Ladies and gentlemen, thank you for standing by, welcome to the Prudential quarterly earnings call. At this time, all lines are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given to you at that time. If you need assistance during the call today, press star and then zero, an operator will assist you offline. As a reminder, today's conference call is being recorded. I would now like to turn the conference over to Mr. Darin Arita. Please go ahead.
Thank you, Cynthia. Good morning, thank you for joining our call. Representing Prudential on today's call are Charlie Lowrey, Chairman and CEO; Rob Falzon, Vice Chairman; Steve Pelletier, Head of Domestic Businesses; Scott Sleyster, Head of International Businesses; Ken Tanji, Chief Financial Officer; Rob Axel, Controller and Principal Accounting Officer. We will start with prepared comments by Charlie, Rob, and Ken, then we will take your questions. Today's presentation may include forward-looking statements. It is possible that actual results may differ materially from the predictions we make today. In addition, this presentation may include references to non-GAAP measures.
For a reconciliation of such measures to the comparable GAAP measures, a discussion of factors that could cause actual results to differ materially from those in the forward-looking statements, please see the slide titled "Forward-Looking Statements and Non-GAAP Measures" in the appendix to today's presentation, which can be found on our website at investor.prudential.com. In response to your request, we are changing the timing of our earnings release date starting next quarter. We will report our third quarter results on Monday, November fourth, host the conference call on Tuesday, November fifth at 11:00 A.M. With that, I will hand it over to Charlie.
Thank you, Darin. Good morning, everyone, thank you for joining us. As we outlined in our Investor Day in early June, we are accelerating our strategy to bring greater financial opportunity to more customers, to enhance the value we provide to our investors. Across each of our businesses, we are energized by our purpose of making lives better by solving the financial challenges of our changing world. As expectations of our customers rapidly evolve, it's imperative that we move quickly and with urgency to achieve our purpose. Despite what we would characterize as a mixed quarter, we remain confident about the financial goals we shared with you during our Investor Day. At that time, we increased our return on equity goal to a range of 12%-14% from the prior range of 12%-13%.
We also articulated how we can achieve a high single-digit EPS growth rate over the intermediate term with potential for a low double-digit growth rate over the longer term. The strength of our distinct business model and ability to execute our strategy gives us confidence that we will achieve our financial results. Our U.S. Financial Wellness businesses, PGIM, and our international business offers unique scale and growth opportunities that cannot be easily replicated. In the near term, however, we expect several factors to impact our level of earnings. First, as we discussed on Investor Day, there will be implementation costs from accelerating our strategy. Second, the significant decline in long-term interest rates over the past 6 months obviously affects our spread income and reinvestment rates of our general account. Third, this quarter's assumption update in Individual Life reduced future earnings. Fourth, we expect lower earnings in Gibraltar.
We have ways to mitigate some of these effects. We believe the actions to accelerate our strategy will lead to $500 million of margin improvement, of which we expect to realize a run rate level of $50 million by the end of this year. In addition, we can adjust our pricing, streamline distribution, and optimize our in-force book, all of which we are seriously pursuing. As we said during our last call and on Investor Day, we're also very focused on connecting our track record of operating fundamentals with commensurate financial outcomes. Quite frankly, part of this is on us to produce better financial results. We get it. Part of this relates to better aligning external expectations with our internal forecasts, and part of this call is focused on trying to do that.
We enhanced our disclosures this quarter to help give you better visibility on our expected results, and Ken will cover this in more detail. We also continue to explore ways to reduce the variability of our quarterly earnings, which, as you know, has been and remains an ongoing effort. Turning back to the second quarter financial results, we generated a return on equity of 12.9%, which is in line with our 12%-14% goal. We grew adjusted book value per share by 5% from a year ago to a record level of $97.15. We also maintained a rock-solid balance sheet. This provided the foundation for us to return $911 million to shareholders through share repurchases and dividends. Our quarterly dividend of $1 per share represents a 4% yield on our adjusted book value.
Our holding company's highly liquid assets stood at $4.9 billion at the top end of our target range of $3 billion-$5 billion. Turning to slide three, our adjusted EPS was $3.14, up from $3.01 a year ago. Our sales and net flows varied by business and were mixed in this quarter. We continue to see a robust pipeline of opportunities. During the quarter, PGIM had net outflows driven by a large client withdrawal, which was unfortunate, but frankly inevitable from time to time when you are the 10th largest asset manager in the world. Gibraltar had lower sales as we focused on recurring premium product and profitability over the total sales amount, which is consistent with the way in which we run this business.
On the positive side, our retirement business achieved record account levels of $478 billion and net flows of $15 billion, driven primarily by a robust pension risk transfer pipeline. Our individual annuities and individual life sales were up 29% and 27%, respectively. Our individual annuities business continued to generate consistent quarterly dividends to the parent company with more than $1.1 billion produced over the past 12 months. Finally, our LifePlanner headcount in our international business reached an all-time high. With that, I'll turn it over to Rob to touch on strategic highlights from the quarter.
