Symetra Financial's CEO Discusses Q3 2013 Results - Earnings Call Transcript

Oct.24.13 | About: Symetra Financial (SYA)

Symetra Financial Corporation (NYSE:SYA)

Q3 2013 Earnings Conference Call

October 24, 2013 10:00 AM ET

Executives

Jim Pirak – Senior Vice President, Investor Relations

Thomas M. Marra – President and Chief Executive Officer

Margaret A. Meister – Executive Vice President and Chief Financial Officer

Michael W. Fry – Executive Vice President-Benefits Division

Daniel R. Guilbert – Executive Vice President-Retirement Division

Analysts

Jimmy S. Bhullar – JPMorgan Securities LLC

Humphrey A. Lee – UBS Securities LLC

Seth M. Weiss – Bank of America Merrill Lynch

Christopher A. Giovanni – Goldman Sachs & Co.

John M. Nadel – Sterne, Agee & Leach, Inc.

Operator

Good day, ladies and gentlemen, and welcome to the Third Quarter Symetra Financial Corporation Earnings Conference Call. My name is Caroline and I am your operator for today. At this time, all participants are on listen-only mode. We will conduct a question-and-answer session towards the end of the conference. (Operator Instructions) As a reminder, the call is being recorded for replay purposes.

And now, I’d like to turn the call over to Mr. Jim Pirak, Senior Vice President, Investor Relations. Please go ahead, Jim.

Jim Pirak

Thank you. Good morning and welcome to Symetra Financial Corporation’s review of third quarter 2013 results. Before we begin, I’d like to call your attention to the Safe Harbor statement on Slide 2 of the presentation materials, which are posted on Symetra’s website. Some of the information discussed on the call is based upon information as of today and contains forward-looking statements that involve risk and uncertainty, to the extent that any comments on the call are forward-looking statements, they are qualified by the Risk Factors in Symetra’s public filings, including the press release issued yesterday.

During this call, we will discuss GAAP and non-GAAP financial measures. Reconciliations between the two are available in yesterday’s earnings press release and financial supplement, which are posted on Symetra’s website. On the call today, you will hear from President and CEO, Tom Marra; and Executive Vice President and CFO, Margaret Meister. Michael Fry from the Benefits Division and Dan Guilbert from the Retirement Division would join in the Q&A discussion.

Now, I’ll turn it over to Tom.

Thomas M. Marra

Okay. Thank you, Jim, and good morning, everyone. On the call this morning, I’ll review the results for the third quarter and discuss our priorities for the remainder of the year, then Margaret will walk you through the segment results and then we’ll take your questions. We plan to issue our outlook for 2014, when we release fourth quarter results or early next year, so we’ll largely defer discussion about 2014 until then.

Starting on Slide 3, we have a summary of earnings drivers for the third quarter and our current areas of focus. We reported another solid quarter earnings with strong sales results in our Retirement and Individual Life divisions. Beginning with a review of the key drivers for the quarter; first, we maintained solid interest spreads on deferred annuity balances and stable spreads on income annuities. We continue to deploy strict asset-liability matching and an investment strategy that includes our in-house commercial mortgage loan operation. This continues to perform very well and provides significant yield advantage over other fixed rate investments.

Second, as expected, the benefits loss ratio remained elevated relative to both the same quarter of last year and our target range, though we are pleased with pricing achieved on stop loss business written in the second and third quarters of 2013. Third, I’m very pleased with our sales results in deferred annuities and in individual life. We held the momentum in our bank sold fixed indexed annuities, reaching sales of $448 million in the third quarter. Our indexed annuity account values now exceed $1.3 billion, which is up over $1 billion from just a year ago.

We attribute our success in part to the rise in interest rates during the quarter, but primarily to our strong and expanding position in the bank distribution channel. These same factors drove a nice pickup in traditional fixed annuities, where we posted sales of $292 million, our best quarter since the fourth quarter of 2011. I’m also pleased to report that we achieved another quarter of sequential growth in the individual life sales, and this quarter marked our fourth quarter of sequential growth in sales of UL. We are starting to see the results of our efforts to add new BGAs and expand distribution within the original BGA partnerships. And finally, third quarter was the first period to reflect the full benefit of the significant capital actions we took during the first half of the year.

Turning now to our areas of focus. First, we continue to expect the benefits loss ratio to remain above our target range of 63% to 65% for the remainder of the year. As I said, we’ve been able to achieve our pricing targets on the new and renewal business written during the past six months and we will continue to maintain this discipline here in the fourth quarter. However, consistent with our results through the third quarter, we do expect the full range of 2013 loss ratio will be a couple of points above the target range.

