Q2 2023 Principal Financial Group Inc Earnings Call
Good morning, and welcome to the principal financial group's second quarter 2023 financial results Conference call.
There will be a question and answer session. After the speakers have completed their prepared remarks.
If you would like to ask a question at that time simply press star and the number one on your telephone keypad.
A confirmation tone will indicate your line is in the question queue.
We would ask that you be respectful of others and limit your questions to one and a follow up so we can get to everyone in the queue.
I will now turn the conference over to Humphrey Lee Vice President of Investor Relations.
Thank you and good morning, welcome to principal financial group's second quarter 2023 conference call.
As always materials related to today's call.
<unk> on our website at investors don't principal Dot com.
Following a reading of our safe Harbor provision.
Oh, Dan Houston, and CFO , Deanna Strabo will deliver some prepared remarks we.
We will then open up the call for questions.
Others available for Q&A include Chris Littlefield retirement and income solutions.
Jota.
Asset management, and Amy factory benefits and protection.
Some of the comments made during this conference call may contain forward looking statements within the meaning of the private Securities Litigation Reform Act.
The company does not revise or update them to reflect new information subsequent events or changes in strategy.
Risks and uncertainties that could cause actual results to differ materially from those expressed or implied I'll discuss in the company's most recent annual report on Form 10-K filed by the company with the U S Securities and Exchange Commission.
Additionally, some of the comments made during this conference call may refer to non-GAAP financial measures.
Reconciliations of the non-GAAP financial measures to the most directly comparable U S. GAAP financial measures maybe found in our earnings release financial supplement and slide presentation.
Dan.
Thanks, Humphrey and welcome to everyone on the call. This morning, I will share key aspects of our second quarter financial results and some notable performance highlights.
Deanna will follow with additional details and an update on our current financial and capital position.
Our leading position in the U S small to mid size business market contributed to healthy growth across our benefits and protection and retirement businesses across the enterprise, we continue to balance investing for growth in our business with disciplined expense management and favorable 20 twenty-three equity market performance is starting to benefit revenue.
Our fee based businesses.
Starting on slide three we reported $376 million of.
non-GAAP operating earnings are $1.53 per diluted share in the second quarter, excluding significant variances earnings per share increased 4% over the second quarter of 2022.
Our second quarter results highlight our focus on our growth drivers.
Our of our integrated offerings and the value of our differentiated distribution and joint venture partnerships and our deep customer relationships.
During the quarter, we delivered on our capital deployment strategy investing for growth in our business and returning $255 million of excess capital to shareholders through share repurchases and common stock dividends.
Our businesses generated strong free capital flow in the quarter.
And we are on track to deliver on our targeted 75% to 85% for the full year. We ended the quarter with nearly $675 billion of total company managed D. U N a 2% increase from the first quarter improved market performance and positive impacts from foreign currency more than offset a negative $3 9 billion.
In dollars of net cash flow across the industry active asset managers were challenged by net outflows in the quarter.
While our real estate net cash flow was positive in the quarter and year to date it was pressured relative to prior periods.
Looking ahead, we are beginning to see greater opportunities to deploy new money into real estate marketplace. We have a real estate pipeline of approximately $7 billion of committed yet unfunded mandates that are expected to be invested over the next 12 to 18 months as valuations and market conditions stabilize.
The third quarter is off to a good start for global asset management, and we're seeing momentum build across high yield and core fixed income specialty equity strategies local solutions, and our international markets and select real estate property types, such as data centers.
We are well positioned to capture net cash flow across our platform as investor appetite for risk assets returns and our yield oriented capabilities become attractive again as we approach the end of the fed rate hike cycle.
On slide four investment performance improved significantly across our Morningstar rated funds in composites, including our fixed income asset allocation and actively managed equity strategies.
We're continuing to create new products and diversify across investment vehicles, we are bringing to market new etfs that offer investors additional ways to access some of our most popular solutions.
In mid July we launched a focused blue chip E. T F to offer investors another way to access our large cap strategy, which has generated strong long term returns for our investors. We also launched a new equity strategy with our asset management joint venture <unk> principal asset management. This strategy offers investors and offshore.
Retuning to invest in the new energy industry in China, including renewable power electrical equipment energy storage and electric vehicles, we're working through the final regulatory stages to make their UCITS fund available across much of Asia.
With this positive momentum and recovery in our investment performance, we're optimistic for asset management net cash flow in the second half of the year and.
In principal international totally AUM increased 4% to $174 billion during the quarter, primarily driven by favorable market performance and foreign currency translation.
I've had the opportunity to engage in person with many of our long standing global joint venture partners in the first half of the year, we have established deep relationships, combining our global expertise with their market leading distribution capabilities.
Great confidence and the differentiated value of these relationships to continue to enable preferred access to global high growth markets.
Our cross U S retirement, and benefits and protection revenues benefiting from strong employment market, especially within the small to midsize business segment.
No we're seeing moderation in employment growth from record highs wage growth is accelerating.
These employment trends coupled with strong sales retention are contributing to our continued above market premium and fee growth, especially benefits, which increased 8% over the second quarter of 2022.
Capitalizing on opportunities, we launched the hospital indemnity insurance product in the second quarter.
This product complements our existing core workplace benefits rounds out the voluntary products portfolio and will further drive supplemental health growth within specialty benefits.
Retirement net cash flow was pressured in the second quarter due to an uptick in large plan lapses.
A large planned sales and lapses fluctuate quarter to quarter.
It can have a significant impact on net cash flow, but they generally have a lower overall impact on revenue for our retirement business.