Thanks, Charlie. I will provide more color on how we are growing our three differentiated businesses, US Financial Wellness, PGIM, and International. As shown on slide four, US Financial Wellness represents our workplace and individual solutions businesses that produce a diversified source of earnings from fees, investment spread, and underwriting income. Our broad set of integrated capabilities, including advice, retirement, investments, and insurance solutions, continue to help people with their financial wellness needs. Our financial wellness proposition is resonating with workplace customers, resulting in higher sales, and it is resonating with the employees of those customers, driving higher participation rates in the employer benefit programs and increased engagement with our advice platform. We believe the success has the potential to increase the intermediate-term earnings growth rate of our underlying U.S. businesses into the mid to high single digits. There are three drivers of this earnings growth in financial wellness.
First, we expect increased operating margins across our workplace and individual solutions businesses. This will result from the comprehensive at-scale solutions that our businesses provide and the investments that we're making to enable our broad capabilities while enhancing the customer experience. In the current quarter, we incurred about $20 million of implementation costs to support programs that will accelerate our financial wellness strategy. We believe these actions, along with the other programs over the next three years, will lead to $500 million of margin improvement by 2020. Second, we expect increased revenues in our workplace solutions businesses due to the competitiveness of our financial wellness platform and the increased utilization of the existing employer-offered benefits by our clients' employees.
Since the end of the first quarter this year, the number of people who have activated our digital financial wellness platform has increased from 8.1 million to 8.6 million as of June 30th. This platform provides a digital venue to address a variety of needs, including education on financial wellness topics, assessment of financial health, and tools that enable people to take action and improve their financial outcomes. In addition, our Prudential Pathways program has been adopted by 650 of our workplace clients. In this program, employees of our workplace customers participate in financial seminars delivered by Prudential's financial advisors and designed to help educate people so they can improve their financial outcomes. Third, we expect increased revenues in our individual solutions business due to our ability to provide additional solutions to the employees of our workplace customers and to other retail customers.
One way we deliver these solutions is through Link by Prudential, which is our highly interactive, personalized online resource that enables people to create a path toward achieving their financial goals. We began to deploy Link on our workplace platform last quarter. We have already made it available to roughly 1.3 million people, up from 200,000 at the end of March. Our goal is to double this to 2.5 million people by year-end. Ultimately, we believe our solutions can change the way people approach their financial health, produce better results for employers, and significantly expand our addressable market, thereby enhancing our long-term growth potential. Turning to slide five, PGIM, our asset management business, has $1.3 trillion of assets under management.
It is a top 10 global asset manager, ranking as the fifth largest investor in fixed income and the third largest investor in the alternative investments area, with significant real estate and private platforms. PGIM is the investment engine of Prudential and benefits from a symbiotic relationship with our U.S. Financial Wellness and International Insurance businesses. PGIM's asset origination capabilities and investment management expertise provide a competitive advantage to our businesses, helping those businesses to bring enhanced solutions and more value to our customers, both retail and institutional. Our businesses, in turn, provide a differentiated source of growth for PGIM through affiliated AUM flows that complement its successful third-party track record. Consistent with our historical earnings growth, we expect PGIM to generate mid to high single-digit earnings growth through a market cycle.
This is driven by revenue growth from our proven ability to capture industry flows and market share in the areas where we already have leading capabilities while expanding our margins. Our strong investment performance and expertise across a broad range of asset classes has allowed us to attract flows into higher return strategies, such as emerging markets and alternatives. This focus on higher-yielding strategies and asset classes has resulted in our ability to maintain a 22-basis point overall asset management fee yield. 90% or more of the assets under management have outperformed their benchmarks over the last five and 10-year periods. This investment performance has driven 16 consecutive years of positive third-party institutional net flows, which we are confident will continue despite the $5 billion third-party net outflows that we experienced in the current quarter.
These institutional outflows were mainly driven by a single fixed income client withdrawal of $5 billion. We serve many of the world's largest pension funds and other institutional investors. As a result, will experience large idiosyncratic inflows and outflows from time to time. Our third-party net retail inflows were $1 billion, driven by fixed income flows, partially offset by equity outflows. We are encouraged by our pipeline of mandates and our ability to continue to grow PGIM via the investments we've been making to expand our global distribution, the growth opportunities we see in markets such as alternatives, U.S. defined contribution in retail and international, and the investments we're making in technology. Now turning to slide six. Our international business includes our world-class Japanese life insurance operation, where we have a differentiated business model with unique distribution, as well as other expanding businesses in high growth markets like Brazil.
We anticipate being able to grow earnings in our international business at a mid-single-digit rate over the intermediate-term, driven by sustainable revenue growth and stable margins while continuing to produce ROEs in the mid-teens. Life Planner sales, which are about half of the total international sales in the current quarter, increased by 5% compared to the year-ago quarter. This was driven by higher U.S. dollar sales in Japan and continued growth in our Brazil operations. Sales for Gibraltar, which represents the other half of international, were 26% lower than a year ago. This reflects lower single-pay U.S. dollar fixed annuity sales in our Life Consultant channel as we continue to focus on recurring pay protection products. In addition, the recent decline in U.S. interest rates resulted in lower crediting rates, which also affected sales.