Importantly, however, we do expect the loss ratio for medical stop-loss to be back in the target range for 2014. The market for medical stop-loss remains competitive with the dual pressures of heightened engagement from other carriers and our own focus on bringing the loss ratio back in line. As such, we expect revenue growth to be limited in the near-term. The second priority, in this current interest rate environment, we expect to continue to drive strong sales of fixed and fixed indexed annuities sold through our bank and broker-dealer distribution. We have a large capacity for additional sales of fixed and indexed annuities and we really like the business we are writing. These new sales targets meet our return targets and therefore deploy that bolsters ROE expansion.

Third, we will continue to drive our steady drive – we will continue our drive for steady improvement in individual life sales. I believe we are really on track for delivering more quarters of sequential growth in universal life sold through BGAs, and a rise in interest rates is allowing us to bring back single-premium life for our bank distribution. I am pleased to say that we are re-launching SPL in the fourth quarter. You will recall that we had to deemphasize this product in mid 2012, because it didn’t meet our profitability hurdle in the extremely low interest rate environment. But given the resurge in interest rates, we are pleased to report that we are going to re-launch the product in the fourth quarter.

Fourth, we need to accelerate growth in our group life and disability income unit. Sales and revenues in group life and DI are outlying our expectations, and while traction has taken longer than planned, we have our infrastructure in place and we expect to drive meaningful improvement in sales beginning with the January 2014 business. Finally, we are committed to driving our ROE improvement and we expect to do this overtime through profitable growth supplemented by some capital actions.

Now to Slide 4, we have our consolidated results for the fourth quarter. Net income was $45 million, down from $55 million in the third quarter 2012, as a result of net realized investment losses. Adjusted operating income is $49 million, which is up from $46 million in third quarter 2012, and operating return on average equity for the 12 months ended September 30, was 8.1%, which compares to 9.5% for the same period last year.

So now, I’ll turn it to Margaret, she’ll have more to say about the business segment results, and then we’ll both come back and we’ll open it up for questions.

Margaret A. Meister

Thank you, Tom, and good morning, everyone. We posted a solid third quarter led by improved earnings in individual life from a year ago and stable deferred annuity results. Before getting into the business segment results, I’ll open with a few comments on some overarching topics for the quarter. Prepayment income net of related amortization expense contributed $13.2 million of pretax operating income in the third quarter, compared with $4.2 million in the third quarter of 2012. It is important to note that we unlocked the related DAC and DSI balances in the same period that we received significant bond prepayment fee income.

During the quarter, we conducted our annual review of assumptions and recorded total unlocking charges of $2.3 million, compared with $3.9 million in 2012. This year’s unlocking included a $3.5 million charge in deferred annuities and a $1.2 million favorable adjustment in individual life. Operating expenses associated with group life and disability build out drove Benefits segment expenses up year-over-year as expected. Operating expenses in the deferred annuities segment rose in the third quarter as a result of accelerated sales volumes. It was our stated goal to hold full year 2013 operating expense flat with 2012, and through the first half of the year, we were on track.

Given the improved interest rate environment and the associated very strong annuity sales, we are seeing and expect continued higher than planned sales related operating expenses. Of course, we welcome the improved sales environment and we are working hard to only add expense as sales incur. Mortality was less favorable in the third quarter than in the same period last year, including lower mortality gains in income annuities and somewhat higher than expected BOLI claims in the end of the July segment. Mortality experienced in traditional individual life was inline with our expectations.

Other segment results improved by $6.7 million due to lower tax credit amortization, better return on our private equity investments and no special M&A related expenses. The effective income tax rate was 14.8% lower than last year due to increased benefits from additional tax credit investments throughout 2013. This strategy has worked very well for us and we are pleased with the returns on these investments. We now expect the full year effective tax rate to be in line with the year-to-date results of approximately 18%.

We ended third quarter with an estimated risk-based capital ratio of 474%, which is down 6 points from where we were at the end of the second quarter, reflecting the use of capital to support robust annuity sales. We are very pleased with the results of our capital actions in the first half of the 2013, which exceeded our plan for the full year. We did not buy any shares in the third quarter and we only expect to be opportunistic buyers of our shares in the fourth quarter. We fully appreciate the benefits of share repurchases, but our first priority continues to be putting excess capital to work in support of business growth. We are seizing that opportunity now with strong sales in this more favorable interest rate environment. We will provide a further update on our 2014 plans for capital deployment with our outlook call.

