美國家庭壽險 (AFL) 2014 Q3 法說會逐字稿

Welcome to the Aflac third quarter earnings conference call.

(Operator Instructions)

Please be advised today's conference is being recorded.

I would now like to turn the call over to Ms. Robin Wilkey, Senior Vice President of Aflac Investor and Rating Agency Relations. You may begin.

Thank you, and good morning.

Welcome to our 3rd quarter call. Joining us this morning is Dan Amos, Chairman and CEO; Kriss Cloninger, President and CFO; Ken Janke, Executive Vice President and Deputy CFO of Aflac Incorporated; Teresa White, President of Aflac US, Eric Kirsch, Executive Vice President and Global Chief Investment Officer. Also joining us today from Tokyo are Paul Amos, president of Aflac, and Tohru Tonoike, president and COO of Aflac Japan.

Before we start, let me remind you that some statements in the teleconference are forward-looking within the meaning 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 discussed today. We encourage you to look at our quarterly release for some of the various risk factors that could materially impact our results.

Now I will turn the program over to Dan, who will begin this morning with some brief comments about the quarter and our operations in Japan and the Us, and then Ken will provide further details about our activities in the quarter and our EPS guidance.

Dan?

Good morning, and thank you for joining us.

Let me start by saying I am very pleased with Aflac's financial performance of the 3rd quarter and for the first nine months of the year. I am even more pleased that our financial strength is allowing us to deploy more capital to our shareholders. We met, and in many cases exceeded, our financial targets for the 3rd quarter.

Notably, with nine months under the belt, we are well-positioned to increase operating earnings per share by 3% to 4% for the year before the effect of currency. At the same time, we continue to anticipate operating return on equity will be strong, and exceed 20% excluding currency.

Now I would like to comment on our operations, starting with Aflac Japan, our largest earnings contributor. Although third sector sales were down in the quarter, we like the initial results we have seen so far in October, which are up 20%. As we previously communicated, we anticipated third sector sales for the full year will come at the low level of the expectations of 2% to 7% increase. While 4th quarter comparisons will be challenging, we continue to enhance our distribution opportunities and offer in Japan, which I believe will benefit our sales.

On the distribution side, I am very happy with expansion of Aflac Japan's alliance with Japan Post. This strategic partnership brings together Japan Post, the largest nationwide distribution network in Japan, with Aflac Japan, the industry leader in cancer insurance. As many of you heard at the analyst meeting in Tokyo last month, Taizo Nishimuro, President and CEO of Japan Post Holding, announced expansion of the postal outlets selling our cancer products, effective October 1st. We will move from 3000 to 10,000 postal outlets.

We also talked about their plans to increase the number of post office selling Aflac cancer products to 20,000 by the end of 2015. I think both Aflac Japan and Japan Post can enhance their synergies by working together to provide cancer products to large groups of consumers who regularly turn to the postal outlets to help their insurance needs.

Turning to products, as the pioneer of cancer insurance in Japan, I am excited about our two newest cancer policy offerings. On October 1st, Aflac Japan introduced a cancer product for the sale exclusively for Japan Post and Kampo. This new cancer product was designed to provide essential cancer-related benefits. It also complements the insurance coverage that is available through our products that Japan Post already offers.

On September the 22nd, we introduced another new cancer insurance product available for sale through all of our distribution channels. This new cancer product provides enhanced coverage, including additional outpatient benefits and treatments, multiple cancer occurness benefits, while offering better pricing at many age groups.

Turning to Aflac US, I am very excited about the changes that we've made in our management infrastructure. You will recall the following a thorough evaluation of the market and our business model, we told you that we were going to be laser focused on implementing a number of tactical initiatives designed to improve US sales, and that is exactly what we have been working on. These initiatives, which were effective October 1st, are primarily geared to our sales force. They center around competitive compensation that more closely tied the corporate goals and better performance management capabilities.

We had expected short-term disruption in the 3rd quarter as a result of these changes. But things went very smoothly and Aflac US sales were relatively flat in the quarter, just down 0.6%. These new sales initiatives have generated excitement, both at the career channel side and the broker side. Although it can tend to take a period of time for the sales results to follow the initiatives, I can already see that we are making progress, and this tells me that we are on the right path.

Last quarter, you will remember we thought sales for the letter half of the year would be down 4% to down 8%. However, with sales in the 3rd quarter essentially being flat, we now believe sales for the second half of the year will be positive, which means sales for the full year will likely be in the range of down 2% to 4%. While I am not happy with the prospects of sales being down for the full year, I believe we're heading in the right direction. And I expect to see an increase in fourth quarter sales.

We're also working on ways to extend our sales momentum in 2015. Let me just say that I feel better about the opportunities in the US and Japan and our ability to effectively execute on our sales strategies over the next year.

