Good afternoon, and thank you for joining Lincoln Financial Group's conference call. At this time, all are in a listen-only mode. Later, we will announce the opportunity for questions, and instructions will be given at that time. If you need assistance at any time during the call, please press the star key followed by zero, and someone will assist you. I would like to turn the conference over to the Vice President of Investor Relations, Al Copersino. Please go ahead, sir.
Thank you, operator. Good afternoon, and thank you for joining us on short notice. This afternoon we issued a release announcing our reinsurance transaction with Fortitude Re. Before we begin, I have an important reminder. Any comments made during the call regarding future actions, performance, or financial results, including the expected timing and impacts of the reinsurance transaction and our expected estimated first quarter 2023 financial results are forward-looking statements under the Private Securities Litigation Reform Act of 1995. These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from current expectations. These risks and uncertainties include those described in the cautionary statement disclosures in our press release issued today, as well as those detailed in our 2022 annual report on Form 10-K, most recent quarterly reports on Form 10-Q, and from time to time in our other filings with the SEC.
These forward-looking statements are made only as of today, and we undertake no obligation to update or revise any of them to reflect events or circumstances that occur after this date. Today's call may include a discussion of certain non-GAAP financial measures. Full reconciliations of such non-GAAP measures, including adjusted income from operations or Adjusted Operating Income to the most comparable GAAP measures can be found in our press release issued today or the statistical supplement posted in the investor relations section of Lincoln's website, www.lincolnfinancial.com. Presenting on today's call are Ellen Cooper, President and Chief Executive Officer, and Chris Neczypor, Executive Vice President and Chief Financial Officer. After their prepared remarks, we will move to the question and answer portion of the call. I would now like to turn the call over to Ellen.
Thank you, Al. Good afternoon, everyone, and thank you for joining us on short notice. I am pleased to announce that we are partnering with Fortitude Re to reinsure approximately $28 billion of our in-force business, which includes blocks of universal life with secondary guarantees, MoneyGuard, and fixed annuities. This transaction is squarely aligned with our enterprise strategic objectives and advances our goals of strengthening our balance sheet and enhancing our ongoing pace of capital generation. I have said that we will act if we find the right opportunity at the right price to create value for shareholders. This transaction provides all the elements that we have been prioritizing in a deal. It improves the risk profile of the balance sheet. It frees up capital on day one. It increases ongoing free cash flow, particularly in the life insurance business.
While there will be a dilutive impact on GAAP earnings, which Chris will elaborate on shortly, the benefits I just highlighted outweigh this impact. This transaction is in alignment with our enterprise strategic objectives. The transaction will have no impact on our policyholders or our long-standing distribution relationships. Going forward, we remain fully committed to our MoneyGuard and fixed indexed annuity products. Our dedicated employees will continue to provide customer service and policy administration on ceded blocks of business. As we look at our business overall, and as I have mentioned in the past, we are focused on growing profitably through leveraging our distribution leadership and broad product portfolio to deliver a more capital efficient new business mix. While we are focusing on the block transaction on today's call, given the proximity to our earnings release date, we announced preliminary first quarter earnings results.
We will be back to you next week to discuss our first quarter performance more fully. We expect total company adjusted operating income of between $1.47 and $1.56 per diluted share available to common stockholders. These results reflect the 2023 headwinds we have previously discussed, such as higher expenses and lower prepayment income, and in life insurance specifically, also higher reinsurance costs and lower base spreads. We also expect to report a net loss in the first quarter driven by the impact of new accounting for market risk benefits, which are subject to quarter-to-quarter fluctuations, and as we have discussed with you, will drive more non-economic volatility. Chris will elaborate on these results in a moment, and we will go into more detail on our earnings call next week.
Importantly, our first quarter earnings do not impact our 2023 free cash flow expectations as these headwinds were contemplated in that original commentary. We expect the earnings power of our business to come through more materially in 2024 and beyond as a number of these headwinds begin to dissipate or be offset by larger positives. In summary, this landmark risk transfer transaction aligns with our strategic objectives, brings us close to our near-term goal of an RBC ratio of 400%, and reduces balance sheet risk. In the past few months, we have been moving rapidly and have already made substantial progress in strengthening Lincoln's position for long-term growth and success. We completed the issuance of preferred stock and fully repositioned the VA hedge program to provide explicit capital protection.