Additionally, sales were affected by continued competitive conditions in the bank channel and lower production in our independent agency channel. Expect these channels to be more volatile sources of growth measured in the short term due to competitive market pricing dynamics. We'll continue to innovate new products and consider pricing actions while focusing on maintaining our target level of profitability to improve sales over time, particularly in our Life Consultant channel. In summary, our differentiated businesses, thoughtful strategies, and quality execution continue to serve our customers well and will generate profitable and attractive returns consistent with the intermediate-term expectations that we articulated during our recent Investor Day. With that, I'll hand it over to Ken.
Thanks, Rob. I will begin on slide seven with some enhanced disclosures that we've added this quarter to provide more insights about our earnings for the upcoming third quarter and beyond relative to our current second quarter earnings. We begin with our second quarter pre-tax adjusted operating income, which was $1.7 billion and resulted in earnings per share of $3.14. When we adjust for these items, we get a baseline of $3 per share for the third quarter before including the impact of future share repurchases, business growth, and market impacts. There are three categories to consider. The second quarter included a net unfavorable impact of $49 million in this year's annual actuarial review, which will not occur in the third quarter. We assume variable investment income will return to a normalized level which is worth $90 million.
Third, there are other considerations we expect will lower results by $30 million in the third quarter. Gibraltar earnings are expected to be $15 million lower due to lower sales and lower interest rates, and corporate and other is expected to have $15 million of higher expenses. While we have provided these items to consider, there may inevitably be other factors that affect third quarter earnings per share. As Rob mentioned, we incurred about $20 million of implementation costs to accelerate our financial wellness strategy in the current quarter. We hope this slide provides enhanced visibility for future EPS considerations. On slide 18, we have provided information regarding seasonal items by business. One item to note is the end of the Wells Fargo fee arrangement in the first quarter of 2020, which has recently been approximately $15 million per quarter.
Turning to slide eight, I'll provide an update on capital deployment, liquidity, and leverage. We feel very good about the overall strength of our capital position. We returned $911 million to shareholders during the current quarter through dividends and share repurchases. Our share repurchase authorization for the remainder of the year is $1 billion as of June 30th. Over the last five years, we've increased our dividend per share by 16% per year on average. As Charlie noted, our quarterly dividend of $1 represents a 4% yield on our adjusted book value. We also continue to maintain a rock-solid balance sheet. Our regulatory capital ratios continue to be above our AA financial strength targets, and our financial leverage ratio remains better than our target. We are also pleased that Moody's recently acknowledged our financial strength with our credit upgrades.
Our cash and liquid assets at the parent company was $4.9 billion at the end of the quarter, consistent with the first quarter of 2019 and at the top end of our $3 billion-$5 billion liquidity target range. We look to continue to invest in our businesses to grow, assess acquisition opportunities to build scale or gain capabilities, return capital to shareholders. Turning to slide nine. In summary, we are focused on accelerating our strategy and remain confident in our planned initiatives for growth. We have generated an ROE that is within our goal of 12%-14%, along with a record-high adjusted book value per share. We continue to generate strong cash flows that support consistent growth in dividends and other distributions to shareholders. We maintain a robust capital and liquidity position with financial flexibility.
I'll turn it back over to the operator for questions.
Thank you. Ladies and gentlemen, if you wish to ask a question, please press star followed by one on your touch tone phone. You will hear a tone indicating that you have been placed in queue. You may remove yourself from queue by pressing the pound key. If you are using a speakerphone, please pick up your handset before pressing the numbers. Once again, it's star and then one for any questions or comments. We'll go to the line of Nigel Dally with Morgan Stanley. Your line is open.
Great. Thanks, and good morning. Looking at slide seven, you've baselined the earnings at $3 would annualize to $12. This is a quite significant reduction from the $12.75 midpoint guidance you provided at the outlook call. In your prepared remarks, you highlighted a number of factors behind that, hoping you can run through each of those in some more detail.
Yeah, sure. This is Ken. We don't want to update guidance, what I thought I could do is highlight a few items to consider that were not in our guidance that we gave last December. First, as we've articulated the financial wellness implementation cost we announced at Investor Day, that's going to trim EPS in the second half of the year. We also updated this quarter our mortality assumptions in Individual Life, and that will have an ongoing impact into the second quarter. Interest rates that we assumed in our guidance, where we find ourselves, we're about over 100 basis points below that. That is partially offset by equity markets that are higher, those two net to a negative. If you added all those together, that's worth about $0.50 relative to our guidance for the second half of the year.
Okay. Just also, I think it looks like Gibraltar earnings are going to be somewhat softer than expected. Just details behind that one, too.
Yeah, that's also captured in the interest rate comment that I made. Maybe I'll turn it over to Scott for a little bit more background on that.
So in terms of Gibraltar, earnings were impacted by several factors, some of which will persist through year-end. Net of the favorable assumptions in Gibraltar, earnings were down about $35 million year-over-year, and the key contributors to this decline were really driven by two factors. Underwriting, which was still favorable to our pricing assumptions, was less favorable than last year, and that represents about a third of that. The balance of the decline was largely driven by higher expenses related to certain technology and end-of-life system spends, process improvements in automation, and investments that we are making to support future growth.
