CNO Financial Group Inc (CNO) 2006 Q2 法說會逐字稿

Welcome to Conseco's teleconference. We will begin with an address by Lowell Short, Conseco's Senior Vice President of Investor Relations. During the presentation, all teleconference participants will be in a listen-only mode. A question-and-answer session will follow the presentation. If you need operator assistance at any time during the call, please press star then zero and an operator will assist you. As a reminder, this conference is being recorded. Thank you for your attention and here is Lowell Short.

Good morning, everyone, and thank you for joining us on Conseco's second quarter earnings conference call. I am pleased to have several key Conseco executives on the call with me today, including Jim Hohmann, Conseco's Interim Chief Executive Officer; Gene Bullis, Chief Financial Officer; Mike Dubes, President of Conseco Insurance Group; and Scott Perry, Chief Operating Officer of the Company's Bankers Life segment.

During this call, we will be referring to information contained in yesterday's earnings release. You can obtain the release by visiting the Company news section of our website at conseco.com. The 10-Q will also be available through the investors section of our website when it is filed early next week.

Let me remind you that the forward-looking statements being made today are subject to a number of factors which may cause actual results to be materially different than those contemplated by the forward-looking statements. Please refer to yesterday's earnings release and to our latest forms 10-K and 10-Q for additional information concerning the forward-looking statements and related factors. And now, I'll turn the call over to Jim Hohmann. Jim?

Thank you, Lowell. This past quarter has been very eventful and pivotal for Conseco. As you know from our announcement on Tuesday, we have been devoting considerable time and effort to developing a tentative settlement agreement on a substantial historical litigation issue. In addition, we have achieved clarity on an open tax matter. Gene will be discussing the tax matter later on this call.

Concerning the sensitive litigation settlement, I will discuss that now. The tentative settlement was filed with the court and once approved by the court would be public record. Until then, we can only discuss it in general terms, even though we have reflected its financial effects already. The litigation is a class action contract claim involving two blocks of universal life policies that were part of acquisitions by the old Conseco. Over 85,000 policies are involved. The basis for the class action was a change in cost of insurance charges. Under the tentative settlement, in force policy holders will have an option to choose a form of policy benefit enhancement and policy holders that are no longer in force will share in the settlement fund by either reinstating their policies with enhanced benefits or electing to receive cash. Finalizing the settlement will require corporate view and approval, a fairness hearing, class notice, election of options, and implementation. We expect the timetable for implementation to extend into early next year.

From a business perspective, as was noted in the release, settling this matter was beneficial in clearing an historical issue that was occupying considerable Company resources and complicating our progress as an organization. While we are not pleased with the charge, the insurance companies have the financial resources to absorb the settlement and maintain a very strong capital position.

In a few minutes, you will be hearing from Mike Dubes and Scott Perry concerning the considerable progress we are making in our businesses. But first I want to address the 2006 outlook. As you know from our earnings release, we have lowered our expectation for 2006 earnings. As I am sure you can appreciate, we do not take that lightly. We have reviewed the factors underlying our cumulative earnings for the year and coupled them with our expectations for the remainder of the year.

One of the more challenging parts of this assessment is the significant amount of recent activity surrounding our long-term care book and in particular the other business in runoff, or the closed block. Specifically, we had implemented rate increases at Bankers and we have implemented the Florida orders in the closed block. In both cases, premiums, benefits and reserves are a factor. We have also migrated the reserving of the closed block to a new system. All of these moving parts are positive for the economic performance of the business or our management of the business, but with so many moving parts, it is challenging to determine the extent to which slight timing or method differences influence ratios or the extent to which underlying premium and claim developments are fluctuations or trends.

As a result, we believe there is some noise in the ratios for the second quarter which complicate our assessment of the remainder of the year. However, it is true that initial claims and claims paid were up in the second quarter. Accordingly, in evaluating for the remainder of the year, we have anticipated a higher level of claims and we have reflected that in our outlook for long-term care and specified disease.

In our earnings release, you can see that we revised our outlook to a range between $1.65 and $1.75 per share for the full year excluding costs related to the litigation settlement.

While that states our outlook, it does not answer the important question of what we are doing about it, and we are doing a lot. I will outline several important actions and initiatives that we either have well underway or are beginning. We believe that these actions will benefit earnings. However, the most significant impact will occur in 2007 and beyond.

Concerning the closed block of health business, we have three main initiatives. They are premium management or rerates, claims management, and compliance. In the area of premium management, our recent rate approvals have been limited to those contemplated in the Florida orders. The home health care business covered by the Florida orders accounts for only about 10% of the over $300 million of closed block premium. At the end of last year, we began working on the other 90% of the closed block and we have concluded that historical experience would justify significant rate increases. We are in the filing process with rate increases that if approved would be implemented over the next 12 months. On an annualized in force basis, the premium increase would be over $50 million. However, actual execution, including regulatory approvals, would result in a somewhat lower figure.

Concerning claims, after the first quarter, we instituted several changes aimed at improving our claims management. Specifically, we have aligned all of our LTC claims management under common leadership. This change will ensure the sharing of best practices and create a single voice on LTC system requirements as we implement additional work management tools in 2007. Bankers has already completed an LTC claim leakage study and implemented the findings. We are performing a similar analysis on the closed block. We expect improvements in the closed block beginning in 2007.

Compliance is and has been a focal point. While not an explicit revenue generator, it is part of the Conseco value system and a necessary component of any claims management initiative. We have embedded a legal and compliance function within our closed block and we have conducted an external review of our practices and procedures. We have established a compliance oversight committee that meets regularly and monitors business compliance.

