普登 (UNM) 2010 Q2 法說會逐字稿

Good day, and welcome to the Unum Group second quarter 2010 earnings results conference call. This call is being recorded.

At this time for opening remarks and introductions, I would like to turn the call over to the Head of Investor Relations, Mr. Tom White. Please go ahead, sir.

Thank you, Pat.

Good morning, everyone, and welcome to Unum's second quarter 2010 analyst and investor conference call. Our remarks this morning will include forward-looking statements, which are statements that are not of current or historical fact. As a result, actual results might differ materially from results suggested by these forward-looking statements.

Information concerning factors that could cause results to differ appears in our filings with the Securities and Exchange Commission, and are also located in the sections titled Cautionary Statement Regarding Forward-Looking Statements and Risk Factors in our annual report on form 10-K for the fiscal year ended December 31, 2009, and also in any subsequently-filed forms 10-Q. Our SEC filings can be found in the investor section of our website at www.unum.com. Please take note that statements in today's call speak only as of the date they are made, and we undertake no obligation to publicly update or revise any forward-looking statements.

A presentation of the most directly comparable GAAP measures and reconciliations of any non-GAAP financial measures included in today's presentation can be found on our website in the Investor section.

Participating in this morning's conference call are Rick McKenney, Executive Vice President and CFO; and our business segment presidents, Kevin McCarthy, Randy Horn, and Jack McGarry.

And now, I'd like to turn the call over to Unum's President and CEO, Tom Watjen. Tom?

Thank you, Tom, and good morning.

Despite the challenging business and economic environment, I'm generally pleased with our results for the second quarter, both our operating and investment performance, and the strength of our capital position.

And let me touch on four basic take-aways for the quarter. First, our businesses continue to produce solid margins and profitability. Excluding net realized after-tax investment gains and losses, we reported $0.69 per share in operating income for the second quarter, an increase of 6.2% compared to the year-ago quarter. Our core operations continue to produce generally solid results, especially Unum US, with operating earnings growth of 12.9%, and Colonial, with a growth rate of 3.6%. On a constant currency basis, operating earnings for our three core segments combined, which is Unum US, Unum UK, and Colonial Life, was 4.4% than the second quarter of last year.

Second, we're generating these results in what continues to be a challenging business and economic environment. Unemployment in the US and UK remains high, and continues to pressure premium growth in both of these markets. Additionally, we continue to see some very aggressive pricing and underwriting actions by certain competitors, both in the US and in the UK. While these pressures impact our overall sales results, I am encouraged by the trends we are seeing in the market segments we have targeted for growth, specifically the core or smaller-case marketplace, and the voluntary benefits marketplace.

While we did not see growth across all of our targeted markets, our Unum US voluntary benefit sales grew 51%, our Unum UK core market sales grew 45% on a local currency basis, and Colonial Life core market sales were up 14%. We are continuing to take a disciplined targeted approach to growth, which is serving us well in this environment.

Third, our investment portfolio remains in very good shape, with this quarter's net realized investment losses, excluding the accounting for the ModCo [embedded] derivative, again at very low levels. The net realized-- net unrealized gain in our fixed income portfolio grew to $3.7 billion this quarter, much of which was obviously as a result of declining interest rates.

While today's low level of interest rates can present challenges to some, as Rick will discuss in his comments, as a result of our disciplined approach to interest rate management, we are well positioned to effectively manage our exposures in today's environment.

And lastly, given our solid operating results and strong investment performance, we continue to build on our already strong capital position. Our weighted average risk-based capital ratio is approximately 400% at the end of the second quarter, and our holding company cash and marketable securities position remains above $770 million, both consistent with our March 31 levels. We maintained these levels while also repurchasing approximately $130 million of our shares in the marketplace this past quarter.

In summary, I feel very good about our results so far this year. We continue to face premium growth challenges in certain lines of business, but our operating and investment results remain strong and we continue to generate excess capital, which we are using to repurchase stock and support our previously-announced dividend increase.

With the passage of both healthcare reform legislation and some of the changes involving the financial services sector, the insurance sector and the broader financial services industries are undergoing unparalleled change. We continue to believe, though, that our basic business of providing benefits to employees at the workplace remains a good business, where we can both make a difference in the lives of our customers and create attractive returns for our shareholders.

Now, I'll turn the call over to Tom White, who will provide an overview of our operating results this quarter. Tom?

Great. Thanks, Tom.

Net income for the second quarter was $209.7 million, or $0.63 per diluted common share, compared to net income of $267.2 million, or $0.80 per diluted common share last year. Included in the results for the second quarter of 2010 are net realized after-tax investment losses of $18.9 million, or $0.06 per diluted common share, compared to after-tax gains of $51.4 million, or $0.15 per diluted common share last year.

Net realized after-tax investment losses for the second quarter of 2010 include an after-tax loss of $15.3 million resulting from changes in the fair value of an embedded derivative and a modified co-insurance contract, compared to an after-tax gain of $91 million in the second quarter of 2009. Also included in net realized after-tax investment losses for the second quarter of 2010 are net realized after-tax investment losses of $3.6 million related to sales and write-downs of investments, compared to net after-tax losses of $39.6 million in the second quarter 2009.