Turning now to the business segment results, I’ll begin with Benefits on Slide 5. Pre-tax operating income was $15.2 million, down $1.5 million from a year ago, driven by a higher loss ratio of 67.3% versus 65.5%. Very importantly, we feel good about the pricing achieved on the business we wrote in the third quarter and we continue to price new and renewal business in the fourth quarter with discipline in an increasingly competitive environment.

Moving to deferred annuities on Slide 6. Earnings of $23.9 million were essentially unchanged from the third quarter of 2012. Prepayments contributed $7.4 million net of amortization, compared with $2.6 million in the same period last year. The current quarter earnings contribution from fixed and fixed indexed annuities reflects the strain of rapid growth. There is a lag between the period of sale and the first contribution to earnings. This lag is created by non-deferrable acquisition costs and some initial cash drag as we get the new money suitably invested. So the new business of 2013 has not yet hit a stride from an earnings perspective. We expect the profitability of new volumes to quickly ramp up.

The base interest spread, which excludes the impact of the prepayments remain solid and consistent with our internal return targets. The spread did take down six basis points from the third quarter of 2012 due primarily to higher sales of products with lower spreads required and the impact of the reinvestment at lower yields. The reinvestment impact is offset by our discipline of unlocking as we experienced prepayments. The growth in sales significantly improved the net cash flows in our deferred annuities, increasing to $504 million from $170 million in the second quarter and from $72 million or negative $72 million in the third quarter of 2012.

Turing to income annuities on Slide 7. Operating income of $7.1 million was down $1.5 million from a year ago in part due to lower mortality gains. We continue to manage the downward pressure on interest spreads, aided by our investment in commercial mortgage loan origination.

In the third quarter, we funded loans at spreads’ over treasuries of 270 basis points and the performance in this portfolio remains very good. As discussed in prior calls, we use equities to support the long-duration portion of the income annuities book of business.

Based on internal asset liability analysis, we decided to increase the equity portfolio by about $50 million in the first part of the 2013. We are giving up investment income operating earnings in exchange for non-operating net realized investment gains and losses and better AOLs.

Finishing with the individual life segment on Slide 8. Operating income of $15.8 million was $2 million higher than in the third quarter of 2012. Prepayments contributed $3.4 million net of amortization compared with 700,000 in the same period last year and the favorable unlocking adjustment reflected the benefit of better than anticipated investment yields.

With that, I’ll turn the call back to Tom.

Thomas M. Marra

Okay. Thank you, Margaret. So turning to Slide 9, let met summarize our gain plan for the fourth quarter. First, we remain committed to our financial and underwriting discipline. Second, Symetra is well positioned to succeed in a rising rate environment and we’ll act quickly to take advantage of changing market opportunities. We’ve obviously demonstrated that through our recent annuity sales growth.

Of course, we also need to remain focused on our core franchise businesses. We have established strengths and demonstrated success in medical stop-loss and banks all fixed and indexed annuities, while we’re also building our current strengths to expand in individual life and in group life and disability income. And finally, we expect that by achieving these strategic priorities, we will drive substantial ROAE improvement over time.

Okay, thank you. And Caroline, let’s open it up for questions, please.

Question-and-Answer Session

Operator

Okay, thank you. (Operator Instructions) Please stand-by for our first question. And that comes from the line of Jimmy Bhullar from JPMorgan. Please go ahead.

Jimmy S. Bhullar – JPMorgan Securities LLC

Hi, good morning. I have a couple questions. The first one on buybacks, maybe if you could go into a little bit more detail on why you did not buy back stock in the third quarter. And then Margaret mentioned, you’d be opportunistic in the fourth quarter; not sure what opportunistic means. Is it opportunistic on price or opportunistic on something else? And then secondly, on deferred annuity sales, obviously, very strong this quarter and Tom, your commentary was fairly positive as well. I was wondering to what extent, your sales benefitted from the rise in interest rates during the quarter, which are sort of reversed since then, or was it more – is it more distribution expense and that’s making you more positive on the outlook for that business?

Thomas M. Marra

So let me thanks Jimmy let me ask Dan to comment on the annuities and then Margaret, I’ll give it to Margaret on the capital.

Jimmy S. Bhullar – JPMorgan Securities LLC

Sure.

