Zurich Insurance Group AG (ZURN) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Zurich Insurance Group update for the 3 months ended March 31, 2023, Conference Call. I am Sandra, the Chorus Call operator. [Operator Instructions] The conference is being recorded. [Operator Instructions] The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Mr. Jon Hocking, Head of Investor Relations and Rating Agency Management. Please go ahead, sir.

Thank you, Sandra. Good afternoon, everybody, and welcome to Zurich Insurance Group's First Quarter Results Q&A Call. On the call today is our group CFO, George Quinn. Before I hand over to George for the usual introductory remarks, just a reminder for Q&A, if you could keep to 2 questions each, that would be much appreciated. George?

Thanks, Jon, and good afternoon, everyone. Before we move to the Q&A, I just want to make a few introductory remarks. We've had a strong start to the year. The first quarter result is strong and the forecast puts us on a good track to deliver against our Investor Day commitments. If I start from the underlying IFRS 17 result for 2022 of USD 6.4 billion, I would expect to see growth well above the 8% target commitment we've made for over the cycle. And in fact, we currently expect earnings growth in 2023 is not far away from double the target rate. But this, of course, is subject to the usual caveats on claims and financial markets. But it also assumes some caution about how quickly we recognize the benefit of the improved rate trends that we're seeing. In P&C, we continue to see margin expansion in commercial with rate increases of 6% in the quarter; North America continued to be particularly strong with rate increases of 8%, driving double-digit growth in premiums; and property is an area of particular strength with rates accelerating from the fourth quarter. It's important to note that this is a pure price effect and excludes indexation and other contractual features that are designed to compensate for increases in insured value. Interest rates are also a strong positive in the quarter. I'm also pleased that during the quarter, we were able to renew our U.S. CAT [indiscernible] with a lower attachment point than previously $600 million versus $650 million before. And I think it speaks to the progress that we continue to make on managing CAT exposure as well as concentration overall. We remain focused on disciplined portfolio construction, carefully balancing exposures while looking to limit volatility in our results wherever possible. In our retail P&C business, we expect the results to improve over the course of the year as earned rate starts to exceed loss cost trends. In Q1, we saw rate increases of 4% for retail, over 5% for retail motor, and in selected parts of the book, we've achieved significantly more rates than this. While interest rates create a positive effect in P&C, they create headwinds for our Life business. And we would expect 2023 earnings to be similar to the underlying earnings under IFRS 17 in 2022. Following last week's announcement on Chile, today, we've announced an additional back book transaction in our Life business with the reinsurance of the in-force individual life portfolio at Farmers New World Life. This is the fourth back book deal that we've announced in the last 18 months. The earnings effects of these deals are offset by the buyback that we expect to complete shortly. As a result of this, we'll have a Life business with less volatility in earnings, much less volatility in capital and substantially less financial market exposure, all without any significant reduction in per share earnings. Our Life business is a powerful earnings and cash contributor for the group and is well positioned to generate profitable growth in the future. The Farmers Exchanges have continued to make good progress in improving underwriting outcomes with significant rate increases being achieved across much of the portfolio. The driver of the Q1 volume reduction, which is a change to one of the transportation network company contracts, attracts a much lower fee than the regular business written by the Exchanges. And the underlying developments of the Exchanges have and will continue to drive fee growth. We expect the positive rate environment for the Farmers Exchanges to continue throughout 2023 and well into 2024. And we're confident that Farmers will achieve the goals set out at last year's Investor Day. You have also, no doubt, noticed that we provided a significant amount of detail on our IFRS 17 results for 2022 and the IR team will be available to support you as you rebuild models over the coming weeks. With that, I'd be happy to take your questions.

[Operator Instructions] The first question comes from Andrew Sinclair from Bank of America.

Thanks as well for the IFRS 17 details. Very helpful. Two for me. First, on commercial lines, it looks like margins still expanding overall. Can you just tell us a little bit more about what lines you're now happy to push hardest for growth with margins in good places? And where does pricing still really need to ramp up for you to be happy and to push more for growth? And just within that, you flagged crop this morning as suffering from lower commodity prices. Can you just elaborate a little bit more on that? And then second question was just on the Farmers' quota share performance in the quarter. It's been a tougher quarter for U.S. personal lines in particular. Just really can you tell us anything about how the reinsurance agreements performed in Q1 and expectations for the rest of the year?