In addition to the items listed above, we continue to invest in new business and growth. In particular, we are reorganizing around work sites to drive focus. Mike will be talking about that a little bit later.

Finally, I am calling a meeting of over 100 of Conseco's top executives in a leadership summit. For a day and a half, we will discuss our current business status, longer term strategic plans, and importantly, improved earnings.

To summarize, consistent with our six strategic initiatives discussed in the past, we are driving a focused agenda in premium management or rerates, claim management, compliance, investments in new business and growth, and leadership.

In a minute, I will turn it over to Mike and Scott to discuss Conseco Insurance Group, Bankers, and Colonial Penn. You will see that Mike and his team continue to log impressive new sales gains. He has recruited new distributors, implemented new products, and continues to deliver an attractive value proposition to middle-market distributors and customers. As you will hear from Scott, he and his team have continued to successfully manage change at Bankers. Moreover, they executed a successful PDP in-source program, establishing the model for other partnerships in the Medicare advantage space. Scott will also discuss Colonial Penn, where we have significant sales growth in the quarter. With that, let me turn it over to Mike to discuss sales. Mike?

Thanks, Jim, and good morning and thanks for joining us. CIG continues to make progress on its strategic initiatives in the second quarter of '06. Our first annuity product, co-developed with Legacy Marketing Group of Petaluma, California, has had rapid success with approximately $47 million in sales in the second quarter. This product is now available in over 40 states. We are currently working with Legacy on a second generation annuity and have also started work on a life insurance product.

We continue work with our national partner in Florida, Amerilife, and I'm pleased to announce today that we have signed a work order. We have initiated filing our first annuity product and anticipate its launch in the fourth quarter, which will be known as the Command Series. We are also in discussions with them about a health insurance product.

In our traditional annuity IMO channel, newly appointed agents are up 104%, proficiency is up 78%, while sales are up 64% in the quarter and on a year-to-date basis, 51%, so we're off to a great start.

Life insurance is an important product line for us and we have hired a Senior V.P. for the life channel, Pat Lewis, who has over 35 years of sales experience. His focus is to rebuild the life channel with quality distribution by rekindling former relationships and recruiting new agents. Newly appointed life agents are up 44% while total premium for the quarter is flat but up 40% for the year. We expanded the life portfolio in April by rolling out four term products.

In our health channel, agent recruiting is up double digits. Our Med supp business is up 115% for the quarter and 152% year-to-date. Specified disease was down 17% for the quarter and 21% for the year. However, we have had some nice sales momentum in the second quarter with our wholly owned subsidiary, PMA , in Dallas, Texas. Their sales have increased slightly from Quarter 1 and recruiting continues to be strong with 151 new recruits in the second quarter and 250 for the first half of the year.

We have also introduced a new lump sum cancer product in June that has been well-received by our distribution. As of today, 30 different IMOs have sold that product, of which 90% were prior Med supp IMOs. The cross-selling to Med supp customers has been a focus of CIG and we're starting to have some success.

In prior calls, I've shared with you our commitment to the work site market. We have been active in that market for many years selling voluntary products to independent agents and to our PMA sales unit. In 2005, Conseco's work site business generated more than $17 million of new annualized premium and $136 million of recurring premium flow and supports more than 18,000 payroll slots. I've discussed our plan to make work sites an even bigger effort. Today we are announcing the creation of a dedicated work site unit within CIG under the leadership of Steve Stecher who had previously served as CIG's EVP of Operations. Steve has built a highly effective operations management team that has improved service quality while reducing expenses. Steve is well prepared for his new assignment with more than 20 years of insurance industry experience, including management positions at Echolife and at ING where he was VP of Strategic Marketing, Chief Information Officer and Head of Shared Services.

During the past two years, we have been building upon our core work site expertise and preparing our work site presence by establishing a new work site operations unit including a dedicated service team by investing in common remitter technology, straight through processing capabilities and a work flow automation system to provide best-in-class service and operational control. And also by investing in a strong course set of voluntary products, including work site universal life, cancer, and heart stroke products. We plan to use a solid foundation to launch a major expansion into the marketplace by establishing a dedicated work site business unit and sales team, and the introduction of new work site products later in the year, such as hospital indemnity, critical illness, accident, and group term.

Brad Corbin will continue to manage CIG's independent life, health and annuity distribution channel. Brad's team has continued to build out the Conseco advantage, our agent value proposition. Much will be said about this in later calls.

In summary, we continue to feel excited about the opportunities in our market. We continue to emphasize the basics, recruiting the right distribution, developing the right products, and creating the right tools and value proposition for our distributors and our policy holders. Jim?

Thanks, Mike. Now I'll ask Scott Perry to discuss the results of Bankers Life and Colonial Penn.

Thank you, Jim. Good morning. During the second quarter, Bankers continued to experience similar trends to those we shared in our last call for the first quarter. We continued to experience strong Medicare supplement sales, up 9%, benefiting from the introduction of Plan J and the success of our Medicare Part D initiative. These results further helped solidify Bankers as the leading agent sold rider of this product line.

In the quarter, life and annuity sales were essentially flat. Long-term care sales declined, offset the Medicare supplement growth, resulting in overall sales being down for the quarter by 6% versus second quarter of '05. As occurred in the first quarter, many of our top long-term care agents focused on servicing a significant portion of our long-term care policy holders that were impacted by the in force rate increase. However, we are encouraged that the sales impact of the in force rate increase is beginning to dissipate as our long-term care sales were 12% higher this quarter than in the first quarter.

