Earnings Call Transcript - PRU Q2 2021

Operator, Operator

Ladies and gentlemen, thank you for standing by, and welcome to Prudential's Quarterly Earnings Conference Call. At this point, all the participant lines are in a listen-only mode. As a reminder, today's call is being recorded. I'll turn the call now over to Darin Arita. Please go ahead.

Darin Arita, Executive

Thank you, John. Good morning, and thank you for joining our call. Representing Prudential on today's call are Charlie Lowrey, Chairman and CEO, Bob Falzon, Vice Chairman, Andy Sullivan, Head of U.S. Businesses, Scott Sleyster, Head of International Businesses, Ken Tanji, Chief Financial Officer, and Rob Axel, Controller and Principal Accounting Officer. We will start with prepared comments by Charlie, Bob, and Ken, and then we will take your questions. Today's presentation may include forward-looking statements. It is possible that actual results may differ materially from the predictions we make today. In addition, this presentation may include references to non-GAAP measures. For a reconciliation of such measures to the comparable GAAP measures and the discussion of factors that could cause actual results to differ materially from those in the forward-looking statements, please see the slide titled 'Forward-Looking Statements and Non-GAAP Measures' in the appendix to today's presentation and the quarterly financial supplement, both of which can be found on our website at investor.prudential.com. With that, I'll hand it over to Charlie.

Charlie Lowrey, CEO

Thank you, Darin, and thanks to everyone for joining us today. As always, we hope you and your families remain safe and healthy. We reported strong financial results for the second quarter, reflecting robust investment performance and further progress in achieving our cost savings target. We also made significant progress executing on our strategy to become a higher growth, less market-sensitive, and more nimble Company. As an example, we announced an agreement to sell our full-service retirement business last month. Second, our cost-savings program is progressing well and is ahead of our original plan. And third, with the support of our rock-solid balance sheet, we are thoughtfully redeploying capital, both by increasing capital return to shareholders and by selectively pursuing acquisition opportunities. I'll now provide an update on each of these strategic initiatives beginning with our recent divestiture activity. Turning to Slide 3. Following the sale of our Korea business last year, we successfully closed on the sale of our Taiwan business during the second quarter. And in July, we announced an agreement to sell our full-service retirement business to Empower Retirement, in a transaction that is expected to close in the First Quarter of 2022. Including the announced full-service sale and the completed sales of our Korea and Taiwan businesses, we expect net proceeds of approximately $4.2 billion from these divestitures. Meanwhile, we continue to pursue opportunities to reduce the size of our legacy block of traditional variable annuities, with guaranteed living benefits. Moving to Slide 4. As I mentioned earlier, we are progressing well, and remain on track to generate $750 million of cost savings by the end of 2023. To date, we have achieved $515 million of run-rate cost savings, which exceeded our original target of $500 million, and did so 18 months ahead of plan. These savings include $130 million in the second quarter and a total of $240 million for the first half of 2021. We've also identified new cost savings to replace those we had not yet realized in our full-service retirement business. And as a result, continue to expect to generate $750 million of cost savings. Turning to Slide 5, these initiatives are complemented by our thoughtful approach to capital redeployment, including through increased shareholder distributions. Last month, when announcing our agreement to sell the full-service retirement business, we increased our share repurchase authorization by an additional $500 million, our second increase of this amount since the beginning of 2021. This brings our total shareholder distributions to a targeted $11 billion through the end of 2023, up from the $10 billion target we initially identified earlier this year. Year-to-date, we've returned $2.2 billion to shareholders, including $1.3 billion in the second quarter, comprised of $875 million in share buybacks and $460 million in dividend payments. In addition, consistent with our disciplined approach to capital management and guided by our philosophy of being prudent stewards of shareholder capital, we intend to reduce leverage and enhance our financial flexibility by redeeming $900 million of outstanding debt in the third quarter. Meanwhile, we are being disciplined in executing our programmatic M&A opportunities as we have done in the past, with a focus on higher-growth areas, including asset management and emerging markets. As evidence of this, earlier this year our Africa joint-venture partner closed on a minority stake in ICEA LION Holdings, a highly respected financial service market leader in Kenya, with operations in Tanzania and Uganda. More recently in July, PGIM announced a deal to acquire Montana Capital Partners, a European-based private equity secondaries asset manager, which will enhance PGIM’s capabilities and further expand its $250 billion alternatives platform. These transactions are consistent with our strategy to add capabilities in PGIM and deepen our presence in emerging markets, enhancing our growth opportunity. Our capital deployment is supported by our rock-solid balance sheet, including highly liquid assets of $4.9 billion at the end of the second quarter, and AA financial strength capital levels at our primary business subsidiaries. Before turning it over to Rob, I'd like to provide an update on our environmental, social, and governance commitments, which are integral to our business strategy and purpose of solving the financial challenges of our changing world. This quarter, I'll focus on our environmental commitments. Last month, we took an important next step to integrate our ESG and financial frameworks, with the renewal of a standing $4 billion credit facility, which now directly links our financing costs to our progress in meeting previously established sustainability targets. These targets include reducing our greenhouse gas emissions, as well as improving diverse representation among our senior ranks. We also continued to make strong progress against other goals outlined in our 2019 Global Environmental Commitment, including investing in sustainable companies and projects, issuing our inaugural green bond last year, and by providing greater transparency around our general account investment allocations. We are also reducing our reliance on paper documentation both internally and in the volume of letters and other mailings shared with our customers. In partnership with American Forests, we aspire to significantly reduce our paper use by the end of 2022. We are committed to ensuring that sustainability runs through everything we do at Prudential. This also includes fulfilling the 9 commitments to advance racial equity that we established one year ago this week, which are in addition to our ongoing diversity, equity, and inclusion efforts. I look forward to updating you next quarter on the progress of this work as well as on our other social commitments. With that, I'll turn it over to Rob for more specific details on our business performance.

