Earnings Call Transcript - RGA Q3 2022

Operator, Operator

Welcome to the Reinsurance Group of America’s Third Quarter 2022 Earnings Conference Call. All participants will be in a listen-only mode. After today’s prepared remarks, there will be an opportunity to ask questions. Please note that this event is being recorded today. I would now like to turn the conference over to Todd Larson, Senior Executive Vice President and Chief Financial Officer. Please go ahead.

Todd Larson, CFO

Thank you. Good morning. And welcome to RGA’s third quarter 2022 conference call. I am joined on the call this morning with Anna Manning, RGA’s President and Chief Executive Officer; Leslie Barbi, Chief Investment Officer; Jonathan Porter, Chief Risk Officer; and Jeff Hopson, Head of Investor Relations. A quick reminder about forward-looking information and non-GAAP financial measures. Some of our comments or answers to your questions may contain forward-looking statements. Actual results could differ materially from expected results. Please refer to the earnings release we issued yesterday for a list of important factors that could cause actual results to differ materially from expected results. Additionally, during the course of this call, information we provide may include non-GAAP financial measures. Please see our earnings release, earnings presentation, quarterly financial supplement, all of which are posted on our website for a discussion of these terms and reconciliations to GAAP measures. And now, I’d like to turn the call over to Anna for her comments.

Anna Manning, CEO

Thank you, Todd. Good morning, and thank you for joining our call. Last night, we reported adjusted operating earnings per share of $5.20, another very strong quarter following the record level of earnings in the second quarter. The results this quarter include favorable performance across many of our segments and businesses. As well, new business activity and production levels were robust and encouraging, and we have started to see some tangible benefits from higher investment yields. The COVID-19 claim costs were comfortably absorbed and our underlying non-COVID-19 mortality experience was favorable in many of our markets. Segments of particular strength this quarter include U.S. and Latin America Traditional, Asia Traditional, and U.S. asset-intensive. In the U.S. and Latin America Traditional segment, the Individual Mortality business performed very well with favorable underlying mortality experience and a modest impact from COVID-19. The U.S. Group and Individual Health businesses also performed very well. In the Asia Traditional segment, we continue to see strong overall performance and our client-centric product development capabilities and underwriting expertise continue to solidify our market leadership in the region. Reported premium growth was 4.9% and 10.1% on a constant FX basis, reflecting the strong new business activity I mentioned earlier. We had another good quarter for capital deployment, putting $100 million into in-force and other transactions, bringing the year-to-date total to $351 million. Our transaction pipelines remain very active and broad-based across many risks and geographies and we expect this good momentum to continue. This quarter’s results helped to underscore the substantial additional value and earnings power we have added in the last few years through focused execution on our strategy and we are in a great position to continue this momentum going forward. The life insurance industry has proven its value during the pandemic and we expect the increase in demand for protection products to continue. I believe that RGA’s value proposition has been amplified throughout the pandemic, as we have worked closely with our clients, helping them navigate increasing levels of uncertainty. Further, our client-centric partnership efforts are translating into more exclusive opportunities, as well as additional arrangements combining our value-added services and solutions. These last few years have reinforced the strength of this client strategy. For example, in the U.S. Individual market, we are seeing new business from key clients in recognition of underwriting services that accelerate policy issuance through digital and data solutions. Additionally, our facultative underwriting support, which provides valuable capacity to our clients, is seeing nice growth through expanded programs and new clients. In Asia, I am very pleased with the work we have just completed for a large market leading client to develop an innovative first-to-market product, providing access to protection that was previously not available. Because of RGA’s leadership and partnership and the development efforts, this new product will be co-promoted within our client’s large distribution network, creating value for their distributors and consumers, while also enhancing RGA’s visibility and brand recognition. In another recent example, our team in Italy closed its largest health deal to date with expected annual reinsurance premiums of over $50 million. We delivered a novel reinsurance structure to address specific client needs by leveraging the deep market knowledge of our local Italian team, combined with the experience and expertise of our global health team. These are just a few examples of partnership initiatives with our clients that help to differentiate us while also providing us the ability to better manage competitive dynamics. Turning to another important earnings growth lever, interest rates, higher interest rates and investment yields are a notable earnings positive for us, as future cash flows in many of our biometric businesses can be reinvested at higher rates than in the past. What for us had been a steady headwind over many years is now moving into becoming a measurable tailwind, and we would expect to see continued benefits going forward if these higher rates are sustained. We have a great franchise and we are well positioned around the world. Our business is resilient. We have successfully managed through periods of elevated risk and uncertainty and this quarter continues to demonstrate our many strengths. As I think about the future, I am very encouraged by the dynamics we are seeing in the underlying life insurance industry, and I remain optimistic and confident in our ability to continue to create substantial long-term value for our investors. Thank you for your interest in RGA. I will now hand it over to Todd to review the detailed financial results.

