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Principal Financial Group, Inc. (NYSE:PFG)

2013 Outlook Conference Call

November 27, 2012 4:30 pm ET

Executives

John Egan - Vice President of Investor Relations

Larry Donald Zimpleman - Chairman, Chief Executive Officer, President, Chairman of Executive Committee, Chairman of Principal Life, Chief Executive Officer of the Principal Life and President of Principal Life

Terrance J. Lillis - Chief Financial Officer, Chief Accounting Officer and Senior Vice President

Daniel J. Houston - President of Retirement, Insurance & Financial Services

Analysts

Sean Dargan - Macquarie Research

John M. Nadel - Sterne Agee & Leach Inc., Research Division

Steven D. Schwartz - Raymond James & Associates, Inc., Research Division

A. Mark Finkelstein - Evercore Partners Inc., Research Division

Eric N. Berg - RBC Capital Markets, LLC, Research Division

Thomas G. Gallagher - Crédit Suisse AG, Research Division

Operator

Good afternoon, and welcome to the Principal Financial Group's 2013 Outlook Conference Call. There will be a question-and-answer period after the speakers have completed their prepared remarks. [Operator Instructions]

I would now like to turn the conference over to John Egan, Vice President of Investor Relations.

John Egan

Thank you, and good afternoon. Welcome to the Principal Financial Group's 2013 Outlook Conference Call. Today, we issued a press release detailing our outlook for the key drivers of our business for 2013. The release and supporting slide presentation for this call are available on our website at www.principal.com/investor.

Following a reading of the Safe Harbor provision, CEO, Larry Zimpleman; and CFO, Terry Lillis, will deliver some short prepared remarks, then we will open the call for questions. Others available for the Q&A are Dan Houston, Retirement and Investor Services and U.S. Insurance Solutions; and Julia Lawler, Chief Investment Officer.

Some of the comments made during this conference call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act. The company does not revise or update them to reflect new information, subsequent events or changes in strategy. Risks and uncertainties that could cause actual results to differ materially from those expressed or implied are discussed in the company's most recent annual report on Form 10-K and quarterly report on Form 10-Q, as well as in our most recent current report on Form 8-K, which discusses the Cuprum acquisition risk factors filed by the company with the Securities and Exchange Commission.

Now I would like to turn the call over to Larry.

Larry Donald Zimpleman

Thanks, John. Before Terry provides details around our 2013 outlook, I want to reiterate a few key points from our recent earnings call and investor day. Overall, I'm very pleased with the growth and momentum of our businesses since the economic crisis. This momentum is the result of good execution for organic growth, along with 6 strategic acquisitions. This combination of strong organic growth and successful acquisitions will serve us well in 2013 and beyond. The strength of our business fundamentals leads to growth in assets, leading to higher net revenues over time and ultimately higher total company operating earnings. We remain confident about our competitive position and our ability to continue to grow our businesses into the future despite the continuing challenges of the macro environment.

As we discussed at Investor Day, we've been focused on our investment management plus strategy for more than a decade. We are positioned for long-term growth as we capitalize on the synergies of our businesses and the opportunities created by the growing global need for long-term savings and investment.

In early October, we announced our intent to acquire Cuprum, the premier mandatory pension provider in Chile. Having now completed 2 well-subscribed debt offerings, we have completed our long-term financing ahead of our original plan. Because of this, we now expect this transaction to be more accretive in 2013 and beyond than originally forecast. Terry will provide the detail on this in his comments.

Additionally, based upon my recent trip to Chile to visit personally with the relevant regulators, I can say firsthand that we expect the transaction to close in the first quarter of 2013. As I mentioned, Cuprum is the sixth such transaction since 2010, all done to improve our scale and competitive position in the faster-growing emerging markets and in global asset management.

As we announced on our third quarter earnings call, so far in 2012, we've committed more than $2.1 billion of capital on common stock dividends, strategic acquisitions and opportunistic share repurchase. The increasing amounts of deployable capital, provided by our fee-based business model, allows us to return a greater amount of capital to shareholders by increasing our dividend payout ratio over time as demonstrated by our 11% increase in common stock dividend in 2012 over 2011.

In 2013, the first half of the year will be focused on integrating the Cuprum acquisition. We're committed to the quarterly common stock dividend, and share repurchases will be considered toward the second half of the year. Terry will discuss our 2013 capital management plans in more detail in his comments.

Finally, we recently announced that we intend to submit an application to the Federal Reserve Board to deregister Principal Financial Group as a savings and loan holding company. Our goal is to retain the valuable principal bank functions that are strategically aligned to our asset retention strategy. However, it is becoming clear that some of the Dodd-Frank provisions, such as the Volcker rule, along with the unknowns of new capital requirements, could have an outsized impact on the Principal relative to any benefit of Fed regulation.