We are also reducing our new business capital allocation by $300 million in 2023, while continuing to produce a robust level of sales across our four businesses. We are pleased with this transaction and the many benefits it provides. We remain confident in our ability to execute on our priorities and position our business for profitable growth to create long-term sustainable value for our shareholders. I will now turn the call over to Chris, who led the team responsible for executing this transaction to take you through the financial highlights.
Thank you, Ellen, and good afternoon, everyone. Before discussing the financial impacts of the transaction and our preliminary results in more detail, I'd like first to say how pleased I am to be speaking with you today in my new role. There's tremendous opportunity at Lincoln to drive long-term profitable growth across the enterprise, and I'm excited to be leading the finance organization during this critical time and to be partnering with the rest of Lincoln's leadership team. Turning to the transaction, the block reinsurance deal announced today marks meaningful strategic and financial progress and is the direct result of our work over the past year. After receiving strong interest and engaging with multiple parties, we conducted a comprehensive bidding process and are pleased to be partnering with Fortitude Re. The transaction represents a pivotal step in our journey to create value for shareholders.
It significantly reduces our exposure to universal life with secondary guarantees and lowers our invested asset leverage. It builds on our efforts to enhance our capital position and increases ongoing free cash flow. Let me now walk you through the details. The $28 billion reinsured block is comprised of the following: $9 billion of universal life with secondary guarantee reserves, representing about 40% of Lincoln's ULSG in force. Nearly $12 billion of MoneyGuard reserves, representing about 80% of our MoneyGuard in force, and nearly $8 billion of fixed annuity reserves, representing about 40% of our fixed annuities in force. The transaction is structured as a coinsurance treaty for the universal life and fixed annuity blocks and as coinsurance with funds withheld for the MoneyGuard block.
The agreement includes robust counterparty protections, including a comfort trust, over-collateralization, and investment guidelines to meet Lincoln's risk management objectives. As I mentioned, a meaningful portion of the transaction is in funds withheld form, whereby Lincoln will hold the assets on behalf of Fortitude Re associated with the reinsured liabilities. Lincoln will retain administration and record keeping of the policies, as well as full ownership of our relationships with and commitments to our distribution partners and policyholders. We expect the transaction to close in the second quarter. Turning to the benefits of the transaction. First, the transaction reduces balance sheet risk by decreasing our in-force exposure to long-term assumption risk associated with ULSG and by lowering our asset leverage. Second, we expect the RBC ratio to benefit by 15 points at closing.
This benefit consists of a release in required capital offset by a negative ceding commission of $375 million and other tax implications. In addition to a near-term goal of returning to an RBC ratio of 400%, we have also discussed the importance of lowering our financial leverage. This transaction will provide us with additional flexibility to strengthen our balance sheet. Finally, we expect the transaction to increase our free cash flow by over $100 million per year. In the past, Ellen has highlighted some of the headwinds to free cash flow generation from our life insurance business. This transaction helps to mitigate those headwinds. Let me now turn to the financial impacts on a GAAP basis.
We expect the transaction to impact adjusted operating income by approximately $150 million on an annual basis, or a negative quarterly run rate impact of $30 million-$35 million in our life insurance business and $5 million in our annuities business. At current interest rates, we expect the deal to have an immaterial initial impact on stockholders' equity ex-AOCI. Going forward, there could be volatility in the funds withheld portion of the portfolio as Fortitude repositions the assets. As I mentioned, the deal includes investment guidelines to meet our risk management objectives, including a limit on the amount of asset churn. Taking a step back and weighing the positive impacts to free cash flow with the negative impacts to GAAP earnings, this transaction aligns with our strategic objectives and creates long-term value for shareholders.
In addition, as Ellen mentioned, we provided preliminary first quarter results this afternoon. We expect adjusted operating income available to common stockholders of between $250 million and $265 million, or $1.47 to $1.56 per share. Included within these results in our life business, we expect an operating loss of between $23 million and $8 million. The decline relative to the prior year period is a result of LDTI, the ongoing impact from the third quarter of 2022 unlocking, higher expenses, lower alternative prepayments, and spread compression. On a GAAP net income basis, we estimate a net loss available to common stockholders of between $919 million and $904 million, or $5.43 to $5.34 per share.