Todd Larson, CFO

Thanks, Anna. RGA reported pre-tax adjusted operating income of $452 million for the quarter, and adjusted operating earnings per share of $5.20 per share, which includes a COVID-19 impact of $1 per share and a foreign currency headwind of $0.15 per share. We consider this to be a very strong quarter and it demonstrates the strength of RGA’s earnings power. We are pleased with the performance across the range of fundamental metrics such as new business production, premium growth, capital deployed into transactions, underwriting results, and investment returns. The trailing 12-month adjusted operating return on equity was 7.9%, which is net of estimated COVID-19 impact of 3.9%. Turning to the segment results listed on slide six and seven of the earnings presentation. Reported premiums were up 4.9% after adjusting for adverse foreign currency impact of $160 million. Premiums were up 10.1% on a constant currency basis, highlighting good business momentum across our various segments. Because of the significant currency movements in the quarter, I wanted to give you a region-by-region summary. Canada Traditional reported a premium increase of 1.2% and in constant currency increased 5.2%. EMEA Traditional reported an increase of 0.9% in premiums. However, in constant currency, premiums increased 16.7%. Asia-Pacific Traditional reported a 5.4% increase in premiums and in constant currency were up 13.4%. Now turning to the segment earnings results. The U.S. and Latin America Traditional segment results were very strong, reflecting both favorable Individual Mortality experience and modest COVID-19 claims that totaled approximately $52 million. Variable investment income was in line with our expectations, although below the recent run rate. The U.S. Individual Health business had favorable experience overall, including an assumption update to the disabled life reserve. Our Group business results were above our expectations as most lines performed well. The U.S. asset-intensive business results reflected favorable overall experience and higher investment spreads. Our Capital Solutions business continues to perform well and within our expectations. Both the Canada Traditional and Financial Solutions segment results were in line with expectations, with COVID-19 claim costs of $3 million. In Europe, the Middle East, and Africa segment, the Traditional business results reflected unfavorable U.K. mortality experience, partially offset by favorable results in other markets. COVID-19 claim costs were $5 million for the quarter. EMEA’s Financial Solutions business results were somewhat below expectations, reflecting some client reporting updates. Turning to our Asia-Pacific Traditional business, Asia results reflected favorable underwriting experience across the region, absorbing COVID-19 claim costs of $7 million, primarily in Japan. Australia reported a modest profit in the quarter driven by favorable group experience and absorbing $1 million of COVID-19 claim costs. The Asia-Pacific Financial Solutions business results were impacted in the quarter due to $21 million in COVID-19 related medical claims in Japan for in-home sickness benefits, but would have been strong otherwise due to new transactions and higher yields. As you have heard from others in the industry, and as Jonathan will shortly discuss, we expect the volume of these claims to decrease materially going forward. The Corporate and Other segment reported a pre-tax adjusted operating loss of $56 million, higher than our expected quarterly range due to higher general expenses and interest expense. I would note that on a year-to-date basis, results are in line within our expected range. Moving on to investments on slides eight through ten in our earnings presentation. The non-spread portfolio yield for the quarter was 4.4%, reflecting variable investment income that was lower than the recent run rate, but positively impacted by a much higher new money rate, as well as some benefit to existing floating rate securities. For non-spread business, our new money rate rose to 5.35% in the quarter, compared to 3.31% in the fourth quarter of last year, a fairly good increase in a short period of time. The new money rate benefited from an increase in both risk-free rates and credit spreads. Looking at a base yield, which is before variable investment income, we have moved from 3.78% in the fourth quarter of last year to 4.12% this quarter. Meanwhile, credit impairments were minimal at $14 million and we believe the portfolio is well positioned as we move through a more uncertain economic environment. As shown on slides 11 and 12 of our earnings presentation, our capital position remained strong and we ended the quarter with excess capital of approximately $1.3 billion, which includes an incremental increase from the recent hybrid debt issuance. We deployed $100 million of capital into in-force and other transactions and continue to see very attractive deal pipelines. We also returned a total of $75 million of capital to shareholders through share repurchases and dividends. We believe our well-diversified global platform and underlying earnings power positions us to continue to support our clients and deliver attractive financial returns to our shareholders over time. I will now turn the call over to Jonathan Porter, our Chief Risk Officer.