In closing, we continue to believe our shift towards a fee-based business model and, thus, our ability to return greater amounts of capital to shareholders presents a compelling longer-term investment opportunity. As I look at the integrated strategy of our businesses, our strong emerging market footprint and the world demographics of aging populations, I am more confident than ever that we are well positioned with the right products and services in the right markets. This will help us grow and continue to differentiate the Principal in 2013 and beyond.

Terry?

Terrance J. Lillis

Thanks, Larry. As you just heard, we have a business model uniquely positioned to benefit from trends that delivers a compelling long-term value for shareholders. With that said, we continue to see short-term pressures, such as continued low interest rates and pressure on fees that are impacting our 2013 outlook.

This afternoon, I'll focus my comments on the assumptions supporting our 2013 outlook, a look at the key drivers of each of our businesses, an update on the improved earnings accretion that we’re anticipating from Cuprum, our 2013 capital deployment strategy and an update on projected credit-related investment losses.

Taking a look now at the slides provided on our website. Slide 4 lists the key assumptions that support our 2013 outlook. You can see that we're assuming the current level of interest rates to remain the same, a 2% total equity growth per quarter, and we're using broker consensus estimates for foreign exchange rates in 2013.

Slide 5 shows the 5-year revenue growth and margin targets that we outlined in our most recent Investor Day. We'll continue to use these metrics as the key guidelines to measure our business performance going forward.

Turning to Slide 6. We have the 2013 revenue and margin targets for Retirement and Investor Services and U.S. Insurance Solutions. For the accumulation businesses of Retirement and Investor Services, we're expecting net revenue to grow 2% to 4% in 2013 and pretax return on net revenue to be 27% to 29%. This outlook reflects the pressure on fees that we're seeing in the defined contribution industry and the impact on low interest rates, particularly in individual annuities. We expect to guarantee businesses of Retirement and Investor Services to grow and deliver margin results within our 5-year targeted range as we continue our opportunistic approach to these businesses.

As for the U.S. Insurance Solutions, we see premium fee growth below our 5-year targets, reflecting lower individual life single premium sales and continued pressure from employment growth. We also expect our pretax operating margins at the low end of our range, reflecting the impact of the current interest rate environment. For specialty benefits, in particular, we continue to target our loss ratio in the range of 65% to 71%.

Moving to Principal Global Investors on Slide 7, we are forecasting revenue growth of 6% to 8% and continued margin expansion, forecasting our pretax margin in the range of 23% to 25%. Our established multi-boutique strategy is well-positioned for growth, and we have invested in a global infrastructure that can support margin expansion.

Looking at Principal International, we expect 2013 combined net revenue growth rates and margins to perform within our 5-year outlook range. Additionally, earnings from the Cuprum acquisition will be on top of this organic growth. We'll comment on the enhanced accretion of the Cuprum acquisition in a minute.

In 2013, we expect after-tax corporate losses of $145 million to $165 million or $35 million to $40 million per quarter, reflecting the costs of the additional debt we recently issued. Looking at the next 2 quarters, we would expect corporate losses to be higher than the run rate. In particular, fourth quarter 2012 will have some Cuprum acquisition costs, as well as additional debt costs until we early retire our 2014 notes in the fourth quarter. Thus, we expect corporate operating losses in fourth quarter 2012 to be in the $44 million to $48 million range. First quarter 2013 will reflect an additional $7 million of after-tax expenses from the Cuprum closing.

Slide 8 is an update of the accretion we now expect from Cuprum. When we first announced the deal, we expected $11 million of operating earnings from Cuprum in year 1, followed by $49 million in year 2. Now that we've secured favorable financing for the deal and some additional upfront costs that are now deferrable, we now expect $35 million in year 1 operating earnings accretion and $69 million in year 2, reflecting the tremendous opportunity that Cuprum provides us. Because debt service costs are allocated to the corporate segment, we have provided a business unit split of total Cuprum earnings going forward. For your convenience, we have provided an Appendix slide as to how we are applying the revenue growth and margin ranges to enhance your models.

Slide 9 outlines our 2013 capital deployment bucket of $400 million to $600 million, reflecting that the first half of 2013 will be focused on Cuprum’s integration. This plan assumes a diluted weighted average share count of 295 million to 297 million in 2013. We remain committed to increasing our dividend payout ratio over time.

We update our credit-related investment loss projection annually. As shown on Slide 10, we continue to see strong and improving performance in our asset portfolio. We expect 2012 losses to be lower than our projections last year. More precisely, we expect the 2012 losses per corporate bonds to be lower than the projection last December, while 2012 losses on the other asset classes to be in line with expectations. Losses over the next 3 years are expected to be below pricing assumptions. This assumes no material downturn in the U.S. or global economy.

