Hi, we're about to begin. Good day, and welcome to the ACE Limited Third Quarter 2012 Earnings Conference Call. Today's call is being recorded. To ask a question during today's call, please press star one on your telephone keypad. If you are using a speakerphone, please make sure mute function is turned off to allow your signal to reach our equipment. For opening remarks and introductions, I would like to turn the call over to Helen Wilson, Investor Relations. Please go ahead.
Thank you. Welcome to the ACE Limited September 30th, 2012 third quarter earnings conference call. Our report today will contain forward-looking statements. These include statements relating to company performance, guidance, premium growth, impact of catastrophes and droughts, pricing and insurance market conditions, and acquisitions that have yet to close, all of which are subject to risks and uncertainties. Actual results may differ materially. Please refer to our most recent SEC filings as well as our earnings press release and financial supplement, which are available on our website, for more information on factors that could affect these matters. This call is being webcast live, and the webcast replay will be available for one month. All remarks made during the call are current at the time of the call and will not be updated to reflect subsequent material developments. I'd like to introduce our speakers.
First we have Evan Greenberg, Chairman and Chief Executive Officer, followed by Philip Bancroft, our Chief Financial Officer. We'll take your questions. Also with us to assist with your questions are several members of our management team. It's my pleasure to turn the call over to Evan.
Good morning. As you can see from the numbers, ACE had a very good third quarter, which contributed to an excellent nine-month result. In spite of a difficult crop season, we produced strong earnings with excellent contributions from underwriting and very good contributions from investment income. Book value growth was outstanding. Strategically, we closed on one acquisition and announced two others that will strengthen our presence and capabilities in two of the largest economies in the world. Our premium revenue growth continued to benefit from a favorable P&C pricing environment in North America. All in all, a good and exciting quarter for ACE. After-tax operating income for the quarter was $688 million, or $2.01 per share. The negative impact on our per share earnings from crop insurance was $0.28. Book value grew 4.7% in the quarter and is up nearly 11% for the year.
Our operating ROE for the quarter was 11.5%. We had strong underwriting results with positive contributions from all divisions except agriculture, as demonstrated by a P&C combined ratio of 92%. We benefited from both good current accident year experience and strong positive prior period reserve development. The current accident year combined ratio was 97.7%, and excluding the impact of crop insurance and catastrophe losses, which were light this quarter, was 90.5%. The underlying underwriting strength of our business is simply excellent. On the subject of crop insurance and the severe drought conditions experienced in the U.S. this year, the worst since 1988, we said last quarter that our estimated worst case loss for the balance of the year was approximately $200 million after tax, in addition to the $68 million we had estimated in the second quarter, for a total potential impact of $268 million.
With the 2012 crop season moving towards a conclusion, we now estimate full year operating income for this business to be reduced by $195 million. Phil will have more to say on crop insurance in his comments. All in, on a nine-month basis, ACE has performed exceptionally well. Our year-to-date combined ratio is 90.2% versus 95.3% prior year, and we've earned $2.13 billion in after-tax operating income compared with $1.68 billion last year, up 27%. In the quarter, we closed on one acquisition and announced two others. First, we completed the acquisition of 80% of Asuransi Jaya Proteksi in Indonesia, one of that country's top 10 general insurers and a leader in personal lines. We expect to own the balance of the company shortly. Our P&C business in Indonesia was quite small.
This acquisition provides us with a significant brand and physical presence in the country and expands our capability by adding personal lines and a network of about 30 branches. Our existing business, which is fundamentally commercial lines, is Jakarta based. The addition of Jaya Pro also complements our growing life presence of over 3,000 agents and 12 offices. Last month, we announced that we will acquire Fianzas Monterrey, the second largest surety company in Mexico and the third largest in Latin America. With 25 branch offices and a network of 600 independent agents throughout Mexico, FM is recognized for its technical excellence. These are sophisticated surety underwriters with a long track record of excellent results, an impressive management team, and modern systems.
In addition to enhancing our global franchise in surety, FM adds significantly to ACE Seguros, our existing commercial lines and A&H business in Mexico, which currently writes about $215 million in premiums annually. Last week, we announced that we will acquire ABA Seguros, Mexico's fourth largest auto insurance company. ABA is a well-established, well-recognized brand in Mexico, with nearly 2,000 independent agents and over 30 branch offices. The company also distributes its products through a network of auto dealerships and banks, as well as a growing direct marketing channel. A premier personal lines and agency company, ABA further diversifies our presence and capability in Mexico with auto, homeowners, and small business coverages. With the addition of FM and ABA, our business in Mexico will be well-balanced between commercial and personal lines.
They expand our overall presence in Latin America, with 2012 net premiums in the region growing from approximately one and a half billion pre-acquisition to over $2 billion. These three transactions better position ACE for the future by further enhancing our presence and capabilities in two relatively fast-growing countries of the world. Both are large democracies with significant natural resources and young populations. For example, Indonesia has a population of 250 million people with an average age under 30 years and an economy growing over 6% annually. Mexico, which has a population of 115 million people, about half of which is under age 27, is the 12th largest economy in the world. Both countries have embraced market-oriented principles.
