Q1 2023 Lincoln National Corp Earnings Call
[music].
Good morning.
And thank you for joining Lincoln financial group's first quarter 2023 earnings conference call.
At this time all lines are in a listen only mode.
So the opportunity for questions and instructions will be given at that time if.
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Now I'd like to turn the conference over to Vice President of Investor Relations.
<unk>. Please go ahead Sir.
Thank you good morning, and welcome to Lincoln Financial's first quarter earnings call before we begin I have an important reminder.
Any comments made during the call regarding future expectations, including those regarding deposits expenses income from operations share repurchases and.
Would it be and capital resources are forward looking statements under the private Securities Litigation Reform Act 1995.
These forward looking statements involve risks and uncertainties that could cause actual results to differ materially from current expectations.
Risks and uncertainties include those described in the cautionary statement disclosures.
This release issued yesterday.
Well that are detailed in our 2022 annual report on Form 10-K, most recent quarterly reports on Form 10-Q and from time to time in our other filings with the SEC.
These forward looking statements are made only as of today and we undertake no obligation to update or revise any of them to reflect events or circumstances that occur. After this date.
We appreciate your participation today antibody Lincoln's website www Lincolnfinancial dot com.
You can find our press release and statistical supplement which include a full reconciliations of non-GAAP measures used on this call, including adjusted income from operations or adjusted operating income.
Adjusted income from operations available to common stockholders to the most comparable GAAP measures.
A slide presentation containing supplemental first quarter of 2023 investment portfolio information is also posted on our website in the Investor Relations section.
Presenting on today's call are Ellen Cooper, President and CEO , and Chris <unk> Chief Financial Officer.
After their prepared remarks, we will move to the question and answer portion of the call.
I would now like to turn the call over to Alan.
Thank you al and good morning, everyone.
During the first quarter, we continued to take the necessary steps and have made substantial progress to strengthen our balance sheet improve our free cash flow and position the business for long term sustainable growth.
Have a differentiated business model, including our powerful distribution franchise, and broad product offering and a diversified high quality investment portfolio.
<unk> set the foundation for successful execution of our enterprise priorities and we will continue to focus on actions that deliver on our objectives.
Our first quarter financial results well within the range, we disclosed on last week's call.
Our earnings for the quarter reflect the 2023 headwinds we have discussed previously such as higher expenses.
Lower prepayment income.
Pressures highlighted in our life insurance business that we expect to begin to dissipate or be offset by larger positive in 2024 and beyond.
Chris will go through the details of the headwinds in life, and where we see opportunity for improvement and its financial performance overtime.
Before discussing our business unit highlights I will spend some time discussing our progress in executing our strategy.
We are continuing to make headway in improving our capital position and our long term cash flow profile with three of our business is delivering solid free cash flow for the company and the port our life business, which will be improved post the close of the recently announced reinsurance transaction.
We estimate the RBC ratio at the.
Ended the first quarter to be approximately 380%.
Following the close of the reinsurance transaction, we expect to be closer to our near term target of 400%.
We also continue to expect to generate $300 million to $500 million.
Our free cash flow this year.
Before the impact of the reinsurance transaction.
Execute on initiatives to further improve ongoing free cash flow in 2024 and beyond.
One of the key initiative underway is our focus on new business capital efficiency across retail and workplace solutions, where we are delivering a robust level of sales with a more capital efficient product mix by leveraging our distribution leadership and broad diversified product portfolios.
Other key initiatives to drive ongoing free cash flow include.
Continuing to implement our spark initiative.
Enhancing the profitability of our group business.
Fully repositioning our VA hedge program.
Completing our recently announced reinsurance transaction, which is expected to reduce balance sheet risk improve our capital position and lessen the drag on the life insurance distributable earnings profile and taking additional actions to improve the capital generation of our in force book.
Yeah.
This quarter is a clear demonstration of the Swift progress, we are making and I.
I'm pleased with our results as we continue to execute to improve our long term free cash flow profile.
As we look ahead, we have also highlighted our goal of reducing financial leverage and we will provide a longer term view of targeted capital levels. Later this year that is aligned with a prudent approach to capital return and maintains our financial flexibility, creating long term.
The sustainable value for shareholders.
Turning to the business units and starting with our annuities business.
