The Allstate Corporation (ALL) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by and welcome to the Allstate's acquisition of National Holdings Corporation. [Operator Instructions] I'd now like to introduce your host for today's program, Mr. Mark Nogal. Please go ahead, sir.

Thank you, Jonathan. Yesterday, following the close of the market, we issued a press announcing Allstate's pending acquisition of National General Holdings Corporation. After prepared remarks by our Chair, President and CEO, Tom Wilson; our Chief Financial Officer, Mario Rizzo; and President of Personal Property Liability, Glenn Shapiro, we'll have a question-and-answer session. The call will last 30 minutes so we are finished before the market opens. We will not be covering current operating results, so please hold those questions for the second quarter earnings call. We have posted a slide presentation for use in today's discussion that can be found on our website at allstateinvestors.com. As noted on the first slide, our discussion today may contain forward-looking statements about Allstate's operations. Allstate's results may differ materially from these statements. So please refer to our 10-K for 2019, the slides and our most recent news release for information on potential risks. And now, I'll turn it over to Tom.

Good morning, and thank you for joining us on short notice. Why don't we on Slide 2. So we're -- Allstate's expanding our first lines market share position through the acquisition of National General for $4 billion or $34.5 per share. The acquisition's attractive for many reasons. First, it's consistent with our strategy, which is to increase market share in personal property liability, with our share increasing to 10%. And as you know, we distribute through Allstate agents directly to customers and then through independent agents today. We'll essentially be doing a reverse merger of our independent agent businesses into National General, which has a good technology platform, agency interfaces and a management team that has substantial experience in acquisitions. By combining our independent agent businesses into the National General platform will lower costs, have better technology and a stronger operating platform. It will create a top 5 personal lines insurance carrier serving independent agents. It also gives us a strong presence in a higher risk of what we all call nonstandard auto insurance. Allstate's expertise will give us an opportunity to further leverage National General's independent agent relationships by broadening the product offering to include standard auto and home insurance. And financially, this will be accretive to adjusted net income, our earnings per share and return on equity in the first year. The transaction has no impact on Allstate's existing share repurchase program. For those of you not familiar with American General (sic) [National General], primarily provides property, liability and accident and health products through independent agents. Total premiums written were $5.6 billion and had net income of $314 million last year. They underwrite a wide range of popular liability products of which auto insurance is the $3.3 billion, most of which is nonstandard risk. The accident and health business has 2 components: group stop loss protection for small businesses, and then individual short-term health policies. National General's also the second largest lender-placed business provider in the United States that's selling homeowners insurance, large [ acres ] to financial institutions. The management team's been together for about a decade, and they've completed 18 acquisitions successfully during that time. Let's start by going through the terms of the acquisition, and then we'll go through the strategic and operating logic. But if you start with Slide 3, Allstate will acquire 100% National General Holdings in an all-cash transaction. The acquisition price of $4 billion [ we ] paid of in $32 per share in cash at closing, and a special dividend prior to close of up to $2.50 a share of which $1 is contingent on 2020 earnings. That represents a multiple of 11.9x last 12 months' earnings and 1.78x book value. It is a 64% premium to the common share weighted average over the last 30 days. Now the acquisition, we funded with $2.2 billion of combined cash resources at Allstate and National General and $1.5 billion of new Allstate senior debt. The debt issuance will have a minimal impact on Allstate's leverage ratios. The National General's Board has approved the transaction. There's a breakup fee of $132 million. The transaction is, of course, subject to National General shareholder approval and regulatory approval. We have a voting agreement with entities that control about 40% of the National General shares to support the transaction. And we expect the deal to close in the first quarter of 2021. Let's move to Slide 4. We'll start with Allstate's strategy, then we'll walk into what this does to independent agents. So our strategy, as you know, is to increase property liability market share and expand protection offerings as shown by the 2 ovals on this slide. And as you know, a key initiative in that upper oval is our transformative growth initiative. And that strategy has 3 components: Increased customer access, include a value proposition and invest in marketing and technology. So we're expanding the direct sales of the Allstate-branded auto insurance using Esurance capabilities. The direct pricing will be lower than through the Allstate agent, reflecting a lower cost structure [ in ] the absence of advice and local support. We will sunset the Esurance brand and shift that advertising to the Allstate brand. So we're making really good progress on that. We've combined the operations. Glenn's team is working hard on it. And we're also working hard on reducing our costs, which will improve the customer value proposition. We also have 2 independent agent-focused businesses in the upper oval, Encompass and Allstate Independent Agents and we'll talk a little bit more about those in a minute. This transaction accelerates our strategy to grow those businesses and creates a top 5 personal lines insurance carrier in the independent agent channel. It also expands our presence in the nonstandard auto insurance and offers the opportunity to sell standard auto and homeowners insurance to more independent agents. National General's platform are also lower cost, improve technology and bring in experienced management team onto the Allstate team. Now let me turn it over to Mario, who'll provide an overview into the IA market, our businesses and National General in more detail. Glenn will then discuss how the combined organization makes a stronger competitor. Mario will come back and give you a view as to what it does financially, and then we'll open up for your questions.