Robert Falzon, Vice Chairman

Thanks, Charlie. I'll provide an overview of our financial results and business performance for PGIM, U.S. and International Businesses. I'll begin on Slide 6 of our financial results for the second quarter. Our pre-tax adjusted operating income was $1.9 billion, or $3.79 per share on an after-tax basis, and reflected the benefit of strong markets, business growth, and lower than typical expenses, which exceeded the net mortality impacts from COVID-19. PGIM, our Global Asset Manager had record asset management fees, driven by record account values of $1.5 trillion that were offset by lower other related revenues, driven by a decrease in seed and co-investment income, and higher expenses supporting business growth. Our U.S. business results were more than double the year-ago quarter and reflected higher net investment spread results, driven by higher variable investment income, higher fee income, primarily driven by equity market appreciation, and a more favorable impact from our annual assumption update, partially offset by less favorable underwriting experience, driven by COVID-19-related mortality. And earnings in our international business have increased 16%, reflecting continued business growth, higher net investment spread results, lower expenses, and a more favorable impact of the annual assumption update. This increase was partially offset by lower earnings from required co-investment in our Chilean pension joint venture, and less favorable underwriting results, primarily driven by higher COVID-19 claims in Brazil. Turning to Slide 7, PGIM continues to demonstrate the strength of its diversified active management platform as a top 10 Global Investment Manager. PGIM’s diversified global investment capabilities in both public and private asset classes across fixed income, alternatives, real estate, and equities positioned us favorably to capture flows. In addition, PGIM’s investment performance remains attractive, with more than 93% of assets under management outperforming their benchmarks over the last three, five and ten-year periods. Our diversified capabilities and strong investment performance helped to contribute to more than $5 billion of third-party net flows during the quarter, driven by continued strong public fixed income flows, with $5.6 billion of institutional flows partially offset by modest retail outflows. These retail outflows reflected continued positive inflows into PGIM's mutual funds, offset by outflows from sub-advisory mandates in U.S. equities. As the investment engine of Prudential, PGIM also benefits from a mutually beneficial relationship with our U.S. and international insurance businesses. PGIM's asset origination capabilities and investment management expertise provide a competitive advantage, helping our businesses to bring enhanced solutions and more value to our customers. And our businesses in turn provide a source of growth for PGIM through affiliated flows that complement a successful third-party track record of growth. PGIM's asset management fees increased 16% compared to the year-ago quarter to a record level, as a result of market appreciation and continued positive third-party net flows. This contributed to PGIM's adjusted operating margin of 33%, which is above our expectation of 30% across the cycle. Now, turning to Slide 8. Our U.S. businesses produced diversified earnings from fees, net investments spread, and underwriting income, and benefit from our complementary mix of longevity and mortality businesses. We continue to strengthen our businesses, transform our cost structure, and expand our addressable markets while shifting away from low-growth, capital intensive, and interest rate sensitive products and businesses. Our product debits have worked well, demonstrated by continued strong sales of our buffered annuity, FlexGuard, which was $1.5 billion in the second quarter, representing 87% of total individual annuity sales. Over the past three quarters, FlexGuard sales have totaled $4.3 billion. These sales reflect customer demand for investment solutions that offer the potential for appreciation from equity markets combined with downside protection. We've exercised discipline through frequent pricing actions and our sales continue to benefit from having a strong and trusted brand and highly effective distribution team. Our Individual Life sales continued to be strong with higher Variable Life sales compared to the year-ago quarter, offset by lower sales of other policies, in particular, Universal Life sales, consistent with our product pivot strategy. In Group Insurance, financial wellness capabilities are core to our business success, and continue to differentiate our value proposition, enhance benefit participation, and accelerate growth in our targeted markets. With respect to Assurance, total revenues, our primary financial metric as we concentrate on scaling the business, grew 92% over the prior-year quarter. I would also note that similar to last year, we plan to increase the number of agents in the Third Quarter to help meet the seasonally higher expected demand of the Medicare annual enrollment period that occurs in the Fourth Quarter. Turning to Slide 9. Our international businesses include our Japanese life insurance operation where we have a differentiated multi-channel distribution model as well as other operations focused on high-growth markets. Sales across both Life Planner and Gibraltar operations held up well amidst the state of emergency in Japan. Life Planner sales were 49% higher than the year-ago quarter, while Gibraltar sales were 33% higher than the prior year. We remain encouraged by the resiliency of our unique distribution capabilities which have helped to continue the growth of our in-force business. And with that, I'll hand it over to Ken.

