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Unum Group (NYSE:UNM)

Q3 FY08 Earnings Call

October 31, 2008, 9:00 AM ET

Executives

Thomas A. H. White - IR

Thomas R. Watjen - President and CEO

Kevin P. McCarthy - President, Unum U.S.

Randall C. Randy Horn - President and CEO, Colonial Life

Analysts

Colin Devine - Citigroup

Mark Hughes - SunTrust Robinson Humphrey

Darin Arita - Deutsche Banc North America

Mark Finkelstein - Fox-Pitt Cochran Caronia

Jeff Schuman - Keefe, Bruyette & Woods, Inc.

Randy Binner - Friedman, Billings, Ramsey & CO.

Operator

Good day and welcome to the Unum Group Third Quarter 2008 Earnings Results Conference Call. This call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the Head of Investor Relations, Mr. Tom White. Please go ahead, sir.

Thomas A. H. White - Investor Relations

Thank you. Good morning everyone, and welcome to the third quarter 2008 analyst and investor conference call for Unum Group.

As we get started, I want to remind you that our remarks this morning will include forward-looking statements, which are statements that are not of current or historical fact. As a result, actual results might differ materially from results suggested by these forward-looking statements. Information concerning factors that could cause results to differ appears in our filings with the Securities and Exchange Commission, and are also located in the sections titled Cautionary Statement Regarding Forward-Looking Statements and Risk Factors in our Annual Report on Form 10-K for the fiscal year ended December 31, 2007 and also in our subsequently filed Forms 10-Q. Our SEC filings including our Forms 10-K and 10-Q can be found in the Investors section of our website.

Please take note that the statements in today's call, speak only as of the date they are made and we undertake no obligation to publicly update or revise any forward-looking statements. Presentation of the most directly comparable GAAP measures and reconciliations of any non-GAAP financial measure is included in today's presentation, can be found on our website in the Investors section.

Yesterday afternoon, Unum Group reported earnings for the third quarter 2008. Net income in the quarter was $108 million or $0.32 per diluted common share compared it to net income of $187 million or $0.52 per diluted common share in the third quarter of 2007. Included in the results for the third quarter of '08 are net realized after-tax investment losses of $108.9 million or $0.32 per diluted common share and $30 million or $0.08 per diluted common share in the third quarter of 2007.

The losses include the impact of the provisions of DIG B36 accounting, which require changes in fair values of embedded derivatives and certain modified coinsurance contracts to be reported as realized investment gains and losses. The accounting policy resulted in a third quarter 2008 after-tax investment loss of $44.1 million compared to $18 million after-tax loss in the third quarter of '07. So excluding the DIG B36 accounting impact, net realized after tax investment losses related to sales and write-downs of investments were $64.8 million in the third quarter of 2008 and $12 million in third quarter of '07.

So excluding the realized after tax investment losses, our after tax operating income was $216.9 million for this quarter or $0.64 per diluted common share, compared to $217 million or $0.60 per diluted common share in the year ago quarter.

On the call this morning are President and CEO, Thomas Watjen; Bob Greving is the Executive Vice President, Chief Financial Officer and Chief Actuary as well as the heads of our three major operating segments; Kevin McCarthy, Susan Ring, and Randy Horn.

And at this time I'd like to turn the call over to Tom Watjen.

Thomas R. Watjen - President and Chief Executive Officer

Thank you, Tom and good morning. The third quarter was another good quarter for Unum and let me touch on the few highlights as I see them.

As Tom mentioned in his opening remarks, excluding net realized after tax investment losses, we reported $0.64 per share in operating income for the third quarter, 7% higher than the $0.60 reported in the third quarter of 2007. That's the high end of the range estimated in our preannouncement.

Operating results in the quarter were solid with good risk experienced across... again across all of our core operating segments. These results were tempered somewhat by lower miscellaneous net investment income, the weakness of the British pound and higher than normal expenses related to litigation costs in the closed block. These kinds of issues are also likely to affect our fourth quarter results, which I'll discuss in just a moment.

Our sales results were also encouraging. As we discussed in the past, our focus across all of our operating businesses is to grow our core market business. That is sales to small and mid-sized employers and we had good success this past quarter.

Certainly, today's financial and credit markets present challenges for us as they do for others. Our realized investment losses increased from prior quarters, as we had some exposure to some of the distressed financial management news and the equity market to a relatively small equity index note. Until we see some improvement in general environment, we expect to continue to realize some level of investment losses. But we remain confident that our portfolio is well positioned and our capital position is strong enough to weather this storm.

Also, the widening of corporate bond spreads by 150 basis points to over 300 basis points depending on the asset class in the quarter pushed a larger portion of our fixed income holdings into an unrealized loss position. I must admit that I've been somewhat surprised by the focus on our unrealized loss position as we have very predictable cash needs and virtually no disintermediation risk in our insurance liabilities. So we are truly a buy and hold investor.

We are under no pressure to sell investments at a loss to meet policyholder needs and expect the value of our portfolio to rise as fixed income market stabilize. Now our widening spreads have temporarily caused the value of our holdings to temporary decline. This also created excellent opportunities to put new money to work at very attractive yields without compromising the A2 quality of the overall portfolio.

