美國再保險集團 (RGA) 2007 Q4 法說會逐字稿

Good day and welcome to the Reinsurance Group of America fourth-quarter conference call.

Today's call is being recorded.

At this time, I would like to introduce the President and Chief Executive Officer, Mr.

Greig Woodring, and Senior Executive Vice President and Chief Financial Officer, Mr.

Jack Lay.

Please go ahead, Mr.

Lay.

Okay, thank you and good morning.

Welcome to RGA's fourth-quarter 2007 conference call.

I'll turn the call over to Greig Woodring, our CEO, in just a minute.

Our Chief Operating Officer, Dave Atkinson, is also with us this morning.

Greig will comment on our results and provide guidance for 2008, and then we will respond to any questions from participants.

As a reminder, during this call we plan to make certain statements and discuss certain subjects that will contain forward-looking information, including, among other things, investment performance, statements relating to projections of revenue or earnings and future financial performance, and growth potential for RGA and its subsidiaries.

You are cautioned that actual results could differ materially from expected results.

A list of important factors that could cause those actual results to differ from expected results is included in the earnings release issued yesterday.

In addition, during the course of this call we will make comments about our results based upon operating income, both on a pretax and after-tax basis.

Under SEC regulations, operating income is considered a non-GAAP financial measure.

We believe this measure better reflects the ongoing profitability and underlying trends of our continuing operations.

Please refer to the tables in our press release for more information on this measure and reconciliations of operating income to net income for our various business segments.

With that, I'll turn it over to Greig for his comments.

Good morning and thank you for joining us.

I will make some brief comments on results, provide guidance for 2008, and then we will open the line for questions.

Overall results were strong for the quarter, capping off what we consider to be a successful year.

On a consolidated basis, operating income for the quarter increased 13% and totaled $91.2 million.

That is particularly strong rate of growth given the strength of the prior-year result.

On a per-share basis, the increase was 12% to $1.42 per share for the quarter.

For the year, operating income per share increased 18%, a very strong result.

Reported net income for the quarter totaled $63.6 million, or $0.99 per diluted share, compared to $81.5 million, or $1.28 per diluted share.

Net income in the current quarter includes approximately $15 million in unrealized losses after DAC and after tax due to the decline in value of embedded derivatives associated with certain funds-withheld annuity treaties.

That loss is a result of the impact of widening credit spreads on the underlying investments held from ceding company books.

Remember this is a non-cash, unrealized loss; it does not affect current treaty cash flows or profit spread performance.

Net income for the quarter also includes about $8 million in losses associated with our discontinued accident and health business.

We made significant progress in settling claims in this quarter and have reduced our exposure on disputed claims to approximately $8.5 million.

We expect to further reduce this balance in 2008.

Turning to the top line, consolidated net premium flow was good, increasing 12%.

For the year, net premiums increased 13%, with about 3% of that growth due to favorable currency exchange rates.

Net investment income declined to $227 million from $241 million due to a decline in S&P equity option values within the funds-withheld portfolio, supporting a large equity index and annuity treat.

That decrease is offset by a corresponding increase in interest credit expense for the quarter.

Turning to our operating segments in turn, first in the U.S., results were very strong.

Pretax operating income increased 30%, totaling nearly $111 million, compared with $85 million last year, which was also a pretty good quarter.

The current quarter reflects favorable mortality in our traditional segment, where the full-year pretax operating income totaled $387 million, up 17% from 2006, which is a reflection of good mortality experience for the year as a whole.

Net premiums increased 9% for the quarter, 8% for the full year, in line with our expectations.

Our asset-intensive business contributed nearly $7.4 million in pretax operating income, up from $6 million last year.

Additional business flow on existing treaties as well as our recently executed GMxB treaty contributed to the improved earnings.

In summary, it was a very good year for the U.S.

In addition to a record level of earnings, we set a record for the number of facultative applications processed.

We'd expect the U.S.

life reinsurance market to remain stable on the pricing and competitive fronts, and will continue to be a leader in that market.

Turning next to Canada, it was another strong quarter with good mortality experience.

Pretax operating income totaled $19.5 million, up from $11 million last year.

The full-year pretax operating income totaled nearly $75 million compared to $41 million in 2006 when we experienced unfavorable mortality.

Favorable exchange rates added approximately $5 million to the full-year pretax result.

Net premiums were up 5% for the quarter.

For the year, reported net premiums increased 13%, or about 7% when measured in Canadian dollars.

