Rick McKenney, CEO of Unum Group. Joining us on stage also, Tom White, head of IR. Rick has been CEO since April of last year, been with the company since 2009, where he served as CFO. I think it's fair to categorize Unum as having some of the most consistent margins within the insurance world. In recent years, we've also seen a nice acceleration in premium and sales growth of its core group protection products. Rick, maybe we could start there in terms of sales and premium. The last couple of years, a nice acceleration after some flat years going back to three years ago. Could you discuss the environment, the pricing environment and competitive environment for US group products?
Sure, I'd be happy to. Thanks for having us here, Seth. We really appreciate it. We appreciate all of you being here as well. 2015 was an extremely good year for the company. Some of the trends that we had seen over the last several years continued to accelerate. In our business, we saw premium growth across the board of 5.5%. In our business, that's quite good in terms of bringing on new customers, growing the business, taking the company forward. We were very happy with the growth trends that we saw last year. I think that it hearkens to a couple of things. One is our relative competitiveness was actually quite good in the marketplace out there. As people have become accustomed to with Unum, we also did a very good job with our pricing. Our margins remained very healthy, very strong.
We really come off of a really running end to 2015 in a very good environment. That's also true of our persistency. Not only are we bringing on new sales at good rates, we're also keeping our customers, and that's a big thing in our market. Having that consistency generates good, strong margins, good, healthy growth, and that's something we saw certainly in 2015, which was coming off of a pretty good 2014 as well. As we look out to 2016, we actually see more of the same. When we're going through that, the competitive environment seems reasonably rational in terms of what we do. The reality is, for our environment, people have to continue to increase price, to take price given the low interest rate environment that we're in today.
What we've seen is a relative stability in the markets that we have out there. We entered the year well on a group business across the board, where we're dealing with customers ranging in size from smaller case all the way up to the large group cases. As well as we feel good about our voluntary market, sold both through our Unum US business and through Colonial Life, and start the year well with the sales force very much engaged, feeling like we have the right products, the right capabilities to take to market, in a market that's still very receptive to the type of products that we bring out. 2016, a good start to the year coming off of a very strong 2015.
Talking about that trend of voluntary versus the other sales, I think if we look at premium now or sales, I think it's 70% of sales are employee paid. Is that right?
A portion that would be employee paid, that's correct.
That's up substantially from a couple of years ago, was more like half and half.
Yeah. When you look back, actually, and you take it back even a decade or so, you had a much higher component coming from the employer paid side. It's been shifting more so to the employee paid. If you went back to a 2002 type timeframe, you'd be looking at 60% employer paid, 40% employee paid. That's really flipped as you look at where we are today. The employee is taking up a much larger share of that, both through even in the group space with partial funding that they're bringing in, and then importantly on the voluntary space where they are actually the ones taking on the contract. The employer is providing the environment for them to buy this type of product, but ultimately it's a customer choice. That trend continues.
We see that continuing as we look forward as well, shifting that burden actually to the employee. We think we've got the right capability and product that the employee still finds a very compelling proposition to take up. That's been the trend we've seen, and we expect that to continue.
What does that mean for premium growth and sales growth in terms of that trajectory?
Well, I think you saw it last year. When we see premium growth overall, continuing to see premium growing 5.5% in the company is actually quite good. That's actually coming on the backs of some very strong voluntary sales that we saw, some premium growth there, a very stable group business that we had today. It's going to be continuing to drive some of that growth. We're well positioned at all sectors of the market, both the large case all the way down to the very small case in terms of voluntary benefits. We'll continue to see our growth rates in that environment.
The U.S. job story has been probably one of the few global bright spots in terms of the economy. Have you seen that trickle through Unum in terms of revenue growth? Does current weakness to start the year put any risk to your targets for 2016?
When you look at the economy overall and what we see out there from a job perspective, we felt a little bit of lift as you look over the last several years with job growth. Remember, job growth for us has to be particular to the type of markets that we insure as well. We would have seen on a historical basis kind of a 2% lift every year to premium based on job growth and wage inflation. What we've seen over the last several years is some of that job growth has started to come in. Think about one, 1.5% type lift that we've seen there. What we haven't seen as much of is the wage inflation.