While there are no guarantees, over the next three, five, and ten years, wealth creation in Indonesia and Mexico should be superior, with a strong emerging middle class and a growing large and small business community. We are spending over $1.25 billion on these transactions. I believe they will be accretive to our shareholders, particularly our long-term shareholders. They will be accretive to earnings in the first year. We expect we'll meet or exceed our long-term ROE target of 15% in a reasonably short period of time, about two to three years. In addition, we expect at closing, or shortly thereafter, dividends from surplus capital in excess of $320 million, which will reduce our net investment in the two Mexican transactions. Again, we are positioning ourselves for the immediate and long-term future.
Globally, we have the geographic presence, the local management and technical capabilities, the global product capabilities, and the balance sheet to take advantage of opportunities as they present themselves in the growth regions of the world. These acquisitions are examples of that. As this company's capabilities continue to evolve, our strategic options are in fact accelerating. I am excited about the future for this company. I'd like to now talk about ACE's premium revenue growth in the quarter and the market environment. ACE's total net company net premiums in the quarter grew 8.6%, or 11.1% adjusting for the impact of foreign exchange. We had outstanding double-digit revenue growth in North America, excluding the impact of FX in Asia and Latin America. Let me give you some more details, beginning with North America. In the quarter, North America grew 15%, an outstanding result.
If we exclude agriculture insurance, North American net premiums were up 20%. We had excellent growth in commercial P&C, both retail and wholesale, with net premiums growing 27% in our retail business and 8% in our E&S or wholesale business. Net premiums in our private risk personal lines business were up 17%. Growth in our retail commercial business was led by primary risk management, up 92%, where we wrote a particularly large new account. Some of the other product lines where we saw our best growth include property, up 30%, energy, up 22%, retail, general and specialty casualty lines of business in aggregate, up 12%. Overall, North American pricing was up 3.6% in the quarter. We continued to achieve broad-based price increases in many of our retail commercial classes, led by risk management, which was up 5%, excess casualty up 9.5%, property up 5%, energy up 9.5%.
On the E&S side, the casualty related market needs rate. The combined ratio for the market is simply high. In the quarter, we achieved favorable pricing of 12.5% in general casualty, 6% in professional lines, and 7% in property. We expect the pattern of price increases in the U.S. will continue for the foreseeable future, with highly stressed casualty related lines receiving significant but orderly levels of price increases, and less severely stressed casualty lines up modest single digits or flat, and property pricing flattening out. However, remember, it's a big and messy market and there are pockets of competition where prices continue to be under pressure. As I have said in previous quarters, in my mind, this is an ROE driven pricing correction. Being driven primarily by larger, more sophisticated, and responsible underwriters.
In our international operations, net premiums in our global retail business, ACE International, grew 8% in local currency, while our London-based E&S business, ACE Global Markets, grew 3%. Asia and Latin America were again the standouts, and in constant dollars were up 10% and 18% respectively, with strong contributions from P&C, A&H, and personal lines. In spite of economic conditions on the continent of Europe, we grew 6%. In the U.K., we were essentially flat due to market conditions. Globally, pricing was the same as the second quarter, with rates up about 1% in retail and up 3% in wholesale. Internationally, we're not seeing the same pattern of pricing improvement as in the U.S. The international market does not have the same structure as the U.S., and pricing is driven more by simply supply and demand, and in this case, supply outweighs demand. Therefore, we're seeing relatively flat rates.
John Keough and John Lupica are with me and can provide further color on market conditions and pricing trends globally. Turning to other divisions, our international personal lines business was up 17%, with strong double-digit performance in Asia, Latin America, and Europe. Growth in our personal accident business continued to improve, with both international and North American A&H net premiums growing 8%. Latin America led the way this quarter with net premiums growing 16%, while Asia, due to a few negative one-time items, grew 7%. Growth in our Combined Insurance operation, as I said last quarter, would be neutral by year-end, and in fact, this quarter it was flat. I expect our A&H premium growth to continue to improve as we go through the fourth quarter and beyond into 2013. Our global re-business had a terrific quarter, with net premiums up 22% over last year.
The growth came primarily from the U.S. division, which was up 28% and benefited from a large portfolio transaction. Excluding that transaction, global re grew 7%. In summary, we had a strong third quarter, and we are optimistic about our growth prospects despite the macroeconomic and geopolitical challenges facing us globally. We have a clear strategic direction, significant and growing presence and capabilities, and the confidence in our ability to execute. We are taking advantage of the favorable P&C pricing trend in North America and deploying our capital thoughtfully and prudently in those parts of the world that hold future promise. Before I turn the call over to Phil, I want to say a few words about an issue that frankly impacts every single one of us and that we should all be focusing on.
There is no greater challenge facing our nation, in my judgment, than our fiscal crisis and our $16 trillion in debt. This is something that all of us, as Americans, should be concerned about, whether you're worried about your country, your family, or your company. The math could not be any clearer. The government takes in approximately $2.4 trillion in revenue annually and spends $3.5 trillion. 40%-50% annual deficits amounting to $1.1 trillion or more are not sustainable. The debt is suffocating our economy, sapping confidence, and killing jobs because the government is competing for dollars that otherwise would be invested in the economy. The private sector, including business community leadership, is fed up with the inability of political leaders to make the tough decisions to address our debt now.
