F&G Annuities & Life, Inc. (FNF) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the FNF acquisition of FGL Holdings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the call over to Jamie Lillis, Investor Relations of FNF. Please go ahead, sir.

Thank you, operator, and good morning, everyone. Thank you for joining our call to discuss FNF's acquisition of FGL Holdings. Joining me today are our Chairman, Bill Foley; FGL Holdings' President and CEO, Chris Blunt; and FNF's CEO, Randy Quirk; President, Mike Nolan; and CFO, Tony Park. We'll begin today's call with a brief overview of the transaction from Bill and Chris, and then open the call for your questions. Additionally, a slide deck to complement today's discussion has been filed with the SEC and is also available in the IR section of our website. But before we begin, I would like to remind you that this conference call may contain forward-looking statements that involve a number of risks and uncertainties. Statements that are not historical facts, including statements about our expectations, hopes, intentions or strategies regarding the future are forward-looking statements. Forward-looking statements are based on management's beliefs as well as assumptions made by and information currently available to management. Because such statements are based on expectations as to future financial and operating results and are not statements of fact, actual results may differ materially from those projected. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise. The risks and uncertainties, which forward-looking statements are subject to include, but are not limited to, the risks and other factors detailed in our press release dated today and in the statement regarding forward-looking information, risk factors and other sections of the company's Form 10-K and other filings with the SEC. This conference call will be available for replay via webcast at our website at fnf.com. It will also be available through phone replay, beginning at 3 p.m. Eastern Time today through February 7. The replay number is (844) 512-2921 and the access code is 13698990. Let me now turn the call over to our Chairman, Bill Foley.

Thank you, Jamie. I will discuss the transaction we announced earlier today, before turning the call over to Chris, who will then review F&G's products and offerings as well as the growth outlook of the business. We announced the signing of a merger agreement under which Fidelity National Financial will acquire FGL Holdings, F&G, for $12.50 per share of common stock, representing a total equity value of approximately $2.7 billion. We expect F&G to be more than 20% accretive to FNF's pro forma adjusted earnings in 2021 and more than 10% accretive on a pro forma basis to FNF's full year adjusted earnings in 2020, assuming the transaction closes on June 30, 2020. Following the termination of our merger agreement with Stewart Information Services, the FNF Board and management underwent a comprehensive review of FNF's capital allocation strategy. We conclude that expanding into the retirement and insurance business through the acquisitions of F&G Holdings would maximize value for our shareholders. After 3 years as a minority owner and with new leadership in F&G, we made the decision to acquire the remaining equity in F&G as a way to diversify our earnings and reduce the risk and volatility inherent in our title operations. F&G offers an attractive return on capital in an industry with strong secular growth. It will perform well in economic environments that may be more challenging for title insurance. During our ownership of F&G, we have come to know its business well and have developed a deep respect for its management, led by Chris Blunt. Chris and his senior team will continue to lead F&G, and we expect them to continue to successfully execute on their business plan. Importantly, the F&G brand has a long and respected history in the life and annuity insurance industry, and we see tremendous potential in investing in and growing the F&G business. We believe FNF's size, scale and financial strength will provide significant advantages and allow F&G to capitalize on incremental organic and inorganic growth opportunities. Looking at the acquisition and growth opportunities in more detail, I see several benefits of our acquisition. First, F&G's business will diversify FNF's cash and income streams away from title insurance in a transaction that is immediately and significantly accretive to our earnings. F&G's income is currently countercyclical to FNF's. It performs best when long-term rates are rising, while FNF income performs best in a falling or low rate environment. As a result, we expect F&G to reduce our risk and volatility by providing a counterbalance to FNF's earnings sensitivity to mortgage rates. This will also level our cash flow, making it more predictable. Second, F&G's retirement insurance business has strong growth as an Asian demographic and accommodative government policy are driving strong demand. This can be seen in F&G's third quarter 2019 results, where adjusted operating income to shareholders increased by 27% over the year ago quarter, while delivering a 19.3% return on equity. Third, we expect our acquisition to accelerate F&G's ratings upgrades, which will open new broker-dealer in bank channels for distribution of its retirement insurance products. Additionally, we see the potential for cross-selling retirement insurance through FNF's extensive bank network. Lastly, we see an opportunity to leverage FNF's strong capital allocation skills in an adjacent consolidating insurance industry for sustained outsized free cash flow growth, while enhancing F&G's capacities to consolidate in an industry, rich with attractive targets. As part of FNF's capital allocation strategy, FNF shareholders should be comforted that FNF has no plans to alter its current dividend policy as a result of this transaction. And we will continue to be opportunistic buyers of our stock in accordance with our existing buyback authorization. Turning to the financing of the transaction. We expect to finance the equity portion of the acquisition with 60% cash and 40% in FNF common stock, with an exchange ratio of 0.2558 for shareholders who elect all-stock consideration subject to proration. As a result, FNF will issue approximately 24 million common [ F&G ] shares to F&G shareholders, which will include FNF underwriters representing approximately 7% of FNF's pro forma diluted shares outstanding The FNF will also acquire the F&G preferred stock that is now already owned, with a face value of approximately $321 million as of December 31, 2019. Including the assumption of F&G's $550 million of senior notes due in 2025. FNF's pro forma debt to total capital is expected to be approximately 26% at the close of this transaction. The closing of the transaction is subject to certain regulatory, certain closing conditions, including the approval by F&G's shareholders, federal and state regulatory approvals and the satisfaction of other customary closing conditions. We expect the closing to be in the second or third quarter of 2020. To conclude, we are very excited to welcome F&G, its employees and its policyholders to the FNF family. We see a tremendous opportunity to create value for our shareholders upon closing the transaction and believe we will see earnings accretion of at least 20% to FNF's pro forma to 2021 earnings. I'll now turn the call over to Chris Blunt for his comments.