So, excluding these items, after-tax operating income was $228.6 million for this quarter, or $0.69 per diluted common share, compared to $215.8 million, or $0.65 per diluted common share, in the year-ago quarter.

Turning to the operating segments; in total, Unum US operating income increased 12.9%, to $216 million in the second quarter. Within Unum US, the group disability line reported another strong quarter, with income up 23.1%, to $84.1 million.

The group disability benefit ratio fell to 84.6% in the second quarter from 87% in the year-ago quarter. This result is consistent with our expectations, and reflects favorable business mix shifts and our ongoing adherence to pricing discipline. Other factors driving the positive results in our group disability line include operating expense discipline and strong premium and case persistency, for both group long-term and short-term disability.

Premium income declined 3.8% in the quarter, reflecting in large part the impact of today's high level of unemployment on the natural growth of our business. Within the group life and AD&D line, operating income increased 5.7% to $51.5 million. A slight improvement in premium income, as well as stable risk experience, helped to generate the improved earnings.

In the supplemental and voluntary line, second quarter income was up 8.2%, to $80.4 million, from $74.3 million a year ago. The improvement was driven by higher earnings contributions from both the long-term care and voluntary benefits lines of business.

Reported sales for Unum US declined 16% in aggregate compared to the second quarter of 2009, in what continues to be a highly competitive pricing environment. Sales for our group lines, which are LTD, STD, and Group Life and AD&D combined, declined approximately 30% in the second quarter. Remember, last year's second quarter results included unusually high large-case sales activity that was not duplicated this year, adding to the large-case market sales decline of 53.4% in the second quarter.

Sales in the core market for these lines declined by 13.2% in the second quarter. These trends were partially offset by stronger results from our supplemental and voluntary lines, especially the voluntary benefits line, with sales growth of 50.8% this quarter.

Moving to Unum UK; operating income in this segment decreased 21.4% to $52.9 million. Operating income declined 18.9% in local currency, with reported income for the quarter negatively impacted by the slight weakening of the British Pound. Premium income in local currency decreased 8.2% in the second quarter, due to lower premium growth from existing customers, and a decline in the in-force block of group LTD business, partly offset by an increase in the in-force block of group life business.

The benefit ratio in Unum UK increased to 66% in the second quarter from 54.4% a year ago, reflecting the impact of lower earned premiums, higher claims in the group life and group disability blocks when compared to the very favorable experience of the second quarter of last year, and the impact of higher inflation in the UK on inflation index-linked group policies.

Second quarter sales increased 15.8% in local currency, driven by strong sales in the group life market and a more moderate increase in group disability.

Including our core operations, Colonial Life had a strong quarter, with premium growth of 6.7% and operating earnings growth of 3.6%. The benefit ratio of 48.3% this quarter was elevated compared to the year-ago benefit ratio of 46.4%, but still a very favorable result, which produced a very strong profit margin of 27.6% this quarter.

Sales at Colonial Life continue to be encouraging, increasing 7.6% for the second quarter. Underlying these results are several positive trends, highlighted by new account growth of 13.6% compared to the second quarter of '09. In addition, recruiting trends continue to remain strong, with growth in new rep contracts up 20.3% this quarter.

Finally, average weekly producers at Colonial Life increased 9.7% in the quarter compared to last year.

The individual disability close block operating income was $12.4 million, compared to $10 million in the year-ago quarter. The interest adjusted loss ratio was slightly higher at 85.4% this quarter, compared to 82% a year ago. Premium income declined 6.8%, and net investment income was flat year-over-year. Interest on debt and operating expenses were both lower this quarter, compared to the second quarter of last year.

And finally, the Corporate and Other segment reported an operating loss of $17.6 million, compared to a loss of $16 million in the year-ago quarter. Net investment income was higher, reflecting higher levels of invested assets, while interest expense increased to $30.8 million this year compared to $25.6 million last year, reflecting the debt issuance from late September 2009. Results also reflect the impact of higher litigation expenses, which we expect to be one-time in nature.

So, with that review of the operating results, I'll turn the call over to Rick McKenney for further analysis of this quarter's results.

Good. Thank you, Tom.

As you can see, our operating trends this quarter remained solid, and generally consistent with our experience of the past few quarters. I'd like to discuss here the key drivers of this quarter's results, and provide some insight on our investment portfolio, interest rate management, and our capital position.

First, looking at our profit margins, our overall risk experience is performing well, though with slightly more volatility than we saw in the first half of 2009. In Unum US, risk experience remained generally stable across all lines, and given the premium growth challenges we currently face, remains the primary driver of this quarter's 12.9% increase in operating income.

Our group disability results remain strong, with an improvement in the benefit ratio of 2.4% on a year-over-year basis. And while new claim incidence was slightly higher this quarter, we had very good long-term disability claim recovery experience relative to last year's second quarter.

Sequentially from the first quarter, we did see an uptick in the benefit ratio of 0.4%, driven by the slight increase in claim incidence, while claim recoveries remain consistent. The volatility in new submitted claim incidence shows no real underlying trends, and no signs of being economically or recession-influenced. So, while we have seen some quarter-to-quarter volatility in submitted claim incidents over the last year, we believe it is within the normal levels of volatility.