Looking at the SMB segment within retirement net cash flow was a positive $265 million driven by a 16% increase in transfer deposits and a 9% increase in reoccurring deposits strong results and the overall block compared to the year ago quarter.
We expect retirement sales to pick up in the second half of the year with strong full year growth across the SMB and large client segments.
We remain focused on driving profitable growth in our I S. Leveraging our leading market position and full suite of retirement solutions. We continue to expect to be within our net revenue growth and margin guidance for the full year bottom line. We are excited about the growth opportunities across the enterprise I'm confident that our focus on the high <unk>.
Growth markets combined with our differentiated product suite and distinct set of distribution partnerships will continue to drive value for our customers and our shareholders Deanna.
Thanks, Dan Good morning to everyone on the call. This morning, I'll share the key contributors to our financial performance for the quarter details of our current financial and capital position and an update on our commercial mortgage loan portfolio.
Our second quarter results demonstrate the strength and resiliency of our diversified business model.
Despite real estate related market pressures on a number of key metrics, including total company variable investment income as well as P. G. I net cash flow and revenue, we're starting to see signs of recovery and positive momentum in real estate and the broader investor market.
Reported net income was $389 million in the second quarter, excluding income from exited businesses net income was $325 million with manageable credit losses of $37 million.
Credit draft was a positive $5 million in the quarter.
On a year to date basis credit draft has been a slight benefit to capital we still feel good about our full year expectations for credit dressed and losses. Despite the banking sector challenges earlier this year.
Excluding significant variances second quarter non-GAAP operating earnings were $415 million or $1 69 per diluted share.
As detailed on slide 12 significant variances had a negative impact on our second quarter non-GAAP operating earnings of $53 million pretax $39 million after tax and 16 cents per diluted share.
The significant variances included lower than expected variable investment income and <unk> principal international and benefits and protection as well as the unfavorable impacts in principal international from inflation and non economic L. D T I discount rate impacts.
Variable investment income was positive in total for the quarter and on a similar level as the first quarter.
Prepayment fees and real estate sales were immaterial, causing VII in total to be lower than our run rate expectation.
Macroeconomics were generally favorable in the second quarter as the S&P 500 daily average increased 5% from the first quarter and 2% from the second quarter of 2022, the benefit to our fee based businesses from this positive performance was partially offset by a decline in daily averages for small cap mid cap and <unk>.
International equities as well as fixed income.
Foreign exchange rates were a modest tailwind on a quarterly basis relative to the first quarter and the second quarter of 2022, but remain a meaningful headwind of $12 million pre tax on a trailing 12 month basis.
We continue to focus on managing expenses with pressured fee revenue across the enterprise through these efforts compensation and other expenses have decreased at the enterprise level compared to a year ago, despite inflationary pressures on salary levels and other expenses.
As a reminder, comparisons to a year ago are impacted by the reinsurance transactions that closed in the second quarter of 2022.
Excluding significant variances revenue growth and margins across the businesses were in line with our second quarter expectations and within our guidance ranges with the exception of P. G I revenue growth.
Compared to a year ago P. G I performance fees and transaction and borrower fees were down approximately $50 million on a gross basis pressuring revenue margin and pre tax operating earnings.
This decrease was anticipated in our full year guidance ranges P. J is quarterly margin of 35% was within our 34% to 37% guided range and improved from the seasonally low first quarter.
Especially manifests pre tax operating earnings excluding significant variances increased 29% over the year ago quarter fueled by growth in the business, including an 8% increase in premium and fees and improved loss ratios driven by strong underwriting and disability and group life.
Turning to capital and liquidity, we remain in a strong financial position. We ended the second quarter with $1.2 billion of excess and available capital, including approximately $800 million at the holding company, which is at our targeted level $340 million in our subsidiaries and <unk>.
Hundred million dollars in excess of our targeted 400% risk based capital ratio.
We returned $255 million to shareholders in the second quarter, including $100 million of share repurchases and $155 million of common stock dividends and we retired $700 million of long term debt during the quarter using the proceeds from issuances in the first quarter.
As expected, we generated strong free capital flow in the second quarter and remain focused on 75% to 85% free capital flow conversion for the full year.
Last night, we announced a 65 common stock dividend payable in the third quarter. This is a one cent increase and is in line with our targeted 40% dividend payout ratio.
We remain focused on maintaining our capital and liquidity targets at both the life company and the holding company and we'll continue pursuing a balanced and disciplined approach to capital deployment.
As shown on slide five our investment portfolio remains high quality align with our liability profile and well positioned for a variety of economic conditions.
Specific to our real estate portfolio, it is high quality and position while to withstand potential economic stress.
We revalued the portfolio again in the second quarter, reflecting the most recent cash flows and other underlying data.
The commercial mortgage loan portfolio remains healthy the current average loan to value is low at 47% and debt service coverage ratio is strong at two and a half times.
This is relatively unchanged from the first quarter and significantly improved from 2008 levels.
Turning to our office exposure within the CMO portfolio is geographically diverse and high quality, 100% of the year to date 2023 maturities have been paid off and we are confident in the outcome of the remaining four office loans maturing in 2023.
Throughout 2023, we are actively reevaluating the entire office portfolio each quarter as of the second quarter, we have cumulatively reduced the portfolio valuation by 25% from the peak our current valuation is approximately 23% below the implied index value highlighting our conservative approach relative.
To the broader market.
The current loan to value on our office portfolio increased slightly to 57% as we further reduce valuations while the debt service coverage ratio improved to 2.6 times.
We have the experience and a long established track record of navigating real estate cycles. We are confident in the quality of our real estate portfolio and remain diligent in monitoring it and proactive and servicing it it is high quality well diversified and a good fit for our liability profile, we continue to be focused on maximizing our <unk>.
