Earnings Call: Q1 2022

May 31, 2022

Summary

Q1 comprehensive income was ILS 352 million and ROE was 15.5%, supported by core-business growth and a positive net interest-rate/market effect. P&C premiums rose 12%, though motor claims and market volatility weighed on results; a ILS 421 million dividend and ILS 56 million buyback were completed.

Hello, this is David Alexander, Deputy CEO of Phoenix Holdings and responsible, in addition to other things, for investor relations. Thank you for joining us today for the financial review of the first quarter of 2022. Today's call will be led by Phoenix CEO Eyal Ben Simon and CFO Eli Schwartz. During the call, we will review the performance of Phoenix during the quarter. You can find the presentation referred to during our call today on our website or on the website of the Tel Aviv Stock Exchange. The presentation provides highlights of the financial statements published this morning. Following the presentation, we will have time for Q&A. We will discuss answers that were provided during the Hebrew earnings call today. Please feel free to send any additional questions you may have to our investor relations address, which is ir@fnx.co.il, or to any one of the three of us individually. The IR email address is included on the final slide of the presentation. We will be happy to answer your questions individually or to schedule a call to discuss. Please note that today's call may include future forward-looking statements that may be impacted by factors that cannot be anticipated in advance. There is no certainty that the actual results and achievements of the company in the future will be in accordance with the views and expectations presented during this call. Eyal Ben Simon, CEO of Phoenix Holdings, will initially present the highlights of the first quarter, and then group CFO Eli Schwartz will review the financial results of the group in greater detail. Hello, and thank you for joining our call today. Phoenix is a leading Israeli diversified financial group engaged in insurance, asset management, credit, and distribution. We are widely recognized as a leader in the markets in which we operate and in the insurance market in particular. The group has a track record of strong double-digit growth and strong performance over the cycle, including over 15% return on equity over the past five years. We currently manage roughly ILS 370 billion, which is over $100 billion. While the Israeli economy is still strong, we are seeing an increase in inflation, which was 2.8% for 2021 and 1.5% during the first quarter this year, not annualized. As a result, the Bank of Israel is raising interest rates, reaching 75 basis points, with more to come, which is increasing economic uncertainty and capital market volatility as we see globally. At the same time, the positive long-term trends, especially wealth accumulation and growth in GDP per capita, remain strong. During the first quarter, the group was able to maintain strong performance despite the volatility in the capital markets. Return on equity was 15.5%, and comprehensive income was ILS 352 million. This includes interest rate and capital market exposures, which offset each other and created a net positive effect of ILS 131 million for the quarter before tax. Assets under management had a small net gain, remaining stable at ILS 370 billion. Shareholder equity was ILS 9.5 billion after a dividend distribution and share repurchase that was made this quarter. Under Israeli regulations, we report solvency for December in May, and it was 190% with transition measures. These strong numbers and the diversification of income we are seeing are a result of the group execution of our strategic plan across our businesses. Our strategic execution focuses on value creation across the group. In our insurance business on the left side, we are driving growth in the capital-efficient P&C business with strong direct distribution. We are also using a dynamic investment management approach to drive risk-adjusted returns in this volatile period, and we are continuing to become more efficient. Our other businesses on the right include asset management, credit, and distribution. Here, we are accelerating growth with focus on profitability and revenue growth. We aim to diversify and shift the mix to higher return on equity activities while creating financial resilience and stability in those volatile markets. During Q1, comprehensive income was ILS 352 million, similar to the first quarter of last year, and despite capital market declines. First, we saw growth in our core business, which is the key metric that we are tracking, from ILS 111 million to ILS 131 million in insurance, and from ILS 76 million to ILS 94 million in the additional core businesses. The total core business grew from ILS 187 million to ILS 225 million. Second, we were able to generate a positive financial margin this quarter, where the gains from increasing interest rates were higher than the impact of capital markets, negative impact, of course. And third, special items this quarter included unlocking value in a real estate asset in Tel Aviv called Phoeniclass. At the end of the quarter, we were managing ILS 370 billion in assets under management, with a small net positive asset under management growth during the quarter. This increase