Allstate Corp (ALL) 2004 Q2 法說會逐字稿

Good day, ladies and gentlemen and welcome to the Allstate Corporation's second quarter 2004 earnings conference call.

At this time, all participants are in a listen-only mode.

Later we will conduct a question-and-answer session and instructions will follow at that time.

If anyone should require assistance during the conference, please press star, then zero on your telephone keypad.

As a reminder, this conference call is being recorded.

Introducing your host for today's conference, Mr. Robert Block, Allstate's Vice President Investor Relations.

Sir, you may begin.

Thank you.

Good morning, everyone and welcome to the second quarter, 2004 earnings conference call for the Allstate Corporation.

Today, Ed Liddy and Dan Hale are with me to provide their perspective on our results.

Then we'll take as many of your questions as time will allow.

During the Q&A session, when you're identified, if you would please keep to one question and one follow-up, then we can hear from as many of you as possible.

As always, Phil Dorn, Larry Moews and I will be available following the conclusion of this call to answer any remaining questions that may exist.

As has become our practice, we issued our press release last night along with most of our investor supplement.

If you need a copy of the release or the supplement, both are available on our Web site under Investor Relations.

Now for our legal disclaimer.

The following discussion may contain forward-looking statements regarding Allstate and its operations.

Allstate's actual results may differ materially from those projected in the forward-looking statements.

For information on important factors that could cause such differences, please see the forward-looking statements and risk factors affecting Allstate section in Allstate's 10-K for the year 2003 and our notice of annual meeting and proxy statement dated March 26, 2004 and in yesterday's press release.

In this call, we will discuss some non-GAAP measures.

You can find the reconciliation of those measures to GAAP measures in the press release and in the investor supplement posted under Investor Relations on our Web site, allstate.com.

This call is being recorded and your participation in the call will constitute consent to the recording, publication, Webcast, broadcast and use of your name, voice and comments by Allstate.

If you do not agree with these terms, please disconnect now.

A replay will be available following the conclusion of this call.

All of our remarks are current only as of the date and time of this call.

Now let's begin with Ed Liddy followed by comments from Dan Hale.

Ed?

Good morning, everyone and welcome.

Thanks for joining us.

It's always great to have an opportunity to talk about Allstate and it's particularly nice when the results are so strong and our prospects for the future are so bright.

By now I'm going to make an assumption that you've seen and digested our press release.

And I think you would agree that the results for the second quarter were truly remarkable.

And I'd remind you that it wasn't just one quarter of great numbers but a string of quarters with great results.

The second quarter represents a continuation of excellent, underlying trends in our Protection business, clearer visibility of improvement in Allstate Financial and further evidence of our commitment to shareholders through consistent proactive capital management.

Our performance this quarter reflects a validation of our strategic goals and perhaps more importantly, our ability to execute effectively on our strategy.

The numbers on the quarter are available to you but let me add a little context to them.

On an overall basis we produced net income of $1.47 this quarter, compared to 84 cents in the second quarter of 2003, a 75% increase.

Now, operating income per share, also $1.47, increased 73%.

The resulting return on equity, 20% on an operating income basis, 17.2% on a net income basis.

These numbers are substantially better than last year and better than the first quarter of 2004.

So our earnings and return momentum continued this quarter.

From a capital management perspective, we accelerated our share repurchase activity in the quarter, buying about $400 million of our stock or roughly 8.9 million shares.

And we maintained our quarterly dividend at 28 cents, an annual rate of $1.12 which keeps our dividend yield in the 2-3 to 2-5 range.

The resulting book value per diluted share on an ex-FAS 115 basis grew sequentially from the first quarter to $27.74 and was up 7.6% from year-end and up 20% from last June.

The recorded book value per share finished the quarter at 29.55, an 8% increase from June 2003.

I've said that the successful execution of our strategies will result in more consistent long-term growth and book value and it has done exactly that.

Now, that's the overall story.

Let me go a little deeper, beginning with the results for our Allstate Protection business.

Over the past several years, I've been communicating our strategy that is based on the premise of consistent, profitable growth.

An integral piece of the overall strategy to achieve consistency in this approach to local markets is our Strategic Risk Management.

As most of you know, SRM refers not only to our tiered-based pricing process, but also to our guiding principles as to our approach to the marketplace.

Remember, our goal is to attract and retain higher lifetime value customers.

Higher lifetime value customer segments relative to lower value segments tend to renew at a higher rate, to buy more personal property casualty products, and to have a lower average premium with a corresponding lower average loss cost.

The results for the second quarter are absolutely in line with our expectations and validate the wisdom of this approach as we win in the marketplace.

Let me go through a few of the numbers.

New business premium written in our core lines, that's Allstate brand standard auto and homeowners, increased about 30% in the quarter from last year's levels.

Current growth trends have been geographically widespread.

Retention improved in our core lines, as well.

In fact, the standard auto retention ratio at 91% for the quarter is approaching all-time highs.

While other competitors have reduced prices, we were able to file and gain approval for a number of modest rate increases, maintaining our price discipline in local markets.

At this point, our competitive position for the segments we are targeting remains excellent.