Sales of $3 2 billion were up 17% versus the prior year quarter.
Within a fixed product category sales rose sequentially for the fourth consecutive quarter and net inflows were again strong.
And index variable annuities sales were up 9% as we drive new and multi ticket producer growth.
In life insurance sales were down 16% as our shift towards a more capital efficient product mix takes hold.
Indexed Universal life sales were up 34%, marking a record first quarter for <unk> sales.
As expected sales of term products declined.
Furthermore, we continue to expand our products into new geographies and channels such as the recent launch of money guard market advantage and the state of California.
Executive benefits sales can be lumpy and were down in the quarter.
In our two retail businesses annuities and life insurance, we are pleased with our overall level of sales and diversified product mix, which are meeting our capital efficiency targets and exceeding our new business return targets, we expect new business from our retail business is both.
<unk> and life to be important drivers of future cash generation and profitable growth.
In our two workplace solutions businesses group protection and retirement plan services, where we serve more than 50000 employers and close to 14 million employees.
Our differentiated product offerings and service capabilities have generated high customer satisfaction scores and strong retention.
We continue to invest in our technology claims organization and distribution franchise to position ourselves for continued growth and long term success fees.
These investments are supporting the year over year expansion in our group margin and we'd expect our workplace solutions businesses to be key cash flow and earnings growth engine for the company going forward.
In group protection overall sales were up 22% with strength across all size segments and more than 50% growth in employee paid sales, where we are seeing significant momentum in supplemental health products.
<unk> were up 70% from higher sales ongoing price increases and strong persistency.
And finally in retirement plan services.
Net flows were strong at $535 million helped by our digitally enabled high touch customer experience that has led to excellent retention.
First year sales were down following a strong prior year quarter in the large case market where sales can be lumpy.
First year sales in the small case market a key focus area were up 78% speaking to our product innovation and distribution strength.
We expect Rps first year sales to be higher over the balance of the year.
We are very happy with the performance of our workplace solutions businesses as sales continued to meet or exceed capital efficiency and new business return targets we.
We continue to execute and to enhance our customer focus strategies and we expect that will lead to long term sustainable growth.
Turning to our investment portfolio, our high quality and broadly diversified investment portfolio is tightly aligned with our liability profile and positioned to perform well under multiple economic scenarios.
Our real estate and banking exposures are well positioned and we have a long track record of excellent commercial mortgage loan underwriting discipline and our rigorous credit monitoring process.
Our team regularly stress test the portfolio by asset class and sector name by name and we remain highly confident in our ability to navigate various economic environments.
In closing we are pleased with our Swift progress as we execute against our priorities and deliver on our commitments. We are strengthening our balance sheet. Our capital generation is improving we are generating capital efficient sales with returns at or above targeted levels and our investment portfolio.
Leo.
Physicians, well all of which gives me great confidence as we move forward.
I will now turn the call over to Chris to take you through the financials in more detail.
Thank you Ellen and good morning, everyone. We appreciate everyone dialing in and listening to our call.
I'm going to discuss three things. This morning first we will go through the financial results for the quarter, then I'll touch on capital and then we'll finish up with details around our investment portfolio.
Let's start with the financial results.
Last night, we reported first quarter adjusted operating income available to common stockholders of $260 million were $1 52 per diluted share.
There are two items to call out as it relates to these results. The FERC does that alternative investments were $19 million below target or <unk> 11 per share.
Second our annuities business had a favorable tax item of $11 million or <unk> <unk> per share.
Additionally, with this being the first quarter under the new accounting framework of <unk>, We reported a net loss available to common shareholders of $909 million.
We're $5 37 per diluted share.
The main difference between the net and adjusted operating income is the change in the market risk benefits and hedge instrument evaluations.
Offsetting this loss was a favorable <unk> related item that flows through <unk>.
As we've discussed with the adoption of <unk>, we expect GAAP net income volatility to increase partly due to non economic drivers.
Now turning to the segment results.
Let's start with the highlight which was group protection.
This quarter group protection reported $71 million in operating income compared to a loss of $46 million in the prior year quarter.
This significant improvement was primarily due to improved disability results driven by strategic investments in our business.
In addition, as the pandemic turns to endemic similar to what you've heard from peers the impact on our earnings has declined.
The loss ratio for group life was 84% an improvement of 11 points from a year ago as Covid claims have continued to decline.