To date, we have received approval in 45 states for the in force rate increase representing 80% of the original financial filed impact, which is in-line with our expectations. We do expect to receive the remaining approvals by the end of the fourth quarter and are expecting approximately 85% of the financial impact requested to be ultimately approved, a little bit better than our assumptions.

With regard to our Part D offering, our experience has far exceeded our expectations. We have enrolled approximately 150,000 members in Advantra-RX, the PDP Part D offering through our partnership with Coventry Health Care, with over half of these enrollees being existing Med supp policy holders.

Although we saw increased activity near the end of the open enrollment period, May 15th, we have seen sales slow down over the past couple of months. Stronger sales and financial performance has led to an incremental earnings that will exceed our original assumptions. The open enrollment period for 2007 begins November 15th and we expect 2007 activity to focus on retaining market share and enrolling new members.

We are continuing to be very active in our pursuit of opportunities in the Medicare advantage market. Although we have continued to see strong Med supp sales, we recognize that the Medicare advantage market has strong growth potential and certain Medicare advantage products, for instance, private fee for service, may be a good fit within our current product offerings. We are reviewing opportunities, which include providing distribution for another carrier's Medicare advantage product and participating in risk in certain markets in 2007.

In addition, we're evaluating the dynamics behind entering the Medicare advantage market with a product of our own in 2008.

Overall sales for the quarter were in line with our expectations. We are looking forward to building sales momentum in the third and fourth quarters of this year. We will be introducing a new combination product, a single premium whole-life product with a long-term care rider, late in the third quarter. In addition, as many of you know, New York is the only state in which Bankers does not have a presence. We continue to make excellent progress in getting ready to enter this market. While there will be no sales impact in 2006, we do expect to hit the ground running in the first quarter of 2007.

Our direct response group at Colonial Penn continues to expand sales of its core products through a purposeful investment and lead acquisition, which produced year-over-year sales growth during the quarter of 24%. In addition, we began direct marketing tests of a Medicare supplement offer at Colonial Penn representing an example of enterprise collaboration by combining Colonial Penn's direct response marketing expertise with our enterprise-wide product manufacturing capabilities. We continue to seek ways to grow the Colonial Penn business.

Overall, we are pleased with the tremendous progress we have made with the management of our in force business, particularly our health blocks. As we enter the second half of the year, our focus is on driving sales growth through improved agent recruiting and productivity. With a proven distribution force and expanding product portfolio, we are well-positioned in the growing senior market. Jim?

Thanks, Scott. And now I'll turn it over to our CFO, Gene Bullis, for a discussion of the financial results. Gene?

Thank you and good morning. As detailed in yesterday's press release, the net loss applicable to common stock for the second quarter was $31.8 million or $0.21 per diluted common share. This included realized investment losses of approximately $100,000. As discussed in our announcement earlier last week, these results include an increase -- earlier this week, I'm sorry, these results include an increase in certain litigation reserves of $100.3 million after tax or $0.66 per share.

I should mention that the per share data reflect an unusual situation since certain items are anti-dilutive to the net loss per share position. Our calculated of diluted operating earnings, excluding the litigation charge, is $0.43 for the second quarter.

Our book value per common share in the quarter increased to $26.89 excluding accumulated other comprehensive income or loss under FAS 115.

As we announced on Tuesday, our tentative settlement with the IRS has become effective. Accordingly, we reduced the valuation allowance on our deferred income tax assets by $260 million at June 30. This change had no effect on our net income, but did directly increase shareholder's equity. The amount on the allowance reduction was determined using the same assumptions and projections used at last year end, except we have now reflected the litigation settlement into these projections, which reduced our previously anticipated valuation allowance reduction by $15 million. At June 30, we have approximately $380 million of remaining deferred tax assets with valuation allowances which will be subject to future periodic review for recoverability and potential reversal.

Debt to capital, excluding AOTI, came down to 14.5% at quarter end. Our consolidated RBC at quarter end exceeded 330%, notwithstanding the special litigation charge.

Turning to benefit ratios and insurance margins, Bankers Med supp benefit ratio was 67.4% in the second quarter compared to 67.8% in the first. These results include the release of claim reserve redundancies of $4.2 million and $2.2 million, respectively. Without these claim reserve releases, our benefit ratios would have been approximately 69 to 70% for each of the quarters and in line with our expectations as a result of pricing actions we took last year. We expect the benefit ratio to remain in the range of 69 to 70% for the remainder of 2006.

As expected, losses in the Bankers' Med-supp book slowed in the second quarter compared to the first quarter but still remained higher than our historical experience. This resulted in increased VOBA and DAC amortization by approximately $4 million this quarter compared to what our historical experience would have produced. We believe the loss experience will continue to improve in the third quarter with the 2006 Medicare advantage enrollment deadline of June 30 and then pick up again in the fourth quarter with the 2007 enrollment beginning November 15.

Our Part D program results reflected a gain of $1.6 million compared to a loss of $2 million in the first quarter related to the seasonal effect of loss patterns embedded in the benefit structure. Based on first half activity, we expect full-year results of pre-tax earnings to modestly exceed our 2006 target of approximately $4 million for the Part D program.

Bankers' long-term care benefit ratio was 96.2% compared to 96.5% in Q1. We experienced higher than expected incurred claims in the quarter, which was more than offset by some -- which more than offset some one-time and recurring benefits from our rerate execution. It is unclear at this point as to whether the increases in incurred claims is a trend.

We experienced a similar increase in our second quarter in incurred claims last year when compared to first quarter 2005, but it is not clear as to whether this is a seasonal pattern. It is a situation that we are monitoring closely. If Q2 claims experience persists, the second half ratio should be 98% compared to our original expectation of 95.

