Horace Mann Educators Corp (HMN) 2007 Q2 法說會逐字稿

Good morning, ladies and gentlemen. My name is [Natasha], and I will be your conference operator today. At this time I would like to welcome everyone to the Horace Mann Educators' second quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer period. (OPERATOR INSTRUCTIONS) thank you. It is now my pleasure to turn the floor over to your host, Dwayne Hallman. Sir, you may begin.

Good morning, everyone, and welcome to our second quarter 2007 earnings conference call. Yesterday after the market closed, we released our earnings report, including financial statement as well as supplemental business segment information. If you need a copy of the release, it is available on our website under Investor Relations.

Today we will cover our results for the second quarter in our prepared remarks. The following senior management members will make presentations today, and as usual, we will be available for questions later in the conference call. Louis Lower, President and Chief Executive Officer; Pete Heckman, Executive Vice President and Chief Financial Officer; Doug Reynolds, Executive Vice President, Insurance Operations; Frank D'Ambra, Senior Vice President of Life and Annuity; and Butch Joyner, Senior Vice President of Marketing.

The following discussion may contain forward-looking statements regarding Horace Mann and its operations. Our actual results may differ materially from those projected in the forward-looking statements. These forward-looking statements are made based on management's current expectations and beliefs as of the date and time of this call. For a discussion of the risk and uncertainties that could affect actual results, please refer to the Company's public filings with the SEC and in the earnings press release issued yesterday. We undertake no obligation to publicly update or revise such forward-looking statements to reflect actual results or changes in assumptions or other factors that could affect these statements.

As a reminder, this call is being recorded and is available live on our website. An Internet replay will be available on our website until September 3,2007. Now I will turn the call over to Lou Lower for his comments.

Good morning, and thanks for joining us. Horace Mann recorded net income, excluding realized capital gains, for the quarter of $0.53 per share bringing the first half to $1.00 per share. As you will hear during this call, our leadership team continues to feel good about the Company's performance on the profitability front, as well as the early progress we are making in transitioning to our new Agency Business Model.

Earnings for the quarter exceeded our expectations and consensus. They improved sequentially over the first quarter, resulting in a first-half that while down 5%, compared to an even stronger first-half in 2006, represented solid performance. Book value, ex FAS 115, has increased 6% since year-end and 15% over prior year. In property casualty, our key initiatives continue to deliver as intended.

While we did experience upward pressure from frequency, we benefited from the moderating affect of improve severity control delivered by our claims organization. The reported combined ratio of 89 was somewhat better than our expectations, while our current accident year ex cat loss ratio was pretty much in line with prior indications to you of how we thought the year would develop.

On a countrywide basis, second quarter auto unit sales were below expectations, as you will hear. Excluding the impact that Florida has had on our sales environment, auto sales, both total and true new, were flat to last year's second quarter, but up sequentially in total. Similarly, ex Florida, property units increased 7% for the quarter compared to prior year and 9% sequentially, but were essentially flat countrywide. Those sales results, coupled with improving retention, resulted in continuing auto PIF growth both year-over-year and sequentially, led by educator growth. Property PIF decreased slightly, but that was as intended.

Overall, total property and casualty sales, retention improvements, and PIF growth are translating into sequential improvement in written premium, which for the past two quarters has shown emerging growth. And that is occurring despite declines in auto average written premium, which we believe has now flattened and should start modestly increasing going forward.

Annuity sales did not benefit from last year's significant level of single premium rollover business, but thanks to our core periodic premium business, contract deposits grew almost 6%. Accumulated account values increased close to 10%, with solid growth in both spreads on fixed annuities and fees on variable accounts. So as a result, pretax income for annuity had a healthy favorable gain to last year, while life sales and profitability were comparable, but as expected.

Looking at our long-term growth prospects, the rollout of the Agency Business Model, while in its early stages, is making solid progress. Later on in the call, we will provide you with some additional perspective and elaboration on what we are seeing as positive, leading indicators of good beginnings to this very important transition.

From balance sheet perspective, property and casualty reserves remain strong, stable, and consistent with continuing favorable prior year development. The investment portfolio is performing as expected, with minimal watchlist concerns. Invested asset growth of just under 6% helped to drive year-to-year investment growth of 8.5%. Our key capital ratios continue to strengthen, providing a strong financial base for future growth.