As Larry said, we continue to be optimistic about the strength of our businesses and our ability to attract and retain customers. Our outlook for 2013 represents continued growth despite ongoing headwinds created by pressure on fees and the current low interest rate environment.

Now I'd like to open the call up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question is from Sean Dargan.

Sean Dargan - Macquarie Research

Just in regard to the accumulation businesses net revenue growth guidance of 2% to 4%, should we expect that the majority of that will show up in FSA? I mean, what kind of confidence do you have that you can get the 6% to 8% revenue growth in 5 years?

Larry Donald Zimpleman

Sean, this is Larry. I'll let Dan go ahead and take that question.

Daniel J. Houston

Yes, Sean, good talking to you. Actually, what we look at is this is a basket of businesses that make up RIS accumulation, including our bank, the annuities, mutual funds and full-service accumulation. And the reason we chose not to break that out necessarily is, if you look at the deposits and the sales that are coming in mutual funds, the vast majority are qualified retirement plan dollars and where previously -- they were IRAs. Now it’s where we're capturing a lot of our defined contribution investment-only flows coming into the mutual funds. In the annuities space, a lot of that is qualified. It's rollover IRAs that are purchasing annuities. So, again, I wouldn't want to necessarily provide a lot of guidance for you, necessarily on the components of 2% to 4% accumulation growth and how much of that is FSA, except to say that's where we think it's realistic today given low interest rates and the impact that's going to have on the annuity business, that is the deregistration of the bank and also is the ongoing pressure that we've got within our full-service accumulation on fees. Your second part of the question on can we get back to 6% to 8%, we do think that that’s a good number over a 5-year period of time. We've got to get out from underneath this uncertainty in the economic climate and the business climate that we're operating in today to see some recurring deposit growth come back, see some of the shift away from fixed income back into equity-like investments, things that can improve relative to putting in more of our proprietary investment management options. And then the other one is just what I would call anecdotal. But out talking with clients and our client service associates, it's recommitment on the part of employers around improving retirement readiness and providing income solutions. And that's becoming more of a conversation, and that gives me some confidence that it moves away from just being a fee-only discussion on FSA. So a long-winded answer, but hopefully, that provides some detail.

Sean Dargan - Macquarie Research

Okay. And just one more. The tax rate of 24% is a bit higher than it's been trending in recent years. Is that a function of Cuprum?

Larry Donald Zimpleman

I'll ask Terry to comment. I would say the 24%, I think, Sean, is actually pretty close to the tax rate for 2012. So I think we're just not expecting necessarily a lot of change in that. Cuprum does add a little bit. I think there's slightly higher taxes there but not significantly so. So I think that's pretty much in line with current. But Terry, do you want to comment?

Terrance J. Lillis

Yes, Sean, this is Terry. You're right that the rate is a little bit higher, but that's more of a function of higher earnings. And some of the adjustments that we get such as DRD, such as the tax-favorable investments become a smaller percentage, which drives the effective tax rate up. The 24% is probably more of a long-term rate for us.

Operator

Your next question is from John Nadel.

John M. Nadel - Sterne Agee & Leach Inc., Research Division

I guess I'm looking at the Appendix slide, Slide #11, and I guess -- overall, I guess, I'm struggling with the implied range of operating income for 2013. I realize there's a ton of assumptions here, and I realize it's an uncertain environment. But at the low end or let's -- focusing sort of low to high, that the low end of the range, that $881 million of operating income on the assumed share count sort of -- I think that arrives at essentially 0 EPS growth versus core numbers for 2012, and even at the upper end of the range implies about maybe 12% EPS growth on a year-over-year basis versus core 2012. I'm assuming core for 2012 is around $3 a share. I guess the low end of the range is sort of mid to low end of the range just strikes me as really difficult to understand given overall strong growth in flows, the Cuprum acquisition, the positive impact, although maybe not that great of buybacks to date through 2012. Can you help us understand? I mean, is interest rate pressure greater than what you have previously estimated it to be on the business? Or is there something else I'm missing?