At Investor Day, I noted that PII is starting to leverage some of the capabilities that have been deployed in the U.S. as part of the customer office and financial wellness initiatives. Additionally, given increased scrutiny on suitability and sales compliance, we are also investing in process and systems that support our distribution, including those that ensure appropriate oversight. We are accelerating some of these efforts, and we expect this level of spend to persist through year-end and into early 2020. I think looking forward to the balance of the year, as Ken noted, the recent decline in rates and lower sales will also weigh on Gibraltar's year-end results. Meanwhile, the total Japan operations continue to generate strong cash flow to PFI. We distributed $1.1 billion in the second quarter alone.
That is very helpful. Thank you.
Thank you. Our next question will come from the line of Elyse Greenspan with Wells Fargo. Your line is open.
Hi. Thanks. Good morning. My first question, you guys updated, expanded your ROE range at your Investor Day, which obviously was pretty close to the end of the quarter, and now you've reset your forward earnings expectations for a couple of your main businesses. I guess, does this push back in your minds, you hitting kind of the top end of that ROE target that you had just relayed to the street?
Yeah. Our ROE objective is 12%-14%, and that is a range. For the first half of the year, we're at 12.9%. When we set that objective, we did assume rates at the time would continue to increase, consistent with the forward curve. We've given sensitivities that show the impact of rates, which is gradual over time. As we think about that, if rates were to persist, you would see that have some impact into our ROE. Our initiatives that we have to expand margins and to accelerate our strategy, we think will keep us within our 12%-14% ROE objective in the intermediate term.
Okay. In terms of the Financial Wellness plan, the initiative there, you guys called out some expenses in the quarter. When you guys laid that out at the Investor Day, you told us what the expenses were and also the saves. Obviously takes a little longer for the saves to start rolling into the numbers. Can you just give us a sense of when we should start seeing some of the saves come into the numbers, and also in terms of sequentially, how much higher those expenses could be as we think about them building up from the second to the third quarter?
Elyse, it's Rob. Our view on the initiatives that we're undertaking with respect to Financial Wellness and both the costs and benefits from that are still consistent with what we outlined on Investor Day. We think through the year, we'll have about $135 million in expenses, $20 million of which you saw in the current quarter. We would expect that those expenses will generate about $50 million of run rate earnings by the end of the year. You'll see those fully in 2020, given that they sort of build into a run rate through the course of the year. The initiatives are all in flight, but are back-ended, in the context of when we'll be incurring the costs on a quarter-to-quarter basis.
Less in the second quarter, comparable to slightly more, at least kind of a level in the third quarter that is included in the slide that Ken walked you through in terms of expectation for costs related to corporate and other in the third quarter, and then a net more elevated level in the fourth quarter.
Okay, great. One last quick question for corporate. In the past, you guys have guided to higher expenses in the fourth quarter. I know slide seven was setting the base for the third quarter, are you still expecting that in this year, Q4 corporate expenses would be higher than what we see during the average of the first three quarters?
Yes. That's been the pattern of our expenses, we would expect that to continue this fourth quarter, we will give you a little bit more specific guidance around that at the end of the third quarter.
Okay. Thank you for the color.
Thank you. Our next question will come from the line of Ryan Krueger with KBW. Your line is open.
Hi, good morning. You mentioned that you do still believe you can generate the high single-digit intermediate-term EPS growth. Does that contemplate some of the step down function in the near-term earnings power, or should we think about that more as the growth rate off of the lower near-term EPS base?
Ryan, it's Rob. The change in expectations with regard to this year vis-a-vis the guidance we provided you, it's not material in the context of what we would expect in terms of that intermediate-term growth rate. I don't think we would view that as being a material input into our ability to achieve that more elevated level of growth.
Okay. As you mentioned potential in-force actions as one of the possible offsets, can you expand some on in terms of what you might be contemplating there?
Ryan, it's Steve. I'll take that part of your question. In Individual Life, we're looking at three main drivers in an effort to improve returns in that business over the next few years. What you mentioned is one of them. First I'd mention, though, that we continue to generate strong sales in the business. The new business that we've been writing over the last few years, I should point out has been priced using much more current assumptions that are very different from the assumptions used to price the legacy products that have generated some of the recent charges we've taken. We remain quite disciplined in our pricing, and our new sales have a very well-diversified mix, and we think these newer sales will help significantly in profitably growing the business over the next several years.
Second part of the plan is exploring different options for optimizing our in-force management, as you referenced. That largely refers, Ryan, to exploring a wider range of reinsurance options. Third, we continue to be focused on the cost-effectiveness of the Individual Life business platform. That certainly includes ongoing and continuing efforts to enhance the cost-effectiveness of the business's operating platform, but we're also exploring some innovative new ways of delivering our life insurance products to the marketplace in a cost-effective way. All of this is intended to improve returns in a business that remains an important part of our overall business mix. It serves an important need in the marketplace and is a critical part of our Financial Wellness value proposition.
Thank you.
Thank you. Our next question comes from the line of Thomas Gallagher with Evercore. Your line is open.
Good morning. First question I wanted to ask is on Japan. Can you provide a little perspective on what's going on in that market more broadly? Gibraltar, I know you highlighted the weaker sales levels on the FX products. POJ looks like they held up better. Are you seeing significant increase in competitive pressures from the domestics? I think I had heard a mention of some regulatory scrutiny. Is that on the FX product? Maybe some elaboration there. Thanks.
