Sampo Oyj (SAMPO) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to this Sampo Group update on IFRS 17 and IFRS 9. My name is Sami Taipalus, and I'm the Head of Investor Relations at Sampo. On the agenda today, we have first a presentation from Group CFO, Knut-Arne Alsaker, which will take about 20 minutes. After the presentation, we will have a Q&A session, where we will be joined by CFO of If P&C, Mans Edsman as well. We have 1 hour in total for the call today. So we will be finishing at 12:00 Finnish time at the latest. A recording of the call will later be available on sampo.com. With that, I hand over to you, Knut-Arne.

On my behalf as well, good morning, and welcome to our update regarding implications to Sampo of the new accounting standards, IFRS 17 as well as IFRS 9. The 2 new accounting standards, which will come into effect now on 1st of January, are for Sampo just that, 2 new accounting standards. They will not impact the way we do business, meaning the way we price our products or service our customers. Neither will they affect our financial strength or capital management. I have done several roadshows after we published our third quarter results a month-or-so ago. And one of our shareholders told me that he had been surprised when he saw that we would arrange this update since he did not expect any material news. I think that is a reasonable reflection since I will also tell you that there are no material impacts from IFRS 17, neither on our important P&C insurance KPIs. But there are, of course, changes to the structure of our financial statements, like for all other insurance companies, and I will spend some time to talk more about some of these technical implications. The main technical implication of IFRS 17 is related to changes in our income statement. P&C insurance is, of course, by far, the main part of our business, and we will use the so-called Premium Allocation Approach or PPA (sic) [ PAA ] for this part of our business. This makes accounting under IFRS 17 similar to what we currently have, but with some specific differences. One of the main differences is that all our claims reserves will be discounted. I will return to this in a minute. IFRS 17 also clearly splits the P&L into 2 main parts: the so-called insurance service result and the financial result. I'll make some comments to differences between our current underwriting result and investment result as well during this presentation. Before I move on, let me say that today's presentation is meant to be a conceptual overview of implementation of the new accounting standards in Sampo. We will present more details of transitional effects in February as well as provide comparable numbers with respect to IFRS 17 well ahead of our Q1 2023 report, which will be the first time we report using IFRS 17 and 9. Like I already mentioned, one of the main differences between the new and the current accounting standards is that all our P&C insurance liabilities for incurred claims will be discounted. Currently, only part of our claims reserve is discounted and the discount rate methodology we today use is also different compared to how it will be under IFRS 17. Going forward, we will discount all our liabilities for incurred claims using market-based risk-free rates depending on the currency of related liabilities and adding a so-called illiquidity premium on top of the risk-free rate. Everything else equal, this will lead to a reduction in the balance sheet value of liabilities for incurred claims in the current interest rate environment. Another new item under IFRS 17 is the so-called risk adjustment. The risk adjustment will be -- under IFRS 17 be added on top of the best estimate reserves. The risk adjustment is meant to represent the cost of uncertainty in the cash flows used for best estimate according to the new accounting standard and we will use confidence levels for this purpose. Even though the specific risk adjustment under IFRS 17 is a new concept compared to the current presentation of claims reserves, it will not be necessary to increase our IFRS 17 liabilities for incurred claims compared to what we present under the current accounting regime. And the effect of these 2 technical changes, the risk adjustment and the new discounting, is therefore a net positive on the group's shareholders' equity. Disregarding these technicalities, we will have the same reserving philosophy as before. So like already said in the beginning of this presentation, no way -- no change to the way we do business. Continuing with our P&C insurance KPIs. Let me start with the practicality. Gross written premiums will not be the first line item in our P&L under IFRS 17, but we will continue to show you this number going forward, so you will have continuity in looking at our premium growth. Then the combined ratio. First, we will continue to present combined ratio on a net basis, both for continuity there as well, but also because it is net margins that ends up at the bottom line as income and later as dividend. There will be a small but somewhat positive effect on the combined ratio due to the broadened use of discounting of cash flows used to set liabilities of incurred claims. The magnitude of this effect will depend on the level of discount rates. As a last point on this slide, I want to emphasize that we make today no changes to our group combined ratio target. We set our financial targets for a 3-year period close to 2 years ago and will consequently review them in a year's time. Then some specific comments on If. Today, only about 40% of If's claims reserves are discounted. Like I already had mentioned, under IFRS 17, all liabilities for incurred claims will be discounted, also in If. During 2022, the effect of this additional discounting on If's combined ratio would have been positive if we had applied IFRS 17, a positive effect of 1%-or-so. Going forward, the effect of discounting on If's combined ratio will naturally depend on future interest rate levels. In 2022, we have had significant positive changes in the discount rate we currently apply in If. The effect of these type of rate changes will, under IFRS 17, be moved out of the combined ratio and into the finance result, specifically to the so-called insurance finance income and expense as illustrated by the graph to the upper right-hand side on this slide. With respect to costs, If will continue to include all costs in the underwriting result or the new insurance service result, as it will be called, since costs are