What we need is presidential and congressional leadership and a clear bipartisan plan that provides certainty about future fiscal discipline. This should be coupled with immediate actions that stimulate and encourage private sector growth, increase business competitiveness, and in turn bring down unemployment. Fiscal consolidation must include spending cuts and revenue increases. This means tax reform that broadens the base and encourages economic activity and, yes, raises more revenue. It also means comprehensive reforms of entitlement programs, including Social Security and healthcare, that addresses the cost side. A pro-growth debt reduction plan that considers both taxes and spending will require politicians to exhibit real leadership, and the time for action is now, and you should all be involved. With that, I'll turn the call over to Phil, and then we'll come back and take your questions.
Thank you, Evan. We ended the quarter with a very strong balance sheet and capital position. For the quarter, cash and invested assets grew by $2.2 billion to $60.5 billion. Tangible book value per share grew 4.7% in the quarter and is up 11.6% for the year. Total capital now stands at over $32 billion. Operating cash flow was strong at $1.6 billion. Net realized and unrealized gains were $700 million pre-tax, including a $760 million gain from the investment portfolio, offset by a $60 million realized loss from our variable annuity reinsurance portfolio. Investment income was $533 million for the quarter and was in line with our expectation. Our current book yield is 3.8%. Current new money rates are 2.2% if we invested in a similar distribution to our existing portfolio.
We estimate the current quarterly investment income run rate will be approximately $525 million, with some marginal variability up or down. In the quarter, we took a charge of $147 million pre-tax, or $97 million after tax, related to crop insurance. The charge produces a net combined ratio for crop insurance of 114% for the third quarter, and contemplates combined ratio for the fourth quarter and full year of about 100% and 104% respectively. The full-year underwriting loss is expected to be approximately $70 million. The after-tax operating loss is $50 million. Our net loss reserves were up $1.2 billion in the quarter. During the quarter, we had positive prior period development of $175 million after tax, primarily from long-tail lines and principally from accident years 2007 and prior. After-tax cat losses were $40 million for the quarter.
Our paid to incurred ratio of 68% is below our normal run rate, primarily due to the impact of crop. Excluding crop and prior period, the paid to incurred ratio was 83%. Our press release issued last night included our updated guidance for 2012. Our range is now $7.73 to $8.03 in after-tax operating income per share for the year. We are simply adjusting our original 2012 guidance for the actual nine months results and fourth quarter crop insurance results. First, the update reflects the positive prior period reserve development and lower than planned cat losses recorded in the first three quarters of $1.60 per share. Second, the update includes a reduction of $0.57 per share after tax relating to our crop insurance business, increased from our second quarter guidance estimate of $0.19 per share after tax.
As Evan said earlier, the company now expects full year operating income to be reduced by $195 million, or approximately $73 million less than the estimated worst case scenario of $268 million. No net profit or loss is expected on this business in the fourth quarter. Finally, the update includes estimated catastrophe losses of $100 million after tax for the fourth quarter. Guidance for the balance of the year is for the current accident year only. We've given several numbers relating to the impact of crop on the quarter and on our guidance. In summary, all on an after-tax basis, we had a loss in the quarter of $97 million from crop, and we expect no profit or loss in the fourth quarter. Our first half profit of $47 million brings our estimated after-tax loss for the year to $50 million.
Our original guidance for the year included an estimated profit of $145 million. This means we have reduced the estimated profit by $195 million, again, bringing our crop loss for the year to an estimated $50 million loss. Of course, subject to change as we close out the crop season. With that, I'll turn the call back to Helen.
Thank you, Phil. At this time, we'll be happy to take your questions.
Thank you. If you would like to ask a question, please signal by pressing the star key, followed by the digit one on your telephone keypad. If you're using a speakerphone, please make sure mute function is turned off or light a signal to reach our equipment. We'll go first to Matthew Heimermann at J.P. Morgan.
Hi, good morning, everybody. Couple of questions. There are obviously a lot of moving pieces in the underlying combined ratio this quarter. Just wondering if you kind of put those into context relative to maybe first half and then how you're thinking about things prospectively.
Matt, just in general, I think the underlying combined ratio, if you take out noise of prior period, of cat, of the crop, you're really trying to look at current accident year, I assume. I think prior period is darn strong and speaks to good reserves and good prudent management of the business and the strength of our business from prior years as it emerges. The current accident year, in the quarter, the loss ratio was around 59 and change. The expense ratio, even when you adjust for taking out crop, was below prior year by about a full point. I think the underlying health of the business is excellent. I think the mix is very good, and I think we are booking our loss ratios as we always have. We're conservative underwriters. We write a lot of global business.
We write a lot of casualty business. I think we're not aggressive folks. I think we feel darn good about that current accident year, and I think you ought to as well. We're receiving pricing. It varies by line, whether it exceeds trend or not. There isn't just one statement about that, and we'll see what trend is over time. No one can predict that with any certainty about inflation, particularly in long-tail casualty lines.
Particularly when you think about medical. Obviously, price increases as they earn their way through, have an ameliorating impact. I believe you see some of that in there, and I believe it shows up as time goes on.
