Standby. Good day, everyone. Welcome to the Unum Group First Quarter 2015 Earnings Results Conference. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn the conference over to the Senior Vice President, Investor Relations, Mr. Thomas White. Please go ahead, sir.
Great. Thank you, Kellyanne. Good morning, everyone, and welcome to the first quarter 2015 earnings conference call for Unum. Our remarks today will include forward-looking statements, which are statements that are not of current or historical fact. As a result, actual results might differ materially from results suggested by these forward-looking statements. Information concerning factors that could cause results to differ appears in our filings with the Securities and Exchange Commission and are also located in the sections titled "Cautionary Statement regarding Forward-looking Statements and Risk Factors" in our annual report on Form 10-K for the fiscal year ended December 31, 2014. Our SEC filings can be found in the Investors section of our website. I remind you that statements in today's call speak only as of the date they are made, and we undertake no obligation to publicly update or revise any forward-looking statements.
As we discuss our financing, I'll remind you that prior period results have been adjusted for our retrospective adoption of the accounting standards update for tax credit partnership investments in qualified affordable housing projects. Adjusted prior period results are available on our website in a supplemental exhibit. As a benchmark for full year 2014, our after-tax operating income per share as adjusted for the retrospective adoption of this accounting standard update and excluding the after-tax non-operating retirement-related losses and after-tax net realized investment gains and losses was $3.51 per share. A presentation of the most directly comparable GAAP measures and reconciliations of any non-GAAP financial measures included in today's presentation can be found in our statistical supplement on our website, also in the Investors section.
Participating in this morning's conference call are Unum CEO, Tom Watjen, President Rick McKenney, and CFO Jack McGarry, as well as the CEOs of our core business segments, Mike Simonds for Unum US, Peter O'Donnell for Unum UK, and Tim Arnold for Colonial Life. Now for one last time, I'll turn the call over to Tom Watjen. Tom?
Thank you, Tom, and good morning, everybody. We're off to a good start in the year with operating earnings per share of $0.89, a 4.7% increase over last year and a result very consistent with our own expectations for the quarter. Once again, this quarter, we saw a continuation of many of the very positive operating trends we have seen in the past. Strong sales momentum, accelerating premium growth in our core businesses, and stable risk experience in our core businesses, as well as in the closed block. In addition, our statutory earnings and capital position remain strong, giving us the financial flexibility to continue to return capital to our shareholders. We repurchased $108 million of stock in the first quarter, and as we do annually, the board will be making a decision on our common stock dividend at our May meeting.
As you know, dividends and stock repurchases have both been important parts of our capital management strategy. As Tom referenced, I'll be retiring following this year's annual meeting, Rick McKenney will be assuming my role as CEO of the company. I'm very pleased with how the transition is going, as planned, Rick became President and Jack McGarry became CFO on April 1st. This sets things up well for me to move into the role of chairman of the board at the annual meeting in a few weeks. As we said last quarter, we have planned well for this transition, both the board and I have tremendous confidence in Rick and the entire leadership team, and we don't expect to miss a beat. I'd like to turn the call over to Rick to cover the highlights of the quarter. Rick?
Thank you, Tom, and good morning, everyone. I want to cover several of the key highlights of what was a very good first quarter, then I'll turn to Jack to provide an analysis of our results in greater detail. I'll start first with sales, where again in the first quarter, we saw excellent sales results across all of our core businesses, a nice continuation from our 2014 results. Unum US sales increased by 17% for the first quarter compared to the year-ago quarter, with strong results in the core market and in voluntary benefits. We saw year-over-year growth in all of our primary product lines, long-term disability, short-term disability, and group life and AD&D, which was primarily driven by strong results in the core market segment, where sales increased by 21%.
We did see our large case sales decline by 6% compared to the year-ago quarter, reflecting our opportunistic approach to that sector of the market, as well as the success we saw in 2014. This will create difficult year-over-year comparisons, we like our positioning in this market. At Colonial Life, sales this quarter were also strong, increasing 8% with solid performance in the core commercial and public sector markets. Finally, Unum UK sales continued to gain momentum, increasing 6% for the quarter in local currency. These results across our business segment continue to reflect the strength of our competitive position in our markets and today's generally more favorable conditions. Second, our strong sales trends over the past several quarters have been combined with solid persistency resulting from our ongoing focus on managing renewals on our in-force block. In combination, these have generated strong growth in our premium income.
For all of our core business segments combined, premium income grew by 5%, with Unum US premium growth of 6.7% and Colonial Life at 5%, while Unum UK was essentially flat in local currency. This growth is a combination of adding new customers and deepening our relationships with existing customers. We are still seeing little benefit from the economic and employment growth environment at this point.
Next, our risk experience remains in line to favorable relative to our expectations for our core business segments, as well as in our closed block. As a result, we continue to see strong, stable operating margins and returns in our core business segments. In fact, our core business segments generated an operating ROE of 14.4% for the first quarter, consistent with our 2014 experience. For the company as a whole, first quarter operating ROE was 11.5%. These ongoing results help us maintain the financial flexibility needed to both support our business needs, including the growth of our business, while also returning capital to our shareholders. In the quarter, we were again active with our share repurchase program. In addition, our board will consider an increase in the common stock dividend at the upcoming meeting in mid-May.
Finally, we are running the company well, but we cannot ignore the primary challenge we and the rest of the industry continue to face, and that being one of a low interest rate environment. Low yields on new money investments continue to pressure the yields on our portfolios and our investment income. However, we are actively taking this on through the pricing actions available to us in many of our products to maintain our profitability. With those highlights on a good first quarter performance, I'll now ask Jack to cover our financial results in greater detail. Jack?