was achieved based on organic growth and net inflows, despite negative capital market returns. Organic growth in premium and contributions can be seen in more detail during the quarter. Provident and pension contributions grew significantly compared to last year, as did saving policies. P&C premiums increased by 12% compared to last year. We concluded the quarter with ILS 9.5 billion in shareholders' equity after a dividend distribution of ILS 421 million and share buyback of ILS 56 million in the first quarter. The dividend policy specifies semi-annual distribution with a total annual dividend of at least 30% of income, where the split between the two payments will be at the company's discretion. During the quarter, we continued to execute against our strategy across the group. Here you can see in greater detail our strategy based on our four businesses or growth engines: insurance, asset management, distribution, and credit. The pillars are four value drivers. First is accelerating our growth as we continue to shift our business mix to high return on equity capital-efficient business like P&C, asset management, and distribution. Second, we believe innovation and efficiency can create a sustainable competitive advantage, and we are making significant investments in technology that are reducing costs and increasing clients' satisfaction. Third, we continue to actively manage our business to optimize the composition of our portfolio, manage our structure and people, and identify synergies to unlock and create value. Finally, we are managing our balance sheet prudently and deploying capital strategically in order to reduce volatility and ensure long-term cash flow generation. We are managing these levers across each of our businesses. Here are some examples of strategic initiatives during the first quarter. We continued to grow in key strategic areas with high returns of capital during the quarter, including P&C insurance, driven in part by direct channel Smart. In innovation and efficiency, we launched a new travel insurance app, strengthened the group data capabilities with the appointment of a chief data officer, and merged the provident operational activities to the rest of the provident and insurance activities. Active management included leadership and structural changes at Excellence and building strong alternative investment unit, as well as we nominated new Chairman to Gama, Erez Yosef, with a lot of experience behind him in Bank Hapoalim. Regarding capital optimization, we unlock value through restructuring holdings in real estate, Phoeniclass, as well as performing ILS 56 million in share buybacks out of the ILS 100 million approved plan that we approved already at the end of Q4 2021. We continued to make progress toward our group targets, including assets under management, equity, income, and return on equity. Income was ILS 352 million for the quarter, which on annualized basis puts us within our medium-term target range. We achieved a return on equity of 15.5%, despite a negative 20 basis point loss in our corporate nostro account, which was offset against revenues recorded due to the interest rate increase and created a positive financial margin and is also in line with our medium-term target range. During the quarter, continued growth was complemented by the dynamic investment management of interest rate and capital market exposures, which offset each other and allowed the strong operating performance to reach the bottom line. If we drill down into our insurance targets, we see continued growth in P&C premiums and continued declines in expenses ratio during the quarter. Solvency with transitional measures is on path to be above the target range in the medium term, but within the target range in the longer term, as the transitional measures are reduced. Income is growing, which is important for us. We are showing a continued improvement in underwriting profitability as part of the strategic plan. Beyond insurance, we are also seeing improvement across the group's other core activities. Pension and provident contributions have increased from ILS 1.9 billion last year to ILS 3.1 billion this year, and agencies' revenues have increased from ILS 134 million last year to ILS 180 million this year. These businesses are an important source of value creation for us going forward, and we continue to manage them actively. As we look ahead at the rest of 2022, clearly there are some outstanding questions about inflation, interest rate, and capital markets. We continue to use a dynamic and risk-adjusted approach to investment management. We are also continuing, at the same time, to execute our strategy, which we believe is the way to future growth and managing the volatility and providing strong risk management and stability for the group. We are seeing increasing opportunities in Israel and elsewhere that we hope to capture in the coming quarters. I would like to hand over the presentation to Group CFO, Eli Schwartz, who will review the financial results in more details. Please, Eli. Thank you, Eyal. Of the total of ILS 529 profit before tax in the quarter, profit from operation contributed ILS 337 million, significantly more than last year. Here we see the interaction between the negative investment contribution and positive interest rate effect. The two set