And lastly, we continue to operate well within our capital targets for liquidity, leverage and risk based capital.

Now let me offer a few comments on the performance of each of our business, starting first with Unum U.S. The before-tax operating earnings for Unum U.S. increased by 7% with generally favorable performance in the Group Disability and supplemental and voluntary lines, which offset slightly lower earnings in our Group life line. And since a lot of the focus certainly of the Group is around Group Disability line, let me spend a moment just talking about that.

Group Disability earnings were 6% higher with our solid risk results offset somewhat by lower net investment income related to lower bond calls. Importantly though, the Group Disability benefit ratio for the third quarter improved to 89.3%, a decline of 120 basis points from the second quarter of 2008 and 218 basis points decline from the third quarter of 2007.

Seasonally adjusted insurance strengths remained generally stable in the third quarter for both our LTD and STD lines of business and we saw no evidence that the weaker economy was adversely affecting our benefit results. We continue to remain confident that we can reduce the benefit ratio to between 88% and 89% by the end of 2008 or early 2009.

Unum U.S. sales increased 8% in the third quarter, with core Group sales increasing 28% and voluntary benefit sales increasing 13%. As you know, these are two areas we targeted for growth. We remain cautious and disciplined in the large case market where sales declined by 1% in the quarter and are 3% lower for the first nine months of 2008. Kevin McCarthy is here with us today to answer any questions you may have about our business or the marketplace.

Now shifting to Unum UK, before-tax operating earrings were $96.1 million for the third quarter, an outstanding performance by UK operations. These results are lower relative to the third quarter of 2007, due to a decline in the value of the pound. On a local currency basis, Unum UK's earnings increased by 2%.

Risk results remained excellent with the benefit ratio of 52.4% for the third quarter of 2008, compared to 53.3% in the third quarter of 2007. Results from both quarters included an adjustment to our long-term assumptions for claim reserves that resulted in reserve releases. However, the underlying morbidity and mortality experience in the quarter remained favorable, and Tom White will provide little more detail in his comments on this.

Sales increased 3% in dollar terms or around 9% in local currency. Premium income for the segment remains under pressure though at market conditions in the Group Life and large case market remain very competitive in the UK. And looking ahead, we continue to believe that earnings growth over the near term will be a challenge even on local currency basis, but I can show you we're taking the steps in our UK business to be sure that we're positioned well for 2009. These steps including improving expenses for 2009, we expect to incur additional expenses in the fourth quarter as we implement this expense and productivity improvement set of programs, but again this will have an favorable impact in our 2009 results and Susan Ring is with us here to address any questions you may have about our UK business or the UK marketplace.

Now lastly, let me shift to Colonial Life where our pre-tax operating earnings increased 6% to $66.2 million in the third quarter, continuing the strong level of profitability generated in Colonial Life. These results reflect continued favorable benefit experience for the accident, sickness and disability product lines which offset somewhat higher benefit ratios for the life, cancer and critical illness lines.

But our total sales increased only 2% for the third quarter, below our long-term expectation. Our core market sales in the less than 100 lives segment grew 7%. Sales in the large case market were 8% below last year, so again, very consistent with our overall theme to focus on growth in the small and midsized marketplace. And Randy Horn is with us on the call to address any further questions you may have on Colonial or the Colonial marketplace.

Now since again it's so topical, let me move to offer a few comments on capital, and again we continue to be very comfortable with our capital position, and I believe we have tremendous financial flexibilities as we look to the balance of this year and into 2009.

Our third quarter estimate of our risk-based capital ratio for our traditional U.S. life insurance companies remains above our long-term target of 300%, and we are positioned to finish 2008 within our year-end target of 315% to 325%. Leverage excluding the non-recourse debt and capital of Tailwind and Northwind Holdings finished the quarter at 21.4%, again well below our long-term target of 25%. Approximately a point of this leverage is short-term borrowing to enable us to free fund future investment purchases and take advantage of the attractive yield I mentioned earlier in the marketplace which exist for us today.

At our holding company, liquidity was $406 million, also comfortably above our target to cover one year of fixed charges plus maintain the capital cushion for business in economic volatility. We currently project our year-end 2008 holding company liquidity position to be in excess of $500 million. As you know, we've completed the $700 million share repurchase approved in the fourth quarter of 2007, and for the year we repurchased 29.9 million shares, reducing our share count by over 8% over the year-end 2007 outstanding shares. We expect to continue to generate excess capital. We'll discuss our thoughts for this redeployment at the November 11th investor day meeting.

Now let me summarize just by saying that again we're very pleased with the third quarter results. Our core operating segments continued to meet expectations, driven by steady consistent risk results across all of our major businesses. Our sales results in our core markets continued to be strong in what's obviously a very difficult environment. We continue to be very satisfied with our investments results and certainly very importantly, we're satisfied too with the financial flexibility we would have been able to retain over this period of time.

Now this is certainly a very challenging environment and we will continue to take the steps necessary to position ourselves for what is shaping up to be another challenging year in 2009. There are opportunities out though in this environment, both in putting new cash flow to work at attractive yields, but also in continuing to build off of the three strong operating businesses in our portfolio. In this uncertain environment, we expect to see business opportunities because of who we are, a company unquestionably committed to the benefits market, both in the U.S. and the U.K.

