Manulife Financial Corp (MFC) 2014 Q2 法說會逐字稿

Please be advised that this conference call is being recorded. Good afternoon and welcome to the Manulife Financial second-quarter 2014 financial results conference call for Thursday, August 7, 2014. Your host for today will be Ms. Anique Asher. Ms. Asher, please go ahead.

Thank you and good afternoon. Welcome to Manulife's conference call to discuss our second-quarter 2014 financial and operating results. Today's call will reference our earnings announcement, statistical package and webcast slides, which are available in the Investor Relations section of our website at Manulife.com. As in prior quarters, our executives will be making some remarks. We will then follow with a question-and-answer session.

Today's speakers may make forward-looking statements within the meaning of securities legislation. Certain material factors or assumptions are implied in making forward-looking statements and actual results may differ materially from those expressed or implied. For additional information about the material factors or assumptions implied and about the important factors that may cause actual results to differ, please consult the slide presentation for this conference call and the webcast available on our website, as well as the securities filings referred to in the slide entitled Caution Regarding Forward-Looking Statements.

We have also included a note to user slides that sets out the performance of non-GAAP measures used in today's presentation. When we reach the question-and-answer portion of our conference call, we would ask each participant to adhere to a limit of one or two questions. If you have additional questions, please requeue and we will do our best to respond to all questions. With that, I would like to turn the call over to Donald Guloien, our President and Chief Executive Officer. Donald?

Thank you, Anique. Good afternoon, everyone and thank you for joining us today. Today is a great day for Manulife. We are very pleased to announce that our Board of Directors has approved a dividend increase of 19%. I will expand on the dividend decision later in my remarks and I hope you'll bear with me as I talk about our second-quarter results, which were highly satisfactory.

Our businesses generated strong net income, core earnings on plan, record funds under management and a very healthy capital ratio. We continue to make progress towards our long-term financial objectives and our outlook remains positive.

In terms of our growth strategies in the second quarter, in Asia, we generated strong insurance sales building on the momentum of the first quarter. Our recently enhanced corporate products in Japan continue to perform well and were the most significant driver of insurance sales growth. The overall results were also augmented by good growth in several other markets across Asia due to ongoing success of product enhancement initiatives and our multichannel distribution strategy.

Wealth sales, while down from a year ago, posted a substantial improvement over the first quarter benefiting from successful marketing campaigns and improved overall market sentiment. In terms of wealth and asset management globally, net flows in our asset management and group pension businesses exceeded CAD6 billion for the quarter and CAD13 billion year to date driving our 23rd consecutive quarter of record funds under management, which now totals CAD637 billion. And Manulife Asset Management was recently ranked as the 30th largest global asset manager as measured by assets under management, up from 34th place last year.

In terms of Canada, we had solid sales and record funds under management in both mutual funds and the group retirement business. Manulife Bank's new loan volumes were up significantly over the first quarter, but continue to face competitive pressures. Retail insurance sales declined, reflecting the market demand for participating whole life products, which are currently not part of our product portfolio. And we also launched a simplified universal life product, which we expect will enhance sales in future quarters.

In the United States, our mutual fund businesses continue to deliver strong results, and in the second quarter achieved the 11th consecutive quarter of positive net sales and new records for both gross sales and assets under management. And in terms of organic growth rate, that is net sales divided by starting assets, our 12-month net rate far outpaced the industry's 2% organic growth rate, 26% organic growth rate for Manulife, $11.5 billion. This makes us one of the fastest-growing mutual fund companies in the United States.

Sales in our core small-case 401(k) market are beginning to gain traction following actions to improve competitiveness of those products and life insurance sales also improved from prior quarter following recently introduced product enhancements and targeted pricing changes.

Turning to slide 6 and the financial highlights in the second quarter, we reported net income of CAD943 million, reflecting core earnings of CAD701 million and continued strong investment-related experience. And while the core earnings fall short of the median of the street estimates, it exceeded our internal plan, which is the yardstick that we use to gauge our ability to get to our CAD4 billion in 2016 target.

On the top line, we continued to achieve total wealth sales of over CAD13 billion and insurance sales of CAD587 million, which were up 10% excluding group benefits. And we ended the quarter with a very healthy capital ratio of 243% and a reduced leverage ratio of 28%.

As I mentioned previously, our Board of Directors approved an increase of 19% in the quarterly dividend. A number of very positive factors have fallen into place in the last few months, but let me remind you. We are delivering on our earnings plan. Volatility is being contained and the outlook for earnings growth is positive. We have improved our leverage ratio and have a strong capital position. And happily, we are also seeing more certainty around capital rules and other regulatory matters here in Canada, the United States and globally and sooner than expected. Needless to say, that is the most welcome and significant change. All of these factors make us feel confident in proceeding with a dividend increase at this time.

In summary, our plan is unfolding very well and we are confident that our growth strategies will continue to yield results for our shareholders. There is a great deal of confidence on the part of management and the Board in the vitality and momentum of our Company. With that, I turn it over to Steve Roder, who will review the highlights of our financial results and then open the call to your questions. Thank you.

Thank you, Donald. Good afternoon, everyone. Let's start on slide 8 where we summarize our financial performance for the second quarter of 2014. As you can see, our key performance indicators for profitability and financial strength are demonstrating positive momentum. However, core return on equity declined, but we are very focused on continuing to identify opportunities to deploy our capital for the benefit of shareholders.

The indicators for growth are mixed. We had another quarter of record funds under management and solid growth in individual insurance sales. While wealth sales declined from a year ago, they were largely in line with the prior quarter and new business embedded value is also down slightly. In the following slides, I will address each of these indicators in further detail.

Turning to slide 9, you can see that core earnings demonstrates strong growth compared with the prior year, but declined CAD18 million from the first quarter, reflecting the timing of income on surplus investments, less favorable impacts from tax items and increased hedging costs. Partly offsetting the decline were lower expenses, higher fee income and the release of a legal provision.