Larry Donald Zimpleman

John, this is Larry. Let me -- I'll offer some kind of high-level comments around that. If I just step back and, again, kind of look at this from the 100,000-foot view, first of all, kind of supporting some of the comments that you made. First, let me just talk a minute about sort of 2012 over 2011, and obviously, we're not closed yet with 2012. So as you say that kind of 2012 number is not set, but it's somewhere in that $2.90, $2.95, $3 range, somewhere in there, as you had indicated. And so what that ends up with, if you just do the math, that ends up with about a 10% increase in EPS for 2012 over 2011. Now each of us can make our own conclusion about a 10% increase in EPS, but I'm going to say I think that's decent performance. It's a little bit shy of our long-term '11 to '13, but on the other hand, it's pretty close to that. And when I think about not only the impact of low interest rates but more significantly for us, the impact of foreign exchange and the lack of inflation in Latin America, which drives investment income in Chile and Mexico, I'd look at that and say, "That's pretty good performance." Going into 2013, I think the biggest increment, which is -- or if you will, decrement from that kind of 10% EPS growth rate to something a little less than that, I think the biggest decrement there really isn't on the numerator side, it's really on the denominator side. Again, we're sort of targeting $400 million to $600 million of capital to be able to deploy. And, really, what I would say about that, John, is we would hopefully look back at the end of 2013 and think that's a little bit conservative. But at the same time, I would say that -- as we said in the comments, number one, we want to spend the first half of the year making sure that we properly integrated the Cuprum acquisition and we're getting the sort of earnings accretion that we need. In the second half of the year, I think once we look at where we are with the fiscal cliff, once we look at where we are and we've proven to the rating agencies that the Cuprum acquisition is performing, once we know more about where capital requirements are going to go with some of the insurance products, we'll evaluate whether that $400 million to $600 million is the right number or whether, in fact, there are some other amounts beyond the $400 million to $600 million that we can deploy for share repurchase. So I think that's where, if you will, the jury is kind of still out, as that sort of 8%-ish type accretion or 6-ish type acquisition become closer to double digits or in double digits, just depending on what happens in the second half of the year with capital deployment. Again, long-winded answer, but I would say it's not a numerator problem, it's really more tied around what happens in the second half of the year with capital deployment.

John M. Nadel - Sterne Agee & Leach Inc., Research Division

Well -- and I appreciate the response. It's very helpful. If I, though, break down the 2012, that core number, $2.95, $3, whether it's $2.95 or $3 doesn't really change the math that much. It implies a core operating income number sort of just shy of $900 million, call it $880 million, $890 million, and that's the low end of your range on Slide 11 as well. So I guess I'm still back to not really understanding why 0 -- forget the share count for a moment, why there's 0 earnings growth at the low end of your guidance range.

Larry Donald Zimpleman

Now, again, to be clear, John, what you're talking about there is sort of at what would be the low end of our particular estimates. And so...

John M. Nadel - Sterne Agee & Leach Inc., Research Division

Yes, no. Yes, I understand. I'm trying to understand how...

Larry Donald Zimpleman

Worst-case scenario -- so sort of worst-case scenario, John, has the -- if you will, the EPS growth in that 0% to 5% range, I'd say the reasonable scenario has that EPS growth in a 5% to 10% range, and a more optimistic scenario has an EPS growth that's back closer to what the long-term trends are going to be. Again, the things that are really going to drive this -- I mean, it is the impact of low interest rates, one, yes. I will also say again, you got to think about FX and you particularly have to think about the impact of inflation in Latin America. Now, I guess, if there's a piece of good news or a silver lining as we close out 2012, I will say that we're now back to levels of inflation, particularly in Chile, that are not only perhaps in line with some historical averages but even slightly greater than historical averages. But I'm not going to sit here and necessarily forecast that's going to continue into 2013. But if it does, it does become a tailwind. So this, again, is all assumption-driven. As we said, it's going to be somewhere in that range that you're describing.

John M. Nadel - Sterne Agee & Leach Inc., Research Division

So -- I'm sorry, one last one, just really quick. So if you think back to about this time last year, Larry, and you're giving us 2012 guidance and now you're giving us guidance for '13, would you be willing to characterize '13's guidance as more conservative versus last year's guidance less so? I mean, is there any way to compare the 2?

Larry Donald Zimpleman

Sure. I don't know if there's any way to compare the 2. I would describe '13 as I think, John, very sort of over and realistic, and I would say that that’s exactly how we try to approach the actuarial assumption review was being kind of sober and realistic. And, again, what I would say here is, as we talk about being sober and realistic, we're still only very marginally -- in terms of EPS growth, we're only very marginally under what our long-term sort of 11% to 13% EPS is. So if this is sort of the most sober and realistic kind of climate and we're still producing something that's pretty rational and reasonable in growing EPS that, frankly, I think a lot of companies would like to be in that kind of EPS range, then think what that looks like once we get Cuprum fully integrated, once we get back to more normal kind of macroeconomic factors. So, again, for me, this is more than just a question of what's 2013 look like. I'm confident when I say the engine is still in place, the earnings drivers are still in place and it's a question of waiting for the macroeconomic factors to all stop being headwinds and have some of them start being a little bit of a tailwind, whether that's 2013 or '14, I don't know. But I know it is going to happen.

Operator

Your next question is from Steve Schwartz.