The net result was an increase in total net written premium of 5%, a rate less than that posted in the first quarter of 2004, but the core lines of Allstate brand standard auto and homeowners grew faster than the total all lines.

Written premium in these lines was excellent.

The composition of that growth is also very important.

Unit growth over prior year or real market share accelerated in Allstate brand standard auto and homeowners to 4.9% and 5.7% respectively.

The growth in our average premium per policy increased less than in previous quarters as the incremental impact from past rate increases diminishes.

As importantly, the growth in average premium exceeded the growth in average loss costs for the quarter.

In our independent agency operations, Encompass and Deerbrook, we had another very solid performance with a combined ratio of 92.1, that's a 13.4 percentage improvement over prior year.

The overall result, an 86.3 combined ratio, down almost 11 points from Q2, 2003.

For Allstate Protection, the combined ratio is 81.3, a 14.9 percentage point improvement from last year's results.

Now, reduced losses from catastrophes accounted for 5.4 percentage points of the reduction and favorable re-estimates of prior year reserves which Dan will address in a few minutes, accounted for another 6 points.

The rest, approximately 3.5 points came in absolute true margin improvement.

Trends in loss cost remain very favorable and we do not see any reason for those trends to change materially in the near-term.

All in all, these results reflect our desire to grow profitably over time through proper risk selection, effective marketing programs, and disciplined pricing approaches in our local markets.

As you know, operating at these margins creates a significant cash flow.

Investment income is growing as the increased new money is beginning to overcome the negative spread between portfolio yields and new placement yields.

So, from a property casualty perspective we are doing extremely well.

Turning to Allstate Financial, with another solid quarter of top line results with record premium deposits of almost $4.3 billion.

The majority of the increase was from our institutional medium-term note program, $1.5 billion during the quarter compared to 483 million last year.

Sales of financial products through banks achieved a milestone this quarter, piercing the $1 billion mark and new sales of financial products by Allstate exclusive agencies topped $1 billion through the first six months of 2004.

That's a 29% increase over last year's record-setting pace.

The challenge for Allstate Financial continues to be profitability though the second quarter results provide better visibility for future improvement in the earnings trend.

There were several small negative adjustments to income related to initiatives designed to streamline and simplify the business that masked a slight improvement in the underlying run rate of the business.

With progress being made and our strategy focused on operational excellence, along with a broader recovery in economic conditions, we are turning the corner and remain very optimistic that operating income trends will improve this year and into the future.

So, when you put everything together, the second quarter's results were just outstanding.

We're executing exceptionally well on our strategies and it's showing up in our numbers.

As a result, we've increased our annual guidance to a range of $5.40 to $5.65 per share.

This replaces our earlier guidance of 4.80 to 5.10.

Of course both assume average expected catastrophe losses reflected in levels used in our pricing.

I'll have more to say about guidance at the end of the Q&A session and now I'll turn it over to Dan.

Okay, thanks, Ed.

I'd like to begin with a few comments on the reserve re-estimates recorded this quarter.

As shown in the press release, we recorded favorable prior year reserve re-estimates in Allstate Protection totaling $395 million.

Those adjustments reflect favorable prior year reserve development principally for auto injury and physical damage claims as well as for incurred but not recorded auto and homeowners claims.

The Allstate Protection reserve re-estimates reflect lower actual claim frequency and severity trends than anticipated in previous estimates.

Also during the quarter, we added 318 million to reserves for discontinued lines and coverages.

This included 216 million related to re-estimates of asbestos reserves, a $76 million increase in our allowance for uncollectible reinsurance recoverables, and another 20 million for other discontinued lines and runoff status.

As you know, each quarter we review reserves to evaluate trends and to determine if any intervening significant events or developments require adjustments to reserve balances.

The re-estimate of asbestos reserves were the result of our assessment of recent claim activity reported by direct access policyholders and the related re-estimate of expected future claim activity.

And I should point out that this doesn't mean that we completely accelerated our normal third quarter ground-up analysis.

We'll conduct that review as we always have with a more comprehensive ground-up data that will be available at that time.

However, in the second quarter we had enough available information on recent claim activity trends, primarily for the products related coverage reported by excess insurance policyholders with existing active claims, and enough data on expected future claim activity to project a need for $216 million of reserves strengthening.

This trend is consistent with the trends of other carriers in the industry and we believe it's related to increased publicity and awareness of coverage to ongoing litigation, potential Congressional activity and bankruptcy actions.

We now have a balance of 1.3 billion in our reserves for asbestos, 65% of which is for IBNR.

And our net three-year survival ratio, excluding commutations policy buy backs and settlement agreements is 27.5 years, which we and rating agencies consider as representative of a strong asbestos reserve position.

That 27.5-year survival ratio was up from 22.2 years at the end of 2003.

Also in the second quarter we evaluated the financial condition of several reinsurers in light of their recent activities with respect to commutations and claim settlement practices.

Based on this review, we added $76 million to our allowance for uncollectible reinsurance recoverables to provide greater protection for companies in runoff and/or those who have reorganized to limit or roll off their liabilities.

Our balance for this allowance is now $168 million representing about 15% of total discontinued lines recoverables from reinsurers.

