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The Phoenix Companies, Inc. (NYSE:PNX)

Q2 2011 Earnings Call

August 4, 2011, 1:00 p.m. ET

Executives

Naomi Kleinman – Head, IR

James Wehr – President and CEO

Peter Hofmann – SVP and CFO

Christopher Wilkos – EVP and Chief Investment Officer

Phil Pokinghorn – SVP Business Development

Edward Cassidy – EVP, Distribution

Analysts

Bob [Glassbeagle], [Langhan Macklaney]

Steven Schwartz – Raymond James

Operator

Welcome to The Phoenix second quarter 2011 earnings conference call. Thank you for standing by. All participants will be in a listen-only mode until the question-and-answer session. (Operator Instructions). Today’s call is being recorded. If you have any objections, you may disconnect at this time.

I will now turn the call over to the Head of Phoenix Investor Relations, Naomi Kleinman. You may begin.

Naomi Kleinman

Thank you, Sarah. Good afternoon, and thank you for joining us. I’m going to start with the required disclosures and then turn it over to Jim Wehr, our President and CEO for an overview of the quarter.

With us today are Peter Hofmann, Chief Financial Officer; Chris Wilkos, Chief Investment Officer; Phil Polkinghorn, Senior EVP for Business Development and Mike Hanrahan, Chief Accounting Officer. Our second quarter earnings release, our quarterly financial supplement, and the second quarter earnings review presentation are available on our website at phoenixwm.com.

Slide two of the presentation contains the important disclosures. We may make forward-looking statements on this call that are subject to certain risks and uncertainties. These risks and uncertainties are discussed in detail in our second quarter earnings release and our latest SEC filings. Our actual results may differ materially from such forward-looking statements.

In addition to Generally Accepted Accounting Principles, we use non-GAAP financial measures to evaluate our financial results. Reconciliations of these non-GAAP financial measures to the applicable GAAP measures are included in our press release and financial supplements.

Now, I’ll turn the call over to Jim.

James Wehr

Thanks, Naomi, and thanks to everyone for joining our call. We’ll have our usual line up today with Peter Hofmann, giving you a detailed look at the numbers, and Chris Wilkos providing a brief overview of our investment portfolio. Then we’ll ask Phil Polkinghorn to discuss our middle market strategy and the products we are focusing on to drive growth.

Working with Ed Cassidy, who you heard from last quarter, Phil and his team have repositioned our product portfolio and established new distribution channels for Phoenix, including the AltiSure Group and our new alliance with the legacy marketing group.

Describing Phil’s responsibility and the success he and his team have had, is really a perfect segue into my overview about the quarter and where Phoenix is today.

As I look at our results, one theme that keeps recurring is the fact that Phoenix is regaining acceptance in the marketplace as we post more historically typical results. When you think about it, that’s not really surprising, but it’s been a long and occasionally bumpy road back.

Turning to our results, last quarter I reported improvement on many fronts, tempered with the fact that we still have a lot of work to do. While I hesitate to repeat myself, the facts are that the second quarter of 2011 is once again another in a continuing string of steady progress quarters.

Core earnings of $15 million are much improved from a year ago and we produced net income for the first time in a year. This trend of steady progress has brought us to a point where many of our key metrics are now at or approaching historic norms.

For example, capital. We are generating capital at a healthy pace. Phoenix’s life statutory surplus is 11% higher than at year end, and that’s after paying a $25 million dividend to our holding company.

Risk based capital or RBC increased to an estimated 315% driven primarily by the growth in surplus. That’s up 33 points from the 282% we reported at year end.

On the investment side, the trends of the last 18 to 24 months persist as valuations continue to improve and we have fewer impairments. In fact, credit impairments this quarter were at their lowest level since the first quarter of 2007.

On the business side, growth initiatives continue to gain momentum. Saybrus continues to make headway with both third-party and Phoenix product sales, and is near breakeven.

In our reposition annuity business, we continue to post solid, sustainable sales levels that are consistent with our capital budget. Annuity deposits came in at $191 million in the second quarter, which was down slightly from the first quarter. Annuity net flows remain positive for the third consecutive quarter and annuity funds under management grew 20% year-over-year to $4.4 billion at June 30.

In addition to new sales, this growth was driven by lower annuity surrenders, as well as market appreciation. The picture for life surrenders is also very good and a prime example of our more normal operating metrics.