Hi, Tom. This is Scott. Let me start. I think I gave you a pretty good rundown on Gibraltar. Let me start with POJ, come back to your more details in your question. In the case of POJ, our in-force block continues to grow, the in-force block was actually up almost 5% year-over-year. Our LifePlanner count in Japan was also up about 5%, I think a little more than 5%, year-over-year. You may recall that's comfortably ahead of the 2%-3% LifePlanner overall growth that we noted on Investor Day. I would say the fundamentals of the POJ business remain quite strong and most of the challenges that we're facing have been on the Gibraltar side. I talked a little bit about the spends on accelerating some of the customer office and financial wellness.
I also alluded to just enhancing the overall collection of data and automation that we have in light of the, I would say, really global, not really restricted to Japan, focus on sales suitability. We're trying to get that in place and probably accelerating that. In the case of Gibraltar sales, I think that's really where the market dynamics have been more challenging for us. As you know, particularly in our third-party distribution channels, we try to be very focused and disciplined about the products that we sell and meeting our return hurdles. With that in mind, we are experiencing sales declines. We try to focus on recurring premium death protection products.
We find those to be much more persistent, in the long run, we view those as really the most attractive products for us to sell, but we also think they're the most beneficial to our customers. We're focusing less on single premium products, which tend to be more variable and subject to more pricing and I'd say other market factors like interest rates. The good news is that our recurring premium sales have in fact increased nicely within the Life Consultant channel. However, this is being more than offset with lower sales on single-pay U.S. dollar annuities that are impacted both by competition and by the change in rates. I'd say the other notable decline in sales was in the bank channel, which primarily relates to trying to maintain the pricing discipline that I commented on earlier.
Lastly, we experienced a smaller decline related to the tax law change in the independent agency channel. As you know, the new regs are out, but there's a big backlog on developing new products at the FSA. I guess the point I would make or end on that is that despite these challenges, Gibraltar's in-force block actually grew 2% year-over-year, which again goes back to reflecting the high persistency of the recurring premium products that we sell there.
That's helpful, Scott. Just as a follow-up on Japan, POJ or Life Planner in total does have very good persistency as well. It's still above 90, but that's actually been declining, and it declined 90 basis points sequentially. Is there anything going on persistency in that part of the business?
I don't really think so. That was a very small change, and if you look at it over, and the way we tend to is look at over longitudinally over a long period of time, it still remains quite stable. I don't think we see anything at this point that we view as significant. We of course watch it every quarter.
Tom, this is Charlie. Let me just give a little history of the bank channel, because it's important to understand how we think about the bank channel, and that is the marginal sales aspect of it. In a bank channel, sales can get away from you pretty quickly, and we watch that like a hawk. What we're really focused on, as Scott said, is the profitability of the business and the type of product that we sell, and that the sales volume will vary as a function of that. There is more competition, especially on the yen-based side, and that's hurt our US dollar sales and recurring premium sales. In our minds, what we're doing is protecting the level of profitability and the type of sale we have and letting sales volume vary as a result of that.
That's the way we've approached the bank channel in the past, and it's completely consistent with the way we're doing it now.
Understood. Thanks.
Thank you. Our next question comes from the line of Suneet Kamath with Citi. Your line is open.
Thanks. On the assumption review, are there going to be any impacts on your statutory results, either in terms of stat earnings or year-end cash flow testing from these changes?
Yeah, no, for life, the stat assumptions are prescribed. There wouldn't be a stat impact for the life update. The favorable impact on the retirement update would flow through to stat. That's the extent of it.
On the life assumption review, we've been tracking this, I would say every year, and it seems like over the past, call it four years, you've had maybe $900 million or so of these assumption changes just in the life business alone. Maybe some color on why is it this business that's getting so much of this impact, and are you confident that kind of have this behind us now in terms of the current assumptions?
I mean, this is Steve. Let me make some kind of overall comments, and then I'd invite Ken to expand further. You're right about our experience over the past few years in the Individual Life business in the annual reviews. Most of that experience has been around adjustments on the mortality front, including this year's. As a reminder, though, if you extend the look back over the past six or seven years, our mortality experience has been largely aligned with our expectations over that period. When you look at it from a Prudential total company standpoint, as we've seen the negative mortality experience in Individual Life, that's been offset to a quite meaningful degree with positive longevity experience in our retirement business, very much as designed and intended.
With that said, though, as I mentioned earlier, the ongoing impacts of the assumption updates that we've taken cumulatively over the past few years have brought us to a place where we want to bolster and improve the current levels of return in the business. The three-point plan that I mentioned earlier is really how we think about that going forward over the next few years.
The only thing I'd add is just a reminder that some of the updates that we took a few years ago were related to systems conversions and going through that process, and that part is behind us. Also, in terms of assumptions and evaluating the experience where it's credible, we call it like we see it, and we stay current with that. That's our philosophy with assumptions.
Thanks.
Thank you. Our next question comes from the line of Andrew Kligerman with Credit Suisse. Your line is open.