Comparisons to the prior year are difficult due to the impact of a significant amount of group creditor business reflected in last year's fourth quarter.

Overall, it was a great year for us in Canada, market dynamics are relatively stable, and we look forward to continued growth in 2008.

Results in our international operations were mixed.

Asia-Pacific reported pretax operating income of $17.5 million compared to $24.1 million in the prior year, which was characterized by very favorable mortality experience.

The current quarter reflects favorable segment-wide claims levels.

Premium flow in Asia was also good, increasing 28% to $238 million, as measured in U.S.

dollars, or about 18% on an original currency basis.

For the full year, premiums increased 28% with about 7% of that increase attributed to stronger foreign currencies.

Our Europe and South Africa segment reported pretax operating income of $3.3 million versus $17.4 million a year ago due to adverse mortality in our UK operations.

That UK operation contributes about 80% of premium flow for the segment.

Year-to-date claim levels in the UK were higher than expected, but within normal statistical fluctuations.

Our UK business continues to perform satisfactorily on an inception-to date basis, although, as you can see, this was a rocky quarter for them.

Net premiums for the quarter increased 16% on a US dollar basis and 9% on an original currency basis.

For the year, premiums were up 15% in US dollars and 8% on an original currency basis.

We expect to return to stronger growth rates in 2008 as we take advantage of opportunities in the broader European markets.

Overall, we are pleased with our 2007 consolidated results.

In addition to growing operating income per share by 18%, we achieved 14% return on equity.

We head into 2008 with a strong balance sheet and an appropriately conservative investment portfolio.

Below-investment-grade holdings in our fixed maturity portfolio stand at 3% of the portfolio, putting us in a position to weather current market turmoil.

Our exposure to sub-prime mortgages is not significant at $268 million in book value, and because of the high quality of these holdings, we don't anticipate any significant losses.

The fair values of our securities are holding up well at approximately 92% book value.

As we indicated in our press release, we don't expect there to be significant impact from the uncertainty associated with financial guarantors, given the strong underlying credit quality of our wrap positions.

We do not invest directly in real estate, and our commercial loan portfolio continues to perform very well.

Our common stock holdings are immaterial, so our bottom-line results are not significantly affected by any volatility in the equity markets.

Our position on the life reinsurance market continues to get stronger, and based on various industry surveys in 2007, RGA is recognized as a market leader in the life reinsurance markets throughout the world.

As we look into 2008 we have set operating income within a range centered on $6.25 per share, and consolidated premium growth of between 10% and 13%.

This guidance reflects normalized earnings and premium growth rates of between 7% and 9% in the U.S.

and 12% in Canada, 13% to 16% in Asia-Pacific, and 12% to 15% in Europe and South Africa.

We again expect a return on equity of roughly 14%.

Mortality experience continues to be the overwhelming driver of our results, and therefore our quarterly and annual results are prone to normal statistical fluctuations.

When measured over long periods of time, mortality and thus our profitability are less volatile and more predictable.

Our history reflects that in our long-term track record of writing profitable mortality business.

In conclusion, we've completed a successful 2007.

We remain one of the pre-eminent life reinsurers in the world and perhaps the largest writer of new business -- at least one of them.

Despite the broader market turmoil and considerable level of uncertainty, we believe we are well-positioned, both operationally and financially, to have a successful 2008.

Appreciate your support and your interest in RGA.

With that, we will be happy to entertain any questions you may have.

Thank you, sir.

(OPERATOR INSTRUCTIONS).

Jimmy Bhullar with JPMorgan.

Hi.

Thank you.

Good morning.

I just have a few questions trade.

The first one, you spoke briefly about pricing, but if you can talk about pricing in a little bit more detail, especially in the U.S.

market, whether you're still getting rate increases or are rates starting to go down.

Secondly, with the turmoil in the current markets and securitization activity being halted, do you expect a benefit from that in your U.S.

business in the near-term?

And finally on GAAP, though, based on your growth projections, do you expect the need -- a capital injection over the next several quarters or not?

That is all I have.

In terms of pricing in the U.S.

market, what we see seems to be holding up very well.

In fact, we would view of the flow of business coming into RGA on the US side right now to be at a relatively high return rate, given historical levels.

And that doesn't seem to be changing; we are very happy with the way that is working out.

Opportunities coming from a dearth of securitization possibilities by ceding companies may have some impact, but it seems to us that over the course of the year that markets may return.

There will perhaps be opportunities to do securitizations of some sort.

We are not counting on any big change there.

In terms of capital, Jack, do you want to --?