Ken Tanji, CFO

Thanks, Rob. I'll begin on Slide 10, which provides insight into earnings for the Third Quarter of 2021, relative to our Second Quarter results. Pre-tax adjusted operating income in the Second Quarter was $1.9 billion, and resulted in earnings per share of $3.79 on an after-tax basis. To get a sense of how our Third Quarter results might develop, we suggest adjustments for the following items. First, our annual assumption update and other refinements resulted in a net charge of $34 million in the Second Quarter. Next, Variable Investment income outperformed expectations in the Second Quarter by $365 million. Third, underwriting experience is adjusted by a net $30 million. This adjustment includes a placeholder for COVID-19 claims experienced in the Third Quarter of $25 million for our U.S. businesses, based on 30,000 COVID-19 related fatalities in the U.S. and $20 million for our international businesses. While we have provided this placeholder for COVID-19 related underwriting experience for the Third Quarter, the actual impact will depend on a variety of factors such as infection and fatality rates, geographic concentration, and the continued acceptance and effectiveness of the vaccine. Fourth, we expect earnings will be lower in the Third Quarter by $290 million, primarily due to the timing of expenses between the Second and Third Quarters. And the make-whole fee of approximately $90 million associated with a previously announced redemption of $900 million of debt in the Third Quarter. This also includes the reduction in adjusted operating income from the sale of our full-service business, which will be reclassified to a divested business, as well as retained costs that will be reported in corporate and other. Last, we anticipate net investment income will be reduced by about $10 million, reflecting the difference between new money rates and disposition yields of our investment portfolio. These items combined get us to a baseline of $2.59 per share for the Third Quarter. I'll note that if we exclude items specific to the Third Quarter, earnings per share would be $3. The key takeaway is that our underlying earnings power has increased from last quarter, as the benefits from business growth, our cost savings program, and higher equity markets, more than offset the reduction in earnings from the sale of the full-service business. While we have provided these items to consider, please note that there may be other factors that affect earnings per share in the third quarter. I would also note that with the debt make-whole fee and retained cost of Full Service, we now expect the full-year 2021 corporate and other loss to be about $1.65 billion. Turning to Slide 11. We continue to maintain a robust capital position adequate sources of funding. Our capital position continues to support a AA financial strength rating and we have substantial sources of funding. Our cash and liquid assets were $4.9 billion, which is greater than 3 times annual fixed charges. And other sources of funds include free cash flow from our businesses and other contingent capital facilities. The redemption of debt, as previously mentioned, will complete our plan to reduce financial leverage in 2021 and generate annual interest savings of approximately $30 million, while also enhancing our financial flexibility for the future as we execute on our strategic transformation. Turning to Slide 12 and in summary. We are executing on divestitures. We are ahead of schedule on cost-saving initiatives, and with the support of our rock-solid balance sheet, we are thoughtfully redeploying capital. Now, I'll turn it to the operator for your questions.

Operator, Operator

Thank you. And we do ask of you, please limit yourself to one question and one follow-up. And first we have the line of Ryan Krueger with KBW, please go ahead.

Ryan Krueger, Analyst

Hi. Good morning. Could you provide an update on your progress toward a variable annuity transaction, and also I think in the past you had commented that the market tended to be interested in $1 billion to $2 billion in size VA transactions, also curious if that's still the case?

