Earnings Call Transcript
Primerica, Inc. (PRI)
Earnings Call Transcript - PRI Q3 2020
Operator, Operator
Good morning. My name is Keith, and I will be your conference operator today. At this time, I would like to welcome everyone to the Primerica, Inc. Q3 Earnings Results Conference Call. This call is being recorded. And I would now like to turn the conference over to Nicole Russell, Head of Investor Relations. Ma'am, you may begin your conference.
Nicole Russell, Head of Investor Relations
Thank you, Keith. And good morning, everyone. Welcome to Primerica's Third Quarter Earnings Call. A copy of our earnings release, along with materials relevant to today's call are posted on our Investor Relations section of our website at investors.primerica.com. Joining our call today are our Chief Executive Officer, Glenn Williams; and our Chief Financial Officer, Alison Rand. Glenn and Alison will deliver prepared remarks, and then we will open the call up for questions. During our call, some of our comments may contain forward-looking statements in accordance with the safe harbor provision of the Securities Litigation Reform Act. The company does not assume any duty to update or revise these statements to reflect new information. We refer you to our most recent Form 10-K filing as modified by subsequent 10-Q filings for a list of risks and uncertainties that could cause actual results to materially differ from those expressed or implied. We will also reference certain non-GAAP measures, which we believe provide additional insight into the company's operations. Reconciliation of non-GAAP measures to their respective GAAP numbers are included at the end of the earnings press release and are available on our Investor Relations website. I would now like to turn the call over to Glenn.
Glenn Williams, CEO
Thank you, Nicole. And thanks, everyone, for joining us. Today, Alison and I will share the highlights from our most recent quarter, including financial results and how the pandemic continues to impact our business. Our third quarter was exceptionally strong with solid financial growth and sustained production momentum. Our ability to adapt and gain experience in this environment is continuing to contribute to our success. However, COVID-19 disruptions are influencing us both positively and negatively. Some of the positive impacts of the pandemic include consumer sentiment that results in stronger demand for both insurance protection and for our business opportunity. This led to a significant increase in new life sales, continued strong persistency and growth in recruiting. The pandemic is also creating headwinds, including market uncertainty, which has a negative impact on ISP sales, although third quarter results were stronger than originally projected. Life insurance licensing and renewals continue to be the most disrupted by the pandemic, as states and provinces worked through testing and processing backlogs and other temporary measures that were put in place because of COVID-19. Starting on slide three, our financial results show year-over-year growth across the board. Adjusted operating revenues of $567 million increased 9%. Adjusted net operating income of $111 million increased 16%. And diluted adjusted operating income per share of $2.78 increased 23%. Operating ROAE was 28% compared to 24.9% in last year's third quarter. As I noted earlier, demand for protection products and interest in our business opportunity are at an all-time high. However, COVID disruptions require us to navigate some unique operational challenges. Let me expand on these, starting with our distribution results on slide four. During the third quarter, we recruited a total of 101,861 individuals, which represents a 41% increase compared to the same period last year. As we discussed last quarter, we aggressively discounted our licensing fee at the onset of the COVID pandemic to preserve our momentum. While the discount ended and our licensee fee returned to $99 on August 1, we continued to see year-over-year increases in the number of new recruits during the months of August and September. It's difficult to determine how much of the recent growth in recruiting is attributable to the fundamental strength in our business and how much may be aided by temporarily increased interest in our business opportunity. Some clarity on this matter should emerge over the next few quarters. The testing and processing of permanent life insurance licenses remains challenged. State and provincial measures such as temporary licenses have provided an alternative licensing path and kept top line licensing numbers strong. However, the extended period of time it now takes a recruit to complete the permanent licensing process puts pressure on our licensing pull-through rate. We are working to keep recruits engaged during this delay with our field training program and the opportunity to refer products that do not require a license. The number of temporary and permanent licenses issued during the quarter was 13,138, up 4% year-over-year. Our sales force ended the quarter at 136,306, also up 4% year-over-year. Two state licensing measures impacted the size of the sales force. Our quarter end life license count of 136,306 includes about 5,200 COVID-temporary licenses and around 4,800 licenses with extended renewal dates. Early indications are that approximately 40% of the individuals with COVID-temporary licenses will eventually obtain a permanent license. Each state has its own process for extending renewals, which makes an overall renewal rate difficult to project, but we believe the current blended rate of extended renewals that will ultimately renew is also about 40%. This rate reflects a unique situation in Illinois. Illinois has extended its renewal of expired licenses every month since April, and we now have over 2,000 Illinois licenses with extensions, which could expire with less than one month's notice. We assume that 90% of this lot will