in the quarter - non-insurance interest expense was $48 million compared to $44 million a year ago. On an operating basis the tax rate decreased from 34.7% a year ago to 34.4%. The weaker yen decreased operating earnings by $0.15 per diluted share for the quarter.

Excluding the yen's impact, operating earnings per diluted share increased 5.7% for the quarter. Operating ROE's reported for the quarter was 23.4% excluding the impact of the yen, operating ROE for the quarter was 26.1%. As you heard Dan mention earlier we plan to repatriate more than 50 billion yen in 2013.

In anticipation of our profit repatriation this year and considering the current market conditions, we have entered into derivative contracts to hedge the majority of our profit repatriation this year against the potential further weakening of the yen.

Also, as part of the continual refinement in our pricing methodology for our investment portfolio, where we have a large number of privately issued securities, we have elected to move from an internal modeling method for assessment and valuation of these securities to an outside vendor. As a result of this change, and market conditions during the quarter, shareholders equity declined by approximately $582 million from December 31.

Lastly, let me comment on our earnings outlook for 2013 and our upcoming analyst meeting. You heard us affirm our objective to increase operating EPS 4% to 7% this year excluding the impact of the yen. If the yen averages 95 to 100 for the full year, we would expect to report operating EPS of $5.99 to $6.37 per diluted share for the full year.

For the second quarter, using the same currency assumptions, we would expect operating earnings to be in the range of $1.41 to $1.56 per diluted share.

Now, let me take a few moments to remind you that our annual analyst meeting will be held in New York on May 22. We have given careful consideration and thought to our policy of providing earnings guidance at the analyst's meeting. As we look at our disclosure practices, we have made a modification to the way we will discuss our earnings targets. We concluded that it is in the best interest of our company and our shareholders to provide earnings guidance in the third quarter for the following year rather than projecting earnings a year and a half out as we have previously done over the past several years.

We do not expect the earnings growth to be materially different than what we see for 2013. We simply feel it is better for us to take the additional five months to gather more data that influences our business before we put out an estimate. This will also more closely align our financial modeling with our budgeting process.

So at the analyst's meeting next month we won't comment on 2014 earnings expectations. However, we will discuss our operations in great detail and update you on opportunities to grow our business in 2014 and beyond. Please don't forget to register if you would like to attend and now we will get back to this quarter and we would be happy to take your questions.

To be fair to everybody, please limit your questions to one and one follow-up that closely relates to your initial questions. We may begin.

Thank you. At this time we are ready to begin the question and answer session. (Operator Instructions). Our first question from Chris Giovanni, of Goldman Sachs. Your line is open.

Thanks so much. First question with currency and the impact of the yen moving all over the place, have you guys given consideration to hedging and the earnings of the company and just the thought process around that?

Chris, this is Ken. Let me start with that. This has been an issue as long as we've been in Japan as Japan has grown to be a larger portion of our business it obviously has affected the sensitivity of earnings to currency changes. The one thing I would remind you is that there is a distinct difference between foreign currency transactions and foreign currency translation.

We are certainly interested, as Robin indicated, in hedging economic events, like capital being remitted from Japan to the United States, but we don't think it makes sense to enter into an economic contract to hedge a financial reporting event. Largely, Japan is a yen denominated entity that is self-funded. We collect premiums in yen and pay benefits and expenses in yen. We back our yen liabilities with yen assets. But the degree that this year's yen rate differs from last year's influences how those yen get reported in dollars. We we think about hedging we are really focused on the economics of the business as opposed to financial reporting of the business.

Okay. Thank you. And then one question, maybe, for Paul. If the healthcare reform opportunity that you guys are pointing to a bit here doesn't take shape by the end of the year, that is 0% to 5% sales growth target, where would that possibly shift to?

Well, there have obviously been certain things have been delayed within the healthcare reform package. Questions about when exchange implementation will occur, and whether it will be 2014 or 2015. Obviously being the preceding fourth quarter open enrollment period to either of those dates that would have the largest effect.