Yes. Thanks, Andy. So in the commercial market in the U.S., I mean, the standard line of business, as I kind of highlighted in the early part of the commentary, is property. So -- I mean, if you look at where we're focusing for growth, that would certainly be a key area. We need to be a wee bit careful because, of course, we're trying to make sure that we don't pick up a lot of CAT exposure in the process. So there are some limitations to how far we're prepared to push property growth. If you look at other lines of business, I mean, the only 2 that are really suffering from a rate perspective, I mean, Workers' Comp has the same profile that it had before. Returns are still quite attractive, but it's a slightly negative rate environment for Workers' Comp. And then financial lines, which is not a very large part of our portfolio, I mean, had a really significant runout, partly driven by D&O, partly driven by what you've seen around cyber. And you've seen that become negative in the second half of last year, and that continues into the early part of this year. But again, it's not a major part of our portfolio overall. So I mean, generally, with that exception, we'd be happy to push for growth in most of the other lines of business. Channel makes a big difference. If you look at the pricing condition and the different customer segments, middle market shows a stronger trend than large currently. So I think given the strategic emphasis we've given middle market anyway, it's a good backdrop for us to continue to push for more growth there. On crop, I mean, the -- I mean, I think as you know, the crop premium is established by a combination of price levels and volatility in the relevant commodity markets in February. I mean, price levels are not very different. Volatility levels are very different. I would expect to see gross written premium on crop come down by about $400 million over the course of the year, given the much lower volatility. I don't expect it to impact profitability though. So we would still look for something in that kind of 94 range, which has been consistent with what you've seen from us previously. On the Farmers' quota share, the -- so obviously, the Exchanges you've seen from the surplus number and you've seen from the market, in general, it's still quite a difficult environment for retail, in particular retail auto in the U.S. There's quite a lot of rate running through. So we expect to see that improve. But you had the added feature that in Q1, the CAT experience for the entire U.S. market is quite heavy. So there's no individually significant identifiable event, but you've got a series of small- to medium-sized events that impact the U.S. overall. The quota share has caps and limits around that issue. So the quota share in terms of what's ceded to us, I mean, isn't significantly impacted by that so far. So the performance of the quota share from a Zurich perspective is okay. Maybe one additional comment, given I've highlighted nat cat. So in the U.S. is a bit heavy. Overall, the quarter is kind of close to normal from a nat cat perspective.

The next question comes from Michael Huttner from Berenberg.

Thank you for the help in terms of thinking about the earnings. I'm afraid I did have a funny moment when I saw the -- all the moving parts. Anyway, onerous contracts. I thought onerous contracts had been dealt with before, and they're here again. And I'm just wondering how long we'll see onerous contracts coming through. And why -- what's happening to drive it? This would be my first question. And then the second question is on the Life. So you're -- really helpful you've put in all these comments about Life book for 2023, and you say, well, better than 10% guidance relative to 2022. But I'm not sure what the right number is to start '22 because the business mix has changed, you've got 2 different accounts, you've got one-offs. Any guidance and any color would be really helpful. And that's just 2 questions.

Thank you, Michael. So on the onerous contract topic, I -- so I'm going to assume you're referring to 2022 and the fact that it shows up as part of this explanation for why the underlying is different. I think the way to think of this is that as we went through the course of last year, I mean, from quarter-to-quarter, but we got a bit smarter about how IFRS 17 operates. So we made some changes to how we calibrate a number of things. The onerous contracts is one. We also made some changes to risk adjustment in some of the portfolios that we could see had higher volatility. And all of that was designed to give us a higher confidence that we could deliver stable -- more stable earnings with the high ROE that people expect from us. So what you're really looking at last year is in an ideal world where I had unlimited time and resources, I would have gone back and reopened the transaction, and it would not have been visible at all. And in the end, we just couldn't do that. And I guess at the start of the year, we just didn't have enough feel for how the system works. But by the end of it, we did. In 2023, I don't expect to see that. The -- and in fact, I mean, given interest rate move so far, onerous contracts, probably a slight positive overall, but it's going to be quite small in terms of an impact so far. But really, what we're trying to do last year was get the transition in the right place without going back and having to reopen Q1, Q2, Q3, Q4. So apologies for that, but the -- it was the pragmatic answer under the circumstances. On the Life topic, the -- in the deck today, so you can see the underlying number, the $1.48 billion -- sorry, not the underlying the headline number, the $1.48 billion. We've highlighted the impact of what just described these transition-related elements. You've got a number that's just in excess of $1.8 billion. And as I said in the introductory remarks, given interest rate headwinds for Life this year, I would expect earnings to be fairly flat versus the underlying number for 2022. Hopefully, that's clear.

