Good morning, everyone. This is day three of the Raymond James Institutional Investors Equity Conference. We appreciate everyone coming here on a Wednesday morning. Next company, which is Aflac. We have the stock rated as strong buy. We believe there is a number of catalysts this year, and relative to its peer group, it outperformed last year, and we think it is positioned to do well this year. The presentation today, we are not doing a regular slide deck. We are structuring this more in a fireside chat format. For those in the audience, I would encourage you to raise your hand and participate. I have several questions that I was going to ask of management, but by all means, they are here for your benefit as well, and any ideas on your side would be helpful. For management today, we have Fred Crawford, the CFO.
We have Max Brodén and David Young in the audience. Fred, I would like to start off with just a macro Japan question.
Sure.
Can you talk about your operations in Japan and how they have been affected by the volatility around currency in the economy and the low interest rate environment?
Greg, first, thanks for inviting us back to the conference, and I very much enjoy this format as opposed to going through slides. Let us start with why that question is an important question, just for those of you who may be less familiar with Aflac. About 70% of our business is in Japan. We started there a little over 40 years ago, and it was wildly successful. We sell very similar products in Japan as we do in the U.S., supplemental health products. There is the government healthcare system in Japan. They have a national healthcare system, and we sell products that layer on top of that system to cover the co-pays and out-of-pockets of citizens of Japan. As we sit here today, we have roughly 26 million policies in Japan. In fact, Aflac has a policy in one in every four households in Japan.
When Greg asks a macro question about Japan, it's a real question because we feel as if we are part of the macro dynamics of Japan with that level of penetration. Importantly, in our product description is the most common topic that's raised is how do you survive as a financial service company and thrive in a low and obviously negative interest rate environment in Japan? What's very important to understand about Aflac is we really have pulled away from what we would call interest rate sensitive products in Japan. The real core engine of our growth, and has been since day one of arriving in Japan, has been what's called third sector business, which is essentially more health and supplemental health products. In our case, cancer insurance, where we have a 60% market share, and medical insurance, where we tend to have in the mid-teen market share.
We're a leader in that sector of insurance. That business is not disrupted by low interest rates. In fact, just the opposite. As distribution players, agents, banks that we distribute through, post office there is a big partner of ours in selling insurance through the post office. They all have to move away from yen-based saving products and really offer more protection products like medical products to make a living. We've seen our core business actually enjoy a benefit, a bit of a tailwind from that shift in focus. We've pulled back from the savings products, which we think are not relevant for consumers there now with the rates. That's an issue. We obviously have to be careful in investing our assets, but we're able to find creative ways to generate net investment income and move the net investment income forward.
Overall, it hasn't been bad. Remember, what's driving low interest rates in Japan and driving some of the macro GDP growth issues is an aging population, which needs more and more supplemental health products, not less. Because of that aging population, the government of Japan is shifting more of the financial burden onto the consumer. As they do that, co-pays and so forth are much higher now than they were historically for individuals on medical costs. Our products become higher in demand as they do that. There's actually parts of the macro environment that play into our product set.
Yeah. There's two pieces of your answer to that question I wanted to spend a little bit more time on.
Sure.
First is around Japan Post, the post office.
At the end of last year, you announced a pretty important strategic partnership with them.
Spend a minute in talking about that partnership, and then also obviously talk about selling your products through the post office.
Yeah.
Yeah.
Yeah. Once again, for folks that are a bit newer to not only Aflac but that dynamic, Japan Post Group is a company that has slowly been taken public by the Japan government and is now a publicly traded company. Japan Post Group is not only the post office, which is the roughly 20,000 post offices across Japan. They also own Japan Post Insurance and Japan Post Bank. Japan Post Insurance and Japan Post Bank are two of the largest financial service companies in Japan. When individuals in Japan go to the post office, it's often a financial service supermarket dynamic where they go in, they do their postal needs like anybody, but then there's also teller windows there for banking needs, and there's insurance product teller windows to buy insurance products.