Thank you, Rick, and good morning, everyone. Tom and Rick have given you a high-level view of what we believe was a solid first quarter. Now I'd like to review in more detail the operating and growth trends we saw in the quarter, as well as provide a review of investment performance and capital management. I'll start first with Unum US, where first quarter operating earnings increased by 3.3% to $214.3 million, compared to the year-ago quarter of $207.5 million. With favorable premium growth of 6.7%, that was offset in part by lower net investment income. The overall benefit ratio for the segment was lower at 68.3%, reflecting our disciplined approach to pricing and renewals. Within the Unum US segment, operating income in our group disability business increased to $74.3 million in the first quarter from $67.6 million a year ago.
Premium income increased by 6.2%, our strongest rate of growth in many years on strong sales and stable persistency. The benefit ratio was 80.1% for the first quarter, compared to 83% in the year-ago quarter and 83.7% in the fourth quarter. This is one of the lowest benefit ratios we've reported in several years, driven by unusually favorable new claim incidents and continued favorable claim recovery experience. We expect the benefit ratio for group disability to revert to more normal levels over the remainder of the year. Group Life and AD&D operating income declined 1% to $57.9 million. Premium income growth continues to accelerate, increasing 8% in the first quarter. The benefit ratio was slightly higher at 78.9% compared to 70.3% in the year-ago quarter, largely reflecting less favorable experience in the AD&D line.
In the supplemental and voluntary lines, operating income increased 1.1% to $82.1 million in the first quarter compared to $81.2 million a year ago. Premium income trends remained favorable in this line as well, increasing 6.3% in the first quarter, primarily driven by increased sales in the voluntary benefits product line, somewhat offset by a decline in persistency. From a risk perspective, the individual disability line had favorable results on stable claim incidents and favorable claim recoveries. The VB benefit ratio benefited from reserve releases driven by some large case lapses. These reserve releases were offset by the accelerated amortization of DAC associated with the lapsed cases. Underlying risk results in VB remain stable and in line with our expectations. Overall, it was a solid quarter for Unum US business, highlighted by accelerating premium income growth and favorable risk results.
The operating ROE remains in the 13%-14% range, well above industry averages in the group businesses. Looking at Unum UK, operating income was GBP 21.5 million for the first quarter, down slightly from the year-ago quarter of GBP 22 million. These results were within our range of expectations. They were impacted somewhat by the lower inflation in the U.K. this quarter. As you know, we invest in inflation index-linked bonds to support the claim reserves for our group policies that provide inflation-linked increases in benefits. We expect the move in interest income and claim reserves related to this inflation adjustment to generally offset over an annual period. The sharp decline change in inflation this quarter caused a small impact to the quarter's results. It does not impact our outlook for the full year 2015.
Underlying risk experience in the Group Life line of business was favorable, reflecting the repricing and repositioning actions taken in this line over the past several quarters. Overall, the margins remain in very good shape for Unum UK, which generated an operating ROE of slightly over 16% for the quarter. Colonial Life continues to generate strong, consistent results with operating income of $77.6 million, a 2% decline from the very favorable year-ago quarter. Claim experience remained generally stable with a benefit ratio of 51.3% for the first quarter compared to an unusually favorable result in the year-ago quarter of 50.5%. The underlying profitability of Colonial Life also remains strong, producing an operating ROE of 16.9% this quarter. Rounding out the enterprise with the closed block, operating income was $26.7 million in the quarter compared to $28.3 million in the year-ago quarter.
Risk results were stable and consistent with our long-term expectations. In the long-term care block, the interest-adjusted benefit ratio was 87.3% for the first quarter, in the middle of the 85%-90% range we expect. Above the very favorable results of 84.7%, which we experienced in the year ago quarter. In the closed disability block, we had a very good quarter with favorable mortality experience producing an interest-adjusted loss ratio of 80% for the first quarter compared to 81.5% in the year ago quarter. I'll move now to our sales and growth trends across the company, which as Tom and Rick have pointed out, were quite strong again this quarter. In Unum US, total sales increased 17% in the first quarter compared to a year ago, a continuation of very strong growth.
The growth this quarter was particularly strong in our core market segments, which are under 2,000 employees, which increased by 21% this quarter for LTD, STD, and group life AD&D combined. Large case sales for the same product lines declined by 6%, reflecting the opportunistic approach we take to large case sales, and also the success we experienced in this market segment last year. The growth was also well-balanced by product line, with LTD sales increasing 14% on strong growth in the core market segment, STD increasing 21%, and group life AD&D increasing 4%. In addition, sales and voluntary benefits grew 28% with very strong activity in the large case sector, as well as solid 9% growth in the core market. In addition to the strong sales momentum, our persistency for Unum US remains strong at 88.8% for our group benefit lines for the first quarter.
These results, combined with our ongoing renewal pricing strategy, generated premium growth for Unum US this quarter of 6.7%, which was one of the strongest rates of growth in many years. At Colonial Life, we saw a continuation of last year's strong sales trends with an increase of 8% in the first quarter. Core commercial sales and public sector sales were strong again this quarter. New and existing account sales growth both showed increases as we focused on recruiting and development of quality sales reps, along with reworking our existing account base. Persistency for Colonial Life was slightly higher year-over-year, helping to drive the overall premium growth of 5% in the first quarter. Finally, sales in Unum UK increased by 6% in the first quarter in local currency.