Yes, maybe I can comment on that.

We really don't expect to issue anything -- absent any particularly large opportunities on the M&A front, we really don't expect to issue anything in terms of common equity or really any kind of convert or anything like that.

We will just have to monitor the cash situation at the holding company.

There is a possibility we could lever up a little bit with respect to debt or some sort of a hybrid, but certainly don't expect to issue any common equity in the foreseeable future.

Okay, thank you.

Nigel Dally with Morgan Stanley.

Great.

Thank you and good morning.

First, with your living benefit variable annuity reinsurance, companies have had problems in hedging those guarantees.

I know you have just entered that business, but have some comments on how that is progressing?

Second, with long-term interest rates down significantly, perhaps if you can comment on how that impacts your fundamental outlook as well.

Thanks.

Nigel, our hedging work, just as we expected it to, we are not hedging volatility for most of the last quarter.

But we came away with a profit on that contract over all.

We are pleased with the way it has performed, and as we look forward, we will adjust things as we go along to changing conditions.

But so far, so good, in our opinion.

In terms of long term rates coming down, credit spreads are widening.

We've had a very conservative investment practice over the last couple of years, as we didn't think the market was allowing payment for taking risk.

We actually saw a marginal bump upwards in our portfolio yields in '07 versus '06.

So we are actually seeing a little bit of lift.

Not much -- I mean, it's fairly insignificant but it's going in a positive direction.

Okay, thank you.

Jeff Schuman with KBW.

Good morning.

Greig, I wanted to ask you a few questions about your guidance and your outlook, which seem to be very positive.

If we're looking at the '08 guidance, midpoint in the range, you're talking about 14% EPS growth.

And that is associated with about 10% to 13% premium growth.

So right off the bat, it would appear that you are anticipating some margin expansion on top of what I thought were pretty good margins in 2007.

So first of all, I was wondering if you could talk about the optimism with regard to margins in '08.

Secondly, also interested in your comment about sustaining a 14% ROE.

I think historically that kind of ROE has been sort of in the range of what you've contemplated, but maybe towards the higher end.

So you seem to be, I think, incrementally maybe more positive there as well, and I'm wondering what is driving that.

Sort of a lot of things to comment on there, Jeff.

First of all, 14% as we sort of look forward is pretty much what we've achieved over the last five years compounded.

In fact.

the last couple of years have been higher than that; you are correct in stating that last year was a good year.

We are not expecting to reproduce the 18% growth that we had last year; we had some uplift from mortality.

Remember, when we talk about profits in '08, we are expecting that somewhere around 97% or 98% of those profits come from business that is already in-force.

Even when you go out as far as 2010, something like 92% of the profits come from business in-force.

So it's a much bigger factor just projecting out flows from -- operating flows from insurance in-force portfolios and investment income, rather than sales and market conditions at the current time.

It's such a long stream of earnings for us.

So that is one comment.

On the ROE front -- and I should add, though, of course, that whether we hit that target, the [625], next year or whether we fall under it or go above it will depend mostly on mortality results, not on sales or market conditions in 2008 for pricing.

That 14% ROE next year is just consistent with that 625 sort of centerpoint of the range.

We've actually been moving up in ROE slightly as we slow down the growth rate of the Company, and are seeing less pressure on ROEs from slugs of new business coming on the books.

Steven Schwartz with Raymond James.

Good morning.

I've got a few.

First a couple of number questions.

Asia-Pacific, did I see that right -- in-force dropped dramatically from the third-quarter?

Yes.

You want me to go ahead and take that right now?

Sure, yes, if you could.

I will just go in order.

This is Jack.

Unfortunately, that was a reporting issue.

If you take -- we've actually restated for Asia-Pacific; none of the other segments.

But we had a problem with -- and it didn't affect any of the financial statements or reserving or anything like that -- but we did have a problem as we reflected the total amount in-force.

We had an anomaly in the systems that were rolling up those amounts and unfortunately we were overstating the amount in-force and corrected that -- it came to our attention this quarter and we corrected it this quarter.

And in fact, in the press release went back and corrected the prior quarters.

I didn't catch the restatement.

Okay.

All right, very good.

Spread income and asset intensive, Jack, it looked like it was very high and basically I'm just -- I know the index annuities, you are going to have the offsets.

But just investment income less interest credit just looked like a very high number to me, maybe 31 million difference versus 19 million in the third quarter -- something along those lines?

Should we look at it that way?

How should we look at that number?

Well, you almost have to look at bottom line and then look at the reconciliation of operating earnings we have in the table.