With drivers of retirement global asset management, and benefits and protection, which will continue to deliver long term growth for the enterprise and long term shareholder value.
This concludes our prepared remarks, operator, please open the call for questions.
Thank you at this time I would like to remind everyone that to ask a question press Star and then the number one on your telephone keypad.
Well pause for just a moment to compile the Q&A.
Our first question comes from the line of sneak Moss with Jefferies. Please proceed with your question.
Great. Thank you and good morning, I wanted to start with RIS fee.
If I think if my notes are right I mean, I think this is the third quarter in a row, where we've seen some large case outflows and I get that b.
Sometimes there are low fee, but just wondering is there something common about these outflows that we've seen over the past three quarters in terms of the type of cases or where it's going just some additional color on that and what the outlook is for large case flows kind of going forward.
Yeah. Good morning, So really appreciate the call or the question and I'll have Chris get right into it.
Great. Thanks, Thanks for the question good morning.
So there's a wide range I think as we expressed in the prior quarters one of the.
They were limited to a couple of large ones. One was a decision that we had made with respect to whether it was a good fit for our business and the other was a choice by the plan sponsor and so when you look at the reasons for the lapses in the large case you just see it a lot of volatility in the activity and a lot of reasons for the lapses, we see M&A activity that's impacting it.
We're seeing a difference in the experience following the transition onto the platform a reluctance to make changes to make the plan more streamline or a change in pricing. So there's a wide range of reasons why these lapses are occurring and so.
We certainly have seen the increase in large case lapses.
You know that has really been offset by continued strength on the SMB side, and so I don't want to lose the fact that we see much great resilience there with recurring deposits up 9% in transfer deposits up 16% I think the other thing you're seeing in the first half of the year, you're seeing a little bit of a timing activity I think as Dan pointed out we see.
Really good momentum heading into the second half again speaking to some of that volatility of large case activity.
And so I think we're really in a good position there and while we.
When we think about the pipeline, we have a healthy pipeline increase our activity RFP activity, we see strong sales growth for the full year across SMB and large.
But there is that volatility in large claim activity and we do expect some additional pressure on that lapse activity.
In the second half, it's really difficult to give you an outlook because as you know the second half is a very active.
A period of time for planned change activity and so it's really difficult and you can have things that you think are going to transition into December moved to January so, it's really hard to predict but again, we will see strong growth for the full year across SMB and large, but we do see some additional pressured lapses that helps Amit.
That does and then my second question is just on T. G I guess.
What would love a little bit more perspective on your confidence in terms of flows improving in the second half maybe a read on what you're seeing so far early in the third quarter and sort of Relatedly. We have noted that the fee rate has been kind of coming down over time and just curious if that trend is it do you expect that trend to persist going forward or should we expect that to.
Sort of inflect.
Yes.
One thing we know for sure for Natus and that wealth management retail space Theres a lot of money that's gone to the sidelines in money market.
Bank deposits and yet as we look through there and look at some of our asset management capabilities that we discussed in our earlier comments prepared comments, we do feel really good about second half of the year that I'll have Pat.
And respond accordingly.
Thanks, Ron Thanks for the question.
Dan mentioned, we are very constructive on the second half of this year in terms of our outlook relative to our net cash flow.
As you can imagine the market tone has very much improved we're starting to see momentum in terms of our capital raising and that's playing into our strong capabilities and the sort of suite of capabilities that you can offer in a marketplace that now has a little more of a.
Flow towards toward risk on assets and let me start off with just some of our capabilities, where I see our capabilities relative to meeting those sort of throwing flows and first as in real estate. As you know we've had a very strong I think sort of capability and real estate and that's really starting to see some increasing activity as the market starts to get to a better place.
Terms evaluations as Dan highlighted we had a $7 billion unfunded committed capital position really starting now so we're well positioned to take advantage of the markets as they develop.
And you probably will see us increasing our net cash flow are reporting in the second half of the year as heard out of that and there's probably three areas youre going to see the first one is probably in our increased activity in terms of acquisitions.
We actually are pursuing a very large portfolio as we speak in terms of an acquisition.
It should create a I think a very strong net cash flow in the second half of the year Youre also seeing because we are a very strong sort of high performing manager in real estate, we're actually seeing takeover existing portfolios from poor performing managers, we think that's a new area for us in terms of potential net cash flow.
Third as is our normal increase in activities from funding of our institutional funds and institutional investors are starting to get back engaged in the marketplace again, so a very positive and constructive on that front and not just in the U S. But in Europe and also in terms of some of the activity now that we have developed in terms of China with our joint venture in <unk>.
China was CCD and that's in the industrial space.
On the public markets and he really are the investment performance that Dan highlighted has given us greater confidence that again, well see public asset classes equities and fixed income with this favorable market sentiment, that's developing and we're always seen as in terms of a positive net cash flow in July .
Seeing money deployed into things like align our mid cap strategy or a pause about that and our income, especially capabilities like high yield we're seeing I think positive activity. There. So I think the results should be less muted.
Hum sort of redemptions.
Kris and sales in our mutual funds and hopefully in our SMA strategy going forward.
I think we're constructive on that also.
He is actually off to a good start also both in South East Asia and in Latin America, particularly Brazil.
I think the second half of the year, if the markets continue to be a relatively well I'm we are constructive on growth.
And I think we had some early indicators that we.
We should be constructed by gorilla.
The answer to your second question Sidney Insurance base management fees I think you know one of the things that we're very proud of is to manage to that 29 basis point base management fee that we've had for many years frankly.