managed holistically like they always have been. There is no change in If's target of improving the cost ratio of about 20 basis points per year. There will be a slight technical change in the calculation of the cost ratio, as some reinsurance elements like commissions and reinstatement premiums are moved around in the P&L. This does not affect profitability, but will have a slight negative impact on the restated cost ratio, but not on the downward trajectory of the cost ratio. And also for If, no change in strategy, products or operations. Hastings. For Hastings, the impact of IFRS 17 is similar as for If with respect to the combined operating ratio. Some of the income in Hastings, currently classified as other income, will be moved into insurance revenue. This income is already included in our operating ratio for Hastings but not the loss ratio. Since the revenue moved into the insurance service result is offset by items classified as costs and not claims, it will have a positive effect on the loss ratio. This effect come on top of the positive effect related to the introduction of discounting, but is neutral to overall profit. We will revert to our target for the loss ratio for Hastings next year. There is no change in strategy, operations for Hastings either due to IFRS 17. And also for this segment, we will stick to the net basis for reporting KPIs. Going forward, the financial result will include a few things that previously have been accounted for differently. Related to the asset side, we will include recurring income, such as interest payments and dividends as well as peer value changes in asset values in our financial result. The second part of this is new, as we currently only include realized gains and losses in the current investment result and fair value changes in asset values in our total comprehensive income currently. In addition to this, the financial result when under IFRS 17 include the unwinding of liabilities discounting and the full economic impact of discount rate changes on liabilities for incurred claims. On a quarter-to-quarter basis, there is a potential for less stability in the financial result than what we have had before under the current accounting regime. All in all, these new accounting changes does not affect the way we are exposed to financial returns and risks, but the illustration of the result of this exposure will be different. The presentation of the financial result will be more aligned with our Solvency II capital generation, which I will come back to in a minute. Looking at 2022, as an example, a year, which, as we all know, have included significant volatility in financial markets. We had this year reported a negative total comprehensive income from fair value changes on the asset side, which have led to a negative ROE under the current accounting regime. However, we would have had a positive profit before tax under the upcoming accounting regulations due to the inclusion of liability discounting using market rates and, in other words, turned at negative ROE into a positive return on equity. I talked about the P&C insurance business, which is the vast majority of the Sampo Group. But let me also talk about our life insurance operations, Mandatum. The largest economic part of Mandatum is the with profit book, which is in runoff and with will remain the key profit driver, also under the new accounting rules for some time. Most of the profit from the with profit book will come through the financial result as we continue to generate income from the return on with profit assets. On top of the investment return, there will be a contribution from the unwind of the CSM, the contractual service margin, which we expect to runoff by shy of 10%-or-so per year. In other words, in line with the natural runoff rate of the with profit book. Another important aspect of Mandatum's business mainly falls outside of IFRS 17 as it does not have a significant enough insurance element in it to be classified as insurance business. I'm referring to the unit-linked business that is not pensions. About 70% of Mandatum's unit-linked business will be accounted for under IFRS 9 and generate a fee income to our financial result. The portion of Mandatum's unit-linked business, which will be accounted for under IFRS 9, will increase over time. The profit from this part of the P&L will depend on the size of assets under management naturally going forward and the net margins on those assets. There is no change to the fact that Mandatum's solvency position will remain the key driver for dividend for the next few years. So solvency. Solvency is not affected by these new accounting regimes. There is no impact on our solvency ratio. Solvency II will remain Sampo's capital requirement. IFRS 17 will increase the alignment between accounting and solvency, not least due to the broader inclusion of discount rates. Some differences remain. Risk adjustment under IFRS 17 is slightly different, meaning lower than the risk margin under Solvency II. The difference exists because we think that the risk adjustment is an even better reflection of our business than the risk margin, which is based on a prescribed methodology under Solvency II. We also use slightly different discount rates due to the fact that there is an inclusion of an illiquidity premium under IFRS 17, while our use of volatility adjustment under Solvency II is limited in the Sampo Group. And when it comes to IFRS 17 equity -- shareholders' equity, there is, of course, no inclusion of hybrid capital. Tying up on this topic, capital management. Our capital management framework is unaffected by the new accounting regimes. Solvency II, as I said, remains the binding capital regime. We will continue to have a stable and gradually growing dividend and continue to manage our capital towards our Solvency II target of between 170% and 190%. Financial leverage ratio, which is based on our IFRS equity, should reduce somewhat due to the slight positive impact on shareholders' equity from lower insurance liabilities, obviously subject to interest rates at the end of this year. And since our capital management framework does not change due to these new accounting regulations, there is no change to our excess capital compared to how we talked about it in our Q3 investor presentation. I actually think this slide speaks for itself. Fundamentals of our business will remain the same from all of this, and we will continue to focus on delivering on our financial targets. Thank you for your attention.