Persistency remained stable in the group disability line at 86.6% and has shown very good improvement in the group life line back to 79.3% for the quarter compared to 69.7% for the year ago quarter as we move past the repressing activities of the past several quarters. Overall, we remain very pleased with the growth trends we see in our core business segments. As Rick mentioned earlier, we're seeing only minimal evidence of improved top-line growth from better employment and economic trends at this point. Quickly looking at investment results, we remain very pleased with the quality of the portfolio, obviously challenged by the level of new money yields. Our practice is to remain disciplined in our asset selection and also remain disciplined in balancing the decisions we make on discount rate changes and associated pricing actions.
With our move in the fourth quarter to lower the Unum US LTD discount rate by 50 basis points, we've been instituting the necessary pricing actions on new sales and renewals in order to maintain a healthy interest margin in reserves. Moving to capital management, the weighted average risk-based capital ratio for our traditional U.S. life insurance companies remains at just over 400%, and our holding company cash and marketable securities was $426 million, reflecting the $108 million of share repurchases in the quarter. Statutory operating earnings were $156 million for the first quarter, a favorable quarter relative to the experience of first quarter 2014, reflecting the favorable risk experience we saw in several of our business lines.
Wrapping up, I want to affirm our 2015 outlook for growth in operating earnings per share in a range of 2%-5%, up to $3.51 per share operating earnings in 2014 as adjusted for the accounting update. Just as we indicated last quarter, given the drop in rates since our outlook meeting in December, we expect results for the year to be toward the lower end of the range, but we'll need to see how that plays out over the balance of the year. Overall, it was a good quarter and a good start to the year. Now I'll turn it back to Rick for his closing comments.
Great. Thanks, Jack. Before we move on to your questions, I'll just say again that I'm very pleased with our overall results for the quarter and our solid start to the year. A combination of strong sales and premium growth, along with another quarter of stable risk experience, position us well for the balance of the year. While there continue to be challenges, the most significant of which remains the current level of interest rates, I'm very confident we can take the necessary actions to manage effectively in this environment. I'm also pleased with the progress we've made in implementing our succession plan, and we look forward to completing the implementation of our plan in a few short weeks at our annual meeting.
We'll certainly miss working with Tom on a daily basis. We'll continue to benefit from his experience and leadership in his new role as chairman of our board. We have a great team in place and remain in an excellent position to capitalize on the opportunities we see in our markets. We'll give Tom a chance to close things out in a few minutes. First, let's take your questions. Kellyanne, let's move on to the question and answer session, please.
Thank you. At this time, if you do have a question, please signal us by pressing *1 on your touch-tone telephone. Again, that will be *1 for questions. We'll pause for just a moment. We'll go first to Seth Weiss with Bank of America Merrill Lynch.
Hi, good morning. Thank you. If I could start on the supplemental and voluntary line, if you could give a little bit more color on the dynamics of sales and persistency. Obviously, very strong sales quarter year-over-year. Persistency, a little bit weak. Any commentary on market dynamics there would be helpful.
Thanks, Seth, for the question. We'll turn it over to Mike to talk about what's going on in the U.S. and then turn it back over to Tim to talk about Colonial Life as well on the voluntary side.
Thanks, Rick, and good morning, Seth. On voluntary, it was a strong quarter from a sales perspective, and was alluded to earlier, 28% growth. Underlying a big chunk of that growth was one particular large sale. I think if you were to peel that out, you'd see Unum U.S. brokerage voluntary sales results more in that mid-to-high single-digit growth, which is more the longer-term trend. It's worth just stopping for a second on that large case sale. While we wouldn't look for that to repeat, it is indicative of our strategy of growing within our existing client base. That particular client is a long-term group insurance client, and the ability to add voluntary has been a big part of our growth over time.
We did see a bit of a tick up in lapses, particularly a couple of large cases. If you dig into it, I think we would say it's a little bit more volatility than anything else. Both the two largest were related to merger activity at the client, where they were integrating into a broader benefits program. Something that we watch quite closely, but I don't think the start of a longer-term trend.
Great. Tim, do you want to talk about Colonial Life?
Sure. Thanks, Rick, and good morning, Seth. Overall, we're pleased with the results that we had for growth in the first quarter of Colonial Life. We saw very strong growth in our target markets, mid and small commercial accounts, as well as public sector. We saw a 12% growth in our new accounts, which is a really strong indication of the value prop that we have in the marketplace, and a very strong 37% growth rate in public sector. The places that we're targeting, we're seeing good results, and we had nice growth overall, despite the fact that there was some weakness in our large case segment in the quarter.
Okay, great. Thank you. Just one real quick one on investment income. You highlighted in the release multiple areas, miscellaneous investment income lower than last year. It looks lower than the norm. Could you just help us quantify what that impact was on earnings versus maybe a more normalized level? Similar question in terms of the U.K. low inflation, maybe what earnings impact that had specifically?
Okay, Seth. Jack, you want to take that one?
Yeah. The NII, miscellaneous net investment income it was lower certainly than first quarter last year at about $10 million. It's slightly below the kind of run rate average. We tend to see miscellaneous net investment income in the $10 million-$15 million range. That was at the low end of that range. It's been volatile over time, it's hard to predict. We see these swings. Doesn't change our outlook for net investment income for the year. With respect to the U.K., typically when you get lower inflation-linked investment income, it gets offset in reserves because the benefits come down as well. A little bit unusual this first quarter because the U.K. actually had a deflationary period, the index-linked net investment income was actually negative. You can't reduce reserves as a result of that.