This estimate includes unfavorable impacts from the new accounting for market risk benefits, or MRBs. As a result of the recent adoption of LDTI, including a portion of the MRB and hedge instrument fair value changes, which sum to approximately $1 billion. The estimated net loss excludes a favorable MRB related item that flows through accumulated other comprehensive income of approximately $1 billion, and which roughly offsets the combined MRB and hedge instrument fair value impacts on total stockholders' equity. We expect to end the first quarter with an estimated RBC ratio of between 377 and 380. Despite credit market turmoil in the first quarter, our investment portfolio performance remained solid. Finally, we expect our financial leverage ratio to be about flat sequentially. Overall, we remain confident in our ability to drive profitable long-term growth, particularly as we look to 2024 and beyond.
In summary, I'm very pleased that we have reached an agreement with Fortitude Re that demonstrates our commitment to executing on our strategic objectives. This transaction helps further de-risk our balance sheet, improves our RBC ratio, and generates incremental ongoing free cash flow. It represents a significant step in our journey to address the pressures in life insurance as we look at further opportunities to enhance the capital generation of the business. I will now hand the call back to Al.
Thank you, Al and Chris. We will now begin the question and answer portion of the call. As a reminder, we ask that you please limit yourself to one question and one follow-up, and then re-queue if you have additional questions. Given the short duration of this call, we ask that questions be focused on the transaction announced today, and that you save questions on other topics for our upcoming first quarter earnings conference call. With that, let me turn the call over to begin Q&A.
At this time, if you'd like to ask a question, press Star, then the number one on your telephone keypad. For optimal sound quality, please do not use a speakerphone. Please speak directly into your receiver or use a wired headset with a microphone. Our first question comes from the line of Tom Gallagher with Evercore ISI. Please go ahead.
Hello. Just first question is, Ellen, does this change the timing of when you would expect now to get to kind of a capital level at which you believe you'd be in a position to start to resume share repurchase? You know, maybe talk a little bit about does this change your view on leverage at all? It sounded like it's not going to affect book value, but this quarter there was a hit to book value based on the new accounting. Talk a little bit about the level of debt reduction that would still need to come, and kind of, you know, maybe timing them and, you know, whether this accelerates your from your prior plan?
Sure. Tom, thank you for the question. Just as we step back and set context, we previously communicated, first of all, a focus on executing across our strategic objectives, and those were maximizing free cash flow, reducing our capital sensitivity to capital markets, and also further diversifying the business mix. I'm so pleased, first of all, that we have taken swift action. We've made substantial progress as we have rebuilt capital, and we've increased our ongoing pace of capital generation. One of the examples of the things that we said that we were going to do as we moved into 2023 was deliver a more capital efficient product mix. That's across our retail and our workplace solutions businesses while we're maintaining a robust level of sales. That will also require $300 million less in new business capital.
We also said at the same time that we had a fully dedicated deal team and that they had been actively evaluating internal and external opportunities for our inforce, and that included possible block transactions to advance our strategic objectives, and that we would transact if in fact there was the right opportunity at the right price to create value for shareholders. We do believe that this deal accelerates our capital rebuild while also improving our ongoing pace of capital generation. We're not in a position today where we're going to update our guidance as it relates to what we termed our near-term goal of 400 RBC. I'm gonna pass it over to Chris to talk about some of your additional points, Tom, around leverage and also around our long-term, our near-term goal of 400 RBC.
Hey, Tom. yeah, to follow up on Ellen's points, you know, we're not in a position, as she said, to update guidance today. I do think that the transaction gets us closer to the near-term goal of 400 on the RBC. I think there's 2 points worth noting. One, you know, we've highlighted the goal of reducing our financial leverage, right? As she said. We mentioned in the script, you know, the transaction gives us more flexibility to strengthen our balance sheet. I would say with the increased free cash flow, we would certainly look to opportunistically address the leverage. That's a, you know, big financial objective for us. The second thing worth noting, as Ellen mentioned, you know, the 400 RBC is a near-term goal. All right.
At the moment we're fully focused on closing the transaction and bringing the balance sheet closer to that near-term goal. I would say very simply is that we don't want to be in a position like 2022 again. We'll look to update you all with a longer-term view of targeted capital levels later this year. At the moment we're focused on closing the transaction and then looking at the financial leverage. Hope that helps.
That does. Thanks. Just my follow-up is there something a little bit about the ULSG block that's being transacted on the $9 billion? I thought if I remember correctly.