Thank you. Just trying to digest the response to Suneet's question, just simply because it's happened so many times in the last four years. I think Ken just said you call it like you see it. Steve, you mentioned that you're exploring different options for the in-force management, including reinsurance. If you're doing that and the reinsurer is taking a look at your block, why wouldn't we expect another charge to come, as they may be uncomfortable with the block?
As I mentioned, Andrew, we're looking at a range of reinsurance options. We already have, of course, an active reinsurance program. That's been one where our dealings with reinsurers have been quite productive even over the past few years as we've had some of these updates. We will continue to explore different options, including, as I mentioned, an expanded range of them.
And could-
part of the picture, but not by any means the totality of.
Could that conceivably end up in another charge?
Yeah. We don't want to go into specifics in the theoretical.
Okay.
Reinsurance can also be used to narrow volatility as we reinsure more business and trim some of the larger case exposure. There's a number of various ways that we can think about the benefits associated with reinsurance, and we're looking at that.
Got it.
Rob, the only thing I'd add on is to repeat essentially what Ken said is the intent of the assumption update was to bring current the valuation of the liability to our best estimate of what mortality experience we're actually seeing in the underlying block. We would not expect a third party to look at that and then come to some different conclusion than we did.
Got it. Just in the earlier questions, I think a response was that there's some backlog with the FSA and some regulatory considerations. Could you elaborate on that?
That was simply related to the change in the tax law that occurred in February and was reiterated in July. Carriers like Prudential are designing some new products, you have to file those products and go through the queue. It's kind of the usual thing, but since it was related to a single action by the JFSA, there's just a queue.
Got it. Just with the recent activity at the Japan Post, they had some mis-selling. Any higher degrees of scrutiny occurring with the regulators?
I guess what I would say, one, we don't distribute through Japan Post on the one hand. To the broader question, I think it was about two years ago, the FSA shifted to more of a principle-based kind of a framework, kind of moving to global standards. As they do that, I think they're rolling out their exam process and focusing more. I think people are, as they go through that process, they're saying, "Gee, I want to make some modifications or change this or get in line." I think that's really, I would say a fairly orderly and expected process, but it is in fact a process that's underway. It's already a couple of years out, and my guess is it has a couple more years to go before it's fully rolled out.
Thanks much.
Thank you. Our next question comes from the line of Humphrey Lee with Dowling & Partners. Please go ahead.
Good morning, thank you for taking my questions. I have a follow-up question related to the broader kind of earnings headwind. I think in Ken's remark, you talked about roughly $15 million lower earnings power from lower sales and also high investments. I just want to see if that is your expectation for the foreseeable future, as you mentioned the headwinds will be through 2020?
I guess what I would say was, just based off of some of the things going on and the benefits from putting some of these things in place, we're trying to get that done more quickly. I don't think I'd say on the expense side, you'd expect a lot of that to run through all of 2020. I guess I would say I expect this over the next three to four quarters, not the next two.
Okay. In terms of kind of the lower sales and expense impact, how should we think about that? Because I recall from your Japan Investor Day, you highlighted for both your POJ and your broader business, sales doesn't really affect your in-force earnings. I'm kind of a little surprised to see an earnings drop as a result of lower sales. Just wondering if it's just more of expenses as opposed to sales.
Well, I think I gave you a proportion that it was skewed a little heavier to expenses. When you're looking at multi-year sales, we've come down, and it appears that we're bottoming out at these new levels. By the way, we are taking actions, whether it be in products or incentives, in some new designs to help offset. We're not, if you will, standing still while we're experiencing that. The cumulative effect of the sales levels being off where they are and kind of plateauing at this level is also part of the equation.
Okay. Shifting gear to retirement. Looking at the kind of the earnings run rates and outlook seems to be a little bit weaker than where it has been. Granted, low interest rate definitely is the pressure. I was just wondering if there's any other things that may have affected the earnings outlook for retirement in general.
Humphrey, it's Steve. I'll address that part of your questions. The impact on retirement run rate earnings is largely in the net interest income area. Part of it is what you just spoke about, some spread compression as a result of the current rate environment. Another aspect of it is that at the end of last year, we released a significant amount of AAT reserves in the retirement business and transferred the assets backing them back to the parent company. That also contributes to lower investment income for the business in 2019.
In terms, I guess, if we wanted to mention the kind of the impact of the AAT reserve releases on net investment income, how should we think about that?
When we updated our assumptions in our retirement business for AAT, that led to a release of those reserves. Also, if you recall, last year we did strengthen our long-term care reserves, that led to essentially no net impact overall for the company. Although you'll see lower earnings in the retirement segment related to that, those reserves went to long-term care, which is not included in AOI.
Got it. Thanks.
Thank you. Next, we'll go to the line of John Nadel with UBS. Your line is open.
Hey, thank you. Good morning. I have a couple of quick ones. Rob, it sounded like with your commentary about PGIM, an expectation that institutional net flows will continue the string on an annual basis of positive. I assume that's with an eye toward your pipeline for the back half of the year. Could you just maybe expand on that?
