Lincoln National Corporation (LNC) Earnings Call Transcript & Summary

Moving along. It's my pleasure to welcome Dennis Glass, President and CEO of Lincoln National. The first analyst meeting I attended, after taking over the Life Insurance Group, was a Lincoln event at Lincoln Field in Philadelphia. So we got to see the Eagles' locker room, we walk out on to the field and I really thought covering Life Insurance is going to be a lot of fun after that. I thought I hit the payday. That was the day I peaked. I peeked early on Lincoln Field. Dennis has been CEO since 2007. Prior to his role at Lincoln, Dennis was President and CEO of Jefferson Pilot, which merged with Lincoln in '06. Under Dennis' leadership, Lincoln has delivered stable, double-digit ROEs for the last 5 years, with a significant amount of capital returned to shareholders. So the track record is clearly there. Let me start with kind of a big picture and really open it up to you to see if you want to make some opening remarks, maybe reflect on 2019, look into '20, just in general, we'll start from there.

Jay, thank you, and good afternoon, everybody. Delighted to be here. I was saying that, Jay, I've been coming to this event since 1993, so I'm a regular. The response to your question is, I guess, I'd just like to make a point that Lincoln's business model has demonstrated good results and resiliency in a variety of different macroeconomic conditions. And I have every confidence as I look forward, that our sort of long-term growth rate expectation of 8% to 10% can be achieved and will be achieved. So the latest example of the resiliency of the model was the fourth quarter. We had strong top-line revenue growth quarter over -- fourth quarter. Last year, in every one of our businesses, we had record earnings per share for the quarter, and our ROE is among the highest in the industry. So again, another quarter demonstrating the strength of resilience of the business model. As we look into 2020, I think, again, with a step down in interest rates last year, a lot of focus on capital management, making sure that we're getting appropriate returns on our new business sales, which we did all last year. But greater attention to that and at capital management in general. And then we've been talking about the development of incremental expense saves for some time now. And I think we've invested $150 million into digital type of programs and we're going to begin to see in '20, a positive $40 million of expense saves, '21, another $40 million for a total $80 million -- '20 -- '21 -- '22, another $44 million up to $120 million. And those are not just sort of a pie in the sky numbers, every one of those dollars has a name behind it. And it's in the financial statements that I know the program and the execution of the program that's behind it. So those are good numbers. We got another $25 million worth of savings coming from the further integration of Liberty. So strong business model, another fourth quarter -- another quarter demonstrating the strength of the business model and some initiatives underway that will help earnings as we move forward.

I think last year that you were disappointed with -- by the end of the year, when you said, gee, I wish we had done that a little bit better or differently.

Jay, we've got pretty good execution. As you all know, in the third quarter, we had assumption changes which hit the balance sheet a little bit, but interest rates are down, and a lot of that had to do with interest rates. There were a couple of other components. So you never like to see a loss quarter related to events like that. So in our history actually, have been almost for decades, we had very little, if any, third quarter assumption change, noise in the income statement. So I was a little disappointed and that, but understood exactly, I was very disappointed in what happened, but understood that it was what it was and in fact, our assumptions that drove some of the outcome, we're on the more conservative side in the industry. So again, demonstrates the overall discipline that we have at Lincoln. But other than that, strong sales, good earnings growth. We had one large alternative investment, which I call a unicorn that we wrote down as well in the third quarter, which hurt earnings -- operating earnings for the year, but that was an investment that we had a $10 million cash investment in. It rose up to $140 million. And then when went -- fell back to about $20 million. So we still have a decent cash-on-cash return, but it affected the third quarter earnings. So remove those 2 things, and it was a pretty good year.

Yes. So my question is -- let's kind of broken it down, I guess, by product or by segment. And I'll go about it this way. And maybe I'll start with annuities. So you, over the past several years, expanded your annuity products moving into fixed income variable indexed annuities. Talk about the initial rationale for doing it. And then maybe, as importantly, a postmortem, in other words, how have those product introductions gone relative to what you had hoped for?