Andy Sullivan, Head of U.S. Businesses

Hi, Ryan. Good morning. It's Andy. I'll take your question. Let me start by reiterating what Charlie said in his prepared remarks at the top. We are committed to significantly reducing the earnings contribution from traditional variable annuities with guaranteed living benefits. And as you remember, we talked about this is a two-step process. Step 1 is run-off. And we expect about 40% to 45% of the earnings reduction will come from run-off. And we're executing on what we consider to be a highly successful pivot. If you look at this quarter, we had 0% of our sales in those legacy products, those traditional variable annuities, and we experienced $3.8 billion in run-off in those products in the quarter. And we've pivoted to products that are much better balanced, consumer value with shareholder value, and obviously FlexGuard being the chassis product there, where we saw a 17% market share in the First Quarter and we were the number 2 provider of Index Variable Annuity. So step one is all about runoff. And now having said that, step two is a transaction, and conducting a transaction does remain a priority for us. We have work in progress, and we're progressing that work forward. As you noted, I would say the $1 billion to $2 billion range, if you look at the transactions that have been done in the marketplace is a good precedent, and I would say that we continue to see tailwinds of capital coming towards the space. As we've articulated before, we have a very high-quality block of business. As always, as we continue to progress, we are going to be disciplined to make sure we only do things that are shareholder-friendly and have the right economics, much like you saw us do with the full-service transaction. So we're going to keep moving down the tracks and we will share when we have something more to share.

Ryan Krueger, Analyst

Thank you. And a follow-up is, other than variable annuities, but you've already said there in the full-service retirement sale, are there any other businesses that you'd consider divesting at this point?

Charlie Lowrey, CEO

Hi Ryan, it's Charlie. As Andy said, and as I said in my opening remarks, we're making significant progress. I think executing on becoming a higher growth, less market sensitive, and more nimble business. And this includes the announced full-service sale, but also the completed sales of some of the things we've done before, including the sale of our Korea, Taiwan, Italy, and Poland businesses. So we'll continue to pursue opportunities to reduce the size of our legacy block, as Andy said, of traditional variable annuities with guaranteed living benefits, but as we've noted in the past, we're looking at life insurance blocks of business as well. So we've accomplished a significant amount, but we still have a lot more work to do, and we're going to be very thoughtful about how we execute on the dual goals of fulfilling our purpose, on the one hand, and creating value for shareholders on the other.

Operator, Operator

Our next question's from Erik Bass with Autonomous Research. Please go ahead.

Erik Bass, Analyst

Hi. Thank you. Last night, we saw another jumbo PRT transaction, and one of your competitors was talking about this being potentially a record year for industry volumes and Prudential has historically been the dominant competitor in the jumbo market. But now we're seeing some others take the lead. So I was just hoping you could talk about your appetite for PRT business going forward and the competitive dynamics in the market currently.

Andy Sullivan, Head of U.S. Businesses

Thanks, Erik. This is Andy, I'll take your question. And thank you for your recognition. We absolutely have been a pioneer and a leader in the space of pension risk transfer. We have a great brand, we have very strong capabilities, and we believe that we have a unique and distinguished track record of execution. We also are seeing strong market opportunity. The market size in the second quarter was about $4.5 billion, that was similar to what we saw in the first quarter. We expect the back half of the year to be very healthy. The average funding rate is 99% and sponsors still have a high desire to transact. That being said, this has become a more competitive market, both from the perspective of the number of competitors competing in it but also the number of competitors that are seeking larger and larger deals. Very consistent to what we've told you in the past, we're going to be disciplined in our approach, and we're going to pick our spots, and that is what you're seeing from us, and you should expect to see quarter-to-quarter variation. But if you combine the strong pipeline that we see going forward with the strength of our business, number one, we feel comfortable we could take this approach, and number two, we expect that we'll be a net winner over time and experience good flows.

Erik Bass, Analyst

Thank you. Next, could you elaborate on the two examples of programmatic M&A you've completed this year? How was capital allocated to these transactions, and will deals of this magnitude suffice to achieve your capital reallocation goals, or do you anticipate additional changes?

Charlie Lowrey, CEO

We've been on that one, we're not going to talk about the specific size of some of these transactions, but it is fair to say that we are taking a very disciplined approach and balanced approach to M&A, and that with programmatic M&A you can expect us to do more of this type of deal going forward.

Operator, Operator

Next, we'll go to Humphrey Lee with Dowling & Partners. Please go ahead.

Humphrey Lee, Analyst

Good morning and thank you for taking my questions. Just a follow-up on M&A. I understand some of the transactions you have done year-to-date, but just thinking about the impact of the full-service sale and the stranded cost being left behind. Is the priority going to be something focus more on the mature businesses that provide more solid earnings so that you can absorb and offset the stranded costs from the full-service sale?