Turning to slide 10, you can see that our reported net income benefited from continued strong investment-related experience of CAD267 million, CAD50 million of which was included in core earnings and market-related factors totaling CAD55 million. This was partly offset by CAD30 million in actuarial model refinements.

On slide 11 is our source of earnings. Expected profit increased as a result of higher fee income from our growing wealth and asset management businesses, our lower amortization of deferred acquisition costs due to the natural runoff of our variable annuity business. New business strain was largely in line with the previous quarter.

Experience gains reflect the favorable impact of our investing activities and market factors, partially offset by unfavorable policyholder experience. Management actions reflect the expected cost of macro hedging and actuarial model refinements and earnings on surplus declined, reflecting lower mark-to-market gains and the timing of income on surplus investments versus the prior quarter.

Turning to slide 12, insurance sales increased 10% from a year ago, excluding Canada group benefit sales where large single premium sales represented a significant portion last year. Insurance sales in the second quarter demonstrate the ongoing success of recently enhanced products in Japan and the United States. Insurance new business embedded value was in line with the prior year as the impact of higher insurance sales, excluding group benefits, was offset by lower interest rates.

On slide 13, you can see that we achieved strong wealth sales of over CAD13 billion. In Asia, as expected, wealth sales declined against strong prior-year results, but improved significantly relative to the prior quarter. In Canada, wealth sales declined. While in the US, we achieved another record quarter for mutual fund sales. Wealth new business embedded value of CAD121 million decreased 7% from the prior year, consistent with the change in wealth sales.

Turning to slide 14, funds under management at the end of the second quarter were CAD637 billion representing our 23rd consecutive quarter of record funds under management.

Slide 15 indicates the capital position for The Manufacturers Life Insurance Company and our financial leverage ratio. As expected, our regulatory capital ratio of 243% declined 12 points from the prior quarter, reflecting the repayment of CAD1 billion of maturing debt and the redemption of CAD450 million of preferred shares. We ended the quarter with a leverage ratio of 28%, an improvement of 260 basis points from the prior quarter. While we would expect some quarter-to-quarter variability in our leverage ratio, we are on track to achieve our long-term financial leverage target of 25%.

Turning our focus to the operating highlights of our divisions, we begin with the Asia division on slide 17. Asia core earnings decreased 4% over the prior quarter, driven by negative policyholder experience, which, as you know, can vary quarter to quarter. This was partly offset by an improvement in new business strain. Compared with the prior year, Asia core earnings improved 12% after adjusting for currency, dynamic hedging costs and the sale of our Taiwan insurance business. We are encouraged by continued strong insurance sales momentum in Asia. While the ongoing success of our enhanced corporate term product in Japan was the most significant driver of growth, sales results were also augmented by improving traction in Hong Kong and double-digit growth in many markets, including record sales in the Philippines. This growth was partly offset by competitive pressures in Singapore.

Wealth sales of $2 billion declined relative to the prior year, reflecting a shift in investor product preferences in Japan and continued market uncertainty in other Asian markets. However, successful marketing campaigns and improving market sentiment resulted in a 32% increase in wealth sales over the first quarter.

Turning to our Canadian division's operating highlights on slide 18, core earnings rose 2% over the prior quarter due to improved policyholder experience and higher fee income, partly offset by higher new business strain. Insurance sales were CAD129 million, down from the prior year, mainly due to a large single premium group benefit sale, which accounted for a significant portion of sales in the prior year. Excluding group benefits, insurance sales were in line with the prior year.

While retail insurance sales were lower, universal life product sales increased by 11% due to repricing and product changes over the last year. Wealth sales of CAD2.6 billion continue to be solid, but declined 15% versus the prior year, largely due to the non-recurrence of the closed-end fund offering and lower new bank loan volumes.

Moving on to slide 19 and the highlights for the US division, core earnings were $302 million, down 11% from the first quarter, reflecting less favorable tax items and lower insurance earnings, partly offset by improved policyholder experience and lower expenses. Second-quarter insurance sales of $115 million were down 12% from the prior year, reflecting pricing actions taken last year. However, recently introduced product enhancements and targeted pricing drove more than a 20% increase in life insurance sales over the prior quarter.

Wealth sales rose 7% driven by record mutual fund sales, partly offset by slightly lower sales of Retirement Plan Services products. We are starting to regain momentum in our core 401(k) small-case market following our actions to improve our competitiveness through more targeted pricing, fee transparency and additional investment options.

So in conclusion, in the second quarter of 2014, we reported strong net income and solid core earnings, generated strong wealth sales, achieved strong life insurance sales momentum, achieved record funds under management and reported a healthy capital ratio. This concludes our prepared remarks. Operator, we will now open the call to questions.

(Operator Instructions). Tom Mackinnon, BMO Capital.

Yes, thanks very much. Good afternoon. A question just with respect to the basis change comment about not being, I guess, any worse than what it was in the third quarter of last year. What are the key things that are driving the basis change and I have a follow-up?

So Tom, it's Steve here. Let me start off. I just should start off by emphasizing it is early days in our basis change review process. We can't be too specific about the basis change at this stage because there are too many uncertainties. So we've tried to give some forward guidance around this. As usual, there will be a variety of items within the basis change and the guidance we are giving suggests that we think the top of the range would be somewhere around where we were last year. Maybe I will just see if Cindy wants to enhance that answer at all?

Thanks, Steve. Yes, so, Tom, we are looking at, as usual, many different things in the basis change, over 100 different assumptions. Some of the more key ones are the review of our life mortality in Canada and the US and annuitant mortality in the US, as well as lapse experience in Japan and Canada. We are implementing the changes to the CIA bond calibration standards that were recently promulgated and looking at the projection of tax cash flows in our reserves on a number of productlines.

Okay. And as a follow-up, Steve, you make points on slide 9 of things that may have impacted the core on a quarter-over-quarter basis such as the timing of income on surplus investments, increased hedging costs, less favorable impacts from tax items and a few other items. Are you able to put some dollar amounts around those or how should we look at those?

