普登 (UNM) 2006 Q2 法說會逐字稿

Good day and welcome to the UnumProvident Corporation second quarter 2006 earnings results conference call. (OPERATOR INSTRUCTIONS). At this time for opening remarks and introductions I will turn in over to Tom White, Investor Relations. Please go ahead, sir.

Good morning everyone. And welcome to our second quarter analyst and investor conference call. Before we get started let me read the Safe Harbor statement. A Safe Harbor is provided for forward-looking statements under the Private Securities Litigation Reform Act of 1995. Statements in this conference call regarding the business of UnumProvident Corporation, which are not historical facts, are forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those contained in the forward-looking statements.

These forward-looking statements are made based upon management's current expectations and beliefs as the date of this conference call, but there can be no assurance that future developments affecting the Company will be those anticipated by management. For a discussion of the risks and uncertainties that could affect actual results see the sections entitled Cautionary Statements Regarding Forward-looking Statements and Risk Factors in the Company's Form 10-K for the fiscal year ended December 31, 2005 and subsequently filed 10-Qs. The Company expressly disclaims any duty to update any forward-looking statements.

Our discussion this morning will include non-GAAP financial measures, therefore reconciliations to the corresponding GAAP measures are available on our website at www.UnumProvident.com under the Investors and Shareholders section.

As you know, yesterday afternoon UnumProvident reported net income for the second quarter of 2006 of $125.2 million or $0.38 per diluted common share compared to $171.3 million or $0.55 per diluted common share in the second quarter of 2005. Excluding after-tax net realized investment gains and losses for both quarters, which were a loss of $3.6 million this year and a gain of $42.6 million a year ago, as well as after-tax costs of $11.6 million or $0.04 per diluted common share related to the early retirement of $300 million of debt in June, the after-tax operating results for the second quarter of 2006 were $140.4 million or $0.43 per diluted common share compared to $128.7 million or $0.42 per diluted common share in the year ago quarter.

We're making a format change to our conference call this morning and will not be providing detailed reviews of each operating segment, as that information is available in our earnings release and will be available in the MD&A in the 10-Q which will be filed early next week. Our intention is to shorten our prepared comments to cover the highlights in the quarter in order to provide additional time for Q&A on the topics most important to you.

We have the usual members of management assembled on the call this morning, including Joe Zubretsky, Senior Executive Vice President, Finance, Corporate Development and Investment, and also Kevin McCarthy, Executive Vice President Risk Operations.

Now to begin our discussion of the second quarter results I will turn the conference call over to UnumProvident's President and Chief Executive Officer, Tom Watjen.

Good morning. Overall I am pleased with our second quarter results of $0.43 per diluted common share, which were $0.02 higher than the Consensus estimate, and our pretax operating from of $216.5 million, which was 8% higher than the first quarter of this year. Importantly too the results of our U.S. Brokerage group income protection line were consistent with our expectations and stabilized relative to our first quarter results.

We believe that we're beginning to see evidence of the operational changes that we made within our claims organization are beginning to drive improved profitability for the Company. Joe Zubretsky will provide more detail on the underlying trends in the benefit ratio in this line in his comments.

Two things are clear to me as we look at the second quarter results. First we continued to generate solid results, including profitability, sales and persistency across many of our business units. Within our U.S. Brokerage group, while our group income protection line is do not meeting our long-term profitability expectations, but continues to show improvement, the other lines of business, particularly the group life, individual income protection, and voluntary workplace benefit lines had solid results. In addition, our Colonial and UK businesses continued to perform well, generating record earnings this quarter.

Secondly, our financial position continues to improve with reduced leverage and growing liquidity at the holding company, while continuing to maintain a strong statutory capital position. And we are pleased that the rating agencies are beginning to reflect this in their view of the Company.

Before Joe jumps into details, I would like to provide a few brief comments on each of our three primary businesses, U.S. Brokerage, Unum Limited and Colonial. One of our goals when we began our restructuring efforts three years ago was to develop more balance in our business plan. I think this quarter's results indicate how far we have progressed in this area. Record profitability in our UK and Colonial operations and a strong contribution from our nondisability lines within U.S. Brokerage.

In our U.S. Brokerage business, aside from our group income protection business, which while improving, is still below our long-term expectations, we saw a continuation of the strong performance we saw in the first quarter in all of the other lines of business. The profitability of our group life business remained stable, and our focus remains on growing this business in a disciplined manner.

Our supplemental and voluntary lines had a strong second quarter with positive earnings contributions from the recently issued individual income protection and voluntary workplace benefit businesses.

Sales in the U.S. Brokerage segment continued to show good momentum, with total sales for this segment growing 9% year-over-year, with 12% growth in our group income protection line and 11% growth in our group life and AD&D line.