Charlie Lowrey, CEO

Yeah. Humphrey, it's Charlie. Let me take that one. First of all, again, we're going to take a very disciplined and balanced approach to this, but when we think about acquisitions, we think about them both from a strategic and a financial perspective. So from a strategic perspective, we look to add capabilities such as product or distribution or increased scale in a market or country. And from a financial standpoint, we look at a variety of metrics when assessing potential acquisitions and that can be earnings contribution, it can be growth. It's going to be a number of factors that we consider. But most importantly, our focus is on becoming a higher-growth, less market-sensitive, and more nimble business. And we're going to continue to be very thoughtful and disciplined about how we execute, with the goal of creating value for shareholders.

Ken Tanji, CFO

And maybe, Charlie, I'll just add. In terms of, Humphrey, what you described as stranded cost or the retained cost from the transaction, as we've demonstrated across the company, we've made excellent progress in transforming our operations, gaining efficiencies, but also including capabilities. We have an institutionalized process and structure and it's accelerating our progress on our cost objectives. We're focused on meeting the cost-saving objectives of $750 million by 2023, and as we reallocate and redeploy capital, we'll look to reallocate overhead across our businesses as well.

Humphrey Lee, Analyst

Got it. Shifting gears, you talked about using some of the proceeds from the full-service sale to lower your leverage. Can you just talk about the rationale behind the decision since the sale doesn't really trigger any issue with your leverage, especially given the expected gain from the sale?

Ken Tanji, CFO

Humphrey, this is really part of our regular review of capital and liquidity profile. And given our current position, we thought it was a good time to redeem the debt. That redemption will have a near-term earnings benefit, but it's also going to provide debt capacity and flexibility for the future. So it really just reflects, we thought it was a good way and a good time to reduce our debt in an efficient way.

Humphrey Lee, Analyst

Okay, so I shouldn't interpret it as a potential VA transaction that could affect your book value or suggest that you're leaning towards that in the future, but rather it's just a part of your regular assessment, and it seems like a good time to do this.

Ken Tanji, CFO

Exactly. I wouldn't link it directly to any specific transaction. We are regularly reviewing our position overall, and we believed it was a wise decision to make.

Operator, Operator

Our next question is from Andrew Kligerman with Credit Suisse. Please go ahead.

Andrew Kligerman, Analyst

Hey, good morning. I'm thinking about Assurance IQ and that superb 92% year-over-year growth in revenue. But then you had a loss pre-tax of about $38 million, which was up materially year-over-year. Could you talk a little bit about, A, the growth rate? Can you keep at this pace? And, B, when might we think about a timeframe for when you get to breakeven?

Andy Sullivan, Head of U.S. Businesses

Thank you, Andrew, it's Andy, and I'll respond to your question. As we've mentioned previously, we are deliberately expanding both the business and the platform. This effort is driven by the significant opportunities and strong customer demand we identified upon integrating this business into Prudential. We observed 7 million shoppers in the last quarter, with plans to sell hundreds of thousands of policies—customers we would not have reached previously at Prudential, which is a crucial part of expanding our addressable market. When it comes to our investments, there's a J-curve effect; for instance, as we bring on new agents, their productivity will improve over time. Many of these investments involve fixed expenses, which is why we emphasize scaling as the key metric. We need to scale up to offset those fixed costs, and we are seeing strong progress. We are pleased with the $112 million in revenue and the 92% growth rate. We believe there's still significant growth potential ahead. To answer your question about a specific timeline for achieving long-term economics, we won’t provide more detailed guidance at this time.

Andrew Kligerman, Analyst

Yeah, that was helpful. And the buffered annuity markets. So now that was I think 87% of your total segment sales there. Do you see a point where you could get to the volumes even of what you were doing on the Legacy products, and how do you see the competition there? It seems like a lot of players have been jumping into the buffered annuity market, is that going to impede your growth?

Andy Sullivan, Head of U.S. Businesses

Thanks for the question on the buffered annuity market and on FlexGuard. Let me start by saying, the driver of our success has a lot to do with; we're a very well established brand that's very well-respected, we have just an outstanding distribution system and distribution partners, and we came to market with a very differentiated product from the indexing strategy perspective. All of that has enabled us to have one of the best launches in probably the history of the industry. So we're very, very proud of it. The market itself is growing. So we're seeing more and more volume industry-wide shift from more traditional-type product designs over to the index variable annuity area. And I would think of this as more of a chassis. It's really a pretty broad area of accumulation-oriented products that have upside and downside buffering. So we see a good bit of room still to run. Having said that, we have at this time rolled it out to all of our third-party relationships and we're in all of our key geographies. So quite pleased with how we've done. As far as its ability to get to some of the very high levels that we saw have 5-10 years ago, I'm not going to put a prediction on that.

Operator, Operator

Our next question is from Tracy Benguigui with Barclays. Please go ahead.