Okay. Just following up on that, you're getting rate in some areas, it seems like you're trying to grow, obviously, areas where you're feeling better about ROEs. Is it fair to think about businesses, whether you're talking international P&C or A&H, where maybe there's not explicit price increases, that growth is significant enough that even though those aren't businesses with pricing leverage per se, you might have as much earnings pickup there as you do in some businesses where there is pricing leverage?
Of course. Different businesses, every business has a different ROE characteristic. Some of our businesses, many of them have quite good ROEs. That's how you get to that 11.5%, even with crop and the noise. Yes, it isn't simply your first statement was correct. You want to grow more where you see an improving ROE and an acceptable ROE. I think we have the insight and underwriting to do that, though we're constantly improving ourselves. We're focused on growing those areas where, despite pricing, the ROEs are good.
Okay. Thank you much.
Thank you.
We'll go next to Jay Gelb at Barclays.
Good morning. Evan, I wanted to focus in on that comment in terms of ACE accelerating its strategic options. Can you drill in a little in terms of what that means?
Yeah. I'll try to add a little more color or just say it another way because I think I said it as clearly as I can. As ACE has deepened our geographic presence, as we've deepened our capability in those geographies in terms of product line, insight, and underwriting capability, in terms of management and systems, we can take on more, and we see more opportunities in those geographies. As we have strengthened our global capabilities from head office down in product lines and are maturing those in different areas, whether it is personal lines, whether it is A&H, whether it's life, whether it's surety, whether it's other areas of commercial P&C, to aid our geographies around the globe.
When you add to that the strength of our balance sheet and the flexibility we have to take advantage, whether it's organic or acquisition, I just feel, and from what I see, that our options for growth and opportunity actually are not static. They're simply accelerating. An example of that is what you just saw this quarter. We took advantage of in surety. Then on the other side, we took advantage of in personal lines. I have to tell you, we're pretty prudent people. We would not have done that if we didn't feel we really have the insight and the expertise from the local to the global to manage that. It's one thing to purchase something. It's another thing to understand it, manage it, make it better. I feel very confident on the ground about that. That has just really struck me.
I appreciate that. Then two quick follow-ups for Phil. First, in the North America P&C, the net to gross premiums level has increased from the mid-60s year-over-year and quarter-over-quarter now to 76%. Is that the right level going forward? Then I have another follow-up.
That's been affected by the crop adjustment primarily. That was about five points of it. Then as we talked about that risk management contract, that contributed another couple points.
Mid to high 60s net to gross is probably the right level to think about?
I think that's fair.
I'd say, yeah, high 60s.
Yeah.
High.
Okay.
Remember, that risk management contract is not a one-time contract. As you go forward, that's going to keep repeating. We have a new large client. Thank you very much for buying ACE.
All right. Separately on the investment portfolio, ACE has, among the property casualty companies we follow, has among the highest high yield fixed income allocation as a portion of the investment portfolio. Given with spreads at record lows and high yield prices at record highs now, I'm just wondering if they should take some profits there.
Look, we established our exposure to high yield bonds over the last several years at a time when we thought both interest rates and credit spreads were very attractive. As a result, the average coupon on our holdings right now is 7%, compared with the current market yield of about five and a half. The portfolio is in an unrealized gain position of about $400
As you know, our strategy has been to target the BBB or upper tier of the sector. We're maintaining a high degree of diversity and liquidity. We have over 700 individual holdings. We're very comfortable with where we are. While credit spreads have narrowed to maybe their historical averages, we expect the credit fundamentals to be pretty positive and default rates to be benign. We have a specific set of guidelines for this asset class, and we wouldn't expect any future increase in our exposure. Your question about harvesting, that's not our play. We'll continue to receive the coupons that are on that business that, as Phil said, are running in the 7% range in aggregate. We will trade individually as we see either credit reasons or as we make some individual market decision, but not on a wholesale portfolio basis.
Understood. Thank you.
We'll go next to Mike Zaremski at Credit Suisse.
Thanks. Good morning. Evan, did I catch your pricing remarks correctly in that overall pricing in the U.S. was +3.6%, which would compare to 4.7% last quarter? If so, why are you confident pricing will move higher in the coming quarter?
Well, first of all, I didn't say higher. I said the trend of pricing as I see right now, the kind of pattern of pricing will continue. The 4.7%, 3.6%, two things about that, where you say, "Well, it looks like it's down." Property has been such a large driver on our book, and we're getting rate on rate right now in property, and property cat pricing is quite robust, quite good. It's actually rational that property pricing begin to level off that way and receiving price on price to us is encouraging and an encouraging sign. Excluding that, when I look cohort by cohort of the individual lines of business, the price we received in the second quarter and the price we received in the third quarter, the price increases are either the same or are up. That is across most individual casualty lines.
Remember, ACE does not write, is not a player in the risk transfer traditional workers' comp business. We have an excess workers' comp business and on the complements our risk management business, that's risk transfer, and their prices were up almost 10%.
Would you say those pricing levels are exceeding loss cost trend?