Steven D. Schwartz - Raymond James & Associates, Inc., Research Division

I would just point out here, obviously, you're assuming -- well, let me ask you this, Terry. What kind of assumption are you making here with regards to -- or maybe backing into it, the S&P 500? The S&P 500 closed at 1,440. If I'm understanding -- at the end of the third quarter, if I'm understanding you correctly, you're looking at a 1,400 close. That seems to be the assumption based on the close in November at 1,400. That would have been normally, call it 1,460, somewhere around there, a normal 2%. Do you have a sense how much of that takes out of earnings?

Terrance J. Lillis

Steve, this is Terry. The 1,400 was around where it is right now, in the middle of November to the end part of November. We use an assumption of a 2% total return per quarter. Now that's made up of 2 pieces. 3/4 of that or 1.5% is due to appreciation. The other 0.5% is due to the dividend. So just forecasting that 1.5% appreciation on a 1,400 gives you roughly for 2013 S&P around 1,450. So you're not seeing a huge amount of appreciation in it. Then we go back to any movements off of that, as we've historically said, that a 10% change, plus or minus, would have a 4% to 6% impact on operating earnings. And that's probably still a pretty good rule of thumb.

Steven D. Schwartz - Raymond James & Associates, Inc., Research Division

Okay. That's fine. Has that -- I'm just wondering if that has maybe changed a little. Maybe that should be, given the change of mix of business, more towards separate accounts and trust funds, maybe towards the higher end?

Larry Donald Zimpleman

Yes, this is Larry, Steve. I think that's a great point. And I think that going forward, I think it's something that we'll have to -- in the post-Cuprum world, I think we'll have to test that. But I would just say one thing about Cuprum, just because of the way their particular -- actually, as you know, most of the investments in Cuprum are more fixed income investments than they are equity investments. What I would also say, just the way that the fees are collected on Cuprum, there is, frankly, less market risk attached to the fees in a company like Cuprum than there are here in the U.S. where your fees here in the U.S. are sort of market-adjusted, if you will. In other words, the fees are based on AUM. And in the case of Cuprum, the fees are really based on contributions. So they're kind of independent of the market. So one of the things that we will need to do to your point is, I think, we'll need to go back and revisit all those rules of thumb in a post-Cuprum world to see how well they still hold.

Steven D. Schwartz - Raymond James & Associates, Inc., Research Division

Okay. And then if I may as well, Terry, maybe you can help out here. I know you gave -- in the Appendix, you gave kind of the back end of where the numbers would be. But on Principal International, I know you've taken to showing combined net revenue growth. I think you were suggesting it was going to be up 15% to 20% again, but I don't remember off the top of my head. On Principal International, ex Cuprum, I guess the question is could you help us with the modeling of maybe where Cuprum's revenue would be? That would be a. And then, b, I guess my question would be, does the actual reported net revenue, should that growth kind of follow your guidance with regards to combined net revenue?

Terrance J. Lillis

The combined net revenue is just the numbers of -- it's in the financial supplement that provided a breakdown of it, okay? And so you have that breakdown. And so we were looking at 16% to 19% growth, and that's excluding Cuprum. If you actually bring Cuprum into play -- I don't actually have the exact numbers in here for their revenue at this point in time. We do look at the earnings on an adjusted basis for 10 months, assuming a March 1st close. That number came in to be about $35 million. So I would expect to see the Cuprum revenue probably growing in a 10% range, as what we were talking about before in the [indiscernible].

Larry Donald Zimpleman

Yes. And, again, just to be clear, the Cuprum revenue is not revenue on AUM. The Cuprum revenue is the fee that they pay, which I think is in the range of 1.5%, the fee that they pay on each contribution that they make during that particular year, Steven. So, again, I suggest you might want to get with John Egan or some of our other IR team, and they can kind of help you model out how that revenue flows for Cuprum because, again, it's different and fees are collected in a different manner than what we're used to here in the U.S.

Operator

Your next question is from Mark Finkelstein.

A. Mark Finkelstein - Evercore Partners Inc., Research Division

I've got a few -- a couple. I guess just going back to accumulation within RIS, I guess I'm a little surprised by the 27% to 29% return on net revenue. I guess can you just help explain that in a little bit more detail? And then secondly, how should we think about that in respect to the 5-year target of 28% to 32%, just knowing that there's some continued fee pressures impacting this FSA business?