I also understand the importance of returning capital to our shareholders. While Ken will provide you more details, I want you to know that I am pleased with the action of the Board of Directors to increase the quarterly cash dividend by 5.4%, effective with the 4th quarter of 2014. This marks the 32nd consecutive year of increasing our cash dividend.

I also believe that we have listened to our owners and understand the importance of growing our cash dividend and our share repurchase amounts. Our capital strength has given us the confidence to increase our 2014 share repurchase objective from $1 billion to $1.2 billion of our common stock. Additionally, it is our current plan to repurchase $1.3 billion of common stock in 2015.

Let me leave you with this thought. You have already heard me say that my job is a balance of interest of all stakeholders. I think we did a good job for that this year, just as we have in the past. And I believe we are going to do it again next year by delivering on our promises to our policy-holders and returning significant capital to our owners.

Now I will turn the program over to Ken. Ken?

Thank you, Dan. Good morning everybody.

I would like to give you a little more background into our forecast, and the assumptions we have used to set our 2015 earnings objective, but first, let me begin with just a brief recap of 2014 and how that relates to the initial guidance we set for this year.

You may recall that a year ago, we established the 2014 objective of increasing operating earnings per diluted share by 2% to 5%, on a currency neutral basis. At that time, we identified several headwinds that influenced the establishment of our earnings guidance.

Frankly, based on those headwinds and other forecasting assumptions, which tend to be conservative, we would have not been surprised if this year's full-year earnings would have been toward the lower end of the 2% to 5% range. However, as the year progressed, some favorable trends emerged.

Our benefit ratios in Japan and United States have been better than expected. And in addition, our consolidated operating tax rate has been lower then we initially projected. As a result of those favorable developments, we narrowed our earnings objective in July. Based on the financial performance for the first half of the year, we no longer felt the low end of the range was a reasonable expectation.

However, we anticipated that benefit ratios would be higher in the second half of this year for both the US and in Japan, and we also expected expenses to be higher for the last six months of the year, particularly in the 4th quarter. As a result, we reset the full-year earnings objective to 3% to 4% in July.

Although operating earnings per diluted share excluding currency have increased 5.4% for the first nine months, we continue to believe the 3% to 4% range is a likely outcome for 2014. The reason is that we still expect to see higher benefit ratios in the 4th quarter and expenses will be higher as well. It is especially the case in the United States, as we begin to absorb the cost of the change that we made to the US market director position.

As we indicated in our press release last night, we have established an objective for 2015, of increasing operating earnings per diluted share, 2% to 7% on a currency neutral basis. I would first note that our earnings objective is predicated on 2014 earnings per share increasing 3% to 4% before currency.

Because we express our objective as growth rate, our guidance is influenced by the rate at which we grow earnings in 2014. In short, faster growth this year somewhat challenges growth rates in the following year. For our two reporting segments, we continue to anticipate the type of operating stability that you've come to expect from our business.

At Aflac Japan, we currently expect to see operating ratios that are consistent with the three-year average ratios that Chris presented to you in May. With first sector business accounting for a higher percentage of enforced premiums in 2015, we expect to see a higher benefit ratio next year, compared with this year. However, it will still be in the 62 to 64% range we previously provided.

We expect the operating expense ratio to be fairly stable, to a bit lower next year. As a result, we expect the margin for Aflac Japan to be somewhat lower than it is this year. But again, well within the stated range for our expectations.

For Aflac US, we also expect to see operating ratios in 2015 that reflect the stable and predictable nature of our business. We are assuming that the benefit ratio will be higher next year than our full projection for 2014. However, even with an increase in the ratio, we still expect it to be at the low end of the 50% to 52% range we communicated in May.

We expect the expense ratio, on the other hand, to be above our estimated range for next year. As we discussed in July, we made significant changes to the structure of our sales force, and those changes impact our expenses.

I would note that we are maintaining very good budget discipline in the US segment. And if not for the field force changes, our expense ratio would be at the low end of the range next year. We currently anticipate that the US pretax profit margin will be toward the middle of the range we provided in May.

I point out that while we have a very large block of stable and predictable business, we clearly don't have a crystal ball, and there are many assumptions we need to make when setting an earnings objective. It has always been our practice to use realistic, yet conservative assumptions. And given the conservative assumptions I just reviewed, I think a starting point for next year is to assume that operating earnings per share may grow toward the lower end of the 2% to 7% range, excluding currency.

However, just like 2014 and in years past, it certainly is possible that we could see earnings emerge more favorably as the year progresses. For instance, benefit ratios may not rise as much as we are currently assuming.

Clearly the ongoing challenge we face for the last couple of years has been generating better revenue growth through new sales in both markets, as well as dealing with the low interest-rate environment. As you heard from Dan, we believe the activities we're undertaking in both segments will help produce better sales in the future.