Obviously as you highlight it's dipped a little bit to $28 $28 four basis points I think that's somewhat due to the quarterly decrease in the flows we had in the second quarter and that's driven by the mix of business as our net cash flows were leaving at higher rates of return than our average block and that's why you saw that termination in 2019 to 20.
$8, four but as I kind of think about the trailing 12 months and I look forward you know trailing 12 months have been strong at $28 nine and as I just highlighted in terms of his constructive outlook relative to the the activity for the second half of the year and back half of the year. We do think we can improve that.
$8 four back to the 29 range and Thats, our expectation as we look forward into the second half of the year, particularly if the equity markets continue to stay where they're at and we continue to see the mix of assets that we think we can garner in the net cash flow discussion.
Excuse me hopefully that was helpful.
Yeah very good thank you.
Just one one comment I want to follow up on with regards to Chris.
Chris is.
Explanation when he said M&A.
Just for those less informed on this in the SMB market Theres not a lot of M&A in the large case market. There does tend to be a lot of that a lot of times. These are publicly traded companies or large private companies.
When that much larger plan comes in and acquires that smaller organization, we could be the smaller organization oftentimes. It goes to the acquiring company and there was a fair amount of that activity and that's that's probably a new narrative for US is we've had more large as our large plate market has grown at.
Next question please.
Thank you. Our next question comes from the line of Ryan Krueger with BW. Please proceed with your question.
Hey, Thanks, good morning.
A follow up on <unk>.
Real estate.
Just I guess level set can you give us some perspective on what your real estate flows were in the first half of the year.
They are included in the alternatives line that you provide.
Sure Chris other impacts there as well.
Yeah, that's exactly right.
In some sense so right in terms of the falls in the first half they werent unit relative to our historical sort of flow analysis.
And I would suggest to you that that.
What will change in the second half of the year as the high end of my comments.
Those flows.
Were.
And the.
$450 million range relative to the net cash flows.
If you look historically over the last five six years, we've averaged about $3 billion a year in net cash flow and I'm anticipating that we could be looking at something how long what we typically have had as I think about the full year in 2023, and I hope that gives you a little bit of indication of our constructive view of our second half of the year.
That's great. Thank you and then on buybacks they came down a little bit in the quarter and I recognize a lot of market volatility earlier in the quarter.
So just hoping to get a little more perspective on it.
You may ramp up buybacks, a little bit more versus the <unk>.
Second quarter level in the second half of the year.
And we have full intentions on delivering on our full year outlook, but I'll have to end it provide some additional context on the quarter yeah. Thanks Ryan.
Where you ended there is exactly right obviously early in the quarter, we were all seen heightened credit and macro concerns driven by the banking on the real estate cycles.
And obviously, even though we felt confident on our full year free cash flow, we wanted to be prudent as we saw those concerns play out.
I think if you look at our excess capital roll forward.
That does point to strong free cash flow. It also points to the fact that we do still have that and so again, it's much more of a timing issue than it is any issue with our capital levels, our free capital flow outlook for the rest of the year. So I'd heightened back to what I talked about last year I think we still feel that.
Approximately 600 million of buybacks for the full year is a good range and if you then take into account what we've done that does point to slightly higher buybacks in the back half of the year.
No.
Thank you.
Thank you. Our next question comes from the line of Tom Gallagher with Evercore ISI. Please proceed with your question.
Good morning.
Just a question on variable investment income.
Pat just listening to what you are saying about real estate pipeline and how you expect more of those closed to be coming through I'm curious if we should all show.
Take that to mean transaction activity.
On your own owned real estate might start picking back up again and could drive better variable investment income returns carry curious what youre thinking there for the back half of the year would you still expect VII to be below plan or do you think.
The clouds might be lifting here a bit.
Yes, good morning, Tom I'll tell you what I think I'll have Dan respond accordingly on that one yeah. Just a couple of comments there and then I'll have Pat add some color I actually think we will see inflows into real estate before we see transaction volume and real estate. So I think our outlook would probably still see some new.
<unk> results in variable investment income due to real estate sales in the second half of the year, what we've seen thus far in VII very similar results in first quarter and second quarter virtually no prepays virtually no real estate sales.
But that actually pretty strong and in line returns from our all portfolio and I think what you would say is it is hard to forecast maybe towards the end of the year, we might see some transactions, but again that might also rolling to early 'twenty four as well so probably our best guess right now is that certain fourth quarter.
It would be similar to what we saw in the first half of the year, Pat any any thoughts on transactions yeah just.
Mentioned, Tom that I think as you know.
We have a pipeline of opportunities in terms of.
And so we're developing and those usually are sort of the merchant build program that allows for variable investment income to be generated in the future and my anticipation you'll start to see more of that in 2024, then in 2023, but there is a pipeline out there and we're obviously harvesting that pipeline for the right time to start to optimize.
But my guess Todd that would be more 2024, then the next two quarters.
Okay. Thanks for that and then my follow up is.
I guess for Chris or Dan just curious about a bigger picture competitive landscape.
Within 401, K and large case are you seeing when youre, losing these cases is it mainly going to large asset managers and insurance companies and I heard you mentioned, that's partly just driven by M&A, but just curious what's happening on pricing like are you noticing any.
More aggressive pricing as it is it the same just just any color on what youre seeing competitively there would be helpful. Thanks.
Yes Thomas.
Are you very well know this has been and continues to be a competitive marketplace.
We actually differentiate ourselves in leveraging our Trs capabilities and you see that through the nonqualified deferred compensation growth you'd see that through aesop and our ability to track. These large DB plans as well as Chris framed earlier. It is it is M&A, it's whether it's a good fit or not there is still a little bit of a shake out.