Great. Thanks, Bill. I know I speak for the leadership team here at F&G, when I say that we're excited about joining with FNF. For those of you that are new to our story, Fidelity & Guaranty, or F&G, is a 60-year-old life insurance and annuity company, focused on the U.S. middle market. We sell our products through a deep network of independent agents. Our 2 primary products, fixed indexed annuities and indexed universal life are 2 of the fastest-growing products in the industry, and our sales are outpacing the industry in both categories. Our fixed index annuity offers clients a guarantee against losing principal due to market movements and an ability to earn a return tied to their chosen index. Needless to say, it's designed to tap into the enormous pre-retirement market here in the U.S. And next quarter, we will expand our distribution into the affluent and high net worth markets via our launch into the independent broker-dealer channel. In addition, the combination with FNF will allow us to leverage their extensive relationships with banks to jump-start our growth there as well. Moreover the transaction will reduce F&G's borrowing cost. Our high-cost of debt has been a headwind to our organic and inorganic growth. By retiring our preferred equity and combining with a countercyclical company like FNF, we believe this transaction will accelerate our path towards further rating agency upgrades. F&G has a proven track record of delivering consistent spread income, in part because of our long-term investment partnership with Blackstone, and that has helped us to produce ROEs in the high teens. In anticipation of the transaction, F&G has enhanced and extended the mutually beneficial investment management partnership with Blackstone, which will continue under FNF and includes Blackstone's world-class embedded investment support functions. Blackstone has helped F&G successfully reposition its portfolio, to achieve higher investment performance, while minimizing risk and upgrading its financial strength rating. F&G's management team and unique, deep relationship with Blackstone provides meaningful differentiation from competitors. Finally, I'm personally excited to work with Bill, given his track record of strategically deploying capital to help companies grow and to exploit opportunities in attractive markets. In short, we're poised to make a great growth story even better. And personally, I can't wait to get started. So with that, I'm happy to take your questions.

[Operator Instructions] Our first question comes from the line of Mark DeVries from Barclays.

Could you discuss any revenue and expense synergies? You're assuming the accretion math. And more specifically, I think you alluded to, in the release, the potential for some cross-sell. Could you talk more about the cross-sell potential you see?

Yes. In this case, we really aren't baking in any sort of significant synergies into our model. F&G is a pretty efficiently run company. Chris has a few ideas with regard to some offices he may consolidate. But it's not a significant number. And of course, we'll look at that. There are certain other areas that are going to be interesting. Chris or F&G outsources many functions to third parties. Some of those functions can be handled internally by FNF, such as statutory accounting and statutory reporting, claims management, where FNF has kind of a deep and long history of dealing with those particular areas of the business. We're very excited about our ability to move with -- move toward various, I wouldn't call it the midsized banks, but those banks, $15 billion to $100 billion range where FNF has deep and long-lasting relationships based upon our escrow deposit relationships and our banking relationships in terms of title insurance relationships and so on. And we believe that we will be able to give Chris' team or F&G's team access to those institutions in terms of a wealth -- in terms of being involved in their wealth management practice. And that will -- Chris can probably address this a little more articulately than I can. But this should allow Chris to penetrate his primary area of focus on a new business basis going forward. And Chris, I don't know if you'd like to add to that?