But improving sales is a process; it's not an event. And the results from these activities don't happen overnight. Additionally, as you likely know, it takes time for sales to be reflected earned premium and earnings. In the meantime, I do want to emphasize that the underlying nature of our business remains very sound, stable and profitable.

Next, I would like to briefly comment on our sensitivity to the Yen/Dollar exchange rate. Although Aflac Japan makes up about 75% of our consolidated insurance earnings, about 50% of our total company earnings come from dollar sources. As we have done in the past, when we release fourth quarter earnings, we will provide you with our expected currency sensitivities to per share earnings for 2015. In the meantime, we do believe our earnings will be a bit less sensitive to the weaker Yen next year than they have been in the past.

I think it is also noteworthy that our consolidated GAAP equity is not significantly exposed to foreign currency risk. For instance, although the Yen weakened 7.4% from the end of June to the end of September, our consolidated GAAP equity, excluding unrealized investment gains, declined only 1.1%. One of our key objectives is to insulate shareholders' equity from currency fluctuations.

Finally, we are very pleased that our balance sheet remains strong, and that our capital ratios exceed our minimum targets. You will recall from our comments at our analyst meeting in May and in September, that we expect profit repatriation to be in the range of JPY110 to JPY150 billion for 2015. Based on our current forecast of the FSA financials and the solvency margin ratio, as well as our most recent reinsurance transaction, we now expect repatriation to be at the high end of that range.

Please remember, as we have noted in the past, that repatriation could change depending on increases in interest rates, credit spreads, a strengthening Yen or significant credit losses. We do expect significant profit repatriation in 2015.

In addition, as we indicated in last night's press release, we are exploring the possibility of increasing the frequency of capital transfers, from Japan to the United States, pending the completion of our internal governance process. This will better enable us to better manage liquidity in the US segment, and at the parent company, as well.

As I mentioned at our analyst meeting in September, we are currently working on a multi-year capital management plan. As a part of that plan, we are making good progress toward a retrocession agreement with a re-insurer to assume some of their risk. Retrocession of risk to an existing Aflac entity would improve the economics of our reinsurance program by effectively lowering the cost of reinsurance for Aflac.

Given our strong capital position and expected cash flows from Japan, we believe we are in a good position to return capital to our shareholders through increased dividends and share repurchase, and we look forward to producing good results for our owners in 2015.

Now I would like to turn the program back over to Robin.

Thank you, Ken. Thank you Dan.

To be fair to everybody, please remember to limit your questions to one initial and one follow-up that relates to your initial question.

Now we will be glad to start taking your questions.

(Operator Instructions)

Stephen Schwartz, Raymond James and Associates.

Good morning, everybody.

Ken, can you talk about the reinsurance agreement that you announced in this quarter? I think it was JPY55 billion. Obviously, it is smaller than the last one you did. How else does it differ from that and the initial deal?

Stephen, it is actually very similar to the initial transaction that we executed in September of 2013. In fact, it is really an extension of that same agreement.

You will recall that what we had done is seated the premiums and the risk related to a portion of an old block of medical business -- a closed block, about a third of the hospitalization benefit. And with this agreement, we simply took the percentage up to 50%. So we added another 17% or so to that -- on the same block of business.

We are currently in the process, as I mentioned, of a multi-year capital management plan. Reinsurance will clearly be a part of that plan. And I think it is quite possible you will see another transaction in 2015. Perhaps more than one.

And in looking at that, we would be exploring other blocks of business for possible transactions.

Okay. Ken, just a follow-up on that. Is this with the same re-insurer? So there is still no statutory benefit?

That is correct.

Okay. Thank you.

When we go through the RFP process, we are taking -- getting quotes from multiple parties, and will continue to do so in the future.

Great. Thanks.

This is Kriss. Let me just comment that the statutory treatment is something that we have under consideration. And it is true that in the first agreement, we did not take any statutory reserve credit.

But we are examining the conditions that would be required for us to qualify for such a reserve credit in the future. We haven't figured out the [payable], Stephen.

Thanks.

Nigel Dally.

Good morning. Just a couple more on the reinsurance side. Given it's more of a capital rather than rate reduction oriented transaction.

Any pushback that you are getting from the FSA on those types of transactions, going forward? Also, just a commentary on increasing the frequency of the capital transfers. Just hoping to get some additional color there as well how well the plans.

First, with respect to communications with the FSA regarding reinsurance, we made sure that they were fully briefed on the transaction that we executed in 13. And the same was true for this transaction as well.

It is a fairly straightforward simple transaction. And we make sure, quite frankly, that it is not only the FSA that is briefed, but also our lead regulator in Nebraska, the Director of Insurance there, as well as the regulator in South Carolina, for instance, as well.

With respect to the capital transfer, Nigel remind me -- for the frequency?

Yes, with regard to increasing the frequency, what are the changes there? Are you moving towards more of a quarterly repatriation from Japan, or what is the plan there?