Daniel R. Guilbert

Good morning, Jimmy, this is Dan. In terms of the deferred annuity sales, as you mentioned here, we did definitely benefit from the rising rates. but I would say both parts are almost equally important. The execution we’ve had is shelf space expansion and then going deeper in the banks we do have presence already. So both really matter and both contributed towards the nice increase in record quarter.

And as we look forward obviously, rates are down although they’re still higher than where they were a few months ago. so at this point, we expect to maintain a similar pace, obviously, what we see what happens during the quarter in terms of addition rate moves and obviously, competition as well.

Jimmy S. Bhullar – JPMorgan Securities LLC

Okay.

Margaret A. Meister

All right, Jimmy, thanks. So with regard to the activity on the share repurchase in the third quarter, we were under a 10b5-1 plan for the whole quarter and where we’ve struck our pricing point. We just didn’t find opportunities. And with regard to what we expect in the fourth quarter, we would be opportunistic on price.

Jimmy S. Bhullar – JPMorgan Securities LLC

And then just one more on medical stop-loss, could you talk about longer-term two, three, four years out with the healthcare reform going on? Does that present an opportunity for the business or is it a potential threat, as potentially the market shrinks, what’s your view on that longer-term?

Michael W. Fry

Hey Jimmy, this is Michael Fry, thanks for your question. We actually do look at that as an opportunity for us. Some of the core reasons for self-funding, employee benefits continued to be out there, in terms of it being a cost effective solution from employers, for employers, actually our core volumes are for new business are actually up for January of this year over last year, because there is continuing to be interest in self-funding. So we’re feeling pretty good about it.

Jimmy S. Bhullar – JPMorgan Securities LLC

Thank you.

Thomas M. Marra

Thanks, Jimmy.

Operator

Thank you. the next question we have from the line of Humphrey Lee from UBS. Please proceed.

Humphrey A. Lee – UBS Securities LLC

Good morning, everybody. So kind of take you back on the fixed indexed annuity, definitely a strong quarter. Looking at the third quarter sales, just kind of annualized sales closer to $3 billion, is it a good indication for the capacity of the current infrastructure or can you still grow bigger as you would kind of expand your 2%.

Michael W. Fry

Yeah. we can get bigger, most of the increased expenses were in distribution, obviously, we have people for contract setup, but I think we’re in a good shape Dan, what’s your view on that?

Daniel R. Guilbert

Yeah, good morning, Humphrey, I agree with Tom. We are set up for expansion. We have capacity in terms of our infrastructure and as Tom said, most of the additional expenses we incurred were distribution related. so we can maintain this pace from an infrastructure perspective and I think we’re positioned well from a distribution perspective to do so.

Humphrey A. Lee – UBS Securities LLC

Okay. So then looking from your – looking at your earnings mix, so it seems that you would choose the deferred annuities in recent quarters with roughly 42% of your 50%, year-to-date pretax earnings coming from this payment. So given the fast growth in deferred annuities also relative to the other payments, and also the way is going to be prepayment income tax distributed more concentrated in deferred annuity. It feels like the concentration would continue in the near-term. Are you comfortable with the current business mix, since your longer-term target in terms of...

Michael W. Fry

Well, we need to diversify that’s why we’re really jamming up the individual life and group life and disability to provide the bookings, but I am not going to slow down this business particularly with the indexed annuity, which – it does have an equity component, it also has a market value adjustment, so it’s got a lot of really good liability characteristics to it. So by no means would we – and we are getting our margin, so we are not going to slow that down in very short-term that we end up more concentrated in annuities, then, I think, that’s good for us and it puts competitive, internal competitive pressure for the other things to keep pace with the winning story we have with indexed annuities.

Humphrey A. Lee – UBS Securities LLC

Okay. Got it. Just one last question, on the loss ratio in Benefits, with the ongoing repricing in second quarter and third quarter and then the kind of the bigger chunk of it coming into renewal, when do you expect the loss ratio to return to a targeted 63% to 65% range?

Michael W. Fry

Hi, Humphrey, this is Michael. As we’ve said on prior calls, the loss ratio does bounce around from quarter-to-quarter. So we’re not going to predict the loss ratio by quarter, but having said that, we’re, as Tom and Margaret both said, we’re really happy with our pricing actions in the second and third quarter. We are right in the middle of repricing our business for January, that’s renewing in January, and I feel really good that that process is on track. So I feel very comfortable saying that we will see loss ratio improvement in 2014 on this business.