No, I didn't. I said it depends on the line of business. It depends on, first of all, what you pick for loss cost trend and how optimistic are you. Secondly, because remember, longer tail business, you got to imagine you're looking out well past the next two to three years where you might imagine low inflation for the next two years. What percentage of long tail that you write are the claims actually going to be paid? An awful lot of the claims, the vast majority are paid in durations past the two years or three years. You look at medical inflation. It varies by line of business whether in fact, in our judgment, price increases are exceeding loss cost trend. Regardless, price increases are ameliorating some pressure on loss ratios, period.
Okay, that makes sense. Lastly, hoping to flesh out a couple things in regards to crop insurance. Expect no profit or loss in 4Q. Is that just the multi-peril crop book or the entire ag book? What level of premium volumes are you expecting to book in 4Q?
Well, we're not giving premium estimates for Q4, but it is the crop book that Phil was referring to in the 100% combined ratio. The balance of our ag book is not very big. I certainly expect it should earn a profit.
Lastly, have ACE's views on the economics of crop insurance changed at all in recent quarters? I guess what I'm getting at is, do you have a desire to maintain and/or grow market share in the 2013 crop season? Thanks.
I'm going to let Brian Dodd answer that question.
Hey, Mike. I would say, obviously, we've been in this business a long time, we do a lot of long-term averages. We have probably more data in this business than any other business we have. Do we think the long-term business has changed? I would say no. It's a competitive business, every year after big events, sometimes the competitive landscape changes. Frankly, we don't know how it's going to change next year yet. It's too early to tell. Everyone hasn't finalized results. The truth is, we're a long-term player in this business, I would expect we would put a similar amount of emphasis on it next year that we have this year.
I don't see the economics changing. It's just on the margin.
From one crop year to the next. Remember, this is more technically priced business, like a cat, and they use kind of 10-year average pricing to figure frequency and average severity, though that has a lot to do with crop prices, but to figure yield losses. We're steady as she goes.
Thank you.
We like the business.
We'll move next to Vinay Misquith at Evercore Partners.
Hi, good morning. Just wanted to drill down a little bit into the growth. This quarter, gross premiums grew about 2% and net premiums grew significantly higher because of higher retentions. Evan, do you see some opportunities because pricing is improving slightly, that you can keep more business net and that's how you can grow your premiums?
No. Vinay, I think you're missing it because I think if you take out crop impacted the gross premium about five points.
The net.
The net about five points. It impacted the gross as well, a little bit. I think there's some impact that way. Mix of business has a lot to do. Yes, we increase retentions to a degree, but that's not the big impact to me. The big impact across the board is the writing of business that happens to naturally have a higher net retention to it. Our international business has a higher net retention. When I look under the covers within the U.S. businesses, the businesses that grew happen to have a higher net retention. Retention has a couple of points impact on all of this. The balance of it is growing in lines that happen to have a higher net.
Okay. That's fair. Secondly, on the margins. We've seen margins improve year-over-year this quarter, yet pricing, as you said, may or may not be higher than loss cost trends. Do you think that even for the future, that your business mix change is helping you to get higher margins because you're growing in business with higher margins?
Combination of things. The Street, when you guys ask questions about all this, you're really just that the only lever really to pull, it's one-dimensional thinking, is pricing. What you're missing is risk selection. The fact is, as prices move, if you're an insightful underwriter, if you're diligent and you have good portfolio management, and you have the data to go along with it, then your risk selection, more risks meet your target pricing. That is a big driver in all of this. When you look at some of the classes, don't think the 3.6 simply. As I told you, property weighs on that, et cetera. I gave you a number of classes that are getting priced significantly in excess of that.
Within those cohorts, if you can select the better risk as you imagine it to be, as your portfolio underwriting tells you that, then you're going to get greater growth, greater opportunity in that class. That's the point.
Okay. That's helpful. Thank you.
You're welcome.
We'll go next to Gregory Locraft at Morgan Stanley.
Hi, good morning. Evan, I was worried you were getting ready to run for Congress in your opening comments.
Not a prayer. Come on. Look at me. You think I'm electable?
I'm thrilled you guys took some action in the M&A front, but we sort of tested our Spanish skills in going into the things you purchased in Mexico. From what we can tell, it looks like you're paying about 3 times book value for businesses that are earning, in ABA's case, an average ROE of 18% the last three years, and in Fianzas' case, an average ROE of 35% the last three years. Is our math and directionally, are these numbers correct? Are our translation skills erroneous?
Your translation skills are just fine, you're looking at statutory filings. We actually paid about 2 times book.
2 times GAAP book.
Yeah. You have to look at GAAP book. You can't look at stat.
Okay, great.
It comes to the numbers. You're right. We paid more, but we paid more like two times book. To me, in a growth business, in a growth economy, where there is superior short, medium, and long-term opportunity, I square the circle that yes, paying that for that presence and for that brand and all of that of two times, I look at the ROEs, I square that circle with the comments I gave you back about what we expect for the ROEs in a short period of time.
Okay, great. I guess if we were to obviously look at that two times book, that would effectively cut the ROEs that I mentioned by a third, still obviously puts the deals easily above a 15 blended.
Remember, not blended. I didn't say blended. I said each deal.
Oh.
No. Each deal. You don't know the center. You don't know where we can create wealth and bring some benefit of ACE to bear in these that also helps to improve. While we gave away some of the upside, we will still on these deals, those numbers I gave you were for each deal.