The disability loss ratio was 71, 4% an improvement of over 17 points from a year ago, driven by lower disability claims and strong recoveries as we provided solid return to work outcomes for our claimants.
The expense ratio is up 110 basis points from a year ago, which as I noted earlier is primarily the result of strategic investments in our business and is translating to increased overall profitability.
These strategic investments will continue to generate value in the marketplace and improve the customer experience for both employers and claimants.
The result of these outcomes with a five 6% operating margin for the quarter up from a negative three 9% margin a year ago.
Importantly, while these results are clear signs of progress we continue to see upside over the next couple of years and a path to reaching and sustaining our 7% margin target.
Profitable growth in the group business will continue to be critical as we execute against our strategic objectives, specifically as we look to grow and diversify Lincolns long term earnings profile and to help decrease our capital sensitivity to market volatility.
Now, let's turn to annuities.
Annuities delivered another solid quarter with reported operating income of $274 million compared.
Compared to $317 million in.
In the prior year quarter.
The decrease was due primarily to lower account values driven by the decline in the capital markets in 2022.
Lower prepayment income and higher expenses also were headwinds.
Lastly, our repositioned such program is working as intended protecting capital and maximizing the present value of distributable earnings.
And while it's early in the program's tenure, we continue to see excess capital in <unk> as a result.
Looking ahead, we see continued upside to our annuities business, our diverse product portfolio gives us opportunity to grow with capital efficiency in various market environments. Our hedge program is now explicitly prioritizing capital.
And the earnings power from our high quality in force blocks continue to generate capital and significant cash flow for the company.
Let's now turn to retirement plan services.
Retirement reported operating income of $43 million compared to $58 million in the prior year quarter.
The decline was largely due to lower prepayment income the impact of lower equity markets on fee income and higher expenses.
Somewhat offsetting these headwinds were higher base spreads, which expanded by 25 basis points relative to a year ago.
We expect to see spread expansion for the full year. So given the volatile rate environment spreads changes won't be linear and we expect full year expansion in the low single digits.
Stepping back despite lower prepayment income and higher expenses, which we expect to continue through 2023.
The retirement business continues to deliver solid underlying results and importantly positive net flows which should continue to help grow the business over the long term.
Lastly, let's discuss life insurance.
Life reported an operating loss of $13 million compared to operating income of $23 million in the prior year quarter.
This was a business that pre COVID-19 generated $500 million to $600 million of earnings a year and so I think it's worth walking through two things.
First what are the drivers to the decline and then second how do we think about which of these headwinds will get better over the next few years.
So stepping back the major headwinds to this business that have emerged over the last few years to GAAP earnings are as follows.
First 2021 reinsurance transaction involving executive benefits on Universal life blocks reduced the annual earnings by $65 million.
Second last year's assumption reset at a $180 million annual run rate impact to earnings.
Third prepay income was historically $30 million a year, which in this rate environment has mostly become de minimis.
Fourth reinsurance costs, which we've pointed to over the past few quarters have been a 40% to $45 million incremental headwind.
And then similar to the other business units, we have seen expenses increased over the last few years.
Which is nonrecurring with some of the reflection of the business environment that we're in and we're managing through that.
Okay.
In total these five things equate to roughly half the decline from the pre Covid run rate.
Most of the other half is largely due to three items each of which should get better over the next few years.
First we target a 10% annual return in our office portfolio overtime and this quarter, we returned just under 7% annualized.
Also a large contributor to the life segment, given the long duration nature of the reserves and so this can be a meaningful swing quarter to quarter.
Second Covid has had a negative impact on life earnings over the trailing four quarters of approximately $90 million.
We're seeing some declining mortality headwinds as the pandemic constant endemic but elevated mortality relative to pre COVID-19 time periods is still a headwind for now.
And third as we've discussed <unk> has a negative impact unlike GAAP earnings.
Amortization of deferred revenue is currently occurring more slowly under LTI, which is the main driver of the expected $100 million to $120 million negative impact on full year 2023 life earnings.
This is a timing issue and in the future deferred revenue amortization will continue to grow each year going forward. So this will become less of a headwind.
Lastly, the transaction, we announced last week, while accretive to free cash flow is expected to be dilutive to life GAAP earnings by roughly $120 million to $140 million annually.