not renew, which at some point in the future will reduce our sales force size by roughly 2,000. While we're planning for this event as we run our business, it will eventually create noise in our sales force count. Our Term Life results on slide five reflect the field's quick response to navigating the challenges brought on by COVID-19 and our clients' desire to protect their families. During the third quarter, we issued 100,199 new life insurance policies, an increase of 36% year-over-year. Our productivity rate at 0.25 policies per life insurance license representative per month remains well above our historical range of 0.18 to 0.22. High productivity, when combined with a larger sales force, helped drive record life sales results. Turning to slide six. Similar to the term segment, results in the investment and savings product segment were stronger than expected. Sales of $1.8 billion were down 1% year-over-year, as investors previously sidelined by market volatility earlier in the year returned to active investments. This led to a 26% increase in sales of managed accounts and a 5% increase in mutual fund sales. However, annuity providers have been reducing living benefits, making them less attractive in the current low rate environment, thus creating a headwind for annuity sales. Overall, net client inflows during the third quarter were $508 million, significantly higher than last year's comparable quarter as clients continue to stay invested in the markets. Our clients' commitment to their long-term goals is reflected in a historically low level of redemptions. Client asset values ended the quarter at $73 billion, up 10% year-over-year, while average client asset values, which more closely correlate to revenues, were up 8% to $71.5 billion. Production in the fourth quarter is off to a solid start. Recruiting remains strong even without the discounted licensing fee. The momentum we saw in August and September continued into October. Likewise, licensing is improving, and the proportion of permanent to total licenses is growing. As previously discussed, the size of our life sales force will be impacted by states eliminating their temporary licensing options and determining how to handle extended renewals. The recent strong trends in life sales have also continued into October. We expect fourth quarter issued policies to increase between 15% and 20%, resulting in full year-over-year growth of 20%. Our ability to meet the increased demand for life insurance protection has placed us on track to issue over $100 billion of new face amount during 2020. This is a new record for us. While third quarter ISP sales were stronger than previously projected, increasing uncertainty is now pushing some investors to pause. With so much uncertainty in the markets, we think investors may stay on the sidelines for much of the fourth quarter. We expect fourth quarter ISP sales to be down approximately 5% compared to the fourth quarter in 2019. A full year 2020 ISP sales to be relatively flat compared to 2019 results. Finally, our mortgage distribution business continues to progress. We have corporate licenses in seven states, and our corporate license is pending in additional states. We continue to see strong demand from clients to refinance mortgage and consumer debt, and we're receiving excellent support from our partner, Quicken Loans. In addition, we're seeing good traction in both representative licensing and sales.
Alison Rand, CFO
Thank you, Glenn, and good morning, everyone. I will begin this morning by walking you through the quarter's key earnings driver by segment, followed by a review of companywide insurance and other operating expenses. As I do so, I will highlight where COVID-19 has impacted and likely will continue to impact our financial results. I will end my prepared remarks with a discussion of our invested asset portfolio and capital and liquidity positions. Starting with the Term Life segment on slide seven. Operating revenues of $358 million grew 14% year-over-year, while operating income before taxes grew 26% to $105 million. Term Life margins increased to 22.2% for the quarter and 20.1% in the prior year period, as tailwinds created by COVID-19, namely strong persistency and high sales levels, more than offset elevated claims experience. We identified strong persistency as a COVID theme last quarter, and its favorable impact on earnings has significantly expanded in the third quarter. We saw a step-up in policy retention across all durations during the second quarter of 2020, which we attributed to the heightened value being placed on life insurance products during the pandemic. While we had concerns that changes in government stimulus could revert some of these persistency gains, in actuality the ongoing uncertainty caused by the pandemic has led to further improvement in persistency. To put this in perspective, in the second quarter, policy lapses decreased an average of 15% year-over-year. In the third quarter, the decrease in lapses grew to 35% year-over-year. The lower lapses we were seeing across all policy durations, leading to a level of policy persistency we have not seen in our history. From an earnings standpoint, stronger persistency reduced DAC amortization by $22 million for the quarter, which was partially offset by increase benefit reserves of $8 million, for a net contribution of $14 million to pre-tax income. For comparison, the net income of favorable persistency on pre-tax income in the second quarter was $4 million. October results continued to show favorable persistency levels. And if these trends continue through the end of the year, we estimate persistency will add about $8 million to fourth quarter earnings. We do not believe this level of policy retention is permanent and fully expect persistency to normalize once the pandemic risk subsides. The timing of this normalization remains uncertain as just the level at which persistency will ultimately