I think that is the best way.

Because there are so many things affecting that line; unfortunately; it is probably the most cluttered of all those things that we present.

So I would direct you to that table and look at the operating earnings.

And then -- okay -- and then just on -- a little more detail just on international.

You know, if I remember correctly, the third-quarter UK mortality was pretty bad in the third quarter.

It looks like it was just lousy in the fourth quarter.

Is there anything there?

I mean, what gives you comfort that this is just one of those things that happens in insurance, because it seems to be continuing a little bit here?

And then if maybe you could talk about the outlook for Europe.

You are talking about a pick-up in net premium.

What countries do you see that coming from?

I think Greig mentioned Europe outside of the UK?

Yes, the mortality in the UK in the third quarter was also not particularly good.

The first half was excellent, actually.

So it was strong -- especially the first quarter is very strong -- then really fell off towards the end.

It seemed to be both frequency and severity.

We -- of course, in situations like this we will be looking at this every which way we possibly can to make sure that we ultimately don't see any real trends here that concern us.

When we get a quarter or even two quarters in a row of bad mortality, it doesn't necessarily alarm us.

We normally think that that is probably a statistical fluctuation, especially when we've had both ups and downs over the prior, say, six or seven quarters, and that the business on an inception-to-date basis is in the ballpark of where we expect it to be.

But is something we always will look at and will be following what happens and will be looking at it in terms of companies and [issued cohorts]and types of products and every way we can.

In terms of our growth in Europe, we have opened offices in places like Italy and France and in Poland over the last 18 months.

Set up an office in Germany recently.

We're not expecting spectacular growth in revenues from those places, but we are growing from zero.

So we will expect that those offices will contribute nicely to the growth and be additive.

Okay, great.

Thank you.

(OPERATOR INSTRUCTIONS) Eric Berg with Lehman Brothers.

Thanks very much.

A few questions.

First, returning to the securitization question, I would have thought that with the financial guarantors struggling as they are, and therefore an inability of -- or, at a minimum, a greatly reduced ability of term life insurance writers and writers of universal life insurance to get wraps on their securitizations -- I would think that securitizations would be grinding to a halt of the redundant reserves under Triple-X and AXXX, and that this would in fact be very good news for RGA.

So I was little surprised by Greig's earlier response.

Could you --?

Eric, you might be right.

We are not projecting that.

You might be right.

There certainly are private transactions with long-term letters of credit that banks are making available in the past, and whether those come back to the market, we don't know.

But you might be right that there is a hiatus here.

It's very difficult to see it lasting for too long or to count on it lasting for too long.

But if it does, that will be generally good news.

Next, I have a general question about a weakening economy.

If it were declared or it was whether it was declared not, if we did go into a serious recession with rising unemployment, deteriorating credit, weakening consumer spending, is RGA's business -- I mean, you're not in the business of selling to consumers; you sell to life insurance companies who in turn sell to consumers and they are selling life insurance and annuities.

But how should we think in general about the state of the US economy and its impact on RGA?

Again, Eric, I don't believe anybody is really recession-proof, but we are not a typically recession prone company to ups and downs.

We weather recessions historically quite well in our business; it doesn't really affect -- and it sort of relates to maybe a question I didn't quite correctly answer that Jeff raised earlier.

It does look like there is some margin expansion, if you just sort of look at gross numbers.

You ought to think about some of the impacts on -- or some of the reasons that that might lead you to that conclusion.

First of all, our business has been priced at better levels over the last, say, four years and that is weighing into the streams more.

Plus our growth rates are slowing down, and that means that wider margins emerging.

So you should expect maybe from those two factors at least some margin expansion in, say, our US business.

If we have a recession and business slows down -- new the business slows down a little bit, it doesn't typically affect our bottom line in the current year or -- it just sort of slowly merges into the profit streams in subsequent years.

But it actually may improve margins in the current year's bottom line as well.

So, there's a lot of effects -- we really are projecting that sales in terms of, say, US production volumes this year are going to be close to the run-rate level, ignoring noise for reporting lags and so forth, or bulk reporting catch-ups at times.

Just the run rate is going to be fairly similar to where it was in '07.

Last question, can you remind us, why does new business production, all else the same, sort of depress profitability, if acquisition costs, such as commissions and other acquisition costs, are deferred under US GAAP?

Well, because in GAAP accounting, the way it works for us, is that at the outset of the contract you put provisions for adverse deviations into all your GAAP assumptions, and you release those over time.