Yes. No, that was great, Bill. I would say that, particularly when it comes to banks. So right now, our near-term focus has been independent broker-dealers, but given our focus on fixed annuities as opposed to variable annuities, banks are just an enormous channel. We are typically #1 or #2 in something called MYGA sales. It's just a multiyear guaranteed annuity. But that is through the independent channel. That tends to be the smallest of the channels you can participate in. So we know, largely because of the partnership with Blackstone, we're able to be super competitive there, and generate some good returns. So we're really excited about the efforts to expand into bank, not just because of the relationships, but obviously, the, hopefully, acceleration from a ratings perspective. So I think that's something that, from our perspective, is a very significant point of upside.

Our next question comes from the line of Bose George with KBW.

Actually, F&G seems to be a business that trades maybe 6, 7x earnings, maybe a little better. Do you think this will change over time? Do you think there's a risk that the FNF multiple will be impacted by this? I'm just wondering what you think the street is missing here? Because obviously, stock's down a reasonable amount, despite the 20% accretion that's expected.

Well, we believe that F&G has been hamstrung by its capital structure over the last 3 years. It was a result of a sale to a SPAC. And it ended up with a large amount of preferred stock, very expensive for F&G to manage. And we -- by removing the preferred stock and changing F&G's capital structure, then enabling it to gain earnings upgrades, we believe this -- the P/E ratio of F&G will naturally expand and move more toward FNF's P/E ratio. So it's going to be -- take a little patience, and it's going to take some time as the results start rolling through. But I'm very excited about F&G, particularly as a counterbalance to FNF's cyclical earnings. We've been very fortunate the last few years in a low interest rate environment, and we've done well. I've always had a goal of developing a relationship in another insurance space that would be countercyclical to our own business. And F&G does exactly that. F&G will tend to earn quite a bit more once, when rates are higher, and that's the exact time when FNF's title orders decrease pretty sharply. So that's really our rationale. I think that we laid out the rationale pretty well. And I think -- and I believe Chris addressed this piece pretty well also.

The only thing I would -- sorry, the only thing I'd add to that, which is important because you ask a question, what's the market missing? I think our frustration in the F&G side for a while now has been not a lot of differentiation within our space. So we're an insurer with a young, pretty sticky book of liabilities. We're effectively a spread lender, we don't have a lot of legacy assets that were priced many, many years ago. And so from an earnings standpoint, its trades are at a ridiculously low multiple, my humble opinion, because it gets treated as a price to book, despite the fact that it has almost nothing in common with a lot of the other kind of mainline traditional insurers that are sitting on a bunch of legacy assets. So if you remember, our liabilities can be repriced on a regular basis. So that, I would say, is what the market has missed from the beginning.

Okay, great. That's helpful. And then actually, just switching to the FNF capital return. I mean, you noted that buybacks will continue opportunistically. Can you just provide a little more detail just because, obviously, it had slowed. There was a very modest amount in the third quarter. Just what we should kind of think about over the next, whatever, 12 to 18 months?

Yes. Well, thanks. And that's an important aspect of this transaction as well. FNF over the last several years, built up a fairly large cash balance. So the need for additional cash to fund the cash portion, its purchase price is really going to be negligible. So it really doesn't change FNF's dividend policy. And I believe we've raised our dividend consistently in the fall for the last 5 or 6 years, and it won't change our buyback policy, which is generally based upon a certain number of shares per day being repurchased. But once we entered into negotiations with F&G, we suspended the buyback policy, just based upon SEC rules and regulations. So once this -- now this is behind us, you'll start seeing the buybacks starting again. And I'm very hopeful that we'll maintain nice dividend expansion based upon F&G's ability to aid the overall company with free cash flow.

Okay. And just as a reminder, those sort of buyback, the daily number is 25,000 to 50,000 a day, is that...?

I'd let Tony answer that one. I think Tony Park is on.

Yes, I'm on. It was 15,000 a day, and then we moved it to 25,000 a day, Bose. But then, as Bill mentioned, we were blacked out almost immediately following that. So the -- I think the plan would be to look at 25,000 as we move forward.

Our next question comes from the line of John Campbell with Stephens Inc.

First, I mean, we've obviously got a lot more homework to do on the life insurance and annuity markets. But maybe if you could help us out on the regulatory side of things. Are there any issues, I guess, that could maybe act as a ripple effect or maybe limit the title business?

This is going to be a separate subsidiary of FNF. So the title business will stand on its -- will stand as a sister company, with a parent Board of Directors and our management structure for the -- for F&G is going to be an internal board, small internal board to make sure that Chris can manage his business effectively and not -- and we can continue to look at various portfolios as they come his direction in terms of a quicker expansion of our asset base. And regulatorily, we have great relationships with the regulators, FNF does and has for years and years. And we don't see any regulatory impairments or impingements to the transaction. And Chris, do you -- would you like to add to that?

I would agree with that. Good relationship with our home state regulator, which is Iowa, FNF and Bill are well-known in the insurance world. And so this should be well received.