Okay. Let's move on to the Q&A session. We've now been joined by the CFO of If P&C, Mans Edsman. Mans has been heavily involved in the implementation of IFRS 17 at If. Operator, we are ready for the first question.

[Operator Instructions] We will take the first question from Jakob Brink from Nordea.

I don't know if you can go back to Slide 7, but at least on Slide 7, you had this impact of how the reserve should move or the date of the runoff gains, I think you showed on that slide. I was just wondering, so you show that the discounting impact will have this roughly 1% positive impact going forward for 1% change, but also that the 2022 result, I think you showed, would have been weaker because of the support from lowering the discount rate or raising the discount rate in Finland and Sweden. However, it seems also like there has been some sort of correlation between your actual sort of gross runoff gains in the past and what you have done on discounting. So this year, there's been fairly limited support from reserve releases, as you have had very strong support from discount rates. So how should we think about runoff gains or prior year gains going forward given that you don't get this potential support from the adjustment, especially to the Finnish discount rate?

If I start and then you can fill in, Mans. The way you should think about runoff gains is exactly as you say, in terms of effects from discount rate changes that will still be a result element, but it will be in the finance result. In terms of all other prior year gains coming from different lines of businesses and segments, they will remain unaffected by this. There's no change to our reserving philosophy in Sampo or our assessment of our reserve strength. Then some of that reserve strength will be shown separately in the risk adjustment in our balance sheet. But in terms of runoff gains from our best estimate liabilities, it will basically work as before. Anything to add there, Mans?

I think you covered it all. I think we see no change from this change of accounting principle on that perspective. So yes, and I think it's -- that slide is also highlighting, more conceptually, what are the main changes. I think that's highlighting the fact that we have a change when it comes to the changes of interest rate that we move into the insurance financial income expenses.

No, no, I was just thinking. So this year, when you have raised the discount rate in Finland from 0.75% to 1.25%, that has had a positive impact on the combined ratio in the year, but it has also reduced your liabilities. You have not had very many or not significant, at least, gross runoff gains outside the discounting impact. So while in other years where you have not had that impact from the discounting or support from discounting or maybe even a negative, you have had relatively high gross runoff gains. So it looks like there has been -- that you have looked at the 2 in combination as both been strengthening or destrengthening of the reserves. So going forward, as you say, you will move the interest part down to investment income leaving then the other one, but -- so how should -- how are you thinking about it? So let's say that you get the support in the investment income, would that then mean that we should not expect any support from gross runoff gains in the combined ratio? Or -- yes.

No. I mean we look at our total reserve strength, of course, and then on an individual segment basis. And exactly, as you say, this year, we have had significant runoff gains from increasing discount rates, primarily the Finnish discount rates. And of course, that would be different under the current accounting regime, which -- where it would not impact the combined ratio. You shouldn't re-relate that to how we view our reserve strength. During the year, our reserve strength, if we look away from discounting, is absolutely as strong as it's been before. Then, Mans, maybe you should just do a reminder on the motor TPL as well, which has been a part of the historical...