These results are also consistent with our news that the group disability benefit ratio will stabilize at roughly the level we experienced in the last few quarters. Looking out further, as our overall business mix for Unum US shifts with the growth of our voluntary benefits business, this diversification can further improve the overall margins for the segment.

Looking to the UK; risk results were slightly elevated from our expectations this quarter. On a second quarter 2009 to second quarter 2010 comparison basis, the benefit ratio increased from 54.4% to 66%. While this is a dramatic move, there are multiple drivers to it.

First, this is largely a result of the very favorable risk experience we enjoyed last year, which was well below our expectations, and has returned to a more normal level in 2010. We were also impacted by a couple of points for reserve increases, due to higher inflation in the UK. This doesn't impact the bottom line, due to the offset by a match of our inflation-linked bonds in the investment portfolio. In the Life line, our group life risk experience improved from the high mortality we saw in first quarter.

Finally, Colonial Life's risk results remain solidly in line with our expectations, and the trends of the past several quarters. The Colonial Life benefit ratio for the second quarter was 48.3%, higher than the year-ago level of 46.4%, but in line with our view that the benefit ratio will trend up slightly over time.

So, with our underlying profit margins holding generally stable, I would like to turn to the ongoing challenges we see in growing our top line in this difficult environment, both from a business and economic perspective.

Focusing first on Unum US, we've referenced our measure of natural growth on recent conference calls. Our stance is that natural growth still represents a headwind of approximately 1%; not as bad as the 3% impact we felt in 2009, but still a drag on our book of business, and therefore our ability to grow the premium line. The market here is still slower, which benefits us by continued high persistency, but elevates the competition for new cases.

Tom outlined the challenges to grow Unum US sales in the group disability and group life businesses, reflecting the large case success we had this time last year. We benefited at that time from the upheaval in the markets resulting from the financial crisis, but now we're seeing ongoing price competition.

A bright spot in the growth in our sales in our voluntary business, in both large-case and core voluntary market segments and from new and existing cases.

Within our Unum UK results, premium income remains under pressure, with second quarter premium income down 8.2% in local currency. New sales this quarter did increase by 15.8%, with better activity in the core market, and persistency remains solid. However, pressure continues on our in-force premium levels from a reduction in covered lives and ongoing competitive pressures.

Looking into our Colonial Life results, our growth metrics are in good shape. We continue to post strong trends in new sales, recruiting trends, agent productivity, persistency, and ultimately premium growth.

Second quarter sales increased by 7.6%, and has grown 5.5% over the past four quarters; very strong performance in a weak market. The success is attributable to a number of factors, but particularly, strong recruiting trends over a number of years have driven noticeable success in new account growth. This was up 13.6% for the second quarter, and 21.2% for the first half of the year.

This success in new account growth, combined with a stable persistency we've experienced, will allow us to grow the Colonial Life segment more quickly as the economy improves.

Rounding out my comments on profitability, I would like to shift to the investment portfolio and trends we're seeing.

Net investment income on the quarter grew 5.4%, and partially benefited from a higher level of miscellaneous net investment income. We would expect some ongoing level in this latest income from our bond portfolio, particularly from our private placement portfolio, but it's difficult to predict. If you look at the investment portfolio in totality, we continue to see very strong performance, driven by the ongoing rally in Treasuries, as well as fundamental improvements in the credit profile of our portfolio.

With the rally in the Treasury markets during the second quarter, our net unrealized gain position and our fixed maturity securities portfolio improved further to a quarter-end level of $3.7 billion of unrealized gains, compared to a gain of $2 billion at year-end 2009 and an unrealized loss position of $2.5 billion at the worst point in the credit crisis. Our net realized investment losses remain quite manageable at $5.9 million in the second quarter, which compares to a loss of $65.1 million in the year-ago quarter.

Of course, the flipside of low interest rates and tight corporate bond spreads is the challenge it presents in new money investments, and the opportunities for investors to invest across the spectrum. We would always rather be purchasing higher yielding bonds for higher net investment income, but the key focus for our business in this environment is the interplay between our portfolio yields backing our various product lines, and the aggregate discount rates embedded in the reserves.

Looking at our results this quarter, our overall portfolio of yield-backing products remained stable at 6.76%, and broken down to the product line level, our product line specific portfolio showed the same level of consistency. Despite this low interest rate environment, we believe that we are well positioned for several reasons. One, we have maintained a consistent rate for new claim discount rates, while our new money investment opportunities have outperformed over the last several years. That is, we were putting money to work and were the beneficiary of widening corporate bond spreads during the credit crisis. This kept our yield stable while the discount rate declined.

Since the crisis has abated, our investment team has done a good job of finding relative value across our asset classes. Part of that is due to our low level of new money to invest relative to the size of our existing portfolios.

For example, over the next six quarters, or 18 months, we project approximately $75 million of new money to invest in our closed disability block on a portfolio of $11 billion. And in our Unum US long-term disability block, we'll have about $600 million to invest on a portfolio of approximately $9 billion. Therefore, even at today's new money rates, we expect to see a decline of less than 10 basis points in our LTD portfolio yield, and a de minimus impact in our closed block.