land. Prior to the pandemic, we were experiencing improving trends in early duration persistency as a result of company retention initiatives. We believe these actions, combined with the awareness that has been created about the value of life insurance, will be positive factors in determining where post-pandemic persistency rates settle. As Glenn discussed, policy issuance levels were strong in the third quarter, and when combined with the considerably higher policy persistency, led to a 14% increase in adjusted direct premium year-over-year. This added another $2 million to the third quarter's pre-tax earnings. Year-to-date, adjusted direct premiums have grown 12%, and we expect the growth rate to be between 12.5% and 13% on a full year basis. Death claims is another recurring COVID theme that impacted the quarter's results. We recorded $9 million of unfavorable claims experience in the third quarter, $8 million of which we attribute to COVID-related deaths, with the remaining being normal volatility. Our death rate rose somewhat in comparison to the rate experienced overall in the U.S. and Canada, likely due to a decrease in the average age of COVID deaths in the population during the quarter. CDC data shows the portion of COVID deaths for ages under 65 increased from 20% to 23%, which increased our exposure. Assuming the same demographics are impacted by COVID in the fourth quarter, and using the current estimate of about 85,000 deaths, we expect to incur about $9 million in COVID-related claims next quarter. One last point to highlight about Term Life results for the quarter is that insurance commissions, which is a component of the DAC ratio, increased by approximately $2.5 million as a result of special licensing incentives and other non-deferrable programs. The increased funding for these programs largely came from the cancellation of sales force events, which have historically been reflected in insurance expenses. This redirection of funding, coupled with the impact that COVID has had on general expense levels, led the Term Life expense ratio to decline to 6.7% from 7.7% in the prior year period. As I mentioned earlier, we saw a strong increase in the Term Life operating margin this quarter. And on a year-to-date basis, the margin is 20.7% versus 19.5% in the prior year period. A lot of uncertainty due to the pandemic remains. Taking into consideration fourth quarter new business assumptions setting, which is expected to reduce pre-tax earnings by about $3 million, we estimate that on a full year basis, the 2020 Term Life margin will be around 20%. Turning to slide eight. ISP segment operating revenues of $176 million increased 2%, while pre-tax income of $51 million grew 5%. Sales-based revenues declined 5%, in line with revenue-generating sales, while an 8% increase in average client asset values drove the increase in asset-based revenue. Expenses from both sales and asset-based commissions were largely in line with their respective revenues. Canadian segregated fund DAC amortization was slightly favorable as a result of market performance of the underlying funds. As Glenn mentioned, we expect fourth quarter ISP sales to be lower than the prior year by about 5%. Based on the current sales mix, this equates to a year-over-year decline in sales-based net revenues of about $1 million in the fourth quarter. We cannot predict how the markets will react to the election during the fourth quarter, but as a reminder, at the current asset mix, every $1 billion change in average client asset value results in a $500,000 change in asset-based net revenue per quarter. On slide nine, companywide insurance and other operating expenses of $105 million during the third quarter increased 6% year-over-year and were largely in line with our prior guidance. Our priorities around strategic investments remain unchanged. We continue to invest in technology infrastructure and digital initiatives to modernize our business. In addition to these ongoing initiatives, expenses were higher due in part to employee-related expenses, including the year-over-year impact of the annual true-up of our employee health benefits that takes place typically in the third quarter as well as continued investment in the expansion of our mortgage distribution program. Lower expenses from COVID-19 restrictions continue to offset a portion of these increases. Looking ahead, we expect insurance and other operating expenses to come in at approximately $114 million in the fourth quarter. Let's move now to investment income and our invested asset portfolio on slide 10. Adjusted net investment income on a consolidated basis was down slightly year-over-year, as the impact of lower yields on the portfolio were largely offset by a combination of growth in the size of the portfolio and income from called securities. At the segment level, we continue to see more investment income allocated to the Term Life business to support the growth of the block of business, which is offset by lower income in the corporate and other segments. Our invested assets portfolio remains well diversified across industries and issuers. Despite significant actions by rating agencies over the past few months, we maintained an average credit rating of A, and our below investment grade mix remains very manageable at about 4%. Credit spreads continued to tighten during the quarter, and the portfolio ended the period with an unrealized gain of almost $135 million. Finally, on slide 11, liquidity at the holding company remains strong, with invested assets in cash of $251 million at the end of September. Primerica Life statutory risk-based capital ratio is estimated to be 425% at quarter end. We believe our capital levels are more than sufficient to meet our operating needs. As announced, our Board of Directors has declared a $0.40 per share dividend, again, this quarter. And we have completed approximately 231 million in share repurchases through the end of October.