The net favorable prior year reserve re-estimates for the quarter totaled $77 million or about 7 cents per share.

Shifting gears now, a brief update on our capital management activities.

During the quarter we repurchased 8.9 million shares at a cost of $400 million or $44.87 per share and that's more than double all of our repurchases in 2003.

Year-to-date we've repurchased 12.6 million shares for 567 million or about $45 per share.

For the $1.5 billion total program authorized by our board of directors over the past two years, we've now repurchased 16.8 million shares at a cost of $717 million and have approximately 783 million remaining under this program.

When the $1 billion increment was announced earlier this year, we stated that the entire $1.5 billion program would be completed by the end of 2005, but you can see that our recent purchases have been running at a more accelerated pace.

Turning now to a couple of balance sheet ratios, our operating income ROE for the quarter using a rolling backward-looking 12-month approach and excluding unrealized capital gains and losses from average equity, that operating income ROE was 20% compared with 15.4 last year.

Our net income ROE without adjusting for unrealized gains was 17.2% versus 10.7.

Both the measures obviously have improved significantly in concert with our improving profitability.

And while we attribute that improving profitability to a significant extent to continuing favorable frequency and severity trends to increasing unit growth and to the impact of Strategic Risk Management, we shouldn't lose sight of the fact that as Ed mentioned earlier, that we've also continued to obtain moderate levels of rate increases where they're needed.

During the first half of this year, we obtained approval for Allstate brand's standard auto rate increases averaging 2% in 13 states and 3.5% in 13 states for advantage.

For homeowners, the rate increase averaged about 1% in five states for the Allstate brand and 8.5% in 15 states for advantage.

Those are increases we needed to offset moderately higher projected severity trends and maintain adequate margins.

Our approach is to file for increases as soon as we have indications of need and to expedite the filing process.

Along with best in class claims processes and SRM underwriting, that's how we have been and will continue to maintain our margins and returns.

And now back to the balance sheet ratios.

Our debt-to-capital ratio was 19%, up from, up 1.1 points from the end of the first quarter, principally because of the drop in unrealized gains of the fixed income portfolio and it was down eight-tenths of a point from year-end.

Our book value per diluted share at the end of the quarter, $29.55 was up about 2% compared with year-end, despite a $1 billion reduction in after-tax unrealized net capital gains on fixed income securities.

It was up 8% compared with June 2003, and if you exclude unrealized net capital gains on fixed income securities, the book value per share was $27.74 at the end of the quarter.

The increase from the year-end was 8% and from June of 2003, 20%.

With that, Bob, I think we're now ready to take questions.

Okay, Operator, if we could start the Q&A session now?

Ladies and gentlemen, if you do have a question, please press the one key on your telephone keypad at this time.

If your question has been answered or you wish to remove yourself from the question queue, please press the pound key.

If you are using a speaker-phone, please lift the handset before asking your question.

And our first question comes from Nancy Benacci with KeyBanc Capital Markets.

Your question, please.

Good morning, Ed.

Congratulations on a great quarter.

Thanks, Nancy.

I wanted to comment first and get a little bit more clarity on the pretty strong PIF growth we continue see on a quarter-over-quarter basis on auto in particular.

How comfortable are you that in a continuing competitive rate environment that PIF numbers can continue to move higher here quarter-over-quarter?

We like our prospects a lot, Nancy.

First of all, that business is all, it's primarily ISS tiers ones and twos, so, it's good business.

And I point that out because that means it will retain, we think, at higher levels.

It also gives us more opportunity to sell more product to individuals.

So, with the marketing program we have in place right now, we have stepped up our marketing fairly substantially.

We're investing in our business for the future.

Marketing, technology, agency achievement bonuses, claims activities, we're liking our, the ability to continue to drive our PIF numbers up.

So, again, just to clarify, you're saying the bulk of the PIF growth is coming from the top one and two tiers.

Yeah, it's all the good stuff.

Okay.

And then in terms of my follow-up question, is the reserve release due to the favorable frequency and severity, certainly a big number this time.

What kind of numbers should we start to see going forward?

And what are you factoring into your rate increases on an ongoing basis in terms of, you know, frequency levels and severity levels?

Let me address that.

The reserve release situation.

We obviously have to look at where we are at each quarter-end and take the appropriate action.

So, it, we really can't forecast, can't predict.

But as the indications we review dictate we will make the appropriate adjustments if and when required.

Dan, what was so significant this time that made the numbers so large versus what we've seen in previous quarters?

Well, the releases, again, if you look at the favorable severity and frequency trends that we've experienced in the past, and we have seen for enough time now to be very comfortable that those adjustments were required, then we took them.

A significant piece of that was IBNR.

And from specific years?

No.

Okay.

I mean in terms of any of the reserve, was that any particular prior year that you would target?

No, no, Nancy.

Okay.

Good.

Thank you very much.

Okay.

We have a question from Ron Frank with Smith Barney.

Your question, please.

Good morning.

Two things.

One, Ivantage had, if I'm doing the math rate, an accident year loss ratio of about 55 in the quarter and that was a pretty significant breakout from 65 to 71 roughly over the last few quarters and I wondering if you could give us a little color specifically there?