Jonathan Porter, CRO

Thanks, Todd. Overall, non-COVID-19 claims experience was favorable this quarter with notable positive contributions in the U.S. and Asia. COVID-19 claim costs were moderate with an estimated impact of $89 million this quarter, down significantly from the $485 million reported in the same period last year. Starting first with U.S. Individual Mortality, strong overall underwriting results reflect favorable non-COVID-19 large claims experienced in the quarter. Estimated COVID-19 claim costs of $45 million in U.S. Individual Mortality were $11 million per 10,000 general population deaths at the low end of our rule of thumb range. This result is consistent with the continuing trend of a declining proportion of general population deaths at ages below 65, where there is more life insurance exposure. Turning to Asia-Pacific, as Todd mentioned, COVID-19-related medical claims in Japan were elevated this quarter with a combined claim cost estimate of $34 million, split between our Traditional and Financial Solutions segments. This result was driven by an unprecedented number of COVID-19 infections in the Japanese general population, which saw an average reported daily case count of 130,000 in the quarter, combined with the government-supported industry practice of paying claims on hospital benefit policies for at-home care to reduce potential pressure on the medical system. Looking ahead, we expect that future medical claim costs in Japan will be materially reduced for two reasons. First, new infections have dropped significantly in the general population with case counts averaging 33,000 per day in October. Second, effective September 26th, the Government of Japan changed requirements so that COVID-19 related at-home medical claims will only be covered for a subset of the most at-risk individuals, the elderly, pregnant women, and those with preexisting medical conditions. We expect that this change of definition will further reduce go-forward medical claims by approximately two-thirds. Total COVID-19 claim costs on all other businesses totaled $10 million, with nothing material to note by country or segment. We remain optimistic about the favorable trends in COVID-19 claim costs and although there is still uncertainty on how the pandemic will evolve, we believe that future impacts will continue to diminish and be manageable. This concludes our prepared remarks. We would now like to open it up for questions.

Operator, Operator

And our first question here will come from Erik Bass with Autonomous Research. Please go ahead.

Erik Bass, Analyst

Hi. Thank you. So you have now delivered two quarters in a row with ROE well above 10% and I realize there are a lot of moving pieces. But given where interest rates are and the capital that you have been able to deploy the last couple of years, should we think about your historical ROE targets of 10% to 12% being a reasonable expectation for the go-forward earnings power?

Todd Larson, CFO

Hi, Erik. Good morning. This is Todd. We are proud of the strong results we have achieved in the last couple of quarters. It highlights the positive momentum of our business and our successful execution of our strategy. However, I would advise caution in simply projecting our two strong quarters without closer examination. Given the capital we have deployed over the past few years and our underlying earnings power, we will update some of our targets for next year under the new financial reporting base fees. Based on what we are seeing, there is definitely some upward pressure on what we can deliver in terms of ROE if current trends continue.