So all in all, a solid quarter, and although we are encouraged by how the year is developing, it is too early, especially given the hurricane season, to increase guidance now. But we will reassess at the end of next quarter.

And now for some additional commentary on the financial picture, here is Pete Heckman.

Thanks, Lou, and good morning. The second quarter represented another solid earnings period for Horace Mann, led by the property casualty and annuity segments' operating EPS of $0.53 was above our expectations, and coupled with an in-line first quarter puts us in a strong position as we enter the second half of the year.

In our P&C business, the second quarter featured an accident year loss ratio that was pretty consistent with our expectations, while the expense ratio was a bit better than we anticipated. Catastrophe losses were toward the low end of the expected of range and considerably improved from the second quarter of 2006, which had 13 catastrophic weather events compared to only six this year. The current quarter also saw a continuation of favorable prior years' reserve development, although at a somewhat reduced level compared to last year. All of the favorable development in the quarter was from the 2005 and 2006 accident years, with the largest component related to 2006 property claims. We are ongoing improvement in claims handling processes, including a higher proportion of claims being handled by employee adjusters, and a recently formed a large loss units are having a positive impact on homeowner severities.

Our 2007 earnings guidance anticipated strong net income growth in the annuity segments, but second quarter results exceeded even those expectations. Year-to-date annuity pretax income was more than 20% ahead of prior year, driven by strong increases in the interest margin, contract charges and fees, and renewal premium retention rates in our core flexible premium 403(b) business.

Turning to the investment portfolio, total net investment income is up about 8% over prior year for the quarter and six months and is tracking slightly ahead of our expectations. The quality of the portfolio remains high, with a AA- overall rating and a minimal number of items on the watchlist.

In the first part of July, we were proactive in selling out of the home building sector and booked in the second quarter a related impairment charge in our investment-grade corporate bond portfolio of $2.3 million pretax, which brought us to a small net realized loss of under $1 million for the quarter. Given the financial market turmoil that followed, our exit decision appears to have been well timed.

Speaking of the housing sector, our subprime and Alt-A exposure is concentrated in just two securities with book values of approximately $5 million each. Our subprime exposure is in a vintage 2006 CDO. The security is rated AAA and Horace Mann is in the highest tranche. Only 1.5% of the underlying collateral has been downgraded by Moody's and/or S&P. Based on collateral analysis and stress testing, its current fair value is estimated to be in the high '90s.

Our Alt-A exposure is in a nonagency CMO and is also AAA rated. This is a vintage 2003 security comprised entirely of 10 and 15-year fixed-rate mortgages, with an overall loan-to-value ratio of 47% and a current 90-day delinquency rate of 0.3%. So with the totality of our subprime, Alt-A exposure comprising only about one-quarter of 1% of our investment portfolio and represented by just two securities, both AAA rated with strong underlying collateral, I would assess the financial risk to Horace Mann from this issue as insignificant.

And finally, coming back to the second quarter, we continue to expand our capital base, growing book value per share at a double-digit pace and improving our leverage ratios. As disclosed last quarter, we've retired the remaining $32 million of senior convertible notes in May. As a result, total debt outstanding at June 30th was reduced to below $200 million, and our debt to total capital ratio, excluding FAS 115, fell to 22.5%, a level not seen at Horace Mann in over 10 years.

So in summary, net income is exceeding our expectations at the halfway point of the year and the key balance sheet component of P&C reserves, the investment portfolio, and our financial leverage are in excellent shape, all well positioned to support our strategic growth initiatives.

And now let me turn it over to Doug Reynolds for more detail on our P&C results.

Thanks, Pete, and good morning. Property and casualty posted another solid quarter, consistent with first quarter results and better than our expectations. The total P&C combined ratio was 89.1 for the second quarter, an increase of 5.3 points over last year, but better than last quarter by almost 0.5 points. Our year-to-date combined ratio of 89.3 is 2.5 points higher than the same time period in 2006. With that said, I will point out that comparisons to last year's outstanding second are difficult, as it was almost four points better than the full-year 2006.

Pete has already covered our 2007 catastrophe and prior year reserve development results and trends. Excluding that activity, our first-half current accident year combined ratios, excluding catastrophes, of 95.7 for auto, 77.3 for property, and 90.8 in total are each up a little over three points when compared to first-half of 2006 and in line with our expectations. For the quarter and also for year-to-date, both auto and property frequency, excluding catastrophes, experienced increases, which has been a common theme for most companies. We do continue to see positive results from our advance claim environment initiatives. Our overall claim severity results are favorable this year, producing combined pure premium results which are in line with expected with expectations.