Again, a stable long-term portfolio yield, even in today's rate environment, combined with our new claim discount rates, provide us with longer-term stability. So, while lower rates represent a challenge to us and all insurers, we remain well positioned, and we believe we can tolerate for sometime a prolonged low interest rate environment.

A combination of the strong financial and investment results are also reflected of the Company's book value per share, which was $27.12 at June 30; a sequential increase of 2.8% for March, and an increase of 20.2% relative to a year ago.

Moving to our capital; our statutory earnings were very strong this quarter, and our corresponding capital growth remains quite healthy. Net income on a statutory basis for our traditional US life insurance subsidiaries in the second quarter was $176 million, compared to $108 million in the year-ago quarter. This continued strong performance as a result in our capital base at our insurance subsidiaries, and improvement in our RBC ratio to an estimated 400%, which is at the upper end of our targeted 375% to 400% range.

We also finished the quarter with continued strength at our holding companies, with cash and marketable securities ending the second quarter at $773 million, essentially flat with the March 31 level of $775 million.

As announced in May, we began to return capital to our shareholders by repurchasing our shares. During the second quarter, we repurchased 5.7 million shares, or approximately $130 million of the $150 million authorized by our Board. We were pleased to do that while keeping all of our capital metrics at very solid levels, as well as our leverage below 20%.

Before I close and turn the call back to Tom, I'd like to highlight a couple of items we're watching closely in the second half of the year related to our growth rates. The first is premium growth. We've described the headwind we feel from today's high levels of unemployment, and while this trend has stabilized somewhat, it clearly impacts our sales and premium growth. In this market, we will remain disciplined.

And second, we continually watch for the trends in risk experience, given the continued volatility of the world around us.

So, wrapping up, despite some volatility we might see, our confidence remains high in our business, and in our ability to generate strong overall margins, and cash flow for our shareholders. This is best exemplified in our consistent return in equity, which is 14% for our core businesses and 11.5% on a consolidated basis, built on top of a strong capital position.

And now I would like to turn the call back to Tom for his closing comments.

Thanks, Rick.

As you've heard this morning, while finding profitable top line growth opportunities remains a challenge, our overall level of earnings and cash flow remains healthy, which continues to provide us with a great deal of financial flexibility. I continue to feel that we are in good businesses, and are operating from a position of strength, both operationally and financially, which is a very nice place to be in times like these.

One final comment. We plan to host our annual investor briefing on the morning of November 17 in New York. We'll get full details out to you shortly, but we all look forward to seeing many of you there, where we obviously have a chance to talk about our businesses in a bit more detail.

This completes our formal comments, and Pat, let's move to the question-and-answer session.

(Operator Instructions)

We'll go to our first question from Mark Finkelstein of MacQuarie.

Good morning. I guess first a question for Kevin. I want to understand the comment about the competitive environment is stabilizing. I guess, what are you seeing, and what gives you the confidence that it has stabilized, and how should we think about the sales, you know, over the next couple quarters essentially?

Good morning, Mark. Stabilized; we're in a soft -- pretty soft pricing environment still. I think last year, the first half of the year, as you'll recall, a number of our competitors railroad struggling with a number of issues, and we had a pretty robust first half of the year. At that time, we sort of anticipated that the second half of the year, and going into the beginning of this year, that the pricing environment would be softer. I think that's proven to be true. Average prices seem to be sort of trailing down in the marketplace, and that's resulted in us being disciplined in our overall pricing and more focused on growth in our strategic businesses, our core business, our [simple] Unum platform, our voluntary business, all of which are up during the first half of this year. So I think for us, the stabilization maybe has more to do with our focus on our strategy, as to opposed market pricing has stabilized; I think market prices are still soft.

Okay. And then just, I guess, a little bit of clarification on the UK. I mean, obviously it was a little bit higher than sort of what I was expecting. Should we be thinking about that business as a mid-60% loss ratio business going forward?

Rick?

Yes, this is Rick, actually, I think that that's probably reasonable in terms of what we would see. What we've seen in this quarter is actually, it was a little bit higher than expectations due to some inflation-linked policies that we have, so actually the reserves go up a little bit faster. But I think it's consistent with what we've been talking about. So we probably would have said earlier in the year in the low 60s, and somewhere in between that and trending up slightly as the book matures. I think I would remind you very quickly, though, that even in those ranges this is a very profitable book of business, and generating ROEs in the 20s, which is the thing to focus on. So even at that level, we're very happy with that business.

Okay. All right, thank you.

Thank you, Mark.

We'll take our next question from Bob Glasspiegel of Langen McAlenney.

Good morning. Staying with Mark's UK question, Tom Watjen, with the management change, should we change our sort of outlook for sales and top line, either up or down? Any implications to that? Maybe you could give us some color on what the game plan is there now in the future versus what it has been?

Yes, Bob, I'll pick off of what Rick said, I'll sort of start with a reminder that we're in a very good position in the UK. We're a market leader, we've consistently been a market leader. As Rick said, we consistently continue produce extremely strong returns. I think one of the things we've done certainly at investor day last year, which is -- certainly we're not changing that outlook, is we have to assume we're going to continue to see those returns decline, because certainly we've had some very unusual returns over the past several years. So none of that changes, I don't think, as a result of what we're seeing today or in the changes that we've made.