That seems like it's less than 40% of your in-force, and maybe it has to do with like the vintages that are being transferred. Anyway, is there something about the block that's actually being transferred that has maybe different risk characteristics of the amount that you're gonna retain? Also just to follow up on that is what is the pro forma amount of total stat reserves you'll have for ULSG? It didn't seem like the assets split exactly the 40%, but I might be wrong on that, but just wanted to check.
Tom, we can certainly follow up with you on the math. What I would say is the $9 billion that we're ceding is 40% of the net ULSG, which is about a $22 billion net reserve. It's 40% and the assets, you know, as it relates to the different blocks wouldn't be that much different.
Yeah. In terms of the risk characteristics, the risk characteristics of the total Universal Life Secondary Guarantee block are pretty similar across the board. As you can imagine with a transaction like this, it's very complex. There are a lot of moving parts. The $9 billion right now is clearly what's part of this overall transaction. Know that the overall risk characteristics are really quite similar across this entire book.
Our next question comes from the line of Jimmy Bhullar with JP Morgan. Please go ahead.
Hi. First, just a question on the relief you mentioned on free cash flow from this deal. Can you detail what the mechanisms are? What is specifically helping free cash flow with this transaction?
Jimmy, it's a good question. Thanks for the question. We're, you know, we're not gonna get into the free cash flow characteristics by block. You know, what I would tell you is that Ellen has been discussing the negative free cash flow that we've been dealing with in our life business for the past couple of quarters, right? The main product there is the GUL block. Look, it's a challenging block for both us and the industry, as we've talked about at length, right? The cash flow strain is really due to a combination of low interest rates and with persistency and mortality pressures that have been building up over time, leading to additional reserve buildup. It's a very capital-intensive business with a negative cash flow outlook over the next few years.
That's the main drag, as it relates to the free cash flow. By ceding that, you know, you're removing a negative.
Okay. That reserve build is obviously not through the majority of the business because over time, it sort of eases. It's more when you say it's free cash flow, it's not for the next 20 years or whatever, it's for the next few years and then over time, because the way the reserves would have built, there would have been more of a strain initially and then less of a strain going forward, right?
I think that's exactly right, Jimmy. I think, you know, we could discuss the differences in timing. That's right. Over the next, you know, significant period of time, it would be a strain. As you get out, you know, 20, 30 years, it would normalize.
And then on the-
Oh, we lost you, Jimmy.
Jimmy, your line is open. Okay. Our next question will come from the line of Alex Scott with Goldman Sachs. Please go ahead.
Hey, first one I had for you is just on some of the headwinds to Life. You know, you mentioned the cash flow pressure you've had there. How would you characterize the relief that you're getting from this transaction? Are there still other things like I know, I think, principle-based reserving issues with market volatility and things like that have also been pressure points. I mean, are there still inefficiencies in Life that go beyond ULSG that you're still working on things, whether it's internal reinsurance or external? Or does this sort of, you know, take care of most of the low-hanging fruit for now? How would you characterize that part?
Yeah, Alex, it's a great question. Look, I'd say two things. First of all, we're not done, right? We think that this is a big step forward. We've been working on it for a while. You know, we're transacting on a meaningful part of the GUL block. To your point, there's a whole host of other things that we're looking at, right? We think there's a lot we can do. You know, there's a whole whiteboard with ideas, some organic, some inorganic. You know, when you have new folks sitting around the table, you generate new ideas. We think there's a ton of upside, specifically around optimizing the balance sheet and generating capital.
I don't wanna lose sight of the fact that today's a great step forward, but I will tell you that there's more to do, and we do have a plan. You know, to your specific question, look, it'll be a combination of organic and inorganic things that we're looking at. You know, let us close this deal, then we'll be back to talk about what's next.
Got it. That's helpful. Then just going back to the comments you made around leverage. I might have missed the part of it where you were describing the implications of this transaction on, you know, GAAP net income in the balance sheet. Maybe you could just mention what those are and where you expect leverage to be pro forma, and, like, what which definition of leverage are you looking at right now in thinking through wanting to bring it down? With LDTI and everything, I just not totally clear, like, what the right metric is and where it'll be post-transaction, where you wanna get it to, that kind of thing, if you're able to provide that.
Yeah, that's a good question. Look, to your point, there are, you know, 50 different definitions of leverage, right? What I would tell you is that we're focusing on bringing the aggregate debt down for the company relative to our capital base. Specifically to your question around GAAP, there's not a GAAP impact where interest rates are today as it relates to closing the deal on our shareholders equity ex AOCI. There is no day one impact to that specific GAAP measure, but as Fortitude repositions the assets in the funds withheld portfolio, there will be some volatility there. As it relates to the cash coverage question, look, we're increasing our free cash flow, right?