Okay, perfect.
Also, I try not to give it to you in some Pollyannaish way, like, look, five or 10 years from now, it'll be, and who knows? No, we're practical guys. In a short period of time, so we're execution oriented about that.
Okay. Good. As I look at it, you guys have earned about $1.9 billion net income year to date. You've paid 600-ish in a dividend year to date. You've got the $1.3 billion that you're spending is effectively cash you've earned the last nine months that if it went into your investment portfolio, would earn you next to nothing, and now you've found a 15+ rate of return. Is the logic all there exactly how you think about it, or is there something missing?
I don't think you're missing anything. I think you got the right logic. Remember, this, if it's managed right, the return is ultimately infinite. It keeps on giving to you. If we had done a buyback with that, which is the next question that someone will compare it to, that's one-time gratification. I get that. At the point of our life, we think this was the right way to do it. The one thing which I think Phil could give you a little more color on is you can't translate that the $1.9 billion, now all of a sudden net capital generation.
Right. Part of that obviously gets absorbed into additional capital charges for the business that we put on the books. Right? Our growth absorbs capital. It's not one for one.
Okay, great. One last.
He said, yeah. Okay.
Just the last one again on the M&A side. It's been a couple of years since your investor day when you laid out your goals, Evan, strategically to grow the business footprint in Asia, LATAM from 16%-30%, and in personal lines stuff from 4%-20%. Can you sort of update us? Where are we on that trajectory, and has anything shifted over the last couple of years? Obviously these deals are going to help you get there.
Well, first of all, when I look at the 4%-20%, when you say 4%-20%, my natural reflexive is to look at Juan Andrade, who's sitting right here, and he's a great executive, and he's driving our personal lines growth globally, in partnership with our general management in each of the territories. Yeah, of course, these acquisitions, we're on track, I believe, to achieve our objective of geographic and product mix over time. I think we're heading right in that right direction. The only thing I'm going to say to you that I'm going to add to what you said, Greg, is that beyond these acquisitions, remember at the same time, our US personal lines grew 14% in the quarter, and our international personal lines grew 17% in the quarter.
Organic growth, and with the presence we're building out, is doing quite well, and now this just helps. This now complements it. We've been building out the infrastructure, as I said earlier, of people and capabilities to be able to safely manage this kind of development and growth, be it organic or acquisition.
Okay, thanks a lot.
You're welcome.
We'll go next to Josh Stirling at Sanford C. Bernstein.
Hey, good morning. I'd just love to follow up on some commentary around acquisitions. Obviously, you guys have been made substantial progress on diversifying globally. I think you've done at least nine deals by my count in the past five years. All of them apparently in sort of a strategy to basically avoid some of the excesses of the soft market here in the U.S. by growing in these diversifying lines globally and other more attractive ancillary lines. The question would be, though, with the environment shifting, pricing improving and the core U.S. markets improving, should we think about your acquisition appetite rebalancing? Will you be continuing to focus primarily on adding global capabilities, foreign local companies, or do you think you'll shift back and play the cycle turn and make some acquisitions here in the historic North American core markets?
Josh, stay tuned. We'll see. We've never shifted away from the U.S. We shoot the birds as they go by, and we're looking at them all over the world, and we're kind of agnostic about the territory that way. If we see something that complements what we're attempting to do organically And meets our capabilities and is the right kind of property and the pricing means good returns to our shareholders, we will pull that trigger.
That's great. That's very fair. Love to ask one more specific follow-up on acquisition strategy and thinking. Over the past deals, you've clearly been a cash buyer pursuing smaller deals. I'm wondering in what scenarios we should consider that you might pursue using stock in order to pursue something much larger.
Oh, it'd have to be much larger. You think long and hard about doing anything like that. We wouldn't do something simply for the sake of size. That's not our play. We certainly wouldn't want to do anything of size that would kill our growth trajectory. It's got to be of great return to shareholders. Boy, you're going to issue stock for it, you better be certain of your numbers and the accretion.
Okay, that's fair. Happy hunting.
We're thoughtful and we're cautious, and we're not an acquisition machine, not this company. Our first priority and bias is to grow organically. We're day-to-day operators, and acquisitions just to complement that. Just when they happen, though, they show more visibility to everyone, it's more noticeable. You look at ACE's growth, and it's been very balanced between organic and acquisition.
Great. Thanks for the color.
We'll go next to Michael Nannizzi at Goldman Sachs.
Thanks. Just one follow-up on the crop business. Is your expectation then kind of next year that the economics haven't changed meaningfully and that your sort of 88% or mid to high 80s combined ratio in crop will again hold next year? Just one follow-up. Thanks.
Yeah. The way it fundamentally works is if you're taking a 10-year average, this year will go into that average, and you'll just roll it forward that way. Now, you got to take crop mix and territory mix, and you got to take your stop loss costs and all that good stuff. When you mix it all in, that's how you roll forward from what was your original estimate for the current year.
Do you expect that private reinsurers are going to change? That's the piece that's maybe not mandated so specifically, I would assume, that the private market reinsurers might change the price that they expect to get paid for the risk that they're taking? Is that not really relevant?