John, this is Steve. I'll address that part of your question. Yes, I think the circumstances around this particular outflow this quarter were mentioned by Charlie. I just mention a little bit more about it. It really was a matter of a client looking to consolidate the number of managers they work with. We're quite familiar with that dynamic. We have very frequently been the beneficiary of it. This was one particular time when the dynamic worked against us. We still have a great deal of confidence in the ability of the business to continue to demonstrate strong fundamentals and strong net flows, continuing the 16-year string on the institutional front. I would say that's borne out of a number of things. Number one, we do see an attractive near-term pipeline in the marketplace.
We like our prospects for competing for that opportunity set, given strong investment performance, deep expertise across a range of asset classes and investment strategies, and investments that we've made in our distribution platform. All of those things taken together have been the contributors and the drivers of solid net flows, we expect they'll continue to be.
Thank you. Then maybe for Ken or Rob, in looking at slide 18 of the deck, I wanted to make sure that I understand how to interpret this, because I think the seasonal portion of this is tremendously helpful, and thank you for that. I'm looking at the column that provides the baseline range. I just want to understand the width of the range by segment. Are we to take that to mean that driven by seasonal and other factors, in some quarters, the earnings can be at the low end of the range, and in some, the high end of that range? Is that the way to interpret that?
Yeah. Let me explain what that is. This is really just factual. If you look at the last four quarters and you adjust for assumption updates, market experience updates, variable investment incomes, the things that are noted in the footnotes.
Yeah
That's the actual range that has occurred over the last four quarters.
Each of the last four. Got it.
Yeah. It's there to give you a sense for what the highs and the lows have been.
Got you. Okay. This isn't sort of a guide saying, this is just actual, it doesn't include any growth expectations or that sort of thing.
No assumptions. It's just the facts of the last four quarters.
Got you. Perfect. My last one is, I wanted to try to differentiate between run rate and actual dollar contribution, thinking about the wellness initiative. You've talked about a $50 million run rate contribution to earnings by the end of this year. My sense is that the actual dollar contribution to earnings in 2019 will be negligible. First, I wanted to make sure I understand that correctly, then second, if we fast-forward and think about 2020, how should we differentiate between run rate and actual contribution?
John, it's Rob. Let me try to address that. With regard to 2019 specifically, recall that the expenses are largely back-end weighted as well. What you'll see.
I'm separating the expense item. Yep.
The idea is in 2019, we'll incur those expenses and get to that run rate level of savings by the time we've incurred all those expenses. Because that happens so late in the year, to your point, there'll be a relatively modest contribution in 2019 from an earnings standpoint, simply because both the expenses and the earnings are going to be concentrated in the latter part of the year. As you get into 2020 and beyond, what you see then is, from a pure earnings standpoint, you'll see a combination of the benefit of the run rate from the prior year and then some portion of the building run rate during the course of that year contributing into the current year.
What we intend to do is, we'll begin at the end of this year, we'll provide better visibility into both the sources of the expenses, you understand what initiatives they're linked to, importantly, how much and where we should expect to see the earnings benefits associated with those initiatives. Right now, it's just not material enough to provide that kind of detail. As we get further into this year and we have more materiality, we'll provide that kind of insight, I think that will provide you a better basis then for being able to assess not just the run rate impact, but how much of that run rate would be in the current year as opposed to for the succeeding year.
That's helpful. If I can just squeeze one more follow-up on that. If you achieve $500 million, what's the calendar year where we should see the full contribution of that $500 million?
We would achieve that by the end of 2022, and so you would see in 2023 the full year benefit of that.
Perfect. Thank you.
Welcome.
Thank you. We'll go to the line of Alex Scott with Goldman Sachs. Your line is open.
Hi. I just wanted to touch on Individual Annuities. I guess the ROA seems to continue to trend down there, and I know the long-term ROA target was a bit lower than where you have been running. I guess, equity market's been strong. It was a little bit of a surprise to me that we would see that kind of accelerating down to the long-term ROA trend as fast as it has with that economic backdrop, appreciating the rates have gone down, too. Can you help us think through that? Should we just assume we're at that long-term ROA now? Any color would be appreciated.
First, our ROA evidences the high profitability of our variable annuity business and the strong ROE. As we've mentioned in the past, we expected the ROA would trend down over time as our business persists and moves into lower fee tiers, but also as a result of our strategy to diversify our product mix. It should also probably useful to know that our earnings are less sensitive to markets than our account values. That's due to our hedging program. In the second quarter, you saw, as you mentioned, the combination of two things, equity markets rising and interest rates falling, and both those lead to increases in account values. It was really a denominator that led to the trimming of the ROA.
The point here is our hedging program makes our earnings more stable than our account values.
Got it. Okay. Maybe a follow-up, just thinking more high level. You guys up to the high end of the ROE guide for the intermediate term at the outlook. Has anything changed since that time? Just thinking through how much lower the earnings power is today from what I had
thought at the time you were making those comments. It seems a bit more aspirational sitting here today than it did at that time. Can you help me think through, is there anything other than the financial wellness program I should be thinking about that would get you up closer to the midpoint of that intermediate range?
Alex, it's Rob. I think Ken did a good job of walking through sort of the impacts of, if you sort of think about the guidance that we gave and then the change in that guidance being reflected in sort of a handful of items that we've articulated. When we think about what we've articulated on Investor Day, I think what's important to understand is that when we're at Investor Day, we're talking about direction, and we're talking about strategy, and then the associated financial outcomes that result from that direction and strategy. As we think about those, we measure those in years, not in quarters. Obviously, in guidance and in calls like this, we talk about sort of the more near-term results.