And now, I'll turn the call over to Tom White who will provide a little more detail on the third quarter results. Tom?

Thomas A. H. White - Investor Relations

Great, thanks Tom. I want to take a few minutes to supplement Tom's comment and provide some operating highlights on the quarter.

First, within Unum U.S. Group Disability, as Tom indicated, we continue to see improvements in the group disability benefit ratio, which declined to 89.3% for the third quarter. Our new claim incidence on a seasonally adjusted basis was generally stable in the third quarter with the levels we'd experienced in the past several quarters. Our analysis of incidence trends continues to suggest no significant variations either in any occupational categories, case size or type of impairment.

Additionally, the short-term disability line, which often can be a leading indicator of LTD claim incidence also continues to perform well, but stable claim incidence trends throughout the third quarter.

Our net investment income in the third quarter declined by approximately 3% from a year ago, due primarily to a lower level of bond collectivity, again a trend that we expect to see continuing into the fourth quarter.

Moving to the Group Life and AD&D line, results in this line were somewhat lower this quarter than in the year ago quarter at $50.9 million compared to $56.2 million. The benefit ratio was lower than a year ago, it's 70.4%. This reflects lower incidence rates, but a slightly higher average claim size. The expense ratio, again in Group Life and AD&D was higher this quarter, reflecting the mix shift to more core market sales in cases as well as higher core market sales and quote activities. And also net investment income was slightly lower than a year ago quarter.

Finally, within Unum U.S., the supplemental and voluntary line, we continue to see very strong results with pre-tax operating earnings of $71.5 million, an increase of 24%. All three primary lines, the recently issued individual disability, voluntary benefits and long-term care produced year-over-year improvement in pre-tax earnings. Premium growth grew 7% and risk results were stable to improved, across each product line.

As Tom indicated earlier, our reported sales for Unum U.S. increased by 8% in aggregate and there were several bright spots to highlight. Core market sales for our group lines, meaning LTD, STD and Group Life combined were quite strong, increasing 28% for the third quarter and 19% for the first nine months of 2008. LTD core market sales by itself grew 24% in the third quarter and 18% for the first nine months.

Our sales in the large case market were flat in the third quarter and again, we remain disciplined and opportunistic in that market segment.

Finally, voluntary benefits sales were also strong. Sales increased 13% in the third quarter and 18% for the first nine months. And actually, case count growth was a strong 24%, indicating good activity in the core market segment of voluntary benefits.

So to summarize the results for Unum U.S., continued excellent risk management results across the board, some pressure on net investment income due to lower levels of miscellaneous net investment income, but excellent sales trends in our targeted core markets.

Moving to the UK, we continue to see very strong results for Unum U.K although the rate of growth is slowing and the weaker pound is beginning to unfavorably impact the foreign exchange translation. In dollar terms, we saw a 5% decline to $96.1 million in pre-tax earnings in the third quarter and in local currency, before-tax earnings increased slightly to £50.9 million from £50 million a year ago. Results for both quarters include an adjustment to our long-term assumptions for claim reserves that resulted in reserve releases of £5.5 million pounds in this third quarter and £8.2 million in last year's third quarter.

Excluding the impact of these reserve releases, the underlying risk performance remain favorable with an adjusted benefit ratio of 57.1% in the third quarter of '08 compared to 60% in last year's third quarter. Our third quarter sales increased 9% in local currency and 3% in dollars with underlying sales trends, and this is excluding the impact of the age quality legislation actually increased by 19% in the third quarter.

The Group risk markets in the UK remained very competitive, especially in Group Life and in large case segments. We did see an improvement in Group Life persistency to 74.8% compared to 71% a year ago. However, premium persistency in the Group long-term disability line of business declined slightly to 87% for the first nine months of '08 compared to 88% for the comparable period in '07. This level of persistency combined with the current level of new sales activity will make tough line growth difficult to achieve that we do expect the profitability of Unum UK to remain at very robust levels.

Our Colonial Life continued to have favorable results with $66.2 million in pre-tax earnings, that's 6% higher than year ago quarter. The benefit ratio was generally stable 47.5% at the third quarter of '08 compared to 48.6% last year, primarily due to favorable performance in the accidents, sickness and disability product line.

Sales of Colonial Life increased by 2% in total, but the underlying trends indicated continuation of some positive trends that we're seeing in the core market. Continue to see good momentum in our core market with sales in the under 100 in fully commercial market increasing by 7.1%. However, sales declined by about 8% in the large case commercial market.

We are also encouraged by activity in the market. New account growth at Colonial Life was up approximately 17% for the third quarter. However, the average new case size declined by approximately 5%.

New sales rep recruiting and productivity showed good positive trends with new contracts increasing by 15% in the third quarter and 37% for the first nine months of this year. And finally, persistency at Colonial Life remains stable in the major product lines relative to year ago results.

Moving to the Individual Disability Closed Block segment, pre-tax earnings were $14.2 million. That's down from $29.4 million in the year ago quarter. Risk results were favorable with the interest adjusted benefit ratio at 89.2% this quarter compared to 92.4% last year, due primarily to lower claim reopens and an improvement in mortality experience.