Frankly, like with all of our businesses, we've got sort of a challenging short-term. I would say in the UK we're finding even a greater challenging short-term environment with the employment picture, the competitive dynamics, those sorts of things impacting the near-term. Certainly in the UK we see the long-term very optimistic, as we see -- hopefully broadening the market for the products and services that we think the market needs and we can provide.

So I don't think anything changes from any of those points of view at all. Certainly from the management change point of view, you know, that was a decision that we made as we looked forward and look to some of the demands on the business, looked at the needs we have, looked at the resources we have, and we thought that change was appropriate. Again, I wouldn't read into it any further than that.

So you aren't more optimistic about the sales environment with the new team than the old team? Same -- same game plan and execution, shouldn't change appreciably on production?

No, but what I would say, Bob, is again, in the short-term, it remains a very challenging environment. So I don't see any huge changes in direction, but I think what you see in the quarter, and it came out both Tom and Rick's comments, we're still cautious in that particular market because of just some of the short-term pressures, most importantly from the economy and the employment picture, especially for white collar positions, which is where much of our business in the UK is directed. So again, I think we are remaining cautious in the short-term because the environment remains challenging. But again, I don't want you to think we are making a big, wholesale change in direction, because that's not the case, but we are dealing with the realities of a tougher market condition in the UK right now.

Thank you.

Thanks, Bob.

Our next question comes from Colin Devine from Citi.

Good morning. I have a couple of questions. Perhaps just on the corporate segment, you can explain a little bit more what happened with the litigation? Obviously, this has been an issue in the past and I trust it's not going to be one again?

The second thing that I would really like to drill into is what's going on in long-term care. If I look at the reserves there, they are about a third of what's in the IDI closed block. I appreciate individual long-term care is effectively a closed block for you, but in looking at a benefit ratio that was 120.3% for the quarter, you compare that to a couple of years ago and it was down around 106% and even a few years before that, in the mid-90s. What is going on there, and is this going to be a situation where you're going to have to take some sort of charge or increase reserves? Clearly the performance of this is not going the way you expected.

Let me ask actually Tom White just to review the corporate segment a little bit, and then we'll move to the long-term care. I think both Kevin and Rick can maybe offer insight there. Tom?

Sure, thanks, Tom. The legal expense in the corporate and other segment was the settlement of the COLI case, the corporate-owned life insurance block, that's a closed block that we had actually reinsured back in 2001, so it's a block of business that's been gone for a while. The litigation has been detailed in our 10-Ks and 10-Qs. This past quarter we had an opportunity to settle that, so we did. The settlement cost to us was $15 million on a pre-tax basis, which is in the expense line, again in the corporate and other segment.

Great, thanks.

With respect to long-term, maybe just to get things started, we need to touch on the strategy, just as a reminder of where we are playing in long-term care and when we're not actually at this particular point?

Thanks, Tom. Good morning, Colin. As you mentioned, ILTC is a closed block of business. Our strategy there is basically to continue to look for efficiencies and to reprice that business as we move forward, much as many of our competitors have done already, or are in the process of doing.

On the group long-term care side, it's a little bit different. That business is employer-sponsored, it's often employer-subsidized or even employer-paid. Average age is 15 years or so younger in terms of the average purchasing person. It's a voluntary enrollment product, much like the remainder of our voluntary businesses. We support it with the same kind of education and enrollment support that we do our other supplemental lines. And that business has performed solidly for us. It's been pretty consistent for us. And we don't have either the aging pressures, the repricing pressures, or the sort of lapse rate differentiation pressures that we have in the ILTC business.

Okay, but Kevin, if that's the case, right, that the group LTC is performing, to use your term, solidly, then the benefit ratio that I'm looking at on group and individual combined has gone from 106.1% in 2008 to 120.3% in the second quarter, and that's with group -- you know, group, I assume, stable or better, which means the individual part is actually getting a lot worse. How big is that block, and do we have a reserve charge coming?

Let me highlight one thing, Colin. As you're looking at that on the face of the income statement, that's not fact toward in, you have to interest adjust those loss ratios. So as the reserve builds, it goes through the benefit line, but at the same time, we're accreting interest on our assets as well. So you're going to see that trend go up, just by the nature of the growth of the block as it goes through time.

Okay, then maybe splitting out group and individual, to back up Kevin's point, is what we want to get at here, but I don't think anybody's answering my question. Is individual getting a lot worse, and is there going to be a reserve charge coming? That's -- I mean, you dodged it, but let's get to the heart of this.

Individual is not getting a lot worse. As you look at loss the ratio, this is a very long-term block of business that we'll be dealing with as well, so we've seen loss ratios there fluctuate around, but not more dramatically in any direction. In terms of your question --

But what are they, Rick? What are they? Instead of talking in generalities, I'm asking for specifics.

Well, we can get you the specifics. I don't have them right here in front of me in terms the actual block --

How big is the block in terms of reserves?

What's that?