The starting point is to simply get cash more frequently and on a more consistent basis. Quarterly would be ideal, but we're working through the final governance for that right now to determine the best way to do it. Historically, what we have done is we have transferred a portion of the profits that were earned in a given fiscal year for Japan.

And we are investigating the options for moving, not only earnings on an annual basis, but also moving a portion of retained earnings as well. But that would be entirely dependent, as we've said before, on our view of our solvency margin ratio and our ability to protect our policy-holders. And also to maintain that ratio in a manner that provides an adequate buffer for risks that affect the ratio above our minimum requirement of a 500% to 600% range.

But, we are optimistic. We do believe that we can move forward with more frequent transfers. That will give us a much better ability to smooth out our cash flows, better manage our cash at both Aflac and Aflac Inc., when it comes to deploying capital.

Great. Thanks again.

Nigel, Kriss Cloninger again. I'm sorry to interrupt.

But, I just want to make it clear that the reinsurance we have done between Aflac Japan and an outside reinsurer, is clearly a risk transfer arrangement. Even though some of the motivation is capital management, it is not a financing agreement.

It is a risk transfer agreement. And there is no question about that. So we don't anticipate any pushback from that perspective, from any of our regulators.

Great. Thanks.

Yaron Kinar.

Good morning, everybody. Thanks for taking my question.

My first question, I guess, is for Ken. I appreciate the color on the year over year of changes and headwinds with regards to the EPS growth target. If I strip out the share repurchase in fact, I think -- if I look at the lower end of the target range for 2015, earnings are still -- would be in negative territory.

And even when I account for a higher benefit ratio in Japan, I guess I would have expected maybe a little bit more of abatement of previous or prior headwinds, to maybe see a little more earnings growth on a dollar basis. And, was hoping to get a little more color and clarity on that.

Again, what I tried to get through in that segment commentary related to the ratios, the issue that we have, frankly, is we have got to do a better job at revenue growth. So you're going to see relatively low rates of revenue growth, both in Japan and in the United States. The revenue growth is commuted a little bit further because of the reinsurance transactions and the seated premium.

But when you look then within the operating ratios that are going to influence our profitability, in Japan, the business mix is pushing the ratio up a bit at Aflac Japan because the first sector is a larger portion. The expense ratio again should be a bit lower than next year than it is this year. But it still does pressure earnings.

In the United States, we have gone -- since 2011, we have had an improved benefit ratio. It has improved much better then we ever anticipated it would.

Actually, when we entered into 2014, we didn't think the improvement would continue. And we assumed a much higher benefit ratio than we've actually experience.

So we still expect it to return to some type of normalcy at some point. And again, we believe that could begin to happen in 2015. But there is additional pressure in the US segment in 2015 because of the added expense related to our going from the commission-based SSC commission to the salaried-based market director position.

When you put all that together, and again, we deal with fairly conservative assumptions. We would rather surprise on the upside than the downside.

But we would see both segments this year producing slight declines -- excuse me, in 2015, potentially producing slight declines in operating earnings versus where we expect them to fall in 2014. The good news is that we are able -- because of our capital strength -- to more than compensate that with very strong capital deployment plans for the latter part of this year and next year as well. Again, hopefully, as we saw in 2014, we will see some things emerge favorably -- based on our assumptions.

It will also depend on what we earn in 2014.

Okay. I appreciate the color. My one follow-up is on third sector sales. Actually for the fourth quarter, it seems like if I take the run rate from medical over the last three quarters, and I take the reiterated guidance for the full year, I get to roughly a doubling of cancer sales. If I am modeling this out correctly.

I just want to get a sense of -- if that is roughly how I should be thinking about it? And how much of this growth comes from the Japan Post partnership, as opposed to the other cancer product that you launched.

Tohru, or Paul?

Tohru, do you want to start, and I'll comment?

Yes, let me start. We, in order to make the 2% growth for the entire year, we will need to basically double the sales of the cancer in the fourth quarter. And that is what we are feeling that we will be able to make it. Based on that number, we are -- we feel pretty good about the prospect of are making at least 2% of the entire sub-sector sales for the full year.

Let me just follow up and say, we knew third quarter was going to be extremely difficult. We had the August 19, 2013 launch of our Ever Plan. We had also preannounced our October 1 launch this year of our new cancer plan.

We faced headwinds in the third quarter for both cancer and medical sales. And we are confident that going into the fourth quarter, especially given what Dan has already announced, that we are up 20% so far this month, we feel very strongly that we will finish within the range of 2% to 7%.

How much of that growth with cancer product you anticipate coming from Japan Post?

We cannot discuss the exact number of the sales from the Japan Post. But I can tell you that the largest part of the growth of the cancer comes from the Japan Post.

Thank you.

I can also say that we are very pleased with what is going on with Japan Post. And excited about the future growth of it.

Seth Weiss.

If we could just get a little bit of granularity in terms of some of the expenses next year.