Relative to the IRT transfer block of business, whether that's a perfect alignment with our service model, but Christmas closer to it I'll ask you to add some additional color.
It's a very very competitive market and I think as we've expressed in the past.
Our focus is really managing unprofitable grades and maintaining our pricing discipline and driving additional revenue and managing our expense discipline really well.
So that's where our focus is I mean, not all flows are created equal and they come with different their revenue and profit profiles and we're really focused on how do we maximize revenue generation and profitability rather than how do we maximize flows the kind of environment is competitive, but we're maintaining pricing discipline and I think it really shows up in the fact that we are very confident that we're going to land within.
Our full year guidance for net revenue and we expect to be in the upper half the top end of our margin guidance for the year and that's how we're managing the business well also say Tom just to maybe clean up with just a little bit among the top three players in this industry, we all keep getting larger.
Without naming names there is a fair amount of swapping of these plans between.
Relative players we went from the large players we lose large players and Trc is still a big differentiator out there as well as our customer service platform. So hopefully that helps.
That does thank you.
Thank you. Our next question comes from the line of Erik Bass with Autonomous Research. Please proceed with your question.
Hi, Thank you I was hoping you could talk a little bit about the net flow dynamics in the RIS spread business Youre seeing nice wins in PRT and growth in deposits net flows have been a little bit muted there due to higher withdrawals.
It's just a function of having a larger blocks of needing more sales to offset the natural run off are there any other dynamics to think about.
I think to me the biggest dynamic there is to make sure you remain disciplined on your pricing as you attract new business and there is a steady roll off as you would expect Chris you want to add some additional color on our spread based net cash flow. It was flat in the quarter. You certainly saw the strong PRT sales I'd point out that those are it really.
Nice returns and so we continue to see compelling opportunities there, but that was offset by some of the GAA flows due to the better equity markets certainly when you see better equity market performance you see a movement out of capital preservation products and you certainly saw that in the second quarter. The other trend I would highlight is as you know we run our investment only business our Io business.
This opportunistically and so the maturities can be lumpy and we certainly experienced some lumpiness and some outflows in this quarter contributing to the flat performance on spread based on our cash flow.
Got it. Thank you and then going back to Pgi, something Pat you could talk a little bit more about the retail demand and flow dynamics that youre seeing and in particular curious as money is coming back to the market are you seeing and go back into actively managed funds to the same degree as it was before or is passive.
Continuing to take share.
Yeah.
Yes, Eric I think that the pass it sort of sort of share of the marketplace continues to increase.
And that's why the investment performance numbers that we have.
Illustrated in our prepared remarks is so important because we have to be able to demonstrate that we are producing a an active return over those indices.
So we do feel with those numbers and improving on the investment side, we should start to see that trajectory and are seeing the trajectory frankly in the first two weeks of July in terms of our ability to get a little more of the mind share.
The wall in terms of flows Barton to into active mutual funds, it's a tough tough sort of marketplace and that you have to deliver really first.
One third sort of investment profile performance to get that debt that wallet share with some of our improvement in investment performance. We are seeing some of that increased activity as I mentioned earlier in my prepared remarks on the net cash flow.
SMA is a space that we continue to want to grow in <unk>.
Mutual funds is clearly a place that we've been very active with in terms of me over the years.
Really the place where I think we have an opportunity to grow again isn't cit's. There has been a little bit of a pushback on cities in terms of net cash flow because that's always wanted to out of stable value back into the equity markets. We think that's sort of a temporary sort of situation.
That's sort of the landscape of what we're seeing right now relative to retail space in the retirement individual space Eric.
Helps.
Yes. Thank you.
Thank you. Our next question comes from the line of John Barnidge with Piper Sandler. Please proceed with your question.
Good morning, and thank you for the opportunity can you maybe talk about the sales volume in specialty benefits and then there is the second straight quarter of declines is it that 22 had a bunch of pent up demand, that's creating tough comparables.
Can you maybe are you seeing other things. Thank you.
No I appreciate that John and good morning, and no doubt we had a very strong 22 and 22 is strong just not equally strong but anything you want to go and add some additional color yeah sure happy to add some color here and so John I think you're hitting on one of the main points here, which is there definitely was pent up demand, particularly in the smaller market kind of flowing through.
Through 2022 results. So when you look at the sort of fierce labor fight out there sort of food fight for talent there.
There were smaller market players.
Yes.
Purchases out there that really did represent that pent up demand so that.
That was definitely good news in our 2022 results, but to put in perspective, I view, our 2022nd quarter results.
These strong they are down as you note from 'twenty to 'twenty two but they are literally the second best second quarter sales we've ever recorded.
So when I look at those sales I see really good things for both the current quarter and looking ahead. So when I look ahead at that second half of the year as Dan mentioned in his comments, we have introduced a new hospital indemnity product, it's performing well rounding out our supplemental health offering and when I look at the basic fundamental.
Know that that business around staff.
<unk> technology distributor relationships those are really strong right now so again I would say, it's more a comparability issue that we're seeing I'm very comfortable with both our total premium and fee growth and the sales component of that.
And then thank you for that and then my follow up question, maybe on that hospital indemnity product can you talk about how you think about the Tam or total addressable market in the SMB space for that and then the product pipeline as well for other products that you may be working thank you very much.
Sure Dan I'm happy to take that same place without that great.
So when I think about hospital indemnity. It really is not one product that's going to sit out there and kind of do the.
They work by itself it really is going to sit with it as a supplement to the core benefits that we already have in place. So what we're seeing is it is.
It's a nice offering to fill some gaps so when people have a hospitalization when people have other needs that are going to be travel related or outside of something that would get covered by the medical plan. This is going to be something that helps with that supplemental.