How big is the block? Because your total long-term care reserves are a third the size of the IDI block, which means this -- is this block chewing up a lot of your capital? Is that why I'm looking at this supplemental line with, you know, to be blunt, you know, fairly ordinary or disappointing return on capital, pre-tax 13%? I'm sure you don't price it for that?

The size of the block, you're right, is about $3.5 billion of policy reserves --

For individual?

No, total, total long-term.

Okay. Can we get the split?

So we manage this -- we should be very clear, we manage this as an aggregate block. So the strategy in terms of go to market relative to the individual and the group and the performance, we manage this as one block and that's why it's consolidated and aggregated together. We're not going to split that up.

And to your point, Colin, this is Tom, obviously this is a capital-intensive line of business, so your question about it, as reserves mature and development and grow, it's going to continue to be a net user of capital. And obviously as we continue to think about how we want to manage capital in the years ahead, obviously as you can imagine, we think about things like that.

So this is potentially another IDI block that's going to chew up a lot of capital and pressure ROE?

I'm not sure that's the case, but my only point is it's a long duration product. It actually, as -- therefore, you get a large accumulation of assets to support the long duration product. It tends to use up capital. But I don't want to go so far as to make the analogy that it's a closed block at this point, but it is -- it is a block of business by it's very nature, for us and everybody else, it's a long duration, sort of asset accumulation kind of business.

Okay, thanks.

Sure.

Our next question comes from Thomas Gallagher out of Credit Suisse.

Not to beat a dead horse on long-term care, but just a few follow-ups to Colin's questions. Can you comment on back recoverability policy for US supplemental and voluntary segment? In other words, do you evaluate DAC on a holistic basis for the segment, or do you do it on a product-specific basis?

It's actually done on a product-specific basis.

And then just as a follow-up, I know you don't show it in the supplement on a product-by-product basis, but are you still earning a profit on long-term care right now? And if so, what is the margin on that business?

We are certainly earning profit on it, and you'll see that -- and you get that really with the DAC. The question that you had out there, so there still is margin in this block, and probably wouldn't want to get to the details around the profitability levels. It's much lower, as I think we've intoned by that, but wouldn't want highlight all the details of that.

And also add -- the earnings contribution in the quarter were higher this quarter than a year ago from our long-term care business.

Okay, Rick, and just last follow-up on that, and then I want to shift gears onto something else. Can I take the low -- the 80% interest-adjusted benefit ratio, overlay the expense ratio as a whole for the segment, and get to a 1% or 2% pre-tax margin for long-term care, or is it not that simple?

It's not that simple.

Okay. I guess shifting gears, on group disability, you know, your benefit ratio's holding up pretty well. Competitors are, you know, having certainly more deterioration. Can you comment on what you see going on both from your book, and what you suspect might be going on from an injury standpoint, and why you think you're holding up better?

Kevin, why don't you take that one?

Good morning, Tom. Well, I think a couple things going on. Although we've experienced some incidence volatility, it's been remarkably stable, I think, over the last year. Recoveries have held up very well, as have offsets. We've also been pretty disciplined, as you know, with our pricing, and as the market got softer in pricing, so we didn't go there. Our persistency though has been very, very strong, and not only includes disability, but in all of lines in fact, every single line of business had persistency this year better than last year at the same time.

So I think a lot of what's going on for us is just staying disciplined and focused around claim management, around pricing management, around underwriting, and in focusing on growing our business where we strategically want to, which is in the small and medium-sized market and in the voluntary market, and staying away from sort of solo line, price-competitive cases.

Got it. And then lastly, just on the UK outlook, so if we're expecting, we'll call it mid-60s benefit ratio there, do you expect top line to be relatively stable from current levels, you know, as you move forward for the next several quarters? Meaning, you know, bottom line earnings contribution is going to be, you know, sort of flattish for the time being or, you know, what direction should we expect?

I think from an earnings contribution, looking at local currency, it is going to be relatively flattish. The premium, we would like to see that flatten out, and it actually increased a little bit, but those pressures that we've see in the past continue. So it's quite hard to predict where that premium line is going to go, particularly over the next year, as there's still challenges in the economy there. But I think that you can look relative to the contribution this quarter and it will be within a range, but relatively flat to where it is.

And then lastly, Tom, for Tom Watjen, your comments about -- you're sort of cautious in the short-term about the UK. Is that a claims issue? Is it a -- is it a competition revenue issue? Is it both? Or can you just flush that out a little bit more?

Yes, Tom, I think it's more of a top line issue. I think, certainly, we always want to keep an eye on benefits across the entire enterprise, as we recognize we're sort of in the early stages of the recovery from the economic standpoint. But I think, as you can see, is -- we've seen the deterioration really in the UK, it's a little more pronounced on the top line. The premium pressures are the ones that we're most sensitive to, and as I mentioned earlier, you know, those pressures have been a little greater than we thought.

Okay. And so as you think about that business overall, I assume you still got to be real happy with it, given that it's still generating a real high margin and high ROA?