It's not just job growth, it's also people getting paid more at work and to actually be able to take up their benefit levels. We haven't seen as much of that. We would look forward to seeing some of that. With some of the questions out there now, whether we see it or not, we're still generating good margins, good growth, with or without that.
I think cross-sell opportunities and leveraging your client base to sell other products has been part of the story the last couple of years. Could you elaborate on that a bit?
Sure.
Where you see opportunities there.
Yeah. We want to be providing employee benefits across the board at the workplace. That does not include major medical, does not include the retirement. When you think of the other products that are traditionally distributed at the workplace, you could think about different elements of disability, life, and those type of products, voluntary products. That's an area where we think that we'd like to provide all those products to the individual. If you go back over time, we've been increasing our number of products per potential employee that we have out there. You can talk about it as cross-sell. We think about it as a broader cover for that employee. We've seen the number of products per customer kind of elevating from the 2 to up to 2.3 to 2.4. We actually have seen more uptake of more products per customer.
That's something we'd like to see continue. We think we do a very good job in the employee benefit space, we want to capture the share of all those different pieces, whether it's disability, life, dental, where we have a partnership today, all those different pieces are where we can expand our reach into each of those employers.
One of the areas that probably weighs on the stock, the core business is very strong. The closed block is an area that has perpetually weighed on the stock. The group business seems to be immature relative to the rest of the book. Can you provide a little bit of context on the guarantees that you're offering in the group business? Maybe more importantly, guarantees that you're not offering in the group business.
Sure. When you think about our book of business, we're talking particularly to long-term care within the closed block, we have two businesses within there. One is a group business, which is sold at the work site, has done so. That's about half the business. The other is an individual business, which is a little bit older, was sold a little bit earlier. Both of those businesses are now closed to new sales. As we continue to run that business, that 50/50 mix of those two is pretty consistent. Group is one that's probably less understood. We're probably the larger writer of group insurance out there, it does have less features associated with. The benefit covers are roughly probably 60% of what you'd see in a normal individual policy. There are no lifetime benefits.
The average length of benefit provided is three years, three and a half years, something like that. It actually has a different dynamic, and the employer actually has been providing a lot of funding for this as well. Roughly half of the policies out there have some sort of employer-funded piece to it today, which gives you a good dispersion of risk that you see across that book of business. It is a little bit younger in terms of the book, but that also gives us flexibility, time to continue to reprice, which is a very important piece of how we're managing our closed block, how we're managing long-term care. That would be a business where we will continually be repricing to make sure that we're getting justifiable increases to those policies as well. I think it's half of our book today.
It does look a lot different than the individual long-term care book that others are used to. I think that that's something we can manage as part of the whole.
If you think about the individual business, perhaps a little bit of a richer product. I believe the majority of reserves support that. How do we think about the sensitivity to the individual business to experience coming in different than expected, interest rates staying low?
To give you a sense of that, in 2014, with a comprehensive review that we went through in the book, we do this every year, we went through and reset most of our assumptions around that business as part of our 2014 review. We're actually tracking all of that experience to what we're seeing out there today in the experience in the book of business. We've been tracking over the course of 2015 very closely to that. When you think about that book of business, one of the things that's more challenging is actually the interest rate environment and how we're investing behind that book of business.
What we chose back in 2014 was to look at if interest rates, and more importantly, invested rates, because when we don't actually buy treasuries to back that, we buy books of business where the all-in invested rate is actually a little bit higher. If that stays stable for the next five years and grades up slowly over the next five years after that was our assumption going into that process. It's one we watch, but it's a 10-year view, a 10-year trajectory. When we look at that, we feel okay about where that is today. Even as rates have come down, it really hasn't changed our longer-term view around what we're doing in that book of business.
When you took that charge in 2014, you gave a sort of a three to five year comfort zone, if I recall, in terms of buffer before you would need to take another charge if interest rates didn't move. I think interest rates have actually come down since then. Does that movement down in interest rates change the timeline?