And also, Ed, I wanted a little more insight into the comment that we now have better visibility at Allstate Financial.

If I amp back that roughly 10 million of charges, we were at a normalized number, if I'm right, of 136, and that's a little bit at or below where we've been.

So, I wanted to understand that a little better, too.

Okay, Ron, it's always dangerous to do the math over the phone but let me see if I can help with a few things.

Let me see, your first issue was, oh, Ivantage.

Ivantage has performed very well.

A combination of rate increases, continued application of the SRM process that we developed at Allstate into the independent agency channel, that's having the same, very positive effect in Ivantage that it had in Allstate as we did it.

So, we have clearly turned the corner on Ivantage.

You'll recall that when we purchased CNA's personalized business, my commitment was we're going to first get the combined ratio down below 100.

It is solidly below that.

We achieved that status about the middle of last year.

And now we view that to be a pretty attractive growth platform.

So, you should see more of the same going forward.

Are you still optimistic that we could see growth start by the end of the year, then?

Yeah, you'll see it start, I don't think you'll the numbers until '05.

But we've got some aggressive, young leadership in that organization and we think the independent agency channel for a company like Allstate represents pretty fertile ground.

Allstate Financial, Bob, help me.

I think Ron's numbers are probably not good.

Well, the, you're right with the 136, but the first quarter was 132 and prior year was 131.

So, it's a little bit above.

Okay.

And as you know, we disposed of the directive response of business, which had a little bit of an impact on there, as well.

So when you put it all together we are seeing some improvement in the underlying run rate, Ron.

Okay.

Could you just give us some additional color on that?

The credit rate insurance, do they write much credit there?

And also a little color on what fixed annuity spreads are doing these days.

Yeah, Larry, you want to take that?

On the credit this has to be with, it's credit protection for some auto loan business where the, if the auto, if the value of the auto is less than the loan and it's the --

Residual value --

Yeah, it's the residual value of the loan and there's prepaid commissions on that.

It's single-premium credit business, and so we've determined that the prepaid commissions were not fully recoverable.

So that's where a good part of that 10 million that was in there...

Larry, is there much of that business in Allstate Financial?

Because a few people have tripped over residual value in the last year or so.

Very small.

That came with AHL, Ron.

Okay.

Okay.

And your second question, Ron?

Just a little color on fixed annuity spreads and where they are net of commission and so on, the trends there.

Fixed annuity spreads are approximately 170 basis points, which is what you saw in the 10-Q last quarter.

We have about 45 basis points that were above the guaranteed rate.

New business, we're putting on the books, is being credited between 3 and 3.5% and the guarantees on that business are either 0%, 1.5 or 2, depending upon the contract.

So, the business we're putting on the books should widen the 45 basis points above the guarantee going forward.

So, definitely the business we're putting on the books has more spread and as we go forward we hope to maintain those spreads.

Okay.

Terrific.

Thanks very much.

Okay.

We have a question from Jay Gelb with Prudential Equity.

Your question, please.

Good morning, Jay, how are you?

Good morning, thank you.

I was hoping you could talk a bit more about the evolution of Strategic Risk Management.

Where you are in the process now and how much more running room you have in expanding the number of tiers you can offer?

You know, we've been at Strategic Risk Management for four or five years.

We think it is a, some people make the mistake of just thinking of it as a technology tool.

It is much more profound than that.

It touches the way you think about your business and your underwriting guidelines, et cetera.

Strategic Risk Management Four primarily applies to auto and it will be in place in the fourth quarter of this year and will add to the number of tiers and the granularity and, you know, Fred Cripe and the guys, the actuaries in pricing and product, are already working on a next generation beyond that.

So, we view this as the gift that will keep on giving.

I think the head start we have gives us a substantial, sustainable competitive advantage.

We're out there now with SRM Three for homeowners and we're working on the next iteration of that.

The more data you have, the more you can see the results of the numerous cells that you have and the granularity of the system, the better off you're going to be.

More to come from Strategic Risk Management.

So, you think we should continue to see the trend of less volatility in the protection combined ratio and --

That's what we're trying to get at.

Now a lot of that is SRM, but it's also what we've been trying to do with homeowners, where we've managed our P&L down, where we've gone out and purchased reinsurance to, because it's really attractive right now from a pricing standpoint, but also it preserves and enhances the level of combined ratio performance that we have in the homeowners business right now, so, consistent profitable growth means you've got to do something about attacking variability in the income stream.

And what percent of the total portfolio is tiered now?

Because that's only on new business, right?

Yeah, you know, I'd still use a number in the range of 35%.

I'm within a couple of points of what the right number is.

You are correct.

We apply new business applications to the tiering mechanism and that number will continue to move up in the years ahead.

Thank you.

Thanks, Jay.

We have a question from Brian Meredith with Banc of America Securities.

Your question, please?

Yeah, good morning.

A couple of quick questions here.

First, can you talk a little bit about the sustainability here of some of the underwriting results you're seeing, particularly in the homeowners line, and even if we put in normalized catastrophe losses here, I mean, this is just incredible profitability.