That said, one of the things we been highly focused on is work within the broker market, continuing to have our field force work with brokers, continuing to succeed at the upper end of the broker market, and growing that business. One of the reasons that we knew that we would see sales be weaker in the first half of the year was not just the comparisons but it was also the continued work within that market where we expect to see more fourth quarter enrollments with or without healthcare reform.

So my overall assessment at this point is that even given the current environment and the information that we are knowledgeable about today, that we still believe we will be within that 0% to 5% growth target for 2013. That said, issues and things continue to arise and we cannot predict what those are going to be. We watch HHS and other groups as well as what is happening at 50 different state governments on a daily and weekly basis about what they are doing to implement healthcare reform.

Our sales force continues to be out focused on opening new groups and continuing to try and enroll in the marketplace but as Dan said with a somewhat jobless recovery there have been minor headwind's. All of those different factors play into everything that we are trying to do while we are simultaneously also implementing our new training system which in effect had a downturn in the recruiting in Q1, which was planned by us. In reality, I think that we are headed toward 0% to 5%, but a lot of things we are having to balance at this point.

Thank you very much.

Our next question comes from Tom Gallagher, of Credit Suisse. Your line is open.

Good morning. Just one quick follow-up on the hedging and then an earnings question. Ken, just to follow-up on that question. So I think you have hedged probably using three months currency type of hedge because you mentioned the June repatriation amount has been hedged. Have you guys considered, especially given Dan's comments about accelerating buy back in 2014, has there been consideration to hedging expected repatriation amount for next year as well or beyond?

Tom, we have. You know, again, we have entered into a series of contracts. Our anticipated profit transfer for 2013 will really be toward the latter part of July, right around the time we release second quarter earnings. We should be able to give you a better idea of what that number is in a few weeks when we conduct the analysts meeting, but again we have undertaken a series of transactions to hedge a significant is portion of this years anticipated repatriation, and we are looking at what is available to our disposal and what makes economic sense for us for 2014. We are fine tuning those estimates and would hope to give you a range of estimates at the analyst meeting about what repatriation in 2014 would look like as well.

That is helpful. Dan, just a question about the decision to push out 2014 earnings guidance. Should we be reading into that partly driven by the uncertainty with a very large decline in WAYS sales? I guess my main question is, does the change in what you expect from WAYS, do you think that is going have a potential impact on what I think you have is been saying previously leading up to this point, you would expect a slow steady earnings growth recovery trajectory over the next several years?

Kriss just told me he wants to answer. Let me say one thing. One of the reasons that I want to do it next year is because I don't think it is going to be significant. I want to do something in a year when it is uneventful. And I think what we have given you guidance for hasn't changed that dramatically.

Yeah, Tom, let me just follow up on that. It is not that we are not the going to give you guidance. We are going to give you guidance relative to the key components of the models you guys independently develop to estimate our EPS.

That is, we are going to give you long-term outlooks two to three year outlooks for Japan ratios, Japan margins, US ratios, US margins, and that will give you a good basis for populating your models for the operating results. What we are trying to avoid is some of the noise, the favorable or unfavorable tax settlements that might impact the change in EPS and things like that that we have a hard time seeing 18 to 20 months in advance.

We have been talking about this for several years on the advice of SEC counsel and what you do in terms of going on the line for long-term projections and so what we have decided is to focus more on giving you solid guidance on what we can best predict, and let you reach your own conclusions about some of the things that are not quite as predictable. I'm going to show you what I told you last year at FAB relative to Japan operating ratios and reconcile them to our actual results and update them for another year or so. And so you will get that kind of guidance but you are just not going to get the specific EPS prediction.

And Tom, to be specific, last year at this time we didn't know we were going to have those additional profits that would come in. All of a sudden they came in and we did better than what we thought in 2012. We had also given you guidance for 2013 which ramped up the pressure on us in 2013. So we like to be able to see it. So that it was the positive things that happened last year that really drove this to want us to wait a little bit longer in doing it and then the SEC attorneys as well.

Understood. Thanks, guys.

Our next question comes from Mark Finkelstein, of Evercore Partners. Your line is open.

Good morning. A couple of questions. Firstly, can you talk about the philosophy of repatriation going forward? Historically you looked at FSA earnings, maybe 80 percentage of those. Now, you are in a situation where the yen has weakened considerably, that has capital impacts. How should we think about the interplay of FSA earnings, capital level, SMR ratios and repatriation?