Our sales mix also remains more balanced. And an indication of this balance was this quarter marked the fifth consecutive quarter of improvement in our core market sales, a key priority for us, as you know. Most importantly, we have continued to maintain our pricing discipline as all of our pricing metrics were solid for the quarter.

These sales results, along with our strong persistency and ongoing renewal activity in the quarter, are encouraging because they're leading indicators of future profitability. And I believe are also indicative of the strength of our position in the marketplace.

As I mentioned earlier, Unum Limited and Colonial both reported record profitability in the second quarter. Unum Limited had an exceptional quarter with operating earnings increasing 35.8% over the year ago quarter. We continue to see the same trends driving this performance, outstanding risk management results, disciplined expense management, and the beneficial impact of the acquisitions we have completed over the pass several years.

While sales were 56.5% below last year's levels, we feel this is more driven by the lack of activity in the market. We continue to maintain an extremely strong marketshare position in the UK, which is quite competitive at the moment. We will, however, remained disciplined and are prepared to let our marketshare slip is pricing doesn't improve.

Likewise, Colonial continued it strong recent performance with a 14.4% increase in operating income and profit margins that remain at the highest levels in recent history. Sales trends continue to show very positive momentum with sales growth this quarter up 10.9%, the highest rate of quarterly growth in three years. Colonial's sales had a healthy balance of growth from all market segments, and sales rep recruiting continues at a healthy rate of almost 14% for the second quarter and over 7% year-to-date.

We recognize that the true test of any plan is whether it can produce sustainable results, but we're encouraged by the progress our Colonial team has made in repositioning this very important business.

As you can see, again, I am generally pleased with our results this quarter, and encouraged by many of the trends that I see emerging in the business, but there is obviously still work to be done. In that vein we recognize that we still have work to do to restore confidence in the Company, and recognize to do so requires that we consistently deliver solid results in all of our businesses. And I emphasize all of our businesses. I strongly believe that we're on the right track.

It is also important that we continue to work to address misinformation and speculation surrounding our Company, which in part we intend to address through improved communication and transparency. To that end, we have heard from many of you that you would like to see additional reserve-related disclosure. You'll see the this quarter we have enhanced our disclosures and commentary about reserve adequacy, and you will more about that in a moment.

Now let me turn the call over to Joe Zubretsky for more detail in the quarter before I make my closing comments.

My comments this morning will be on the following performance trends. First, the impact of claims management performance and other profitability trends for the U.S. brokerage group income protection line business. Second, an update on our capital management initiatives and the positive impact these are having on our financial profile. And third, an update on the trends we are seeing in the claims reassessment process, certain regulatory matters, and some commentary on the supplemental disclosure we're making on reserve adequacy in our group income protection business.

Our U.S. Brokerage group income protection benefit ratio declined to 95.1% in the second quarter of 2006 from 95.5% in the first quarter, excluding the claim reassessment charge. We saw improved performance in our group long-term income protection line of business that was partially offset by a slight increase in the benefit ratio for the group's short-term income protection business.

At a more detailed level this quarter's results were positively impacted by the following. A lower-level of submitted incidence and severity. And you will recall that we attributed the increased incidence in the first quarter to random volatility, and the second quarter results bear this out.

Second, improved trends in the liability acceptance rate associated with new claims, as well as improved trends in such operational metrics as Social Security offsets and claim settlements, and claim recovery performance, generally in line with the first quarter results.

These positive trends, however, were offset in part by a slight increase in our group short-term income protection benefit ratio. Our STD business continues to perform very well, but the increase in the STD benefit ratio in the second quarter pressured our group income protection benefit ratio by 0.5 percentage point.

We are encouraged with the underlying performance of our claims management organization quarter. Although claim recoveries for the second quarter were generally level relative to the first quarter, we saw a clear improvement in many of the specific operational programs we have referred to in the past.

To reiterate our guidance, we expect the benefit ratio for group income protection to be flat in the third quarter and begin to show improvement in the fourth quarter.

We continued to execute our capital plan for the second quarter, which is resulting in a much stronger financial profile for our Company. The equity forward contract component of the $575 million ACES securities issued in May 2003 fully converted this quarter with an issuance of 43.3 million shares of common stock and a receipt of $575 million of cash. These proceeds were used in our debt tender in June, in which we retired $300 million of debt, which in turn reduced our leverage ratio to 25.8% at quarter end, and leveled out our maturity profile.

We continue to be on track to meet our 2006 capital planning objectives established last October, which are achieve and maintain a 300% combined risk-based capital ratio, deleverage to at least 25% debt to total capital, and maintain a liquidity position at the holding company equal to one year's interest expense, plus any debt maturing within the next 24 months. We currently have $446 million of liquidity at the holding company and continue to estimate that this will grow to slightly more than $1 billion by year-end 2007.