Overall, we are very pleased with the launch of care rerate process in the Bankers long-term care book. From the approval process with the state regulators to the execution with policy holders, the process has gone very smoothly. Given the timing of the approvals, the execution of the rerate process will continue for the balance of this year and into the first half of 2007.

CIG's Med-sup benefit ratio was 56.9% in the second quarter compared to 60.3% in the first quarter. We expect this ratio to approximate 65% for the remainder of 2006. Losses on the CIG book were consistent with our DAC assumptions.

CIG specified disease loss ratio was 79.9% compared to 77.5% in Q1. This result reflects higher than expected incurred claims driven principally by continued incidents of paid claims with old initial codes which also increases continuous factors for reserving open claims. We are reviewing upward -- revising upward our expectation on this loss ratio to 77% for the remainder of the year. It is important to note that this product continues to produce interest adjustment benefit ratios well under 50%.

Our business in run-off benefit ratio was 118% in the second quarter compared to 94.8% in the first quarter, reflecting significantly higher incurred claims due to a combination of increased new claims as well as adverse development of prior period claim reserves. This experience produced approximately $20 million of adverse claim development on 2005 incurreds and approximately $4 million higher than expected increases in reserves on new claims. Jim previously discussed our initiatives in claims management and rerates, which we believe will eventually return the book to a more normalized outcome. However, these actions will take time and therefore we are expecting the benefit ratio to approximate 110% for the remainder of the year, which would result in an interest adjusted benefit ratio of 58%.

Debt investment income for the second quarter reflects earned yields of 5.68% and a new money yield of 6.08%. We are cautiously optimistic that our investment returns will continue to exceed original expectations by several basis points.

Based on Q2 results, we remain confident that we will meet our 2006 expense reduction goals of $14 million excluding PDP expenses.

Recapping, while there are several issues contributing to our reduced 2006 outlook, the principal driver is closed block, which is not part of our growth strategy and which we believe we can manage to improve margins over time. With that, I'll turn it back to Jim.

Thank you, Gene. Now I'll turn it to Lowell who will update on the CEO search. Lowell?

Thanks, Jim. Our Chairman, Glenn Hilliard, asked me to provide an update on the status of the Board of Directors search for a new Chief Executive Officer. As you may remember from our first quarter call, Glenn announced that the Board had formed a search committee to conduct a comprehensive internal and external search. The search process is nearing a conclusion and is still expected to be completed no later than the end of this month, which is well within the time frame that Glenn set out in May. The Board believes that it would be inappropriate to make any further comments until the search process is completed. And now we'll open it up for your questions. Operator?

[OPERATOR INSTRUCTIONS] Your first question comes from the line of Jimmy Bhullar with J.P. Morgan.

I just have a couple of questions. First, on how do you think your results change your outlook or your view on what's going to happen with A.M. Best, their decision? And then second, you seemed pretty comfortable in your guidance when you announced first quarter earnings. What's really changed in the last three months that is making you change the guidance so dramatically?

Why don't I take the first one on AM Best? You probably will recall that our approach on commenting on AM Best has always been to acknowledge that AM Best has a process. We respect the process, and we do not speculate about the rating. However, we do have a position on these matters and our position with AM Best is that the results of our change in outlook in the quarter are derived primarily from the closed block. As such, we don't believe that they're fundamental to our financial strength and they certainly are not part of our growth strategy. We're managing the closed block through the claims management and rerate process that I described earlier. So that's the position we'll be taking on that particular matter.

Relative to your second question, I think that at the time we discussed Q1 results, we outlined a number of initiatives or points, eight or ten points, that we thought were driving our expectations for the rest of the year and I would say most of those performed and we expect will continue to perform relative to our expectations. The significant difference between our view of the business for the last half of the year now compared to three months ago is what happened to incurred claims in the second quarter on both our long-term care books as well as specified disease. And we therefore have adjusted the outlook for the -- the short-term outlook for benefit ratios on those health lines.

Okay, thank you.

Your next question comes from the line of Tom Gallagher with Credit Suisse.

Good morning. A few questions. I guess just also related to potential ratings -- I guess this is a little more technical. Do you think the fact that the long-term care deterioration was in a run-off book would still allow you potentially to get the Bankers and CIG's subsidiaries upgraded because I believe it's the Conseco Senior Health that saw the real deterioration here. That's my first question.

Well, I would say that's an important point because we already have a split rating. Conseco Senior has a B rating with a stable outlook, and Conseco, the rest of the group rating is B double plus with a positive outlook. So I think AM Best already views those businesses somewhat differently as a result of how Conseco Senior is positioned. So I think that that is certainly part of their understanding and our presentation of the financial position of our statutory entities.

Okay. Would you know of any reason why they potentially couldn't spread the rating differential wider than it exists today? I'm just not aware if there are any provisions in place that they might --

I would have to -- that's probably more a question for AM Best but based on the fact that one is a positive outlook and one isn't, would indicate that that's a possibility.

Okay. The next question I had is I guess related to capital. And Gene, I know you've been -- you haven't really commented very much on capital management plans, but I think it's kind of relevant here. And whether you really get the rating upgrade or not, would you, are you exploring shareholder-friendly capital management programs, at least a modest amount of share buyback given that your leverage ratio is so low, I would imagine you have to be considering it at this point with your stock now below 80% of book value.

As we have commented in the past, we are evaluating a capital management program that at an appropriate point in time would include the introduction of a buyback program. We have to be careful about that to make sure that that's balanced with what we believe is a longer term imperative relative to ratings, but nevertheless, we have to be mindful of where the rating situation is and what the short-term outlook is. There are some other elements that would be required for us to do much in the way of a buyback program, specifically related to our existing senior debt. Those are things that we're currently thinking about and exploring.