And when do you get fearful that you start seeing some regulatory push back on that type of results?

It all was dangerous and hard to predict when you can see regulatory push back.

Availability and affordability on both auto and homeowners is excellent right now.

So, I wouldn't anticipate a different regulatory environment going forward than we have right now.

Most of the regulatory pressures tend to come on auto where it is a legally required product and less so on homeowners.

But as long as the availability and affordability stay robust, I think we will be just fine.

You know, one of the things that's happened, Brian, I think you and I have chatted about this, I saw a stat the other day that average home in the United States over the last five years increased 47% in value.

You know, when you have that kind of an appreciation in homes and hopefully we've all enjoyed that or greater, something's got to happen to the average premium.

I think homeowners more and more understand that and I think regulators more and more understand that.

I go back to my comment a minute ago to Jay, what we want to do is preserve and enhance the profitability, the loss ratios in our property business and that's what's leading us to continue to manage our probable maximum losses very, very well to look at reinsurance, to look at the amount of capital we have dedicated to that business.

We're doing everything we can to continue to drive our returns up and get even more predictability and consistency in our P&L stream.

Excellent.

And then the next question, severity went negative in the quarter in the auto line.

Anything that was Allstate-specific there or was that simply just macro trends?

I think it's macro trends and partially Allstate trends.

Any specific programs or anything in the quarter that may have helped that?

No, we have hundreds of programs in our claim operation that are working effectively.

Great, thanks, you all.

We have a question from Jay Cohen with Merrill Lynch.

Your question, please.

Yeah, two questions, the first is on the asbestos addition.

Were you reacting to several large claims or several large developments or a number of smaller ones?

Was it more widespread?

And then second unrelated.

The sort of limited growth in average premium.

Is that at least partially impacted by a lower level of nonstandard?

And in SRM we were targeting, you know, better categories.

Jay, this is Ed.

As far as the asbestos situation, it was not large, individual situations.

This was claim frequency trends that we are seeing as we described a number of smaller kinds of increase in frequency.

So, it wasn't the onesie twosie kind of big situations.

Okay.

Jay, this is Bob.

On the average premium trends, probably the biggest impact there is the diminished incremental impact of rate actions for over the last four or five quarters or so.

That really is what has depressed the average premium.

Obviously writing more tiers one and two has an impact on that in compressing the average premium, but it also helps the margin.

Right.

Great, thank you.

More "B" than "A".

Gotcha.

Sure, Jay.

We have a question from Charles Gates with CSFB.

Your question, please.

Hi, good morning.

Charlie, how are you?

Good, thank you and yourself, sir?

Actually, we're great, Charlie!

You should be!

My first question, could you elaborate on how you see the competitive environment in private passenger standard and preferred markets evolving?

I can.

A couple of thoughts, Charlie, given the way you structured your question.

I think that there are a few of us that are very disciplined underwriters in prices right now and those of us using strategic risk management in some form or another will probably continue to take market share and have the prospect of a brighter future than those that do not.

I see, I continue to see pretty good discipline in the marketplace right now in terms of how most competitors are approaching the market and I don't see, as a result of the presence of SRM, I don't see that deteriorating the way, perhaps, it did in the future.

Allstate-specific, you know, we feel really good about our, to use what are rapidly becoming old terms, standard and preferred market.

You know, the good tiers, that's where we want to be.

Those are the people, as you well know, Charlie and others, those are the kinds of customers that value who we are and what we are, how we sell our product.

They have fewer losses.

They stick with us for a longer period of time.

That's why retention ratios in both auto and homeowners are heading up and they tend to buy more products from us.

Both T&C and life products from us.

So, we like where we are positioned in this higher, the better tiers of the marketplace, we're better positioned today than we have ever been.

And I think those of us that are disciplined in using SRM will continue to win in the market.

My follow-up question.

I believe SRM Four encompasses the nonstandard risk to a greater extent.

Is it your plan to, or would you foresee a decline in the rate of growth, a decline, a decline in nonstandard auto as we go later into this year and then some growth in that?

Charlie, that will happen eventually.

SRM Four reaches down into some of the other tiers and we'll have the same beneficial impact there as it's had thus far.

But I don't think you'll see, I thought maybe we'd begin to see an impact of that late third quarter, early fourth quarter.

That might actually be mid part of next year or so.

The simple reality is, we have such opportunity in those better tiers and we're going after that.

Now, Deerbrook is the name of the primarily nonstandard company that Doug Wendt and the group that oversee Encompass, they manage that and that is a pretty much a purely nonstandard company.

Encompass, it actually has a pretty good risk profile attached too it.

It's primarily a package policy, more of a high-end customer and good opportunity and good performance.

Congratulations on your quarter.

Thanks, Charlie.

We have a question from Bijan Moazami from FBR.

Your question, please.

Good morning.

You guys had a high-class problem, you were generating about a $1 billion of profit per quarter, mostly from a regulated business.

Why do you think the regulators are not reacting to such a high profit level?

It seems to me that you're still getting pricing a little bit and the premium for policy is growing faster than your loss cost?

You are correct.

This is all a high-class problem, Bijan.

We'll take as much of this as we can get.