Next question comes from Peter Eliot from Kepler Cheuvreux.

The first one, I think I'm right that you're losing some earnings from the reinsurance deal. But I think you sort of decided no additional buyback is needed because the lost earnings from Germany are a bit lower under IFRS 17. I apologize if I got that wrong, but just playing devil's advocate. I'm just thinking should one not be looking economically at it? And -- I mean the accounting change wasn't going to affect strategy or dividend. So I'm just a bit confused on why it should affect buybacks. So yes, just wondering if you could square my thinking there, it would be great. Second question. I am sure there are far better ones than this actually that others will no doubt ask, but just going to be strategic and use my second one to ask your view on discounting. A couple of your peers have given us a useful rule of thumb for calculating the discount impact on the combined ratio. They've said use net claims incurred x percent unpaid x duration. And I guess, if you agree with that approach, I'm just wondering whether you can guide us on what duration and percent claims unpaid we should use for discounting yours? And would you expect that to vary by H1 and H2.

Yes. Thanks, Peter. So I think on the first question, I mean, certainly, with all the resources that we've got available to us, we look at all the options the company has. So, we try and think very economically about what the best use of the flexibility that we have is going to be. I mean, I think the -- when we did the Germany transaction, I was clear that the reason that we announced the buyback around that was because we were going to see an earnings impact. And I didn't really want to have a conversation with people around your payout ratio has gone up. Is it a source of concern? Well, no, it's not. We've got the same flexibility. And I mean, given the various options, it seemed just cleaner and tidier to deal with the earnings dilution through buyback. I mean, with the deal we've announced today and the one the last week, I mean, looking at the entirety of all the impacts, we don't have any significant earnings dilution, including the current buyback. And the way I would think about this for now, if you think back to the Investor Day that we had last November, I mean, we set out an ROE ambition for the group over 20%, and that's the figure we're committed to. We also highlighted the fact that we think it's possible for us to go beyond that. And I think part of what we've announced today and part of the flexibility that the reinsurance transaction gives us is a foundation to maybe realize some of that additional benefit. So we're going to look at that first. We don't rule out anything that's economically in the interest of the people that own the company. But obviously, if we can expand earnings more rapidly, if we can improve the characteristics of return including increasing it, I think economically in the long run, that has higher value. We need to see if it's possible but that's what we are set off on try and do. On the discounting topic, you're going to need to let us come back to you. I couldn't even write down your formula as quickly as you were speaking. I think the -- I mean, I don't think the discounting part of it is going to be that challenging. I mean the duration of our book is relatively well known. Interest rates rising makes it slightly lower, but we're still around that kind of 4-year mark. We can take a look and try and help you with the claims topic. I mean, there is a slightly different discounting effect given we've got, for obvious reasons, more property in the second half of the year. I think the more challenging thing to get is the unwind because, of course, that's the accumulation of quite a lot of stuff. And we've tried to give some guidance today to help people with a starting -- well, you guys build models and get more familiar with it. But let us come back to you more precisely on the discounting topic. But I think -- that for me is one of the easier part of the equation.

The next question comes from Andrew Ritchie from Autonomous.

