Earnings Call: Q2 2022

Aug 25, 2022

Summary

H1 income reached ILS 537 million, with 11.4% ROE despite major investment headwinds. Core businesses grew over 30% YoY, while fee-based activities and diversification remain key strategic priorities.

Hello. This is David Alexander, Deputy CEO of the Phoenix Holdings. Thank you for joining us today for the group's financial review for the second quarter of 2022. The call will be led by Phoenix Holdings CEO, Eyal Ben Simon, and CFO, Eli Schwartz. In today's call, we will review the group's performance in the second quarter of 2022 and the first half of 2022. The presentation for the call can be found on our website or on the Tel Aviv Stock Exchange website. The presentation provides key points on the financial statements released this morning. At the end of the call, we will leave time to answer questions that were discussed today on the Hebrew call. You can send any additional questions to us individually or to the email address ir@fnx.co.il. The address also appears at the end of the presentation and on our website. We will also make ourselves available to meet individually with investors to discuss the quarter and the half's performance, strategy, and any questions you may have. Please note that the call will include forward-looking statements and that actual future results may be different. First, Eyal will present the main results for the second quarter and the strategy highlights. Then Eli will review the financial performance in more detail by segment. Hello, and thank you for joining the call today. The Phoenix is a leading diversified financials group in Israel with four main businesses: insurance, asset management, credit, and distribution. The group has a strong performance over the cycle, a strong balance sheet and solvency ratio, and over 100 billion dollars under management. A background: Israel's economy continues to perform well compared to the key OECD peers, with continued growth of over 6% annualized in the second quarter and inflation of 3% in the first half of the year. From the perspective of the Israel economy, as in other economies, the continued increase in inflation and the continued increase in the interest rates both increased uncertainty and capital market volatility. Market conditions negatively impacted our results this year, but also highlighted the advantage of our diverse business and our continued path of profitable growth. We are optimistic about the medium and long-term trends of the Israel economy, including high rates of productivity and capital accumulation. Despite the effects of the capital markets, the Phoenix delivered a return on equity of 11.4% in the first half and income of ILS 537 million. In the second quarter, the return on equity was 7.9% and income was ILS 184 million. This morning, we announced a dividend of ILS 160 million, which is ILS 0.64 per share. This is in line with the semi-annual dividend policy updated earlier this year. This performance and the updated dividend policy reflect the stability of the group and its ability to generate income and cash during volatile conditions. The first half of the year saw profitable growth in our core businesses, which grew at over 30% year-on-year. The profitability and return on equity highlight the resilience of the group structure. As part of our strategy, we continue to grow fee-based businesses, including asset management, agencies, and credit. These businesses are capital efficient and generate attractive margins and cash flow. They complement our traditional strength in insurance and are relatively stable with less capital market impact. This capital market impact is in part balanced by positive impact from increasing interest rates and special items, and we have seen improved investment performance in the third quarter so far. On the insurance side, we continue to grow our P&C business while focusing on profitability and dynamic investment management. We continue to invest in innovation and are seeing improved efficiency and client satisfaction. At the same time, we are accelerating growth in our additional core businesses, asset management, credit, and agencies. This quarter highlights the value of this strategy as they have improved income and resilience while continuing to grow. To understand performance this year, we break down income from core businesses versus the effect of investment and interest rates on one end and special items on the other end. During the second quarter, total comprehensive income was ILS 184 million, with growth in the contribution from core businesses. Insurance contributed ILS 287 million and additional core businesses ILS 99 million. You can see the negative impact of investment after interest rate offsets in the amount of ILS 385 million in the second quarter. For the first half of the year, total comprehensive income was ILS 537 million, with over ILS 600 million coming from core businesses before capital market impact. The growth in core business income points to a positive trend in performance, and we plan to continue executing our strategy that focuses on increasing income and stability from these activities. As of the end of the first half of 2022, the group managed over ILS 360 billion, over $100 billion. The relative stability during the first half of the year, despite