Yeah, I don't think we actually said there was a three to five year buffer when you think about it. It is that view of that 10-year trajectory. It probably, in effect, is kind of that view that we wouldn't change that very quickly in terms of how we see that. Once again, it gets back to invested rates. It's not just about what interest rates are today, because they probably are a little bit lower today, and think longer into the curve as opposed to just the 10-year. A little bit lower from a treasury perspective, but the all-in investment rate, because you have seen credit spreads widen, is actually pretty consistent with what we would have seen then. It's going to fluctuate a lot over time. 2015, we actually invested at our targets across the board for long-term care.
As you think about 2016 going forward, we're not going to be moving our view of the next 10 years very frequently, and that's what you should expect.
You mentioned going out to the market and getting price increases. What's been the success in being able to get the ask for price increases and what's built into your margins in terms of future assumptions.
Yeah. When you think about price increases, an important piece of how we manage that block, it is a closed block, but we have the ability to reprice that business. Given the length of the block, we'll be continually looking at that and making sure they're justifiable rate increases, and we'll talk to our regulators about what we can have approved. The current price increases that we're doing out there today actually gives the consumer choice as part of that process. We talk about it as a Landing Spot, and what it basically says to them is you can either accept a price increase that we have out there in the market today, or you can reduce your benefits, particularly your inflation benefits that you have out there today.
That actually is, we're in the middle of that today, the receptivity of that has been very good with our regulators, we're implementing that over the course of 2015 and 2016. Actually 2016 and 2017. We'll continue to look at those books of business. It's not just one whole holistic move. It's actually look policy by policy, book by book, and talk to regulators about what is the appropriate pricing on that. That process has gone pretty well. We're achieving what we expected as part of our reserving process. If you think about what we did in 2014, what we took in for new price increases that baked into our reserves, we just took in those that have been filed to date.
That's kind of been our historically how we've looked at it is we'll take into account anything that's been filed and take that into the longer term view of what we see the premium flow of that and the ultimate reserves for the policy.
Now, that Landing Spot Program, that actually is fairly dramatic impacts to, if you thought about it on a price increase sort of apples to apples basis, right?
It's actually a very good option for a consumer, and it works well for us. If you think about it, oftentimes people that have taken long-term care policies and have, let's say, a 5% inflation rider, they're over-insured now, actually, for what they need, given the low inflation that we've had in the economy. Actually, them reducing their benefit and actually looking to, let's say, a 3% inflation rider is much more appropriate where we are today. That's good for them. Ultimately, it's positive for the company as well, as we take that forward. When you look at that, it's a real win-win between the two. They can take the higher price and continue to have that 5% roll-up, but we think that it's a good option for them to look at taking an inflation adjustment.
If you make the inflation adjustment, do you still have flexibility to change pricing in the future?
It's just part of the whole process. I think that when we look at books of business and how they're going, how they're transpiring over time, we continually evaluate what's the right pricing level to charge and work with our regulators to implement that.
In terms of de-risking the book, what are the options right now if it's reinsurance or other type of risk-sharing arrangements?
You've actually seen in the market a couple of transactions out there where people have used reinsurance, have used structures to work with long-term care. I can tell you those are smaller and those are more challenging to do. It's something we stay on top of from a market perspective because it is something we want to do, is actually to move that to different players that are taking on that risk. It's something we stay on top of, talking to a lot of players out there, but it takes time. It takes time mostly for actually the data to become more mature. People, when you think about long-term care risk and how it's playing out over time, the data is still forming over time.
When it does do that, as it will exponentially over the next several years, you'll see more players willing to take on that risk as a counterparty, and that's something that we'll look to do.
Are there any other options to that business if you feel that that business overly penalizes the stock? Are there any other options to consider?
I think there are more options. I would say the early stages of those options probably look mostly like reinsurance. So you kind of have that life cycle. We've seen it in other industries where you have the life cycle starts as a reinsurance, then moves in more to a securitization markets, and then can move to other things. We have to get to kind of, I think, we have to get more to step 1, which is more reinsurance and counterparty taking that risk as we move down the spectrum of sharing that risk or moving to other entities.
Credit's been, we were talking about it earlier, credit has been a big focus, particularly for Unum, which appears relatively concentrated in energy, if you look at it just in a vacuum or you look at it in a simple screen. Could you talk about the exposure to energy and what the sensitivity may be to capital in the current environment?