Total Life’s surrenders were at an annualized rate of 6.1% this quarter and the close block was at 5.6%. To put these numbers in perspective, the usual surrender rate for the close block, before the 2008 financial crisis was in the 5 to 6% range.

The return of these metrics to historical levels, clearly demonstrates the increasing market acceptance of Phoenix and that The Phoenix franchise is re-emerging.

With our in-force business stabilized and new business being added at a meaningful rate, we undertaking a significant initiative to standardize, simplify, and reduce the cost of administering our policies. Late last month we signed an agreement with a U.S. subsidiary of Infosys to convert a portion of our Life business from three different legacy administrative system to a single technology platform.

Of course we’ll need to make a upfront investment in this conversion, and Peter will discuss the expected impact on expenses. However, we know this is the right direction from both an on-going cost perspective and as a way to get added flexibility to support future growth.

The extent of our progress over the last two years has been driven home in a series of conversations I’ve had with one of our long-time producers. This is someone who has worked with Phoenix for many decades. So he knows the business and our business, but is not minored in the day-to-day details.

He recently told me he could feel the improvement in Phoenix over the last several quarters. That was in sharp contrast to a couple years ago when he regularly asked me whether Phoenix could survive, whether we had the liquidity we needed to meet the increased surrender activity we were seeing at that time.

Last year he told me he was feeling a little more confident, and now, he believes we’ve turned an important corner as he sees the success we’ve had in attracting new business. I’ve taken this series of conversations to heart, and I’m sharing them with you for several reasons.

First, this is someone who is responsible for a very large block of Phoenix policies. Second, he knows more about our business from a customer perspective than anyone I can think of. And finally, he is authentic and has consistently provided a thoughtful and honest independent perspective on Phoenix.

So I hope you can see, as we both do, that our plans are working. We focused on four pillars, balance sheet strength, policy holder service as measured by persistency, operational efficiencies such as the policy administration conversion I just mentioned, and our fourth pillar, which in many respects is now our number one priority, profitable growth.

We are focused on these pillars and we are getting the fundamental result we anticipate, steady progress. So what to look for ahead? First, continued strength in our core businesses. Second, we fully expect Saybrus to become more profitable and contribute to earnings. Third, we’ll continue to build our annuity business. The new partnership with Legacy is meaningful, and should add to our existing portfolio of successful distribution relationships in the middle market. And finally, we are doing a lot of work assessing the prospects for new life insurance sales, and hope to be able to report some tangible developments there in the coming quarters. In some, our strategy is progressing, but further progress is essential.

Thanks again for your support, time, and attention. And with that, let me turn it over to Peter.

Peter Hofmann

Thanks, Jim. Our financial results shows steady improvement in the second quarter on a number of fronts, balance sheet strength, in-force earnings, expense control, and new business growth.

Highlights for the quarter are shown on Slide 3. GAAP operating earnings were 15.1 million or $0.13 per share excluding income taxes. Contributing to the result were strong fundamentals. Net investment income rebounded driven by good alternative asset returns, mortality was not as favorable in the first quarter but in line with expectations. Life and annuity persistency continued to improve, and expenses were lower.

At the same time, the investment portfolio saw only very modest impairments.

Statutory results were also very good this quarter. Capital generation continued with surplus growing by 51 million to 849 million. Year-to-date statutory net gain from operations for Phoenix Life, was 77 million versus 25 million a year ago. Fixed index annuity sales continue to be strong and we have positive annuity net flows for the third consecutive quarter.

We are working on more detail disclosures around this business and expect to see those by the end of the year.

A more detailed earnings summary is shown on Slide 4. Open block revenues improved modestly from the first quarter driven primarily by higher net investment income. Benefits were modestly higher than last quarter due to increased mortality. Operating expenses declined again, primarily due to lower compensation and employee-related expenses.

Also, recall that there was an unusual expense related to a life re-insurance transaction in the second quarter of 2010. Policy, acquisition cost, amortization was lower versus last quarter because of lower mortality margins and lower versus a year ago due to improved market performance.

The regulatory closed block contributed 12.5 million consistent with the glide path of the block established at the time of this mutualization. This represent the expected quarterly level for the remainder of the year.

Among several items reflected interest he realized gain line, credit impairments were 3 million in the quarter and our variable annuity hedge program again, performed well.