Got it. Related to the covenants on your senior debt?

That's correct.

And the last question I had is just on the deterioration and the loss ratio for the run-off block. I hear what you're saying about part of this may be process changes. Is there any evidence that if you look at geographic concentration of where you're seeing the pickup, is it in the Florida book and do you see there being any correlation between the rerate process and a pickup in claims activity? Are you seeing any evidence of adverse selection, I guess is what I'm asking?

Maybe one thing I can comment on the latter half of that, when I was describing what we're doing in that area, I used the term premium management as opposed to purely rerate, and that's because whenever you evaluate and draw a conclusion with respect to your ability to rerate the business, you must make decisions about at what level you will seek the rerate accounting for exactly the type of phenomenon that you mentioned earlier among other things. So we certainly do account for that within our overall premium management process.

I would say specifically this quarter's increased claim incidents was a more broad-based. Last quarter we did see some as well and that seemed to be more directly related to the Florida book and the impact of the timing of elections or policy holders going on claim in advance of the election period. But we didn't see much of that this period and the Florida business seems to be developing as expected. It's the rest of the book and the more broad-based phenomenon this quarter.

Okay. That being said, if it is more broad-based and you mentioned you're in the process of attempting to get rerates on the other 90% of the runoff book, I presume that's why you're not overly cautious that this could deteriorate, because if -- I guess the bigger concern would be if you were seeing adverse selection is I guess what I would think, anyway.

Yes. Our last patterns haven't spiked or changed much, so typically when there's some adverse election, you see some interruption in the consistency of lapse experienced. We don't believe that's an issue that's directly facing our outlook today.

And to your point, we're determined, obviously, to be managing this closed book of business, and we are managing this closed book of business and therefore we have confidence in our ability to address claims processes and claim management and premium management in a compliant way.

Okay, thanks.

Your next question comes from the line of Jukka Lipponen with KBW.

Good morning. I think you made already some comments with respect to this run-off book, but can you just further try to amplify why you are confident that the loss ratio won't further deteriorate and that you can now sort of get things on a more even keel, if you will.

The direct answer to that would relate to the things we've discussed. I think our ability to -- it is a kind of business that is susceptible or appropriate for rerating and we have a program underway that will result in the increases in premium. We do have renewed focus on claims management. This book is running off. There are policy limits associated with the policies underlined in the book. So we think that while we are concerned about the volatility and frankly our visibility into benefit ratios has to realistically have a range of outcomes. We think that over time, we can manage this book reasonably consistent with what our expectations are.

And then my other question, or second question, is what kind of returns are you currently pricing your new products that you're selling?

We have consistently priced our new products with a 12% internal rate of return at a statutory RBC requirement of 275%. That's our pricing standard. In very limited ways, we determine the appropriate competitor. Apart from that, we usually assign pretty tight production limits and we don't have significant sales volume of products that aren't returning that 12%.

And that's the average for all of your products, but it would be a range if we go product-by-product, right?

Yes, but a reasonably tight range.

I think, Gene, at some point previously said that you would probably start a modest dividend if you got an upgrade. Is that still true, and what would that look like from a timing standpoint? How soon after if you did get the upgrade would that potentially happen?

I think I would like to stand by our previously expressed expectation that we would start a modest dividend relatively soon, but to be more precise, given the imminence of our ongoing discussions with AM Best and our desire to get some feedback from them as we get closer into this final review process, I'd rather not be more specific than that.

And lastly, you had mentioned the $380 million remaining valuation allowance. I wanted to make sure that that's only on the NOLs, excluding any allowances against the capital gains and that sort of stuff?

Yes, that's right. The valuation allowance of the balance sheet data is around $770 or so, but the portion that would be subject to a valuation for reversal is the $380 million.

Thank you.

Your next question comes from the line of Nigel Dally with Morgan Stanley.

Great, thank you. Good morning. Just sticking on your valuation allowance, further reductions at year-end in the commensurate both to the book value now less likely given your lower earnings guidance, even if you get the ratings upgrade. Second, one of your peers, Genworth, had higher long-term care claims, but unlike yourself, they're not expecting the higher claims to persist in the second half of the year. So I'm hoping you can discuss why you believe your experience is likely going to be an ongoing trend rather than just quarterly volatility? And then just lastly on guidance, you're expecting a sharp increase in the CIG Med supp loss ratio. I hope you can discuss what's driving that increase.

I wasn't sure -- the first question relative to valuation allowance. The modest change in outlook won't affect the projections in terms of our valuation allowance expectations, but there are other factors that go into that consideration, including our projection of the timing of taxable income as it relates to how the use of the NOL, particularly, will find itself into a tax return, but this issue won't significantly affect our expectation or our analysis on taking additional valuation allowance that's available today.

Question about long-term care versus long-term care here. I guess one thing I will offer on that is one of the things I mentioned in the earlier discussion is that we've had quite a bit of activity around our block of business and that's a -- that makes it a little bit more difficult for us to look out into the future because it's more difficult, I think for us to determine fluctuation versus trend and we have a number of different things influencing ratios like implementation of orders and rerate and changing in reserve systems,et cetera. I think there are a few factors there that are present in our case that perhaps are not present in their case.

Would it be fair to say on your long-term care loss ratio assumptions that you're taking what you consider to be a more conservative view on where the ratio could end up and there are factors which could actually flow the other way and lead to loss ratios that they've been somewhat better than what you're conservatively projecting today?