Our Net investment income was significantly lower this quarter, due primarily to the lower level of assets supporting this runoff block of business. As you recall, in the fourth quarter of last year in conjunction with our securitization transaction, we released excess statutory capital with a resulting decrease in net investment income due to lower asset levels needed to support the allocated capital.

We also received fewer bond call premiums this quarter. Now we'd caution again and that the outlook for miscellaneous net investment income is below its historic trend line, is likely to remain at these lower levels until more normal corporate refinancing and financing activities resume.

The Closed Block segment also was negatively impacted by $4.7 million, due to litigation cost in the quarter.

And finally, our weighted average share count, assuming dilution after the third quarter of '08, was 337.9 million shares. This compares to 360.9 million in the third quarter a year ago and share count as of the end of the third quarter stood at 333.1 million shares.

Our book value per share declined to $20.22 at the end of the third quarter compared to $21.70 at the end of the third quarter a year ago. And when you exclude the net unrealized gains and losses on securities and the net gain on cash flow hedges, book value per common share was $21.46 compared to $20.36 a year ago.

Earnings on a statutory accounting basis remained very healthy, with third quarter 2008 net gain from operations, this is after-tax, was $154.6 million for our traditional U.S. insurance subsidiaries and net income on that basis was also $119.4 million.

Now, I'd like to spend a few minutes on the investment environment and our investment portfolio and the capital and liquidity positions of the company. We think a key factor to keep in mind when you analyze the company's financial position is the nature of our liabilities. Since Unum is primarily an employee benefit and individual disability company, we have very little disintermediation risk. But the vast majority of our in-force block, if a policyholder lapses the policy, they will stop paying us premiums, so we do not owe them any cash value on the policy.

Simply stated, we have very minimal run on the bank risk. It is because of this liability structure, which is different from any other insurance companies you follow, that we have the ability to hold our investments to maturity. Therefore, we are not in a position to have to liquidate investments at inopportune times such as today with these historically wide credit spreads in order to meet policyholder obligations.

Now from an accounting perspective, we classify all of our fixed maturity securities as available for sale instead of held to maturity. This means, they are mark-to-market at each quarter end, with the change in fair value reported in other comprehensive income loss. This subjects the reported fair value of our investments and our accumulated other comprehensive income or loss to volatility from interest rates and corporate spreads at each quarter end.

The bottom line is that liquidity is not an issue for us, and there is virtually no pressure on us to self security at a loss to meet cash needs. At the end of the quarter, we had short-term debt of $275 million. A $125 million of that amount was reverse repurchase agreements which is a form of short-term borrowing. In addition, we had a $150 million of short-term debt and we have the cash on hand to retire the remaining portion of that debt when it comes due in May 2009.

As we reported, the level of unrealized losses in our fixed maturity securities portfolio, increased in the third quarter as corporate bond spreads widened significantly. Just to give you a benchmark, the Lehman investment grade index widened by 146 basis points from June 30 to September 30 and the high yield index widened by 312 basis points, driving much of the rise in unrealized losses.

At quarter-end $12.7 billion of our fixed maturity bonds were in a gross unrealized gain position of almost $1 billon. Here are a few facts concerning the $20.2 billion of fixed maturity bonds that had an unrealized... a gross unrealized loss of $2.6 billion.

First of all, 86% of our unrealized losses were related to investment grade bonds with the unrealized loss position driven primarily by wider spreads. 54% of these bonds have been in an unrealized loss position for less than 12 months, indicating again that the decline in the market value is due to the recent spread widening.

And finally, the increase in spreads was consistent across rating categories, maturities and industries. We basically had a 5% decline in price, which was generally consistent across rating categories, and again this indicates it's a primary driver of the increase and unrealized losses was spread driven and not a result of deterioration in credit quality.

There is also a positive side to the widening of corporate bond spreads we are witnessing and that is a very attractive yield we're seeing on new money purchases. Our new money yields in the third quarter were 6.77% on a hedge adjusted basis compared to 6.44 in the third quarter and 6.58% in first quarter.

In early October, the investment yields were realizing exceeds 7.25%. The average credit rating on these purchases in the third quarter was an A2, so you can see that we have not sacrificed credit quality in order to achieve these higher yields. This has a benefit of stabilizing our portfolio yield, which was a 670 and also improving the net interest margins in our primary product lines, which are already substantially higher than our target margins.

So let me summarize by comparing our current position to the one where we were in during 2002 when the last negative credit cycle occurred. Number one, our below investment grade holdings relative to invested assets were 5.1% so they're basically half the level today than then, giving us flexibility to absorb some downgrades of securities without overly impacting the quality of the portfolio.

Number two, our net interest reserve margins are much wider today, and most product lines are substantially wider than our 50 to 60 basis point margin, and this provides cushion to our reserves if defaults should rise substantially and negatively impact our portfolio yields.

Number three, our statutory earnings power is considerably stronger today at over $600 million on an annual run rate basis. This enables us to replenish capital, should it be impacted by rise in investment losses.

Number four, we are not owners of sub-prime mortgages and therefore have not experienced realized investment losses from those investments.

