Earnings Call Transcript - CNO Q3 2024

Operator, Operator

Good morning. Thank you for attending today's CNO Financial Group Third Quarter 2024 Earnings Call. My name is Regan and I'll be your moderator today. I would now like to pass the conference over to our host, Adam Auvil with CNO. Adam, you may now proceed.

Adam Auvil, Host

Good morning. Thank you for joining us on CNO Financial Group's Third Quarter 2024 Earnings Conference Call. Today's presentation will include remarks from Gary Bhojwani, Chief Executive Officer; and Paul McDonough, Chief Financial Officer. Following the presentation, we will also have other business leaders available for the question-and-answer period. During this conference call, we will be referring to information contained in yesterday's press release. You could obtain the release by visiting the media section of our website at cnoinc.com. This morning's presentation is also available in the Investors section of our website and was filed in a Form 8-K yesterday. Let me remind you that any forward-looking statements we make today are subject to a number of factors, which may cause actual results to be materially different than those contemplated by the forward-looking statements. Today's presentation contains a number of non-GAAP measures, which should not be considered as substitutes for the most directly comparable GAAP measures. You'll find a reconciliation of the non-GAAP measures to the corresponding GAAP measures in the appendix. Throughout the presentation, we'll be making performance comparisons and unless otherwise specified any comparisons refer to changes between third quarter 2024 and third quarter 2023. And with that, I'll turn the call over to Gary.

Gary Bhojwani, CEO

Thanks, Adam. Good morning everyone, and thank you for joining us. CNO delivered another excellent quarter. Operating earnings per diluted share were $1.11, up 26% and $0.94 or up 27% excluding significant items. Our results were broad-based across operating earnings, production, investment results and capital. Our diverse and integrated distribution model and broad product portfolio differentiate us in the marketplace. They enable our momentum in the baseline of consistent and repeatable results. CNO posted our ninth consecutive quarter of strong sales momentum and our seventh consecutive quarter of growth in producing agent count. Total new annualized premium was up 1% across the enterprise. Excluding direct-to-consumer, total NAP was up 7%. I'll cover the factors impacting the D2C business later in my remarks. Green shoots from our strong sales growth are translating into earnings growth, establishing a solid foundation for future results. Earnings continue to benefit from favorable insurance product margin and strong investment results, reflecting growth in the business and expansion of the portfolio book yield. Our new money rate exceeded 6% for a seventh consecutive quarter. Capital and liquidity remain well above target levels after returning $107 million to shareholders. Book value per diluted share excluding AOCI was $35.84, up 6%. Each component of our business continues to deliver strong performance as demonstrated by sales momentum in both consumer and worksite, a growing distribution force, solid and sustainable earnings, our excellent capital position, our strong free cash flow generation; and raising full year guidance for earnings and cash flow. As we advance our growth strategy, we continue to optimize the balance between production, profitability and capital management. Our growth scorecard focuses on three key drivers of our performance, production, distribution and investments in capital. We are pleased that all of our growth scorecard metrics are up once again. I'll discuss each division in the next few slides. Paul will cover investments in capital in more detail during his remarks. Beginning with the Consumer Division, we delivered our eighth consecutive quarter of sales momentum. Solid execution and sustainable sales growth remain the hallmark of the Consumer Division's strong performance and in large part are a result of our broad product portfolio. Our middle market consumers continue to embrace our differentiated capabilities that marry a virtual connection with our established in-person agent force to complete the critical last mile of sales and service delivery. Total NAP was up 1% for the quarter. NAP from field sales was up 9%. The Health NAP was up 11% led by strong results from new and enhanced products. Our Medicare portfolio continues to deliver strong sales growth. Medicare Supplement NAP was up 15% and Medicare Advantage policies sold were up 26%. As a reminder, Medicare Advantage sales are not reflected in NAP. By offering both Medicare Supplement and Medicare Advantage products, we provide more coverage options for customers. The balance and diversification of our Medicare portfolio is an important part of how we serve the middle-income market. We are in the midst of Medicare annual enrollment period which began on October 15 and runs through December 7. We are off to yet another strong start. Our thousands of dedicated field agents across the country are uniquely positioned to help customers make an informed decision about how they receive their benefits. This season we have more than 3,400 agents certified to sell these plans up 10% over last year. Our agents can enroll consumers in Medicare Advantage and Medicare Prescription Drug plans from 21 different plan sponsors, an increase of seven carriers over last year. For the third consecutive year, we also expanded the number of offices participating in our Medicare Advantage inbound referral program. As part of this program, customers who contact us by phone or online can be connected in real-time to an agent in their local office who can assist them. Long-Term Care NAP was up 31% on the strength of our long-term care fundamental plus product. This quarter represents the fifth consecutive quarter of double-digit growth for this product, reflecting the strong consumer demand for practical long-term care solutions. As a reminder, our LTC products are designed for the middle market consumer, 99% of the policy sold had benefit periods of two years or less, and more than 90% have benefit periods of one year or less. These plans cover essential costs for one to two years and offer a balanced affordable approach to funding care. Life production was down in the quarter driven by lower spend on direct-to-consumer marketing. As we shared last quarter, we managed our D2C business based on advertising efficiencies. Consistent with last quarter we reduced our television marketing spend in response to higher lead costs. This stems from competition for television media space, which tends to spike during presidential election cycles. We continue to grow non-television direct response channels such as web and digital, which now accounts for over 30% of sales generated by D2C leads. Annuity collected premiums posted record results in the quarter, up 25%. Account values were up 6%. Our strong annuity performance is led by number of policies sold, up 9%, higher premium per policy, up 14%. Demand for these products continues to benefit from favorable demographic tailwinds and the growing need from clients to protect against outliving their retirement savings. Stability in our block benefits from our captive distribution and the meaningful long-term relationships that our agents established with their clients. This quarter reflects our seventh consecutive quarter of brokerage and advisory growth. Client assets in brokerage and advisory were up 35% for the quarter to a record $3.9 billion. New accounts were up 11%. When combined with our annuity account values, our clients now entrust us with more than $16 billion of assets, up 12%. Recruiting continues to be favorable and reflects our ninth consecutive quarter of year-over-year gains. Producing agent count was up 5%, our seventh consecutive quarter of growth.