Okay. Tom, the way I would look at that, this quarter is kind of an interesting quarter in the sense that the noise in the numbers, if you like, is virtually a wash. So the items you quote there, we've got some pluses and minuses, so there is little bits of timing on the receipt of investment income. There is slightly less favorable tax items. On the other hand, we have a little bit of legal provision release and in aggregate, the whole thing is pretty much a wash, which is why, as Donald said, we came in pretty much where we would have expected it to be this quarter.

And were there any, on a net basis, any policyholder experience gains or losses in the quarter?

Yes, but normal variability. Nothing particularly outstanding. Canada has continued to have a little bit of a struggle there. We had improved experience in the United States because we had some quite unusual single claim last quarter, if you recall, which was not repeated this quarter.

Okay. Thanks very much.

Robert Sedran, CIBC.

Hi, good afternoon. So I am interested in the comment that core earnings are on plan. It was featured in the materials and it was certainly prominent in Donald's comments as well. Can you give us -- I am not looking for you to boil down the Investor Day into 90 seconds, but can you give us a better sense as to what is going to drive this earnings emergence and what will make it accelerate in coming years? I know you have sort of said in the past that it is fairly back-end-loaded, but perhaps remind us again of some of the reasons why.

Let me start off and then Donald may add. I think what we have said previously, Rob, is there are a couple of specific reasons why the planned trajectory, if you like, to the CAD4 billion tends to be a bit back-end-loaded. One is the way in which the bottom-line impact of the various E&E initiatives emerges. So we are doing extremely well on getting out our gross annual run rate savings, but, at the same time, we continue to invest into new projects within the overall program. And so if you follow all that through, there is quite a back-end-loaded effect to the net result of the whole E&E program. So that is one main factor.

The other one would be, again, something that we have referred to previously, which is the scalability of the wealth business and what we can start to see is improving margins in the wealth business as a result of that scale. And again, we anticipate an improvement in margins through the plan period. So I think, in summary from my perspective, we are on plan or in fact slightly ahead of plan for this quarter. We are still tracking for our 2016 targets and therefore, I guess the shape of our curve does have a back-end element to it somewhat.

Yes, for entirely -- as Steve said, for entirely justified reasons. I mean the E&E also kicks in on a delayed basis. And to emphasize what Steve said, his second point, on the wealth sales, we are plowing back a very significant portion of the earnings on that business into growth initiatives designed to accelerate the growth of that business, which will materialize in very substantial compound rates of earnings growth that would I think frankly shock most people. It is being plowed back into growth initiatives very aggressively, which are going to pay off for shareholders long term.

Okay, thanks, Donald. Maybe I can sort of come at the same issue from a different perspective and I think that is why the dividend announcement today was an important one because I would say comments on recent calls certainly didn't feel like a company that was about to boost the dividend pretty meaningfully. The payout ratio, if I look at the trailing four quarters core earnings, which I am assuming the payout ratio should be on core earnings, is about 43% and that strikes me as higher than where you want it to be. So how do you think about the payout ratio and is this an implicit earnings guidance for the nearer term in terms of you are seeing some of this ramp coming in coming quarters?

Okay, Rob, I will start. I suspect Donald may want to add. So when we are looking at the payout ratio, we are actually looking at the payout ratio in relation to net income on a long-term basis. Now we obviously will have some volatility in that because of the volatility that's inherent in the investment experience. But at the end of the day, it's net income that pays out dividends, not core earnings.

So core earnings are very important because they have helped us, I think, explain our story to the street and it's a very, very important internal metric, but we have never wanted to pretend that net income is not also important. And in fact, if you look at the proxy filing and the annual compensation scheme, etc., we give equal weight to the two. So they are both very, very important.

So the 30% to 40% that we quoted is a reference to net income and we are taking a view that, at the end of 2014, we will be able to look at Canada 2014 and show a payout ratio that is in accordance with that payout range that we indicated.

And just prospectively, you are saying that there is a difference between net income and core earnings even as you look forward. In other words, I mean the market-related items that end up having an impact in the near term is more of a rearview thing, but there still will be a difference in your plan, for example, in terms of your net income versus your core? And then I will leave it at that.

Right, because I think we have to go back to how we arrived at the investment experience in core earnings. So if you remember back in late 2012 when we invented the core earnings metric to try and give the investor community better line of sight over our results, we baked in 50 a quarter and that was based on a historic analysis of the years 2007 to 2011 where we had actually averaged more like 80, but for the purposes of being reasonably prudent, we baked in 50 a quarter into core. And therefore, in some of our internal plans, we would assume that we will generate a component of investment experience that does not fall within core earnings.

Now it is probably fair to say that, as time has rolled on, if we conducted a similar level of scrutiny over our recent experience, investment experience now, we may come up with a slightly different answer because we have had some very, very strong experience. The size of the assets under management has increased. So I think we are going to take another look at this and we may make an amendment, but there is no decisions on that yet. If we do, I suspect we may do it from the start of the calendar year just to keep it easier for everyone to keep track of.

Thanks for your time.

Joanne Smith, Scotia Capital.

Hi, good afternoon. Two questions. The first is just going back to the issues that hurt core earnings in the quarter with respect to lower earnings on surplus, higher hedging costs and some non-recurring tax gains or whatever. It was my -- the way that I was looking at it was that the earnings on surplus is going to be made up for later in the year, probably in the third quarter just because of the timing issue. And the other items may not necessarily recur. Now I understand the hedging costs may stay elevated because of the environment that we are in right now, but the other items that impact it should not be a factor going forward. So if you are going to -- if you're to get back the earnings on surplus that you didn't get this quarter, I don't understand why it would be a wash that we should consider not adding something to third quarter for?

Yes, okay. I guess when I say it's a wash, I am talking about within the quarter. But if you look across the timeline, Joanne, you are always going to get a bit of variability because we do have lumpiness of dividend receipts on surplus, for example. So you are absolutely right. All the items you are talking about were all basically sort of single-digit items this quarter.