And five, our capital management metrics are significantly improved. Risk-based capital ratios are over 100 points higher, leverage ratio is about six points lower and our holding company liquidity has swung by over $1 billion, giving us substantial strength and flexibility as we face the challenges of the current market.

Let me conclude with a few comments on the realized investment losses that we recorded in the quarter. As I indicated earlier, our reported net realized investment losses, this excludes the impacts of DIG B36 totaled $64.8 million after-tax, were $97.9 million before-tax.

So on a before-tax basis, write-downs comprised $71.2 million of the total with $27 million of that due to our Lehman holdings and $39.3 million due to an equity-linked note which was purchased in 2000 and tied to the S&P 500. Also on a before-tax basis, net realized investment losses from sales totaled $26.7 million in the third quarter with a primary impact from Lehman at $16.2 million and AIG at $7.8 million.

Our remaining exposures to these credits at September 30th on a book value basis, was Lehman at $3.8 million, with AIG at $58.9 million and the equity-linked note was $43.6 million. And just to update you, in October, we further reduced our exposure to AIG by selling $23.5 million of book value of bonds and we redeemed the equity-linked note into the S&P underlying fund.

We'll be pleased to address any specific question that you have regarding our investment holdings in the Q&A session and with that, I'll turn the call back to Tom.

Thomas R. Watjen - President and Chief Executive Officer

Yes. Thank you, Tommy. Before we go to your questions, let me just make a few concluding comments. Certainly, we... we certainly are not immune to the economy or the swings in the financial markets. But I have to say, I feel very good about where we stand operationally and financially. Our strategy today is founded on a disciplined profitable growth with greater diversification and a sharp focus on risk management throughout the organization, which has served us well these past few years and enables us to operate more effectively in the current challenging environment.

Our investment portfolio is well positioned with historically low levels of high yield bonds and minimal exposure to the asset classes that are impacting the financial system today. While unrealized losses in the portfolio are higher, due primarily to widening spread, we are not need to sell investments to meet policyholder obligations and we're using this environment to enhance our portfolio and interest reserve margins.

And our balance sheet is solid and our financial flexibility is strong, with strong RBC, leverage and holding company liquidity comfortably ahead of our targets and so again we feel very good about the financial foundation right now.

Now finally, with respect to guidance, we indicated in our pre-release that we are comfortable towards the upper end of our previous guidance of $2.46 per share to $2.51 per share in operating earnings. And in the fourth quarter, we expect to see a continuation of the generally strong risk results we've seen the past quarters, but also lower miscellaneous net investment income similar to our experience in the first quarter of this year and the third quarters as we reported, and certainly also further pressure from the decline in the value of the British pound.

We also expect somewhat elevated cost particularly within our UK business as we seek to position our business to maintain strong profitability in 2009. I'll update you further on our outlook including our 2009 outlook at the investor day meeting on November 11.

At this time operator, we're ready to begin the question-and-answer session.

Question And Answer

Operator

Thank you. [Operator Instructions]. We'll take our first question from Colin Devine with Citigroup.

Colin Devine - Citigroup

Good morning, gentlemen.

Thomas R. Watjen - President and Chief Executive Officer

Good morning Colin.

Colin Devine - Citigroup

Two questions. One, if you can comment or perhaps Kevin is available to comment on renewal and pricing trends for the U.S. business. And then secondly, perhaps for Randy, it seems to me that Colonial is doing okay. It seems to be, I think a little bit behind plan from perhaps where we expected it last year at the investor meeting and I don't think that's just the economy, is it more the strategy struggling a little bit or is it just a real economic change?

Thomas R. Watjen - President and Chief Executive Officer

Good. Let me... Kevin, why don't you take that first one in terms of renewals and pricing?

Kevin P. McCarthy - President, Unum U.S.

Good morning, Colin.

Colin Devine - Citigroup

Hey, Kevin.

Kevin P. McCarthy - President, Unum U.S.

New business pricing is basically pretty stable. We are prepared to adjust rates going forward, if we see an uptick in incidence in claim activity, but we haven't seen that yet. And most of our first quarter 2009 rules are out. Our rate increases are relatively modest, more modest than in prior years around 3% or so, in comparison to as you know, in prior years we had much more significant rate increases. And our renewal program itself is also a bit smaller in 2009 because we've gone through most of that work during 2005, 2006 or 2007 and 2008. So unless we see an economic shift, I expect pretty stable pricing.

Colin Devine - Citigroup

This rising investment rates gave you some room of pricing then is that also what we are seeing, you don't have to put rates up as much?

Kevin P. McCarthy - President, Unum U.S.

We haven't made any shift in instead of our interest rate assumptions and our pricing. Certainly, at higher yields, you'd have that flexibility to consider, but that's not what we're doing at the moment.

Colin Devine - Citigroup

Okay. Thanks.

Thomas R. Watjen - President and Chief Executive Officer

Good. Randy, maybe if I can ask you to answer... address that Colin's questions about the strategies. But I would say again I think as we try to position all the businesses, try to get the focus primarily in the small and mid-sized marketplace, I think Randy has been some good successes with that probably the places where some of the comparisons are little more challenging as we look at the large-case private business. But let me ask you to sort of speak the strategy, but also just what you are seeing in the current environment right now?