Tracy Benguigui, Analyst

Thank you. I have another Assurance IQ question. It looks like there is a changing of the guard, I understand the original founders are not there anymore and have left before a potential earn-out, which would have been on meeting performance targets anyway. What is the new strategic direction under new management that we should anticipate?

Andy Sullivan, Head of U.S. Businesses

Thank you, Tracy. This is Andy. I'll address the latter part of your question first. There is no change in our strategic direction or approach with the Assurance platform, and in collaboration with Prudential, we remain focused on our goals. As expected, we have been enhancing our team and strengthening our talent as the business evolves. You correctly noted the leadership change with Mike Rowell, a founder, transitioning to a Strategic Advisor role under my guidance, allowing us to leverage his extensive experience. Additionally, we promoted Allison Arzeno from Chief Data Scientist to CEO, which I'm very enthusiastic about. She is a remarkable leader who has maintained our momentum. Furthermore, we are pleased that the combination of Prudential's strong brand and the appeal of our insurance platform has enabled us to attract top-tier industry talent for our product P&L roles. For instance, we brought on Chris, who has significant health expertise from both Core Health and as a key leader at eHealth, and he is now leading our Under 65 Health and Medicare Advantage initiatives. We are satisfied with our talent situation and are confident we have the right team in place to move forward.

Tracy Benguigui, Analyst

Okay. Great. Maybe moving onto your assumption update, I see that you did not change your long-term rate assumption, and I get that interest rates are at a higher spot now than this time last year. But I guess my thinking was that ensures we still want to grade into lower version in the main assumption to prepare for LDTI. Is that part of your thinking at all or is it more near-term when you conducted your review?

Ken Tanji, CFO

Hi, Tracy. It's Ken. As you know, we've talked about we have a very established process for studying our long-term rate assumptions. And in doing so, we look at a variety of forecasts for long-term rates both internally and externally. And when we did that this year, we saw very little movement in those forecasts, and therefore, we didn't see it appropriate to change our long-term rate assumptions. So we look at it very consistently the way we've done it in the past. In terms of long-duration target improvements, that's still a year-and-a-half away, we're making great progress in implementing that, and we'll be ready to adopt that on time, but it won't be a transition, it's an adoption date, and that's the method that we think is appropriate.

Operator, Operator

Next, we'll go to Tom Gallagher with Evercore ISI. Please go ahead.

Tom Gallagher, Analyst

Hey Charlie, when you mentioned you were looking at life insurance risk transfer deals as well as VA, can you provide a little bit of color on the process here? Is that a dual-track process where you're simultaneously looking at both VA and life deals, so you could get either/or transaction and the timing is unclear between the two, or any way of sort of handicapping whether you're more likely to do life insurance or a VA first? And then just relatedly, now that you do have those two lines, you're looking specifically at doing risk transfer on, are we now looking closer to maybe the high end of the $5 billion to $10 billion of freeing up of capital that you guys had laid out?

Charlie Lowrey, CEO

Let me start and then Rob can elaborate. So right now we've said that we're at $4.2 billion if you include Korea, Taiwan, and the full-service business. We won't make predictions, we've said $5 to $10 billion because we're going to take a very prudent approach to doing this. We don't have to do anything, but if it makes sense for shareholders, we will do things and we'll see where we fall out in there, but that's an intentionally wide band. In terms of annuities versus life insurance. I think we have said that we are focused on annuities right now, but we will also think about life insurance as we go forward. Rob, do you want to add to that?

Robert Falzon, Vice Chairman

Just Tom, that we have distinct teams focused on each of those initiatives, but as Charlie indicated, the more important initiative from the standpoint of the impact we believe on valuation to shareholders and overall valuation to the Company, is to get the VA transaction done first. And so it's been a priority, but not necessarily to the detriment of having resources that are dedicated to looking at the opportunities within the life sector as well.

Tom Gallagher, Analyst

Okay, that's helpful, thanks. Just a quick follow-up. Based on the guidance you provided for the third quarter, it seems you expect that nearly all of the COVID impacts will affect group rather than individual life. Did you observe the same pattern in this quarter? Could you share some insights on the COVID impacts for group versus individual?

Andy Sullivan, Head of U.S. Businesses

Yeah. Tom, it's Andy. I'll take your question. We saw in second-quarter COVID mortality impacts in both individual life insurance and group insurance. And going forward for 3Q, similarly, overall we estimate that we will continue to see impact from COVID mortality in both group insurance and in life, but I would note that that COVID impact in trend is beginning to moderate as we go into 3Q. I think what you're picking up there in ILI is the COVID impact is being partially offset by the fact that the Third Quarter is the highest Quarter for our seasonal underwriting results. So that's why that looks a little different in the exhibit.