Well, it'll be interesting, and we'll see. I would tell you one thing, if they look back on anybody who's participated in this business over a long period of time, these guys have made good money in that business. I'd expect they'd take very good notice of that when they come to talk about reinsurance pricing.
Got it. Just one follow up here on-
There's plenty of capital in the reinsurance market today.
Right. Okay. Thank you. Maybe a Phil question. The expense ratio looked like, obviously North America was different and certainly crop seemed to have an impact there. When I look at the other segments like Re and overseas and the one big transaction in Re, it sounds like as well, the expense ratio looked a bit lower there. Just trying to get an idea, is there anything that changed there? Is there a seasonal element that I'm just not picking up on, or did something change as far as the underlying economics?
No, there's no significant change. As we said in Chubb Global Reinsurance, it was the LPT that Evan mentioned.
Sure.
It was crop in North America. If you remove all of those, though, our overall P&C expense ratio is down about a point.
Okay. Maybe I have to take one last one. Investment income, you mentioned $525 million run rate. How does that work, just given the duration of your portfolio? Are you assuming that new dollars coming into the portfolio at a lower yield will offset the reinvestment risk on the dollars that stay in there? Is that kind of how you get to your 525? Is there potential that as you mix in lower yields that that 525 could kind of not be a stairstep or not be flat during the year? Thank you for your answers.
Two things are happening. Obviously, we have new cash flow that we invest, and we have the portfolio rolling over. Both of those will be at a lower new money rate. The higher cash flow would produce additional investment income offset by the lower yield on that cash flow and the rollover from the portfolio. We go through that exercise to estimate our turnover based on our existing portfolio, and our view is that that's about the run rate. I think we've got a pretty good track record of estimating that.
Great. Thank you.
We'll go next to Brian Meredith at UBS.
Yes, thanks. Just a couple quick questions here for you. First, Evan, I'm curious, with the fiscal cliff coming up here, the possibility that the dividend tax rate goes up, any thoughts about a special dividend or any kind of thoughts about a potential change in your dividend philosophy?
Brian, no.
Okay. Simple answer. The second one, I'm just curious, going back to the M&A and just get your thoughts on this. The transactions that we've seen recently in Mexico, are these just happened to come at this time because they're opportunistic, a big willing seller, or do you see out there, maybe an increase in activity and willingness of companies to actually sell? Because I know that was an issue for a long time.
I think it's opportunistic. It starts with, I think we have a pretty good knowledge of geographies around the world and our view of each country, and Mexico is of particular interest to us. I think most are obsessed with Brazil, we've been there quite a while, and were there earlier and expanding earlier. As everyone has come in, I don't think they've focused to the degree. Most are lagging, not leading in how they see things. Our bet is Mexico over the next decade is going to produce superior economic results to most others, and in Latin America or south of the U.S. border may be superior in the region. We've had our attention, our focus on Mexico.
I can tell you that ABA, while it was opportunistic that Ally came to sell it, I've been knocking on their door for 3 to 4 years to talk about it. It's been on my radar screen for a long time. I've been talking to New York Life about FM for about 2 to 3 years now. Would they be interested in selling it? That they came to sell these things now and make their minds up about it, that's just timing. Guess what? Both of them have been on our radar screen a long time.
Great. Just one question about the Mexican acquisition. Do you view that as a kind of plan now to potentially move down further into Central America with that platform? Is that possible?
We're already active in Central America, and these acquisitions will only help further that presence.
Thank you.
You're welcome.
We'll move next to Paul Newsome at Sandler O'Neill.
Thank you, and good morning. Back to the acquisitions. How important is cross-selling new products into these distributions to making the financial results work for you guys?
It's not.
Is-
It's important to us to do it, but it's not a big driver in our ROE projections. That's harder to do and takes time, and I think a lot of guys overestimate that. From our own experience, it's very realistic, very doable, but it takes time. In the projections I gave, I'm not including them. Very modest.
Terrific. Should we be thinking of these units as places where you're going to be putting capital over time, or is it you make the acquisition and it moves on from there?
Well, it depends on their growth. I hope to have to put some capital. Depending on the growth trajectory you pick, they may require more capital. We understand that, of course.
Okay. There's no explicit thought that the growth is going to require capital from other sources.
Anything we just gave as our ROE numbers contemplate all of that.
Okay, terrific. Thank you.
We'll go next to Thomas Mitchell at Miller Tabak.
Over time, I was sort of struck by the comment about the populations and age cohorts in Indonesia and Mexico. There has occasionally been a really high correlation between having a young population and having political instability. I'm wondering how many, if you have an opinion, what other markets around the world have that combination of, let's say, a rising labor force that looks forward to being able to do more and more, that also has a political framework that you can see as being stable for the length of time that you might want to invest, that is, for 20 or 30 years?
Well, first of all I'm not getting into a 20 to 30 year discussion. I think that's not practical. Secondly, we won't dwell on this, Tom, on this call, I'll be happy to talk about this over a drink sometime. You know what? Mexico and Indonesia are both democracies and with young populations. I think your comment is really referring to dictatorships or totalitarian regimes, repressive regimes with young populations, and that because of globalization and their access to technology and information that young people learn that they don't have the same opportunities as young people in other parts of the world, and they want them. That's hardly true of Mexico and Indonesia today.