Aflac, a number of years ago, but more recently in the last four or five years, has been a major seller of cancer insurance through the post office. Literally when you walk in to the post office in Japan, you will see the Aflac duck there and Aflac product. We even have educational booths that are in the post office that educate people on cancer insurance and detection and prevention and so forth. It's a big partnership. They represent about 25% of our third sector sales in Japan, and we're the largest third sector company in Japan, and Japan's the second largest insurance market in the world. You can imagine that this is an important partnership.
In December, we announced a renewed alliance with Japan Post Group, which was really a further commitment to the cancer business and looking to grow it and expand it and develop it, but also a pledge to cooperate with each other in the development of new product that could be beneficial to both Japan Post Insurance as well as Aflac. We also announced that we will jointly work to look at investments both domestically in Japan and the U.S., and internationally, where we could leverage both parties' core competencies to develop new businesses and new growth engines for the company. Both companies have in common that growth is a huge issue. Also some asset management cooperation where our asset management, Aflac Global Investments, and their asset management unit could partner in looking at combining core competencies to develop more net investment income.
To cap it all off and align financials, Japan Post made an investment in Aflac and is pledging to purchase upwards of 7% of Aflac stock over the course of the next year. In fact, over this weekend, we announced that they closed on the shareholder agreement and the trust structures necessary to accumulate the stock, and they now will accumulate that stock over the next year. That's important because, given the size of the relationship, there's now financial alignment between the parties. We're also quite honored in that Japan Post feels as if that's a very good investment for them. They like the dividend yield.
We're on our 36th year of consecutive dividend increases at Aflac, if you know anything about Japanese investors, they value a dividend yield, we've got an over 2% yield, which is better than you can do with any other investment in yen in Japan. They feel it's a safe and quantified investment for them to make because they know our business model well, and they know how we operate.
I just want a point of clarification. The structure's in place.
Yes.
Have there been any discussion around how they're going to approach the timing of the purchase, or have they given you any?
Sure, yeah.
How their approach is going to be?
No, the only boundaries are sort of within the shareholder agreement. By that meaning, they couldn't start accumulating the stock until they closed on the trust structure. By the way, the trust is in place to acquire the stock because technically, Japan Post is still considered a state-owned entity because they're still 60% owned by the Japanese government. In order to comply with regulatory restrictions in the U.S., they have to do it through a trust with independent trustees. This is actually a quite common structure. It's used in some cases with sovereign wealth funds and other designs. That's the trust. They are restricted to 15% of the daily volume so that they don't unduly move the stock price by how they purchase or when they purchase. They have to finish their accumulation within the first year after closing the trust.
After that, they can be completely tactical. It's entirely up to them as to how they want to accumulate it, when they want to accumulate it. They can do block trades.
Yeah.
That will be variable. We leave it entirely to them. Importantly, we buy back our own stock. We've been buying back upwards of $1.3 billion approximately last year. We've guided to $1.3 billion-$1.7 billion of stock buyback. We're also in the market buying our stock. Neither party wants to be disrupted in the tactics of buying the stock.
Thank you for that clarification.
Yeah.
There was one other strategic alliance that you announced, which was with Singapore Life.
Yeah.
Maybe you can spend a minute on that as well.
Yeah. Once again, it was a busy December. We have Max Brodén here. Max has led the charge on identifying that opportunity and negotiating and working with Singapore Life. Singapore Life, very importantly, it's a name of a company that sounds as if they've had a permanent position in Singapore as a life insurance company for many years, but they're actually a very new company. Very importantly, Singapore Life is an entirely direct-to-consumer platform and a digital delivery of insurance in Singapore. What has attracted us to that property, first and foremost, is that technology and digital application and looking to find a different way, a disruptive way of delivering insurance to individuals. Singapore is a great starting point to experiment and create that beta test, if you will, on the delivery of insurance.
It's a very solid, well-regulated, affluent, and it's a society that's oriented around insurance protection and financial services. It's a great starting point. Our investment was $20 million, a relatively measured amount of capital.
We also have a reinsurance agreement where they are selling a Singapore Life cancer insurance policy, and we are reinsuring essentially 90% of the risk. We take on the product development and economics of the cancer product. For us, it's participating in that area of Asia, participating on the back of technology and direct-to-consumer, then also offering up to Singapore Life our capabilities on the cancer insurance side. It's really a bigger theme, and that is when we look to expand geographically or into less core or near core product categories, it's most likely going to be on the back of technology.