On the other side of the coin, the legal item would've been a double-digit item, a low double-digit item, which I don't want to give quantification over. And you are correct; some quarters we will have improvement in the earnings on surplus. Maybe we get a better result on tax that can be variable. The hedging cost this quarter did increase because there was a lot of volatility in Japan and we added some hedges in Japan, but again it's a single digit.

Okay, all right, that's good. Thank you, Steve. And then just for Cindy, one of your competitors, I'm sure this would have been brought up later in the call anyway, but one of your competitors did have an issue with long-term care in the quarter and they talked about two different types of reserves -- disabled life reserves and active life reserves. And the last study they had done was active life reserves and there was no increase in reserves and the last time they did disabled life reserves was 2012. They have seen some changes in severity associated with the way that people are cared for. And I was wondering if you could just kind of opine on what you see going on and whether you are seeing similar instances of a little spike in severity on the disabled life claims for people who are actually on claims? Thank you, Cindy.

Thank you, Joanne. When we looked at our claims or our assumptions underlying our LTC reserves last year, we looked at all of our assumptions, those affecting the active lives, as well as the disabled lives. Often under US GAAP, companies would only look at their disabled life experience. They would not -- their active life reserve assumptions are locked in. So there is no changes. So there may be some differences in timing because when we do our assumption review, we look at absolutely everything.

In terms of our experience since we did the review last year, our experience on LTC has been, since that time, the last three quarters, relatively neutral. We did see a little bit of a claims loss on LTC this quarter, but for the past three quarters overall, some of the claims gains and losses would be relatively neutral. In fact, a small gain.

In terms of changes in severity, thus far we really haven't seen any changes in what we are observing relative to the assumptions that we set when we did our review last year.

Okay, thank you, Cindy.

John Aiken, Barclays.

Good afternoon. Steve, in discussion of one of the previous questions, you talked about potentially amending the investment levels that you include in core. Would we actually maybe look at the way that the dynamic hedging is treated within core particularly since we actually saw a negative experience this quarter as you alluded to in Japan?

I think Warren is going to take that question.

The negative experience in the quarter that was referenced with respect to Japan wasn't in the dynamic; it was in the macro hedging program and in Q1 with the heightened volatility in Japan, we actually put on incremental macro hedges in Japan, which you didn't see really that effect because they were put on later in the quarter. So in Q2, you actually had the full effect of those macro hedges and obviously the Japan market did better in Q2 than Q1. The volatility reduced and so therefore, that was the increased hedging cost. Our VA program continues to perform very effectively.

Great, thanks, Warren. And there was commentary within the Canadian segment about losing marketshare because Manulife doesn't have a par product. Is this something you may look at? Is there a philosophical reason why you don't offer a par product?

It's Marianne here. We have been looking at our productline and continue to on an ongoing basis and par is something that we are relooking at. We were in it a number of years ago and have come out of it, but we are relooking at it, but no decision has been made at this stage in terms of what we want to do.

Great, thanks, Marianne.

Mario Mendonca, TD Securities.

Good afternoon. I want to go back, Steve, to the discussion you were having with Robert Sedran about the dividend. I understand the math you are giving us here that, for the purposes of looking at the payout ratio, you are looking at some level of investment gains beyond the CAD50 million, but I still kind of want to try to do the math that Rob was getting at there. So what would be helpful then is if you could tell us if CAD50 million is the amount in core, can you share with us what the amount would be in reported on a go-forward basis for the purposes of that payout ratio calculation?

I don't think I can give you that, Mario. I'm sorry. But we can share the math with you off-line, if you would like. But essentially we are looking at it on a calendar year basis, so based on where we are and without giving forward guidance, I think when we look back on 2014, we would see that our total dividend for calendar year 2014 would be somewhere around the middle, let's say, pretty central to the range we have indicated of net income.

I see. But you wouldn't expect -- so far this year in 2014, these gains have come in at like CAD267 million this quarter, CAD200 million something last quarter. I can't imagine you would expect that level of gains on a quarterly basis going forward. So (multiple speakers).

We wouldn't bake anything like that into the plan, Rob. I'd refer you to the guidance I gave earlier on about how we got to the 50 in the first place. So we got to the 50 by looking back historically and seeing we had an average of 80. So we wouldn't have anything of that magnitude.

All right. Let me go to a different type question. You talked about the back-end-loading of reaching that CAD4 billion target. One of the elements that you -- or objective. One of the elements that you referred to was scale in wealth AUM. What would be helpful for me to think through here is how much larger does the wealth AUM have to be say a year and a half from now, at the end of 2016, relative to where it is today to reach that CAD4 billion? Does it need to be double, 50% greater, something like that would be helpful?

Okay. I think Warren is going to have a go at that one.

In terms of where we sit today, we are actually obviously not disclosing a lot of detail at a granular level about our wealth business today and we would expect to actually improve some of those disclosures possibly in the 2015 timeframe. But where we sit today, we are on healthy trajectories. I think the numbers that you are looking at again and you can see there's lots of variability around the globe, but we do have very strong numbers coming in in Canada and the United States. In Asia, again, there is some variability across the market, but we would expect to see strong growth and we do expect to see an increasing share of our earnings coming from the wealth business with the passage of time. But I don't think the answer of giving you that sort of general direction that wealth is going to be an ever-increasing percentage of the total earnings, but it is going to be a slow change in the two, I don't think there is a whole lot I can really give you in terms of specifics at this point in the context of forward-looking information.

So I'm not necessarily asking you to provide an estimate of what it will be in a year and a half. What I am asking is what is baked into your thinking to reach the CAD4 billion number in terms of AUM then relative to where it is today. And if the answer is you are not going to discuss it today, it is okay too. I just wanted to make sure I was clear on the question.