On the ratings front, I'm encouraged that the rating agencies are beginning to recognize this much improved financial flexibility and stabilized operating performance in their analysis of the Company. And would highlight the Moody's decision earlier in the quarter to move our rating outlook to stable. While AM Best did not change their outlook, we are encouraged by the comments they made about our outlook.

With respect to our strategy to address excess capital behind certain of our long tail liabilities we have discussed in the past, we have made good progress throughout the second quarter on our analysis and exploration of designing a long-term facility to improve the capital efficiency of our season long-term income protection claim reserves. Our work has advanced beyond the concept and idea stages and should now be considered a plan.

We have taken this plan to the appropriate regulators and other constituencies. And I'm cautiously optimistic that we can begin to implement this plan in 2006 in a meaningful, but measured way. We also believe that this plan may set a precedent for a strategy to recapitalize larger blocks of our long tail reserves, including those in the closed individual income protection block.

We continue to reassess claims pursuant to our regulatory agreements with California and the multistate regulators, which is an operation and a process very much separate from our ongoing claims operation. As you recall, we increased our reserves for the benefit payments associated with this reassessment process in the first quarter of 2006. Our reassessment process is tracking well with our operational plan, and we continue to estimate that the ultimate cost of the claims reopened in the assessment will be in line with the amount reserved.

We have completed the mailing of 292,000 notification letters, and continue to estimate that we will have approximately 25,000 claims to reassess before the end of 2007. As of the end of June, we had completed the reassessment of over 7,900 claims, which had a rate of 30% of the original claim decisions being overturned.

These earlier claims are being evaluated first, and therefore we expect to see higher overturn rates and average payments on than on the more recent claims. In fact at quarter end we have completed the reassessment of approximately 90% of the 2,000 block claims and 65% of the 2001 block.

Again, we believe that the ultimate cost of the claims reopened in the reassessment process will be approximately $180 million, although if our assumptions for future overturned decisions are not achieved, these reserves would need to be revised. And they will certainly be evaluated at the end of each reporting quarter and during our comprehensive year-end reserve study.

Next, I would like to provide an update on two of the regulatory matters that the Company is dealing with. First, we are cooperating fully with the Securities and Exchange Commission regarding their subpoena, and have provided the information requested. To date their interest is focused on reinsurance transactions, primarily the reinsurance treaty we entered into in the first quarter of 2004 as part of our restructuring of the closed individual income protection block.

As we have stated many times, we believe that this transaction is conservatively accounted for as a risk transfer, and remind you that we initially expensed $185.8 million against before tax statutory earnings for the onetime premium paid, and are expensing approximately $1.5 million per quarter in 2006 on a GAAP basis.

Regarding the California industry settlement, we are pleased with the actions taken by the California DLI, which reaffirms the department's view that the entire disability industry needs to comply with the same general product parameters we had agreed to with the department late in 2005.

This settlement begins the process of leveling the playing field in California for product definitions, and should alleviate some of the competitive stress we're feeling in that important marketplace over the past several months. As always, we update our disclosures on these and other regulatory matters in our Form 10-Q filing, and encourage you to read that for a more detailed update when it is filed on August 7.

Finally, as part of our quarterly disclosure, we have provided you with some supplementary disclosure of our statutory group accident and health reserves for Unum America, which is primarily our U.S. Brokerage group income protection business. This schedule is included in our statistical supplementary.

This supplementary disclosure focuses on reserves on a statutory basis, as these are the data points most often asked about in and analyzed. In summary, the disclosure shows periods of both favorable and adverse development with respect to these reserves, with adverse development being in the most recent quarters. This is entirely consistent with the recent underperformance of our claim operation we have been reporting to you. When quarterly recoveries are below the level assumed in the reserves, the underperformance increases the reserves, which is charged as a benefit expense, which has been the drag on group income protection earnings we have been reporting to you. We continue to believe that the long-term assumptions embedded in our reserves will be met, and as such, our reserve positions are adequate.

Finally on a personal note, I'm very happy to report that Bob Greving, our Executive Vice President and Chief Financial Officer and Chief Actuary, is continuing his recuperation from emergency surgery and doing very well. In fact, Bob is back in the office on a part-time basis, and will be reinstated as Chief Financial Officer once he resumes his full-time schedule.

Now I would like to turn the call back to Tom Watjen, who will make some brief closing comments before we go to Q&A.

Given the results we had for the second quarter we're maintaining our guidance we provided last quarter for 2006, which is $1.65 to $1.70, which includes our expectation that the U.S. Brokerage group income protection benefit ratio remains stable at current levels in the third quarter before beginning to decline later in the year.