Mark, this is Ken. Let me start with this. Dan, Kriss, or Tohru might want to join in and add something. Clearly, we are in the business of making commitments to customers and foremost on our mind is that we can fulfill the obligations to policyholder's and we have to protect their interests. That regard their protection really is measured by Japan's capital requirements.

In other words, the solvency margin ratio is critical. We do a lot of work around the solvency margin ratio itself. Protecting the ratio and stress testing the ratio in both relatively mild scenarios as well as very extreme scenarios to understand what risks there are to those ratios.

As we have discussed in the past, unlike the RBC ratio that we also have interest rate risk to the SMR in Japan because a portion of the portfolio is mark to market for FSA reporting whereas RBC does not do that. And in both ratios, SMR as well, this is currency risk because we have a fairly significant un-hedged dollar position in the dollar portfolio that we have had for more than 20 years.

The analysis is around making sure that our SMR is healthy enough to protect our customers and accommodate risks. Once we have comfort with that we do look at our FSA based earnings as a guide.

As you point out, generally we have looked at rule of thumb of pulling ought 80% of FSA earnings and that would be FSA net income to include operating results as well as realized investment gains or losses. And then we will simply look at what the parent company's needs are, liquidity needs, and we will deliberate internally as well with our management in Japan, and come up with a recommendation and agreement on what will repatriate. And that is basically how we have done it for some time. We will give you more insight into the exact numbers in just a few weeks but that is really the process.

Okay. And then just on the Japan margin which was I think stronger than most people had expected. How should we think about that going forward? And how would you characterize what we saw in the quarter particularly on the expense side?

I will handle that. I will say our margins have been typically a bit higher in the first quarter than in the latter part of the year partly because on the Japan side, and to the US side to some extent, later in the year we have some benefit true ups and stuff like that on accounting adjustments that we are committed to because of our SOX process. The first quarter is usually a favorable morbidity quarter and a lack of extraneous adjustments.

Over the last several years our Japan margin has been higher in the first quarter than it has been throughout the year. The other thing is, we tend to be heavily oriented toward expenses being incurred in the latter part of the year. We usually start the year somewhat cautiously on expenses and as we gain confidence that we are achieving the plans we have loosened the reins on expenses to the extent we can so expense ratios tend to be a bit lower in the first quarter than the latter part of the year.

So I'm just saying overall our margins tend to be a little bit higher in the first part of the year than the latter part of the year. But part of that is management oriented. I would say my take on this quarter was that it was a favorable quarter meaning that it was in line with expectations.

As I mentioned in an earlier response I'm going to give you a reconciliation at FAB on the guidance we gave you on ratios as far as benefits and expenses and the like last May and tell you how that came out in 2012 and then in the first quarter of 2013 I will say on Japan our benefit ratio was maybe on the high end of the forecast because we produced more WAYS relative to third sector health in the latter part of 2012 and 2013 so the benefit ratios were a bit higher than my forecast but the expense margins were a bit lower and the profit margin came in right in the middle of the range. So I consider that to be a favorable outcome.

Okay. Thank you.

Our next question does come from Jay Gelb, of Barclays. Your line is open.

Thank you. I just wanted to follow up on the 2014 outlook. I wanted to clarify Robin's comment. It seemed as if you said that the pace of earnings growth in 2014 could be similar to that of 2013. So I'm assuming that the 4% to 7% is excluding the impact of the yen?

This is Ken, Jay. We are not going to go that far. But I know you see this in your model. The vast majority of our revenues are known at January 1 of each year given the significant persistency of Japan's in force block, the stable and recently improving persistency of the US block, the investment income combined with the predictability of our expenses and benefits.

It is not catalyst type of story. You see fairly consistent results emerge over long periods of time and I think that is what Robin was referring to. Again, we don't want to get into a specific range but her comment really is suggesting that we don't expect a material change upward or downward in earnings trajectory for next year. We're just going to give ourselves a bit more time to fine tune those estimates for 2014.