Yes, it's a pretty substantial increase, Mario and again, that is not the only thing. There is the E&E, as we mentioned. There's a whole bunch of things, the businesses we are putting on the books. You guys are quite familiar with the fact that there is strain on various lines of new business that emerges with time. I think a lot of attention has been paid to the ASB change. Every time an accounting standard changes to make things more conservative on the valuation side, if we still get the same investment results which is what that relates to, they will emerge as additional earnings with investment experience over time.

So there is a whole bunch of things that result in a legitimate amount of back-end load on the plan. I think we have, from the first instance, developed a trajectory that we felt we had to meet in order to be online with that ultimate target. And as we said pretty plainly, the results this quarter were right in line and a little bit above -- not significantly, but right in line with that, although they did not meet Street expectations which I think are a bit more, shall we say, a linear trajectory to the 2014 -- 2016 numbers.

I appreciate your comments. But what we are trying to do is if we don't know what the plan is, what we are trying to figure out is the inputs to that plan and that is why we are asking questions about this. But let me move on to just something a little different. The policyholder experience in Asia would appear to be negative this quarter, and the reason I say that is when you disclosed it, and it looks like in the US and Canada it was positive or there was positive experience.

Can you talk about what happened in Asia? Was it lapse, was it mortality? What was it?

Hi, Mario, it's Cindy. It was largely -- not large losses, just small policyholder behavior-related losses in a few countries largely related to lapses.

Thank you.

Steve Theriault, Bank of America Merrill Lynch.

Thanks. First question for Steve, please. So, Steve, last quarter and I think maybe the last couple of quarters, you have said that you wouldn't refinance all the debt that came due, but in fact, it looks like you didn't refinance any of the debt that came due. So I would be interested in if you could just give us your thoughts on how your thinking might have changed there. And maybe how much linkage is there between that decision in the decreased leverage and the decision to raise the dividend probably earlier than people expected?

Yes, Steve, thank you. So we actually took CAD300 million off the table basically in June this year. We were able to do that because of the strength of our capital position. I think much earlier in the year, it wasn't clear to us that we would do that, but we were able to do that. And I think on a go-forward basis, we will see how we go. There are a number of factors to take into consideration.

In terms of the decision over the dividend, I think probably number one on the executive list would be the whole regulatory environment. But if you press me on one quantitative metric, it would probably be the leverage ratio that came down to 28% and was probably down, I would say, probably six months earlier than we had anticipated. (multiple speakers) We had previously expected the 28% to be the sort of end-of-year number, and we got there significantly faster.

Okay. And then for --.

Sorry.

Sorry, go ahead.

I think just back on the very first part of your question, we actually prefinanced -- if you go back to Q4 and Q1, we prefinanced [1.1] of what matured and the prefs that we wanted to redeem, and we took off [300]. That is how it worked. (multiple speakers)

Because the 300 is more of a net number.

I'm sorry.

So the 300 is net of what happened in Q2 versus --.

Yes, that's correct. So the 300 was net of [1.4] gross minus the 1.1 we prefinanced.

Understood. Okay, and for Bob Cook if I could. Insurance sales in Japan certainly exceptional again this quarter. But when I look at Hong Kong, Indonesia, and other Asia, at least in aggregate, the numbers are flat to down somewhat. So I was hoping you could talk about your -- I know Don touched on it, but could you talk a bit to your outlook for the second half for Asia maybe ex-Japan?

Yes, I guess as Steve said in his comments, in the other Asia category there were actually several countries that were up 30% plus -- Philippines, Malaysia, Vietnam. Offsetting that was continuing poor results in Singapore where our high net worth product is not currently competitive. And that was one country where we also distributed a fair amount through Citibank, which is now switching over to AIA.

I think the real key for the second half will be results in Hong Kong. I am still quite optimistic that Hong Kong will end the year strongly. And I guess my belief is that -- and I've said this pretty consistently in the past -- that a good recruiting year one year will eventually pay off in good sales the following year. And as you know, we had a very strong increase in our agents' accounts in Hong Kong last year and I think we will see that pay off in the second half of this year.

Thanks very much.

Gabriel Dechaine, Canaccord Genuity.

Good morning. Or sorry -- afternoon. I guess going back to this path to the CAD4 billion, and there is a few items that we can identify that maybe you can tell me if I am on or off track with these, but, first of all, the E&E or CAD100 million pretax now getting to CAD400 million, that stepup, that is all going to the bottom line, I am assuming, and not being reinvested? And if I understand your other comments, there's an additional investment being made in the wealth business there for sales distribution. You will be pulling back on that and therefore, your wealth profits will go up because of that.

There is the DAC, is that still on track to go from CAD80 million of reduction in cost now to CAD200 million or so? What about the macro hedging? We see the macro hedge costs from CAD200 million some last year in the first half to CAD100 million this year. There's about half of that I guess that's going to the bottom line. Is this enough to offset maybe the headwind of lower sales in Asia that are pretty far behind the original plan?

Okay, Gabriel, thanks. Let me start off with the E&E. So just to remind you what is going on here, so we are grinding out what we call annual run rate savings. So once we get a saving out, we can quantify what it means on a gross basis in a Canada year and that is an annual run rate saving. And we've told the investor community that we've already got out well over CAD200 million of annual run rate savings, but around or something in excess of CAD100 million of that will find its way to the bottom line in calendar year 2014.

By the time we get to 2016, the annual run rate savings we expect to be in excess of CAD400 million and virtually all of that will drop to the bottom line. Now there is a possibility that we have even more to go for after that, in which case we may have to take a small piece and reinvest it to get further run rate savings out in 2017 and 2018 because we want to do the right thing for our shareholder and not sacrifice the benefits. But I'm pretty sure we will be able to preserve that CAD400 million bottom line in 2016. So that's on the E&E. Then maybe Warren will take the wealth piece next.

Sure. In terms of what we are doing right now, on the public market side, I think you have seen the press releases that we've given over time about the team liftouts we've done. Those team liftouts as we bring them aboard, frequently we've been able to port institutional track records and we do get some institutional sales, but the real goal is to actually get those teams onto our retail affiliate platforms for distribution, which need Morningstar ratings.