Paul McDonough, CFO

Thank you, Gary, and good morning everyone. Turning to the financial highlights. We had another strong quarter across both operating earnings and capital, reflecting favorable trends in insurance product margins, investment income and free cash flow, and continued expense and capital discipline. The expense ratio was 18.8% in the quarter and 19.2% on a trailing 12-month basis. We deployed $90 million at excess capital on share repurchases in the quarter, accelerating our capital return in the wake of the debt issuance back in May. This contributed to a 7% reduction in weighted average diluted shares outstanding year-over-year. On a trailing 12-month basis, operating return on equity was 11.7% as reported and 10.5% excluding significant items. We remain focused on continuing to improve our run rate return on equity over time. I'll briefly touch on two recent actions that will contribute to improved profitability. First, we took steps in the third quarter to improve how we operate and our efficiency within the organization. The actions focused on repositioning certain back office roles for capabilities we need for the future, removing certain management layers and reducing costs through outsourcing. The net effect was a 3% reduction in the workforce. Severance and outsourcing transition costs, associated with these actions, totaled $8.3 million pre-tax and were reported as non-operating income in the quarter. These changes will improve run rate return on equity and allow us to advance our growth road map, including modernizing our technology and service capabilities. Second, we have terminated a reinsurance agreement in which we had been seeding 25% of our long-term care new business. Effective October 1 of this year, we will now retain 100% of long-term care new business. To be clear, this does not impact the in-force that we had previously ceded, but we're pleased to be keeping all of the new business going forward given the favorable and stable economics of the business.

Gary Bhojwani, CEO

Thanks, Paul. CNO delivered another excellent quarter. Our sustained sales growth is translating into earnings growth establishing a solid foundation for future results. We have a unique and differentiated position to serve the middle-income market through our products distribution and proven track record of execution. Our capital position, liquidity and free cash flow are strong and we continue to deliver on our commitment to shareholder return. CNO enters the fourth quarter with considerable momentum and we expect to end the year strong. Before we open it up for questions, as you know next Tuesday November 5, is Election Day. Voting is one of our most important civic rights. At CNO, we encourage our associates to take the time to vote. I extend that encouragement to everyone on the call as well. We thank you for your support and interest in CNO Financial Group. We will now open it up for questions.

Operator, Operator

Thank you. We will now be moving into our Q&A session. Our first question comes from Wes Carmichael of Autonomous. Wes, your line is now open.

John Barnidge, Analyst

Good morning. Thank you for the opportunity. Can you maybe talk about that long-term care announcement the reinsurance arrangement. And within that maybe the opportunity to further utilize the Bermuda platform for other liabilities of the company. Thank you.

Gary Bhojwani, CEO

Maybe I’ll make just a general comment. Sorry. Just a general comment and then Paul can dive into the specifics. I think the biggest thing I'd like our shareholders to take away is we really like this business. We think we know what we're doing and it's performed well. And basically, we want to eat more of our own cooking. Paul can speak to some of the details on the numbers but it's really a reflection of our belief in the business and the solid performance.