I'd say a couple of things.

You know, for the most part, regulators are reasonable people.

Every once in a while you get contrary points of view on that, but the regulation is applied over a continuum of time.

It's not just this quarter and last quarter.

It's two years ago and three years ago, when the performance, our performance wasn't as robust, nor was the industry.

So, I think that's in large part why we aren't seeing it.

But I would go back also to the affordability and availability issue.

Affordability and availability of product, both auto and homeowners product right now, is very strong.

So, I think as long as the industry continues to make that happen, I think the regulatory issues will be relatively modest.

Can you share with us how you're planning to redeploy all of that capital you're generating per quarter?

Well, I can, I have nothing new to say about that.

We have accelerated our share repurchase program.

About once a year, our board looks at our dividend policy and future share repurchases.

We'd like to deploy as much of it as possible, putting it to use in growth in our existing businesses, to the extent we have more than adequate capital, we have a great track record of doing two things, giving it back to our shareholders as repurchases and giving it back to our shareholders in the form of dividend.

Thank you.

We have a question from Nick Pirsos with Sandler O'Neill.

Your question, please.

Good morning, two unrelated questions.

The first is, in reference to the improved outlook for Allstate Financial, has that improved outlook been factored into their revised earnings guidance as well?

And second, if you can just add some commentary on the increase in the expense ratio, do you see that as being a permanent or more of a fluctuating event in the quarter?

We expect Allstate Financial to do better in the back part of the year, so, yeah that would be part and parcel of whatever our outlook is, but there are other things that can just dwarf whatever the improved performance in Allstate Financial would be.

So, simple things like catastrophes, you know, we always say well, we're using the average level of catastrophes.

I assure you if I polled the folks on this conference call right now, what average meant would have a range of 30 to 50 cents per share in the balance of the year.

So, it's a pretty wide range.

You know, I would really encourage you, with respect to your second question, don't fixate on the expense ratio, fixate on the combined ratio.

A lot of the things that we're doing to invest in our business, to produce that really good loss ratio and the really good growth numbers show up in the expense ratio.

So, we have higher levels of advertising today and we're driving for a higher share of voice in the marketplace than we have had in a very long period of time.

We need too do that and we can afford to do that in order to drive those growth rates.

We are investing in technology, which will pay off for us in the future.

What we are not doing is we are not starving our business to produce good results.

We are investing appropriately in the right things that will position us, not just in '04, but '05, '06, '07.

Also, our agency achievement bonus, where our agents to the extent they grow their books of business and have good combined ratio, that's another gift that will keep on giving.

We are paying more in that program.

It's the best investment decision we've ever made.

It's very, very powerful.

So, you know, I think our expense ratio, I'm sorry, I think it's up two-tenths a point on a year-to-date basis.

That is a very modest increase for all that we are doing to appropriately invest and grow our business and set ourselves up for '05, '06, '07 and '08.

Great, thank you.

We have a question from Alain Karaoglan with Deutsche Bank.

Your question, please.

Good morning and first congratulations on really spectacular results.

My first question, I just want to clarify one thing with respect to the trends, Ed.

I believe you mentioned that you're pricing the products, taking into account the latest trends.

I just want to make sure I don't misunderstand that.

Does it mean you're pricing your product assuming decreasing frequency and severity trends as we've had this quarter in personal auto?

No, absolutely not.

But we should be careful about pricing discussions, okay, in such a wide group.

My point really is that you look at history when you set your pricing mechanism.

You aren't projecting things out in the future.

Okay.

So it's more of a moving average concept as opposed to what we saw the last quarter?

Yeah.

Last quarter you discussed buying reinsurance.

Could you update us on where that is?

Or whether you did anything?

I certainly can.

Dan, you want to do that?

Yes, in five different states we have purchased some reinsurance.

Again, as Ed indicated, where's it attractive, where over time we think we can price it into our rates to cut off the tail, if you will, in homeowners exposure.

So, these are excess policies where we have a fairly high retention as you might expect, but where, from an economic capital point of view, as we look across on a countrywide basis, on a region by region and state by state, where it makes sense to buy at this point in time.

And where in many cases we can factor the cost of that reinsurance into the price of the policy.

So, it's a good strategy, it's a good concept.

So, did that lower your growth rate in net premiums written?

The purchase of that reinsurance?

Or it's only effective in the first quarter?

It's a small amount.

But I think in one of the footnotes it does indicate that reinsurance is part of that reason for the 5% growth rate in that written premium.

Ever so modestly.

And a modest reduction in earned, as well.

Thank you very much.

Your next question comes from Steve Shapiro with SF investments.

Your question, please.

Yes, thank you.

One of my questions was answered.

But another one would be, what is your overall opinion on the nonstandard market?

It's something that you didn't, somebody touched on it with a question, but you didn't really address it in your commentary.

Is it a business that Allstate wants to be in or should be in?

And overall do you feel it's a good business long-term?

We want to have a price and a product for every customer that contacts us and that means you need to have nonstandard product.

I do think that it's a good business, there's money to be made and returns to be generated in that.

You know, most nonstandard customers, many, you can't sell homeowners insurance, you can't sell the other property casualty products.