off each other with a net positive effect of ILS 131 million. We can see a positive spread generated by the change in the interest rate and the impact from the capital market in relation to the 3% real return on investment. Keep in mind that the investment contribution are compared to 3% real yields, so the ILS 668 negative effect was compensated by 3% yield, not an actual loss. In the first quarter, comprehensive income was ILS 352 million. P&C contributed a negative of ILS 142 million due to negative capital market effect, as well as challenging cycle for motor insurance. Health contributed ILS 655 million before tax, primarily due to interest rate effect. If we look at the addition core business in orange, we see the results of the strategic diversification. Agencies contributed ILS 72 million compared to ILS 52 million last year, and pension and provident contributed ILS 22 million compared to ILS 14 million last year. These results help, especially during a period of capital market declines, to spread out the profit, as well stated a strategic plan. Phoenix's balance sheet provides financial resilience and flexibility due to the company's low leverage. Total balance sheet size was nearly ILS 150 billion. One of the group's strengths and in the capital of the Phoenix Insurance is the solvency ratio. In line with Israeli regulation, we are today publishing solvency results for December 2021. The solvency ratio was 190% with transition measures, similar to 192 solvency at the end of 2020 and above target. We are actively managing our capital to improve the deployment and efficiency. This includes building our economic capital, which increased by 14%. It also includes initiative to reduce the SCR, such as reinsurance. Phoenix Insurance distributed during the report period a dividend of ILS 1.1 billion, and also made a number of changes intended to strengthen the insurance company capital. With respect to cash flow, we have diversified cash flow generation across the group. In terms of accounting, we are preparing the IFRS 17, which will reduce the volatility and accounting exposures. Now we will review each segment in more depth. The P&C segment contributed negative of ILS 142 million to profit before tax. The business grew premium by 12% compared to last year, both through agency, but especially due to growth in Smart direct channel. However, there was significant negative contribution from investment, as well as underwriting in motor vehicles. The motor segment is experiencing a strong cyclicity to frequency and severity, to a large extent due to a post-COVID inflation, which we see also international market. We believe that based on our strong analytic capabilities, there is a further opportunity here. The health segment contributed ILS 655 million profit before tax during the quarter. This was due primarily to the interest rate effect on the long-term care reserve. Special item includes income from Phoeniclass Tel Aviv Real Estate Holding, following the transfer from the group level to the long-term care reserve. The life segment contributed ILS 164 million before tax. Results were positively impacted by ILS 278 million in interest rate effect, which were offset by ILS 133 million in investment effect. In addition, due to the negative return in capital market, the company was left with a gap of variable management fee in amount of ILS 113 million at the end of the quarter. Other equity return in the insurance business contribute a negative of ILS 278 million due to the capital market effect. You can see a shift from insurance and the other core business. We see the advantage of the strategic diversifications. We are also starting to see a synergy in pension and provident funds, which contribute ILS 22 million compared to ILS 14 million last year. Here we are seeing the effect of the scale of the Halman merger from the last year. In the investment service segment, most of the decline in Excellence is explained by customer acquisition expense as part of the growth plan, private brokerage, and active funds. In addition, the company has made a structural change with the aim of improving management capabilities and reducing staff cost. The group agencies continue to grow both organically and inorganically, contributing ILS 72 million compared to ILS 52 million last year. We continue to seek organic growth as well as acquisition of similar agencies. The credit segment, primarily Gama, contribute ILS 12 million before tax. Credit card transaction volume continue to grow a fast pace, up to 20% versus last year. More importantly, the SME credit portfolio without credit card grow to ILS 1.6 billion, up to 63% in the past year. Other activity didn't have significant impact on the group results. Thank you, Eli. We'll now discuss questions that were answered during the call in Hebrew. If you have any additional questions, please send us an email to the address that appears here, ir@fnx.co.il. We'll be happy to answer your questions in email response or to schedule time to discuss the earnings and your questions in more detail. The first question: Clearly, capital markets and interest rates were significant factors in the first quarter. Do you expect similar offsetting behavior between interest rates and capital market effects in future quarters? First it depends on the