Our auto unit count continues its positive growth trend. Auto policies in force grew about 2000 in the quarter, the fifth consecutive quarter with sequential growth, representing an annual growth of about 7000, or 1.3%. Our educator auto PIF also continues to grow, up 5000 in the quarter and up 20,000, or 5.3% compared to a year ago. Favorable auto retention results of 0.4 continue to support positive unit growth.

Property policy accounts declined by about 500 in the quarter and also 1000 compared to a year ago. We continue to reduce the percent of our property booked in coastal areas, with special emphasis on the state of Florida. The quality of both our auto and property books of business continues to improve with continued increases in the percent of educator business and the percent of business in the preferred underwriting tiers.

From a product view, we continually look to differentiate ourselves from the competition in the educator community. This year we have significantly expanded our auto payroll deduction program for the convenience of our educator clients. We are also introducing additional products that our research tells us are attractive to educators through strategic partnerships.

Last quarter we introduced a motor club program and next quarter we will be introducing identity theft resolution services as an endorsement to our property policies. This product will be offered to educators at no additional cost. We also entered into an agreement with a second Florida domicile company that avoids our agents as another outlet for their property business and we are continuing to work with other potential partners to reduce our overall coastal exposure.

Overall, we had a solid first-half with consistent profit and growth results. And now, let me turn it over to Frank D'Ambra for his comments on Life and Annuity.

Thanks, Doug, and good morning. As Lou indicated, annuity sales, hampered by reduced single deposit opportunities in several states, were below prior year. Total annuity sales decreased by $5 million in the second quarter and $11 million for the first six months, almost all of which is attributable to reduced single deposit business. However, total annuity deposits grew by almost 6%, driven by an increase in recurring deposits, which is a key benefit of our 403(b) market focus. Total policy count continues to grow, with cash value retention in the 91 to 92% range.

Total annuity assets under management for the six months increased by almost 10% over the 2006 period, with fixed annuity assets increasing 5% and variable annuity assets, assisted by strong market performance, increasing nearly 17%. Second quarter pretax income for the annuity segment was $7.3 million, up $3.5 million compared to the prior year, exceeding our expectations. Quarterly earnings benefited from improving interest margins and increased contract charges and fees, as well as favorable DAC, this [unlocking] driven by market performance. For the six-month pretax income of $12.2 million represented a $2.8 million increase over 2006.

Turning to the life segment, second quarter individual life sales were down 3% mainly due to a decline in the sale of Horace Mann's proprietary products compared to a stronger prior year quarter. Total sales for the first six months were comparable to those experienced last year. Second quarter and first-half life premiums and contract deposits for Horace Mann proprietary products were also comparable to last year's results. In terms of the bottom line, life [range] for both quarter and six months were similar to last year and in line with our expectations.

Last week the IRS issued the long-awaited 43b regulation. The file regulations generally parallel the proposed regulations, so there are a few areas that will require further clarification. The date by which school districts must be in compliance is January 1, 2009, with an exception for some plans subject to collective bargaining. We believe the impact of these regulations will be too narrow the field of providers to those for whom 403(b) is a key market segment.

For firms who have a 403(b) market focus and are prepared to help school districts meet the challenges of the new regulatory environment, these changes represent a significant growth opportunity. Since the announcement of the proposed regulations, we have been working on a series of a 403(b) products and service initiatives. These include the introduction of Web-based plan services to make it easier for school districts to offer 403(b) programs; a school administrator site to provide current factual and relevant information on 403(b) regulatory developments; partnering with the American Association of School Administrators, which is working in concert with the IRS, to publish in the next month a comprehensive and objective guide on the new regulations that will include an overview of the options available to school districts and the action they will need to take to comply.

Next week we will be releasing our new group annuity products that will enable us to custom tailor our product offerings to the individual needs of each district. Through the enhancements we have made and are continuing to make to our solution offerings, Horace Mann is well-positioned to respond to the evolving needs of educators and our school district customers.

And now to discuss the marketing results and progress on the ABM initiatives is Butch Joyner.