There was a mismatch of a couple of million GBP in the result. We don't expect the U.K. to be in a deflationary period over the full year, we expect to get that back over the remainder of the year, we stand by the outlook for Unum UK for the year.
Great. Thank you.
Thanks, Seth.
We'll move next to Ryan Krueger with Keefe, Bruyette & Woods.
Hey, thanks. Good morning. I had a question about group sales. Are you seeing better growth for the industry overall at this point, or is your strong growth more a reflection of market share gains as some competitors have pulled back?
Let me turn to Mike to talk about the group markets.
Thanks. I think it's a little bit of both. We certainly have seen as the economy is slowly improving, we've also seen the distraction that came with health care reform. Not that everyone's got ACA figured out, but I think it's starting to settle in a bit and we are seeing employers and brokers and consultants more focused on our lines of business. That's part of a trend we've seen over the last, I'd say, four or five quarters. I do think we're starting to see some degree of expansion, rounding out benefits programs. There is a bit of business moving between carriers. We've seen industry level ROE for the group insurance line sort of in the mid-single digits. There's some work that's ongoing with a number of carriers, and that's putting some business out to market as well. Thanks.
One on capital management. Normally you guys have certainly been active in buybacks and dividends over time. You haven't done much M&A. Do you have any appetite for M&A at this point? Just thinking in terms of, you have pretty large market shares in a lot of your lines. Would you see any benefit to M&A?
Good question, Ryan. This is Rick. I think we've been pretty consistent over time talking about M&A, that this is a place that we would like to put our capital. First and foremost, we're going to put it right into our business. To grow our business through M&A is something we desire. You can think of that on multiple fronts. One is that we acquire blocks because we think that we can actually manage blocks very well. The second is we look at capabilities we can add across the company. Those might be smaller transactions that bring us specific capabilities. Two, we also look to expand our reach and our footprint in different geographies, different product lines, et cetera, realizing that we're going to do so in a very disciplined way.
I think that over time, you haven't seen us do M&A, and part of that's been because of the discipline we've maintained over that period of time. It is a place we want to put our capital, and it's a place that we have been very active in the M&A markets, in the pipeline of things that have been out there. You'd expect to see us do that in the future as well. Just to reiterate, we do have the capital flexibility, as we've said, to act on those type of transactions.
Okay, thank you.
Thanks, Ryan.
From Credit Suisse, we'll go to Thomas Gallagher.
Good morning. Just following up on the capital management discussion, Rick. If I look at the quarter-end cash balance at the holding company, $426 million, at least based on how I'm calculating that's about 1.3 times coverage ratio. I think historically you've talked about one and a half to two times. My question is, are you comfortable with this level? Do you need to replenish and build at all at the holdco? How does that influence your thoughts on buybacks for the next several quarters?
Yeah, Tom, we are very comfortable with our cash position, but I'll turn over to Jack to talk a little bit more about how we see that over time and in the broader context of our capital management, our holding company cash as being one element.
Yeah. Thanks, Rick. Tom, actually, we're at $426. It's 1.3 times. Our range now is in the one to two times. One of the things we have, we have a $400 million credit line currently that allows us to run a little thinner on cash than we had historically. You remember, it's expensive to hold cash in the current environment because of the rates you get on it. We are running a little thinner. I'd also point out that first quarter tends to be a low point in the cash in the year because of some of the things that can do. It's a heavy quarter for interest payments that tend to be first and third quarter driven. It's also a heavy quarter because we pay a company bonus in the first quarter that comes out of cash.
We do expect that to drift upward over the remainder of the year. That number is very consistent with the capital plan we put together and the guidance we gave you at the investor meeting in the $400 million-$600 million range of share repurchases. We're quite comfortable actually with where we are.
Got you. Just as a follow-up to that, Jack, if I thought about available capital flexibility, if there was an opportunity that would give you, if you went down to one times, that would give you $100 million of excess cash at the holding company. How much debt capacity would you say you would have if something attractive came along?
We would certainly have debt capacity. We're currently at a debt equity ratio of 25%. I think for the right opportunity, we'd be very willing to go above that. We also have excess capital in our subsidiaries. We're holding our risk-based capital ratio is at 400%. We've stated a target in the 350 to 400 range. For the right opportunity, we're very comfortable we could take on more debt. We would have excess capital at the holding company. There are other alternatives relative to how attractive the acquisition target is. We're very comfortable that we could be a player.
Got you. Then one last one. From what I gather, the NAIC is proposing some changes to rules and financing related to captive reinsurance. They're targeting variable annuities and long-term care. Just curious if you've watched that proposal closely and what you see the impact or the potential impact for Unum.
Yeah, we're actually quite comfortable. If you remember last year, we redomesticated our Bermuda-based captive to Vermont. When we did that, we actually moved the reserve and capital basis to the NAIC reserve model. As a result, I think we were ahead of that action. We're in a place where we're basically holding that NAIC reserve basis as though it was a domestic insurance company.
Great. Thanks.
Thanks, Tom.
We'll move on to Jimmy Bhullar with JP Morgan.
Hi. Just a couple of questions. First, if you could just talk about pricing trends overall in the group disability and group life market. Secondly, just on long-term care, your progress on raising prices in the block and the possibility of addition to stat reserves. I think the last few years you've added to stat reserves for the New York entity, what's the possibility of you doing that again this year?
Okay, Jimmy, we'll start out with Mike on the pricing trends in the group business.
Sure.