Curious if you can give any commentary on the cost of the reinsurance transaction, or how much that affects gross earnings next year? And also, I believe on the last quarter, you mentioned that the costs of the US sales initiatives would be $0.02 and then you would give updated guidance of the impact in 2015? Perhaps if you could give us a little bit of commentary around that, that would be helpful as well.

Yes. First of all, I would say that we really didn't -- we didn't isolate the expense of the reinsurance -- the second tranche of reinsurance for 2015, because we are currently working on a retrocession agreement, that would effectively lower that cost.

I would say that it was incorporated -- the cost, before retrocession, was incorporated into the 2% to 7% range we established for next year. To the extent that we are able to successfully execute a retrocession agreement, it will help a bit on the margin of lowering the expense and enhancing earnings in 2015.

And I would just add that the cost of the second tranche is proportionate to the cost of the first launch. The economics are essentially identical. To the extent that we retrocede, the cost will either be proportioned or potentially more favorable than the direct cost.

And the second question related to the cost of the market director change in particular, it really hasn't changed. It may be modestly better than what we had originally anticipated, but the estimates that we had communicated in July are really still on.

What I will say, I'm really proud of the team in the United States, because excluding that, our expenses were flat year over year, 2015 compared with 2014. And you will recall my comments that we wanted to try and find a way to mitigate as much as we could, those expenses.

I still think that is possible, that we could see improved expenses as next year develops. But we really haven't seen any material impact, or any material change.

Okay. Perhaps I am miss-remembering. I had thought the commentary was $0.02 to the fourth quarter and maybe updated guidance this quarter. It is fair to say then that net-net no headwinds from the US sales initiatives?

Maybe a little bit more. Maybe closer to $0.03 a quarter in 2015. It's not terribly material. It will also depend on how well we do on the sales side.

Because remember that we have added fixed costs and we are taking off variable costs, and the amount of variable costs that are removed from the income statement will depend on sales through lower commission expense. The cost in year two, the offset will be significantly higher in the second 12 months then it would be in the first, when it comes to an offset to the increased fixed expense.

Thanks.

Nothing's materially changed.

If I can sneak one more in on margins. I understand the 2% to 7% gross margin's in the context of normalizing margins in both the US and Japan. Is it fair to categorize 2015 as a normal margin year? Will mix shift continue to cause margins to slightly deteriorate going forward?

No. I think -- again, if you look at the expectations that we laid out in May, and then for Japan reiterated in September. The margin should be very stable year-over-year. And again, really consistent with what we had communicated at prior meetings on our expectations for a three-year period.

Okay. Thanks for the commentary.

Jimmy Bhullar.

Good morning. Most of my questions are answered. But just on US recruiting -- I would have thought that things would have gotten worse given the changes you are making.

But recruiting was up and agent count declined a little bit less than the decline in previous quarters. Just wondering if you can talk a little bit more about how the restructuring is going on, and do you expect further improvement from here? Will the results get worse before they begin to improve?

I am very pleased with the results so far. I thought there would be more disruption, as I said earlier. Because people just don't like change.

But I have to complement our field management for understanding that we have got to pay for performance and accepting that as being a way of life. And moving on with it.

Saying that, what I see is, I see the fourth quarter as being easier comps than the first quarter. And I see the second quarter of next year being the easiest comp. So I would anticipate us being up -- I would like to be up 5%, for the fourth quarter.

That is my goal. I want it to absolutely be up. But, that is my goal. And then I think probably the first quarter will be -- maybe up -- you know, flat to up 5%, and then I expect at the end of the second quarter, to be up 5%. So I am counting on at least having 5% growth. I would like to do better than that.

We have a new director of sales who came from being in charge of North and South Dakota -- which is our highest penetration in the country, and he is concentrating on accounts of 100 or less, which is what we said we have got to do. He has also been working on the expansion of our district and regional level, which ultimately will increase recruiting. And I think that is what is taking place right now.

There could be a little disruption that we are still unaware of as people are still adjusting, because it went into effect October 1. I am in contact with Teresa daily, as well as with sales daily, about keeping up with how this is going. And this is a major, major change.

In my 30 years -- or 25 years as CEO, this is structurally probably the biggest change we have made to the sales force. So I don't take it lightly that there could be a few more bumps. But, I am not seeing them as of today. I think it is all coming together nicely.

Thank you.

John Nadel.

Thank you, and good morning, everybody. A couple of real quick ones. Does -- maybe for Ken. Does the buyback assumption for 2015 -- that $1.3 billion, does that assume any benefits from incremental reinsurance transactions? And if so, how much?

Not transactions in 2015, if that is what you are referring to. When you look at the transaction that we announced, that took effect on October 1, that gave us the opportunity to reevaluate the SMR and reevaluate the capital we felt comfortable deploying for both 2014 and 2015.