Thanks, Tom. National General primarily distributes personalized insurance through independent agents, which is a large source of industry premiums, as you can see on Slide 5. The personal lines insurance market consists of companies leveraging 1 or more of a combination of 3 primary distribution channels, including direct-to-consumer, exclusive agency and independent agency distribution. The independent agency channel is approximately $125 billion of total premiums or 35% of the total market as of year-end 2019. The growth in this channel has been in line with the overall industry and remains highly fragmented as only 4 insurers have more than 5% market share. We think this provides a significant growth opportunity. Leading companies in this channel compete through ease of use with simple technology platforms, sophisticated and stable pricing, a broad product offering, geographic diversification and broad distribution. If you turn to Slide 6, you can see that Allstate currently competes in this channel with 2 businesses: Encompass and Allstate Independent Agents. Encompass is a separate market-facing business that focuses on packaged auto and homeowners insurance with IA distribution largely in the Eastern U.S. Allstate independent agents are utilized to sell Allstate-branded products in geographies not well suited to Allstate exclusive agents, such as small rural communities. Allstate writes about $1.7 billion of insurance through IAs, as you can see on the bottom of the slide, which represents less than a 1.5% market share. Premium growth has been flat to declining as we have focused on profitability and returns have increased. Now let's focus on National General's strength and capabilities, starting on Slide 7. National General wrote $5.6 billion in gross premium and had $5.2 billion in total revenue in 2019 from a broad product suite, including personal lines, auto and home, motorcycle, recreational vehicle, accident and health and lender-placed insurance, as you can see on the upper left. Auto insurance represents approximately 60% of total premiums, with a significant presence in the nonstandard auto market, primarily sold through more than 42,000 independent agencies. Accident and health insurance is focused on group stop loss coverage for small companies and individual products offered through a network of more than 46,000 independent agents, own distribution entities, wholesalers and employers. National General is also the second largest lender-placed insurance provider in the United States. This collection of broad-based products generates attractive margins with $314 million of net income and an overall return on equity above 16% in 2019. Slide 8 dives deeper into the property and casualty business. National General writes roughly $4.4 billion in property and casualty premium. This includes a $3.3 billion auto book and $1.1 billion homeowner book. The auto product processes are tailored to profitably grow in the higher risk nonstandard auto market, including advanced pricing, underwriting and fee revenues to balance margin and growth. 75% of the auto premiums are nonstandard, and their expertise in this business expands the market breadth of Allstate and Encompass who have historically focused on standard auto insurance risks. National General's homeowners insurance business focuses on standard policies and packaged policies for high net worth customers and is diversified across geographies in the U.S. They're fully integrated, simple and scalable technology platforms lowers costs, improves profitability, and enables National General to efficiently integrate acquisitions. This has led to a property and casualty business that has a consistent track record of profitable growth, as you can see in the chart on the lower right portion of this slide. Slide 9 focuses on National General's broader portfolio of well-run businesses. The accident and health business has shown significant growth over time and primarily operates in 2 segments: small group stop loss protection and individual products. The small group business targets and serves customers similar to Allstate benefits. These products are sold through independent agencies and direct, representing approximately 5% of total National General premiums and generating favorable margins of approximately 30% over the last 3 years. The individual products consist of short-term medical insurance largely sold to individuals in between employment and supplemental coverage for individual risks, such as accident, AD&D or critical illness plans. Individual products represent approximately 6% of total National General premiums and generated favorable margins of over 16% over the past 3 years. The lender-placed insurance platform was acquired in 2015 and generates approximately $350 million of premium annually, representing the second largest platform in the U.S. The industry-leading technology, full suite of product breadth and comprehensive risk management capabilities creates a competitive advantage to serve clients of all sizes. This business also has good risk-adjusted return margins. And now I'll pass it over to Glenn to discuss the combined strengths of Allstate's independent agency offering and National General.