Yes, I would say in taking a look at the back half of the year, we have not expected that the full severity of the experience that we saw in the third quarter will continue, but we're also not considering that it's a complete anomaly and isolated it out from our expectations. So we try to take a balanced view that there's a bit of a spike, but we're not prepared to believe that it's going to fully reverse itself. And frankly, it's not knowable. We're going to have to see how claims develop before we can take a more precise view.

Okay. Then on the CIG Med supp ratio, expecting it to be quite significantly higher in the second half than it was the first half?

As Med supp ratios always do develop out and we've been able to -- our historical claim reserves have produced some redundancies that have flown through the benefit ratio in the first half of the year and we've assumed we don't have anymore, our claims are as best as they can be. So the target for the last half of the year assumes no release for claim redundancies into the ratio.

Got it, thanks.

Your next question comes from the line of Andrew Kligerman with UBS.

Great, thank you. Shifting back to the long-term care loss ratio guidance on the run-off block, I guess that's 110 for the balance of the year. The specified disease loss ratio on the CIG book guidance I think is 77. So that's down a little bit as well. Assuming you get all of the rate action, the rerates that you're talking about, when we get to 2007, where do you think these ratios can go? Can they return to the sort of well below 100 for the run-off block? Can it return to the more closer to the low to mid-70s for specified disease? Where do you think we could be looking at these ratios in '07 or if you're more comfortable with '08, where do you see that?

Our modeling would indicate a combination of rerates and claims management that incurred loss ratio on the closed block should normalize back to right around 100, so 10 points from our expectations for the back half of this year. Specified disease is a situation that we need to continue to monitor. One thing in that book is that it is quite profitable, therefore we really don't have a basis for rerates on the specified disease side. Lifetime loss ratios are quite good relative to expectations. So there really doesn't appear to be any opportunity or it wouldn't be appropriate for us to rerate that book. We have no reason to believe that ultimate morbidity will be different from pricing and therefore we expect that over time, it would revert back to the mean.

And the mean would be 77 now, the new guidance or back --

No, I would say over a longer period of time, back into the mid-70s.

Back to the mid-70s. That's good to hear. And just a very general question, I'm pretty comfortable with the management team at Conseco, but you guys are dealing with a huge legacy block of companies that are difficult to manage. Do you feel that as you look to the future you're going to have a lot of spikes and issues like this where you expected one thing and you get another, or do you think that at some point in the next year or two you could really get this under control where we're not seeing as much volatility in the loss ratios overall?

Well, we certainly are confident in our ability to manage the business, first and foremost. As far as predicting volatility in a business that has product designs that specifically have the ability to rerate our managed premiums, I think to some extent you have a little bit of that within the category of just systematic, that you get some volatility and then you address with your premium management, et cetera. All that said, with the various initiatives that we have had ongoing and the various initiatives that we do have ongoing, we certainly have confidence in our ability to minimize that to something that is purely systematic in the category itself, in the products themselves, and in fluctuations in morbidity, et cetera. So in response to your question, I don't think that there is any company that operates within the category that doesn't have some variation, period. That's the nature of what we have here. But I am entirely confident in our ability to manage that to a minimum.

And lastly, Jim, it was two plus years ago that you had -- Conseco had some reporting issues, timing of getting claims data and other information. Just an update, how do you feel about the quality and the timeliness of your claims information and being able to manage these issues?

I guess I'll take a shot at that. I think that the timing of the information really isn't the issue. The difficulty is in correlating data to what ultimately produces a reserve element. Because you really have to do a full valuation on the reserve side.

Understood, Gene. But just in terms of the timing and the flow of information, does it get back to you within a pretty quick time? Do you have any data or numbers around that?

Obviously we need to improve in that area or we wouldn't be faced with an analysis of a situation after the close of the quarter. We're exploring different alternatives and one would be doing a hard close, particularly of the closed block book, the month before the end of the quarter.

Interesting.

Just to eliminate the quarter, to increase the visibility into the book earlier. But that will require some work. But we're giving that some consideration.

Okay. Thank you.

Your next question comes from the line of David Richards with Citadel Investments.

Hi, thanks. I just wanted to return to the issue of the run-off block and specifically talk about the corporate structure. If you look at where you saw the 118% loss ratio, how much of that does reside in the -- how much of that business does reside in the Conseco Senior Health entity, which is, as you pointed out, not a part of the review for upgrade from Best?

The question about corporate structure, would you be a little more explicit?

What I'm wondering about, if I look at your statutory numbers, Conseco Senior Health has roughly $2.8 billion of policy liabilities which would be about 83% of the run-off block. I just wonder if that's consistent with -- if that's how we can think about the portion of the run-off block that is in a B-rated entity, which is essentially not a part of the Best review.

That is consistent. That would map to the premium incidence as well. So it's in the 80 to 90% is in Conseco Senior Health. Conseco Senior Health has some other books of business as well as -- in addition to the long-term care, but most of the closed block long-term care book is in Conseco Senior.

Premium, I think it's around 90%.

Thanks, that's very helpful. Just a follow-up. While I know you don't want to speculate on Best, if perhaps you could just help us understand, as you're going through the review process with Best, was there a part of this review that included a review of the run-off block, or has that been, if you will, put to the side as you had your discussions over the last few months?

It is always included.

Yes, it is always included and it's always at a very granular level. So we review -- because they still have, clearly they have rating comparatives relative to that business as well. They are equally interested in it.

Okay. As it relates to -- so their review doesn't specifically say, we're going to talk about the review of each entity and there's a discussion that's unique or specific to each entity?