Humphrey A. Lee – UBS Securities LLC

When we should expect kind of on a full year basis getting back to that, let’s say, upper end of that range or kind of trending towards that range – towards the latter half of the year?

Michael W. Fry

I’d say probably the upper end of the range would be good in 2014.

Humphrey A. Lee – UBS Securities LLC

Okay. All right. Got it thanks.

Operator

Thank you. The next question we have comes from the line of Seth Weiss from Bank of America Merrill Lynch. Please go ahead.

Seth M. Weiss – Bank of America Merrill Lynch

Hi, good morning. Thanks a lot. Questions around the fixed indexed annuity products and just a profitability of them. Is the profitability profile any different from the traditional fixed annuities or would you classify yourself as more agnostic between sales of one product versus the other?

Daniel R. Guilbert

Good morning, Seth. This is Dan. Our pricing targets in terms of ROE are the same. What’s different is the margin required given that this product is less risked and less capital. So the margins we speak about for indexed annuities are inherently, they need – they are lower, because we don’t need as much as the same ROE target and so that’s how I would think about it. And the profitability over the long-term, we still have our overall targets of 12% or higher ROE.

Unidentified Company Representative

So, we are relatively agnostic, but I’d given slide node to the index given the market value adjustment. Do you agree with that Dan?

Daniel R. Guilbert

Yes. In terms of risk characteristics, that’s true, in terms of earnings profile, the both.

Unidentified Company Representative

Yes. We like them both and but it’s – I think it’s extra good that the indexed annuity has come from nothing, really exploded to be the big part of our business in our current quarter and we – so now we have two – with other things alike, within the market, we had two products, both of which are viewed attractive by the bank and the independent broker-dealer marketplace and that’s a good place to be.

Seth M. Weiss – Bank of America Merrill Lynch

Okay. Great. And is it fair to say for fixed indexed annuities, I’m just wondering, if I’m thinking about this right, I would think it would be less sensitivity to movement in interest rates, perhaps more resilient if you see any kind of drop in interest rates because of the indexed component to it, is that a fair way to classify the FIA product versus the traditional product?

Unidentified Company Representative

Yes. In terms of sales expectations or what not?

Seth M. Weiss – Bank of America Merrill Lynch

In terms of sales, yes.

Unidentified Company Representative

Yes. Yes, that’s true. Generally speaking, the index possibly a little bit more resilient, because you do have, as Tom said, the equity piece where you can invest and get some of the equity upside, still no risk on the downside. And so all things held equal, it will be a little bit more resilient than pure fixed annuities.

Seth M. Weiss – Bank of America Merrill Lynch

Okay, but still pretty sensitive to interest rates in terms of sales, right?

Unidentified Company Representative

It’s sensitive, because the underlying ingredients are similar, so still sensitive, but less so than traditional fixed annuities.

Seth M. Weiss – Bank of America Merrill Lynch

Okay, that’s helpful. And then just one more question, Margaret, I think you mentioned that there was still cash to be put to work from the strong deferred annuity sales. Is there anyway you could help us think about how much of a drag that may have been on the investment yields in the quarter versus what you would consider more normalized?

Margaret A. Meister

Sure. It does take us a bit of time to put cash to work. So it might be a point or two within a quarter of basis points.

Seth M. Weiss – Bank of America Merrill Lynch

Okay. Thanks a lot.

Operator

Thank you. The next question we have comes from the line of Chris Giovanni from Goldman Sachs. Please go ahead.

Christopher A. Giovanni – Goldman Sachs & Co.

Thanks so much. Good morning. I guess, one question just around the original kind of growing diversified strategy, I think you’d point into 2014 kind of that expense drag going away and finally getting an earnings contribution of around $0.07 a share in 2014. Wondering if that’s still the plan or has a lot kind of changed over this period and obviously the VA initiative didn’t get really get off, maybe some puts and takes around the life side and then the pushback into the kind of interest rate sensitive products here. So just wondering if you can kind of square up where we are in terms of that expense initiative relative to kind of the earnings contribution moving forward.

Thomas M. Marra

Chris, we’re sure. It is though – not everything worked, now, in terms of – and some of the things that are working are working slower than we had anticipated. The one that exceeded expectations is the indexed annuities. On the flip side, the one that we mended our plan altogether on was VAs. And then both individual life and group life and disability are still programs we’re committed to and we’re part of that original plan and – but they have come slower than we had anticipated in both cases.