Randall C. Randy Horn - President and Chief Executive Officer, Colonial Life

Yes, Sure.

Colin Devine - Citigroup

And Randy if you could also on recruiting trends?

Randall C. Randy Horn - President and Chief Executive Officer, Colonial Life

Yes, I will comment on that that as well. Yes, Tom said strategically, we remain focused on our target markets, which is really the core commercial account below 500 employees with specific focus on less than 100 employee cases and on the public sector market. From an economic standpoint, we don't see anything overly concerning right now, Colin. In September, we saw little pressure on new business and existing cases and this is a especially still on the public sector side of it. But as we look at the general metrics of penetration in new accounts, number of policies per payer, premium per payer that type of things, those metrics all continue to be very stable.

As Tom pointed out earlier, we had very strong growth in the quarter in our new agent recruiting and those trends continue to look very good for the year. Strong new account growth and new account premium was very strong in the quarter. Key metric we follow is average weekly producers and that was up over 6% for the quarter. But as Tom White mentioned, this all tends to be on smaller size cases on average, than we've seen in the past. So overall strategically we are going to stay focused on those key target markets. The economic environment does create some headwinds for sales, but we are getting true of with high activity levels again in those target markets. But the basics of foundation building, recruiting, productivity on new agents all of that continues to look very strong, Colin.

Colin Devine - Citigroup

Randy, thank, you very much.

Randall C. Randy Horn - President and Chief Executive Officer, Colonial Life

Yes.

Operator

We will go next to Mark Hughes with SunTrust.

Mark Hughes - SunTrust Robinson Humphrey

Hi, thank you very much. It sounds like you are doing quite well on claims trend. Have you heard any uptick in incidence level at perhaps other insurers who have not been as careful in terms of the underwriting or focusing on small case or is there something different about this downturn?

Thomas R. Watjen - President and Chief Executive Officer

Kevin, you want to take that one from Mark.

Kevin P. McCarthy - President, Unum U.S.

Yes. Good morning, Mark. To tell you the truth, I haven't really heard much from other carriers either, I think we have seen some mild increase in renewal activity from other carriers in comparison to prior years, but not much yet in terms of incidence impact. Sometimes incidence lags in economic downturn. So we're still being pretty cautious watching and monitoring it in every industry sectors, side sector and being prepared as I said to Colin to act on increasing our renewals if we have to.

Mark Hughes - SunTrust Robinson Humphrey

And in terms of new sales, does it if any of your competitors backed away from the market perhaps, is that going to benefit for you or is your greater activity what's driving the new sales?

Kevin P. McCarthy - President, Unum U.S.

Yes. I haven't seen really too much of a significant shift in the market place. We're pretty happy with where we are. As I said, our pricing stays stable, our closing ratios are stable, activity is up 13%, and I think that's primarily what's driving our sales volumes.

Mark Hughes - SunTrust Robinson Humphrey

Thank you.

Kevin P. McCarthy - President, Unum U.S.

Thanks, Mark.

Operator

We will go next to Darin Arita with Deutsche Banc.

Darin Arita - Deutsche Banc North America

Good morning.

Thomas R. Watjen - President and Chief Executive Officer

Good morning Darin.

Darin Arita - Deutsche Banc North America

I was wondering Kevin, if you could provide a little more color here on the competitive trends in the U.S. I know you touched a little bit on it, but also how do you expect those trends to change as the economy weakens?

Kevin P. McCarthy - President, Unum U.S.

Good morning, Darin. At least strategically for us, I mean we've ramped up our sales activity, we've ramped up our focus on voluntary sales and package sales, we rolled out our Simply Unum platform now pretty much everywhere in the United States. And although it's early with our Simply Unum initiatives, the trends there... early trends look pretty strong for us. And I think over the course of the next year, if we continue to see economic pressure, you might see companies that are well positioned in the smaller and mid-sized markets having maybe a little bit easier time than companies in the large case marketplace, and I'd expect to see a lot of packaging of products for efficiency, so maybe more packaging of Life, STD, LTD and voluntary benefits together. And that's what we have been positioning ourselves to do anyway with the build out of our Simply Unum platform and enrollment capabilities.

Darin Arita - Deutsche Banc North America

Okay. And what are your thoughts about additional price increases and changes in risk appetite with the backdrop of risk your credit and economic environment?

Kevin P. McCarthy - President, Unum U.S.

Well, with respect to Unum U.S., our renewal program as I said is always pretty modest so far, we are tracking incidence and recovery patterns and job loss patterns and those kinds of things in every industry, sector and side sector.

We're prepared to shift business mix as we have to and we continually do that anyway, about 70% of our business is sold in our target markets and we continually adjust those target markets based on the economic analysis. I think in general, we are prepared to sort of make necessary adjustments in pricing and target market focus and even line of businesses focus and also to mitigate any uptick in incidence which would primarily affect their long-term disability model.

Darin Arita - Deutsche Banc North America

Thank you.

Thomas R. Watjen - President and Chief Executive Officer

Thank you, Darin.

Operator

[Operator Instructions]. We will take our next question from Mark Finkelstein with FPK.

