Standard Life plc (SDLF) Earnings Call Transcript & Summary

Good morning to those in the U.S. and good afternoon to those in Europe. My name is Oliver Steel. I'm the insurance analyst at Deutsche Bank. I'm very pleased to welcome this morning or this afternoon Andy Briggs, who's Chief Executive at Phoenix. Andy, I'm sure, is very well-known to you as the ex-CEO of Friends Life, and more recently, the ex-Head of Aviva U.K. He has now, as of a few months ago, become Chief Executive of Phoenix, which is the call you're listening to today. Andy, thank you very much for coming on the call with us today. I know you wanted to say a few words to begin with. So shall I let you kick off?

Fantastic. Thanks, Oliver, and good morning, everyone. Great to be catching up with you all. Look forward to getting your questions in a few moments, particularly, as I know, Oliver will have some nasty questions. So if I was to get asked a few as well, that would be great. But let me just say a few words of introduction. In particular, I know that Phoenix isn't as well-known as some other FTSE 100 insurance names in the U.S. But as we complete the ReAssure deal, we become the U.K.'s largest savings and retirement player. So we'll have over GBP 300 billion of U.K. assets and 14 million U.K. customers. And our strategy is very simple and clear. We do 3 things. We're the market leader in running heritage businesses, so product lines no longer open to new customers that are bringing good outcomes for those customers but doing that in a way that generates a very steady, reliable flow of cash for shareholders. We're also the market leader in doing M&A and successfully integrating those businesses. We've got a strong track record of exceeding synergy targets and successfully doing M&A. And then we're building a thriving and growing open business focused on workplace pensions, on bulk purchase annuities and then on helping the aging population of 50-plus year olds consolidate their journey to and through retirement. As far as the financial framework is concerned, one of the real attractions to me of Phoenix was the simplicity of the strategy, but also the clarity around the financial framework. So cash is king. Dividend is paramount. That's underpinned by a strong, resilient, diversified balance sheet. And from there, we then look to grow cash. And I think perhaps one of the key things that we achieved last year was, at the start of last year, the future cash generation, so the future cash we expected to emerge out of the life companies at the group was GBP 12 billion. That GBP 12 billion becomes GBP 19 billion post-ReAssure. But start of last year, it was GBP 12 billion. Cash generation last year was GBP 700 million or GBP 707 million. So effectively, that would have taken the future cash expected down to GBP 11.3 billion, take the GBP 700 million off the GBP 12 billion as it came up to the group level. But last year's new business, which isn't included, new business isn't included in the GBP 12 billion calculation, added GBP 500 million. And then we outperformed what we previously assumed from heritage and management actions by GBP 0.2 billion. So at the end of last year, we still had GBP 12 billion of cash expected. So effectively, that sort of wedge had worked. And we've replaced the cash we've taken out. We also recently recommitted to our cash generation target for this year of GBP 800 million to GBP 900 million, and the fact that we expect GBP 19 billion to emerge from the business including ReAssure going forward. So cash generation is key. Resilience is also key. In our trading update, we talked about that our balance sheet, we have to meet our customer obligations. Our 1-in-200-year solvency capital requirement is GBP 5.5 billion. And on top of that, we had an excess surplus of GBP 4 billion on top, that's 172% ratio. That does include the debt that we've raised for the ReAssure transaction. So obviously, we plan to spend that as that transaction is looking to complete in July, on track, on schedule for that. And then a real focus around the sensitivities. And I think the key point to make here is that annuities and credit are only about 10% of our balance sheet, so much, much less than others. We have a very diversified credit portfolio, only 15% in BBB, very low exposure to airlines, travel, hospitality, very low indeed. And therefore, year-to-date, the total impact of the economic volatility to the end of April only cost us GBP 0.2 billion of our GBP 4 billion of surplus. So those probably are the kind of key points I'd raise by way of introduction, Oliver, but obviously, very keen to open up to questions from everyone.

Okay. Well, let me start with a few, Andy. In early May, you produced your trading update, which, as you stated in the document, showed you to be pretty resilient overall. But there are a couple of things for me that sort of stood out that perhaps I would also sort of question. So the first was that you had issued an extra GBP 500 million of Tier 2 instead of a senior debt. And I'm just wondering, I mean, that sort of indicates to me that maybe you weren't perhaps quite so comfortable with your solvency after all. So I'm just wondering the rationale for issuing Tier 2.

Yes. So what we said at the time of the ReAssure transaction was that we expected the combined solvency ratio at completion, that is what we said back last December, to be 148%. And we have a target range of 140% to 180%. Now I've always taken the view that the point of the buffer on top of the 1-in-200-year capital requirement is to withstand stress scenario to then build back up again. And while 148% was the kind of predictive position back in December at completion, what we then have is a whole series of management actions that we'll undertake as we combine with ReAssure which will drive that solvency ratio up. So that's kind of a relative low point. The other thing I'd say is that we calculated that 148% on a fairly conservative set of assumptions. So for example, it didn't allow for the completion of the Old Mutual Wealth deal, which ReAssure did complete on at the end of last year. And therefore, I mean, in the round, if you take the stresses so far this year, but then the areas of conservatism and how that's played out in practice to date, we're probably not 1 million miles off the same or we're in the same ballpark of that 148%. But ultimately, we want to be really confident of paying the dividend year in, year out. And therefore, the call we made around the debt is, why not raise debt? We still raised it at 5.625%. So that's one of the, I think, the lowest coupon we've ever raised debt at. And why not raise debt in a form that will count to the solvency ratio and the solvency position, which is what we had assumed when we quoted that 148% number last December. It just seemed a sensible, prudent thing to do. If things get a lot more worse out there, why wouldn't we just continue to be as we always are, in a rock-solid position.