Larry Donald Zimpleman

Yes, Mark, this is Larry. And I know Dan will want to comment. But let me just see if I can kind of put this in perspective a little bit. Again, we talked at Investor Day about the 28% to 32%. We've now -- we've sort of given you our best thinking around what is going to be for 2013, which is going to be, if you will, towards the lower end or maybe slightly below the low end of that range. And that may -- that isn't necessarily all because of FSA, that is, again, somewhat the impact of low interest rates and the fixed deferred annuity block and the reality that about 1/3 of that block is sort of at the guaranteed minimum interest rate. So you do get some interest compression. But let me step back from all of that and let me, again, for perhaps those people listening on the call that aren't quite as familiar with these businesses, let me just say that even in the context of sort of 27% to 29% return on net revenue, just to be clear, Mark, we're still talking about a business that therefore has return on equity in the 25% to 30% ROE range. So we need to keep reminding ourselves that these are incredibly attractive businesses from a return on equity perspective. We are well, well, well into the double digits here, and we're talking about margin compression only giving us a 25% ROE. So, again, I don't want to have that discussion to have this somehow appear that this is a very sort of low returning, low ROE business. We run this business incredibly well and with a very high ROE.

A. Mark Finkelstein - Evercore Partners Inc., Research Division

Okay. I didn't know if Dan wanted to comment at all.

Daniel J. Houston

Yes, I'd be happy to. The other things to take into consideration, if you were to just go out there and see what's still working, I don't think there's any question that the total retirement solutions works in the marketplace. Some of the products that we've created on the mutual fund side still very viable. People are looking for more certainty in the portfolio completion strategies that we've rolled out. Again, really, really nice sales this year. So we feel very good about the fundamentals. The pressure, as Larry pointed out, clearly is on the fixed deferred annuities and as -- and, again, a bit anecdotal. But we know for a fact, as we visit with these clients and the fee disclosure goes out, Principal's value proposition is appealing to the marketplace. So we will continue to focus on the small- to medium-size marketplace. And when we have our fourth quarter earnings call in the first part of February, we'll be able to articulate the growth that we've enjoyed throughout 2012, getting back to some of the more basics of focusing on that small- to medium-size business by growing both the number of new clients, as well as growing assets under management in what we call our emerging- and dynamic-size businesses, which is under 15 million. And a lot of this fee compression that we talk about is clearly in those larger plans, and we'll have to work on strategies if we're going to retain that business and how to maximize revenue in those situations.

A. Mark Finkelstein - Evercore Partners Inc., Research Division

Okay. Just as a follow-up, can you talk a little bit about international margins, maybe in Latin America, ex Cuprum, a little bit? Just do you expect stable margins? Do you expect some deterioration? I know Mexico had some fee cuts a couple of years ago that were meaningful. I'm just curious about -- maybe just going through Mexico, Chile, what are your expectations around margins?

Larry Donald Zimpleman

Yes, those are good questions, and I think it does somewhat vary by markets. So let me just take a quick swing at it. If you -- let's talk about Mexico first. And, again, in all of our Latin American markets, Mark, let me say that we really have a pretty well-developed retirement franchise, and I'm not sure that we've necessarily communicated that in a most effective way. So, for example, when I talk about Mexico, the AFORE system is the preretirement mandatory system. In that system, you are subject to annual fee negotiation with the regulator. And so that part of the retirement franchise will always have a little bit of pressure on it. So we have modeled that, we take that into account. On the other hand, there are also additional voluntary forms of savings that also can take place and do take place in Mexico that are more truly retail where you don't necessarily have that negotiated price by the regulators. So there's a little bit. I would describe it as there's a modest amount of sort of a fee compression in Mexico. If you go to Chile, the regulator there doesn't necessarily negotiate the fees. I mean, they are what they are. It's a matter really of being transparent with the fees and being sort of market competitive. So there, I would say we do expect over time, not necessarily as a 2013 impact, but we do expect over time to see fees which, again, are a percent of the contribution. We would expect to see those fees come down a little bit but not necessarily in a dramatic way. They will come down in sort of a reasonable and kind of organized way over time. And, again, we have the voluntary programs, the wraparound programs where you again see more typical retail fees. Then if you move to Brazil, I would say from everything we know today, Brazil remains -- would have within Latin America, would continue to have today the highest margins. Unknown in Brazil, I think, Mark, is going to be when do those portfolios begin to move more dramatically from what they are today, which is primarily sovereign debt, to a more globally diversified set of portfolios that frankly could not only sustain the current fee levels but maybe even increase them a little bit just because of the change in the asset classes over time. So Mexico, more fee compression; Chile, pretty stable; Brazil, pretty stable. I hope that helps.

Operator

Your next question is from Eric Berg.

Eric N. Berg - RBC Capital Markets, LLC, Research Division

I have some questions regarding capital deployment, foreign exchange and inflation. With respect to capital deployment, in trying to understand why there's going to be such a sharp decrease next year versus this year, is it that -- I mean, you've emphasized -- you've said repeatedly that you will be busy with Cuprum. That message is coming through loudly and clearly. But is it that, that you will be just doing -- your time will be spent elsewhere? Or is it that there is simply going to be less capital to deploy because you have sort of borrowed against through Cuprum the capital that otherwise would have been deployed next year, absent if Cuprum had not been acquired? I'm trying to understand why the number is so much smaller next year.