So typically, our team liftouts, we've done a lot of those in the 2012, 2013, 2014 timeframe, they will be negative cash flow. That is one of the investments that we are making, but they do as they get their strategies on. So the expenses don't go down for clarity. The expenses will be sort of consistent, but there will be revenue and positive margin that will come on.

Similarly our private markets initiative, which we announced at the end of last year, is in a similar state where, in fact, we are incurring run rate expenses at this particular juncture. We do, in fact, have a number of leads and active client engagements that we are working on, but we don't have the revenues yet. So again, those would be expenses that will be sort of staying at that level, but you will have positive margin contribution in the future on those two items.

Yes, I'm glad Warren highlighted the fact that we do not plan to cut back on the expense, but what you do is eventually as a result of the reinvestment and the growth in the assets, more money is coming through in terms of bottom line that you can't possibly spend it all even if you wanted to. And that is why -- when we display the wealth business separately, those of you who want to look at it on an EBITDA basis will be able to do so.

And the DAC and the hedging?

Yes, okay, so let's go to the other pieces. So the macro hedging -- well, I guess we'd expect the costs to reduce over time as the Japan book matures, so there will be a piece of that. I guess one other thing we may want to call out is that, with the ASB changes, that we would not be taking the URR charge every quarter and embedded in -- in our results this quarter, there is a CAD25 million charge for URR. So that will be a benefit as well. And I missed one -- DAC. Cindy?

Our outlook for DAC amortization charges hasn't changed.

Terrific. And my next question, this one tying in, I guess the ASB changes. And I guess my concern is seeing that you are taking a charge, and it is not a big charge, but I was hoping to see a reserve release that might allow you to top up some other reserves maybe lapse because if I look at the combination of lapse and URR over the last couple of years, those are like two-thirds of all the management actions and changes in assumption charges that you've had over the last couple of years. And if URR is going away and if you are able to strengthen lapse, and that wouldn't be as big of a charge going forward, we would see better surplus growth. And I don't get that feeling anymore, I guess. Have you taken enough lapse strengthening or is that still something that I need to be concerned about?

Well, Gabriel, I think I'd look at it in a different way. If you think about the ASB charge, the reason we are ending up with a charge is because of our higher use of alternative long-duration assets than some of our competitors. Now the other side of the coin is that that gives rise to or has given rise to substantial investment experience gains in this quarter and in previous quarters.

So within investment experience this quarter, we have got gains in relation to older of somewhere around between CAD150 million and CAD200 million and that relates to -- a piece of that is origination, but a lot of that is actually high-quality cashing out with gains on private equity investments. It includes appraisal gains on oil and gas and timberlands, so this is really good stuff. So the CAD200 million is taken care of, virtually taken care of by this quarter's investment experience gains ALDA. So I think we just see that as the price of staying in the game and we will go on and hopefully reap the rewards of that activity. But then I will just pass to Cindy and see if she has got anything specific.

No, that's a good answer, Steve.

And lapse?

Oh, on lapse, we have reviewed, Gabriel, over the last number of years, we have reviewed most of our lapse assumptions. I talked earlier in response to Tom's question about the fact that we are looking at our lapse assumptions this year in Canada and Japan. As we complete this year's review, we will have reviewed all of our lapse assumptions, at least all the material ones, for our book over the last three years.

So going forward, we should only see the impact of changes in experience relative to -- future experience relative to our lapse assumptions in our valuation.

And Canada's UL, Japan's VA, I take it?

Canada is a number of non-par blocks and Japan is also on their universal life product.

Okay, thank you.

Darko Mihelic, RBC Capital Markets.

Hi, thank you. Maybe perhaps a question for Donald with respect to the dividend increase. You mentioned that there were some regulatory -- I suppose some information that has come to you that gives you some comfort on the regulatory landscape. I wonder if you can provide a little color on that. And maybe as well can you just remind us what the role of the regulator would be with respect to a dividend increase? I mean with a bank, they have to approve it. I am just wondering if that is the case in fact here as well that you have provided them with a capital plan and whether or not that capital plan is also somewhat related to the view of the payout ratio against net income rather than core. And the reason why I ask that is I seem to remember that the decision to cut the dividend was based on core earnings power and now there is a switchback to net income. So any color on this would be helpful. Thanks.

Okay, the first one, there is a variety of indicators that have all turned very, very positive more recently. The one that you have known about for a while, the OSFI capital roadmap, which we've said, if you go back to my annual meeting speech talked about some of these things specifically, has looked positive for a long time. The OSFI's view is the industry is well-capitalized and there is nothing on the horizon that would cause us great concern.

There has now been emerging testing of the rules that are coming out from the global standards both as they relate to global SIFIs and as they relate to internationally active insurance companies. We are certainly the latter, an internationally active company. We are not a SIFI, but we look at those standards because we expect to be measured against them and we don't see anything that is terribly problematic there.

On IFRS, which has been a big concern of ours, as you probably know, the IASB has said they are taking another look at the discount rate. A couple months ago, they were steaming ahead, they are going to publish their rules and expect everybody to be compliant by 2018. Now they have sort of recognized that they do have a challenge there and they have a challenge on another matter, which is how they treat par products and they are going back to the drawing board on both.

We have had acknowledgment from OSFI that even if IFRS turned out in the negative way that OSFI would work around those rules and using the accounting and equity calculations as it relates to the capital formulas and capital adequacy. That has been said by many of the people at OSFI that they are not satisfied with the rules being proposed by the IASB and if they did press ahead with those rules, there would be adjustments made to how it is implemented here in Canada.

South of the border, there have been issues from everything from AG38 captive reinsurance company, a long list of things that have been looked at, all of which are turning into a pretty benign perspective right now. So it is kind of interesting. I mean I won't say that regulation looks positive in this kind of market with everything from Dodd-Frank and what is going on in Europe and so on, but as it relates to capital and accounting and our industry, it has actually turned very, very positive. And that is a very welcome and significant change for us.