At our October 2005 investor meeting we provided guidance on a number of areas of the business. While we have met or exceeded that guidance for most of the businesses, the one exception has been the U.S. Brokerage group income protection benefit ratio which at the time we felt could decline to the 87 to 88% level by late 2007 or early 2008.

Based on our recent performance and the time we believe it will take for the changes in the claims management area to full take effect, we believe it is appropriate to extend the time frame needed to achieve our long-term target for this line of business. We now believe that a benefit ratio in the 90 to 92% range is a more appropriate objective for late 2007 and early 2008. And are estimate to achieve an 87 to 88% benefit ratio has been pushed back.

Now I know that this doesn't come as a surprise to many of you, but in light of the recent performance we felt it was appropriate to update our official guidance in this area before our November analyst meeting (technical difficulty) again this year.

I guess as I close, while I'm generally pleased with the results for the quarter, and encouraged by the trends we see across the businesses, we recognize there still more work to do. So I think we as a management team are confident we are focused on the right issues and up for the challenge.

With that, operator, I think this completes our prepared comments, and we would now like to go to the question and answer session.

(OPERATOR INSTRUCTIONS). Dave Lewis, SunTrust Robinson Humphrey.

A couple of things. First, can you give us an update on the closed block securitization of the redundant reserves? And, two, can you provide a little detail on the spread between the investment yield, discount rate and the potential for a discount rate increase?

First with respect to the former, as we said -- we said many times, our approach to recapitalizing certain of our long tail reserves, we are starting with our ongoing long-term disability business. The plan that we have formed actually addresses our ongoing LTD business rather than the closed block. You notice I am using the word, plan. It is a fully baked plan at this time, which has been submitted to the appropriate regulatory authorities for their review.

Given sort of the status of the plan, certain of our business partners have asked us not to be very specific as to who it involves, etc. We will be providing more update on that as that approval process progresses. But we absolutely believe that the financial technologies that are being contemplated can be applied to the closed disability block. And if approved in its current form, we would absolutely begin the process of exploring recapitalizing that closed disability block as you indicated.

Secondly, it is really a broader question that the investment environment is really very healthy for our Company. As you know, having high long-term rates and a steep yield curve is positive for the business. This quarter the interest rate environment was in our favor. The ten-year was above 5% for most of the quarter. We are able to put new money to work to maintain our portfolio yield. Our portfolio yield only dropped by 4 basis points in the quarter.

But it is volatile. It is already down to 4.9 right now. We are watching it very closely. The question that is generally asked is, are we about to change our view on new claims discount rate. And answer to that question is based on our hedging activity, which long ago put our excess cash flow to work at current interest rates, we see no outlook for a change in the discount rate throughout the balance of 2006. We would revisit that in establishing our 2007 financial and business plan, but based on the current interest rate environment wouldn't contemplate that it would need to change until the latter half of 2007.

Colin Devine with Citigroup.

A couple of things. First, can you give us a little more color on what drove your exceptionally strong statutory earnings this quarter? Secondly, just to be clear in Joe's comment on the resolution of the multistate, should I -- one might take the inference that he was thinking you would still may need to increase the reserves based on how claims are evolving. I would just like to get some clarification on that.

Then lastly, if you just provide a bit more of an update as to what is driving what has certainly been a very impressive turnaround at Colonial with the record earnings we are seeing now and obviously very significant increase year-over-year.

Good. Let's start with the first one in terms of what is driving the statutory results. Joe, do you want to get started and then we will sort of move to Tom White maybe to fill in some of the gaps on that.

On a statutory basis, I think it was pretty much a straight up quarter. The statutory profits were strong. Obviously, somewhat compressed by claim performance, which basically affects statutory GAAP on a dollar for dollar basis. But again, just a really straight up quarter on a statutory basis. And our forecast of 500, $550 million of statutory earnings over a year is still intact.

The second piece on the multistate, we continue to progress. We look at our overturn rates. The overturn rates we expect to be higher in the earlier years we assessed. We expect that to trial off. That is all embedded in our reserve assumptions. I guess you focused on my cautionary statement. Obviously, with any type of reserve that we hold, we're monitoring the performance against that reserve. And in fact, if our assumptions aren't upheld we would have to freshen that up. But right now, as I said, the performance of that unit is completely in line with our financial and our operational plan.

Just to jump in there, you mentioned a significant number of your original decisions have been overturned.

Yes.

What is driving that? Was it these people were able to get Social Security and further multistate agreement then you basically got a [ramp]? Is there any trend that is coming out of this that we should be thinking about?

It is more of -- it is exactly what you said that as we look at these claims, more and more of these claimants than we anticipated in our original assumptions back in late '04 are already on Social Security.