So all-in, we’re – we come up short of that $0.07. I don’t think we’re keeping score of it, per se, like we used to, like we had done when first projected. So let me just characterize it in words as opposed to numbers. It’s the right thing for us to do. We needed – we needed the company, needed to have more platforms, needed to have more diversified sources of earnings, fortunately, we discovered the indexed annuity pretty quickly and that I think will just be a staple of our portfolio and others we’re committed to.

So we’ve had to make adjustments in our approach in both life and group life and disability. But there, you can see that certainly life has turned the corner and we can see the field opening up for us on group life and disability. So all-in, not the way planned, it was not a straight-line by any stretch, kind of stressful getting through it, but I really feel like all-in, we’ve put this thing on the right path for the future. And relative to what it means for mix of business, over the long-term, I think you’ll see a more diversified platform. Over the short-term, we’re going to continue to drive the indexed annuities and if that means we’re a little more annuity – deferred annuity oriented for the time being, then we view there’s a good thing, because we’re right in this business of full margin.

Christopher A. Giovanni – Goldman Sachs & Co.

Okay. and then just I guess a follow-up on the deferred annuity piece, obviously, the expense drag in the quarter given the robust sales. I mean, at what point, do you kind of see the fruits of those sales kind of come through from an earnings standpoint?

Thomas M. Marra

Yes, next year for sure. And so the challenge there is that not everything is deferrable in terms of distribution expenses. and so therefore what you’ll see is that what we’re selling now really have a positive earnings impact in 2014.

Christopher A. Giovanni – Goldman Sachs & Co.

Even if sales continue to be maybe not quite at this magnitude, but at elevated levels.

Thomas M. Marra

Yes. It’s a block gets bigger and bigger than you’ll have for that that larger critical mass throughout earnings. In addition, as Margaret alluded to earlier, as we are growing quickly, there is more cash in the portfolios, as we look for suitable investments and so that effect will often decline.

Margaret A. Meister

So I will add that, if you maintain, let’s say you maintain a consistent level of sales, what you would see from quarter-to-quarter is a consistency in the amount of non-deferrable expense. And so that they believe in throughout the growth and the inherent assets would start contributing to the earnings. If we see big step-up, you will see some increases in the non-deferrable and some lag from that additional accelerator growth in account value, but as we rolled through and just built that you should gradually see us improving the earnings here.

Christopher A. Giovanni – Goldman Sachs & Co.

Okay. One more and then I’ll jump back in the queue. Just I guess Margaret following up on the opportunistic repurchases in 4Q as Tom alluded to price being I guess the primary driver. But wondering if that also could include – if you had a block come from a larger shareholder, maybe, one of your original backers similar to what we saw in 2Q. is that something you would look to take on, would that be deemed opportunistic or is it just purely around price?

Margaret A. Meister

I can’t comment on that.

Christopher A. Giovanni – Goldman Sachs & Co.

Okay.

Daniel R. Guilbert

I think Chris, it is fair to say that, we will – we address any situation that comes our way, but there is really nothing to say to that specifically.

Christopher A. Giovanni – Goldman Sachs & Co.

Okay. Thank you.

Operator

(Operator instructions) Next question, we have comes from the line of John Nadel from Sterne Agee. Please go ahead.

John M. Nadel – Sterne, Agee & Leach, Inc.

Hey, good morning, Tom and Margaret, how are you? I have a couple of questions. Tom, I’d recognize from your initial commentary that you certainly want to hold off on outlook for next year, but I was hoping, we could take you back a little bit at least on the January 1 medical stop-loss. I think you mentioned that you’re seeing a better pipeline or better quote relative to last year, but you also then at the same time are mentioning there’s some pretty significant competitive pressures and I’m guessing that that means competitions a bit more fierce now than it was this time last year. So just wondering if you can give us any color around your expectations, I know January is still important.

Thomas M. Marra

Yes, it is. And I’ll let Michael. So you’re getting more FX and you’re riding higher competition and third, we are going to hold our – we’re going to stick to our pricing, because we look back on this past year and we wish we had priced couple of points higher. So…

John M. Nadel – Sterne, Agee & Leach, Inc.

Yes.

Thomas M. Marra

I’ll let Michael, how does that check out?

Michael W. Fry

Yes. Thanks for the question John. I’d say that the fact that we are getting off to that in the core volumes up, I think speaks to our leadership position in this line of business and the strength of our distribution force, but I can concur with Tom’s comments that if we can’t get our price, you’ve heard us say this many times, if we managed this business to the bottom line, if we can’t get our price, we will pass some of those opportunities.