Fair enough. As you said, you gave a lot of detail in your trading update on the corporate bond portfolio. And indeed, that did look extremely reassuring. But you've also got a bit of property and lifetime mortgages in the portfolio. And Aviva last week, you probably saw, has assumed a 15% drop in commercial property prices in the U.K. and 12% for U.K. residential prices. I'm just wondering what impact in the solvency ratio you declared the other day you've allowed for property price falls.

Yes. So what we do in calculating our solvency is we base it on what's happening in the market today. So we will use the current kind of market indicators, market metrics and where relevant, the sort of forward projection of those sort of longer-term interest rates and so on and so forth. What we then do, Oliver, is we run all sorts of stress and scenario tests around that. And we did that to include in our change of control submission for the ReAssure transaction, which we submitted in April. We also did that as part of getting a good dialogue with the regulator around reconfirming our desire to pay the dividends. So we're running all sorts of scenarios around. And then one of the slides in the deck that people may well have, Slide 15, that we kind of set through for this conference, includes the sensitivities. So I think I mentioned a moment ago, year-to-date, the total effect of all the economic moves to the end of April is only GBP 0.2 billion on our GBP 4 billion of surplus. If we had a 12% fall in property values, both residential and commercial real estate, that would only have a GBP 0.2 billion impact on our surplus. So we quote the numbers based on the market conditions today. But if you want to get a sense of what would a further 12% fall in both residential and commercial real estate property be, it's in the sensitivities. It's GBP 0.2 billion off of the GBP 4 billion surplus.

Okay. You said that the deal, the completion of the deal with ReAssure was on track for completing in July, subject to the regulator. Is there any issue at all with the regulator that we might need to be aware of or is that just sort of formal language?

No issues. So originally, we had intended to or planned to submit the change of control application to the regulator at the end of March. But we made the call, which I think was the right call, to delay it. So it went in towards the end of April, so that we could run a whole series of capital models and scenarios as part of that submission for a range of different scenarios post-COVID-19. And our view was that, that's what the regulator will want to see in order to approve the change of control. And therefore, we took our time to do a thorough job. The regulator has confirmed that the application is complete. And their statutory period, therefore, runs to the latter part of July. It is possible that they could decide they want more information, although I think we have submitted a very thorough and complete change of control application. We took more time to do that. So they do have the potential to stop the clock if they feel that there's a material need for additional information, but we've had no sense of that from them to date, and they're continuing to work through. So it's possible, but I'd say, more likely than not that we'll complete on time in July.

Good to hear. And just more generally on sort of COVID-related impacts. I mean, do you see COVID changing the outlook at all for the U.K. life consolidation market?

Yes. So I think, I mean, if I stand back, as I say, we combine with ReAssure, we become the U.K.'s largest savings and retirement player. If I look at that market, for me, there are 3 major trends that I think we're well placed for all 3. So one is the insurers are consolidating. They want to release trapped capital, get away from inefficiencies, cost inefficiencies caused by legacy systems, regulatory change and so on. The second is defined benefit schemes are derisking. I often say I've yet to meet the Finance Director of a manufacturing business that's pleased to have a pension scheme attached. And the third is the strong growth in DC pensions. It seems to me, in a sort of tougher economic environment post-COVID, I can see a number of insurers wanting to accelerate their thinking around releasing trapped capital from legacy back books of business and being able to deploy that capital elsewhere. I mean, you're already seeing a number of players not paying dividends. Well, if they release trapped capital from back book businesses, maybe they'd be in a position to -- that wasn't the case. From a DB perspective, if you're the Finance Director of a manufacturing business, and many of the pension schemes are cash flow matched, they can still afford to buy out. And you've been thinking, I must get around to this buyout some time. I haven't quite got around to it. And you're busily trying to worry about socially distanced manufacturing and how you retail your product you manufacture given shops aren't open. And you then get an e-mail from your pension scheme actuary saying you need to worry about credit in your pension scheme. My god, are you going to wish you had offloaded this defined benefit pension scheme before. Yes. So I think, yes, given the markets in which we play and how we operate, I can see probably acceleration of some of those trends rather than otherwise. And then I think from, as far as the DC market is concerned, you probably will see a downward pressure on contributions to company pension schemes as unemployment rises. But equally, we generally see the savings ratio go up in a recession as people are a bit more conservative. So I think, in the round, I'd be broadly neutral. Obviously, with lower equity markets, ongoing annual management charges are going to be lower, but that's why we put the hedging in place. And hence, we're not susceptible to that. We would expect the cash generation to be unchanged. And hence, again, in our trading update, we recommitted to our target of GBP 800 million to GBP 900 million of cash generation this year.