Perfect. Thank you. There's a series of questions that will affect both your U.S. and Japan operations that I have. Before I get to those questions, I'd like to just pivot to the U.S. operations for a second.
Sure. Yeah.
Spend a minute. There's a lot of trends that are going on in employer-sponsored healthcare around medical cost inflation, and if you can just give us an update on your perspective of how your supplemental products fit in that sort of macro environment.
Yeah. Very importantly with our product, it's very different than your traditional health insurance delivery. If you have a qualified event, a critical illness, an accident, you're diagnosed with cancer, that qualified event allows you to receive a defined payment from Aflac under the policy paid directly to you in cash. When you see our advertisements, you'll see a couple different themes come through. Number 1, we cover what major medical doesn't cover for you, so the gaps in your coverage, which are significant and growing. The gaps are growing, Greg, very much because of what you said. Medical cost inflation is causing employers to shift more of the burden onto their employees in the way of co-pays and deductibles, and our policies are sold in the work site.
Very important in the U.S., all of Aflac, we have 13 million policies in the U.S., but our 20,000 licensed agents in the U.S. and our brokerage operations are entirely sold in the work site. We have over roughly 470,000 businesses that offer Aflac products to their employees, and that's how it's sold. That's a very important formula for the company, and it's how we were founded as a company 60 years ago in the U.S. We're all about that employer-employee relationship and the benefit structure that's going on. As healthcare inflation happens, we see more opportunity in that case. The important thing for us to grow is proving to you, the consumer, the importance of the product. We do that through obviously our branding, but we also do it through One Day Pay where we pay your claim.
We paid, I think, roughly 2 million claims in one day this past year, and that's unheard of. You're not used to seeing a claim paid in one day. The idea of you getting hurt over the weekend or your children getting sick and going into the hospital or the ER, and by Monday you've got money in your account, is significant. Over 50% of the working population of the U.S. has less than $1,000 saved for emergencies. They live paycheck to paycheck, which you hear a lot about. If you're living paycheck to paycheck and you have an accident or a derailment or a problem related to health of you, your spouse, your children, that can mean everything to you. One Day Pay is not just a branding idea and a marketing idea, it's a necessity in our business.
It's fundamental to the value proposition of what we do. That's the formula in the U.S. Standardization of healthcare.
Yeah.
Things like the Obamacare dynamic or more of a nationalized healthcare system, anything that helps the consumer understand what they're covered for, what they're not covered for, plays in our favor.
Yeah.
The more simple and transparent healthcare is in the U.S., the better for us. Unfortunately, the more there's healthcare inflation dynamics, the better it is for typically our company, because we come in to fill those gaps.
Right. Great. Now we can pivot back to some broader questions about the company and the results.
Sure.
I know every year you do an annual sales call, sales outlook call.
Yeah.
Clearly the street is focused on sales results.
Yeah.
Maybe you can bridge the gap between this expectation around sales results and what the reality is and how it fits in with your business.
I think if you understand the financials of an insurance company, any particular period's sales does very little in moving the core financial results of the company. The big engine of the financial results of our company is the years and years of selling product and retaining policies on our books. As I said, 26 million policies in Japan and 13 million policies in the U.S. The premium in claims paid and expenses and investment income off of that in-force business, that is the dominant piece of our financial results, our cash flow, our capital generation, and only incrementally is any particular year's sales. Over time, sales versus retention is a key component to building the policies under management, under administration.
Our investors do want to understand how sales are going, and I think they don't view it necessarily as impactful to the current or even near term financial results. It's more an indication of how the market acceptance is going and whether or not your market share is maintained and so forth. In Japan, our sales will move up and down as we introduce new product. Last year, we introduced a new cancer product, so sales shot up, which is typical, and we've done very well. We look at sales over the long run. In Japan, we're now selling approximately JPY 90 billion a year of third sector business, which is highly profitable business on our expense base, a very attractive part of our core business, and that's a meaningful engine.