Erik Bass, Analyst

Thank you. And then maybe a question for Jonathan, so hoping you could talk a little bit more about the mortality experience in the U.S. this quarter. And as COVID cases are coming down, and you are starting to get more data, are you seeing non-COVID mortality trends normalize as well and does this change or inform your view at all about sort of a pull-forward of claims that may have happened during the pandemic?

Jonathan Porter, CRO

Yes, Erik. First of all, it was a strong quarter for U.S. Mortality, particularly in Individual Mortality, which is encouraging. The non-COVID gains this quarter were primarily due to fewer large claims than expected, which played a significant role. Regarding excess mortality, we observed an increase in the general population according to CDC data, but this did not significantly affect our claims numbers for the U.S. Individual business. Any potential claims from this would have been offset by the positive experience from large claims. Additionally, we experienced favorable results in U.S. Group mortality as well. Overall, these factors suggest that excess mortality is not a major issue for us this quarter. Concerning the pull-forward of mortality, we likely benefit from this, although we assess it will be a modest advantage that will extend over several future years. It's challenging to pinpoint the exact impact of this pull-forward due to various factors involved. However, I believe it will help foster some momentum. Looking ahead to 2023, I still anticipate a net headwind from COVID, even when considering this potential pull-forward benefit.

Operator, Operator

And our next question will come from Dan Bergman with Jefferies. Please go ahead.

Dan Bergman, Analyst

Thanks. Good morning. I guess with all the moving pieces, I wanted to see if you could help quantify some of the variances in U.S. Traditional this quarter, including how underwriting results compared to your expectations in Individual Group and the Individual Health businesses, as well as that Individual Health assumption update that you mentioned. And just given the recent premium growth and the benefit you are hopefully seeing from higher interest rates, any updated thoughts on the run rate annual earnings level you would expect in U.S. Traditional would be helpful?

Todd Larson, CFO

This is Todd. I guess I can start and please if anyone can chime in. Maybe I think you asked about the Individual Health assumption updates. Maybe I will address that one first is that, in normal course, we always look at our underlying assumptions. And this relates to the disabled life reserve, which is based on best estimate assumptions, and we did a fairly comprehensive review of the assumptions that went into the reserve calculation and we ended up updating the termination and utilization rates that resulted in that positive adjustment to income. On the U.S. Traditional side, we had what we would view as positive variances from both COVID and non-COVID experience, a portion of the positive on the non-COVID related to the amount of large claims that we, I guess, didn’t receive in the quarter. And as we have talked about in the past, the large claim will create some volatility period-to-period, but over time they are fairly predictable.

Dan Bergman, Analyst

Got it. And just maybe just a follow-up, in terms of those underwriting variances, is there anything you can give in terms of quantifying, like, how those came in relative to what you would expect in a normal quarter?

Todd Larson, CFO

Yeah. We are not providing sort of an overall new run rate at this point, but we will provide some good new targets as we get into next year. But I would just comment that certainly, the higher interest rates will be a positive, will be a tailwind to the overall U.S. Traditional business, as well as the underlying business, excluding the COVID impacts is performing quite well. So I think we hopefully should see some positive impacts as we go forward.

Leslie Barbi, CIO

Hey, Todd. It’s Leslie. I wanted to add to the discussion about the tailwind from interest rates. Last quarter, we estimated an additional $70 million in income over the next 12 months due to the rise in rates year-to-date, and rates continue to climb. We're now adjusting that estimate upwards by about $30 million, bringing it to $100 million over the next year if we maintain the current levels. This figure specifically pertains to non-spread overall, as you inquired.

Operator, Operator

And our next question will come from Ryan Krueger with KBW. Please go ahead.

Ryan Krueger, Analyst

Thanks. Good morning. My first question was just a follow-up on the last comment. Is the $100 million over the next 12 months, is that incremental from here? In other words, like, not from kind of lap, is it forward-looking…

Leslie Barbi, CIO

No.