Their review includes an entity level analysis, which is important, but we don't have separate reviews for each entity.

Okay. One final question. As you look at where you sit today, it looks like Bankers and CIG had some pretty normalized results, I mean there's moving parts, but is there a thought or a concept that you would think about trying to effectively shore up the capital of Conseco Senior Health to the extent that was an issue for Best? It won't change the GAAP numbers, but it might give them some degree of comfort around the fact that won't be a drain going forward on the business.

Well, our position with respect to capital is that we have good flexibility in maintaining capital levels to meet both regulatory and rating requirements. And we don't believe that we have capital constraints in order to deal with the kind of capital issues that might be implied from the lack of performance of short-term in the closed block, and we also have the ability to manage to improve future capital requirements associated with any drain that that business would create. We don't believe that it would be a particular benefit to significantly increase the capital of Conseco Senior, but rather balance it on a routine basis.

Okay, I think that helps. Thanks very much, guys.

Your next question comes from the line of Joan Zief with Goldman Sachs.

Thank you. Good morning. You talked about the progress of Bankers and then on Conseco Insurance Group and the issues on the Senior Health. What does it take, do you think, for the upgrade of the parent company? So you've -- what are some of the issues that we have to be sensitive to? Because even if you do get the split rating at the subsidiary levels, your debt position and your capital flexibility is really tied to the rating of the holding company. So I guess my questions are, what do we have to remain sensitive to when thinking about that and how does the issues at the Senior Health, the run-off block, affect the holding company capital position?

Well, I guess that's a pretty bright question. I'll make some attempt to give you my perspective on it. I think that relative to our capital strength, we have the flexibility to deal with some volatility in the closed block, but that is a consideration that a rating agency, specifically AM Best, would give some thought to. In terms to other rating criteria, specifically the value of the franchise, I think that that the existence of the closed block is pretty heavily discounted and not considered since that's not a big part of our growth strategy or the the value of our franchise going forward, which is an important part of the rating process. The real focus, therefore, in terms of understanding our capital position, is statutory results overall and actually we've seen good statutory results in all of our insurance businesses except for Conseco Senior and I think that on balance, we're showing good progress. But the real impact relative to our capital position and our outlook and the way in which the rating agencies look at us, I think a big part of their analysis is on statutory.

And I think maybe one comment, when we talk about rerating the book of business as was noted earlier, the overwhelming majority of it is in Conseco Senior. And clearly a rerating of business is friendly to the statutory results either from the perspective of providing for some potential improvement or reducing the probability of the need for any additional capital.

And tell me again how far along you are there? You said you started the rerate on this block, the end of last year, your filing? I'm sorry, can you tell me again the timetable of that?

The way you have described it is correct. There's a fair amount of analysis, obviously, that that has to go on before we file for rate increases and we are in the filing process. And our expectation is that it will take about 12 months to complete that process and get it worked in.

Okay. So just so I understand, is the -- when you think about your expectations for the results of the run-off block, is that -- do you expect, on an ongoing basis, that the contribution to earnings of that run-off segment will remain positive, or do you think that it is a possibility that that will actually be an earnings drag in the short run?

Well, I think we pretty well stated our expectation for the rest of 2006. And certainly we've expressed that. I would like to follow up on a previous question about trends and benefit ratios. The thing to keep in mind is that both specified disease and long-term care, I know I'm jumping away from your question a little bit, but both specified disease and long-term care have significant afterlife reserves and therefore generate a significant amount of credited interest and one really needs to look at interest adjustment benefit ratios over time rather than just the pure loss ratio, or the pure benefit ratio, excluding interest. We believe that the, on a GAAP basis, the margins that are reflected in our existing reserve should produce margins that are proportionate to earned premiums over time. That's how GAAP accounting works. We believe that when we're able to get through the noise on these adjustments that are reflected in our reserves, we should see normalized pattern of earnings on a declining level of premium.

And if we had a different point of view, GAAP accounting would have us booking loss recognition on it, which we're not.

What about on a stat basis, then? On a stat basis, are you operating at a loss?

Let's see, we are at a loss on a stat basis on this book. We have had historical losses that had been abating and with some of the strengthening we've done in the last couple quarters, that progression has been interrupted somewhat and the GAAP reserves are modestly higher than the stat reserves. But after that phenomenon, the present value of future profits and the emergence of profits should track pretty closely to the GAAP results but there is a higher level of GAAP reserves in stat as a result of fresh start that will bleed out over time.

Okay, thank you.

Your next question comes from the line of Yaron Shashoua with Fox-Pitt Kelton.

Thank you. I have just two questions. The first you mentioned that you'll be rerating the other 90% in run-off. I was just wondering, do you expect to receive similar rates as you received in your Bankers and Florida order on the rerates? That's my first question and I'll follow-up with a second.

I'm sorry, you were a little unclear there. You said do we expect what?

Do you expect the same magnitude of increase in rates as you received in your Bankers and your Florida order in your rerate process?

In terms of a percentage?

That's correct.

Yes, I actually think this is a little lower than what the Bankers was. I'd have to get a little more granular on it to answer your question specifically, but this is a little lower than what Bankers had. I think in terms of the aggregate dollars, it's also a little lower than what Bankers had. But it is significant to the book and it is, in our opinion, fully justifiable.

And recognize that this is not a one and done process. You apply for rerates, a portion of which get approved and then you continue to evaluate the business and if the business justifies additional rerates, they're applied for.

Okay. My other question is on your LTC block in Bankers. You've guided up your loss ratio from 95% to 98%. I'm just kind of curious, the incurred claims that you're expecting to receive in the quarter, is that more in the 65% of the in force book of business that you're rerating, or is that coming in elsewhere?