John M. Nadel – Sterne, Agee & Leach, Inc.

Yeah.

Unidentified Company Representative

With regard to the competitive environment, it is still very competitive, but I would tell you that we’re not seeing any new names. You probably remember I had commented on previous calls that we are seeing first dollar of the fully insured carriers in this space, because I think they do see the attractiveness of the business, they’re still there, and it is competitive, but it’s pretty stable from previous quarters.

John M. Nadel – Sterne, Agee & Leach, Inc.

And then just around this business, can you give us some way of thinking about the – let’s say, for some reason, you’re sticking to your margin targets, competitors are just willing to go where you’re not willing to go, how do we think about the capital that you free up from the business per dollar of premium or something along those lines?

Margaret A. Meister

John, this is Margaret. First of all, we – even though, with the environment we’re seeing being competitive, our expectation is fairly stable overall revenues. So I would expect the need for a supporting capital to be similar.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay, okay, that’s helpful. Tom, just maybe a bigger picture on the group life and disability side for you.

Thomas M. Marra

Yes.

John M. Nadel – Sterne, Agee & Leach, Inc.

We’ve heard really only from two competitors at the smaller end of the market so far, but when you piggyback that off of some commentary even last quarter, it definitely is demonstrating, at least from a couple of competitor’s perspectives, there’s the competition out there is getting more fierce given the lack of quoting out activity and distraction from the implementation of healthcare reform. And I guess, my question for you Tom, is how confident are you that now given that dynamic is the right time actually to go after real growth in this business?

Thomas M. Marra

I think there’s probably never a perfect time.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay.

Thomas M. Marra

So all this confusion with the healthcare reform, that’s going to settle down in 2014, I would expect, because most employers will have made their big decisions by then and we think there is a need. We continue to think that most employers of 500 employees or up are going to need to provide these types of benefits. So the consideration that the – that employers are going to not provide this anymore, we don’t see that as a real issue and may not be the best time in, but we also know that anyone who has suffered in this business race is prices. So we feel we’ll get write backs and we’re shorting up our team, made a couple of adjustments, and frankly, we think it’s a good business and the brokers that like our stop loss, look at group life and disability as kind of a natural end. So from the…

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay.

Thomas M. Marra

…the distributor point of view, we’re getting nothing, but boy, does it makes sense for you guys to be in this kind of comments.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay

Thomas M. Marra

Michael, do you want to?

Michael W. Fry

Yes, I can curve with those comments as well, John, and say that, the culture within my division is very focused on profitability and so the team has been disciplined in terms of the opportunities that we have written, and just called your attention, I know you have the numbers that – sales, certainly are where we would have expected them to be at this point, but in contrast, they are double where they were compared to last year. So we are getting traction and we’re making progress slow and steady.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay. And then one more and then I’ll get back in the queue, I wanted to just maybe, Margaret, on risk-based capital, I know that the 474% RBC is not necessarily, because the calculation directly comparable to the rating agency models. And I think based on discussions with Jim that S&P is probably that more onerous model for you guys, how do I compare the – a comparable risk-based capital ratio to the S&P level that you need to maintain. How big is that differential?

Margaret A. Meister

The difference between S&P and the RBC is pretty noticeable, I’m not going to give you a direct calculation, but what I would add is that for the nuances is that S&P does have – also packing order that they prefer to seek capital for – allow for a capital be drawn down to closer to the edge of their different rating breakpoint…

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay.

Margaret A. Meister

…if it’s organic versus other uses of the capital. So we can draw down the RBC ratio meaningfully via the organic growth of the company and it should be viewed favorably by all of the rating agencies. And they are very familiar with what’s our growth engine right now and comfortable with that and know what we’re driving for future growth engines and are comfortable with that.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay. And meaningfully, any way of putting some characterization around what meaningful is, I mean, there’s 474% going to, can it go to – I assume it can’t go to like 350%, but can it go to 400% or something along those lines?

Margaret A. Meister

I think we can head down towards the 400%.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay. Thanks, I’ll get back in the queue.

Operator

Thank you. The next question we have comes from the line of Chris Giovanni form Goldman Sachs.

Christopher A. Giovanni – Goldman Sachs & Co.

Thanks. Just one follow-up for Michael, maybe, around the stop-loss business and just wondering if you’ve changed it all the way you approach or a price to stop-loss business, the reason I ask is it appears you’re able to improve maybe the more elevated loss ratios quicker than past pricing cycles if we look out over maybe a number of decades?