I wonder if you could just update us on what's going on at Farmers vis-à-vis managing the tough environment. Maybe some information. I mean, I think the shrinkage of premium you put down to rideshare business, but is there anything going on in terms of cutting the underlying book despite rate? I guess what I'm driving at is the surplus position declined again in Q1. I'm guessing that's mostly due to high CAT losses, and I'm not sure if that was the case or not, but do you think -- do you see a line of sight to where the surplus position can stabilize this year just from an earnings point of view? Linked to that, just remind me, does Farmers have any significant CAT [ XL ] renewals this year? Or if that is all staggered, I think it might be next year? Because, obviously, we're coming into that season. But just overall, I mean, some sense of update on the management, particularly the surplus [indiscernible] would be useful? Second question, just a very quick clarification. On the back book deals, I'm assuming Chile has an SST impact both in points, but also volatility because [indiscernible] had some volatility and Farmers would like -- doesn't have an SST impact is purely a monetization exercise. Can you just clarify that?

Yes. Thanks, Andrew. So on the first one, so just to reiterate, the reduction that we've seen today is more than entirely explained by the impact of the restructuring of this transportation network company contract. And in fact, if you're prepared to allow for that, they actually have an underlying increase roughly in the mid-single-digit range. If you compare that to the rate achieved in the first quarter, they are maybe a couple of tenths behind in terms of growth. So they aren't cutting the book. But I mean, currently, it's not quite as dramatic as the headline number you've seen here on the GWP would suggest. There's still much more to do. I expect that trend to continue. We've talked before at the end of last year that, I mean, we expect to see the exchange achieve significant rate. So we still think there's quite a lot of room for the exchange to do whatever it believes is necessary from a pricing perspective and still deliver growth, although not quite as much as you would expect from a headline rate perspective. I think the other positive thing on rate, I mean, it's public. So you can see that farmers has now received approval for rates in one of its most important markets. That will become effective in the middle of the year. And it has, in fact, made a subsequent filing for rate in the same market. And again, that's a document on public record. So you can see -- look at the past that Farmers hopes to be on subject to regulatory approval. On the surplus topic, so -- I mean, absolutely, you're right. I mean, the first quarter is challenging from a CAT perspective. So that's obviously a fairly significant offset to the improvement we start to see on an underlying basis. But I mean, the claims are the claims in the end, I think it's just something that keeps pressure on the team to make sure that they do what's necessary to look after the Exchanges interest, and we expect to see that continue through the course of the year. But I'm still an optimist around the business. I think you will start to see the improvements, first of all, from an ex CAT, hopefully then from an all-in combined ratio that will give us confidence that the Exchanges can see the surplus move in the right direction. But that's going to be a later this year topic. I don't expect that to happen in the first half. On CAT [ XL ] the Exchanges do have renewals coming up, but it's distributed. So they renew about 1/3 of the program every year rather than 1 single given year. And your back book summary is more or less perfect.

Can you clarify what the impact of Chile actually is?

I mean, it's small. So we haven't given the number today, but I mean, the driver for Chile is an annuity book. And -- I mean, you're all very familiar with our stance on annuity products. So there's a small SST benefit and the driver for the Farmers transaction, and again, this is something that I know you're very familiar with. The change in accounting brings the post-level TAM into the profit profile of the business. The post-level TAM has been a somewhat unpredictable element of MCEV earnings over the years. And if you go back a few years, you can see quite some volatility from revisions to post-level term. So while I think the IFRS 17 central expectation might be completely reasonable given that this is an area where perhaps others have got more data and maybe superior insights. This was just one of these opportunities to monetize something that it could be a source of significant volatility in the future, especially the further that we get away from the transition point. So that was more of a, as you say, value realization.

The next question comes from William Hawkins from KBW.

George, I'm having a lot of fun with your new financial supplements. So big thanks to your accounting colleagues for all their hard work. From that, can I come back to the discounting question and maybe phrase it in a different, hopefully, simpler way? What do you think is going to be the benefit of discounting in 2023 based on what we know so far? So I'm looking at second half last year in your fin supplements, it was 3.8 percentage points and I presume it's going to be a little bit higher just as we roll into this year. But can you clarify that? And then for the unwind, thank you very much for that guidance of $900 million for 2023. How do we think about that for future years, assuming interest rates don't change? Because obviously, last year, it was $400 million. So it's a massive increase in dollars and percentages. And I haven't really got clear in my mind do I double it again for 2024, do I just add $500 million or some other number? It's clearly still going up, but I'm not really sensitive to how it moves. And then secondly, I mean, if you could be bold enough, last year's clean claims ratio, by which I mean the claims ratio of 67% excluding CATs, discounts and PYD, was about 68%. How do we think about the outlook for that number? Is it going up or is it going down? Because in my mind, I'm trying to balance rate increases, business mix and whether there were any funnies last year. And related to that, in particular, you made that comment in the press release about being cautious about recognizing the full benefit of rate increases. I don't know if that's sort of a repetition of the fact that Zurich is always cautious or whether you're trying to tell us something specific in that statement?