Sure. When you think about our energy exposure, first of all, we run a bond portfolio, so backed our assets are primarily bonds that we have behind the portfolio. When you think of energy actually as a percentage of the overall bonds, we actually are very consistent in what you'd see from a Barclays index, maybe a slightly higher in terms of our energy exposure. We historically have thought that that's been a good asset class for us, given what you have, and particularly think about midstream, some of the other assets that we have out there. It's actually been a good line of investment that we've had over a period of time.
The challenging environment that we have today, we're looking obviously very hard at that, but when you look at the construct of our energy portfolio, it's much more weighted to the diversified and to the midstream. Very little that we have actually in energy services, oil field services. We actually feel like the construct of the book is okay. Notwithstanding that, energy is under pressure. We fully recognize that, it's something that we look at. We look at it bond by bond, our credit team, to understand where we are today and where we could go. To give you a couple of sensitivities, we could see credit losses over the course of the year. We think that still fits very much within our capital plans. When we run our capital plans, we think about scenarios of actually taking credit losses.
When you have a book of business our size, it's going to happen, although it has very little over the last four or five years. When you think about the other pieces, migration or downgrades in the portfolio, as an insurance company, we have to hold actually higher capital levels for lower rated bonds. We expect we will see some of that. We don't know exactly where or exactly how. We may see some migration in some of those bonds. We'll hold higher capital levels. The sensitivity that we put out as we talked about our fourth quarter earnings, that if we move the whole energy portfolio a notch, it's worth about five RBC points. That RBC, think about it, off of a 400% RBC level, risk-based capital level that we have today, that's not a big movement at all.
We think that from a ratings migration, certainly manageable in the capital levels that we're holding today.
When you layer it all in together and you think about a stress scenario, how do you think about a stress scenario? Is it a one-notch downgrade, a one-letter downgrade, impairments? Just trying to put it all together in terms of.
Sure. We try and give those benchmarks because they're helpful. That's not how we think about it. We actually go name by name and think about where oil or gas will be at a certain level, what the company looks like today, and we have analysts that are going through and laying out those scenarios for different oil levels, particularly off of where they were. If you go back a couple of weeks, down in the mid-20s, what does that do? What does the trajectory look like? Make some assumptions, because you need to, about what management is doing to rectify the situation as well. This isn't just a one path it'll follow. You've seen a lot of actions by management as of late, selling assets, actually cutting dividends, there is reaction that can happen over a period of time.
As we look at that name by name, we start to lay out under what scenarios will we actually see downgrades in that name in the portfolio, how could it be looked at, or potential losses that we'll see. We'll evaluate that situation, whether we choose to sell that asset or whether we choose to hold and think it will return to a pricing level different than what it is today. It's an actively managed process and one that our management team is very focused on.
In terms of capital deployment and what is, at this point in time, a very uncertain outlook, how does that factor into your decisions to either build a buffer, be out in the market buying back stock?
Yep. Actually, we would say we have a buffer today. When you think about our 400% RBC level, for a number of years, we've been maintaining that level, but that's higher than we've expected to run the company at. With that buffer, where it gives us flexibility to think about if we do get downgrades and that buffer comes down a little bit, that's okay. If we take some credit losses in the portfolio, that's also okay. When we look at those two things, we're going to continue to redeploy our capital. We'd like to do so, continuing to put it into our high-returning businesses. We'd like to look at M&A, strategic M&A particularly, at the right prices. As we've done for the last many years, buy back our stock. We will continue to do that.
As we look at the scenario today, we'll continue to buy back our stock. We're active in the markets now and buying back our stock. We'll continue to do that. I think the question we get is, okay, are you going to buy back more given where your price is, et cetera? One of the things as a company we've said is we'll be very consistent, but we do think about our share price in terms of its relative attractiveness. We may not buy back more shares in the year, but we certainly may put those at different points in the year based on what we're seeing in the markets today. I think that share repurchase and other capital deployment are things that we'll still maintain very active on.
In terms of strategic M&A, where are the priorities and the potential?