Hospitalization costs.
So I see it as a compliment the real power in having this is it rounds out the rest of our Worksite portfolio. So we've historically seen much of our organic growth relying on that basic kind of.
Product sets that are going to be dental and disability and life and I love, having those products. That's in place, but we really haven't put our competition out there as much has been in the works that space. So as we bundle up accident and critical illness and hospital indemnity. It's can you give us the ability to compete on.
Some of those additional worksite sale that we simply haven't been as competitive in the past so I like what that says in terms of market applicability I liked what that says in terms of how it can help us grow our total wallet share that we have across our extensive.
<unk> and midsize business customers when we do the survey work with employers small medium and large the one thing we consistently hear is health care is probably one of the most important.
Second is around retirement, but supplemental benefits like this are a strong number three and so we see this as a real growth driver for our small to medium size segment. So great question Sean.
Thank you.
Yeah.
Thank you. Our next question comes from the line.
Wes Carmichael with Wells Fargo. Please proceed with your question.
Hey, good morning.
I just wanted to follow up on the performance fees in Pgi I know in the supplement you provide that and it's down quite a bit year over year. I know you addressed that but just curious for your outlook for the remainder of the year. How you think that should trend and I guess I'm trying to does that kind of tied to your comments on VII, where you need to see the inflows versus I think some of the fees and pgi are related to.
Real estate transaction activity.
Yeah got you can clarify that for us.
So those are the two different sort of discussions between VII performance fees that would come with pgi and be part of the operating earnings profile about Pgi we.
We do as I mentioned because of the activity increases we see in real estate, we would expect sort of the view that performance fees that we saw in the first half of the year to start to change and second half of the year you said she some.
More sort of a robust performance fees coming into the second half of the year.
Got it thanks, and then on capital in the holding company.
Sitting at the $800 million level of liquidity is just curious if you're kind of expecting to to run that near the target there or do you expect to leave some excess there over time.
And also just on the leverage ratio, it's down now when you took out $700 million of debt. Just just curious if that's going to migrate back towards 25% over time or if you want to be a little bit lower on towards that target.
Okay.
Yeah I'll answer your second question first so on a leverage ratio perspective it.
It was really just a anomaly given the fact that we issued $700 million of debt in the first quarter and we paid off.
The $700 million of debt in the second quarter and so if you would have adjusted for that we would have been pretty consistent at that 22% level I think again, our target is 20 to 25.
But you know I think that 22% is a really good place to be it gives you some dry powder. If there is opportunities and I think that's what you'll see us consistently show there regarding.
The other question around the Holdco, we actually spent an extensive amount of time with our with our board Finance Committee on a quarterly basis, we look at our capital at risk and given the change in our business mix and some of the transactions that we conducted in 2022.
The need to hold a lot of cushion relative to that is not as needed as it has been in the past and so I think you'll see that.
Round.
A pretty tight range around that $100 million, obviously, if we're seeing big pressures in the market it might flex a little bit up.
But I think given our business mix as well as the high level of free cash flow that we generate I don't think you'll see that most significantly one way or the other hope that helps Wes.
That's very helpful. Thank you.
Okay.
Thank you. Our next question comes from the line of Jimmy <unk> with Jpmorgan. Please proceed with your question.
Hey, I had a question first on just the Pgi flows and I think that in your comments, you mentioned sort of a little bit of an improvement in the.
Overall environment.
But wanted to see how much of your optimism on flows improving in the second half is because of the actual commitments you've received from clients versus maybe the improved performance or just an expectation that activity it'll get better.
I think it's two things I'll throw it to kind of quickly number one the investment performs helps immensely and then secondly, we already feel good about here in the first month of the third quarter and what we're seeing with our solid flows but please yes, Jamie. Thanks for the question just to highlight that last comment there.
Principal international is off to a very strong start in July so that's very encouraging in terms of its flows.
And then as we discussed we have seen a turnaround in terms of some of the retail flows and and it's it's something much more constructive again because of the industrial performance. Obviously, one month doesn't make a trend for the rest of the year, but based on the market sentiment based on the conversations we're having with the with.
The clients and with the markets themselves. There is definitely flows and the increasing flows or are out there and so we're encouraged by that anticipated pipeline of activity in the room.
So sorry, just to be clear those discussions I had highlighted in terms of acquisition of portfolios taking over existing portfolios funding in terms of new funds, that's real capital commitment that's actually it might have been committed so.
We're very encouraged by the opportunities to change that into a a strong net cash flow.
Okay.
And then on you discussed performance fees, but if we look at asset management fees and the in the Pgi business or just the normal management fee revenues those are down as well so are they down more because of just the.
The rates and the impact of that on assets or are there other factors going on that might be more sort of sustainable in nature.
Yes, So we discussed earlier base asset management fees and that little Jeff pointed out from 29% to $28 four we.
We did see a little bit lower transaction fees in the.
First half of the year journey.
So maybe that's what you're also highlighting that was fairly fairly limited.
Our mortgage activity, our mortgage origination activity actually has started to increase.
In June that's increasing again in July so, we're actually expecting transaction fees, probably get back to more historical levels, what you've seen in the past.
And then as I mentioned performance fees.
<unk>.
Right in terms of performance fees in the first half of the year, sometimes we do expect performance fees to <unk>.
More back to normal level, and what you've seen in the past relative T. G I.
Okay, and then any comments on just the competition and in fee pressure in asset management does that same as before or have there been any changes it doesn't it.
Yes, Jimmy Yeah, there's there's always intense competition in the asset management business. That's why we have to continue to deliver on strong Alpha performance. That's why you have to continue to make sure we have relevant capabilities globally. The.