Just tell me with my math, was that 2 questions?

Definitely. First one was on discounting, second one was on outlook at claims ratio.

Okay. All right. So I'm glad you have got a lot of fun with the document. I mean, the team has put a lot of effort into that. I mean, I've got a lot of sympathy for you guys. You've got a lot of work to do to try and rebuild something that makes sense. I think as you know, we've planned an event in about 2 weeks where Jon and I will spend a couple of hours with you guys and get into some of this in a bit more depth. But I mean, obviously, anything we can do to support all of you as you go through the transition is not just important to you, it's important to us. . From a discounting perspective, so I'm going to -- in my introductory remarks, I went much further than I would normally go on introductory remarks, given some of the uncertainties that exist with the accounting change. I'm going to resist the temptation to become very specific around various components. I think the -- on the discounting effects, I mean, your read is right, obviously. So I mean, given the interest rates have generally risen compared to where we were in the second half of last year. I mean, it may have come down a bit in the course of the first quarter, but that's not going to change the overall direction versus last year. You would expect to see a larger impact. But I think we need to talk about that in a modeling concept rather than me give you a number. On unwind, same dynamics. So I don't think I would double it. That would give you a number that I think would be completely wrong. But of course, there's a relationship between these 2 things. So there's a dynamic around discounting that's then reflected in the unwind. I think -- I mean, Peter's comments earlier about discount is not a bad way to think of it. I haven't tried to do that calculation for us to see if that's what that produces the answer that we expect. We'll take a look at that and see if it makes sense. On unwind, I think we need to spend some time together where we can explain the dynamics that we see from an unwind perspective that I hope helps you build your model. So today, we just try to start with a starting point for everyone to avoid too much diversity in practice. And then the clean claims ratio. So I mean, bold or not bold, I'm not going to give you a claims ratio number predicted for the end of the year. I mean, what I will say is that -- I mean, you would expect the comments that we've made in the press release and have made in the introduction to be consistent with an improvement in the overall profitability of our P&C business before we talk about interest rates. Now the last comment that you made is quite important in that context. So certainly, as we put together Q1 -- I mean, we're conscious of the fact that interest rates for all of the P&C players introduces a potential source of volatility or a greater source of volatility compared to what we've seen in the past. And we want to make sure that we don't exacerbate that volatility unnecessarily. So we've been relatively cautious about what we've recognized and the number that we haven't shown you. So it was intended to be specific rather than a general statement about Zurich. But I mean -- but despite that, I mean, we have a very, very strong first quarter. I mean you might expect that given interest rates and the market movements in P&C. But over the course of the year, current trends continue, I don't mean increase, but just continue, you would expect to see an improvement.

The next question comes from Vinit Malhotra from Mediobanca.

I hope you can hear me clearly.

Yes, I can hear you.

So George, my first one is on the Life, the new business CSM. I mean it's now 11% down, but even in previous periods, we've heard this remark about how the changing -- how the new business being sold is not optimal or not ideal or not what you want. But otherwise, we keep hearing about how it is ideal, it is protection-based. It is -- so I'm just curious, is there something that we should know or discuss more about the Life business and why -- what we could change to trend -- change this trend really? Second is the rate outlook and thank you -- or the rate commentary that you provided in the introduction, which was very encouraging for U.S., but also EMEA, for example, the trend that Zurich quantifies was -- I think it was called increasing and now it's stable in between 4Q and 1Q in EMEA. Is it more the U.K.? Is there something to note there? And last one, not a question, but just -- I was kind of hoping that with IFRS 17, we would go back to 1Q to 3Q as well. But you clearly have chosen not to do that and I'm curious if there was a discussion around that.