It was only five, six years ago that that engine was more in the JPY 60 billion-JPY 70 billion. We've really moved it up, in part with Japan Post and other alliances. In the U.S., we had a record sales year at $1.6 billion worth of products sold this year. That has steadily moved up in a very consistent way. 3%-5% growth is what we call for each year in sales. If you really want to understand the economics of our business, it's earned premium. It's the premium coming off the in-force. Very importantly, we are really focusing our efforts on retention, particularly in the U.S., as much as we are sales. Our lapse rates in policies in the U.S. is about 22%, while in Japan, our lapse rate is 6%.
If you think about it, this past year, we did not quite JPY 94 billion in sales. Okay? Let's call that $850 million in sales. That's only a little better than half of what we sold in the U.S. Yet you might scratch your head and say, "Why is Japan 70% of your business?" It's because they have 94%-95% retention of those policies, compared to 78% retention in the U.S. Over 40 years in Japan, it's become a massive in-force block of business. We want that same dynamic to take place in the U.S. We're going to work hard to retain those policies more and build up that earned premium in the U.S.
If I'm not mistaken, in Japan, most of the products are sold based on age of entry. As
they cease, there's a huge disincentive to lapse, correct?
That's right. It's cultural as well. You're absolutely right mechanically. Let's take cancer insurance. It's the easiest one to understand. We're age specific. There is a price for you at age 50. There's a different price for you at age 51. With 60% market share in cancer insurance, we have very good data on how best to price and manage. That's one of our competitive advantages in Japan. We're able to price very specific to the agent. To Greg's point, you're unlikely to lapse that policy unless there's such an advancement in the policy that it's to your benefit. In the U.S., the formula is different. Because we're in the work site, you have the average age of the worker tends to be younger than the general population. A working population is healthier than an unemployed population, okay?
Your employer has a natural incentive to get you back to work and out of the hospital and a natural wellness programs. All of those things make the work site sale of supplemental insurance a very controlled environment when it comes to loss ratios on health insurance policies. As we drift out of the work site and develop direct-to-consumer models-
Yeah
we have to move to more of that science of age specific and strong underwriting on the policies.
Yeah. Excellent. It's a good segue because in the review of your financials, one area that stands out is the favorable trends, both in the U.S. and Japan around benefit ratios.
Maybe you can talk for a minute about what's driving those trends and how we should think about that going forward.
We've been very fortunate. All long duration insurance products rely very heavily on actuarial estimates, and they rely very heavily on those actuarial estimates to play out in your favor. There are a number of businesses in our industry that have not worked out that way, probably the most notable one being long-term care insurance, where many of the long-term assumptions worked out very poorly. We're not in that business. In this case, we have long duration cancer business and other health and supplemental health businesses, and it's very important that when you set your assumptions for the claims incidence and frequency and severity and so forth, that you've got that dialed in right.
We're very fortunate in that the company, for many, many years, has had a very practical, conservative approach to pricing the product, both in Japan and in the U.S., and that has done wonders for our benefit ratio. Essentially, what's happened is that over the years, medical advancements on the treatment of cancer and other health conditions have advanced to the point of early detection being much, much more advanced. With better early detection, the severity of illness and critical illness is far less. There's much more outpatient than in-hospital type treatments, and our policies tend to pay on a per day in the hospital basis. All of these trends in medical science, even individuals and the way they deal with and treat their health, all of these advancements have played well into our assumptions having played out very favorably and our benefit ratios coming down.
What we have done as a company is when we look at that benefit ratio coming down or that claims being paid to premium coming down, we start looking for opportunity to where we can improve the customer experience through things like investing in systems and technology to do One Day Pay.
Right.
We also look for where we can add and enrich the benefits on the policy so that you have more coverage as we watch those trends continue. That's in our favor. We're an interesting health company. We want to pay claims because the payment of a claim is one of the strongest branding and value propositions of our policy. We want you to get your claim paid in one day and then talk to your neighbor next to you that you're working with and say, "Hey, I had this great experience." Next time you enroll in benefits, you think about buying our product. We are a company that wants you to utilize the policies. We can afford to have you utilize the policies because of these favorable trends and conservative underwriting.
Those are good points. In the broader universe of companies I deal with, across the spectrum within the insurance vertical, there is a lot of oxygen being spent around Insurtech. Whether it's digitization, whether it's automation, innovation, and you talked about One Day Pay.