Fee pressure is absolutely there in the marketplace and so we have to continue to make sure. We are delivering on our value to our clients. The clients in terms of the capabilities. We offer and then the the level of performance that those capabilities are generating Jim as you very well know, which isn't just active data like the good old days with passive taking more.
Sure you don't have value added capabilities.
Winning and the good news at principal whether it's in the high yield space preferred space real estate direct lending. These are areas, where we can differentiate and it is a it is our intention to continue to build out those unique capabilities to compete in the marketplace hopefully that helps.
Thank you.
Alright.
Thank you. Our next question comes from the line of Alex Scott with Goldman Sachs. Please proceed with your question.
Hi, first one I had for you all is just.
Maybe a high level question on inflation and how it's affecting your expenses.
Lee.
Yeah Theres some help on the topline from what's been going on in the markets.
How do we think through inflation as a potential offset to some of the help that youre getting and you know just in terms of topline and the economy.
The market potentially continuing to recover a bit.
The inflationary pressures that could offset some of that.
I'll make some initial comments and then SPN, but we've talked about this in here before as a matter of fact, when inflation started to tick up in particular as it relates to wage inflation, which most employers are having to deal with as it relates to <unk>.
Maintaining an attractive recruiting talent and we see that manifest itself in higher dollar amounts are wages often translates into higher dollar amounts of life insurance coverage higher premiums for <unk>.
<unk> ability all of those again are tied back to wages individuals as they see salary increases most of those are sent an automatic nature and so <unk> salary deferrals rise accordingly, and on a net net basis principle has always been the benefactor as you pointed out that top line revenue growth principle has its own internet.
Challenges related to inflation as we retain and attract talent and again thats part of our overall expense management responsibilities within the business units and something the D&O works with the CFO is around here every day on but maybe I'll have a DNA add some additional thoughts here, yes, Alex and thanks for the question I think Dan really talked to.
About while that we do we are uniquely positioned that when inflation plays through especially when it plays through on salary levels, we do get benefits in both RIS and benefits and protection and obviously that plays through from a revenue perspective.
We definitely have a proven track record of aligning expenses with revenue when revenue.
It goes down very fast or goes out very fast there's always a natural lag.
But one thing I'm really proud of is if you look at our comp and other whether it be relative to a year ago quarter relative to last quarter.
On a trailing 12 month basis Theyre down on all of those comparisons probably more most valid is on a trailing 12 month basis, we're seeing about a 3% to 4% decrease in adjusted comp and other.
And that's despite the fact that as you mentioned, we have had to increase salaries.
Cause of that inflationary pressure in war on talent. We've had other expenses that have been negatively impacted from inflation and also we have to make sure that we continue to invest in our businesses to make sure that we can continue to deliver on our promises and drive growth in that and in the future and so I think that's that's the proof.
The fact that we do have that track record and Youll continue to see that play out as we go forward.
Okay.
Got it that's helpful.
Follow up question I have is on until just noticed in the loss ratio was up a little bit.
Are you guys seeing anything.
Ground utilization may be elective procedures that kind of thing I guess I've heard some of the managed care providers talk about this and I don't think there is still focused on dental some of the comments, but I think one of them mentioned that also I was just interested if that's something you're saying.
Yes, I'll have Amy.
Amy take that before I do that I'm, just just a reminder, when you compare principle to other.
Competitors in our scent, we're not a pure play asset manager. So we do have operations and more customer service expense and so on pure play asset managers. When you have more variable expense, because it's incentive compensation and so on and so forth.
See expense reductions, perhaps a little bit easier than you do when an organization like principal when we're providing a lot of value added services across these.
Fee spread and risk businesses, but I think it's always important to put that in the proper context, when you're doing your comparable so with that Amy dental yeah. So just a few comments about that.
Definitely feel good about our overall loss ratio and margins. So when we talk about the full suite of products.
We can get about how they're they're operating together when we dig him Jess on dental we are seeing some things happened there that are a little bit I would call them sort of out of seasonal patterns and so I think we are still seeing the first half of the year is some definite keeping up on utilization and frequency people are going to be.
<unk> back to pre pandemic levels, but we're probably tilting a little more severity flow through our results. So think of that as the higher dollar procedures. The opening question out there in the industry is.
Is that continuing on is that setting a new level or is that something that's still sort of the last remnants of the pandemic. So my particular belief and the belief on our block of business is that we'll see that experience moderate through the second half of the year I think we will continue to see that come down we might see.
Some elevation stolen severity, but the great news about our block is that our block is about 90% of it is going to have an annual ability to get re rated and renewable so dental is a very responsive product if we needed to be on things that are happening and how that's being utilized didn't change so great.
That's a short blip if that does happen, but my perspective as I do think we'll see that moderate a bit and I think we're seeing some of the last remnants from that from the pandemic coverage being disrupted but more to come.
Seinfeld and anti Denver.
Okay.
Next question please.
Thank you. Our next question comes from the line of trace <unk> with Barclays. Please proceed with your question.
Thank you.
Listening to your comments it sounds like we're reaching an inflection point on real estate, where you saw some pressure this quarter on some of your key metric, but then you said you're seeing signs of recovery and positive momentum in real estate like in Pgi, our mortgage origination activity is that.
What is going on in real estate fundamentals, that's driving that or is it more technical.
Yeah, So I think what what's driving the sort of activity is Theres places, where we're starting to see the entry points in terms of where the risk return trade off looks reasonable again. So there is a there's a sort of an opportunity there both in terms of core real estate.
But also.
Manufacturing real estate in terms of turnaround and in development.