Larry Donald Zimpleman

Yes, well, this is Larry, and I'll look to Terry as well to comment when I'm done. I think that it is really more about recognizing with -- I felt like the rating agencies responded in a very reasonable way when we announced the Cuprum acquisition. And I think now having completed the long-term financing of that, Eric, I think they're even, I'll say sort of a little bit more pleased because of financing -- the long-term financing turned out so favorable for us. So we need to demonstrate to the rating agencies that we can get sort of 2, 3 quarters of expected performance under our belts, so we really have the thing properly integrated. To be quite honest about it, Eric, by the time you get out to third quarter 2013, it becomes a bit of a moot point when we talk about deploying additional capital for a share repurchase because by then, it's not going to make that much difference to 2013. It's now going to be a kind of a 2014 impact. So if we don't have really the share repurchase going on in the first 1, 2, 3 quarters, then it's really not going to have that much difference to EPS. I would go back again and say I still think we're talking about EPS growth for 2013 that's kind of -- it's below the low end of our long-term range, but it's not that far off the low end of our long-term range. So, again, if we can do a little bit better and perhaps get back to a little bit more in the latter part of 2013, then I think we're back within the range of our long-term EPS.

Terrance J. Lillis

Yes, Eric, this is Terry. The only thing I'd add to that is that in addition to share buybacks and M&A activity, that this deployable capital, we made a commitment to increasing our payout ratio for our common stock dividend as well. So you can kind of get a pretty good estimate of what you think -- when you look at this year on an annualized basis, we had about $0.78. Now if you look around $300 million, you can come up with a good estimate of what the capital commitment was. And if you look at our historical pattern, we've been in double-digit increases. So that can factor into it as well. So it's not all just about the share buybacks, but there is acquisitions that we're going to continue to look for, strategic acquisitions, and the common stock dividend increasing payout ratio. But as Larry said, the first half of the year, we're going to focus on the Cuprum acquisition.

Eric N. Berg - RBC Capital Markets, LLC, Research Division

Now as far as inflation and foreign exchange are concerned, first, is the idea that you are -- that foreign exchange having hurt your earnings this year, I believe -- I guess, a strengthening of a dollar, that you anticipate it will be an even greater challenge next -- that it will be an ongoing challenge next year, a further strengthening of the dollar for the broker consensus?

Terrance J. Lillis

Well, Eric, this is Terry again. As you look into your crystal ball, everybody will have an opinion as to the -- where the dollar has movement. Right now, what we're using is the forwards off of Bloomberg as to what the brokers are saying the exchange rates will be next year. And if you look at that that’s relatively neutral year-over-year because you take an average and we look at it on an average on a month-by-month basis. And so you can see some fluctuations, but at this point in time, we're thinking that FX or the exchange rates will be relatively neutral in 2013.

Eric N. Berg - RBC Capital Markets, LLC, Research Division

Finally, Terry, can you remind us how, even in a general -- even in a conceptual level or a high level, inflation affects the revenue and expense sections of your P&L? I mean, I know that you would get -- that in some cases, because of your inflation-linked investments, you get a revenue pickup. But I thought that because a lot of that revenue pickup is offset in the expense section of your P&L, that there is no net impact on earnings from inflation. Can you go over that?

Terrance J. Lillis

Yes. In Chile, we have investments that on both the asset and the liability side that are tied to inflation, okay? But we also have equity that is also earning the inflated rate based on the inflation. So to the extent that inflation is lower than what we anticipate, that would reduce our operating earnings and PI. To the extent that inflation is higher than what we'd expect, we have increased earnings. And so over the last couple of years, you can have -- quarter-by-quarter, you can see significant fluctuations. Actually, if you look at the first quarter of this year and the second quarter of this year, they had opposite directions, one was positive; one was negative, $3 million or so. But on a year-to-date basis, they kind of wash each other out. So you'll see volatility based upon the inflation supporting or earned on our surplus.

Operator

Your next question is from Tom Gallagher.

Thomas G. Gallagher - Crédit Suisse AG, Research Division

Just a couple of questions on de-banking and how we should think about it and whether that's embedded in your guidance. First question is, is that a part of your guidance? Is there an expected impact to EPS as a result of de-banking? That's my first question.

Larry Donald Zimpleman

Okay, Tom, this is Larry. We haven't made any specific adjustment in the financials for the deregistration process. So it isn't impacting -- one way or the other, it isn't impacting the outlook for 2013.