And so while most of these headwinds will persist a portion will begin to normalize next year.
Importantly, we feel confident about the business were putting on the books today and our ability to generate profitable growth in this segment over time.
Let's now turn to capital we ended the quarter with an estimated RBC ratio at approximately 380%.
The sequential increase in RBC comes despite turmoil in the credit markets and typical first quarter seasonality and is the result of continued management actions to increase capital efficiency.
We remain on track to deliver $300 million to $500 million of free cash flow. This year, assuming a normal market environment and before the impact of the block reinsurance transaction, we discussed last week.
As a reminder, the deal is expected to increase RBC by about 15 points that close and grow ongoing free cash flow by over $100 million a year.
Moving to investments despite credit market turbulence, we reported solid credit results.
As Youll see in the supplement that we provided our portfolio is currently 97% investment grade and we experienced a seventh consecutive quarter of positive net ready migrations.
Our conservative positioning reflects disciplined portfolio construction regular stress testing and proactive credit risk management.
Now turning to our banking and commercial real estate exposure. Our total bank holdings represent just 5% of invested assets and our diversified across global systemically important banks trust and custody banks and high quality regional banks.
Let's now talk about commercial mortgage loans and here I would make three points.
We have an extremely high quality CML portfolio, representing 12% of the total invested assets.
Our CML strategy is focused on 100% fixed rate senior loans to stabilized properties with low loan to value and high debt service coverage ratios.
We maintained disciplined underwriting and rigorous ongoing monitoring processes with virtually no credit losses since 2019 and no current loan modifications.
Our CML portfolio is currently comprised 80% of cm, one mortgages, approximately 20% of <unk> mortgages, and only 0.4% of <unk> three or below mortgages.
The average loan to value was 46% and the debt service coverage ratio was two four times.
And we have no direct real estate equity or transitional loan exposure.
Second, let's talk a bit about office exposure.
<unk> for us represents 21% of the CML portfolio and that number is down 400 basis points from three years ago.
Since 2020, we have proactively shifted our portfolio away from office exposure and that's both from a mix perspective and on an absolute basis.
Our office portfolio is also conservatively positioned with similar metrics as the broader CML portfolio I mentioned a moment ago.
However, what is even more important is our near term maturities in 2023, we have only $34 million of remaining maturities from office mortgages, and only $164 million in 2024 or 5% of our total office portfolio and 1% of our total commercial loan portfolio.
Additionally, it's worth noting that loans with near term maturities are performing extremely well with nearly half of those loans being on high demand medical office buildings.
The third and last point I want to make about office and other commercial mortgage loans in particular is that it's important to understand where we participate in the market.
While we have a broadly diversified footprint and capability to lend across all markets. Our emphasis historically has been in the middle market.
So from a size perspective. This resulted in our average office loan being around $16 million and from a mix perspective, we will tend to have a highly diversified portfolio with lower than average office exposure in a greater allocation to apartments or industrial properties within our CML portfolio.
So to summarize the three key takeaways on <unk> first we have a high quality portfolio with negligible exposure to see them three or below.
Second we are proactively reduced our office exposure by 400 basis points and have very limited near term maturities.
And third our strategy is focused primarily on middle market lending, resulting in a higher percentage of apartment and industrial properties.
Lastly, on our investment portfolio more generally and to reiterate a point I made on our call last week the asset listings in our statutory filings include assets, both for Lincoln as well as those in our funds withheld reinsurance agreements, where we do not have the economic exposure and it's worth highlighting this statement is true for the CML portfolio is.
Well.
In closing, let me reiterate three points.
First from an earnings perspective, we are encouraged by the quarter, but we know we have more work to do with addressing the headwinds in our life business.
We continue to make progress on improving our capital position and our long term free cash flow profile with the results this quarter showing signs of progress in last week's transaction announcements in another step forward.
And third our investment portfolio is very high quality and our exposure to recent areas of market concern are more manageable.
We appreciate everyone, taking the time to listen today and now we look forward to taking your questions.
That let me turn the call back to al.
Thank you Ellen and Chris.
We will now begin the question and answer portion of the call as.
As a reminder, we ask that you. Please limit yourself to one question and one follow up and then re queue. If you have additional questions.
That let me turn the call over to the operator to begin Q&A.