Michael W. Fry

No, we really – thanks, Chris, no, we really haven’t changed the fundamentals of how we’re pricing and underwriting the business. I think the thing that’s positive about this organization is that we’ve been through several cycles before, we’ve kind of learned how to see the storm bring a little bit on the horizon and we take action very quickly. So I think the fundamentals of how we manage the business are largely the same and we started working on this challenge early, and I think it’s going to play too fairly quickly.

Christopher A. Giovanni – Goldman Sachs & Co.

Okay. And then just can you remind us what you estimate, I forgot if it was you or Margaret in past calls, that estimated maybe what you believe you underpriced on January 1, 2013. So what’s kind of the catchup for 2014, I guess, plus then the medical inflation is how we should be thinking about it?

Michael W. Fry

Yeah, this is my Michael again. In hindsight, we wish we have gotten a couple points more on that business, when we wrote it back in January of 2013.

Christopher A. Giovanni – Goldman Sachs & Co.

Okay, thanks so much.

Michael W. Fry

Okay.

Operator

Thank you. We have another question from the line of John Nadel from Sterne, Agee. Please go ahead.

John M. Nadel – Sterne, Agee & Leach, Inc.

That one is quick, on the – I have just two more on the tax advantaged investments, can you help us with perhaps the schedule – annual schedule over the next couple of years of the dollar amount of credits you expect to be able to run through the tax line?

Margaret A. Meister

Well, we’ve actually been providing a schedule of that in our supplemental statistics and also in our GSO. We expect for the full year to be finished this year at both we’ve been running as the 18% effective tax rate and we will guide you on what to think for the 2014 when we do that outlook call.

John M. Nadel – Sterne, Agee & Leach, Inc.

So in other words, in that 18% effective rate, that’s on net income, correct?

Margaret A. Meister

Yes.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay. so can I sort of sell for the difference to something more in the mid-30s as the dollar amount of tax credits?

Margaret A. Meister

Yes.

John M. Nadel – Sterne, Agee & Leach, Inc.

Okay. And then last one for you, Tom, just thinking about the underlying sort of core earnings this quarter we stripped away some of the noise back and prepays and that sort. I think we’re calculating an annualized ROE that’s sort of in the 6% to 7% range. Yeah, I know you’re obviously riding business, based on your targets that sort of double or right around double that level. I guess it begs the question from growth from capital deployments, working down that excess capital how quickly over the next several years, do you think you can actually expand that ROE?

Michael W. Fry

You sort of answered why we wouldn’t slow down the annuities, even if it means will be bigger in that business for the short-term. This is the difficult environment and myself and the board, we’ve excluded certain parts of the U.S. life industry, because we just don’t think the risk characteristics marry up for a company like ours. So we’re not doing VA will, I think benefit. That makes a little more difficult in the life business, we’ve stayed away from certain businesses, long-term care or individual disability. You know the last, so I think…

John M. Nadel – Sterne, Agee & Leach, Inc.

I do.

Michael W. Fry

Yes, I know you do and I think we’re doing things right, it’s taking time. We haven’t executed as well as I would have liked in a couple of areas. I do feel it’s coming together. I do feel if we stick to the plan and will get and when capital opportunities come about like they did. Acquisitions are in there somewhere, but probably not given what we’ve seen in that debt, it has become ridiculously competitive in its own right. That’s probably a whole less of a factor.

John M. Nadel – Sterne, Agee & Leach, Inc.

Yes.

Michael W. Fry

So let us keep taking it along, it’s not an overnight thing. But I really feel we’re on the right track and stand away from problems. This is a – the blowup factor come from that guards is a lot lower than perhaps some others and that’s where we’re going to run it.

John M. Nadel – Sterne, Agee & Leach, Inc.

That point is absolutely not lost on me, I totally get it. I appreciate the commentary, thanks.

Michael W. Fry

Okay. thank you, John.

Operator

Thank you for that question. That concludes the Q&A session for today. I would now like to turn the call back over to Tom Marra for closing remarks.

Thomas M. Marra

Okay. Wish we’ve run well in this season and I guess the upcoming holiday season so – and we’ll be back to you in early 2014 with our fourth quarter as well as our outlook for the year. Again, thanks for joining us today.

Operator

Thank you, Tom. Thank you, ladies and gentlemen for your participation in today’s conference. That concludes the presentation. You may now disconnect. have a good day.

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