Okay. And then on the cash component of the proceeds, I think you guys said you got about $1 billion at the holdco? And then, I guess, roughly $1 billion of new debt, but I guess, Tony, any sense for the blended rate on that debt? Or if you can maybe shortcut just the degree of interest expense lift kind of on an annualized basis?

Yes. I think we've estimated in the models, roughly 4%, although the markets are currently well better than that. I mean, I think it's more like 2.5% to 3%, if you look at the markets. And at this point, we wouldn't know exactly how much we would need to borrow because the cash is a moving target. We had roughly $1 billion at the end of the third quarter. We'll update you next week on where we stand at year-end, but we continue to generate cash and accumulate cash. And so we may be in a position where we're not borrowing that much. And we certainly have a revolver available to us if we need to use that. It's an $800 million undrawn facility at LIBOR plus 145. So that can kind of give you a sense of the cost.

Our next question comes from the line of Andrew Kligerman with Crédit Suisse.

I had a question around -- with this transaction, I think what's so interesting to me is that in many cases, rating agencies and regulators will give some sort of a diversification credit when you have disparate types of insurance business. And so I was wondering if that is indeed the case here? And if you could provide us with some quantification potentially of how much capital that might technically free up and allow for F&G to do more deals with that capital?

Yes. I think I'll let Tony answer this one, if that's all right.

Yes, I think our sense was that they did like the diversification of our revenue streams. But at the same time, they are rating agencies, and they want to make sure that we do what we say we're going to do. So they're going to wait and see. We are anticipating that F&G gets upgraded 1 notch at closing. So that's a positive. And they'll affirm or have affirmed FNF's ratings. And I think as we move forward, they'll look at the diversification and give us some credit. And then, to some extent, they'll look at where we stand on a debt-to-cap ratio and maybe give us some negatives. And right now, I think those 2 kind of wash out. But as we pay down our debt, as we are known to do when we generate excess cash, I think we'll get more credit on the diversification side. And I think that's positive. In fact, I think one of the agencies, I don't know if it's in their release or not, but they had some very constructive and positive comments about us diversifying into another line of insurance.

Interesting. And then as a follow-on to that, I think that F&G had cited about $300-plus million in redeployable capital available to do transactions. Will that still be the number deployed? Or with this acquisition, is there more capital that could come from FNF to do deals down the road, well above this $300 million?

Well, our goal is to grow F&G, and you're correct in terms of the $300 million of deployable capital. But what we will be examining are a number of various portfolios. And they come across the -- they come to the various other underwriters fairly consistently from insurance companies that are trying to dispose pieces or portions of the portfolio. The only thing I would say is we won't get involved in long-term care in terms of an acquisition of a portfolio. But we're going to take them as they come. But part of the beauty of this transaction is that FNF is sort of at the size it can be in its space, in title insurance space. And while we can grow with the market and we can grow by taking market share, it's a slow grinding process. This will give us the opportunity to grow a countercyclical business to our own business. And we'll deploy capital to help support that growth.

I see. And if I could just sneak one, last one...

Yes. This is Chris, sorry, this is Chris. The only thing I would add to that is in the near term, just continue to ramp up organic growth. I mean, our sales engine is doing great, the early calls with our distribution partners were understandably incredibly enthusiastic and positive. They see the benefits of a parent company with a lot of free cash flow. So I would say, yes, helpful as we look at block opportunities. But in the near term, it's really path to an upgrade, expanding into new channels and leaning into the pipes that we've already built.

I see. And if I get to sneak one quick one in here. What happens to Blackstone's position post this transaction? Will they be out of both companies from a shareholder standpoint?

They will be. Both preferred and common, but we -- as part of this transaction, we've extended the term of our investment management agreement with Blackstone, and we have a -- and we're able to use the Blackstone name in terms of marketing our products. So we have a great relationship with Blackstone. We're very pleased with how supportive they were of this transaction.

Our next question comes from the line of Mark Hughes with SunTrust.

Could you talk about the cash flow from this business? Especially if you do start to accelerate growth with the ratings upgrade? Will it be cash flow positive? Will it -- will you need some extra capital in order to grow it? And kind of what is the rule of thumb, when we think about capital generation or capital needs?

Yes, Chris, do you want to handle this one?

Sure. Yes, I would say the quick answer to that is we're capital self-sufficient right now. So we're able to -- we've enough capital to fund our growth. And so it's really a function of, should there be either opportunistic transactions or even faster growth rates where we might need some additional capital from the parent company.

And as we think about the 2020 and 2021 outlook, what's the, kind of the base case in terms of cash, either cash flow or cash need?

Yes. I would say, neutral. Basically consuming all the capital that we're throwing off with very...