Thank you at this time I would like to remind everyone in order to ask a question Press Star then the number one on your telephone keypad for optimal sound quality. Please do not use the speaker phone. Please speak directly into the receiver or use the wired headset with a microphone, we'll pause for just a moment to compile the Q&A roster.
We will take our first question from Erik bass with Autonomous Research. Your line is open.
Hi, Thank you I was hoping you could talk more about your intermediate to longer term strategic view on the individual life business and are there further things you can do to improve returns on the in force block and then bigger picture do you still want to be one of the biggest seller of life insurance or do you want to narrow the focus of the product set of either what you sell or what Youre <unk>.
<unk> on your balance sheet.
Thank you for the question and let me just start by saying that as we discussed in our upfront remarks.
We were really really pleased with the announcement of the transaction last week and that really goes first of all to our focus on really trying to maximize the value of the <unk> business and we recognize that we have in in force business that has that.
His legacy and we have also communicated to all of you that it has a fair amount of pressure as it relates to free cash flow and also as it relates to our GAAP earnings and at the same time, we feel really good about all of the business that we're putting on the books and so from an overall life insurance business, we feel good about this.
Fact that we are in process right now of very much a capital efficient product mix tilt that has us in this particular quarter with overall.
Life sales that are down year over year.
Targeted it for example in higher indexed Universal life and.
And lower term and so we're going to continue to execute on on all of that as as we go forward and we're also going to continue to look for ways to optimize the end for us and as we mentioned last week and we'll say it again, we know we're not done so we've got more work to do there I think importantly, the headwinds.
And in particular.
The potential for upside and normalization that Chris highlighted in his remarks.
Those will serve both in terms of improving the GAAP earnings profile as well as our free cash flow profile as we move forward.
Thank you and then you mentioned doing regular investment portfolio stress testing and I. Appreciate the additional disclosure you gave I was just hoping you could share some detail on maybe what are the outcomes from those stress tests and the estimated potential credit loss and ratings migration impacts on capital in the stress scenario.
Sure. So I'll take that question as well so we have been talking for some time first of all about the fact that our investment portfolio overall credit quality has been improving and we saw as Chris mentioned, the seventh consecutive quarter now of net positive ratings.
Gration.
We also have talked about the fact that we utilize our multi manager framework across the entire portfolio and so we leverage our external manager then there. They are very professional advice in terms of how we think about potential scenarios and stress testing for particular economic scenarios and.
And in those particular cases, we will go sector by sector. We will go name by name and we will stress test and we will then evaluate potential names and potential credits.
It may experienced significant credit deterioration in the event of a credit cycle and as a result of that over the last five years to six years, we have done some very significant derisking and also shifts in terms of the overall portfolio. So one of the things that we highlighted this morning was within our commercial mortgage loans and I'll come back to Howard.
Just assume that in a moment, but just to give you a sense of how this has worked in terms of the overall shift so over the last couple of years, we have been shifting first of all away from public corporates, we have increased the overall credit quality. So.
If you look year over year, our single a and above has increased by about 200 basis points and the decrease has come from.
Have a lower allocation now to overall triple BS and within there the lowest allocation that we've ever had to triple b minus and triple B minuses on negative outlook and our below investment grade has also decreased by about another 100 basis points and we've shifted out of cyclical sector that tend to not hold up well during an economic cycle.
In the mortgage portfolio in particular Theyre. Some of what we have done is that we have in shifting into industrial in particular, and we've increased our overall industrial exposure inside of the commercial mortgage loan portfolio by about 600 basis points and a negative 400 basis points as Chris highlighted.
Away from office, and another and that minus 200 as it relates to retail as it relates to overall credit.
Stress testing in the commercial mortgage loan portfolio here as well, we stress test the portfolio on a loan level basis and what we do is we evaluate the most recent financial statements will look at the rent roles for each of the properties.
We stress net operating income by property type and for office in particular, we used actual rent rolls.
Actual lease renewal assumptions that were derived from our overall portfolio of surveillance activities and we add that all up together and we are extremely comfortable and believe that any particular credit stress as it relates to the overall portfolio to CML or to office is extremely manageable and will keep us in line with our overall.
<unk> financial plan and all of the expectations that we have previously communicated to you.