Again, they could have gone on Social Security after the fact, two years later. And pretty much, as you know, if you meet the definition of Social Security disability, by and large you had met the commercial definition. Because more and more of those claims already have achieved Social Security status, on balance our overturn rates in our original assumptions had to be increased.

Any then, Kevin, you would add to that in terms of just some of things you're seeing with the CRE unit and some of the trends there?

I think Joe has got it right on the money. Social Security is the primary reason. Most of the overturns, or the large, large majority of the overturns are driven by the fact that the plaintiff had Social Security -- were awarded Social Security after we made our original claim decisions in those years. And the trends that we see with regard to that are consistent with the assumption adjustments that we made in the first quarter.

Your last question with Colonial, I think as you know, we made some leadership adjustments in the first part of 2004, and a wonderful team has developed with that. It starts obviously, as you know, with that.

But there are three things I guess I would point to when you look at the results at Colonial. Number one, as you know, in the voluntary business and in the payroll deduction business a heavy focus has got to be in the front end selling process. And so a lot of work has been spent to reposition the sales organization. Basically going back to basics in terms of being sure we've got people out in the field and in sales leadership positions that obviously know the product.

But also beyond that are also heavily recruiting new people into system, training new people into the system, mentoring new people into the systems, and keeping a focus on the areas where Colonial has a substantial competitive advantage. So a big piece of this has come through some really tough, but really important work, in terms of getting the sales organization positioned differently. And as you can see from the results this quarter, in the last couple of quarters actually, there have been very good sales results, and the momentums feel very, very good.

The second focus was around risk management. Like with the U.S. Brokerage business I think Colonial had gotten itself into some products and segments of the market which were problematic from a profitability standpoint. And the leadership team has been very diligent about getting the business -- to get it refocused back on the areas where we can produce consistent profitability and growth in the future.

There has been some exiting some markets. There has been some repricing of some business, and dropping some cases where frankly we hadn't made a profit in quite some time. Again, a strong risk management story.

Last, but not least is expenses. Again, I think you saw some very good trends again this quarter in terms of expense management. It sounds like a basic blocking and tackling approach and it is. And it is really been a remarkable turnaround for that management team coming in and bringing a team together. And that is why I guess we feel it is more sustainable because it is built on real strong foundation.

Jimmy Bhullar with JP Morgan.

I just had a couple of questions. First, we've heard different comments from competitors on what the market conditions are. I am just wondering what your view is of the pricing environment in different parts of the disability market?

Then second, you did raise your benefit ratio target from 87, 88 to 90, 92. But the 90, 92 still assume a pretty sharp decline from where it is right now. Can you give us more color on what you think will drive that improvement?

Good couple of questions. Now I will ask maybe Kevin to speak to the U.S. competitive environment, and I will make a couple of comments on the UK competitive environment, but Kevin.

Two quick comments. One, I think in our core marketplace the pricing environment is relatively stable. And we're quite pleased with both our activity levels, the closing ratios, mix of business performance, and the pricing that we are achieving in our core or marketplace.

In the larger case marketplace pricing is still very volatile. We're remaining disciplined to our original pricing strategy. The competitive environment in a large case is still very, very difficult on our pricing -- on our pricing level, and we're only playing when we think it is appropriate.

In the UK, as I mentioned, it is a very competitive environment. Activity is down quite dramatically though. I think there's been a lot of focus in the marketplace on other than disability kind of issues. For example, there is a lot of -- there is series of pension reform initiatives underway there in that marketplace, which becomes a distraction both for employers as well as a distraction for brokers and consultants. Again, the activity levels are down quite a bit.

But what often causes is the competition for that little amount of business that in the marketplace to be fairly aggressive. And that is why I mentioned there has been some price competition there. And to the credit of our team in the UK, we just not going to chase that business. It is not priced properly.

Again, we expect that is going to change in the future in terms of some of those peripheral issues disappearing and the focus can return back into the disability marketplace. But we're very encouraged in the interim we continue to maintain our very, very strong market position which is obviously very important to us.

Now maybe shifting, Joe, to the benefit ratio, do you want to pick up on that one?

The benefit ratio production to 90, 92% is based on a very, very comprehensive operating and business plan formed by the new management of the claims organization. They are implementing lots of different policies and procedures and ways of conducting business. And we're able to actually look underneath that business plan and quantify the impact that would have on the benefit ratio on a going forward basis.

We take comfort in the fact that there is a very, very detailed plan in place to improve certain aspects of claim handling. And we have quantified each piece of that on a going forward basis, something we do every quarter. And are confident that if the plan is executed in the timeframe that we have outlined, that the benefit ratio should settle in at the 90, 92% at the end of 2007, 2008.

Just to follow-up on the pricing environment, are you still taking rate increases on your business or are rates pretty much stabilized now?