Thanks, Mario. Let's turn to Slide 10. National General will become our Allstate's Independent Agent platform and will significantly improve our competitive position in the IA channel. First, the acquisition generates cost synergies while building a platform to drive profitable growth. Encompass business will be merged into National General, leveraging their experience and skill in seamlessly integrating acquisitions, and the National General executive team will lead that integration. Our Allstate independent agent relationships will transition over time to leverage new products launched through National General with minimal disruption to customers and agencies. We'll achieve significant expense savings from scaling operations, and that'll begin in Year 1. The acquisition creates a top 5 independent agent carrier when combining National General with our Encompass and Allstate independent agency presence, as you can see on the bottom left. We'll be able to provide a strong national alternative to other major companies serving the IAs. We'll expand distribution access significantly with more than 42,000 National General locations, combined with over 10,000 Encompass and Allstate IAs. We'll also benefit from process consolidation, including management of the investment portfolio and improved combined economic capital requirements. On the lower right, you can see that the total personal lines premiums are increased to over $36 billion, and the percentage of premiums coming from IAs doubles to 15%. Moving to Slide 11. The combination of these 3 businesses creates a much stronger IA business for Allstate by providing value for customers and independent agents. This slide illustrates how combining the organizations provides value across 4 dimensions: product, distribution, technology and analytics. From a product standpoint, the combined organization will have industry-leading breadth and capabilities. In auto, for example, National General's deep nonstandard auto knowledge and breadth, when combined with Allstate's expertise in scale in standard auto will provide the full suite of products for customers and agents. From a distribution standpoint, we'll have broad coverage of the independent agent market with existing appointments of National General and Encompass, along with the national account and alternative distribution partners that both companies work with. National General has an excellent agency-facing technology that will be used across the combined entity. Their policy and claims platform are scalable, which will allow us to retire the Encompass technology platform and Allstate's broad technology capabilities to help keep that platform contemporary. Lastly, the combined organization will have leading data and analytics capabilities. With the strength we create by combining the product, the distribution, the technology and the data, this new collective organization is going to be much greater than the sum of its parts. So with that, I'll turn it back to Mario to discuss the financial impacts of the acquisition.

Thanks, Glenn. Let's turn to Slide 12, that's going to provide further insights on the compelling valuation and efficient financing of the acquisition. The acquisition price of $34.5 represents a 64% premium to the volume-weighted average stock price over the last 30 days. The earnings multiple is 11.9x the last 12 months' earnings, and the book value multiple is 1.78x, which reflects National General's meaningful earnings and low relative trading multiples. Slide 13 provides further insights on the impact on Allstate's overall financial results. We expect high single-digit earnings accretion in the first year post close. Adjusted net income return on equity is expected to increase by about 100 basis points. These impacts anticipate cost synergies but do not include the incremental revenue growth opportunity that exists through the combined companies. We are primarily using deployable capital and senior debt issuance to fund the acquisition, and there will be no impact on our current $3 billion share repurchase program, which we expect to be completed by the end of 2021. The expected outcomes of the acquisition from a financial standpoint are comparable to an increased share repurchase program. However, it also enhances our long-term growth potential by creating a scaled presence in the large and growing independent agent channel. With that context, let's open up the line for your questions.

[Operator Instructions] Our first question comes from the line Greg Peters.

I guess what -- I'd like to start off with just the level of integration that already exists between Allstate and Encompass. And what I'm thinking about is the use of analytics, claims capabilities across the entire footprint. And you talked about the capabilities of the business you're acquiring and how that might look going forward.

Let me start, Greg, and then Glenn might want to jump in as well. So first, Encompass is a separate technology stack. So it's got its own product management platform. It's got its own agency relationship management system, billing system. So it's -- it has its own claim system. So it's a complete separate technology set. As you pointed out, we obviously leverage our expertise in price increases to help drive that business and that's why it's profitable. That said, the technology stack is a barrier to both flexibility and improved profitability. And so by having -- using the National General platform to basically acquire Encompass, we put ourselves in a much better position to grow independent agent business. Glenn, is there anything you'd like to add to that?