Operator, Operator
With that, operator, I will open the line up for questions. Thank you. The first question comes from Andrew Kligerman with Credit Suisse. Mr. Kligerman your line is live. All right, as we're not getting response, I'll move on to the next question, which comes from Mark Hughes with Truist.
Glenn Williams, CEO
Good morning, Mark.
Mark Hughes, Analyst
Good morning, Glenn. Good morning, Alison.
Alison Rand, CFO
Good morning.
Mark Hughes, Analyst
Glenn, when considering the impact on recruiting, you mentioned it was challenging to determine the extent to which it was due to Primerica versus the influence of COVID and the emphasis on business opportunities and protection. What are your thoughts on why it might be Primerica? The COVID influence seems evident. I'm also interested in any additional insights you have regarding what you're doing internally and what might be contributing to at least some of the improvement we're seeing.
Glenn Williams, CEO
Sure. Well, I think it starts, Mark, with the momentum we had before the pandemic started, as we started seeing momentum increase and some of the positive results of a lot of the efforts we've put in over time at the very end of last year. And of course January, February and the first half of March were extraordinarily strong, which means we kind of hit the disruption with a lot of momentum, which is very positive in powering through the uncertainty of the early days. And then of course, I do believe there is some additional interest based on the time. That's the piece that we attribute to the pandemic is kind of the consumer sentiment or opportunity sentiment, if you will, on the recruiting side. But we've also gotten better at telling our story in both how we describe the Primerica opportunity. And we're much more efficient in touching more lives because I think we've leveraged the capabilities of remote working, Zoom and other remote capabilities to tell our story to more people. Of course, those were created or maybe magnified by the pandemic, forced by the pandemic, but they don't go away at the end of the pandemic with anything we've learned and advantages we've gained from that will continue. So that's where it gets a little cloudy to try to figure out exactly how to differentiate between the two, but we're feeling very good about the things that we've done, that are fundamental to the business, that can continue beyond any potential change in the sentiment that's out there. But at the same time, we want to take advantage of the sentiment that's here because it's genuine and it's real and it's helpful. It's positive for us, and we believe for those recruits as well. So we do believe there's a strong fundamental theme underlying it. And we believe we can carry a lot of that through beyond any kind of normalization that happens, once we get beyond the major part of the pandemic.
Mark Hughes, Analyst
You mentioned your capability to connect with prospects through Zoom and similar platforms. Can you elaborate on how your recruiting efforts, particularly from your field leadership, have evolved in terms of reaching out to people and generating excitement about your offerings? Specifically, how has the approach shifted from in-person interactions to more electronic or digital methods?
Glenn Williams, CEO
Certainly. It begins with the relationship, Mark. When a new recruit joins Primerica, they typically start with their warm market or sphere of influence. This is where they begin to establish their business. In the past, this might have involved a casual visit, a phone call, or even a postcard to initiate contact and start a conversation. Previously, this often led to face-to-face meetings before COVID. Now, when someone joins our business, they reach out to their warm market in the way that feels most comfortable to them, with many using social media to connect with friends through direct messages. This is usually one-on-one communication rather than mass outreach, serving as an introduction before presenting our opportunity. This process is often supported by someone experienced, like a field training manager or regional vice president. The initial contact is being handled efficiently today in various ways, with the first meeting increasingly conducted via Zoom or web conferencing tools. This method is incredibly efficient as it lessens the importance of state lines and travel time. However, it’s vital to ensure that we maintain effectiveness and achieve results; for instance, having 10 Zoom conferences without generating interest is less effective than one in-person meeting where someone expresses interest in Primerica. Our recruiters are now utilizing a mix of Zoom and in-person meetings where regulations and health guidelines allow, adapting to find the best approach based on the personalities of both the recruiter and recruit. This provides more options than ever before, and these are some of the positive changes we see moving forward beyond the pandemic.