I would say new business rates are pretty stable for us, but we continue to place and manage our renewal program consistent with prior years. Our average price increase per LTD, for example on our renewal book of business this year is running at about 8 or 9%.

Bob Glasspiegel with Langen McAlenney.

Let me wish Bob a continued great recovery. It's great news, and look forward to asking him tough questions soon. I don't know whether that is going to slow down his recovery.

But on the benefit ratio, we've knocked 5 points off the improvement for year out. I was wondering if you could just, number one, isolate what are the key drivers behind not getting there?

And two, if you're not going to get back 5 points in '07 the implication there is '06 is coming in low plan, and you did say it is below expectations at least in the text. What are the offsets that are allowing you to reconfirm '06 guidance just as it was?

Let me answer the first question first. When you look at the benefit operation, at the rate at which you accept you claim decisions, liability acceptance rates, the rate at which people recover, litigation, the rate at which Social Security is identified, all these things affect your reserve levels and your benefit ratio.

As I said before, there are very specific programs in place to improve the performance in each of these areas. And we have very sophisticated ways, being 20% of the market, to quantify the impact of that in a very large book of business.

Again, I think we have very good visibility that if the plan is executed, and that is why we say the risk around this is execution, not lack of having identified the appropriate things to do, and the quantification of it, but execution. If it is executed, we're very confident that the lower litigation levels, more market oriented rates of Social Security offset, and bringing back the recovery and liability acceptance rates to normal levels well generate this 90 to 92% outlook.

As you saw in our results, Colonial and the UK continued to perform very well. The are performing above expectations. Any drift in our earnings as a result of our lower-than-expected LTD results have been offset by robust profitability, as Tom articulated in his comments, in most every line of business, including Colonial in the UK.

If I can add to your comment too. Maybe we should emphasize what this environment is not about. I don't think it is about under pricing. We have done a lot of work to get our business properly priced. As you know, we put a lot of renewals into the marketplace. We have terminated business that was unprofitable. It is not about a book of business that is under priced. It is about -- it is not about that issue. It is not about higher levels of incidence, and it is not about severity. It is really about the claim performance piece.

I think when people think about what is embedded in the projections and our outlook and things like that, I would say that is a big piece of it. It is really very much on the back of claim recoveries, not around pricing, not around severity, not around (indiscernible) at this particular point.

You're absolutely right, Tom, it is just about consistent execution on each of the pieces of our claim management process. Whether it is early intervention on recovery management or early applications of Social Security, appropriate and early and consistent customer contact and relationship building with the claimant.

My question was more, where did we lose the 5 points, not where the 3 points or 5 points of improvement is coming from the current base, but where did the 5 points of where we would be in '07 '08 go?

Tom.

Tom White. I think what we're saying is that we just expect -- we still expect to get to the 87 to 88% kind of benefit ratio, but it is going to take a little longer to get there. The fourth quarter last year, first quarter this year the benefit ratio is higher, so we are in effect starting from a higher point, and therefore we think it is going to take a little but longer.

Our view is that this business should generate that type of benefit ratio and will at some point in the future. But because we lost a little ground in the last two or three quarters, it is just going to take a little bit longer to get there. Therefore we have extended that out a little bit. We had some guidance out there on where we thought we would be late '07, early '08. So that is the number that we wanted to change, and we think it is more likely in the 90 to 92% range. But again the 87, 88% is achievable beyond that.

Eric Berg with Lehman Brothers.

My questions are similar too, but not really the same as Bob. I too want to know what sort of happened to the -- why we are making this change here. And I will elaborate. In May when you had your first quarter earnings call, and you knew that you were behind, I think you affirmed -- I think Joe said back then -- I believe I have it right when he said, we're going to get there.

Then today Tom is saying that he is encouraged by the progress that you've made in the LTD area. That is what it says in the news release. So if things are going well in fixing the claims departments problems, and if as recently as May you were confident you were going to get there, I think you said two-thirds of the improvement would come from the claims departments and one-third from pricing. I'm thinking that something must have happened just in the last few weeks that would prompt you to make such a big change in your expectations. Am I thinking about this right?

I can understand the frustration around this and I will offer some commentary, but then maybe ask Joe to fill in that. I think, as you know, when we laid out our expectations in the fall of last year at the investor meeting, we were trying to create there some long-term objectives that we thought were long-term, and therefore wouldn't address those long-term expectations each quarter, and we would sort of sit there and have those out there and revisit those every year, unless something changed that.

I think what you heard us say in the first quarter is we weren't changing those long-term objectives. Because again, we were sort of I think taking the view that again we will go through all those guidance adjustments when we think about the fall meeting. I think as we have gotten deeper into this there is a recognition that we look at frankly as a management team as though we don't have credibility if we don't make a change in something that is fundamentally not on the same plane as we had in the fall of last year.