Thanks, Rick. Good morning, Jimmy. What I would say is, you would have seen it reflected in our results over the last several quarter, we've seen a bit of firming in the external environment. I'd say a lot of that attributable to what we were talking about earlier, where we've got some loss ratios issued across a number of different carriers in the space. We've seen a more rational environment
We've seen that reflected in some of our growth numbers. I think a key issue will be going forward as we continue, as Rick and Jack spoke to, as we continue to price and renew business with an eye towards the current interest rate environment. Will the market continue to move along with us on that front? It's a universal issue, our expectation is that it will. As you know, we are not going to sacrifice the discipline around our underwriting standards in pursuit of growth. We are somewhat cautiously optimistic about growth going forward, but that'll be something we'll need to watch pretty closely.
Okay.
Jack, you want to talk about long-term care?
Yeah, long-term care, actually, we're very pleased with the progress we're making on the rate increase front. As we mentioned, we filed a rate increase request with enhanced options for people to basically buy out of the rate increase by reducing their inflation % in their contract. That has been very well received by regulators. We're seeing good success in getting approvals for that. Actually, we'll be looking for, we haven't sent out our first option to policyholders, but we're very comfortable with where we are, and very comfortable with the assumptions we put into the reserve assumptions around rate increases.
Just on the possibility of addition to stat reserves.
We've strengthened the New York, certainly. We've not strengthened any other statutory reserves in the company. As we mentioned in December, we still have a gap between our statutory reserves and New York is still under pressure, certainly the pretty harsh environment relative to the future outlook for interest rates as well as rate increases. In the guidance that we gave before, that if you look to our historical kind of trends in New York as being indicative of what the future may bring, I think we would still stand by.
Assuming no major changes in rates, most likely you'll end up contributing at least a little bit later this year?
Yes.
Okay. Thank you.
Thanks, Jimmy.
We'll move on to John Nadel with Piper Jaffray.
Good morning. Thank you very much for taking my question. I had a question for you, maybe a follow-up just as it relates to capital flexibility. I know any particular deal could be more or less attractive based on competition for the asset, valuation, et cetera, but Jack go above a 25% debt to cap if there's some plan in place. Can you give us some sense for how far above that level you think you can go in a relatively short-term period of time?
Hey, John, this is Rick. I think the first thing is you have to make sure that the deal makes sense. If you're looking at something, that's the first and foremost, what is the strategy that underlies that type of transaction? How does it fit with the overall flow? What can we do with it? Is it something that we can actually improve upon and make those things? You have to start there. I think what we're telling you from a capital perspective is if we've proven that to ourselves and we see the type of returns we're looking for, we can make available the capital. Without getting into all the nuances of specifics on leverage and things like that, coverage ratios we have out there, cash, other instruments that are available to us, there's plenty of things that we can do.
I'd take you back to the most important thing is making sure that it fits and making sure that we go through the transaction in a very disciplined way.
Certainly appreciate that. I don't suppose with the changes in management given you've been at the firm for now a number of years, Jack's been in place, despite being in new roles, it wouldn't be fair for us to presume that managerial changes or executive ranks changes would really change the approach to M&A, right?
I think that's absolutely true. I have Tom sitting here next to me. I think it's one of those things that you can see in this team. The transition is going to be seamless, and we're focused on that. We have all been around-
Yeah
this table for some time dealing with these different things, and I think that what you've seen out of us in the past is what you should expect out of us in the future in terms of how we act.
Appreciate that. My other question's a bit more fundamental. In the Unum US, particularly the group disability side, I think you mentioned in the release very favorable, I believe was the term, claim recoveries in the quarter. I was hoping you could sort of dive into it a little bit more deeply, maybe give us some way of getting a sense for order of magnitude, what kind of impact that may have had. The 80% benefit ratio obviously is a very exceptionally low level relative to where we've seen it, particularly given the discount rate change.
Yeah. Actually, John, in the script, we mentioned very favorable new claim incidents-
Okay
and continued favorable recovery experience. Our recovery experience was favorable. It's been trending favorable for quite a time now. Probably the biggest change was in new claim incidents and severity. Very low new claims volumes in the quarter relative to expectations. I think that was more the driver of the change in the loss ratio than the recoveries. We think that's largely aberrations as opposed to trends.
Okay. Well, clearly you're not altering your view overall for guidance, so it sounds like you're not altering your view for what you think a normal level of claims incidence is either.
John, I think that's right, John. We tried our best at that. It was a good quarter, we certainly put that on the books, but we look forward to reverting a little bit to more of what we've seen in the past.
Okay, understood. Thank you very much.
From Columbia Management, we'll go to Al Cupersino.
Oh, thank you. I had a quick question. The drop in large case sales in Unum US, first, happy to see the continued discipline that you guys are showing. You mentioned, relating to that drop in sales, a tough comp, and I think you mentioned something about competition level. You said your opportunistic approach to that market. Wonder if we can get a bit more color on those two things, and also if there was anything related to a third reason why large case sales might drop, which was any desire to shift your sales or premium mix at all.
Great. Thanks, Al. Mike?
Thanks, Rick. Good question. I think you've read it right. It's an opportunistic market. In the first quarter of last year, we had one large transaction in particular, but a couple on the new business front that did not recur this year. I wouldn't read into it anything other than it's a little bit of a lumpy flow of sales in that market. Yeah, we'll absolutely remain disciplined, find opportunities which in a high degree of frequency, those opportunities come with an existing client adding new lines of business. We saw north of 60% of our sales in the large end of the market come from existing client relationships.