Absolutely. Again, if you go back and look at the results for the second quarter relative to the guidance we talked about in the Fall, and many places we continue to do as well, if not better than the guidance, including on the returns. Again, that business is continuing to produce very strong returns, very strong margin, and as we said earlier -- as I said earlier in my comments, we continue to unquestionably be the market leader in the businesses that we're in right now, and frankly, some of the things that we're investing in today, which aren't going to show up probably for a year or two, we think are poising us for some additional growth. So we feel very good about that market, and obviously as we said before, there's some challenges in the short-term, but we see some great long-term growth opportunities there.

Okay, thanks.

Thanks, Tom.

Our next question comes from Darin Arita out of Deutsche Bank.

Good morning.

Good morning, Darin.

Turning to the US group disability business in terms of incidence, it was up sequentially from the first quarter. But how did that compare relative to the second half of 2009 versus your pricing?

Go ahead, Kevin.

Good morning, Darin. Incidence, it bounced around a lot since the middle of last year, but it's basically been stable over the rolling four quarters, if you will, and actually slightly below where we were in the third quarter of 2009.

It's come down since the third quarter of 2009, and versus your pricing expectations?

Yes, we are well within our pricing expectations, and it's down from third quarter 2009.

Okay, good. Turning to persistency, the sales environment has been tough. You've mentioned a lot of competition. I would have expected persistency to decline also, but it's held up very well. Can you talk about, you know, why it's held up for Unum so well?

Well, I don't know if I can say why other than guess. But I think that -- you know, it is up year-over-year. I think actually in the industry in general, because the sales environment is difficult, all incumbent carriers are working hard to maybe hold onto their existing business, which is why activity levels and closing ratios and sales have been down for many companies.

But in our case, as you know, our strategy is to try to penetrate the relationship with the customer as easily as possible. So we want to sell as many lines as possible, we want to consolidate the service, we want to get that service on a single platform and make it administratively easier for the employer, and I think brokers believe that, likelihood to renew and likelihood to recommend. Ratings are up for us, as they have been for the last several years and persistency, as you know, is very strong as well. I think it just reflects a very strong sort of customer loyalty relationship that we have.

During the second quarter, I think 39% of our sales were multi-line sales, and 18% of our sales included both group and voluntary, and that's been consistently growing over the last several years, and every time we deepen that our relationship with the customer, we expect we can prove our service value ,and therefore hold on to those customers for a long period of time.

Great. Thanks, Kevin.

Thanks, Darin.

Our next question comes from John Nadel out of Sterne Agee.

Good morning, everybody. I have a data point question. One is on the UK benefit ratio, if we adjusted for the inflation-linked piece, what was the benefit ratio?

Probably subtract 2 points, it'd be right around 64%, somewhere in that range.

Thank you. Following up on persistency, here's my question for you, Kevin. Case and premium persistency remain really strong here. So I guess I take what you're saying in response to Darin's question. I'm just interested, can you give us a sense, though, on renewal business, are you seeing softer pricing there as well? I go back to your response to Mark's question originally. In other words, are you having to give some concessions on price to keep case and premium persistency high in this competitive environment?

It's a good question. The direct answer is no, we're not really having to do that. Our renewal programs, as you know, were incredibly robust, going back to 2003, and as we had to reprice the entire book of business. But he size of our renewal program right now is about half the size in terms of volume that it was back in 2003, 2004, 2005, and the average price levels are plus or minus 1% in terms of what we're doing in terms of renewal pricing.

Okay.

So, no, we're not seeing that kind of price pressure really. If the question is sort of are we lowering prices in order to hold onto this business, the answer is no.

Okay. One more follow-up on the competitive environment on sales. As you -- as you lose a case, it's not always easy to see what the winning, you know, bid was relative to yours, but to the extent that you can get some color there, how much are you losing by? How big is that differential between, you know, your bid on an RFP and the winning bid?

If I was going to ballpark it, I would say can tend to be in the 10% to 15% kind of range. That varies a lot by what they are looking for, how many lines of business they are looking for, what their service interest is.

What I can say is that we do track pricing levels in the marketplace, and we've noticed over the last four quarters, pricing has consistently been coming down in the marketplace, and we use sort of an outside research firm to help us with that. So -- with data points around sort of relative pricing levels and how they are moving down.

So we're coming down despite lower interest rates, and high -- probably higher costs in terms of service?

Yes, Unum --

I'm sorry. My comment was an industry comment.

Yes, you could add aging to your rationale, too. We ought not to be seeing prices coming down in an economic environment where you know risk pressure is potentially up, and you don't have wage inflation supporting your premium levels, and of course you have aging of the population in general. You ought to see prices either stable or slightly up, not down; ours are stable, and the industry's are down.

Thank you very much.

Our next question comes from Jeff Schuman out of KBW.

Good morning.

Good morning, Jeff.

Hey, how are you? Hoping to circle back once again on the UK. I'm kind of having difficulty reconciling the pieces. I think it's been pretty clear that you feel that this level of earnings is sort of a reasonable expectation for where we might track in the near term. You've talked about kind of the mid-60s loss ratio as being reasonable, but then we look at the top line, in constant currency the premium is down 8% this quarter. And then you look at how we got there. I mean, life premium is up 19%, disability down 16%. My understanding is that you would like to balance that out better. You don't necessarily want to be growing life 19%, but if you throttle back in life, try to go disability, but in a competitive environment, I guess it's not clear that you can turn negative 8% premium growth into flat premium growth any time soon. And if that's the case, then how do we kind of hold margins and hold earnings at the same time?