The second one, your recollection is absolutely right. Back in 2009, we had to do a very quick calculation given that we were cutting back on so many fairly significant businesses that contributed to earnings of the Company and kind of get a feel for our run rate and we called it -- we didn't call it core back then, it was something else, but it was more akin to adjusted earnings or more akin to core earnings, conceptually trying to figure out what a reasonably steady run rate would be. At the time what we really wanted to take out was the gigantic swings in volatility that come from equities markets moving up or down. Remember that could buffet our earnings around by as much as CAD3 billion in a single quarter. So you couldn't possibly make an earnings determination using a measure that could move around by that much would have the payout ratio go positive and negative and very, very high, over 100% and then the next quarter be 15%, it would be kind of crazy. So we did look to a more stable concept that would be more akin to core earnings and our calculus was that it was roughly half of what the earnings capacity had been prior. And that led to a 50% reduction in the dividend.

When you look at it now, yes, we do reference core earnings because core earnings is our sense of looking back at what's repeatable and so on, but, as Steve has said, there is a number of other factors, principally the investment gains, that we count on in any quarter, but do produce some very substantial benefits. When you look at the last four quarters, not that those are indicative, I think we have earned CAD4 billion of net income. So if you put the payout ratio in that perspective, you would say it is a rather modest increase.

There's a lot of questions been asked about the investment gains and core and so on and a lot of you are coming to the conclusion that we were very conservative on the estimate and I would have to agree with you. We were deliberately conservative. Remember the time we introduced the core measure in 2012, people were looking at it very skeptically and saying is this a way -- you are dissatisfied with your net income and Steve and I said we would fully expect the net income action to be better than core much of the time. But the last thing we wanted to do was anything that would look like we were trying to inflate core earnings. We took a view of it and we took a conservative view that we wanted to put 50 in because we wanted more often than not to exceed that number so that you wouldn't think we had come up with a yardstick that was overly inflated and that was very deliberate bias to the conservative direction.

So as many of you observed, we seem to be quite consistently earning more than that. I think the past couple quarters I don't expect that established as a run rate, don't go there, but the ability to generate north of 50 is certainly not a certainty, but a very, very high probability.

Okay, thank you. And is OSFI involved in the decision too?

Yes, OSFI, I don't know the particular rules for banks and I assume they are similar, but, no, OSFI does not have to approve our dividend increase. Although we'd be silly -- we have a very good relationship with our regulator. We would tell them what we are planning to do and any significant action, including a dividend action and if they had any displeasure or discomfort, we would have to take that very seriously. But, no, OSFI does not have to approve our dividend increase.

Okay, thanks very much, Don.

Peter Routledge, National Bank Financial.

I will follow up. You talked about your Manulife conservatism around investment gains and wanting just to be careful and I appreciate that. Is that same ethic of conservatism, did that influence the dividend increase this time and the payout increase this time, which is another way of saying could you have gone for more, but because you are so conservative, you are holding back?

Well, that's a very pleasant question and I can't tell you the range of discussions that went on in the Board meeting, but I mean given my tenure as CEO, I imagine you'd expect me to be fairly conservative and the last thing I would want to do is have to take back a dividend increase or perhaps not be in a position to increase it again in the future. So you can read into that whatever you want. But, yes, I think it is fair to say that we talked about multiple options.

The next sort of question that came to mind after the increase was just that very, very high MCCSR. I mean are you happy to operate at 240 and higher for the foreseeable future or is that an usually high ratio that maybe we will see you work down, whether it is via acquisition or buybacks or just organic growth?

I think -- you asked am I comfortable, I can speak on behalf of all shareholders and say a lot more comfortable at that ratio than at 205. But we have ample capital and it's pushed down our ROE a bit and we'd like to see it employed, but it is a comfortable position to be in and there is still a lot of uncertainty in the world. I mean we have benefited enormously, let's be very straight and direct about it. The last, I don't know, eight quarters have been pretty benign quarters in terms of things going on in the world that would affect global equity markets and interest rates. That is not always going to be the case. I don't want people to go to sleep and kind of assume that Manulife's net income is an annuity because it has been so positive the last four quarters or eight quarters, whatever. There is still some volatility there and you guys know that, you look at the sensitivity analysis and you will see it is still there. And if equity markets and interest rates bop around, our earnings will bop around too. So it is nice having a healthy capital ratio that we could deploy, but, in the meantime, it's good having that degree of protection that we can sustain very significant movements in markets without a qualm of concern.

And just a technical question maybe for Cindy. I get the guidance around the 200 hit for the economic reinvestment guidance that will come in the fourth quarter and that is a net number and there will be an increase in reserves for your non-fixed income. The increase in that reserve, will that be the best estimate or will it also include the provision for adverse deviation?

Our estimate includes any change in provisions for adverse deviation.

So the PfAD will go up in the fourth quarter. Does that mean in 2015, there will be a little bit more earnings release is where I am going with that?

We haven't completed our analysis on the impact of the standard change on earnings on in force. It will depend somewhat on what the level of rates are at the time of implementation and we are still looking at some of our methodologies and those will impact as well what our earnings on in force might be going forward. So at this point in time, I really can't answer that question.

Okay. And lower rates mean a higher PfAD as a general rule?

Lower rates mean slower PfAD emergence. They have a negative impact on earnings on in force.

Okay, that's great. Thanks.

Doug Young, Desjardins Capital Markets.

Hi, I guess the first question is for Cindy. And I guess part of the ASB change is related to the methodology revision for the URR. And I believe, within that calculation, you can now assume a credit spread, which is a huge benefit versus previously. Can you talk about what the credit spread you are assuming is relative to the max that you are allowed to assume under the new methodology?