Mark Finkelstein - Fox-Pitt Cochran Caronia

Good morning.

Thomas R. Watjen - President and Chief Executive Officer

Good morning Mark.

Mark Finkelstein - Fox-Pitt Cochran Caronia

You talked about taking advantage of the market and wider spreads. Can you just talk about where exactly you're focusing new money and maybe just a comparison of kind of credit quality of what you are buying now versus the overall portfolio?

Thomas R. Watjen - President and Chief Executive Officer

Yes. Tom, why don't you expand on that?

Thomas A. H. White - Investor Relations

Sure Mark. I think the general trend, I know the general trend has been actually a little bit an upgrade in the quality of what we are buying. The average quality in the bond portfolio was an A2. And I would say that over the last couple of months and certainly in October, it had touched higher than that. There are lot of examples where we purchased some high A and even low AA credits at very attractive spreads. We participated in an IBM bond offering, close to an 8% yield. I think that's an A plus credit, an A1 credit. PepsiCo at 400 basis points spread, under credit AA credit at 380 off. So we haven't had the stretch to pick up any yield. It's just the extraordinarily wide spread that we're seeing. So it's no give up in quality and improvement in yield while actually at the Investor Day we'll give you the statistics on what we saw in October. But it was clearly a wider spread on the purchases we were making in the month of October.

Mark Finkelstein - Fox-Pitt Cochran Caronia

Okay. The litigation costs in the closed block, are those costs done or will we see more in the fourth quarter, maybe just a little bit of up in nature of that claim?

Thomas A. H. White - Investor Relations

There is nothing that we're seeing in the fourth quarter at this point and the cost that we saw in the third quarter related to a claim case in older individual visibility case, where there was a damage award against the company. We do hold a litigation reserve, but this was extensive in the quarter again was $4.7 million. I'd say our... underlying that if you look at the kind of the general trend of litigation, the claim related to litigation, it is down... it has been down for the last handful of years, and it's probably running somewhere between a quarter and a third of what we were seeing back in kind of the 2001, 2002 timeframes.

So, these things we'll get every once in a while. Every four, five quarters there seems to be one that occurs. I'd say, there are much, much less frequent today because of the claims process, as opposed to several years ago. But again, this one kind of dates back to earlier in the decade.

Mark Finkelstein - Fox-Pitt Cochran Caronia

Okay. Then I guess this is a question for Kevin. Persistency is obviously at much higher in the core than it is the larger cases and that trend obviously continued in the third quarter. I'm just curious if what is the actual kind of trend in the large cases that you are losing if there is one, is it occupation based, is it renewal pricing increase based or is there any kind of overall trend that you are seeing that you can kind of characterize the lapsed large cases?

Kevin P. McCarthy - President, Unum U.S.

Yes, maybe two. In life, it tends to be really price-based and that's not too different than it's ever been. In long-term disability, I think also to some extend, although much less now that we still have gone through that block aggressively over the last several years, lapse rates are considerably down in LTD versus where they were few years ago.

In STD, that business had some sensitivity to companies going and forth between whether they want to be fully insured or self insured and sometimes that drives some of the effect. So it varies, but I don't see any significant change in trend.

Mark Finkelstein - Fox-Pitt Cochran Caronia

Okay, great. Thank you.

Thomas R. Watjen - President and Chief Executive Officer

Thank you, Mark.

Operator

We'll go next to Jeff Schuman with KBW.

Jeff Schuman - Keefe, Bruyette & Woods, Inc.

Good morning.

Thomas R. Watjen - President and Chief Executive Officer

Good morning, Jeff.

Jeff Schuman - Keefe, Bruyette & Woods, Inc.

How are you?

Thomas R. Watjen - President and Chief Executive Officer

Fine thanks. How are you?

Jeff Schuman - Keefe, Bruyette & Woods, Inc.

Okay. I wanted to ask about a couple of things may be related or maybe they are not related. But I am thinking about your renewal pricing and what you said is that you are seeking pretty modest increases at this point, based on the fact that claims incidence trends have not yet increased. But just kind of thinking about the timeness required I guess to achieve pricing, I mean did you see softness in the economy in different results in '09 than I guess 2010 renewals then ways of particularly which consider multi-year rate guarantees in some cases. And I guess I am wondering whether might be can options consider more conservative approach is towards new business depend may be source growth and allocate capital in different directions, I mean I would think at this point there are market participants that are really desperate for capital solutions. I mean is this kind of an extraordinary opportunity maybe to source growth through reinsurance or other transactions as opposed to just writing new business that kind of current market returns.

Thomas R. Watjen - President and Chief Executive Officer

Jeff, let me set the tone and then we'll ask Kevin to speak to the pricing cycles. You're right, there is sort of a couple of things that are embedded in your question. Certainly, one aspect of it is that we sort of complete... I think we don't want to bank on it, but we probably are going to see some instability in the marketplace for the products and services we sell. And that was to my point earlier about the fact that we are committed to the businesses that we are in. And therefore with that commitment we are going to see opportunities in this environment we may not otherwise see. That's not... as opportunities in the market to do business on a case, that's also potentially may be even acquisitions of blocks of business that may come along.