I think that is why we broke stride a little bit here and chose to make an adjustment to that piece of the guidance. I don't think again people are surprised by it, because you look up a performance the last two or three quarters and we obviously weren't hitting -- this piece of the business was not hitting expectations. In retrospect maybe we should have changed that guidance I think for that one particular piece in the first quarter. But the real point is that these are annual long-term objectives. We stand by those. And I think at this point Joe decided that it is obviously very evident to most of that one particular piece of the guidance was falling behind, and therefore we made it official rather than wait for the fall.

Absolutely.

If I could just ask one more quick question related before passing it to the next questioner. And that is, I think since Joe has said, and since you indicated in your Investor Day last October, that getting the ratios to your target is still critical to getting the overall Company ROE into the double digits. What is all this -- what is this important -- I think important and significant change -- mean for ROE over the next couple of years?

Obviously if we are pushing out the ultimate target, there's going to be a drag on the ROE improvement that we projected. And as Tom referred to earlier, when we have our Investor Day in November of this year, we plan to update guidance on all the segments of our business, all liens within U.S. Brokerage, LTD, UK, Colonial, and we will recast the progression of the ROE over that time frame.

It stands to say it is rather stating the obvious that we push out the benefit ratio improvement on the return on $2 billion of capital then the ROE is going to have to -- the ROE improvement is going to have to push out as well. Again, after we post the third quarter and meet with all of you in November, we will layout all that guidance in a very clear way.

And as I said in my comments there have been some things that have worked better-than-expected since that point in time. There is a lot of factors that will go into that discussion in the fall. But I think again we felt it was important to break this kind of annual guidance sort of view, just because this one variable obviously is not meeting expectations. It is not a new piece of information it is not meeting expectations. We wanted to complete that thinking by actually changing the guidance in that one specific piece sort of off cycle, if you will.

Thank you, not only for answering the questions, but for a greatly improved format on this call.

(OPERATOR INSTRUCTIONS). Saul Martinez with Bear Stearns.

Tom, you said you are beginning to see evidence of the operational changes having a positive impact on the results. Maybe, Kevin, can you provide a little bit more of a qualitative assessment of where you stand in the claims management overhaul. Maybe how you're tracking versus your expectations when you began this process. And maybe you can talk a little bit about what has been better, what has been more challenging.

My second question is for Kevin. Kevin, if I paraphrase you correctly in your response to an earlier question, you said the core market pricing environment is still pretty good. You're saying large cases, volatility in the pricing environment in the large case. How do I reconcile that with the fact that core LTD sales I think were up about 1% year-over-year, and large case sales were up much more substantially for LTD? Can you just talk a little bit more about what is driving that? Are you seeing a better environment in the large case market?

Let me talk first about the operational improvement. As you know, we put a new management structure in place in the first quarter. We took a lot of actions around smaller operating units, lower workloads. Made some adjustments around aligning our claims examiners to be more closely associated and related with the customer relationship, as opposed to sort of the old impairment model. We put a quality assurance process in place. And all those organizational changes kicked in during the first quarter and into the early part of second quarter.

During the second quarter, it was particularly in the latter half of the second quarter, we started to see recovery improvements across durations, rather than just in early durations. And that was a particular area of focus for us, particularly around the change in definition of disability that occurs in group long-term disability.

We also continued to see improvement in our Social Security offset rates and application rates. And we continued to see steady improvement in our quality measures, such as our reduced levels of complaints, reduced levels of appeals, and reduced levels of litigation. All the way across the board I think operationally the metrics are permitting in the right direction. And maybe most importantly, I think the commitment of the organization and the morale of the organization is particularly strong around all these changes that we have made.

With respect to pricing, core sales were up in our core market across all of our LTD, STD, life lines, 10%. Large case is up 15%, but large case growth was heavily driven by what we call MVOC sales, or sales to existing customers. And our pricing metrics, which we track on the core market, continue to be very consistent with our expectations and basically flat year-over-year. If you look at our premium for life measure, it is actually slightly up year-over-year.

And on the other hand, when we look at the pipeline associated with our large case business activity, as I said earlier, we're pretty disciplined making sure that we are only taking -- we are only focusing on sales when we think it is at an appropriate pricing level, and that we are clear about what the value proposition is that we are selling to that particular large case, as opposed to just going after sort of the high-profile large case.

That is helpful. Let me see if I got that. Maybe I have the numbers a little bit mistaken. But let me go over that with you, Kevin. You said LTD sales were up in your core markets 10% and 15% in the large case, is that correct?

No, I said 10% in our group benefits, LTD, STD, life.

Okay. Across the board. That was in the first half or the second quarter?