Note that as we do on every call, we are presenting this slide, excluding income statement detail for the closed block. Since close block earnings are determined by the guild path. For those of you who look at the consolidated income statement which is in the press release in our financial supplement, I want to point out that we corrected an error in the classification of ceded premiums on certain close block reinsurance contracts. The effect is to reduce both the consolidated policy benefit and revenue lines by about 25 million a quarter for every quarter presented. This is an income statement geography issue, there’s no impact to net income equity or earnings per-share.

In addition, since it affects all historical periods, it does not meaningfully change the trends of the reported data.

Moving on to slide 5. This slide highlights the trends in operating income and spikes out discrete items that affect period-to-period comparisons. This is the first quarter of 2009. We have excluded GAAP tax expense from operating earnings comparisons, which is a volatility created about the valuation allowance on our deferred tax assets, and the GAAP intra period allocation rules.

This quarter has a couple of additional tax items to note. First, it’s worth pointing out that even though we have a valuation allowance against all of our net operating loss, deferred tax assets, for GAAP purposes, we in fact have been utilizing these NOLs because of the strong statutory income generation. So while they are not reflected in GAAP equity, we are in fact deriving value from the NOLs today.

Specifically, in the second quarter we utilized more than 50 million of net operating losses. One place you’ll see this is the cash flow statement in the 10-Q which you will see will show minimal cash tax outlays. This quarter we did make alternative minimum cash – I’m sorry, alternative minimum cash payments, these were cash payments. Normally, these payments would not show up in our tax expense, because we receive a credit and establish a deferred cash asset to – use against future taxes.

However, given the need to maintain evaluation allowance, we immediately offset the credit, invest the AMT does increase tax expense. The AMT expense is one components of the 18 million tax expense shown on the slide. The other is the correction of an incorrect split in tax expense between operating earnings and realized losses in the first quarter.

Again, there’s no impact on net income for this classification. Backing out these items gives us the adjusted operating EPS of $0.13.

Turning to our insurance fundamentals, slide 6 shows mortality cost ratios for the open and closed blocks. This quarter we’ve added a line for the expected open block mortality ratio each quarter. As you can see, open block experience, although higher than the four quarter average and last quarter was in line with expectations for the quarter.

Experience in the close block was modestly favorable to our expectations for the quarter. As a reminder, because of the policy holder dividends obligation, close block morality experience does not directly affect GAAP earnings.

Slide 7 shows annualized aggregate life surrender rates based on contract values surrender, as well as our annuity net flow trend. As Jim mentioned, annualized life surrenders were at 6.1% a significant improvement from the first quarter and the lowest level since the third quarter of 2009.

Note that these ratios do not include lapses in which policy’s expire with no value. As mentioned earlier, annuity net flows are once again positive. The improvement was driven by the strong annuity sales and a lower level of surrenders and the existing block of variables and fixed annuities.

We cont to focus on controlling expenses. Slide 8 shows consolidated statutory and GAAP expenses, adjusted for noncore items. The expense reductions we have taken over the last several years are clearly visible, driven primarily by lower compensation related cost.

Core statutory expenses for the first half of 2011 were down 3% versus a year ago and before deferrals, GAAP expenses were down 16%.

While we are pleased with the level of reduction, as I indicated last quarter, we do expect expenses to increase somewhat in the second half of this year. As Jim discussed, and as you may have seen in the press release issued earlier in the week, we have entered into a multi-year agreement to convert the administration of approximately 15% of Phoenix’s active in force life insurance policies, to a third-party platform.

We expect the incremental cost of this conversion to add approximately 3 million of expense in each of the next five quarters. This is another in a series of investments that we are making to reduce our fixed cost, reduce complexity, and improve the quality and accuracy of our business progressive.

In the same vein, earlier this year we completed the transition to a new general ledger and financial system suite.

Let me spend just a moment on our RBC ratio, which is shown on slide 9. As of June 30, total adjusted capital increase by 10% to 981 million, and risked based capital decreased by 2% to 311 million, from year-end 2010, which results in the estimated RBC ratio 315%.

Core life insurance results were one of the key drivers of the improvement adding 21% [inaudible] points. Also contributing to the growth was a reduction in the percentage of below investment grade bonds. The continued improvement in the markets last quarter which resulted in lower market risk and strong alternative asset returns. We expect any additional improvements in the RBC ratio over the course of the year to be more modest.

Holding company liquidity was 73 million in cash and securities as of June 30. During the quarter, Phoenix Life paid 25 million and dividends to the holding company. This payment lowered our estimated RBC ratio by 8% [inaudible]. As always, we will continue to balance any additional dividend payments against the capital needs of the Life Insurance company.