Yes. The only thing I would add is that it really -- this accelerates the strategy of integrating the IA channel for us because the alternative was to do more integration of the AIA and Encompass business, which was sort of on the plate for us to do, but we were minimally integrated at this point. So this really accelerates that and allowing us to do it as more of a reverse integration.

Great. I'm going to -- as my follow-up question, I'm going to assume that the integrated services platform relates primarily just to the Allstate brand operations and you don't anticipate using that for the IA channel. And then coupling that, just curious about the difference between the standard or preferred customer of Encompass versus the nonstandard customer of National General. It seems like there could be some differences in how you handle your customer experience there.

Greg, this is Tom. Let me take those in pieces. Let me start with the second one. So on the customer experience, well, National General sales package policies today, they bought the old Tower book. And so they know how to handle package policies business and nonstandard businesses, protocols, obviously, in terms of claims and payments and everything else. So they all -- they know how to do that. We know how to do that. We can treat customers according to the policy they bought to serve what you agreed to provide. So we try to do a good job for everybody. I don't want to imply that just because they're a packaged policy, you get better service. If you're a higher-risk driver, you're going to get great service from us. We give good service. That is not faint at all. What was -- the first part of your question was -- help me -- give me a little more where you're trying to go there.

Related to the integrated services platform, I know that's an initiative that's rolling out across the Allstate brand. I just don't think that is applicable for the IA channel but just wanted to confirm that.

Yes. Well, integrated service, obviously, it's to try to reduce our cost structure. As we talked about, and you know well, to reduce our cost structure in the Allstate channel, to make the service work substantially cheaper and eventually just done away with by changing the policy and increasing self-service. And Glenn is pretty far along in that. We're signing up agents as we go to do that. Right now, it's not a part of what we might do for agents. But I would say that Encompass has done that for agents for a while for a certain percentage of commission, they'll do the service for you. So I don't know what there will be in the in the future. We'll do whatever the agents want. Our goal is to increase the share with independent agents. This means we need to adapt to their business model.

Our next question comes from the line of Michael Phillips.

Tom, just curious, I guess, on your comments on this. It's obviously no secret that the exclusive distribution channel has lost share over the years. I think you guys have done a lot of work recently to kind of combat that through -- you're expanding existing product offerings through your recent strategic growth initiatives, rebranding and what you're doing with insurance and phasing that out. But I guess -- so is this -- should we think of this acquisition as really a kind of a commitment to the Nat Gen nonstandard auto book? Or is it maybe another way to kind of gain another foothold in the IA channel and maybe expand past what Encompass could have ever done to help alleviate those market share struggles from the exclusive distribution system?

Mike, I'd say it's the second one first and the first one, second. So this is really our opportunity to build a really strong competitor in the independent agent channel. We've always had, as Mario and Glenn talked about, 2 efforts there. Billing [ certain ] premiums is not small. I mean relative to the rest of the world it's pretty big. But if you look at the other competitors in that space, we were not -- we did not have as good a business as we felt was reflective of Allstate's insurance capabilities. So first and foremost, this puts us squarely in the front with good technology for our product portfolio. Now putting us -- they're nonstandard product line is, of course, something that some agents struggle to place that kind of business. So you get a special place on their list. And we think we can use that special place to expand into standard auto and home insurance. And here, one of our competitors has been expanding more aggressively in home insurance and independent agent channel, and we think we can take a run right at that. As it relates to nonstandard, we can -- we also used to be a giant writer. We used to write as much nonstandard on a weekly basis as we did standard auto. And then we exited that business in the early 2000s. And we do a fair amount of it to Esurance on a direct basis today. So we know the product. But our technology systems aren't as good on the way you have to the structure the fees and everything else in the Allstate brand. So we may be able to use the National General technology to sell more nonstandard through the Allstate agency as well. We've done some of that in the past. About 2 or 3 years ago, we started using them with our Advantage platform to broker some business for Allstate agents and it worked. So we think there is the opportunity to expand our risk profile as well. That is primarily the second reason. This is us making a strong run at the IA channel.

I guess second question on Nat Gen, just their specific auto, you talked about the margins overall for the company, but their auto margins are a little bit different. And I guess, do you think their current margins on the nonstandard book are where you'd like to be? Any kind of improvement on that specific book and how you think about maybe improving the margins in the nonstandard book as they currently are.

Glenn, do you want to take that question?