Ryan Krueger, Analyst

Got it.

Leslie Barbi, CIO

The additional amount from our current position is an expected increase of roughly $30 million due to interest rate changes. For the next 12 months, we are projecting around $100 million, although we had anticipated some of that a quarter ago.

Ryan Krueger, Analyst

Understood. Then the other question was about Asia's strong earnings. Can you provide some insight into what you would anticipate for the run rate earnings in that business or how favorable the results were this quarter?

Todd Larson, CFO

Hey, Ryan. It’s Todd. We are not updating the run rate at this point. We are still in that $45 million to $50 million a quarter on the Traditional side. We did have a very strong quarter in Asia this quarter. I’d say about half of that variance from the run rate was underlying experience favorability, and then the other half was, again, on a periodic basis, we update models and assumptions across all the different regions and that contributed a positive impact of about half of that variance. So, about half experience, half assumption, modeling updates and also client reporting updates.

Operator, Operator

And our next question will come from John Barnidge with Sandler O’Neill. Please go ahead.

John Barnidge, Analyst

Thank you very much. You are seeing strong topline growth and opportunities for in-force block transactions. Can you maybe dimension how much of that 10% constant currency is rate versus new business? Thank you.

Todd Larson, CFO

I would say a significant portion of the 10% is due to in-force growth, but the majority comes from the effects of both organic new business and transactions that generate premiums. We remain confident in our previously stated target of mid-to-high single digits, and we continue to observe positive momentum across different regions and a strong demand for protection products, working closely with our clients on product development opportunities.

John Barnidge, Analyst

Thank you very much. And then my follow-up question. Provided LDTI commentary on the impact on the balance sheet, but we started to hear others talk about the earnings benefit or headwind from it. How are you thinking about it impacting you from an earnings perspective as we think about it from a conceptual standpoint? Thank you.

Todd Larson, CFO

I will address this from a conceptual standpoint since we are not ready to provide specific numbers at this time. When we take on new business, we will no longer factor in provisions for adverse deviation or reserves as we did under old GAAP. I believe this will have a positive effect on current earnings for new business. For the transition balance sheet, we needed to remove some of what we call negative reserves, mainly related to the longevity business, which should contribute to income over time. We do not anticipate a significant impact from changes in DAC amortization, but I would expect the other areas to be positive, although quantifying this now is challenging.

Operator, Operator

And our next question will come from Jimmy Bhullar with JPMorgan. Please go ahead.

Jimmy Bhullar, Analyst

Hi. Good morning. So, first, I had a question for Todd on share buybacks. You have resumed activity, but it’s been fairly modest in the last few quarters. Wondering if that has to do with just ongoing uncertainty with COVID or is it more of a reflection of just the opportunity that you are seeing in terms of deal pipeline and growth in the business?

Todd Larson, CFO

Thank you, Jimmy. We saw an increase in our excess capital position from one quarter to the next, which was largely due to the hybrid transaction we completed in September. There was a strong response on the day we announced that offering, prompting us to increase the size slightly beyond what was necessary to refinance an existing security. This explains the rise in excess capital during the quarter. Our net income for the quarter mainly supported our organic growth, transaction activities, dividends, and share repurchases. Over time, we've maintained a fairly balanced approach to share repurchases, but we're quite optimistic and currently observe an appealing pipeline of transactions across various regions. As we've consistently stated in the past, we prefer to reinvest capital back into the business in transactions where we can achieve an appropriate return and support our clients.

Anna Manning, CEO

Yes, Todd, I would like to add that we are experiencing a very strong pipeline and high demand for our services. In my earlier remarks, I provided some examples that highlight two key pillars of our strategy: creation and partnership. By working closely with clients to develop new products and underwriting processes, we transition from competing to forming exclusive arrangements. When considering our growth, we can identify three main drivers: the inherent growth in the life insurance industry, increases in session rates, and growth in our market share. In exclusive situations, we effectively address all three drivers. We assist clients in expanding their businesses while capturing 100% of the reinsurance market share due to our exclusivity. There is significant demand, and we are well positioned globally, with momentum expected to continue moving forward.