Paul McDonough, CFO

Yes. So on the numbers John, I think it's pretty straightforward. We're now keeping the 25% that we used to cede. And so that will flow through to earnings over time and on the margin should be one of the many things that we're doing and contemplating to improve our return on equity over time. And then with respect to Bermuda, we completed the first treaty in the fourth quarter of last year, where we ceded much of the in-force book and 100% of the new business, that's going well. We've been very focused on building out the infrastructure of our Bermuda company and establishing relationships on the island including with the Bermuda Monetary Authority. That's also gone very well. We have a solid team in Bermuda, now that's occupying our office there. So we are beginning to turn our attention to other things that we might see to the Bermuda Company. That's a work in process and more on that in future periods. Obviously, it's whatever we propose to seed is subject to regulatory approval. And so we'd be going through the normal approval process.

John Barnidge, Analyst

Thank you for that. And then, the actions to improve the organizational structure, repositioning of back office removing management leaders and reducing the cost through outsourcing. How do we think about that having an impact in improving the direct expense ratio prospectively? Thank you.

Paul McDonough, CFO

So John, no change to the guidance that we provided for the full year and you kind of back into what that means for the fourth quarter. I don't want to get ahead of guidance for next year, but as we typically do on our February call, we'll provide guidance for the full year 2025 including the expense ratio. Certainly the actions that we've taken improve our run rate expenses and will contribute to again the efforts that we're taking across the value chain to improve the ROE.

Ryan Krueger, Analyst

Hey Good morning. I had a question on free cash flow. When you think about the $250 million to $270 million this year, I guess how much of that do you want to what extent do you view that as a sustainable run rate? Or I guess can you help us understand, how much favorability this year maybe impacting that number?

Paul McDonough, CFO

Hey Ryan, it's Paul. It's difficult to quantify precisely due to the effects of our capital efficiency and the way we're organized, particularly concerning the debt we issued in May. However, I want to stress that the core dynamics of the business produce a robust level of free cash flow, which has been evident over time, especially in the last nine months. While I won't specify an exact figure, the key takeaway is that the business consistently generates substantial free cash flow, which fundamentally depends on what the business creates. In the future, this may decrease if we invest more capital to expand the franchise, but that would certainly be a positive development.

Ryan Krueger, Analyst

Understood. Thanks. And then just a quick one, with the Fed cutting rates 50 basis points in September, I just wanted to make sure I understood, if you had much short-term rate sensitivity we should consider for the fourth quarter or if we shouldn't expect much impact from that?

Paul McDonough, CFO

So Ryan, your question is our sensitivity to changes in rates broadly? Is that the question?

Ryan Krueger, Analyst

I wanted to understand the impact of short-term rates, particularly in relation to unallocated net interest income and some of the spread lending activities. Should we expect a significant effect on short-term rates overall, or is the impact relatively neutral?

Paul McDonough, CFO

Got it. Okay. Gary, can you take this one?

Gary Bhojwani, CEO

Sure. Good morning, Ryan. Most of our floating rate assets are in a few areas and are mostly balanced against floating rate liabilities, which means the impact from changes in the short end of the curve is largely offset. We do have some floating rate assets in the general account, which are highly rated and maintain their market value. We've occasionally chosen to reallocate these further out the curve when opportunities arise, especially during curve steepening. As a result, you shouldn't expect a significant impact on our income statement from a 50 basis point change, and if there's another 50 basis points increase later this year, it would likely have minimal effect as well.

Wilma Burdis, Analyst

Hey, good morning. Could you give us a little bit of a deep dive on where CNO stands on cutting expenses fixed?

Paul McDonough, CFO

Well, Wilma that's something that we're always focused on cutting expenses. I've been here for five and a half years. It's been a very significant focus of every annual planning process that we've gone through. The recent action that we took that I described in my prepared remarks are an example of that. So, the overall goal is to be as efficient as we possibly can as an organization so that we free-up as much as possible to invest in the growth of the business.

Wilma Burdis, Analyst

Okay. Thank you. And then not to ask for guidance but could you just talk a little bit about the market opportunity for sales over the next I guess kind of near-term and also maybe next few years. Just looking for some color on the demographics what you're seeing in the economic environment right now in the areas of potential growth? Thanks.

Gary Bhojwani, CEO

Thank you for the question, Wilma. I want to emphasize that we remain very optimistic. The primary macroeconomic and demographic factors are mostly in our favor. We continue to see about 11,000 people retiring each day, and this trend is expected to persist for at least five to eight more years. This is significant. Additionally, there are no government solutions addressing the income needs of these retirees or future retirees. The limited pensions available are not increasing, and government programs are facing challenges due to deficits, making it unlikely for benefits to rise. In fact, they may have to be reduced through means testing or other measures. There’s no private or public solution that effectively addresses these concerns. Health care costs are also rising, and even if they slow from 6% or 7% growth to just 2% or 3%, it remains a major issue without government intervention. Considering health care costs, increasing life spans, the growing number of retirees, and the limitations of government solutions all present a strong bullish case. It's important to note that we exclusively target the middle market, which is advantageous for us, as there aren’t many new competitors entering this space. If we were to start focusing on middle-income America today, it would be financially unfeasible. Our historical advantages enable us to make the ratios work in our favor. For all these reasons, we are very optimistic about our prospects, though we acknowledge that challenges can arise. Overall, the macro trends appear to be advantageous for us.