Okay. That's a long question, but still basically you have to look at, one, we had -- in our premium numbers now, we've had prior year adjustments. So as we've gone through the renewal, the census data has come down, so we've seen premiums come down a little bit faster than we would have expected in the current quarter. So I think that is a key. We've got to keep the premium line growing. What you talked about on the sales front is absolutely true. I don't think we're throttling back too much on the life business, it's more about throttling up on the disability side. But it is about premium growth. I think we're happy with the margins holding at very strong levels, and so it's -- it is about that premium growth, and so we'll continue talking about a strategy there. The pricing pressures are real, but we have a very high piece of that market, and we're going to continue to protect that, and grow with the market as well.

So the guidance for disability premiums in the UK is that the market is competitive, but that you will retake share; is that kind of the bottom line guidance?

Yes, I think we're not -- I don't know if it's retake share, but one of the things -- again, a big piece that's contributed to the premium decline is not loss of cases. Persistency has been very strong in the UK. It's really been with existing cases as a reduction in employment; as I mentioned before, much of our practice in the UK versus in the US is really more of a white collar practice. That's just the nature of the marketplace in the UK. So obviously we've seen some shrinkage in the white collar population being insured. We've seen some wage pressures of those that we do insure, and frankly there's -- part of what we insure is an element of bonuses. There's an element of things here that are actually causing the premium pressure. It doesn't have to do with a loss of cases. It has to did with what's happening in those particular cases actually, Jeff.

So we have seen some leveling off, I would say, in certain aspects of that, but we're remaining cautious I think in saying that, frankly, the greatest pressure probably in that market is less around benefits than it is on premium, but we do seem like -- we've seen that stabilizing at these levels.

Okay. So does the disability premium down 16% represent you holding share in a market down about that much?

We think so, yes. We look at -- with persistency from a case point of view, it is continuing to stay very strong. So our service levels stay strong, our connections with the market stay strong. Again, we think there's been shrinkage in the overall premium market, so to speak, and -- but we continue to believe we're holding our own in that declining premium market.

Okay, and then just one other area, if I may. Unum US operating expenses, you've controlled them very tightly for quite a while now. The expenses this year are likely to be flat to down versus where they were a couple years ago, which is great. I guess the question is, given a soft top line, maybe for an extended period here, can you bring those down more, can you maintain them; kind of what's the outlook there?

Good morning, Jeff, it's Kevin. I think maintains is probably the better answer there. I think expenses are down for a couple of reasons. One, we had a significant investment during the 2007 to 2009 period in building our enrollment capacity, our Simply Unum platform, growing our core distribution field force, and we're largely sort of capped out in terms of having to make that investment and leveling it off. So not having to continue to make that investment I think has benefited us on the expense ratio.

I also think that the -- the slower sales environment sort of basically depresses acquisition costs as well, and so we sort of benefited on the expense ratio side from that. I think realistically, as the economy recovers, if and when the economy recovers, you know, I'd expect sort of our continued movement toward the smaller size of the marketplace, where acquisition costs, as you know, and installation costs are higher. I would expect continued growth in our voluntary business, where enrollment costs are higher. On the other hand, that benefits us directly, in terms of what should be further downward movement in our overall employee benefit loss ratio and a growth in earnings as a result. So I don't think -- I don't expect the expense ratio to go down much further. You know, I think it will bounce around that 20% kind of range.

What I would point out is the key productivity measure for us is sort of earnings for employees in Unum US. If I look back at the last several years, 2007 earnings for employee was $82,000. $92,000 in 2008. $104,000 for employee in 2009. $120,000 for employee on an annualized basis in 2010. So it's not really about the loss ratio or the benefit ratio. It's about overall earnings, and how we invest our expenses and generate the right risk returns.

That's very helpful, Kevin. Thanks.

Thanks, Jeff.

Our next question comes from Jack Sherck out of SunTrust.

Thank you very much.

Good morning.

What's your outlook for claim recoveries in group long-term disability in the US?

Good morning, Jack. As you know, recoveries have been very strong over the past several years. I don't see any reason to believe that they are going to sort of move much in either direction right now. We've had good, solid, consistent results there. We have good, solid, consistent claim satisfaction ratings, and I don't see them changing very much.

Great. Thank you very much.

Thank you.

Our next question comes from Eric Berg out of Barclays Capital.

Thanks. Good morning, Eric. Eric, we're not able to hear you.

(Operator Instructions)

Operator, any other questions in the queue?

At this time, there are no questions in queue.

Can we try Eric one more time to see if his line cleared up?

(Operator Instructions)

Well, we'll take Eric's question directly, I'm sure, if it's out there.

But certainly want to thank all of you for taking the time for joining us this morning. As always, we're all available if there's any further questions that people have over the course of the next several days. Again, we look forward to hopefully seeing many of you at our investor day meeting in New York in November.

I think, Operator, at this point that will conclude our second quarter 2010 earnings call.

That concludes today's conference. Thank you for your participation.