Jimmy Bhullar, Analyst

Thank you. Jonathan, regarding COVID claims, we noticed an increase in cases and deaths in Japan due to COVID, which then decreased toward the end of the quarter. Considering your comments on hospitalization and related claims, do you believe there is often a delay in reporting in foreign countries, and have you accounted for that in your reporting, including some component of incurred but not reported claims?

Jonathan Porter, CRO

The charge we took this quarter related to the Japan medical claims was mainly IBNR, primarily due to the reporting lag you mentioned. We are very comfortable with our methodology and process for establishing that level of IBNR. Additionally, since the quarter ended, we have received some statements that reassure us about the amount we set. Overall, I believe we are quite confident in the estimate we have.

Operator, Operator

Our next question will come from Alex Scott with Goldman Sachs. Please go ahead.

Alex Scott, Analyst

Hi. First question I had is just on the longer-term mortality expectations. I think you guys have talked in recent quarters about having an ongoing study of just expectations for longer term mortality and implications of COVID. So I just wanted to see if you could provide any kind of update on that, any shifting one way or the other of your thinking there?

Jonathan Porter, CRO

Yeah. Hi, Alex. It’s Jonathan. So, no change to our views that we have talked about in the last quarter, I think we continue to be encouraged by the favorable trends we are seeing in COVID-19 claims from what we have seen over the last couple of quarters. I think consistent with expert views we do expect future variance in waves of infections and hospitalizations to continue, but at a declining rate as we go ahead. There’s also a wide range around depending on what assumptions you use for the various underlying projections. But I think we remain bullish on long-term mortality improvement overall.

Alex Scott, Analyst

Got it. Okay. Thanks. And the other question I just wanted to ask you is on SGUL. I think I am sure you are well aware. We have had some volatility from some of the primaries in terms of some of these Universal Life books. So I just wanted to, A, confirm like any exposure you have there, and B, any appetite for potentially doing reinsurance if assumptions have been level set to the right place there?

Anna Manning, CEO

Thanks for your question. I'll begin and then see if my colleagues want to add anything. We have evaluated this risk before, both from a new business perspective and in terms of our existing reinsurance. As we have previously mentioned, we haven’t found the risk-return profile acceptable. The gap between bids and asks has been too significant, which has prevented our participation. Currently, this risk is not on our books. This approach is consistent with how we handle other risks or unfavorable market conditions that we perceive. If an opportunity does not meet our risk-return criteria, we will remain patient and continue to monitor for any changes. As a global reinsurer with strengths in both flow reinsurance and in-force blocks, we have multiple avenues for growth. This means we aren't overly dependent on any single opportunity, allowing us to exercise patience and discipline. Market conditions change, and as they do, we will reassess to determine if the risk-return trade-offs have improved. Additionally, we will consider competitive dynamics, potential selling pressures, and whether we would be a suitable partner before making any decisions. That’s our approach moving forward with this risk. Regarding the risk itself, we lack detailed information on policyholder behaviors. However, I would like to emphasize that we do have mortality data, and we provide regular year-to-date mortality protection for these products.

Alex Scott, Analyst

Got it. Thank you.

Operator, Operator

This will conclude our question-and-answer session. I would like to turn the conference back over to Anna Manning for closing remarks.

Anna Manning, CEO

Thank you for your questions. As we have noted throughout this call, this was a strong quarter and we are very pleased with the demonstrated earnings strength that is coming through, especially in the last two quarters. We have a resilient and valuable platform. Our teams are highly engaged and excited, working closely with clients to bring solutions to address the protection needs highlighted by the pandemic. So let me end by repeating how optimistic and confident I remain in our ability to continue to create substantial long-term value for our investors. Thank you for your continued interest in RGA, and that concludes our third quarter call.

Operator, Operator

The conference has now concluded. Thank you very much for attending today’s call. You may now disconnect your lines.