Mark Hughes, Analyst
Thank you for that. Alison, early thoughts around expenses next year? You've got a lot of moving parts with COVID, plus and minus, and with new investments in technology. How should we think about next year roughly?
Alison Rand, CFO
It's a bit premature for us to provide that guidance as we're finalizing our budget to present to our Board later this month. However, some considerations to keep in mind include the timeline for lifting COVID-related restrictions. Assuming those restrictions are lifted soon, we anticipate a return to normalcy in areas such as travel, with about two-thirds to three-quarters of operations reverting to pre-pandemic levels. There are some remote activities we've adopted that could permanently replace the need for travel, but these represent a smaller part of our overall expenses. We have plans for both a convention and incentive trip next year, and although there can be uncertainty surrounding those events, we're moving forward with optimism. We intend to allocate funds earmarked for these events back into the field, either through events or incentives. You may notice variations in regions, similar to this year, between insurance commissions and operating expenses, but our commitment to these initiatives remains strong. While I can't provide specific numbers, I can share some concepts to consider. For example, our mortgage program will see an increase in operating expenses as we invest in our infrastructure, which is expected to generate revenue both next year and more significantly beyond that. We're also continually investing in technologies, which at this point may see operating increases around 6% to 7%, though not at the levels discussed previously. These are some key themes to think about. Glenn highlighted the importance of managing our reputation and engaging with social media, as well as addressing other environmental factors, both regulatory and economic. While I can't offer a specific figure now, I expect to provide more detailed numbers during our fourth quarter call in February.
Mark Hughes, Analyst
Thank you.
Operator, Operator
Thank you. The next question comes from Jeff Schmitt with William Blair.
Jeff Schmitt, Analyst
Hi, Good Morning. Question on the conversion rate, just looking at the new life licensed reps moved up some, it was around 13% of total recruits. And I know there's kind of a lot of moving parts in that right now, and I think you mentioned that testing procedures are still a challenge. But are you seeing that really start to improve even just in the last month? I think you typically have kind of strong conversions in December. I mean can that normalize fairly quickly? Or are there enough issues where that could take a number of quarters to spill?
Glenn Williams, CEO
It's definitely improving, Jeff. We're experiencing a better uptake of permanent licenses, and the number of states issuing temporary COVID licenses has decreased significantly. We had around 25 states providing these temporary licenses, and now it's down to about 11. States are returning to a more normal pace for issuing permanent licenses, although the timelines are still longer than we'd like. When recruits have to wait between starting and receiving their licenses, it typically negatively affects our conversion rates. We are making efforts to reduce these waiting periods as much as possible. However, some states are still facing backlogs due to various factors, including testing, fingerprinting, application processing, and finding proctors for remote testing, along with some technical issues in the remote testing system that have caused delays. So, while I can't provide a precise timeline, I anticipate that it will take some time beyond the end of the year before things return to normal. Nevertheless, we are seeing progress and are optimistic about the situation.
Jeff Schmitt, Analyst
Okay, that's helpful. The 5,200 sales agents with temporary licenses, I'm just curious, what was the type of productivity for them? I mean, did they sort of sign up because they had a sale to make? Or was productivity not much for that group?
Glenn Williams, CEO
It was definitely an interesting situation. When we talk about productivity, it's important to note that you need a license to measure it; without a license, we can't track sales activity. In the states that issued these licenses, the process was quite fast, often before the necessary training had been completed. Simply obtaining a state license doesn't mean you're ready to operate; there's a training phase and various skills required to run our business. In fact, some of these licenses were issued so briefly that individuals didn't receive enough training to effectively use them. It created a complex dynamic where people got licensed quickly, but often with such a short duration that the license would expire before they became truly productive. This was less effective compared to a more traditional, longer process. However, the alternative of waiting was quite discouraging for new recruits, leading many to decide against joining us at that moment, with some opting to return later, resulting in quicker dropouts. So, while it wasn't an ideal scenario, having this alternative pathway during such a time was a significant advantage. I believe it ultimately helped us retain more individuals and grow our business, though, as noted, it was a challenging process with its share of imperfections.