I would say it is a good starting point. At this point, it does not contemplate any additional transactions that might occur in 2015.

Appreciate that. And then for 2015, we haven't had any real discussion about what you guys are assuming in terms of new money yields, in Japan and the US? I mean -- obviously, here in the third quarter -- and I guess most of 2014 -- maybe I am wrong, but the investments in Japan have been -- you know largely JGB's and then this JGB's and US Treasuries.

What are you thinking about in terms of new money yields for 2015? Can we see some incremental investment in credit related assets?

This is Eric.

Hello Eric.

Good morning.

First, as you look year to date of our invested cash flows -- and I mentioned this earlier in the year. Early in the year, we did overweigh JGB's because of the nature of our cash flow timing.

But as you look at overall cash flows now, we've put about 48% or so of our Japan cash flow into US dollar assets. And of that allocation, about 60%, 65%, were in US credit, and the rest were in treasuries.

The credit investments we anticipated did come online, particularly in the second half of the year for second and third quarter. So they were there.

But recollect, I have said in the investment-grade credit space -- credit spreads are at all-time tights -- and we did a fair amount of purchasing of credit back in 2012 and 2013. We lightened up this year on purpose.

We're totally fine with the fundamentals of investment credit. We think those are as strong as they have ever been. But the technical spreads being so tight, make them pretty expensive to buy.

Having said that, as we are planning for 2015, first, it is important for me to note -- let's hope the Fed raises rates and we have higher yields. But we are a consumer of the macro environment. And that is going to be very challenging.

So we assume in our plan -- we don't assume, necessarily that rates will go up. We try to be conservative and come up with ranges.

But what we certainly want to look at going into next year is a good mixture. Obviously, we will have some traditional JGB investments to help with YEN interest rate matching and interest rate risk and duration matching, but to expand not only in investment-grade credit, but also other places as well.

I have said this, we have seen some disruptions in the market recently. We have seen spreads on high yields, bank loans, some other asset classes start to widen out. We want to see that as a buying opportunity.

So, as we go into 2015, we are hoping to be able to take advantage of that and start to get into some other asset classes beyond just traditional investment-grade credit. But that will be a function of markets. Where spreads are.

We are not going to chase a spread just in the interest of yield. We try to work with Kriss and Ken, to have a risk-adjusted NII, net-investment-income budget, if you will. And give us the flexibility, at the same time, to take advantage of those dislocations and invest at a good point in the cycle as opposed to forcing that investment.

Okay, thanks for that. If I can sneak one more in just for Kriss or Ken. Just thinking about Japan margins, I think over the last couple of years -- particularly during the period of very strong paced first sector sales, particularly WAYS -- there was a -- first year if I can characterize it that way -- sort of headwind on the pretax margin.

You know, because commission rates were high. And I guess those products were maybe a little bit more surplus strain.

With first sector sales having declined at least in terms of growth so significantly, I would have thought we would have been getting some of that -- you know, back, as we look forward. Is that in your guidance? Are you seeing that? Can you talk about that a little bit?

John, this is Kriss. I will say that the surplus strain affects the regulatory reporting FSA and US stat more heavily then it does US GAAP that we are primarily focused on today just because we are allowed to defer a significant amount of the acquisition expenses. I -- actually the strain, John, on the third sector is almost as significant on the third sector as it is on the first sector.

Okay.

One reason is that -- you know, the cost per policy, as opposed to percent of premium are somewhat higher on the lower premium products. And the first sector products have 9 to 10 times the premium that the third sector of products have. So there hadn't been a lot of relief, so to speak, on that, in percentage terms.

In absolute terms, clearly, as the first sector premiums declined, the surplus strain in absolute amounts have declined. But kind of not on a relative basis.

I want to go back to a previous comment that was made. And somebody mentioned a 15% margin -- as kind of normalized. That is a pretty low number, in my opinion, for any kind of normal margin.

Once we reprice the first sector products, effective April 1, 2013, the margins increased from -- say an expected margin over the lifetime of the product, given the net investment yields we were realizing at that time. The margins increased from about 10% to closer to 20% on the first sector products.

Now, we weren't able to sell as much product because they weren't as competitive versus other financial products in the marketplace. That affected us as well as other life companies, compared to other financial products issued by other organizations.

So while our margins went up, our sales went down. And our overall margin is effected by the mix of business. And I pointed that out in the FAB guidance materials. I sort of said, here it is for life insurance. Here it is for third sector business. You have got to look at the mix that you anticipate or that we actually achieve, in order to get to kind of a so-called normalized margin.

I did want to make the point that the move from about a 20% plus profit margin we are realizing on Japan right now, through 2015 on an aggregate basis, would take a heck of a move. I don't anticipate margins will decline near that fast.

In looking at our plan in formulating guidance, to follow-up on that, we are looking to maintain roughly a 20% margin both this year and next year. A little bit higher this year. Perhaps 20% or just a tad lower next year. Again, consistent with what we expressed and basically very similar to what we have seen.