Yes, yes. I mean -- but first of all, we have many moving parts in our prior year development. And then if we think about that as a total consideration, I think what we have seen the last years, of course, is that we have had a benefit from the decreased frequency when it comes to fatalities, which have had a positive effect that we've seen in the past. But that doesn't mean that the reserve strength is different. That's just sort of something that we have taken into consideration. So reserve strength is maintained also going forward, irrespective of the change of accounting standards.

Okay. And then, if I may, 1 more question on the impact going forward from a 100 basis point change in rates, I think you wrote slightly less than 1%. Why is it not more? I mean, if I look at, for example, Tryg or Chubb which has somewhat shorter, almost half the duration of the liabilities than If, they are getting an impact of around 2-plus percent on the current discounting. And I think there is sensitivity, at least Tryg is more than 1% for 1% change. So why do you think your sensitivity is less than 1% with longer duration on the liabilities?

Yes. I mean I can only speak for If, and I think that this is what sort of we have concluded on and that this is what sort of our liabilities looks like. So I think this is an approximately good number to look at the sensitivity when it comes to If's combined ratio.

Okay. And then just lastly, on the investment income side. So as you said, Knut-Arne, you'll have to start discounting the liabilities. So what will you do on the asset side, if anything, to sort of match the mark-to-market liabilities?

We're doing some lengthening of the duration in If, as we talked about before, which, of course, is positive also for future investment income. And then we also are doing some actions in Mandatum to have parts of that portfolio more matched between asset and liability side. So we're taking an advantage of the higher rates also to, of course, generate more finance income going forward, but also to reduce the volatility somewhat in case of rate changes in the future going -- and rates going down, basically.

Will these sort of asset-liability matching, will that take place in connection with the -- or before the Q1 report or is that something that will happen gradually?

We have, throughout the year, gradually changed a bit of the fixed income portfolio in If, which we have talked about throughout the year and continue to do so. And then we've done a little bit of hedging, and that will also be gradual in Mandatum as of late.

The next question comes from Youdish Chicooree from Autonomous Research.

I'll just kick off with probably 2 questions. The first one, I'd like to go back on the question on runoff and reserving strength. I was wondering whether you could just tell us more exactly your reserve strength would be reflected. Is it going to be in your best estimate reserves or is that going to be booked in the risk adjustment and therefore we'll have a view on how that could runoff in the future? That's my first question. The second one is just on the accounting of all fair value moves in the income statement for assets and liabilities. I believe that's going to introduce quite some volatility, especially considering the mismatch you currently have with your assets and liabilities. I mean is it possible to get -- like to have a KPI that shows probably like a more than operating result without market impacts?

In terms of the -- if I start with the second question, just to give you some sensitivity on the rates and then, of course, we will have some volatility from our equity exposure. But in terms of rate sensitivity on net income from 100 basis point up or down is basically plus/minus EUR 150 million, obviously with the benefit if rates go up. And about half of that is from the P&C side of the business and about half from the life side currently. Then that could, of course, change a bit if we continue to take the actions I talked about on the previous question. And then we'll take into consideration your request on the KPI there, Sami. In terms of the reserves then you, Mans, can comment specifically on If. But I think the way you should look at it is that we have -- philosophically, we almost always had a risk adjustment in our reserves because of the prudency in our reserving philosophy. Now we're showing you some of that prudency explicitly on our balance sheet. And of course, there will be a runoff in that risk adjustment as well as you can talk about, Mans. Doesn't mean that we're not left with a prudent best estimate. It's just that we've had the risk adjustment in our reserves because it hasn't been a specific item under the current accounting regime. Anything to add here?

No. I just can confirm, I mean, that's exactly how we see it. Some of that conservatism is now more explicit in the risk adjustment. All in all, the reserve strength is still maintained. Some of the conservatism is, of course, still there. So this is a change that shouldn't be looked upon as any material change when it comes to reserve strength, not at all. This is just a continuation of what we have had before.

All right. That's very helpful. Can I just ask 1 more question, if I may, please?

Yes, go ahead.