Yes. So I'll come back to the strength of the business model. The strength of the business model is in our space, like most everybody recognizes Lincoln's distribution is as strong as anyone's, if not stronger than everyone's and that our product development is strong as well. So 3 years ago, the annuity business was defining itself as a guaranteed lifetime income business. And we decided that was much -- given the strength of our product development, given the strength of our distribution, that was much too narrow of a definition of our business strategy. And so we decided to diversify our sales, further grow our distribution partners, add wholesalers and the result of which has been phenomenal with great sales and a more diversified product. So it was a good strategic decision to broaden the view and definition of what we were in the annuity business.

From a return standpoint, has it matched your expectations?

Different products have different return profiles and appropriately so. So on the VA with living benefits, your target returns are sort of mid-teens, the fixed annuities or lower double digits. And so over time, you have to manage to ROE and things like that, that we've got a diversified business mix. It's going to move back and forth in terms of the distribution of product but we're comfortable that we'll continue to grow good sales, profitable sales and good ROA and ROE development.

The growth in the business. Obviously, some of it comes from new distribution partners. You're expanding with current partners, is there one that you see as being more important? Is it coming up with new channels?

Well, let me be specific in responding to that. So this past year, we have a couple of specific channel expansions. We got into a relationship with Allstate, which has a tremendous potential. And so that's a specific distribution expansion, where we can sell existing products into that channel. That worked very well. We added some independent marketing organizations on the annuity side and to get them as partners and distribution, we had to customize some products and make it attractive to that particular marketplace. And then sort of a more general comment is that when you introduce a product like an index VA, where we've gone from 0 to, I think, $1.8 billion worth of sales in about 18 months, pretty good. That's a combination of attracting new financial advisers to sell the product, adding the product to existing shelf space and that takes a little while as well as adding new distribution partners.

Yes. What's hard to see from my seat is your distribution partners, they're seeing a wide array of products from different companies. And the question always comes up, why would they choose Lincoln over someone else? What are your distinguishing features? Why -- because, obviously, you've had success with a lot of these partners, if I went and ask them, why Lincoln? What would the answer be typically?

Well, I think there'd be a variety of answers. One, of course, we've been in this market forever. We have a strong track record of success and consistency. So they can rely on us as a product provider. So I've put that in one category. Another category is we run distribution at Lincoln, both as a business and a career. And because we run it as a business, there's a whole surrounding support, marketing activities, leadership development. And then because it's a career, distribution reports directly to me. You attract people who can see a career path that's very strong with high potential. So we end up getting a lot of really good people in our distribution wholesalers, in particular. So that would be a piece of it. And then because we sell different products...

Then we're good, but they stick around for a while, it sounds right too.

Oh, yes. Yes.

Which is important.

Yes, exactly. I know we have some numbers on that, but I think we have some of the longest tenure in the industry with wholesalers. And the last point is, so for example, right here at Merrill Lynch, BofA Merrill Lynch, the distribution organization, your product people want them to add another small market defined contribution manufacturer. Well, they really didn't need another manufacturer, but they needed somebody with the distribution strength that Lincoln had so that not only could they build a better 401(k) market distribution, but because we were in all of their offices, we could cross-sell to other products. So it was not just the 401(k) defined contribution business that they brought us in for, but it was the ability to cross-sell to other products. And so that's the type of thing that is attractive to companies like Merrill.

How do you characterize the competitive environment now? What's the latest read on -- for annuity specifically?

I would say that across our businesses, it's a pretty rational marketplace. Products that are interest rate sensitive with the drop in interest rates are being repriced, so that you have a lot of repricing going on. But generally, it's across all of our business. It's rational marketplace. Yes, I have this conversation with people all the time. There's 2 reasons why it can be irrational. One is because people make inadvertent mistakes, and we've made some, that we're selling product from time to time too cheap, for whatever reason, it's happened to us once. And the other issue would be that if somebody wants to take market share, they intentionally get very competitive pricing in order to establish a market position. But that would only -- they might do that for 12 or 18 months. So I think, in general, it's a competitive marketplace, not a lot of irrationality at all or to say differently, it's a rational marketplace [ for pricing ].