Scott Sleyster, Head of International Businesses

Tom, this is Scott. On the international front, we're continuing to see really modest impacts across the board in Japan. We are seeing more of our impact in our Brazil operations, and similar to the U.S., we are seeing a mix across both group and individual lines.

Operator, Operator

And next we'll go to Elyse Greenspan with Wells Fargo. Please go ahead.

Elyse Greenspan, Analyst

Hi, thanks. Good morning. My first question, when you guys announced the full-service sale, you did up your buyback by $500 million for this year. So as we think about additional transactions with CDA and perhaps life insurance, should we think about some portion of the capital potentially going to incremental repurchases, as well as for the M&A bucket?

Charlie Lowrey, CEO

Elyse, it's Charlie. I'll take your question. We've said all along we want to be good stewards of capital. And we have and will continue to demonstrate disciplined and a balanced approach to the redeployment of capital within our businesses and to our shareholders, so that's the overriding concept. And to date, we've already returned a significant amount of capital to shareholders. We've returned over $2 billion and have increased both the dividend and the share repurchase authorization. So we plan over the next 3 years or through the end of 2023, to return $11 billion of capital. But stepping back, let me share with you how we think about capital allocation, and in particular optimization of that capital. Because we look across all our businesses, both domestically and internationally, to ensure that we're optimizing capital deployment, and we'll continue to look for ways to optimize that capital to maximize outcomes for shareholders. And as we've stated, to the extent we cannot find attractive capital deployment opportunities to meet our strategic and financial criteria, then we'll return excess capital to shareholders as you've seen us do in the past.

Elyse Greenspan, Analyst

That's helpful. When considering corporate costs beyond 2021 and looking ahead to 2022 and 2023, can you provide insight on how these costs might develop, especially regarding implementation expenses and trends in the coming years? Additionally, what impact will the Full Service Retirement Business have? I understand the guidance indicates $1.5 billion in life this year, but how should we view corporate costs for the next couple of years?

Ken Tanji, CFO

Elyse, it's Ken. As I mentioned earlier, we're making great progress with our transformation effort, including gaining efficiencies, and it is an ongoing and institutionalized and continuous improvement process at this point. So we continue to expect to make progress towards our $750 million cost savings objective by 2023, and we think we're well on track to continue with that. Again, as we reallocate capital and redeploy capital, we'll reallocate some of our overhead costs, and you can expect that to continue as well. So overall, we continue to make good progress with our cost objectives. I think you should expect us to continue to make progress like we have in the past.

Operator, Operator

And the next question's from John Barnidge with Piper Sandler. Please go ahead.

John Barnidge, Analyst

Thank you. With the group disability loss ratio coming down for 2 straight quarters, how should we be thinking about the relationship with the administrative expense ratio, as that's been elevated for a few quarters to handle those increased cases?

Andy Sullivan, Head of U.S. Businesses

So thanks, John. It's Andy. As you rightly noted, we have had enhanced staffing levels in our group insurance business. I think we talked about this on previous quarters. Given the nature of the pandemic and the morbidity effects, we have seen an enhanced level of claims, and we've been maintaining higher staffing levels to make sure that we provide the right level of service. We also have been making sure that we maintain our long-term disability claims staff at higher levels. So you're definitely seeing that as a contributor to the elevated administrative ratio. The other thing I would mention is, and we've talked about this on previous conversations, we have entered into a strategic relationship with Accenture to do some of the operations for us. And the nature of that, we're implementing that as we speak, and there's some transition costs, basically, that are doubling up. But that's a one-time effect, and over time, we expect everything we're doing in our group business will bring down the admin ratio as part of our transformation efforts.

John Barnidge, Analyst

Okay. And then second question; have you developed a sense of maybe vaccination rates of insured life blocks versus that of the general population?

Charlie Lowrey, CEO

Generally, John, we believe that the vaccination rate of the insured population is higher than the general population, and that reflects a variety of factors between age, geography, and a number of things. But yes, we generally feel that the insured population has a higher vaccination rate.

Operator, Operator

Next, we'll go to Jimmy Bhullar with JP Morgan. Please go ahead.

Jimmy Bhullar, Analyst

Good morning. First, I wanted to ask about your outlook for the operating environment in Japan. Your sales were quite strong in Tokyo, but that was largely due to easier comparisons. How much improvement are you noticing in market trends as businesses begin to reopen, compared to the ongoing challenges from the rising case count in the country?