Yes. So on Slide 10, where you actually show the impact on Mandatum. I think you showed you will create a CSM of around EUR 400 million and you expect that to run off at around 7% and 8%, which means you're going to get -- you should be getting a stream of earnings of around EUR 32 million. I mean that sounds quite a low figure. So I was wondering, I mean, obviously, you've got the unit-linked business, but currently, I understand it does not contribute that much. So is there a risk that the Mandatum recurring profit is actually lower than we currently see?

Well, that's only a part of Mandatum's profit. You were very exact on the EUR 32 million, but around 7%, 8%. So that will come through the P&L. And as you know, Mandatum's with profit business has been running off for a long time. So the certainty of that direction should be fairly high. Then there will be another part of the current profit, which will be shown in the finance result, basically part of what we today call the expense result or profit from the fee business which will be a quite significant part of the profit coming currently from the unit-linked business since 70% of Mandatum's unit-linked business is accounted for under IFRS 9. And that should be added on top of your number from the CSM to related to Mandatum's current risk and expense result which will not materially change under the current circumstances going forward.

The next question comes from Jimmy Fan from UBS.

I have 2 questions, please. So first one on the illiquidity premium that you mentioned that you're going to use as part of the discount rates. And could you give a bit more color in terms of how that is going to be set going forward? Is that being to some benchmark?

Was it...

Jimmy, your question is how the discount rate is going to be set going forward, if I understand correctly?

Yes. Especially, the illiquidity premium parts of that discount rate.

Illiquidity premium. Okay. Thank you.

I'll just start with the basics, and then you can talk about the thinking around the illiquidity premium. But we use an illiquidity premium on top of the risk-free rate to set our discount rates on parts of the curve. And the reason for that is because we have a reference to an illiquidity premium in the accounting standard, IFRS 17. Maybe you can talk a bit around the thinking of the illiquidity premium.

Yes. I think, as you say, the standard requires illiquidity premium, so we have designed illiquidity premium, taking average spread out of the -- backing it out in each of the currencies that we operate in. And then I should remind you that we are operating in multiple currencies, both large currencies like euros as well as more Nordic currencies like Norwegian kroner and Swedish kroner. So we had to find a model, and we have now settled down with a good model that we think is appropriate for our type of portfolio. So that will -- as Knut-Arne mentioned, that will be put on top of the risk-free rate for the liquid part of the curve.

And that will be the same also for other segments then If obviously in -- also in the currencies, which they represent. There could be an argument in Denmark for you saying a illiquidity premium very close to 0 or maybe 0 because the illiquidity premium in Denmark is -- according to the model we use is very, very low with the bond basket we include.

That's very helpful. And my second question is on earnings volatility. Obviously, like as you mentioned that earning volatility is going to increase because of the changes to investment reporting. And I guess, as mentioned in previous questions, the AUM kind of mismatch will increase that volatility, but at the same time you still have quite a lot of active [ holders ] in If P&C and Mandatum. How are you going to thinking about earnings volatility going forward? Are you looking to change some of your investment allocations in order to have a less volatile results going forward?

I mean we've always had our investment allocation, which, of course, is changing a bit from time to time due to the fact that we think that allocation, which we have, makes economic sense for us given the market conditions we have from time to time in financial markets. That will still be the basis for our thinking in the current environment. But of course, like I already talked about, given that the rate environment have changed significantly during this year we have sort of restructured some of the exposure we have on the fixed income side to take advantage of the higher rate environment. On the equity side, our equity exposure will also depend on how we see financial markets from time to time. We think it still makes sense for us to have a little equity exposure in parts of our business, not least with those with longer tails like If. And that we have no plans currently to change that. The economic exposure is not changing out of this. Then neither do I worry about that exposure in terms of our dividend, which, as you know, is based on the -- primarily the insurance service result or the underwriting profitability in our P&C business and also with the dividend contribution from Mandatum. With the solvency that we have, certainly also in Mandatum, the certainty of that dividend is very high. And even though we should -- could have somewhat of a higher volatility, let's see, in our result from a quarter-to-quarter basis, I don't see that our equity exposure or the fixed income allocation should really change the volatility over time. So we don't see a need to change our investment allocation because of the new accounting principles on that basis. Then I maybe should just add 1 more thing which maybe is more a philosophical comment as well. But if we had the option to only include realized gains or losses from equities in our P&L, like we do today, we would have continued doing so because that's really when we can decide whether or not we have made a profit or not. But the option to recycle equities is not available under IFRS 9. And for us -- and we do -- we invest in the stuff -- we invest in to make a profit. So to hide that profit totally away and take everything directly to equities would also be a bit contradictory to our philosophy, also including philosophy of accounting.