That's great for us because it comes in more favorably priced and even more importantly, the deeper the relationship, the better the persistency assumption that we have for that client, which is a big profitability driver for us. In terms of continuing to shift the mix, I think we would continue to see a little bit stronger growth in the core, but actually when we look at our margins in the large employer group insurance market compared to the core, we've got them both running right about where we want them. We would like to see growth where we can have it in large case and don't need to see a dramatic shift in the mix between the two segments.
That's great. Thanks. I have one other question, if I could, which is the hit to investment income in the U.K. from the low inflation, in fact, deflation for a while. I may have missed it in the press release. Was there a dollar impact that you all disclosed on that?
Yeah, we didn't disclose a dollar impact in the press release, but it was orders of magnitude in the GBP 4 million-GBP 5 million range.
Perfectly. Okay, great. Thanks so much. Tom, congratulations.
Thank you, Al.
Next, we'll hear from Humphrey Lee with Dowling & Partners.
Morning, thank you for taking my question.
Humphrey, can you speak up a little bit? Can't hear you very well.
Oh, sure. Is it better now?
Yes, better. Thank you.
Okay. All right. Just a follow-up on the capital flexibility and the M&A discussion. You mentioned that you'd be interested in potentially some acquired blocks or adding capabilities as well as geographic reach. Any specific product lines that you would be interested in, and the same thing for geographic reach?
Sure. I'll just give you a little bit of color on that, but not too much as we talk about our M&A processes. When you think about the business that we're in today in the employee benefits space, we actually have pretty good reach across our product lines. I would say there's not really any holes that we need to fill in through M&A transactions. Even in the last several years, we have a dental offering that we've done through partnership, et cetera. When I think about that, the block transitions would be, as opposed to filling larger holes, might be infill in some areas where we could use some help, and that's something that we'll always look at. When you think of geographic expansion, if you think of our U.K. business, it was built through a series of acquisitions over many years.
When we look to the dynamics of other geographies around the world that have similar dynamics what we have today, we'd be interested in expanding there as well. I put that all in the caveat of we do so in a disciplined way and make sure that things are meeting our hurdles and our growth expectations that we have.
Okay. Thank you for the color. Going to Unum US, the full year guidance for sales was 2%-4%, and based on your production in the first quarter, I think even if sales were flat into the year, you'll still hit the upper end of your outlook. Should we expect sales result to be likely to exceed your target for the year in Unum US?
Mike?
Yeah. Thanks, Rick. Good question. I think at this point, there is a lot of work between the end of the first quarter and the end of the year. At this point, we would not come off the guidance. If you have done the math correctly, it would be roughly a flat remaining three quarters to be within the guidance. I do think we feel very good about how we are positioned in our market. We are very pleased with where sales are coming from, strong core market growth, strong voluntary benefits growth, 60+% of premium coming in from existing clients. No reason to think we will not continue to see some degree of growth. All that being said, two things to keep in mind.
One is tougher comps in the quarters to come, given the strong results we had in sales last year, and the other is back to the pricing environment where we are going to maintain the discipline, be sure we are pricing forward based on today's interest rate environment, and we will wait to see what the rest of the industry does along those lines.
Okay, if I can just sneak one more in. Given the strong growth that you are selling, would you be kind of trading off between buybacks as opposed to kind of deploying capital for top line growth?
Actually, could you repeat the question, please?
Yeah, sure. Given the strong growth that you're seeing across the lines, are you trading off capital deployment for business growth as opposed to buybacks?
We are seeing strong growth across the lines that does take some capital to support it. The growth is not inconsistent with what we expected when we put together our capital plan. We're pretty comfortable with where we are.
Perfect. Thank you.
Thanks, Humphrey.
From UBS, we'll move to Suneet Kamath.
Thanks. Good morning.
Morning, Suneet.
Morning. Just want to follow up on the sales. I think we touched on this last quarter, but as we think about the first quarter results and how you're pricing, are you now fully reflecting in the change to the discount rate that you made as well as the current interest rate environment, or do you need to do some more work on pricing if current interest rates remain kind of where they are?
Yeah, it's Mike, Suneet. Thanks for the question. What I'd say is we moved on rates again to the end of last year and into early this year. What we're putting out for quotes would reflect. What I would tell you, though, is the sales cycle is such where it takes a little bit of time to fully burn in. I would anticipate that actual sales numbers haven't fully felt the latest round of increases given interest rates. We've begun to see some of that, and it'll plan out over the next couple of quarters.
I guess, is your customer base sort of sensitive to that? In other words, is some of the strong sales that we've seen a result of an anticipation on their part that might as well lock it in now before we get a rate increase related to low rates?
No, I think they wouldn't have that sort of line of sight. I don't think they're sort of anticipating rate increases to come at this point.
Okay. Just to follow up on Humphrey's question about capital required for growth. Jack, is there like a rule of thumb you can give us, even if it's very high level in terms of a ratio of capital to new sales or something, just as we think about the pace of growth going forward and what the capital needs are there?
We don't typically discuss that in detail. There's a lot of things that go on in your capital management plan. It wouldn't be right to just single out one single factor.
Okay.
One indication of the strength is the free cash flow generation, because a piece of the capital you're putting up it's not just the risk-based capital, it's also the acquisition cost and the statutory reserves. We had strong first quarter stat income despite the growth, we're comfortable with where we're going forward.
Got it. Just one last one on M&A. We've talked on these calls about Unum as a buyer, but I just wanted to get, I guess, Rick and Tom's view of how the board might think about Unum as a potential target if we live in a world where consolidation U.S. life insurance continues.