So if I can move away from COVID, which I'm sure is a relief to everybody. You've just taken over as the new Chief Executive, congratulations. I know both today and previously, you've indicated that the strategy is basically unchanged. But where do you think Phoenix can actually do better?

Yes. So I mean, I like to think about the strategy in the context of being clear where you want to play. And for us, there's no change. But then being clear how you're going to compete and win. And ultimately, if you have superior capability over your competitors, then you will win. We're clearly the market leader in running heritage books. We have a machine that runs them well, delivers good outcomes for customers and generates reliable cash flow for shareholders and a machine that consistently year in, year out over the last decade, year in, year out, we've produced on average GBP 250 million of management actions. So that's kind of a big tick. We'll carry on doing all of that. Then we have M&A and integrating those businesses. I think, again, we're clearly the market leader there. There was a slide in our year-end results deck that showed what did we originally say the target for synergies was and what did we end up delivering in practice deal by deal. And in all cases, we significantly exceeded our original targets. And so a lot of people say, well, a lot of M&A doesn't work. Well, Phoenix has a strong track record, consistently over many years, of delivering real value for M&A. Probably the kind of the evolution there, I think, Oliver, would be that from the Standard Life deal and the ReAssure deal in due course, we're going to have lots of excess cash and capital generated. And a number of people have commented that, you're just going to have to do even bigger deals to move the needle now. I don't subscribe to that because I could have a very small team of people and post-ReAssure, we'll have 7,500 employees. I'll have a small team of people doing bolt-on M&A. And if you sort of think our kind of external cash requirement each year to pay the dividend, debt interest and group costs, is kind of circa GBP 700 million a year post the ReAssure deal. And if each year, I can do a bolt-on M&A for GBP 600 million to GBP 800 million that generates a couple of hundred million of synergies and I've got a small group of people doing that, like sort of falling off a log, but doing that from our own resources because historically, M&A, we've always raised equity as part of it. And I wouldn't rule that out going forward. I think it's an attractive part of our model. But I actually think using internal resources for bolt-on M&A is probably the area I'd want to evolve a bit there. And then to be honest, I think the main area for opportunity lies around the open business and BPA. So if I take BPA, first and foremost, in the last couple of years, we've invested roughly GBP 100 million of capital to write roughly GBP 1 billion of annuities. And last year, our new business strain was 9%, and that includes the capital management policies. So for a like-for-like basis, without that, it's more like 7%. But Aviva and L&G would quote a strain of typically 3% to 4%. The first thing I want to do on BPA is, we'll continue to take a selective and proportionate approach. Let's get to be equivalent to our peers in terms of the capital efficiency of writing BPA business. And we could still allocate roughly GBP 100 million a year, but write more like GBP 2 billion to GBP 3 billion a year of BPA. Even if we did that, BPA would still remain only circa 10% of our GBP 330 billion of assets or annuities would. So it wouldn't particularly shift the needle of the shape of the balance sheet overall, a significant upside in terms of cash generation. The second area is workplace pensions where the team are doing a great job there, as they have on BPA and building from nothing to where we are, just I want to continue to push that further, but on a selective and proportionate basis. On workplace, under sort of the previous ownership of that business, it was quite significantly underinvested in. The team have been doing a lot of work to invest in our proposition there, improve the strength of our proposition. And I think there's a real opportunity as a result to be driving stronger growth from that, the workplace business going forward. And then the third big opportunity is, as customers get to age 50-plus in the U.K., they wake up one day and say, I've got all these different pension parts in different places, help. And then they look for someone to help them think about consolidating and journeying to and through retirement. Post the ReAssure deal with GBP 300 billion of U.K. assets and 14 million U.K. customers, we have more of these customers than anyone else. And I think there's a real opportunity for us to be the first place that they turn to. So it is very much evolution, not revolution for me, but I think the opportunity to think about bolt-on M&A and then the opportunity to continue the good work that's been going on to really strengthen our open business franchise, all of which can lead to a place where, year-by-year, we are adding more cash than we are taking out. And hence, we can aspire in time to grow the dividend without doing sort of transformative M&A.

Gosh, thank you for that. You've preempted a couple of my questions. So I'm going to sort of again just follow-up then on some of the points you made there. The first, you talk about sort of smaller bolt-on M&A, GBP 600 million to GBP 800 million a year. I can't quite remember how big you say the entire U.K. M&A market is. And of that, how much is actually at that sort of smaller end?

Yes. So my GBP 600 million to GBP 800 million was at purchase price. We would say there is about GBP 400 billion of assets in kind of closed product lines within the U.K. market, and that's not to preclude necessarily open product lines either, but that's the closed product lines. And you do have a number of smaller books in there together with bigger books. But also, you could well find some of the players with bigger books don't want to offload all of it in one go, they want to offload parts of it over time. Yes. But the answer to your question is, it's GBP 400 billion of assets overall in this space.