Thank you very much for the responses.

Joanne Smith.

Yes. Most of my questions have been asked and answered. But just as a follow-up to John's question on the first sector product. What is the average duration of those products?

Because if I recall correctly, they either had a 10 year premium period or a -- there was a 5, 10 and a 7, I believe. What is the average duration? I'm just wondering when we can expect those to start running off -- if it will be any time in our lifetime.

The second question is this with respect to the US And that is -- now that we are about a year into ACA, are you seeing things in the market settle down a bit?

Okay, Joanne, Kriss here. I will take a shot at the first part, and let somebody else comment on ACA.

Let me say -- I hope we all have long lifetimes and live to see some of the developments in these first sector products. I will point out that the durations you referred to relate to the premium payment periods. And that is the period for which -- you know, surrender charges are in effect.

We expect very strong persistency during the premium period, both because of the surrender charge and because of the fact that a lot of the first sector products we wrote in 2011 and 2012, came with the advanced premium deposit arrangement, where the people paid most of the premiums upfront. So we're going to see strong persistency throughout the premium period on those first sector products.

At the end of the premium period, the surrender charge goes away. But on the WAYS product, the real optionality of the product kicks in, not at the end of the premium period, but at an age like 60 or 65, that the policyholder's elect when they buy the coverage. And that is the point at which they have the option to elect -- to continue the product as life insurance or to claim conversion to a medical policy, or to continue it as an annuity certain type payout, or perhaps to convert to a care type product.

And we have some limited experience emerging on that. But it is not enough yet to be credible. I will say that the tendency that I think we have seen so far is toward inertia, where people allow the coverage to continue as life insurance, which is the original form.

But they do have to make an election a couple of years prior to the optionality date. And we do communicate with the policyholders regarding the option they have to elect changes to the form of their coverage.

But we haven't seen any adverse persistency develop at all so far, Joanne, in that regard. So we anticipate the duration of these first sector products will be pretty long.

Okay. So we shouldn't be expecting them to run off any time soon?

No. You shouldn't. Now we have talked to you about the impact of the paid-up premiums, on revenue. And we will be talking more about that throughout 2015, as we see some of the blocks that are significant, start to hit the end of the premium period in 2016.

But I will remind you that I have told you we recognize profit over the term of the contract, not over the term of the premium period. And so what we are going see is a continuation of the amount of profit per policy.

But a significant increase in the profit as a percentage of revenue. Because the revenue is essentially going to go away except for investment income.

Would you say that would kick in sometime around year 7 or 8?

2016 or 2017.

That long, okay. Thank you, Kriss.

Joanne, just as a follow-up on that. One of the things that's influencing next year's benefit ratio, as I mentioned, was mix towards first-sector. The persistency of the first sector products has generally been quite a bit better than third sector, even though third sector is very, very high.

It has actually improved a little bit year-over-year, whereas the third sector has been modestly lower, year-over-year. So that is also influencing the mix of business and expected benefit ratios.

Okay. Thanks. And then on the ACA?

This is Teresa.

You ask about confusion in the market. I think, right now, now that the regulations are set. At least for the moment, they are set.

You still have employers who are having to comply. And then, at the end of the year -- and then in 2015, you have employees that have to comply.

I would not say -- I wouldn't characterize the environment as one where there is no confusion. But I think smaller employers are opting to public exchanges. And then it is creating gaps from a product standpoint as well, as far as the Affordable Care Act.

So our opportunity is still a great opportunity from an Aflac perspective. So I think our strategic focus in the market, on the less than 100 market, to focus the field force there. And then to grow the broker side of the market, I think our strategy is a winning strategy going forward. I feel good about that.

Okay. Thank you.

Randy Binner.

Thanks. I will just pick up there with the last commentary on Obamacare. Clearly, Aflac has a big opportunity -- at least in my mind, given the brand awareness, to capitalize on the exchange environment. So, when you all talk about US sales recovering, I feel like those two things are not linked.

So is the exchange opportunity not something we should expect to help US sales in 2015? Or is that part of the recovery in sales you hope for in 2015?

I think the exchange is another tool that we utilize, as part of our sales process. I don't know if you recalled, earlier -- or last time we spoke, we talked about the enrollment platforms and benefit admin platforms. Many of those platforms are now being characterized as exchanges today.

We have always been engaged in enrollment via these benefit enrollment platforms. Now, we have specific strategy today, to engage in being on specific exchanges with large brokerage houses and those are the activities that we are doing today that we think will help us with sales going forward in 2015.

I will just say, we are not counting on this national healthcare plan to increase sales. I think there is the potential to do that. But I don't like to count on that.

We do know that -- that our enrollments when they take it through our exchange, increases from 30% to about 42%. We have much better enrollment when we do that.