I see, okay. And then on the Japan sales, if WAYS sales starting in Q2 could be down 40% to 60% I had a little trouble getting to flat to up 5%.

Flat to up was only dealing with third sector. And remember down 40% to 60% is just for April. But I think that trend may improve a little bit because always April is going to be with the rate increase going into effect. But the flat to up 5 was only for third sector.

Okay. And the down 46?

Tohru do you want to make a comment?

We are trying to achieve the 0% to 5% increase in the sales sub-sector of cancer and medical combined and at this point we expect a significant decline in the sales with the WAYS and the going forward. Not as much as the decrease in April because April is the month right after the rate increase. So many people came to us trying to buy this product before the rate increase in March so as a reaction to that we will see a very quiet April. But later in the year that situation will be improved a little bit but still we expect a difficult year in terms of sales of the WAYS product.

Paul and I heard the presentation on a new advertising campaign we are holding toward the end of the third quarter and fourth quarter and I think you are going to see sales results more in line with 2009 where we came on very strong in the fourth quarter and so I'm very excited about what Aflac Japan showed both of us. So that is very encouraging.

I want to further add that just because the sale of WAYS is off doesn't necessarily translate into profits. Actually, it could result in some profit improvement. I talked a little bit on the last couple of calls about the impact of selling a higher volume of business at a lower margin, the converse is true, too. If you sell a lower volume of high margin business, it tends to offset. And then you have got the impact of higher level of non-deferrable costs both on a US GAAP basis as well as on a regulatory basis and that improves our regulatory financial results profit wise. So lower volumes of WAYS is not necessarily negative for profit expectations.

Profit repatriation.

Right.

Makes sense. Thanks very much.

Our next question comes from Jeff Schuman, of KBW. Your line is open.

Back to the issue of capital build and repatriation and see if we can get perspective from a different angle. Granted, you have to be sensitive to is SMR and the FSA earnings but it is sort of fascinating to look at the statutory capital. I mean your statutory operating earnings of $2.9 billion in 2011, $3.3 billion in 2012, and then I have to assume in 2013 given that the business is bigger and you may have less capital strain on new business that the number continues to go up.

I think you probably need to retain half a billion dollars a year to fund growth. It just seems like you are destined to have this enormous statutory capital build and I'm wondering if that is inevitable and you continue to be governed by the FSA constraints for the next few years or how we think about what appears to be this destiny for enormous statutory capital build.

Jeff, if is Ken again. It's long been the case that the real source of our free cash flow is profit repatriation from Japan and as we discussed last year at the analysts meeting the US has been saddled from a cash standpoint with additional tax payments to the US treasury because of the significant de-risking that occurred in the Japanese portfolio which simply shifts the US tax burden as US tax fired Aflac US as well.

The US is responsible for all of the interest expense on the debt at the parent company level. So when you are thinking about, at least until we see more normalcy, and I think we are getting to that point because the losses have really been diminished recently, and to the extent that we don't have realized investment losses in Japan, you don't see that tax burden hurting the US segment as much. So we are starting to see more normalcy there but it is fair that the constraint for cash flow largely is the is SMR and Japan's ability to repatriate capital.

There is certainly the case, during the periods of extraordinary growth that you have just had, but at some point don't all accounting systems sort of converge? And does that difference sort of... Do get my point?

They do but it takes time. You know, if you close the block it would happen more quickly.

I had that problem when I first became CEO. We had that issue people we couldn't get money out of Japan they thought but it was because of the conservatism and the way they viewed it on an SMR basis. But once it hit the maximum it then took off. And the normalcy here is coming back and I think over the next few years you're going to see it go back assuming we don't have any more measure losses. And we don't foresee them in the future although we continue to be cautiously optimistic.

Okay. Thank you very much.

Our next question does come from Eric Bass of Citigroup. Your line is open.

Thank you. Can you provide an update on expected margins on new sales by different products following the re-pricing? Given where you are investing new money today?

Yeah, it jumps the gun a little bit on our FAB presentation but I anticipated that someone would ask a question about the margin on the re-price business. For the business we are currently selling after the April 2 effective date on the re-pricing and with the discounted advance premium rate at 1% on business written with that we anticipate that at a lifetime of the product net investment yield rate of 2% our profit margin as a percent of premium would be in the 15% to 20% range. Our ROE would be about 16%.