In the second quarter.

Tamara Kravec with Banc of America Securities.

Most of my questions have been answered; however, I wanted to focus on the persistency in the group income protection business. It has been -- in LTD it is running about 86%, a little bit better than that actually. Would you expect that to stay stable, move up or still -- it has been running ahead of your expectations. I am just trying to get a sense there of what you would expect.

I think persistency has been running about expectations, but I think it is a very good reflection of the degree of loyalty we have in our distribution system with brokers and customers. Our customer satisfaction ratings remain high. And I think our persistency performance reflects that. At this point I don't see any reason to believe that it should shift very much in any direction. But in general, I think it is positive and I expect it to remain positive.

You haven't changed your guidance range for persistency, right?

No.

No, we haven't. We're staying with the same guidance though. Again, a pretty good trend as Kevin said, so staying with same long-term guidance.

(OPERATOR INSTRUCTIONS). Tom Gallagher with Credit Suisse.

Just a few questions. Firsts is, Tom, in terms of the improvement you're expecting in the group income protection benefit ratio by the end of year, I don't if you can quantify that at all in terms of what we should expect. Should it just be marginal improvement by the fourth quarter? Because it sounds to me like it is sort of -- as you are finishing the year is where you're expecting to see more improvement. That is my first question.

Tom, why don't you take the question on what the expectation to the back half of this year on the LTD.

I don't think we're going to give a specific number, but our view is that we wanted to see things stabilize in the second and third quarter. Say the second quarter we hit our mark on that and you had stability, and we would expect the third quarter to look at a lot like what you see here in the second quarter.

The idea is that by the time we get to the fourth quarter that a lot of the changes that Kevin and Jack and Gary and his group have put into the benefit center will start to bake in and you will start to see that come through. But we're not going to make a specific estimate or range on what we think the fourth quarter benefit ratio could be.

Just another question. In terms of your disclosure on reserves on page 13 of your supplement, the ID&R for group income protection dropped by about 53 million from 1Q levels. Can you just explain what is driving that?

Sure. This is Joe Zubretsky. Actually, there was some noise in the first quarter with respect to how the reassessment charge is calculated. Actually, and you go off line with our guys and walk through that, you'll see that basically the ID&R reserve in relation to the size of the book of business and our total reserve picture is actually pretty consistent quarter over quarter.

As you know, as we have said in the past, we pretty much record that reserve based on the number of enforced lives, and don't changed our view of incidence or severity on that. So it pretty much rides with the book of business. There is some noise in how the reassessment charge was included in that table. And off-line our guys can walk you through that to make you comfortable with that notion.

Got it. I assume then their drop this quarter. Would that be related to the reassessment charge coming down in terms of that ID&R being related to that?

Yes. You see that once you exclude the effect of that and looking quarter to quarter that the ID&R reserve is pretty consistent.

Got it. The last question I have, which really is just on the long-term care block. I guess we have seen it from a number of other companies in the industry this quarter to show an increase in the benefit ratio there. We're hearing from others that there is a pickup in incidences. Can you talk about whether you're seeing the same, or is that simply related to assumption changes for lapse rates and interest rates?

You've got it. That is exactly the case. Actually it is a little too volatile for me quarter to quarter. But if you look last quarter it was $18 million of earnings, and now it is 10. And that is all termination related, as the active life reserve bounces around with terminations. We're actually seeing good experience otherwise. The block is holding. As you know, we put in a price increase on our -- the individual side of that. And we expect that to start taking root in 2007 and fully baked in to the results in 2008. All in all, knock on wood, we had fairly good success with that block of business despite what some others are experiencing.

Got it. Actually just one follow-up on long-term care too. It is one of the reasons why your stat earnings are trending at least stronger directionally that GAAP right now because your reinsuring long-term care through your Bermuda affiliate, and that business obviously had some deterioration this quarter? Anyway, I just wanted to know directionally is that one of the reasons we are seeing different movements in GAAP versus stat?

No, not really. I would say that obviously when you write first-year business and there is some surplus strain, obviously that being in a different subsidiary would be relieved from your traditional statutory earnings picture. But that is very minor and doesn't really drive the results. Our statutory earnings at north of $500 million on an annualized basis, although there is quarter to quarter volatility in how statutory accounting works, is still our long-term guidance. It portends well for the dividend capacity to the holding company. And really long-term care is not a factor in that picture.

Jeff Schuman with KBW.

Actually my question was just asked. Thank you.

There are no further questions at this time. I will turn it back over to our speakers for any additional or closing comments.

Thank you, operator. And thank you all for taking the time this morning. And obviously we are around for follow-up questions. But this will complete our second quarter call. Thank you.

Thank you. That does conclude today's conference call. We thank you for your participation. Have a great day.