Scott Sleyster, Head of International Businesses

Thanks, Jimmy. This is Scott. As you noted, our sales this quarter were significantly higher than last year, although that period was heavily impacted by COVID. This quarter's sales were only slightly below our typical strong first quarter, which usually coincides with the conclusion of our annual incentive measurement cycle. Despite the ongoing and changing situation with COVID, we are pleased with our strong underlying performance this quarter, especially given the challenges of the global pandemic. Demand for our products remains robust, and I would say it’s even somewhat elevated due to heightened awareness of serious health issues. In Japan, we are continuing to implement our needs-based selling approach, which is centered around recurring premium death protection, and we also offer additional products like accident, health, and retirement to address our customers' evolving needs. Our operations are adapting by increasing the use of digital and virtual tools to support sales amidst social distancing measures. While it may have taken me a bit longer to explain, we feel satisfied with our current position. We believe we've adjusted well to the technology, although recruiting at previous levels for both LPs and LCs remains challenging due to the COVID environment. Overall, we feel quite positive about our business performance in Japan.

Jimmy Bhullar, Analyst

Thanks. And on Assurance, when you had announced the deal, I think you had mentioned that there was the potential for up to $1.2 billion of earn-outs. Can you discuss our results versus the metrics that the business would have had to hit for the earnout payments.

Ken Tanji, CFO

Hey Jimmy, it's Ken. When we set that earnout, you may recall that it was above what we set as a baseline for the performance of the business. It was to provide compensation if they were to exceed our original expectations. So that's the way we thought about it when we did the deal, and that continues to be the way that earn-out is positioned.

Jimmy Bhullar, Analyst

But I'm assuming you don't believe the chances of needing to pay anything out are high; is that correct?

Ken Tanji, CFO

Again, it was there to provide upside if they outperformed our expectations and that's still the way it's designed.

Jimmy Bhullar, Analyst

Okay. When will you have clarity on whether you need to take any action?

Ken Tanji, CFO

It extends to the end of next year, so we're midway through it at this point.

Operator, Operator

And next we will go to Mike Ward with UBS. Please go ahead.

Mike Ward, Analyst

Hi, good morning. Thanks for taking my question. I was just wondering on the retirement segment net flows, there was some pressure. My understanding is that it's being driven in part by some seasonality in PRT flows coming through mostly in the second half. So I guess what I'm just wondering is should we be thinking about that phenomenon becoming more prevalent going forward with Full Service being divested?

Andy Sullivan, Head of U.S. Businesses

Mike, it's Andy, I'll take your question. As I think you're aware, the PRT and LRT business, they are transaction-oriented businesses which means by definition, on the sale of inflow side, that's going to be episodic. But on the outflow side, it's going to be more steady and consistent, and we obviously have pretty large blocks given our past success. So I do think it's right to think of that, that will produce quarter-to-quarter variation, but I would repeat what I said earlier in the call, we are a pioneer and a leader in this. It has been quite competitive, and we plan to be disciplined, but given the opportunities in front of us, and given the strength of our platform, we think over the long term we'll see good flows and we'll be a net winner.

Mike Ward, Analyst

Great, thanks. That's helpful. And then I was just wondering about the organic earnings mix change within the transformations, specifically annuities. I know you've mentioned the natural VA, value running off, but just wondering what we should be thinking for the trend in the dollar amount of earnings from annuities organically. Do you have a placeholder that you use to think about what you expect just from the trend in our organic earnings from annuities ex any deals? Thanks.

Andy Sullivan, Head of U.S. Businesses

So, Andy, please proceed. We expect to be very committed to reducing the earnings from traditional variable annuities, and the run-off effect will account for 40% to 45% of the overall result. Additionally, we will seek transactions to address the remaining impact.

Robert Falzon, Vice Chairman

Mike, it's Rob. I think the number that we've given out is that the Legacy book runs off at about $3 billion a quarter, and so you can use that as sort of a metric for thinking about that runoff against the sales that we're doing on our newer products, which are less market sensitive and a very attractive risk and profile. You can look at the offset between those two to get a sense for how the earnings profile would run off absent anything happening with markets. Obviously, what you've seen is despite that net runoff, our earnings are up as a result of continued appreciation in the market.

Mike Ward, Analyst

Thanks very much.

Operator, Operator

And with no further questions, I will turn the call over to Charlie Lowrey for closing remarks.

Charlie Lowrey, CEO

All right. Thank you very much. Thank you for joining us today. I hope our performance this year, the progress we're making on repositioning the portfolio, advancing our cost savings program and our thoughtful consideration to capital deployment confirms that our strategy to transform Prudential remains on track. We will continue to act with conviction, and with speed to evolve our Company and deliver greater financial opportunity to all of our stakeholders. We look forward to keeping you updated on our progress, and thanks again for your time today.

Operator, Operator

Ladies and gentlemen, that concludes your conference call for today. You may now disconnect.