Well, we've done our own analysis and gone back and looked at historical spreads to come up with our assumptions. I can't really comment on exactly what the relationship is between what we have assumed and the maximum. We wouldn't be at the maximum, but I don't think we'd be all that far away from it either in total to give you a sense. But I can't really comment exactly on exactly where our spread assumptions would be.

Am I correct to assume the max is 80 basis points?

That's correct; the max is 80.

Okay. And you are not disclosing the actual number that you are assuming right now?

No, not at this time. We are just still working on our implementation, so I think it is premature to disclose that at this time.

Okay. And then I don't know if this is for Donald or for Steve, just related to your target for 2016 and you talked about some of the key drivers of how you are going to get there from today to then. When we think about a timing perspective of when some of these benefits start to kick in, is it a Q2 2015 or is this something that we are probably most likely going to see starting to really kick in starting in Q1 of 2016?

I think, Doug, it's a fair question to ask, but you are asking for far too much precision. I have said before we are in this for the long game and I care less about meeting a CAD4 billion target than making sure this Company is in a great trajectory to keep increasing earnings beyond CAD4 billion. When you hear that, you might say, oh, he's nervous about the target. Not so. I feel very confident in the target, but I can tell you that if there is a decision being taken in the third quarter of 2016 that says we can invest some money in an initiative, a significant amount of money in an initiative that is going to get a 14% return to the Company with a high degree of probability, but it is going to cause us to miss our -- because it is going to be fully expensed, it is going to cause us to miss the target, we will make the decision to make that investment and we aren't going to be so caught up in meeting the target that we will do anything to get there. And anything is pretty broad that we will forgo good decisions about investing in our future.

If we miss the target by a lot, we are bums and we should expect shareholders to agitate that we not get a good payout on our various compensation programs and so on. But if we miss for a very good reason -- so I guess I don't want to be pinning us down to a trajectory that is so tight as to talk about what it is by quarter moving towards that. I mean you should draw comfort in the fact that it is consistent with our plan. We have, from the beginning, compensated the management team against a trajectory that leads to CAD4 billion in 2016. We are in line with that, but we are not going to be so beholden to that trajectory that we will make uneconomic decisions for our shareholders because we want to meet that plan. And if I was to give you any specificity about when that emerges, I would basically be condoning that kind of behavior.

Fair enough. Thank you very much.

Meny Grauman, Cormark Securities.

Hi, good afternoon. I notice you changed the way you disclose your sensitivity of net income to public equities. I am just wondering why that is? Can we read anything into that change or is it just a simplification and that's it?

Hi, it's Rahim Hirji. Thank you for your question. It was really just simplification. I think all the information we have been providing when we looked at it, we just thought that it had been built up over time as we had been implementing our various hedging programs and given that our hedging program is now robust and performing well, we just took the opportunity to simplify disclosure. Nothing else.

Great, thank you.

Humphrey Lee, UBS.

Good afternoon. Just a clarification question. So for the CAD250 million in new run rate savings, how much of that kind of fell to the bottom line in the first half of the year?

I'm sorry, I don't think we picked up the question. Could you try and maybe get closer to the mic or something and try again. I'm sorry.

Is that better?

Marginally.

Okay. For the CAD250 million in new savings run rate, how much fell to the bottom line in the first half of the year?

The E&E run rate to the bottom line in the first half of the year?

Yes.

I don't think we are giving that guidance right now, but we are still expecting to see in excess of CAD100 million for the whole year and like the overall program, you'd expect it to be weighted towards the second half because of the way in which the investments play out and the way in which the run rate savings play out. So it will be weighted towards the back end.

Okay, got it. In terms of sales in Asia, it was good to see the wealth sales in Indonesia kind of recover quite a bit. I think Bob mentioned last quarter that there was some Asian cleanup in Indonesia and then also there was some political headwinds that were unfavorable to top line in the first quarter. So are those issues kind of mostly behind you now or should we see this quarter as just more of things breaking your way and the underlying headwinds still exist?

Well, I think a couple of things worked well for us this quarter. We started to see some come back in Japan, not a lot yet and so I think we are still hopeful that some of that can come in the future. We had a good quarter in China. Some of that is seasonal. There are some tax-related sales that occur in the second quarter each year and as you mentioned, we definitely saw a pretty strong bounceback in Indonesia as during the quarter I think the environment relative to the political situation and the July elections, people became more comfortable about the likely outcome of that and that improved their sentiment towards investment.

But at least for Indonesia, are those kind of issues behind you right now or would they still have some headwinds in the next quarters?

Technically, the losing candidate is appealing the election, but I think most parties in the country -- I visited there just a couple weeks ago and I think most parties feel that nothing will come of that appeal and that the winning candidate will take office later this year and he is viewed as a corruption-fighting candidate who will continue the positive trend that that country has experienced over the last five or six years.

All right, thanks.

Mario Mendonca, TD Securities.

Donald, just one quick question on the dividend. From your answers to all the questions, it sounds like this isn't the last dividend increase, at least in the near term. Do you have an outlook on how often we are going to see the dividend increase? Is it every couple of quarters, is it once a year or would you prefer to just sort of surprise us once in a while?

I know how much you like surprises.

I do.

Mario, that is entirely the purview of the Board. But I don't think I am going out on a limb by saying if we are successful in delivering on our plan to 2016 that somewhere between now and then there might be another dividend increase as we see that trajectory if we continue to deliver on the trajectory that the Board would be obligated to discuss it. And that will be a very happy thing; it may be a surprise, but it will be a very happy occurrence. But that is with all the same provisos, right? That is assuming that we are still comfortable with the volatility of earnings, that we are still comfortable with our capital ratio, that we are still comfortable that the hedging is working as it should, that we are still comfortable with the global capital outlook and it hasn't turned negative again in all those provisos, but right now it all looks pretty good.

Thank you.

Thank you. There are no further questions registered at this time. I would like to turn the meeting back over to Ms. Asher.

Thank you, operator. We will be available after the call if there are any follow-up questions. Have a good afternoon, everyone.

Thank you. The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.