Latter, people going for market share intentionally. I'm assuming you don't see that too much these days to begin with is it?

Not much, but you've seen it over the years.

Yes, yes.

Yes. But that's an intentional thing. You say, I'm going to accept 12% instead of 14% for 18 months. So that's an investment to get into a market.

Any questions on the annuity business at Lincoln? Just if you have -- well, just raise your hand, we'll get you a mic. I'm going to shift over to, I guess, retirement. Where are you seeing the greatest growth in this business at this point?

We're leaders in 4 segments of the market, the health market, and so we're seeing good growth there. The small case 401(k) and back to Merrill, we're getting good growth there. And then the government market. So those 3 markets where we actually have strong market positions, we're seeing good growth. We entered into the stable value marketplace. We've seen good progress there and a little bit of book value wrap business. So all of those together are driving pretty good outcomes.

Is this something we should continue to see in '20 -- 2020?

Well, it's hard to make predictions about sales. But we expect a good year across our -- well, we expect to see a good year in our businesses. Back to capital management and let's take the life business, for example. We had a very very strong year in 2019 as we go into 2020. There's a couple of reasons why we think sales in our life business, maybe even our annuity business might not be quite as strong, intentionally, not quite as strong. One is, back to this idea of appropriate return on capital. There's some cost increases in the life insurance industry, in particular, that have to do with principal-based accounting affecting MoneyGuard as an example. And so we have to increase prices on MoneyGuard because of the new reserving requirements effective on January 1. That also contributed a little bit to the strong sales in the fourth quarter because our advisers knew that we were going to raise prices. So they pushed a little hard with their customers -- harder with their customers to take advantage of the price, they knew that that was going to go up. And by the way, our costs didn't go up until this year. So everything we saw in the fourth quarter was above our pricing -- at or above our pricing expectations. So that would be an example of a little bit of excess in the fourth quarter that won't repeat next year. And then because of the capital requirements we'll have to raise prices. And so that will push sales down. Probably, that's true in one or two other of the annuity products. So we have to pay very close attention with lower interest rates to proper return on new business.

On the retirement business, is it fair to assume there should be more consolidation in this business, given how important the size and scale is?

The size and scale, in most of our businesses. So for example, I think this year, our life sales will make us the #1 seller of life insurance in the United States. So obviously, we have a lot of scale there. I haven't seen the final numbers, but our $1 billion of sales has never been done before in the industry. So we have a lot of scale there. In our group business, I think our LTD and short-term disability sales are among the top in terms of volume, #1 or #2 in the industry. And with the acquisition of Liberty, merger of Liberty, we have tremendous amount of scale there. In the annuity business, we are equally strong in terms of sales standings probably fourth or fifth. So when I think about scale, I think about, do you have enough scale to have the low-cost position in the industry. And you have enough scale back to distribution, that if a distribution partner wants a new partner, they think of Lincoln first, because we're so big and comprehensive when we have such a strong distribution. So we have that in those 3 marketplaces. Now coming back to -- and so we don't have to do anything there. Coming back to RPS business. There, we've chosen to be strong in 3 segments, not across all segments of the industry, and we have expense saving programs in place to get our cost per participant down to industry average or better. So I think we've got enough scale in the RPS business as well. So that's how I think about it from Lincoln's perspective, what other companies are trying to do in terms of get additional scale and for what reason I -- we'll have to wait and see.

Wouldn't additional scale in the retirement business be helpful to you? We've seen a couple of deals happen in this space.

I don't think so. And it comes back to our distribution model. We have a solid enough distribution to make small case 401(k) sales, a big part of our growth strategy, and it's because of the distribution strength. If we reduced competing against players where we didn't have that distribution advantage, we'd have to fall back on price or something else. And so for us, because we're at industry average cost per participant or a little better than that. And given our distribution strength, we are exactly the right size from a scale perspective, to achieve what we want in the RPS business.

Got it. On the life side, you had mentioned sales growth, I guess, fourth quarter, we were surprised by the sales growth. Talk about the opportunity behind that, why was the growth so high?