[Operator Instructions] We will now take the next question from Tryfonas Spyrou from Berenberg.

I just have 1 question on leverage. You mentioned that, obviously, equity leverage is expected to come down a little bit. I was wondering if you can give us some color on how much and whether you -- that would impact in any way your sort of leverage target of being below 30%?

Thank you. On the leverage, of course, the impact on the leverage ratio would primarily depend on what interest rates we have at the sort of the end of the year, actually the first quarter, which is the first time we will report according to these accounting standards. But to give you an indication of where we are now, the impact would be between 1% to 2% positive and that is primarily coming because of the broader use of discounting, which has a positive impact on our shareholders' equity, which I mentioned. So around 1% to 2% currently. On the targets -- thank you, sorry about that. No need to change the target. We have -- as for some of our targets, we have a target of below 30%. And obviously, everything else equal, that we would be even more comfortably within that target and have no plans to change that target as all the other targets I mentioned at this point in time. We set our targets about 2 years ago for a 3-year period.

The next question comes from Jan Erik Gjerland from ABG.

Two questions from my side. The first one is on cost. I think you said on the cost side that all costs was included in your cost ratio. We have heard your -- from the competitor, Gjensidige, saying that the training costs, et cetera, will be not included and put somewhere else. Could you just confirm that all of your cost is -- also including the training cost are put inside the cost ratio, so we just know for comparison how much, if so, would the training cost be typically for 1 year? And the second question is on the discounting versus the unwinding. You sort of get the positive discounting in your combined ratio. But if I heard you correctly, you unwind that part of the discounting inside your financial return. So it means that you will be net-net then. So you win on your combined ratio but lose on your financials sort of from the higher interest rate. Is that how we should look at it?

If you take the first, Mans?

Yes. Correct. We will include all costs also going forward into our cost and expense ratios. We have a long-standing tradition to include everything. In If we talk a lot around cost ratio, which includes also the claims handling expenses. And we'd like to see that continue also going forward because it creates transparency, and it's also something that -- well, it connects a lot the internal reporting with external reporting. We cannot, of course, disclose how much the educational cost would be. So I will note that question and then take it up with me for the future. But we will not include it as sort of -- as a standard in our cost ratio or expense ratio.

Sorry, Mans, just to be clear. You will -- everything will be in the cost ratio?

Everything will be in the cost ratio.

Yes. But you cannot say anything about how large it will be? Is it 0.1% or is it 0.5% or is it here below 0.1 percentage point of the cost ratio, so to speak, just so we understand the magnitude?

Yes, I see your point. I think I've settled with that. It's not very significant, I would say. But I'd rather come back then in the future with actually having a disclosure that we can actually tell you more specifically what that would be. So I could note that down.

I think what we should be aware of in terms of how some companies read the standards because it could probably be read a bit differently. You could also see that what some companies allocate outside the insurance service result and the expenses to generate that would be varied in what we, for example, would defined as training cost. So the magnitude of that could also vary when you compare it to what we will talk about in terms of our training and educational cost. We are thinking about providing you basically with 2 cost ratios, both one with and one without these type of costs according to how we would define them. But again, that definition could vary a bit between companies. On your second question, which was on the unwinding, I think you sort of talked about it in a correct way. We will have a bit of a benefit on the combined ratio because of the broad use of discounting but that we need to unwind that benefit as well. And that will be in the finance result. And it will be roughly the same effect as we have in the combined ratio, but it, of course, will come with a little bit of lag. That's why I say roughly, so it doesn't have to be in the same accounting year, if you understand what I mean.

I will now hand you back over to your speakers for any additional or closing remarks, as there's no further questions.

Well, thank you, everyone, for attending and listening into the call today. And we look forward to seeing you at various different IR events over the coming months. Thank you.