Yes, I would say there's not a significant differentiation between the incidents of claim on the rerate portion of the book and I would say, what I've tried to articulate here is that we have concerns as to whether or not the claim experience will persist, and if it does, that's the 98% will be the outcome. If it doesn't, it will be less than that.

Okay, thank you.

Your next question comes from the line of Andrew Rosenfeld with Canyon Partners.

Tell us how much GAAP book equity you have in the closed block of business.

I don't have that right off the top of my head.

But roughly how much of your equity you think's in that part of the book?

I'd say less than 10%.

Okay, great.

Your next question comes from the line of Norm Jaffee with Sunova Capital.

Hi. Actually this is Felice Gilman. Just thinking about the closed long-term care block. What consideration have you given to reinsuring this and removing the earnings volatility from your ongoing earnings picture?

Well, I think we always look at all options for all of our business.

What would specifically be the impediment to that? I think it would help you from an earnings volatility standpoint. I would think it would help you from a ratings standpoint, too.

I think the impediment is, I don't think there's a lot of supply of reinsurance in the marketplace for long-term care.

We're always out in the market looking for ideas and that's one that hasn't had a lot of traction in the reinsurance arena.

Okay, thanks.

Your next question comes from the line of Tony Meconiates at Contrarian Capital.

Good morning. I had a couple questions with respect to the upcoming ratings decision. First question is, in terms of timing, are the discussions still ongoing or are they pretty much done and we're just playing the waiting game? And my second question is there any potential for an impairment to the tax-deferred asset if the agencies come back and don't provide the upgrade? Thanks.

On the point of timing and engagement, engagement is in fact ongoing and AM Best has indicated to us that they'll be taking the time that's necessary for them to complete their analysis. We're expecting that it will go out, it may not be completed this month. And Gene, on the second --

On the second question, there's no -- you couldn't go into a projection and change an assumption relative to a rating and come up with a different answer here that would be negative, so I would say that's not an immediate issue. Obviously, over a longer period of time, extent to which our projections turn out to be more optimistic than actual experience indicates, that would have to be reflected in our annual assessment of the valuation allowance. There would be be no immediate impact.

And one follow-up question, do you expect the rating agencies to hold off on the decision until the CEO issue is resolved completely?

I don't know that that will be -- I don't think that's a mandate from them. I imagine from their perspective it's nice to have,but I haven't heard that it's a mandate from them.

Based on the timetable we've indicated, that is the likely outcome.

Okay, thank you.

Your next question comes from the line of Jukka Lipponen with KBW.

One additional question. I apologize if I missed it. Did you provide the statutory earnings and statutory capital amount?

We're still finalizing our statutory results, so I would be reluctant to provide them on a preliminary basis. We do have sufficient visibility to know that our RBC will exceed 330.

Okay, thank you.

You have another follow-up question from David Richards.

Hi. Thanks, guys. Sorry to go back to this, but I just wanted to understand something. I think the prior question about reinsurance sort of dovetails. Is there a point at which, the market seems to be very concerned about where Conseco will be based primarily on run-off, and is there a point at which you look at the run-off block as something that can basically be, in one way or the other, separated from the rest of Conseco? I'm not sure whether that's a sale or reinsurance agreement or whatever, but is that something that you guys have considered and do you think it's something that's reasonably practical?

To some extent, I think that there's some argument that it is within the group in a separate category already, obviously. With respect to alternatives that you're describing there, I think there's some questions of the levels, certainly would be some strategic alternatives, I think the implementation of them would be a question. As far as I know, there are not many buyers of long-term care books nor are there many reinsurance of long-term care books. While it's theoretically of interest and would be always of interest, I don't know that it's really something we could implement effectively.

Operator, we only have time for one more call.

Okay. Your last question comes from the line of Eugene Chen with SuttonBrook.

Hi, guys. I want to go back to one of the questions earlier about sort of a split rating from AM Best. How would an AM Best ratings upgrade on CIG and Bankers Life subsidiaries but not on the run-off subsidiary, how would that impact you on an operational basis as opposed to an upgrade on the entire Company?

I don't think it would have any impact at all to the extent we're successful at an upgrade, we don't expect to get one on Conseco Senior anyway.

So operationally, you would have just as much flexibility and/or -- it would help CIG operations just as much as if you got a ratings upgrade for the entire Company?

That's correct. There's no new business activity associated with Conseco Senior, so it can operate quite effectively with a B rating.

And just a quick follow-up on long-term care. You saw some deterioration in UNUM's long-term care book as well as I think someone else mentioned the Genworth book. Is there something systemic that you guys could point to based on your analysis of what occurred this quarter at this point?

I'd say we have insufficient data to conclude that there is anything systemic. We're still trying to determine, as we said, whether this is a trend or not, or a one-time event, and it's going to take us a couple quarters to really reach some conclusions on that as it will everybody else.

Thanks.

There are no further questions at this time.

Thank you, Operator. I'll turn it back to Jim Hohmann for closing comments.

Thank you, Lowell. As I stated at the outset, we've completed an eventful and a pivotal quarter. In the quarter, we've achieved resolution of some historical matters, identified some current challenges, and we're taking actions to address them. So in closing, we continue to focus our attention on the very attractive middle market. We remain fully confident in our ability to reach those customers with meaningful financial solutions and to achieve our vision to build Conseco into a premier insurance company serving middle America in life, annuities and supplemental health products. Thank you.

This concludes today's Conseco second quarter earnings conference call. You may now disconnect.