Want me to take that one, Rick?
Yeah. As chairman-
Everyone's looking at me as a-
We've got to put them both in.
Well, Suneet, I think. Again, nothing has changed in this regard. I think Suneet, as you know, we've always said we're very confident in the business plan we have as a company. I think you get that sense from the things that we've said and done, the fact that we've delivered on the results that you've seen us deliver on, the fact that actually we feel we still have tremendous growth ahead of us and tremendous capital flexibility. We will continue to look at acquisitions. As Rick and Jack have said, we'll be sure that we do them in a way that remains disciplined. We've looked at deals actually for a number of years. That isn't going to change as we look forward. You raised the other issue, which is in parallel.
We can't ignore other opportunities to look at a transaction involving this company. It's not something we spend a lot of time thinking about because we have a lot of confidence in the future of the business. You see the growth, you see the returns, you see the return of capital to our shareholders, and that's not changing. Again, most of our time is spent on growing the business organically. It's spent on looking at some acquisitions that could add to that growth potential. If somebody taps on the door, they tap on the door, but we do it from a position of strength.
Got it. Bottom line, if you get the call, you take the call.
As a board, a board has that responsibility to do so. I think every public company chairman and board should hopefully be saying the exact same thing. You can't ignore those calls. Again, in our case, we do it with a very solid plan as an independent company and one that really has an incredible future ahead of itself as an independent company. We do it from a position of strength.
Fair enough. Congrats, Tom, again. Thanks.
Thank you very much, Suneet.
Thanks, Suneet.
We'll go next to Mark Hughes with SunTrust.
Yeah, thank you. Good morning.
Good morning.
Could you talk a little more about the U.K. market, the pricing and competition that you're seeing there? Your operating profit and constant currency was down a little bit. How do you see that playing out through the balance of the year?
Sure. I'll turn it to Peter O'Donnell, our U.K. business.
Yeah, thanks very much for the question. In terms of the pricing, there's really no change in the market conditions in the U.K. It remains very competitive. All our competitors talk the talk about pricing discipline and ensuring that they write profitable business. We do still see irrational behavior, particularly at the large end. In the income protection world, we're focused on growing the market. Most of the competitors are trying to gain market share. They find us very difficult to pitch against, and that creates pricing pressure. But in general, we can write at a premium because our proposition is strong. In the life markets, we're focused on the small and medium end. We're seeing some small growth there as we continue to invest in our distribution, and we're opportunistic at the large end where we can write business at our margins.
That comes and goes really.
In terms of the overall profit, just to reiterate our forecast, which was one to three %, we were sort of in that range for the full year. In terms of where we ended the first quarter, what we saw, as Jack referred to, was an issue around timing of profit recognition due to inflation. We would expect the slight shortfall we saw in the first quarter to come back over the next three quarters.
Thank you.
Thanks, Mark.
We'll take a follow-up from John Nadel with Piper Jaffray.
Hey, thanks. I'm just curious, as we think about the strength of sales, particularly in Unum US, this is maybe over the last couple of quarters, but maybe we can focus in on 1 Q. Not taking anything away from organic growth that you're generating, but I'm just curious how much of that growth on a year-over-year basis, Mike, you might attribute to just simply pricing, the price per $1,000 of coverage being higher now versus a year ago.
Yeah, that's a really good question. We have seen a little bit of, we would look at sort of the average premium for life, and then that flows into an average case size. We have seen that edge up a bit. I wouldn't think it's a huge component driver, but it is reflected in the sales numbers, and I think it's consequential in the earned premium numbers and should be actually over the next couple of years, particularly in disability as we go through renewal programs that reflect, again, the interest rate, but also the aging of that population and the associated risk. I think that will be a contributor for us.
Maybe a few percentage points of growth, or is it not even that much?
Yeah, that's probably about right.
Okay. Thank you very much. Tom, congratulations and all the best.
Thank you, John. Thank you.
Thanks, John.
We'll go to Colin Devine with Jefferies.
Thank you very much. A couple questions. First, if Reeves there on the investment side, I was wondering if we talk a little bit about prepayments, what they've added across the various business lines and your outlook for the rest of the year, and where you see the core yield for the portfolio going if rates kind of hold here. That's the first one. Second, ROE for Tom and for Rick seems to really have kind of settled in here, just 11%-12%. What can you do to improve that? I certainly appreciate Unum's a little unique given the size of the closed block and what it represents of your general account, but are there some actions that you can take either to shrink that or alternatively on the CapEx side to improve your back-office processing efficiency? Then just a final clarification for Mike.
When you mention the impact of rates into your pricing taking effect, is the issue really that your second-biggest renewal period is mid-year, and that's when these should really, we should start to see them? Thanks.
Great. Thanks, Colin. Starting with Jack, do you want to talk a little bit about prepayments and-
Yeah. Miscellaneous net investment income actually comes from two places. The bulk of it tends to be prepayments, and we've been running, as I said, in the $10 million-$15 million a quarter range. Tends to be pretty volatile. A lot derives that, and in particular, mergers and acquisitions tends to be a big factor in those payments. We were off a little bit in miscellaneous net investment income in the first quarter relative to the midpoint of that range, but we would expect it to be within that range for the full year. The other piece of miscellaneous net investment income is more equity investments that we make, and again, those tend to be volatile as well but have been in line with expectations over the year.