For cash coverage ratios that, sorry for interest coverage ratios that look at cash, you know, this is a net positive, but we are losing some GAAP earnings. To the degree that they are, you know, there's coverage ratios looking at GAAP net income, that will be a headwind. Net-net, you know, let's just keep it simple. We're looking at bringing down the debt relative to our capital and our equity base, and that's what's gonna drive our decisions.
Alex, we'll just add that as Chris had mentioned earlier, that we're going to focus on the fact that by doing the deal, that the transaction and the free up of capital and the improvement of ongoing capital generation, that those things will really enable us to strengthen the balance sheet and just give us more flexibility to address our leverage. We don't have for you today any particular guidance as to the lowering of the leverage. Chris did also mention that at the end of the first quarter that our leverage measure was consistent with what we had communicated previously. There was really no change at the end of first quarter.
Your next question comes from the line of Elyse Greenspan with Wells Fargo. Please go ahead.
Hi. Thanks. My first question, just interested with the different deals here. The ULSG and the fixed annuity box were structured as coinsurance rather than funds withheld like the MoneyGuard block. If you could just provide just some color on why it was structured that way.
Sure. Thanks for the question. you know, let's just take a step back. you know, we ran an extensive process starting last year. Ellen laid out the strategic objectives that we were working to achieve, right? The question was, how do we increase our capital position, increase our free cash flow on a run rate basis, and really de-risk the balance sheet? As we thought about that, you know, what happens is you look at all the different blocks of business on your balance sheet, and where we landed obviously was a combination of the GUL, MoneyGuard and the fixed annuities.
We went through the process, you know, strong interest, multiple bidders, ultimately, given the fact that there are multiple blocks in the transaction, you know, you would expect we evaluated a lot of different structures. We determined utilizing a combination of coinsurance and funds withheld maximize the economics of the transaction for both us and our reinsurance partner. It's also worth pointing out that the funds withheld gives us added protection as those assets stay on our balance sheet. It's a complicated structure, but one we feel optimizes our economics and gives us appropriate protection.
Thanks. My second question, you know, in response to some earlier questions, right, you guys mentioned that there would be, you know, additional inorganic and organic things that you guys are looking at. Do you guys view, you know, Fortitude now as, you know, a potential partner for future reinsurance transactions?
Elyse, we're focused on closing this transaction. You know, I would say that we're very excited to partner with Fortitude Re. You know, they have been a great partner through this process. Let us close this deal, and then we'll look at other deals. You know, one other comment, just to go back to your previous question. You know, the thing to understand as it relates to the funds withheld portfolios, you know, when we get to the point where this closes, is that you will see assets on our balance sheet going forward in that funds withheld portfolio that we don't have the economic interest to. The reason I bring this up is because we have this today with our with the deal that we did in the fixed annuity block a couple years ago.
You know, just as a reminder, when you look at our, statutory information detailing, you know, bonds at a CUSIP level, some of those assets are ours and some of those are not. Obviously there's reports that are out there looking at different assets for Lincoln. I just wanted to reiterate that because post this deal, that will become more of a factor as you think about the different assets that we hold. We're going to spend some time thinking about how to give better clarity and information, but given all of the focus right now on bank bonds and so forth, we wanted to make sure that that point was understood.
Elyse, in terms of Fortitude Re as a partner for future deals, and yes, of course, we're gonna close this transaction, but I wanna reiterate a couple of other points. As Chris mentioned, we are not done, and we're gonna continue to execute and look for ways to increase shareholder value. Also we have mentioned in the past that there are an increasing number of potential buyers out there, in particular for complex liabilities. We are so pleased with our partnership with Fortitude Re, and we feel really, really good about this transaction. We're gonna continue to execute on all of our plans, and I am confident that we will continue to move very quickly in terms of achieving all of our objectives, including improving our overall capital rebuild and also improving the pace of our ongoing capital generation going forward.
We have reached our allotted time for questions and answers. Management will follow up with those who are remaining in the queue for questions. I will now turn the call back over to Al Copersino.
Thank you all for joining us. We are happy to take any follow-up questions you may have. You can email us at investorrelations@lfg.com. Thank you all and have a great night.
This concludes today's meeting. You may now disconnect.