Interestingly enough, though, those would be on the accounts of 100 or less. And they are going to go and buy it on the public exchange, which can be routed through us.

One of the things I was a little worried about was that -- our agents would make so much commission on major medical, although it is a small percentage, it's a large premium. But if you buy through the government exchange, which comes through ours, it is a very low commission.

So that means, for them to make money, they still have to push our products and services. So, I think that will be very beneficial to us and will ultimately give a good return to the policyholders, fill the gaps for them and ultimately increase our sales.

Okay. Understood. If I could, just on Japan, another kind of top-down question on sales. Ostensibly, this new CEO of Japan Post is there to turn things around. It seems like a spin-off/IPO process is still realistic.

Do you have any update on whether or not that is going to happen for Post next year? And if so, should we think of that as being a potential tailwind for sales there? Meaning that they would have a motivation to sell more product to get more fees, to get their earnings numbers up, you know.

I think anyway they can -- any company that can ultimately increase profits before they go public, is going to enhance the shareholder value. But you have to understand how private Japan Post is. We don't get any information in regards to that. Those are decisions that they make.

But we have a very close relationship with Taizo, who is the president, and what is going on there. We are very cautious making any comments regarding their particular business, other than to say what they have done with us and what is going on was slow at first. It has now picked up. And they are doing very well now. And we are excited about 2015 and the future growth there.

Because we think we help fill a void with the products and the services that they offer at Japan Post, and this new product will help fill the gaps that they want, that will ultimately make consumers by it.

Perfect, thanks.

Erik Bass.

Thank you. I'm hoping you can provide a little more detail on what is driving the stronger than expected benefits ratios, year to date. And why you think those should normalize next year, rather than the experience potentially continuing?

In Japan, we have seen -- even though there has been a mix shift, we have seen just-paids emerge at a lower rate then we expected as we came into the year. It has really been driven by slightly lower paid claims than we had expected.

We have seen a much larger change in the ratio for Aflac US, and again, this is a trend we have seen since 2011. Paids are increasing slightly.

We have made some modification to IB&R to reflect our program or our initiative of emphasizing the speed at which we pay claims, because that may stimulate claims to some degree. We have also seen, in part, because of lower volumes from new sales, as well as the sales at which lapsation has occurred. Even though overall persistence has been fairly stable.

We're seeing a smaller increase or, in this case declines, in the change in future policy benefits. So quite simply, the additions to US reserves are growing at a slower rate then we expected. All in all, this year especially that is what has brought down the US benefit ratio.

We do -- we don't expect this to hockey stick. And to shoot right back up to where was in 2011 or 2012. But, we would not be surprised if it came back to a higher level then we experienced in 2014.

Got it. Are you seeing any differences in kind of consumer behavior, in terms of either utilization of benefits or other tends?

Nothing particular. But I think we have concluded that utilization -- not just with our products and our company, but utilization coming out of the very weak economy for the last few years has been lower than normal.

And people have not accessed the healthcare system as they did prior to the financial crisis. I think that is the overall trend that has really influenced our business in the US over the last few years.

Got it. Thank you.

We have reached the top of the hour. We have time for one more quick question, please.

Jay Gelb.

Thank you. Can you give us your updated perspective on whether you expect the Japan consumption tax increase to go through in 2015? And if you look at what the impact was on sales in 2014? If you have any views on that, that would be helpful as well.

I will let perhaps Tohru and/or Paul opine on whether they think that it will go through. The proposal is that it could increase from the current level of 8% to 10% in October of 2015. And for budgeting purposes, in our forecasting, we have assumed that that will occur effective with the fourth quarter of 2015.

Paul or Tohru, can you comment on whether you think it will go through?

This is Tohru Tonoike. Let me speak first and then Paul may chime in.

That issue is now being heavily discussed in the [diet] and there is no decision made at this point in time. There is no way for us to know which is more likely. Some are in favor of the tax increase, and some are not.

At this point, nobody knows what would be the end result in the 2015. And even if -- just assuming -- if it happens, we do not anticipate a big impact on our sales -- certainly not in the 2014, and not substantial impact on 2015 either.

Yes. I just want to make it clear that it is expected that Prime Minister Abe will make his final decision in December, and we really won't know anything until then. They are going through the standard process here. But as Tohru said, we feel this is not going to have any form of a major impact.

Based on the increase this year, if you evaluate the trends. Do you have a sense of how much the headwind on sales it may have been for the initial consumption tax increase?

We do not see any notable impact on our business, coming from the tax -- consumption tax increase last time.

That is what I thought. Thanks very much.

Thank you for joining us this morning. If you want to follow-up with any questions, please call our office and we will be glad to do any follow-ups.

Thanks very much. Goodbye.

This does conclude today's conference. You may disconnect all audio lines at this time.

Again, this does conclude today's conference. You may disconnect all audio lines at this time. Thank you.