On your second question, Colin, in terms of ROE, I think that we have had a very stable ROE where it is today. When you think about the biggest impact towards our ROE and why we haven't seen the growth out of that has actually been the interest rate environment. Every year, we've kind of come to you with the interest rate headwind that we've got out there has actually slowed that ROE or the return growth that we would've expected. That's something we're working through over time as we price for it, et cetera, but it's not something we can necessarily fix on day one.
The second piece, you mentioned our closed block, which does consume roughly a third of our capital at low returns because I would remind you that our business lines, our core business operations are generating very strong, very good ROEs, and the reality of that closed block is challenging. The reality of the situation with the closed block is we would like to take actions to alleviate some of the size of our closed block, particularly the long-term care business we have today. The markets are not that conducive to helping us to do that. Although you hear rumblings of that changing over time, more people being interested in alleviating or taking on that risk through reinsurance and other means. We certainly stay abreast of that, but we don't see anything in the near term that'll fix that.
That's the other challenge that we have is how do we wrestle with that over time, but don't want to minimize how important it is that our good, strong ROEs in our core operations maintain their very good levels, and the closed block will be worked on over time.
Is there a possibility for another securitization in there?
Possibility. I would not say that's something that's imminent. I think I mentioned reinsurance as being one way to get at that. Before you really can get to the securitization markets, you need to start to see some of that develop, I think. I think that's something, as you would know with Northwind and our individual disability block, we have the history of the expertise to do securitizations, and it's certainly something in our toolkit that we would like to deploy, but we don't see it necessarily there today.
Okay. What about on the back office? Is the other way to come at this to improve your claims processing efficiency, or do you feel you're as good as you can be right now?
Well, there's always room for improvement, and we talk about that within our teams, and it's something we've talked about maintaining a very good operating expense ratio that the teams have done. Once again, I'd go back to those core operations are generating very high returns. There's not a problem in there that needs fixing, but it's something we can always get better in, and I think our teams do a good job of focusing on that continuous improvement.
Thank you.
All right. Thanks, Colin. I think we had a question from Mike as well on the rates.
Yeah, just very quickly. You're right, 7/1, July 1st, that's the second-biggest effective date, so we'll see how that plays out, particularly in the small case market, where we're generating quotes and pricing renewals. Though I would keep in mind that as you move upmarket, when you're into the large case market, those are being worked on for January 1st effectives right now. We really are going to see it play out not just in the coming months, but over the coming two, three quarters.
Okay, thank you. I'd add my comments to Tom. It's hard to imagine how far this company has come under your tenure, and best wishes.
Well, thank you, Colin. Thanks for all your support and good counsel over the years.
Well,
Colin, any other questions?
Yes, we'll go to Ken Billingsley with Compass Point.
Good morning. Thanks for taking my question. I wanted to just follow up one from the press release. You said that on the long-term care side, it was a higher benefit ratio due to a higher level of submitted claims. Is there a frequency shift, something that maybe seems one-time in nature, or were there more claimants coming into the system than expected?
Jack, do you want to take that?
Yeah. I think that comment was more relative to the first quarter of 2014, which was an unusually favorable quarter. Actually, you remember the first two quarters of 2014 had unusually favorable new claim experience in long-term care. Kind of reverted back more to the norm in the second half of the year. What we saw this quarter was very consistent with where we ended last year. We're right in the middle of our loss ratio range. I would point to the first quarter of 2014 being the aberration as opposed to this quarter.
Was that submitted claims, was this procedural claims or just new claimants coming in and making first-time claims?
Yeah, it's just new claimants coming in making first-time claims.
Making first-time claims. Okay. The other question was just to follow up on comments, I believe Jack had said, it was regarding employment growth, I just wanted to clarify. I didn't quite catch it all. I believe you said it has only seen a slight improvement in trends from employment growth. Did I hear that correctly?
Yes, you did.
I would imagine that there is an expectation that from a sales perspective, I'm kind of reading between the lines that maybe it's a little bit weaker than you expected given employment growth, that if it picks up, there's a wider runway to work with?
it's actually not a number that comes through sales. It's kind of natural growth that as companies add employees, as wages increase, since the premiums are a function of the overall payrolls of the companies, that's the way it would come in. We call it natural growth because it just kind of happens. It's not just employment growth, it's also wages have a big impact on that. The economy is growing. It's adding jobs. Just thus far, it doesn't appear to be adding jobs in the places that we have concentration. There's been a lot of part-time work, kind of lower-wage jobs that aren't really flowing through to our premium level right now. We're cautiously optimistic that as the economy continues to improve, that we will see some lift from that over time.
Adding to that, a renewed effort from the expanded employee benefits practice of brokers who maybe are less distracted by ACA?
Yeah, that's definitely been a factor in the sales we're seeing over the past couple of quarters.
Past few quarters. Great. Thank you for taking my question.
Thanks, Ken.
That is all the time we have for questions. I'll turn it back to you all for closing remarks.
Well, good. This is Tom Watjen. Let me just make one closing remark. First off, thank you all for joining us today. As was mentioned, this is my last quarterly call, and I want to reiterate something that I had said earlier, which is I step away with tremendous confidence in Rick and the entire leadership team and the business plan that they've laid out, that we will do very, very well going into the future. As we've said before, we won't miss a beat, whether it's miss a beat on operations or whether it's miss a beat on strategic opportunities that we see in front of us. I can assure you of that. I'll close by just saying that I want to thank all of you for your support over the 12 years that I've been CEO.
We've covered an awful lot of ground together, and I'll miss that exchange. I want to wish each of you all the best. Operator, this now completes our first quarter 2015 earnings call.
Thank you, everyone. That does conclude today's conference. Thank you all for joining us.