Also I think are very I think mindful of that.
The debt markets have stabilized and with the fed now starting to become I think maybe.
At a place where they may take a pause I think people are having a little more confidence in terms of being able to understand where the path will be going forward in terms of valuations and debt availability and capital availability. So there's a sort of a starting in emerging market developing in terms of this transaction in general picking up.
It's still early yet, but being early sometimes is where you actually can really add value to your clients and so there is an opportunity as I mentioned through the three areas that we have been very active in which as you know acquiring a portfolio or taking over other managers assets or being able to find funding for new creative things.
To invest in.
For instance, like data centers. So there's there's a lot of interesting opportunities I know office has the headline and we're not in the office.
The new office, but we aren't investing in other asset classes, whether it's industrial or is it.
Data centers, whether it's residential so that's really the important thing to mention as to where we're at what we're doing as we talked about this increased activity.
Okay.
Yeah, a quick follow up I, just want to touch on the credit cycle, you mentioned credit Trust, who is a slight benefit of capital do you feel good about your full year expectations very overbuilding in some credit drift.
What do you think is going on this is probably the longest debate of whether we're going to enter a recession or not maybe as far back as 2019, we saw the credit cycle Beach maturation. So what do you think is driving that positive drift and it's just a timing difference where we could see credit trip materializing, but it just may come later.
He has some thoughts yeah, just a few comments there let me just frame kind of where we are kind of year to date from <unk> perspective.
And ultimately I'm kind of tie it back to your question, they're both first quarter and second quarter. We all we actually saw positive capital impacts from draft, a modest about $5 million a quarter.
And I think that really comes back to our high quality diversified.
Our portfolio and so even though we are seeing some downgrades across the portfolio are there more than being compensated by some upgrades.
And again that could be within the real estate portfolio on some of the asset classes that debt.
Pat mentioned or its in other parts of the of our balance sheet as well.
So again, we do think there will be some dressed as we go through the rest of the year.
But I'd say, there's a couple of things right I think the.
The recession is not thought to be as deep as maybe what was anticipated coming into the year and then you come back to the quality and the diversification of our balance sheet and I think again, we continue to see good results there, but I'll say if that has anything to add no I think Dan has done a nice job of summing that up really well.
Very good.
Okay.
Thank you.
Thank you. Our final question. This morning comes from the line of Mike Ward with Citi. Please proceed with your question.
Thanks, guys good morning.
Thanks for squeezing me in just on PRT.
Been hearing pretty bullish commentary from some of the insurance brokers out there.
Seems like more than usual. So just wondering if anything is changing in terms of the returns or.
There's got to be more competition.
But any way to sort of size the opportunity from here.
Christopher please.
Yeah, No I think we see a very strong PRT market place right now I think industry sales are expected to be in that 30% to $40 billion range for the year again as we think about this business, we really focus on the returns we're getting on the capital we're investing in that business and so we remain disciplined and so we're very comfortable we feel very good about our performance through the first half.
And we're on track for our plan for the year and we're doing so at very nice returns. The other thing I'd say is we do benefit from having our Srs business.
A lot of the the.
The activity that we're seeing we're able to take our existing clients plans given the plans are fully funded I think Mercury's Paul and me at 105% funding at the end of June .
We're able to talk to them about plan terminations and the opportunity to write PRT business with them.
Look at that overlap between out of those businesses about 15% of our premium at about 42% of the cases in our PRT business year to date has come from existing clients. So just.
We do see a robust environment there, we're picking our spots where we can match them up maximize return on capital. We have some built in advantages from having an existing client base, which is essential for our business model our final.
Final question Mike.
Yeah, maybe just on specialty benefits just wondering what you guys are sort of hearing and feeling from the employers out there how they feel about the labor market.
And wages and how there if their attitude is changing in terms of their approach to benefits.
Any place.
So I think that the good news there is that the small to midsize market places don't really vibrant they understand that they need to keep talent they understand that a great benefits and savings and retirement package offering for their employees is critical to making that happen for them and they're displaying that through their purchasing behavior in there.
Funding and persistence on those plans and so I think the most interesting pieces that when you look at employment growth and you look at wage growth wage growth is across all of the segments that we're seeing equally present in the small market, but employment growth at least in our blocker.
Business and I think this is a cross over into the retirement business as well has stayed really strong. So our employment growth numbers are twice as strong three times as strong in the smaller market.
Those employers are continuing to hire and they're continuing to indicate that they need.
Great employees to fuel the growth. So so we continue to hear sentiment that there's there's caution we're very confident about their businesses. They are also very confident about their kind of region or community. They get a little less confident in their sentiment when they had over into total U S. A total global economy, So that's where their sentiment.
You can see it starting to fall apart, but their actions are usually based on their local or their business sentiment and it remains very positive excuse me.
Yeah.
Got it. Thank you so much Scott it's really interesting.
Really appreciate the questions Mike.
Thank you, ladies and gentlemen that concludes our time allowed for questions I'll turn the floor back to Mr. Hudson for any final comments.
Yeah. Thanks, again for joining us today and as I reflect on our quarterly earnings and the margins are lined with guidance. There's a path on the free cash flow of 75% to 80% net cash flow.
No on a macro level it was a very challenging environment, we're making changes in the business or two.
Improve the results, we're continuing to focus on aligning expenses with revenues and it continues to be a priority, while still investing for growth and innovation in the digitizing of our business and making sure that we don't Miss that opportunity and we continue to execute on profitable growth for our long term shareholders. So thank you for your time and attend.
Today, we'll see you out on the road.
Thank you. This concludes today's conference call you may disconnect. Your lines at this time. Thank you for your participation.