Maybe you can talk a little bit about what you're doing in Insurtech in addition to One Day Pay, which you talked about.
Yeah.
Especially when I think about distribution in Japan, it seems like there could be an element of automation there as well.
Yeah. We look at things somewhat in horizons, what I mean by that is horizon one being making sure that we are investing in technology that facilitates a more productive platform the way we do it today. The products we sell today through the agent and broker and other alliances, we want that to be as digitized and automated and ease of customer experience as possible, that is horizon one investments in technology. All we're really doing, when companies say digital investments, it's really quite simple. When you look at the sale of our product through agents and brokers, you look at the customer experience in owning one of our products from the time they buy it and learn about it to the time they eventually utilize the product in filing a claim, they go through various pain points.
There's various painful episodes that are either cumbersome or time-consuming or complicated or not well understood, again, by either the agent, the broker, or the end consumer. All you're doing on the digital innovation front is you're identifying those pain points, you're sizing those pain points, through digital and technology, you're trying to reduce them. Hopefully eliminate them, but most of the time you can't actually eliminate it, but you can certainly reduce it and make it more pleasant. Being able to do more things on your phone, like mobile claims and mobile applications, that's just reducing a pain point of paper and time and all of that. That's horizon one investments. As we move out into growth and building new markets, now you're starting into more venture and innovation investments.
We have a $250 million venture capital fund that is oriented around investing in startup companies where the commercial application of that company is wired into how we deliver business to the marketplace. We've made right around 10 or so investments, four or so in Japan and the remainder in the U.S., the common denominator in these investments is that there's also a sidecar commercial relationship where we're trying to advance our marketplace through those investments. Separately from that, we made pocket investments that we think are important, like the Singapore Life investment, which is on the back of technology. We also bought a company about four years ago called Empower in Charlotte, North Carolina, Empower is really a digital designed company around employer benefits. Charlotte, by the way, is one of our footprints for innovation and technology, that's not an accident.
We're headquartered in Columbus, Georgia, about 90 miles south of Atlanta. The reason why we have an innovation platform in Charlotte is because with the retail banking operations of Wells Fargo and Bank of America, there's a huge fintech environment and Insurtech environment in that Charlotte area. It's a great foothold to have to develop new technologies. We have a similar innovation lab on a floor of a building in Shibuya, Tokyo. Shibuya is a portion of Tokyo that is widely known as the technology center of Tokyo, where some of the largest tech companies are headquartered. That does the same thing, innovate and venture investments around horizon two and horizon three advancements of the business model. Not surprisingly, direct-to-consumer and digital direct-to-consumer is a big play.
Right
both in Japan and the U.S. In the U.S., it's very important for us to have a digital application because the fastest growing workforce in the U.S. is the gig economy.
Yeah.
That's a harder group of workers to get to unless you get to them digitally.
Okay. We have just two minutes left.
Yeah.
I'll just close out with the final question around capital management. The branch conversion has been completed. How should we think about capital management going forward?
Yeah. We reached a big milestone this year. We converted our Japan branch, by the way, the largest financial service branch in the world. It was no small undertaking. We converted it from a branch to a subsidiary. This allowed it to be more in favor with regulatory standards, global regulatory standards for financial service companies. It also allowed us to compartmentalize and align our capital better with our risks, and it resulted in the freeing up of roughly $2 billion of additional excess capital in the U.S. by doing more of a compartmentalizing of our capital needs, and we are moving that up to the holding company and deploying it. We are generating a tremendous amount of cash flow.
We generate well north now of $2 billion a year of deployable capital, and that is part of what's fueled our 36-year consecutive increase in dividends, including over a 19% cash on cash increase in the dividend in 2018. Our deployment is first and foremost invest in our business because with ROEs of mid-teens and a cost of capital of 8%, that's always going to be the best investment. Second is maintaining our long track record of dividend increases as a company. After that, we buy our favorite company, and that is our company. We've been buying back our stock aggressively and looking for where we can make venture investments. That's our priorities.
Perfect. Thank you. Max, David, thank you guys.
Great
for everything.
Great. Thank you. Appreciate it.
There'll be a breakout session downstairs.
Thanks.