If you say okay the net investment yield is going to be 2.5% life of the product kind of thing you get up into the mid 20%'s. The range I'm going show you is probably close from 22% to 30% and ROE close to 22%. I will let you reach some conclusions about where the appropriate number for net investment yield over the life of the product is going to be but those are the ranges I'm going to show you at FAB meeting in May.

Okay. Thanks. That's helpful and then just maybe one follow-up on the new money yield. You did see an increase in Japan pretty dramatically from the fourth quarter to the first and wondering since you are investing sort of the same mix between JGBs and US corporate, what it was on the US corporate side that allowed you to get higher new money yields and if you changed anything either in the duration of securities you're buying or the credit level?

Hi, it's Eric Kirsch. Nothing really has changed about the guidelines of the program. It is a longer duration corporate bond portfolio about 10 to 12 years typically or 11 years on average. I think if you look at the fourth quarter to the first quarter within the US corporate bond market, by and large, yields have gone up during the first quarter though there was some spread compression, but there was a steepness to the credit curve particularly in the fourth quarter.

So we did pick up some additional spread because we are focused on the longer end but by and large the yields we've invested in have been kind of in the area that we expected plus or minus ten or so basis points. So did we get a little bit of pickup in the first quarter just from the shape of the credit curve in general.

Okay. Thank you.

Our next question comes from Steven Schwartz, of Raymond James and Associates. Your line is open.

Hey, good morning, everybody. Before I ask my own question I do want to follow up on one thing. Ken, at the beginning when Tom asked his question I was unclear, are you looking at hedging 2014 profit repatriation very early in the year?

We are looking at our options to do so right now.

Okay. Then, if I may, Kriss, looking at margins, could you give us a sense of maybe what the margin was on the first sector product that was sold in the first quarter given that you got a higher rate through the corporate debt program but you didn't have the rate increases in yet.

That's correct. It probably would be more in that 15 to 20 zone than in the higher numbers I quoted. But keep in mind for the WAYS business with the discounted advance premium we still did have the 50 basis point rate in effect for that business up through the April 1 switch date. So the initiatives we took to improve profitability on new business that we took during 2012 carried over into the first quarter of 2013 and I think it pretty conservative life of the block assumptions for net investment yield rates you would get at least 15 to 20 on the first sector business you wrote.

And then for Paul, two things here. Paul, you talked about, kind of, alternative distribution maybe participate in private exchanges, what have you. I didn't hear anything about going over the internet, maybe going over portals like e-health and things like that that may be connecting to the exchanges.

And I'm also interested, you have through your sales force probably an unparalleled look into the spending plan, the health spending plans of small employers. Are you hearing anything from your sales force to suggest that significant amounts of employers will be dumping their major medical plans and maybe in association with that dumping their supplemental health plans as well? Dumping is a bad word, exiting.

A whole bunch in that. Let me get started. First of all, we view the exchanges as an opportunity not to be necessarily an online enrollment tool where we are selling directly over the internet but instead as a direct tool to enhance our sales force to go to market and allow them to further their strength in the small business market.

We are building our own private proprietary exchange where we will be partnering with certain companies of which we believe it is going to allow our sales force to really strengthen their hold on the accounts that they have as well as continue to grow their accounts in the small business market. So I believe the exchange is a win for our sales team as opposed to being an online sale.

In terms of participating in online only enrollments there are aspects that we may test but today there continues to be large adverse selection around that type of sale as well as with increased competition in that marketplace we know that there is going to be a drive toward limited profitability and we want to do everything we can to maintain the margins on our profits and by selling through our own private exchange we believe we maximize the ability to sell with higher margins and maintain those ratios. And at the same time, obviously, help our sales force. On the latter half of your question around healthcare cost increases.

Paul, it wasn't healthcare cost increases. It was the idea that employers may take advantage of the existence of the exchanges to basically tell employees, look, instead of me providing this here is some money and you go get it.