On Investor Day, I think what I can reflect on is first, Charlie had in his remarks indicated that march toward what we continue to believe is an achievable level of higher earnings and higher ROE would be non-linear. I think you're seeing some of that non-linearity in the current quarter. Ken talked about both the potential for the life assumption updates. I think he mentioned that we were taking a hard look at those assumptions during the Investor Day. Also we've provided then and previously market sensitivity. None of that I would consider to be particularly new information. Scott, even when he talked about the international business, as you mentioned earlier, spoke to the fact that we would be adopting many of the initiatives that we had begun in the U.S. into Japan and that we would expect to be making similar type investments there.
I think that per Charlie's opening remarks, that we remain very confident in the messages that we delivered on Investor Day regarding both the intermediate and long-term prospects for our businesses, nothing that's occurred in the current period causes us to feel any differently about what we messaged on Investor Day.
Got it. Thanks for the responses.
Thank you. We will go to line of Erik Bass with Autonomous Research. Your line is open.
Hi, thank you. I just wanted to come back to the mortality topic. I was curious, is the deterioration related to any specific vintages or types of policies? Are you really reflecting a broader trend?
Erik, it's Steve. I'll address your question. Main point is that the updates really related to longer-dated vintages, earlier vintages in our book of business. In regard to looking at specific product categories, the one-time impact is largely experienced in the universal life block. The ongoing impact is primarily in universal life, but with some impact in other parts of the business as well, including term.
Got it. Then you're having not quite a complete offsetting adjustment, but obviously the retirement business is benefiting on the longevity side. You have differences in business mix there. What is it, I guess it's driving the positive adjustment on that side.
Yes. The way we look at that, Erik, is that when we perform our annual review of assumptions and other refinements, the nature of the updates we make, just as you're commenting, they vary from business to business and will naturally lead to differences in the extent and magnitude of one-time impacts versus ongoing impacts. The nature of the updates we made in our retirement business led us to record the more meaningful one-time adjustment that we mentioned in expected benefit payments. While there were some ongoing benefits from our review in the retirement business, they're not of the same magnitude of the negative ongoing impact that we see in Individual Life. That's why we emphasize that point about Individual Life.
Got it. Just to make sure we have it correct, what would you size as that ongoing impact for Individual Life, and is it something that should persist into perpetuity?
Yeah. It's about $25 million a quarter, and it would be recurring for the foreseeable future.
Got it.
I want to mention the things that Steve has in mind and the business has in mind to help offset some of that we talked about earlier.
Thank you. That's helpful.
Thank you. Due to the elapsed time, I'd like to turn the conference back over to Mr. Charlie Lowrey for any closing comments.
Thanks. I'd like to summarize our thinking and the actions we're taking because we've talked about a lot of different things on this call. I'll divide it into a couple of categories. One is clarity of earnings, and two are some of the operational actions that we've highlighted. In terms of clarity of earnings, we are in the process of simplifying our earnings and clarifying the visibility of our drivers and financial outcomes. We're taking efforts to help you understand our earnings trend and have taken some material steps this quarter to do so, and we will continue to do so. In terms of actual operations, we position 2019 and our guidance in 2019 in terms of a year of transition and making investments that would enable us to grow in subsequent years. We're taking actions accordingly.
We talked about the investment in future of work, which should produce $500 million in margin improvement over the next three years. There are costs associated with that, as Rob indicated, and these initiatives are beginning to come through this year. Those costs are up front, which means there's a lag in terms of payback. That's the first point. The second is we aren't happy with the performance of our life business. Consistent with Steve's comments, we are seeking to increase the performance of the business as well as looking at ways to optimize the in-force book. Finally, there have been higher expenses in certain businesses, like Scott called out with Gibraltar. As we think about changing the way in which we operate, we have to spend money on new ways of becoming more efficient, investing in technology and platforms, et cetera.
Some of these costs will be ongoing. It's really a cost of doing business in the current environment, and others will be transitory, a surge, and then leveling off. Gibraltar falls into the latter category, with higher expenses tapering off during the first half of probably next year. All this is to say that not everything can be solved overnight, nor will the results coming from the solutions be linear. We do have a real sense of urgency, as you would expect us to have, and that we spoke about on Investor Day. What I can assure you is that we firmly believe that many of these initiatives and challenges actually provide extraordinary opportunities over time, which is why we have high conviction around the ROE and EPS targets that we stated on Investor Day.
On a personal note, and speaking for the entire management team, we don't like disappointing our investors or other constituencies. On the contrary, we like to excel. While I can't make any statements as to what the next quarter or quarters will provide, what I can absolutely assure you of is that we're working on executing our plan with the intended results of changing the trend line in the right direction. We look forward to keeping you updated on our performance and the tangible progress that we make as we strive to develop better financial outcomes for our customers and just as importantly, sustainable results for our shareholders. Thank you all for taking the time to join us today.
Thank you. Ladies and gentlemen, that does conclude your conference call for today. Thank you for your participation and for using AT&T Executive Teleconference Service. You may now disconnect.