Thank you, Frank, and good morning everybody. This morning I want to cover two topics. I will begin by elaborating on new business sales results for both the second quarter and first-half of the year, then I will share the most recent information on the transition to our new Agency Business Model, or ABM.

As you heard, new auto sales did not meet our expectations in the second quarter, especially compared to the significant increase in sales results achieved in the second quarter of 2006. Here are the details. Total auto sales units declined by 2% in the second quarter when compared to the same period in '06. Additionally, true new auto units declined by 4% over the same time period. On the positive side, second quarter new auto sales units increased by 7% on a sequential basis, contributing to a 7% increase in new auto sales units in the first six months of 2007 compared with the first-half of 2006. True new units, that is customers new to the Company, increased by 9% when measured against the same time period a year ago.

Looking at property results, we saw new property sales units increased by 5% in the first six months of 2007 compared to the first-half of 2006. A note on both property sales and auto sales to provide perspective -- both lines were affected in the first-half of the year by underwriting actions taken in Florida late in the first quarter. These actions were designed to further reduce our property exposure in the state and, subsequently, impacted auto sales. So when comparing auto and property sales in the first-half of 2007 with the same period of the year ago and excluding Florida, auto sales units increased by 8%, true new auto sales units increased by 11%, and property units increased by 8%.

Now let's switch focus to Life and Annuity. On the annuity side of the business, new sales premiums fell short of expectations, decreasing by 10% in the quarter and 11% in the first-half compared to the same period in 2006. On the positive side, second quarter new sales premiums increased 14% sequentially.

And finally, agent count. Agent count declined 1% in the second quarter and by 2% compared to the agency force of June 30, 2006. Now the good news is the number of licensed product specialists has grown to 187. This represents a growth of 24 product specialists in the second quarter and 70 in the first-half of the year, a 60% increase. These additional points of distribution, a key element of our new Agency Business Model, contributed to an 8% increase in average agent auto unit productivity in the first half of 2007. And while we expect modest growth in our agency force over the remainder of 2007, we also expect a more sizable increase in total points of distribution.

And with that said, let's move onto the Agency Business Model. The movement of ages to outside offices with licensed support staff gained greater momentum in the second quarter. 45 agents completed the Agent Business School in the second quarter. This brings the total number of ages graduating from the school to 104 since its inception in September 2006.

Most of the agents did not have outside offices or support staff when they attended the school. Now approximately one-half of the group have moved to outside offices and employed life and support staff. The others are engaged in the process of obtaining a professional, outside location and employing quality support staff, all designed to improve their productivity.

Keeping in mind that it is still early in the transition, let me give you some tangible evidence of the kind of results received from agents who have attended the school. They demonstrate why we are certain that ABM is essential to our long-term growth. In at first-half-to-first-half comparison, agents who have attended the business school have increased sales and all lines of business by a greater margin than those agents who have not attended the school. This includes new auto sales units growth, the financial foundation for the Agency Business Model. Even a new annuity premium, ABM agents have delivered first half increased sales over prior year. In both [driving] premium and lump sum deposits, there is a sizable difference in sales results between ABM and non-ABM agents.

Using consistent repeatable processes from the business school, along with the utilization of a personalized business plan, ABM agents have also increased their income by a greater margin than agents who have not attended the school. This is true when measuring both first-year and total commissions.

Agents who have completed the school and moved into the new model join a group of ages who were the early adopters of the model. This brings our total number of agents in outside offices with licensed staff to just over 15% of our total agency force.

Another benefit of the new model is improved agent retention. Early indications show agents operating in the new business model have a higher base force retention this year when compared to the entire agency.

We will continue to bring agents through the business school in the second half of the year and agents already in outside offices with support staff will have priority in the selection process to attend the business school. We expect to have approximately 25% of our agents having completed the school by year-end.

The early results of this key initiative are validating the potential of the Agency Business Model when fully implemented. As the transition continues and ABM agents comprise a larger portion of our agency force, we expect the overall sales and premium growth.

Now back to Duane.

Thanks, Butch. And that concludes our prepared remarks. Natasha, please move to the question-and-answer session.

(OPERATOR INSTRUCTIONS) there are no questions at this time.

Well, thank you very much for joining us on our call. We look forward to visiting with you next quarter. Have a good day.

Thank you. This concludes today's conference call. You may now disconnect.