I understand. I'm sorry about that. There is a technology that is going to allow us within our exchange called I-Frame. Whether the employer chooses to or not to push employees out to the exchange will be able to actually enroll at the work site whether they do that or not.

We can actually pull up the state or federal exchange through our enrollment technology through this technology called I-Frame and therefore we believe we can persuade the business to allow even if they want to push their people out in order to qualify for the subsidy we can help them do that.

At the same time we believe that the implementation of subsidies is going to go in a very slow manner. We believe that it is going to happen on a state by state basis depending upon their current fiscal environment and we believe there will be a very inconsistent roll out of exchanges.

Not a political view. A straight financial view on what is going to happen so we are monitoring this with the knowledge it is going to be a highly complex environment that what is happening in California versus Iowa versus Alabama may be drastically different and therefore will have an impact on how the local businesses decide what percentage of their people to push out to the market.

We do know that the only place in the United States where we have a test market about that is the state of Massachusetts. Today, only 6% of businesses actually pushed their employees out to the open exchange as opposed to Mackenzie who has gone out and said it could be as much as 40%. We believe it's going to be on the lower end. In America there continues to be a war on talent where small businesses more than ever value their employees not only are recruiting them but retaining them.

Health benefits is something they will want to continue to offer. To the extent that we can partner with America's small businesses to leverage the exchange but also bring Aflac's products and other companies products to the table we believe we can continue to do extremely well.

Thank you. Hopefully we will hear about this I-Frame next month?

You will now.

The next question comes from Yaron Kinar, of Deutsche Bank. Your line is open.

Good morning, thank you. Could we talk a little about the individual and independent agencies in Japan? It seems like the number of those agencies is coming down and productivity is going up. Is the productivity increase simply due to weeding out the under performers, or is there more going on there?

Yes, I'll take that question. The decline in the number of the individual agencies is in accordance with our plan. We have been shifting focus from recruiting a large number of individual agents towards putting more resources to the training of the existing recruited agents. And also, in the three large metropolitan areas, namely Tokyo, Osaka, and Nagoya, we have created a network of a group of visiting sales force employed by Aflac.

So instead of hiring a large number of individuals in that area, we are hiring a selected number of more professionally trained people so that they can make sales more efficiently than the newly recruited individuals. Yes, the number of recruits has been decreased substantially but this is in line with what we have planned.

Okay. On the investment side, as your exploring alternatives to the JGB's, could you walk us through some of the alternatives you're thinking about, or maybe the framework that you're using in order to look at these alternatives?

Sure, be happy to. First, I think it's important to put it into perspective. The JGB allocation for us is 25% to 30% of our new money and on April 4th or 5th, after the new BOJ policy came out, yields fell precipitously. They've also come back up very strongly as well. They're lower than they were at the beginning of the year. Even if we followed our JGB allocation for the rest of the year, relative to our new money yield objectives, it would impact it by about 5 basis point. It's not a huge differential, nevertheless, we do consider, do we want to lock-up 20 year or 30 year money at these low yields given their historic lows.

Our viewpoint is there is a good chance there will be success in Japan. Sometime in the future, whether it's a year out or two, interest rates will eventually rise. So, keep that framework in mind. So, our objective is within that 25% or so, is there some alternatives that we could be comfortable with, will outperform those yields, but not necessarily lock us up for 20 to 30 years.

As an example, we could take a look at a short term corporate bond program hedge back to yen where we could take advantage of good quality corporate bonds in the US, shorter durations and maturities will probably pick up 40 or 50 basis points over those JGB yields. And because the duration of those corporate would be shorter, they'll be subject to less price sensitivity then say, our long corporate bonds. So if a year or two from now JGB yields should go up and we think we need to adjust the allocation at that time, we'll have some flexibility as well.

We haven't reached any conclusions, we think it's critical we follow what's happening on the monetary and fiscal side in Japan and always reflect on that. But it's not going to be a huge difference ultimately to our yields for this year when you do the math and settle that down. Everything will be caught up in perspective.

Thank you very much. We've reached the top of the hour and if you have any more questions, please give us a call. Tom and myself will be in the office and if not, please make sure that you sign up for our FAB meeting and we look forward to seeing you there. Thank you.

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