So your profitability is narrow at the beginning and widens as time goes on.

A contract that might have an average, say -- pick a number -- 15% return, might start at 8 and go to 20.

Very good, thank you.

This is Dave Atkinson.

I would add also there is a theoretical flaw in GAAP in that there is no interest on deferred taxes built into it.

So as you have deferred taxes build, you earn interest on those.

(OPERATOR INSTRUCTIONS) Jeff Schuman of KBW.

Thank you.

I seemed to get dropped off earlier.

Greig, one of the things I wanted to do was come back to the issue of the margin expansion -- so I think you just addressed with Eric.

So to be clear, a couple of things that work here.

First of all, you are layering in what you believe to be more profitable new business at the margins.

And then secondly, we do have the sort of natural margin expansion as business sort of the matures on a GAAP basis.

Are those kind of the two main things we should think about?

Yes, especially if you look at the US, those are probably the main two things that come to mind.

We really believe that over time, top-line and bottom-line growth rates are the same.

Now for us, the top line has been growing faster than the bottom line, many times over the last five or six years -- not always, but many times.

And you'd expect the bottom line to start catching up ultimately.

That is not surprising to us that there will be periods of time when the bottom line grows faster than the top line.

And is there a bit of a FAS 97, FAS 60 phenomenon here, to the extent that you do the variable annuity stuff, because that's FAS 97 stuff that really wouldn't get captured in the premium growth rate, right?

Is that a factor as well or not?

Right.

And what I'm talking about mostly is also just our core business, our mortality business.

When you talk about the annuity businesses, those of course have different characteristics.

But remember, we make more than 95% of our profits at this point on our mortality businesses, and that is the dominant factor in our profitability.

Sure.

And one other thing I wanted to revisit was the subject of volatility.

If we look back to the second quarter of 2005, that was the last time you really had a big kind of variation in your US traditional business and on that call we talked a lot about volatility.

And I think your view and David's view was that although that was somewhat unusual quarter, it wasn't really way out of bounds statistically.

But since that time, we've now had 10 quarters in a row, and you can look at pretty much any metric in the US traditional business, whether it is a loss ratio type metric or just a margin metric, and it seems that the results have fallen in somewhat tighter bands.

I guess we'd like to think that maybe that represents something that is sustainable.

But has the business kind of grown and matured to the point where you've damped out a little volatility, or should we be cautious in making that assumption?

Be cautious in making that assumption.

First of all, you would expect that fluctuation like that, that's sort of noticeably bad, to occur about once every 16 to 20 quarters.

We had one in the second quarter of '05, we had one in the fourth quarter of '01.

We had back in the '90s before that.

And you can sort of look at our results and see -- historically and see where those points occur.

And you can also see that they smooth out over time into a very nice pattern.

It is probably true that there is some dampening effect on that by the diversification geographically we've gotten.

As the international businesses grow more sizable, you do see the diversification benefits, because we don't see that typically mortality in one part of the world follows another part of the world; they all seem to go independently.

So there is some benefit to that.

But it is certainly to that the US is still going to be subject just statistically to large claims coming through in a particular quarter that will make for bad results in that quarter.

It can happen in 2008, in one of the quarters this year.

There is no nothing that says it will or it won't.

And one last question on that subject.

I know historically one of the things that contributed to volatility has been sort of client reporting patterns that haven't always been even.

Has there been any improvement over the years due to technology or other factors and clients being sort of more timely and more consistent in their reporting?

Has that been helpful or not?

Yes, reporting has improved quite a bit, especially if you look at a little bit longer timeframe, if you go back, say, between now and 10 years ago.

The ability to deal with and anticipate fluctuations is a lot better.

We will look at claims reporting by Company X, and if we haven't gotten enough claims in a quarter compared to what we think, we will give them a call and find out if they've got any backlogs or things like that.

We do a lot now to sort of anticipate and work with companies to make sure that we get everything in exactly the right time period when we can.

And while we are still not perfect on that -- we are always subject to lumpiness in terms of reporting by clients -- it has gotten a lot better.

It's less idyllic in international markets, but that is something that will evolve over time as well.

Thank you very much.

It appears there are no further questions at this time.

Mr.

Lay, I'd like to turn the conference back over to you for any additional or closing remarks.

Okay.

Well, thanks to everyone who joined us this morning for the conference call.

To the extent any other questions come up, feel free to give us a call here in St.

Louis.

And with that, we will end the formal conference call.

Thank you very much.

That does end today's conference.

Once again, we thank you for your participation.