Suneet Kamath, Analyst

Great. Thank you. I guess just for Paul to start. I think you said your guidance for 2024 assumes fourth quarter VII is in line with your long-term target. As we've been going through these calls, it seems like the companies are suggesting it will still be under some pressure. Is that what you expect to happen? Or should we think about that as more of just a planning assumption?

Paul McDonough, CFO

Yes, it's very much more of a planning convention Suneet. I think if you asked Eric, whether he thinks that's a reasonable expectation for the fourth quarter I think you'd tell you that there's certainly downside risk. Because that's not the only thing that flows through NII not allocated. Over the last couple of quarters, there have been other things that have kind of picked up the slack. So, in general, I think there's probably some downside risk there in the fourth quarter, but it's muted by other things that might go the other way.

Suneet Kamath, Analyst

I understand. Regarding ROE, we have discussed its improvement in previous quarters and you've pointed out various strategies to enhance it. When considering these strategies broadly, would you say that they primarily aim to boost earnings, the numerator in the calculation, or are you also looking at ways to optimize the denominator? While I realize it might be challenging to provide a precise division between the two, could you share which aspect you believe is more critical and elaborate on that?

Paul McDonough, CFO

Sure. Yeah. I think it's fair to say most of the things are focused on the numerator, but not exclusively. There are things we can continue to do that will help move the needle on the denominator as well.

Gary Bhojwani, CEO

Suneet, I want to provide some additional context to Paul's comments. It's important to emphasize that this has been a long-term and deliberate strategy for us. Initially, we needed to stabilize the company's financial footing by addressing capital issues and implementing fundamental measures. We then focused on consistent and sustainable organizational growth, which we have now achieved. Currently, we are in a phase aimed at enhancing organizational efficiency. I assure you that every member of the management team is acutely aware of the need to improve return on equity. This has been our top priority. We have identified a list of various strategies, ranging from 10 to 20 different options we can pursue. While there isn't one singular strategy that will lead to a 100 basis points improvement in return on equity, we have many small initiatives that can each contribute five basis points of improvement. Although it might seem we lack specificity, the opposite is true. We have a clear plan with many small actions, and we must execute all of them. As Paul highlighted, most of these relate to the top line, but some will also address how we more efficiently utilize our equity. We are highly focused on this metric, and the entire team is committed to driving up return on equity. We have been discussing this for several quarters, and I have assured our investors that we will enhance return on equity. You can see signs of progress, and we will continue to push this initiative forward.

Wes Carmichael, Analyst

Hey. Thank you. Apologies my line dropped earlier. But my first question was on advertising spend, and I know that's been pulled back quite a bit related to the election cycle. But when would you expect to reaccelerate that? And how are you expecting that to come through the margins in 2025?

Gary Bhojwani, CEO

Yes, Wes, thank you for your question. This is my third presidential election cycle at CNO, and it appears to be following the same pattern as the previous two. We manage our direct-to-consumer business very carefully based on the returns we get from advertising. When advertising costs increase or returns decrease due to deteriorating effectiveness, we stop spending. We're comfortable letting volume decline because we believe that when we can spend more efficiently, we will achieve the desired returns and resume spending with good results. One significant change over the past three election cycles is the shift in American TV viewing habits, leading us to rely less on television. I anticipate that when advertising rates decrease after this cycle, which could happen in the fourth quarter or early in the first quarter, we will increase TV advertising again. However, this might be at a lower level than in the 2016 election cycle, as we are increasingly using non-television advertising. Currently, 30% of our direct-to-consumer leads come from non-television sources like social media and online advertising, and we expect this trend to continue. In summary, while TV advertising will increase after the advertising cycle, it may not reach the levels seen eight years ago due to changes in viewing habits and effectiveness. Ultimately, we have a solid direct-to-consumer business model that effectively targets consumers, and we will continue to adjust our advertising strategies based on audience engagement and effectiveness.

Paul McDonough, CFO

So, it's Paul. I'll take that. So yes, as I said in my prepared remarks, the margins were impacted by higher amortization due to our change in assumption to reflect higher surrenders over the last couple of years. That assumption was taken in 4Q of last year and then additionally in 3Q of this year. So you're seeing that in the year-over-year comparison. The current period, I think is fairly reflective of run rate.

Wes Carmichael, Analyst

Got it. Thanks, Paul.

Adam Auvil, Host

Thank you operator, and thank you all for participating in today's call. Please reach out to the Investor Relations team, if you have any further questions. Have a great rest of your day.

Operator, Operator

Thank you. That concludes today's call. Thank you for your participation. You may now disconnect your lines.