So we want to be prepared to look at those, but we don't have to do anything. We can continue very much follow the path that we're following. So I want to assure the group that there is a high discipline factor if we see things to come our way that come because of the environment we're in. So we are going to continue to be in the flow there to look at things like which you are referring to. My guess is we are going to say no many more times than we say yes as we see those kinds of opportunities. The other part of it, Kevin is in the pricing of business today. I think to a degree, there is a caution is embedded in how people are thinking of underwriting and pricing, even though we haven't necessarily seen tangible evidence of any incidence changes per se.

Kevin P. McCarthy - President, Unum U.S.

Right. Good morning, Jeff. Well, new business pricing is up modestly and we continue to as I said earlier to look at that sort of not just in the aggregate, by industry by industry. And that will continue to be pretty I think pretty conservative on our pricing that you look at our comparisons to JAJ Media data for example, offering in for life significantly higher than the market, in effect our new business premium for that was up 5% where as the market was down 6%. So I think we've got that spread as wide as we can make it relative to competitors and still stay on track with growth goals.

In terms of other areas of focus though, we tend to think about price increases primarily related to the disability line and if you think about our sales mix, we are considerably different and continue to move in that direction much more core sales versus large case sales of course, but also supplemental benefits of 50% of our sales map. And that's not really sort of in that same ballpark of economically sensitive at least on the risk side.

Jeff Schuman - Keefe, Bruyette & Woods, Inc.

That's great. Can you remind me what is the typical duration of the rate guarantee in your core market for disability today?

Kevin P. McCarthy - President, Unum U.S.

That will be two to three years or I'll say our weighted average is probably 2.5.

Jeff Schuman - Keefe, Bruyette & Woods, Inc.

Okay, thanks.

Thomas R. Watjen - President and Chief Executive Officer

Okay. Thanks Jeff.

Operator

We will go next to Randy Binner with FBR Capital Markets.

Randy Binner - Friedman, Billings, Ramsey & CO.

Hi thank you. I think these questions more for Kevin, you kind a covered it before, but there has been a lot to talk about not seeing higher incidence yet. But I think one of you large competitors did see more issues with recoveries this quarter. So I just I want to get kind of more clarity on it, if you've seen that in the market, more difficult to get in folks back to work.

Kevin P. McCarthy - President, Unum U.S.

Not yet, we haven't in fact, we have pretty strong recoveries and we have had consistently strong recoveries over the last seven, eight quarters, and we didn't really see any shift in that in the third quarter either. Recoveries remain rock solid. I think if we got a prolonged period of high unemployment rates and job loss, it does sometimes get harder to get people back to work. And in a sustained difficult employment environment, you might see a flattening of recoveries and maybe even a reversal, not able to get as many of them but we haven't seen that yet.

Randy Binner - Friedman, Billings, Ramsey & CO.

Okay. And from your experience, will you ever happen that recoveries would just jump to the forefront in the loss process and you wouldn't see the incidence rise first or would that... is that just an inevitable relationship, incidence first and then slower recoveries later?

Kevin P. McCarthy - President, Unum U.S.

I think, generally speaking, we seen incidence changes before we saw recovery changes.

Randy Binner - Friedman, Billings, Ramsey & CO.

Okay. Fair enough. And this, on litigation front, just a question about, obviously the litigation trend has been down in the last few years and that could be because of a favorable economy in various reforms and legal system. I'd just be interested to get little bit more color on if you think there is increased litigation risk in a softer economic environment or if that would be overcome by reforms that the system has seen, in just in general across United States? Thanks.

Kevin P. McCarthy - President, Unum U.S.

I don't know that we've seen a relationship between economic trends and litigation trends. But our claim related litigation is, as I said is down very significantly from where it was and it really tracks the changes and improvements in the quality of the claims management process that we put in place.

Now as I said... we are subjected to decisions like what we had this quarter. I would say one of the benefits that we have seen is with some of the Supreme Court rulings on limiting the punitive damage awards to a single multiple of the actual damages in the case, certainly protect us against some of these wild jury decisions that you can see in certain situations. So we don't see those, but we're going to have as I said, one of these every handful of quarters that's kind of the nature of the business.

But, again the underlying trends are down significantly and that reflects more of the claims management process. You're having coming out of the regulatory reviews and make changes to our process. We can say without hesitation that our claims management process has been scrubbed and reviewed and blessed by the 50 state insurance departments. So we manage claims exactly the way they expect them to be managed.

Randy Binner - Friedman, Billings, Ramsey & CO.

Great. Thank you.

Thomas R. Watjen - President and Chief Executive Officer

Good. Thanks, Randy.

Operator

And we have no further questions in the queue, I'd like to turn the conference back to Mr. Tom Watjen.

Thomas R. Watjen - President and Chief Executive Officer

Well thank you operator and thank you all again for taking the time and joining us on the call. We look forward to seeing many of you at our Investor Day meeting on November 11th in New York and again, this will complete our third quarter 2008 earnings call.

Operator

Again that does conclude today's presentation. We thank you for your participation and you may now disconnect. .

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Source: UnumProvident Corp. Q3 2008 Earnings Conference Call Transcript
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