That's a good answer. Thank you.
You're welcome.
We'll go next to Ian Gutterman at Adage Capital.
Hi, Evan. I might write you in for president, we'll see.
Lyndon LaRouche ran for president, if you remember, what the hell?
First, just to clarify Brian's question on ABA's platform potential. When you bought this, did you buy it solely on your view of what you could do with the existing property in Mexico and improve it? Or was there some consideration that Juan could expand this further? I don't know enough about their brand. Is this a strong enough brand that you could expand further south?
We didn't imagine ABA expanding further south. Though there is optionality of what else we could do with ABA's capabilities, whether it is ABA or other entities of ACE taking advantage of ABA's capabilities. It's really what we can do to support ABA that is already a very good company and brand in Mexico, to keep doing what they're doing because we have a lot of respect for them, and to improve what they're doing by bringing to them capabilities that they just don't have access to or knowledge of because they are only in the Mexican marketplace. We can bring that insight capabilities to help them do better.
Understood. Very interesting. My other question, back to pricing. Can you talk about, It feels a lot of times we talk about pricing in wholesale or pricing in casualty, I assume there's a lot more underneath than that, right?
Sure.
What kind of difference is there in pricing when we talk about wholesale for things that are Bermuda subscription markets where everyone gets a piece and there's tons of capacity, versus lines where you have more control and you're facing more limited players, like in large global placements or some of the niche type businesses. Are there distinctions there or is it really kind of wholesale is all going up the same for property no matter what the channel is?
No, it's very market specific difference, but so interesting, and I'm going to ask John Lupica to comment on it. One thing I'm just going to put in your mind before he does and set that stage for that is to understand this, that the casualty pricing that we've gotten, we've gotten some of our most robust pricing in ACE Bermuda.
Okay.
Because the nature of the risk they're writing and the kind of risk they're writing and the limits of capacity we're putting out. The appetite of that client for limit of capacity. The E&S gets more stress stuff than the retail does. John, you want to?
Sure. That's spot on. When we look at our retail business, we're absolutely getting a positive rate of about 3%. As you pointed, when we look at our risk management business where our platform really makes a difference, we're seeing more stability and pretty good pricing. As Evan reported, that was up 4.9%, which is a big increase for that book. On the casualty side, there is a difference between retail and wholesale. Our casualty book is getting about a 6% rate increase, and our wholesaler, E&S, our Westchester company, is getting about 12%. That varies between primary and high excess and umbrella. There's absolutely a spread between tougher lines of business there.
Even when you get in down to our Bermuda, where capacity is a differentiator for ACE, and we do have some of the bigger energy lines, we're seeing the casualty market get about 9.5 points down there. There's no question there's a spread in terms of our ability to get rate based on the platform and the trading environment that we're in. We're even seeing it on the D&O lines where retail's at +2 and wholesale is at +6. It's tougher D&O pieces of business are running through that marketplace.
Then you take where we might write more primary, professional D&O where we're more lead, and there's far more. We're getting much better rate of 7%, whereas the excess layers in that might be getting 2%.
Right. Yeah. Okay.
You got to triage it a step further and say, are you talking about Side A only, or are you talking about ABC?
I guess where I'm going with this, it sounds like then that there's evidence that your platform is able to get more pricing than what we call a generic wholesale platform for company ABC in Bermuda that's doing more generic subscription business and is fighting a lot more capacity. How you differentiate yourself is starting to pay off more than it has maybe in recent times. Is that fair?
I would say within each of the markets, whether it is U.S. E&S versus Bermuda E&S versus U.S. retail, we are a differentiated brand and market in each one of those. We're a major market player in each of those. We've been around a long time, and we have broader capabilities than many do. You come into Bermuda, we've had those clients for years and years and years. We swing a pretty big stick in capacity. We're not the only ones swinging that size stick, but we got a balance sheet, and we have a knowledge of those industries those guys are in, and they also want some continuity. We're well established in that. When you come into Bermuda, we're writing casualty as well as professional lines, as well as property.
A number of players, they might be simply a casualty player or simply a property player. They may not have the depth and experience and knowledge, and they write excess behind a player like us.
Great. Very helpful, Evan. Thank you.
You're welcome.
We have time for one more question from Joshua Shanker at Deutsche Bank.
Apologies. I did join the call late, but I looked through the transcript. I don't think you talked about expense ratio at all. It looked very good during the quarter. I wonder if you have any comments on that.
We did talk about it. I'm sorry, Josh.
I apologize. I'll read it up. Thank you very much.
No, it's okay. Phil's ready. He'll answer your question.
It's principally improved as a result of crop. Even without crop, our expense ratio is down year-on-year.
Josh, our expense ratio, ex-crop, is down a point.
Yeah.
We consider it a really great improvement so far when you take away crop.
No, it is. I appreciate it. Thank you.
You're welcome.
That does conclude today's question and answer session. I'll turn the conference back over to management for any closing remarks.
Thank you everyone for your time and attention this morning. We look forward to speaking with you at the end of next quarter. Thank you and good day.
That does conclude today's conference. Again, thank you for your participation.