markets. Since the end of the first quarter, interest rate have continued to increase further, and capital markets have been more volatile. The directional effect can be expected to be similar, but the end result will be definitely depend on the magnitude of each and every element, whether it's the interest rate goes up more or capital markets. But a very important thing regarding that is that, as we mentioned during the presentation, that we keep to be very dynamic and very proactive on one end and risk-adjusted management on the other end. I believe that although each and every day is very challenging, but to be with two strong hands on the wheel. Second question: The car insurance segment is experiencing poor performance. Why are you seeing the impact now in the first quarter since the increased costs happened during 2021? What are you doing to correct this, and what is the timeframe? Okay. First, the cycle usually it's between 18 to 24 months, and it started almost a year ago. As mentioned in the question, this quarter we saw the overall impact of the market, both in terms of frequency and severity, and the accumulated impact of inflation, which was less than the U.S. and Europe, but still meaningful for this business. We have adjusted our businesses. We have started to adjust, back in 2021, our businesses to the changes in the market, to the frequency and the severity. As mentioned in the question, we have started to see it more than half a year, even closer to a year ago, and we started. I believe that, I don't know exactly where we are standing at the bottom of the cycle. We started to climb out of the cycle, that would actually, I assume, but still, Phoenix is coming with very strong tools to this cycle, running a very strong direct activity. We started to implement already machine learning and based on data pricing models, and very strong capabilities and management skills. So I believe that once the cycle is over, we'll be in a much better shape. Next question. Are you making changes to your strategy given the changing market environment? Well, our strategy is designed to be a long-term strategy, and it is the right approach to value creation in our business. We started it 2 years ago during the COVID or the big COVID event, and we focused on that strategy. We upgraded and updated it a quarter ago. We believe in this strategy. We also examined it, and we see the outcomes of it the last few quarters. In the short term, we are, of course, making adjustment based on what we are seeing and expecting in the markets, especially around investments and exposures. Next question. Are you planning to distribute a mid-year dividend? Definitely, yes. Next question. You have published that you plan to save costs in addition to the ILS 150 million that you already saved, and in a similar amount. When will we see this? As you could see, we published our efficiency targets, new efficiency targets, and we stick to the targets, and even we show improvement. As I said, we didn't upgrade because it wasn't in the first strategy presentation, but they are very challenging. We continue to improve efficiency each and every quarter. As I said, we published efficiency metrics and targets to show our progress. When we grow, sometimes the efficiency is seen in our ability to grow the business while maintain previous fixed cost levels. More than that, we published that we merged our operational systems between provident pension and life savings to improve efficiency. We said, and it can be seen, we invest part of the savings back into technology, in data, in transforming the digitization execution or the digitization activity to make it much better. We are keeping with our cost plans, and we managed to save. On the other hand, as I said, we reinvesting it or part of it back into the technology. Next question. How much does the capital market volatility impact your appetite for additional debt and equity deals? Is your risk management policy for new investments going to change in light of the market uncertainty? We still have a significant appetite and are making deals, of course, with terms and reflect market trends and realities. We actually adjusting our investment policy and investment appetite to the market trends. Of course, as I said, we insist on building a very strong infrastructures in investment. I believe we're best in class in that aspect, and we're using that capability of having a very, very strong management and investment skills to actually see the opportunities in markets or in volatility times and also in good times. I believe that the appetite eventually is more question of alternatives and opportunities than volatility. Those were the questions that were answered on the Hebrew call. If you've asked a question via email that was not included in this list and have not received a response, we'll follow up with you directly and be happy to answer your question. Investors are welcome to contact us at any time, either individually or by email. We'll be happy to answer your questions and to schedule a call to discuss. As a reminder, you'll find this presentation and other materials, the financial statements and so forth, including a recording of this call, which will be available tomorrow. All of this is available on our website. Thank you again for joining the call.