Next we'll go to Tom Gallagher with Evercore ISI. Your line is open.
Okay.
Good morning.
Just a few questions I just wanted to confirm the $300 million to $500 million of cash flow for 2023, that's is that after interest expense or before interest expense.
That's after Tom So we create distributable earnings in the life insurance companies.
Bar and so forth.
And then we pay the.
The interest expense as well as the preferred dividend.
As the use of that and what's left is when we think of as the free cash flow sub $3 to 500 is after all of the expenses at the at the Holdco.
Got you. Thanks, Thanks, Chris and then the other.
So pro forma this deal it would be $400 million to $600 million on an annualized basis.
Yes, I think that's right I mean, I understand the math keep in mind that the deal itself creates about 15 points that close right.
But on a run rate basis, yes, we're saying this year three to 500 and then for the deal itself that will add $100 million going forward.
We'll talk more about 2024 and beyond later this year.
But that's the $100 million from the deal on a run rate basis is incremental free cash flow.
Yeah.
Next we'll go to Michael Ward with Citigroup. Your line is open.
Hey, Thanks, good morning.
I was just wondering if you could share any views on the on the S&P capital model changes I know.
New ones just can I ask for it but just curious overall thoughts.
Prior to yesterday.
So.
Michael the S&P capital just came out that the revisions just came out I believe yesterday as you noted.
Our team obviously, we'll go through that.
We don't have any specific comments for you today, what we can tell you is that we know that when the original updates came out we were working very closely with S&P as well as with all of our peers and at the end of the day, we work across the industry to really ensure that there are good models and that they are adequately capturing the potential risks.
And that we're holding capital relative to that and we believe that S&P in partnership with us and the rest of the industry wants to have a good model as well and Thats one of the reasons why I about a year ago. They took all of our comments and they came back with the revision so more to come as we have the opportunity to go through it and.
Speak to our peers speak to S&P and see what the implications are.
Okay, great. Thank you and then on the I guess post the recent deal.
Just curious if that changes your outlook for capital deployment ability or timing and then are there certain product lines that you that you have earmarked that you definitely want to stay and versus product lines from here that you would look to be doing more reinsurance deals.
So Mike I'll take this and then I'll hand, it over to Chris to add anything else. So I wanted to make clear that first of all we have been at really advancing relative to the strategic objectives that we communicated here for about two quarters.
And we are very much focused on as number one the rebuild of capital and number two is the improving of our ongoing capital generation and we've talked to you about a number of initiatives that are underway some of which we're seeing immediate impacts such as the capital efficiency as it relates to our sales.
And some of these are initiatives that are underway now where we're seeing some level of improvement such as the spark initiative and our group protection margins, but some of this we're going to see more as we go forward.
Importantly, as we think about.
Beyond 2023.
Not yet going to provide a specific range. We will do that later on in the year and we will come back what we wanted to share is a couple of things first of all.
As it relates to our four businesses we have.
Three businesses right now.
Our annuities business and the two businesses within workplace solutions group protection and retirement plan services that are both that are all three of them are positive cash flow contributors in lines, where we've talked about the fact that there are pressures.
Announcement of the deal and upon the close of the deal we will be improving that overall position as you know going forward, we feel very good about all of the new business that is going on the books and not only as a capital efficient, but we're also seeing improvement in terms of the distributable earnings and so over time, that's another piece that that's also good.
Going to be supported going forward.
We've got a relatively new team fully engaged fully experience doing a comprehensive review and will be back later this year with additional thoughts around a clear range and how to think about 'twenty four and beyond.
Next we'll go to Jimmy <unk> with JP Morgan Chase. Your line is now open.
Hey, good morning, So first just a question for Chris or maybe Ellen.
The inclusion of the fixed annuity block and the <unk> deal that you did with Florida due to is that just to improve the overall sort of attractiveness of what you were trying to transact for fortitude or is there a strategic reason for deemphasizing fixed annuities.
Yeah.
It's a good question so look stepping back right.
If you think about what we were trying to accomplish last year and into this year as we were thinking about our strategic objectives right. The goal was really how do we derisk the balance sheet.
How do we create capital day, one and how do we improve the free cash flow.
Alright, so we focused.
The <unk> block as a starting point and then said what is the right mix of liabilities to include with that to increase the attractiveness of the <unk>.