Jeff Schmitt, Analyst
Okay. And then could you just give us an update on the number of sales agents that can sell investment products? Have you seen that change much through the pandemic? Or has that been fairly flat?
Glenn Williams, CEO
It has remained mostly unchanged. We have observed a slight increase, but overall, we would describe it as flat. The positive aspect is that the process was also disrupted, as expected. This often involves the same testing providers administering these exams. Fortunately, FINRA acted quickly to implement remote testing, which minimized the disruption in the pipeline for individuals seeking licensing. They responded swiftly, and while the pipeline for licensing typically operates at a slower pace, we managed to keep our numbers stable despite the overall business disruptions, especially in life licensing. Our field leadership prioritized maintaining life licensing and indicated that we would address securities and mutual fund licensing later. This strategic shift was aimed at preserving the momentum we experienced earlier in the year. Despite the challenges, we successfully maintained steady numbers in licensing and the size of our sales force, positioning ourselves well for future growth.
Jeff Schmitt, Analyst
Okay, that is great. Thank you. Thanks for the answers.
Glenn Williams, CEO
Certainly, Jeff, thank you.
Mark Hughes, Analyst
Hello, Mark. Alison, refresh me again on the timing on the YRT, the reinsurance when you go through that process of purchasing it, possible impact on pricing? What's that dynamic again?
Alison Rand, CFO
Sure. Actually, the contracts sort of self-renew. So we don't go out for rebid every year. We go out every handful of years when we see that a period has gone by and there's been mortality improvement or the like. So it's not a process we reprice each year. We do, from time to time, have reinsurers reach out to us and say they're not interested in staying in the pool, or they're interested in taking on a larger share, but there's no sort of set timing. Those all annually renew, unless they cancel or unless we've changed them. So by default, they'll all renew come January 1. We are not currently really looking at any pool changes for January one at this point or anticipating any significant changes at this point.
Mark Hughes, Analyst
And then on the persistency, if that continues to be very good at this level, how does the benefit play out over time? Is there an impact once you lap the benefit? Could you talk about that dynamic?
Alison Rand, CFO
I addressed this to some extent in my opening remarks, but the challenge is that we can't predict where this will end up. To reiterate, we are currently experiencing an unprecedented strength in policy retention across all durations. Typically, we see fluctuations, particularly during the early stages when individuals may not be fully committed or have not invested enough time, money, or energy into their policies, making them more likely to walk away. However, once someone has been paying their premiums for seven to ten years, we rarely observe changes in those persistency rates, and now those rates are increasing significantly. Considering how this affects our current financials, if a policy has been active for ten years and persistency is rising for that group, it leads to higher benefit reserves, which is obviously a negative since it requires greater reserve increases. This would also affect or slow down the DAC annotation since a large portion of the DAC will have already been amortized by that time. The opposite occurs during early durations, which is what we are currently witnessing, contributing to a significant impact on the DAC in the third quarter. I expect this trend to continue into the fourth quarter. The concern is whether a significant shift in sentiment could lead to a loss of some of these current policies. We cannot answer that at this point, but we are aware of the situation. Glenn and the team are working hard alongside our sales force, who are very conscious of this issue. The positive aspect is that our sales partners are also financially affected if policies drop off, so they have a strong vested interest. Before March, we were observing an improving trend in early persistency thanks to the measures and protocols put in place with our sales team. We consistently remind them of their importance and responsibilities in retaining clients. We are also engaging more with our clients than ever before, which ties into our development efforts, including investments in technology. A significant portion of our spending is devoted to client relationship management. Everything we are doing to enhance our interactions with clients is aimed at maintaining a solid level of persistency after the pandemic. However, I anticipate some disruption; I don't expect this high level of persistency to continue once the pandemic subsides.
Mark Hughes, Analyst
Thank you.
Alison Rand, CFO
You are welcome.
Operator, Operator
Thank you. That concludes the question-and-answer session as well as today's call. Thank you so much for attending today's presentation. You may now disconnect your lines.