negative market returns, is due to continued strong inflows across our activities. Since the end of the second quarter, assets under management have increased as market performance has improved. A key measure of growth is the total amount of premiums and contributions across the group. Both in the quarter and in the first half, we see strong growth compared to last year, which was a peak year for the group. This includes the areas we are targeting for accelerated growth, such as asset management and P&C. Today, we announced a dividend distribution of ILS 160 million. This is in accordance with our updated dividend policy of semi-annual dividend, with a total annual amount of at least 30% of annual income, with the amount of the initial payment being at the discretion of the company and not including share buyback, which are accounted separately. Under our policy, we expect the next distribution to be after the publication of the annual report. The group's equity continues to grow, reaching over ILS 9.7 billion at the end of the second quarter, following a dividend of ILS 421 million and share repurchase of ILS 56 million executed during the first half of 2022. During the quarter, we continued to implement our group strategy across the four growth engines: insurance, asset management, distribution, and credit. The strategy consists of four value drivers. The first is accelerating growth in high ROE activities and shifting our mix to more valuable capital-light activities. Second, we continue to organize for innovation, efficiency, and client satisfaction, deepening our competitive advantage. Third, we actively manage the group and our business portfolio to unlock and create value. Fourth, we are increasingly deploying capital effectively against our priorities to reduce volatility and generate higher returns. We manage each of these value drivers across the group's activities. We can see a number of examples of the strategic advancements we made during the quarter. We continue to show strong growth in P&C, asset management agencies, and credit. We are investing in innovation and analytics and rolling out deeper digitization across activities. We received high satisfaction scores from clients for the last year and are working to improve. Third, we have reorganized our private client alternatives platform to drive growth and are building our offering of Phoenix and third-party products. We increased our investment in Gama, providing equity to drive growth in SME credit, and we continue to grow inorganically in the agency business. Some of these moves have unlocked the value of balance sheet assets reported as special items in our financials. Finally, we are deploying capital and investing to optimize risk-adjusted returns. The strategic goals we have set for the group are for the medium term, but we can track progress quarterly, even in volatile market conditions. Assets under management have not increased during the first half due to market performance, but we continue to see positive net inflows across activities with accelerated contributions in key areas. We are growing group income from core businesses and believe we are on track to reach growth targets. At 11.4%, return on equity was below medium-term target range of 12%-15%, but strong considering negative nominal as well as real Nostro yields in the first half. In addition, the Phoenix Insurance changed the minimal solvency ratio without transition period from 108% to 111%. These are selected targets for the insurance business. We are seeing a continued increase in premiums in P&C and continued decline in expense ratio. Most importantly, we are showing a tangible improvement in underwriting profit as part of the strategic plan. Beyond the insurance activities, we also see an improvement in the group's other core activities. Pension and provident contributions increased from ILS 4 billion in the first half of 2021 to ILS 6 billion in the first half of 2022. Revenues from investment services increased from roughly ILS 250 million to ILS 350 million, and from agencies from ILS 280 million to ILS 390 million. In the bottom line, these activities contributed ILS 193 million compared to ILS 156 million last year, on track for significant growth toward our target range of ILS 650 million-ILS 700 million annually. These activities are creating significant value for shareholders, and we are focused on continuing these trends. Going forward, we continue executing our strategy to increase growth and diversification. We are investing in capabilities. There is no better time to build skills and infrastructure than these times. We are investing for risk-adjusted returns, taking into consideration changing macro conditions in Israel and internationally. We continue to look at strategic opportunities during this volatile period with a disciplined approach. I would now like to hand over the presentation to Eli Schwartz, the group's CFO, who will review the financial results in more detail. Thank you, Eli. Thank you, Eyal. The total pre-tax income in the first half of 2022 amounted to ILS 739 million. An increase was recorded in profit from operation, which reached ILS 925 million, significantly more than in the first half of 2021. We can see improvement in all areas, especially underwriting pension and provident