Yeah, I think the strategic M&A is probably going to be a little bit smaller than when it hit many of the screens of the folks in this room because it's about building out product capability. It's about building out distribution capability. Those might be smaller transactions. We're very active in the market today. Just by way of example, last year we, for $50 million, bought a dental company in the U.K. to fill out their portfolio in the U.K. It's been a tremendous acquisition, fits very well with what we're doing. That's the kind of thing that you would see us doing over the course of the year.
We're very active out there in the markets looking at those type of strategic transactions which will help fill out the portfolio, it could be both here domestically in the U.S. or like the U.K., could be in another geography as well.
Just want to pause to see if we have any questions from the audience. There's obviously some interest rate pressure. You built it in as a 2%-3% headwind for next year in your December outlook call.
Right.
Yields are down, spreads are up a little bit. How do you think about where we sit today versus where we were in December? Is there risk into your guidance for 2016 given the moves we've had?
Yeah. I think we would've reaffirmed at our meeting that our growth rates that we're expecting for this year, which are 3%-6% off of last year, we did adjust those slightly because we outperformed in 2015. We changed the percentage, or actually our outlook of earnings to generate in 2016 is unchanged. I don't think the movement in rates down has necessarily changed that. We sit in and out of markets, and we actually participate in markets and out of markets based on the bonds we see out there and available. We can actually choose to be patient at certain times, and when we see the right credit come and the right environment that fits in our portfolio, we capitalize on it. Nothing we've seen to date has changed our outlook in terms of where we are from an overall earnings expectation.
In terms of expense management, maybe as a lever to offset sustained pressure, if we stay in this rate environment for the next several years, how can you pull on that?
Yeah. When you think about our expense management that we have overall in the company, this is something that we're on top of all the time. There's not step functions where we actually will change our expense base dramatically at a point in time. The good thing about our product lines is we manage our expense ratio product by product, area by area, and we remain vigilant on that day in and day out. I would actually say you'd have to see a market that's much worse in terms of contraction of the overall economy, where our expense management would have to be at a different gear. It's something we do all the time. I think that when you look at our expense ratios have been very consistent to slightly better over a period of time.
We invest in the right areas to grow the company, at the same time, we're very efficient in terms of what we do. We'd like to continue to bring our expense ratios down with just scale in terms of the business that we've seen over the last couple of years. That's something that we can flex to actually pretty quickly.
If you look in the U.K., you've gone through, the past couple of years, some repricing there, now you're actually guiding to sales and premium growth that I believe are ahead of your long-term expectations. Can you describe your positioning in the U.K. and your outlook there?
Yep. Our U.K. business has been a great business for us. A couple of years ago, going back three years ago, we did have to go through some repricing efforts to restore some of the profitability. 2015, we generated 18% ROE in that business, I think we're back. I think where we're pricing today is where we would like to price, where we want to price. We're starting to see some of that sales growth. That sales growth comes on a couple of fronts. One is the capabilities that we continue to provide in that market, and the other is how do we service new customers, so new to market customers out there.
Just as a reminder, the U.K. business has much lower penetration rates in the disability and life products than you see here in the U.S., there's the opportunity to continue to grow that with customers over there. That opportunity's been out there a while, we're starting to get some traction with brokers, et cetera, wanting to grow that market in terms of what we have and protecting their people within the books of business.
I think we have one question in the back, over here.
Thank you. I was wondering if we could go back to the group and individual long-term care book. Could we discuss loss severity and loss frequency? There was a P&C company that announced this week that it had to increase its long-term care reserves for higher frequencies. I know you did the reserve strengthening last year predominantly due to interest rates, wanted to see the performance and the loss costs due to those two factors.
Yeah, it's a fair question. Back in 2014, we did increase reserves primarily for interest rates, but also as part of that process, we actually re-struck all of the reserves, all of the assumptions relative to where we were from our own experience as well as industry experience looking forward. In 2014, everything was set up with current experience. What we saw over the course of 2015 was it tracked also very closely to that. You would've seen that. A place that you can see that on a quarterly basis is in our loss ratio in our long-term care business, which we bring out there. We talk about that operating within a range of 85%-90%, which we saw over the course of 2015.
It's actually the severity of loss, and the frequency has actually been very consistent with those expectations from 2014 as we reset those.
Okay, great. Rick, Tom, thanks so much for joining us.
Thank you.
Thank you all.