Thomas G. Gallagher - Crédit Suisse AG, Research Division

Got it. So, Larry, if something does happen on that end, should we assume that it looks like you guys are earning, I don't know, $50 million to $60 million a year in banking and trust services. Would all of that go away or some portion of it as we think about you potentially de-banking?

Larry Donald Zimpleman

Yes, well, the desire, Tom -- and first of all, I think the earnings of the bank are sort of more in that $35 million, $40 million range -- $35 million to $40 million a year range. And the objective here would be that we're able to essentially continue with all the products that produced that sort of P&L in a year. So, again, we're not forecasting any increase in that, but we're also not forecasting any decrease in that. This again will all be subject to sort of negotiation around the deregistration process. The 2 -- I would say, the things that are important to us there is the ability to continue to use it, as I said in my comments, as an asset retention vehicle and for -- and small amount force-outs. So that's really where we need that strategic positioning of the bank, and that's generally using CD-type products.

Thomas G. Gallagher - Crédit Suisse AG, Research Division

Got it. So Larry, bottom line is even if you do de-bank, you wouldn't expect, at least based on what you know today, a meaningful change in size, whether it's capital or earnings related to that business?

Larry Donald Zimpleman

Correct. And Dan wants to add a comment. But the thing that we sort of gain from and I would say, Tom, is number one, we gain additional flexibility overall for our businesses because, again, not knowing where things like the Volcker rule are going to go, we’ll not be subject to those kind of considerations once the deregistration process is completed. And it's just -- again, it's just a matter of removing as many of the kind of uncertainties that could impact our business and to give ourselves maximum flexibility to run our businesses in the way that we think is -- it really best serves our clients and our advisors. I know Dan wanted to add a comment on that.

Daniel J. Houston

Yes, just real quickly, Larry. Tom, just a couple of items of detail here. About $1.8 billion of the $2.2 billion in deposits there are associated with those SAFO accounts and the IRAs. And so that's the savings account IRA and the CD IRAs. The remaining portion, that other $400 million, is in the traditional checking account. But one of the things that you have to do, of course, if we were no longer in the checking account business, is to align our expenses with the revised revenues. And so, again, one way or another, we align those things. And, again, our hope really is that we're able to retain that ability to manufacture CDs and to have savings accounts to support the rest of these businesses.

Thomas G. Gallagher - Crédit Suisse AG, Research Division

Okay, that's helpful, Dan. And the -- Larry, just a final follow-up on that. What -- I guess up until now or at least up until you guys had announced that recent disclosure, you had indicated that you weren't particularly worried about your current structure. What's really changed? Is it looking further into what might come out of Dodd-Frank and Volcker? Because I think you're still saying that you're not -- you don't have any issues with federal regulation of insurance. But can you be a bit more specific? Is there anything new that's come out that's giving you pause?

Larry Donald Zimpleman

Sure, Tom. I mean, there's really nothing new at all. What I've tried to express over the -- again, the Fed took over regulation of Principal Financial Group as a savings and loan holding company on July 1, 2011. And I would say again that we found all of our interactions with the Fed certainly on the local level and the regional level, to be honest with you, very constructive. I mean, they were really very constructive. But I think as it became -- as we knew more about some of the other provisions of Dodd-Frank, remembering again, even as we sit here today, only about 1/3 of Dodd-Frank has actually been implemented, and there are still many things yet to go that we don't know anything about but do have potential to impact us. And I said it’s things like Volcker rule, seed money, for example, and some of our mutual funds and asset management accounts can become an issue. So it just really is more of a question of reduced flexibility for our other asset accumulation, mutual fund and asset management businesses that really for us was more of the issue. And, frankly, again, we had great constructive conversations. And while the Fed was very, I'll say, understanding about it, the reality is, and we sometimes forget this, the reality is they're bound by what Dodd-Frank says. It's not a question of whether they'd like to make some modifications. The reality is, in some cases, they just can't. So, really, our conversations were always constructive, and -- but it just was an element of flexibility more than anything else, Tom.

Operator

And we have reached the end of our Q&A. Mr. Zimpleman, do you have any closing comments?

Larry Donald Zimpleman

I just wanted to thank everybody for joining us for the outlook call today. We continue to look forward to the opportunity to implement our investment management plus strategy, as I indicated in my comments, as we go into 2013, and we remain very confident about the long-term opportunity that we're going to continue to pursue. So, again, thanks to everybody. Hope you have a great day.

Operator

Thank you for participating in today's conference call. This call will be available for replay beginning at approximately 8:00 p.m. Eastern Time until end of day December 4, 2012. 64762924 is the access code for the replay. The number to dial for the replay is (855) 859-2056 or (404) 537-3406.

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