funds and agencies. On the other hand, we see a large negative impact of investment of over ILS 1.6 billion compared to 3% real returns. This is offset significantly by interest rate effect, creating a net negative financial margin of ILS 451 million. The total income before tax in the second quarter of the year was ILS 209 million. Here too, we see the income from operation increasing to ILS 586 million, with significant negative financial margin and positive special items. Looking at the breakdown of the segment in the first half of the year, we see a mix of results in the insurance business. Negative impact of investment, especially in the P&C business and other equity returns, with a strong contribution in health and life. Most important, however, we see a strong contribution of additional core business in orange, with a count of ILS 408 million out of ILS 739 million pre-tax income. In the second quarter, the group total income was ILS 184 million. Insurance was impacted negatively by investment in the P&C other equity segment. The additional core business, on the other hand, drove performance during the quarter, contributing ILS 277 million before tax, with a growth deriving by the group strategy. This shows the advantage of having a broad group business, which creates diversification and stability. Phoenix balance sheet provides financial strength and flexibility due to the company's low leverage. The total balance sheet size is roughly ILS 150 billion. We will now review each segment in more detail. The P&C segment recorded a loss of ILS 234 million pre-tax income in the first half of 2022. This was due to a negative investment impact of ILS 379 million. Underwriting profit was ILS 77 million during this period, almost all of it in the second quarter. We saw an increase of over 20% in premium compared to last year, in part due to the Smart Direct business. If we look closer at the underwriting profit in the box on the bottom left of this slide, we see an improvement in motor between the first and the second quarter. Compulsory Motor increased from ILS 10 million in the first quarter to ILS 35 million in the second. Motor property losses improved from ILS 64 million to ILS 35 million, still impacted by high claim frequency, but a better loss ratio. We are seeing an improvement after several quarters in this cycle and hope to have a better second half of the year. In the first half of 2022, the health segment contributed over ILS 840 million pre-tax income profit. This was improvement in the underwriting profit, but most of the contribution was from a release of a large reserve due to the high interest rate. Phoenix still has more than ILS 400 million LAT reserve remaining, which can be released if the interest rate increases further. The life sector contributed ILS 478 million pre-tax income in the first half of the year. Underwriting profit increased from ILS 46 million last year to ILS 156 million this year. The sector results was positively impacted by increase of ILS 397 million, influenced by increase of the interest rate, which was offset by a loss of investment. With the special items, there was a significant positive effect of the take-up rate study discussed in the previous quarters, partially offset by update mortality tables rates. The net results of these two items was positive of ILS 98 million before tax. Other equity returns had a negative impact of ILS 756 million pre-tax income due to investment and capital market effect. In the other core activity, we can see contribution of strategic diversification in the group. In the pension and provident funds segment, income before tax in the first half of 2022 was ILS 59 million compared to ILS 29 million last year, increasing income by 2 times due to the synergy from the Halman-Aldubi acquisition complete last year and the significant economic scale given a base of mostly fixed cost. In the investment service segment, income of ILS 147 million was recorded in the first half of 2022. This was due to a part one-time profit from reorganization of the group alternative investment business, unlocking balance sheet value. The recognition also create an effective platform for managing alternative investment and distributed to private client in Israel. Our agencies continue to grow both organically and inorganically. They contributed ILS 167 million pre-tax income in the first half of the year compared to ILS 111 million last year. We continue to promote organic growth as well as merger and acquisition of small agencies, and we see a growth of economic of scale in the efficiency platform. Gama contribute ILS 24 million pre-tax income in the first half of the year. The volume of the credit card activity continued to grow rapidly and increased by 19% compared to the previous year. More importantly, the company credit portfolio is above ILS 1.8 billion, an increase of 68% in the past year of over 100% in 11 months. To support further growth, Gama raised equity through a rights offering led by Phoenix and also ILS 500 million in bonds. Other items contribute ILS 11 million in the first half of 2022. Thank you, Eli. We will now review the questions that were discussed in the conference call in Hebrew today. If you have any additional questions, you are invited to contact us, and we will be happy to