Overall, and so where we landed was the optimal mix for us in the transaction with a combination of money guard fixed annuities and Gol and that's.
That's what ended up making the most sense for us so nothing specific about the annuity block itself, but when you look at new transactions Youre always trying to think about what is the maximum economics that you can create relative to the risk that you're receiving.
And then on.
Can you talk about your long term RBC target and I'm, assuming it's higher than 400% given the business mix, but I think at one point from the outside and it seemed like you had to do deals to get to even 400, but now you are getting pretty close to that but do you see do you feel that you can get to whatever your target is longer term through <unk>.
Normal.
Income and cash flow or do you feel that.
It's reasonable to expect additional transactions over the next one to two to three years.
So Jimmy that's a great question, let me step back and just talk to you about a couple of different ways to think about our free cash flow improving over time, and obviously that would lead to growth in the RBC.
As it relates to what we think the long term target is I would say that it.
It'll be over 400, but we're not.
We're not we're focused on getting back to 400.
In the near term, but if you step back and think about the free cash flow.
Profile.
I would really say that theres three things.
That would be drivers to improvement overtime right. So the first is that there is a timing issue right and we've spoken to this in the past if you think about the.
The pre pre PBR life products right the capital profile of them is not.
Linear year to year right and so what we're dealing with today is some of the increased reserves.
And capital associated with that block of business, but overtime that will lessen as the headwind at the same time.
As it relates to the Gol block, which we've talked about extensively alright, we are dealing with some of the headwinds there.
And so you're building reserves and holding capital, but that also gets better over time as you naturally built to the level that you need to get to so part of it is just timing.
The second thing I would say is that we are as Alan mentioned and we've talked about on multiple times, we're being more efficient with the capital that we're deploying.
And so we've mentioned the fact that we're deploying $300 million less new business capital year, and still trying to generate a similar level of sales and importantly, a similar level.
Not more of expected aggregate. They all know sales. So philosophically if you move to a focus on capital deployment and return on that capital you will begin to compound over time and so when you look out a few years after we've gotten gotten through the trough that we have right now on cash flow, we ended up being a much more capital efficient company.
And then the last driver is really what you would think of as management actions and we can break that down into three categories. So the first is simply improving the real economics of the business, so increasing premiums increasing revenues, reducing expenses right and really improving the fundamental economics of the business that's going to give you the best source of upside given the run rate nature of it and so you are.
Already starting to see this in our workplace business right. Our group margin. This quarter is a perfect example of that.
The second area in terms of management actions and this is really what I would call balance sheet optimization, we have a relatively straightforward structure, we do have the Barbados entity, but other than that we're relatively simple in our structure relative to the peers in the industry. So are there ways to optimize our business that create efficiencies and improve the cash flow there and then the last.
Area within the management actions is obviously inorganic solutions. An example, theres what we discussed last week with the reinsurance transaction. So we're not going to walk you through all the different math behind each of those things, but hopefully that gives you a sense as to when you think out over the next couple of years, where what the drivers to the higher free cash flow are you can start to understand the path.
Yeah.
Next we'll go to John Barnidge with Piper Sandler Your line is now open.
Good morning, Thank you very much for the opportunity My question is about.
The commentary about retail and group protection employee pay group protection sales was 70% from 57% a year ago.
Quarter volatility with composition of products, what kind of what level, you're trying to get there. Thank you.
Sure. So so Jon I'll take that so first of all as we look in particular at group protection.
And we're clearly seeing a very strong overall supportive macro environment.
For the growth in.
In terms of top line and also in terms of the overall margin and profitability. So just when you think about for example, the fact that we have been in a period of higher wage inflation number one number two tighter labor market, where it's that much more important for employers to be providing strong <unk>.
<unk> to their overall employees.
That's one thing that's very important.
Secondly, as it relates to that wage inflation and additional dollars in the pockets of the employees. We are seeing an increase and we saw it again in the first quarter of more employee direct participation in overall benefits. So the experience that we had in the first quarter.
And be mindful also that for US first quarter represented about 16% of the overall sales for group protection.
For the year, but in the first quarter.
We saw our overall sales were up year over year by 22%.
And within that 22% about a 50% overall increase in employee paid so employees electing their own voluntary benefits and then within the overall sales about 25% of those overall sales were in supplemental health and so.