Life and saving products can be more problematic.

So, for us our concentration points are on more of the standard and preferred.

Again, using old terminology and old concepts.

That's a better place for us to concentrate our resources.

It is not to suggest that we don't think there's opportunity in a nonstandard business and we have a pretty decent size nonstandard book.

We just haven't been putting much advertising dollar behind it.

We haven't been encouraging our agencies to sell it because we want them to concentrate where they can make more money, we can make more money, the business is stickier and we can sell more product.

Thank you very much.

Our next question comes from Michael Lewis with UBS.

Your question, please.

Thank you.

Again, there's not a lot you can really add to what's going on so far.

I mean, I guess your biggest problem that is, you know, how much dividends you pay out and how much shares you buy.

That's a tough problem to have.

Michael, I have never heard you be at a loss for words.

Is this a first?

No, I wanted to sweeten you up for the question! [ Laughter ]

Okay, all right!

I guess at this point, I guess you don't want to discuss pricing too much and I wouldn't either, if I was generating these kinds of results, but I'm just curious, when does frequency trends become a trend versus an aberration and how do you look at it in factoring into pricing over time?

Other companies who looked upon it as an aberration are now looking upon it as a trend.

I'm just trying to get a better understanding how you kind of do your pricing and how you look at lost cost patterns and reflect that in the pricing mechanism?

Thank you.

Mike, I'll touch on pieces of that.

As you and I have chatted from time to time over the years, I think the long-term frequency trends for the personal lines auto insurance industry are very positive.

I think they've been on a downward slope.

I think that they can continue on a downward slope for some extended period of time.

Now things that go down don't go straight down and things that go up don't go straight up.

You know, trees don't grow to the sun.

Things that go down, there's a sawtooth pattern around them and every once in a while you'll see a little blip in the frequency and it starts up and people get very nervous about it.

But long-term, from a secular standpoint and from the standpoint of what we've been doing with our business, I think frequency trends are very, very strong.

What we do, I'm going to use this concept of frequency versus privacy moving average concept to factor in our pricing.

We think the performance in frequency is strong.

We think it will continue.

We aren't way out there projecting huge decreases in frequency and factor that into our pricing.

We do it on more or less on a moving average basis, are very comfortable with the way we do it.

We think it's working extremely well.

Okay.

Just one quick follow-up.

You know, the questions always are, as you know, your tiering and where you're doing well, no one really addresses the distribution mechanisms.

In other words, you have so much capital and you keep generating so much capital, much faster than you can ever put it to work, I'm wondering, what other thought patterns in getting your other distributions mechanisms working?

You know, direct and Internet or, you know, again, someone mentioned nonstandard, is there really a way, or selling through the independent agent?

In other words, is there really a mechanism here in place or a thought pattern to get the independent agent to get, you know, direct to Internet, to get other vehicles producing significantly more business or is that just not a possibility based on the structure of the company?

No, Mike, it's a very real possibility.

As I mentioned earlier, the purchase of the personal lines business of CNA and the independent agency business that we have under Allstate, you know, they probably add up to about, round numbers $3 billion-plus which probably makes us number three or four in the independent agency channel.

Now that we have that business performing at a profitable level, we have high expectations from Doug Wendt, who I hope is listening to this call, and the folks Encompass.

We have high expectations of those folks to deliver continued profitability and really good growth.

From a direct and Internet standpoint, yeah, we have a young man, Ed Beamer, who's working on that.

It's complementary to our agency channel but we want that business to grow.

The issue, of course, Mike, becomes the Allstate agency, who are our bread and butter and will continue to be that.

They are running on all cylinders right now and when you have a, you know, pick a number, 26, $27 billion juggernaut, it's very hard to have the direct business measure on that Richter scale.

But we have very high expectations for both of those businesses to be vehicles of growth for us in the future.

Great.

Thank you so much.

Our next question comes from Chris Winans with Lehman Brothers.

Your question, please.

Chris, how are you?

Good!

Two quick questions.

One is on the ability to price the reinsurance costs into product.

Is that something that you have regulatory signoff on?

And in actual practice, is it practical to do that, you know, in an environment where rates aren't begging to go up?

And the second question is what's the equivalent operating ROE on the life business this quarter?

Chris, obviously as you know, the situation varies state by state.

But again, we have looked at reinsurance and in the locations where we are, the game plan overall is to price it into our rates and, you know, that is something that doesn't happen overnight, but it is part of the strategy and part of what we expect to be able to do in those places where we're buying reinsurance.

The return on our life business, our Allstate Financial business, we don't give that separately, it's hard to get that, but it's in keeping with that excess or above the cost of capital return for the business and in keeping with the 13 to 15% overall return on the business target that we have.

If you look, you know, Chris, if we levered that business, the life business is not levered, when you compare it to, pick a name, a Prudential or a Met or a Hartford, where there is leverage, if you leverage our life business, the returns are exceeding the cost of capital.

They can do better and they will do better as the earnings climb.

Okay, thanks a lot.

We have a question from Ira Zuckerman with Nutmeg Securities.

Your question, please.

Most of my questions have been answered.