answer the questions directly or to schedule time to discuss or have a call. The first question: We see some improvement in the automotive sector, but will it return to profitability, and when? Okay. So, actually, it will come to profitability. There is no other opportunity. We see adjustments to the increase in prices and increase in, of course, severity and, of course, frequency, and those adjustments will eventually come up to become a profitable business. We don't know if it will happen in next quarter or in 2 quarters, but definitely in 2023, we will see much better profitability, much better results. Second question: Given the growth and opportunities in the market, is it worth distributing a high dividend? Well, first, our dividend policy said that if we unlock profit or we make profit, the results are positive, so dividend is part of the policy that we just published. Dividend takes into consideration several factors, as you all know, growth, investments, equity, needed solvency, and other elements. We see as a normal course of our business to pay dividend, and this what we actually eventually decided to do. We still look on opportunities in the market. Of course. As we mentioned before, dividend is part of the policy, but also part of the economical decisions that we make, including opportunities that might come over the cycle. The next questions. Investments are having a big impact. What are you doing to lower dependence on capital markets? Well, we've said that already two years. Our strategy actually is shifting to fee-based businesses versus volatile income. Although we improve our income from insurance as well, but also, as I said, moving to a less volatile areas, fee-based business. This is, as we said, our strategy. Next question. You mentioned alternative investments for private clients. What's the strategy of Phoenix in the area of alternative investments? Well, we just set half a year ago or almost a year ago, the foundations and the relevant infrastructure to build a full platform for the Israeli private clients. We believe that in the near future, these clients or the demand for such products will increase because of the developing of the Israeli market. Also, we believe that such development of relations with leading players internationally and, of course, find a way to cooperate or to collaborate between our knowledge and investments to the local private clients will contribute positively in the near and far future. Next question. What is the strategy in the area of credit, and when will there be consumer credit? First credit, already we put that as a specific element in our financial. We put it separately, and we started half a year ago to- A different segment to publish, yeah, as a different segment. On the consumer credit, as we published half a year ago, we hired a team to run actually the base, the foundations of building consumer credit. I believe soon we will come up with a new loan. It will not take, I believe, more than a year, hopefully. As we said, we believe in that segment, and soon it will come up. Following the Max deal where Clal Insurance Group signed a deal subject to approvals to acquire a Max credit card company, are you interested in acquiring a credit card company? As we said, credit is something we are interested in. We believe that credit is part of the strategic roadmap of Phoenix. Of course, we always examine the opportunities, and in the right price, I believe, and of course, the right terms and conditions, it would be interesting. I would like to mention that we believe that doing things at the right price is more important than doing things. So, when it comes and we will find the right opportunity, we will be there. In the annual reports, you presented strategic goals for 2025, and you repeated them in the quarterly reports as well. Because of the external changes at the moment, are these goals still achievable, and do you ratify the goals of the program? We didn't mention any change in the presentation, so we stick to our strategy. We believe it's achievable. We knew when we published it that there might be volatile times in the market, and we don't see currently a reason to back off the numbers. As I said, it's achievable. We stick to the program. We are working very hard to make it happen. As you can see, the numbers are there, and we believe we'll manage to achieve them. Next question. It seems that special items have contributed significantly to profitability in recent quarters. If there was a stable capital market and there were no special items, what kind of profitability levels should we expect? As we mentioned in the presentation, the medium target of the return on equity is between 12%-15%, roughly ILS 1.5 billion. Thank you. Those are the questions. If you've sent us additional questions via email and have not received yet a response, we'll make sure to follow up with you directly. Investors are also welcome to contact us directly at any time via email or by phone, and we'll be happy to answer any questions or to schedule a call to discuss in more detail. Lastly, you'll find the presentation that we reviewed on this call and the other materials, the financial statements, and also a recording of this call on our website. The recording should be up tomorrow. Thank you again for joining the call.