We have been very much focused on growing supplemental health.
Not only are they important benefits for our overall employees and really they also from an overall margin perspective, they will be very supportive of our long term goals of sustaining our margins at around the 7% range. So we feel really really good about that and just overall in general as it relates.
To the overall group protection business and what we're seeing there I'll make a couple of other comments. We are very focused while we talked about the fact that overall premium grew 7% year over year. We are very focused on premium growth that meet our overall objectives capital efficient driving profitable.
<unk> growth and we recognize also that the value proposition within group is not solely about price. It's also about the overall customer experience customer satisfaction and so we're doing an awful lot to invest in the business. We're investing in the claims organization, we're investing in the technology to really improve the overall.
Experience and differentiate ourselves and so we really believe that this at the end of the day is a real opportunity for us going forward to continue to to really focus on the overall growth of this business and we're excited to be reporting back to you as we continue to grow the business.
Thank you for that my follow up.
Can you talk about maybe how annuity and life insurance surrender activity trended as the quarter progressed with a step function higher in March given some of the volatility in the market that emerged thank you.
Hey, John It's Chris sure. Its a good question and you can see in the stats up increased surrender rates and.
And the annuity block what I would tell you is a couple of things one.
Surrenders were in line with expectations and so given the rate environment and the surrender profile looks.
We would expect the.
The second thing is just keep in mind, we arent giant fixed annuity writer historically.
We love the product and we have decent sales, there and so forth, but relative to our peers in some cases and just thinking about the overall mix of our business fixed annuities.
It has not been as big of a sales driver for us going back.
A long way and so when you look at our portfolio. We do have elevated surrenders relative to the past couple of quarters, but thats to be expected with the.
With a higher interest rate environment and then the last thing I would say is when you look at our numbers. They are on a gross basis, alright, and so we have some relatively large fixed annuity reinsurance deals and so there will be an offset as it relates to the ceded surrenders that flows through.
The net aggregated lines, so hope that helps.
Okay.
Next we'll go to Ryan Krueger with <unk>. Your line is now open.
Hi, Thanks, Good morning, I had a question on the reinsurance transaction is there any residual exposure from experience on the block over time or was 100% of the risk on those seeded block.
Fully co insured.
So Brian that's a good question I mean, youre always retaining some risk right. So in the case of this transaction, we are retaining the risk of future Y R. T increases onto <unk> as an example, but we think the risk is manageable. We've recently renegotiated rates on the majority of that I think the number was.
Close to 80%.
So.
It's a complex deal.
There will be risks that we retain.
As part of any transaction, but if youre asking about the wire T. That's how I would answer that.
Thanks makes sense and then.
You mentioned that you feel like you have you're in an excess capital position at Lindbergh at this point.
Would you anticipate being in a position to resume dividends out of limb bar in 2024.
So great question, Ryan a couple of things one.
No.
We are seeing excess capital there, but I would say markets were up 7% in the quarter. So we went a little bit of time to see how the year progresses.
I would say that we would.
Feel comfortable taking excess capital out later this year.
As we watched the hedge program performed as I mentioned in the script.
Our hedge program performed really well in the first quarter.
But we want to see a couple more quarters before we think about taking excess capital out there.
The other thing I would mention is just from a dividend perspective going forward, you will see dividends coming out of Lindbergh on a more regular basis and so this quarter, we took a $100 million out, but I wouldn't characterize that as all free cash flow. So starting this year. There is a holding company expense related to the hedge pro.
Graham and Limbaugh, that's paid out of the holding company, but it has an offsetting interest income stream and lumbar youll see dividends on a more regular basis to some degree, but it's really covering some of the holding company expense.
So as it relates to the excess capital.
Yeah.
Behind the VA block the hedge program is performing well, but we want to see a couple more quarters before we start to think about.
Taking some of that up to the holding company.
And that concludes today's question and answer session and that's all the time, we have for today I'll now turn the call back over to Al <unk> senior for any additional or closing remarks.
Thank you all for joining us. This morning, we're happy to take any follow up questions you have E.
E Mail lists at Investor Relations at LFG Dot com, Thank you and have a good day.
Okay.
And that does conclude today's conference. We thank you for your participation you may now disconnect.
Okay.
This conclude today's conference we thank you for your participation.