One detail I wanted to get into was on the investment income.

There looked like there was a big chunk of nonrecurring income in the quarter coming out of the, what looked like the equity portfolio.

Is this an LP type of return?

And what can we look for going forward?

Ira, I assume "big chunk" is a sophisticated investment term!

Yeah it looked like 20 or $30 million.

Yeah.

Bob?

Yeah, Ira, this is Bob.

We had about $26 million in partnership income in the quarter.

Yeah.

That we had $18 million in the second quarter last year.

We've been running between anywhere from 11 to $26 million a quarter.

So it bounces a little bit, but it's not unusual.

Excluding that, the overall investment income did rise, as well.

Okay.

It shows, you give some detail but not a lot and it's hard to get --

We aren't dependent upon that for a growth and investment income.

The investment portfolio is very appropriately allocated.

We do have private placements and those kinds of things, where the income piece can be a little spiky but our overall investment income is doing just great.

Okay.

Thank you very much and congratulations again.

Thanks, Ira.

We have a question from David Socal, with Pequat Capital.

Your question, please.

Pardon me, Mr. Socal, your question please?

Move on to the next one, Jim.

We have a question from Bob Glasspiegel with Langen McAlenney.

Your question, please.

Good morning and congratulations, as well.

Ed, I consider you a performance-orientated CEO and in your discussion over the last three years in the property casualty sector you've correctly not focused in on the top line, but more on profitability, cash flow, returns, et cetera.

When I heard you talk about the life company, I mean you were focusing in on top line sales and just wondering whether you have more of a market share attitude towards the life business than an earnings outlook because the earnings in the life area, I mean just following through Ron Frank's line of question, really haven't grown over the last three years.

Your assets are up 30, 40% from then, your premiums are up 50%, but we haven't seen much earnings growth from that segment of the business.

Yeah, Bob, I have the same orientation to both businesses.

We want good returns and good bottom line growth.

Of course, in any business the way you get that is you have to have top line growth.

As you well know, the mix of products that the industry is selling has been shifting away from traditional life products, which are more profitable, although they can have lower returns to the fixed annuities and variable annuities and bank CDs and things of that nature which tend have to have lower dollars of income attached to them.

That's a major chunk of it.

But we aren't, it's not a market share focus, a top line focus in life.

We expect good returns and good profitability in that business and I do think that there are clearer signs of improvement here.

I would point out that interest rates, coming where they are, off of 40-year lows, it's been tough in certain product markets and in certain segments to generate the kinds of returns and income that we would like.

As interest rates drift upward, now that's a forecast on my part, I think you'll see really good performance on the part of Allstate Financial but we do not hold them to any different and I read into your question, lower standard.

I guess if I could ask the question a different way, hearing your text, I got the impression you think Allstate Financial is doing great now.

Is that an incorrect read?

I mean if you were giving Allstate Financial a grade, A, B, C, where would it be?

I don't tend to think of it that way, Bob.

They're doing really well on the top line, it's a competitive marketplace out there and they are showing clear signs that they can compete.

What we want to do now is get the profitability up and the returns up and that's coming.

Okay, thank you very much.

Okay, listen, it's getting close to the appointed hour.

I'm going to wrap up.

I really hope that you're as excited about our future as we are and I hope that you recognize the momentum.

Before providing my final thoughts on the quarter, though, I want to talk about earnings guidance in the future.

It is our intention to continue our practice of providing specific annual earnings guidance through the balance of this year, but after that, I'm currently of the opinion that we will probably discontinue this practice beginning in 2005.

I want to explain my thinking here.

When we first began providing earnings guidance in mid-2001 we were in the midst of fixing our business, particularly the homeowner's business and we wanted to give shareholders a more definitive idea of when the various remedies we put in place would begin to show up in the earnings results.

Today, we are in a significantly different place.

A significantly better place.

We're performing exceptionally well.

As I've stated many times, our strategic intent is to drive more consistent profitable growth over time.

We've done that and will continue to do it.

So the practice of providing specific annual earnings guidance may have outlived its usefulness.

Our disclosure practices over this period of time have improved dramatically, significantly enhancing the transparency of our results and I've met with so many shareholders over the last several of quarters and I've asked for your thoughts on the issue of guidance.

I'd say the overwhelming response from you was to drop specific earnings guidance.

I think there's a belief that on balance, the market seems to do a decent job of formulating its own earnings estimates.

We want to address this issue thoughtfully and carefully.

I'd like to get as much input at possible, so we welcome any thoughts that you might have.

Please let us know.

And when the time comes, we can make an informed decision and let you know what we've decided to do.

Let me quickly wrap up.

This quarter provided more evidence that our strategy is working and our execution is superb.

We had another great quarter, we'll continue to do that.

Our Allstate agencies are aligned and generating excellent results in both Protection and Financial products.

We're maintaining our disciplined approach to the local markets and quite frankly, we are winning in the marketplace.

Our earnings are up, our returns are excellent, and our commitment to our shareholders remains absolutely firm.

So enjoy the rest of the summer, we'll talk to you again in October.

Thanks.

Thank you, ladies and gentlemen.

This does conclude the conference call.

You may now disconnect.