With that, I will turn it back to Chris.

Christopher Wilkos

Thanks, Peter. During the second quarter the investment portfolio continued it’s favorable performance trends. With an increase in net investment income continued reduction, and bond impairments, solid credit quality, further appreciation and portfolio values and a strong liquidity position. Beginning on slide 10, net investment income rose by $10 million during the quarter, with most of the increase in the open block. The improvement was driven by higher income from our bond portfolio, reflecting prepayment premiums, higher asset balances, and faster accruals.

Alternative asset returns also increased with an improvement in mezzanine fund returns back to a more normalized level, after a breakeven first quarter. In the closed block, we also experienced higher income from our bond portfolio. Alternative returns declined slightly, as improvement in mezzanine funds was offset by lower private equity income.

The variability of private equity income from quarter-to-quarter is expected.

Slide 11 illustrates additional favorable portfolio metrics. Beginning at the top of the slide, bond impairments in The Phoenix portfolio declined to $3 million in the quarter, an improvement from the 5.7 million of impairments in the first quarter of 2011, and reflective of the favorable credit markets.

This quarters impairments were at the lowest level since 2007. With stable credit markets, impairments have trended downward, and should continue to be benign.

Another key highlight for the quarter was an increase in portfolio unrealized gains of about 100 million, driven primarily by lower treasury rates. Our portfolio has been in an unrealized gain position since the second quarter of 2010, providing continued strength to our balance sheet.

Portfolio quality remains stable during the quarter. We had indicated that our de-risking of the bond portfolio have been completed in 2010, and we are comfortable with the below investment grade position of 8 to 9% of bonds in today’s market.

We added some exposure to below investment grade in the quarter through purchases, concentrated in BB rated issues. Our portfolio has benefited from upgrades and credit quality and maturities, and should continue to do so for the remainder of the year.

We are in the middle of our stated policy range of 6 to 10% of the portfolio and below investment grade bonds, and believe that’s prudent given improving high yield issue or metrics and yield opportunities in the market.

Additionally, liquidity also remains strong with a core position in short term securities and agency mortgage back securities. The unrealized gain in our fixed income portfolio creates additional liquidity opportunities as 80% of our investment grade public bond holdings, a total of about $6 billion are salable at prices above their book values.

Lastly, our portfolio holds no government bond positions in the European [inaudible] credits that are currently under pressure in the market. We do hold modest amounts of highly rated Corporate bonds in Spain, Portugal and Ireland.

As a reminder, we continue to produce a quarterly investment portfolio supplement, which is available on our website and provides much greater granularity on our investment portfolio.

With that, I will turn the call over to Phil.

Phil Polkinghorn

Thanks, Chris. I’m here to provide you with a little more detail on Phoenix’s approach to the middle market. I’ll cover the channel, product, and profitability attributes.

Turning to slide 12, Phoenix’s point of entry for the middle market has been through independent marketing organizations or the IMO channel. These organizations or independent agents, many are very retirement planning focused with the key product offering being fixed annuities or fixed index annuities. Some are more broadly senior market focused, and also sale medicare supplement, final expense, and other products aimed at the needs of that market.

The IMOs provide a variety of services to the agents, and compete for the attention and loyalty of these agents. Almost all are multi-carrier. The key for the carrier is to be promoted by the IMO, not just to get on the shelf. Together with Saybrus, we do this through a combination of competitive product and commissions, unique features, training and sales tracks like the [inaudible] Saybrus does for agents, and our proprietary plan right retire sales modular, and efficient new business process, face to face, and electronic marketing to create awareness, and occasionally, some level of product exclusivity.

In general, our products have been designed to appeal to relatively conservative customers seeking guaranteed income with some modest possibility of upside, and little down side risk. We have designed separate riders to appeal to customers seeking income from the product right away, versus those who plan to deferred taking income from the product.

This split allows us to make better assumptions about benefit utilization. Slide 13 shows Phoenix’s competitive position in the marketplace. We have a number of fixed index annuities available with the variety of guaranteed benefit riders. Our competitive positioning changes as new and involving offerings come to market. That positioning should be considered broadly because producers and clients evaluate a total package as opposed to just one feature.

We feel the balance in our offerings will appeal to a broad spectrum of producers and clients.

Obviously we also look carefully at the key profitability drivers when deciding how competitive we want to be in the varies aspects of the product. These include the levels investment return available, the level of guaranteed income offered, the level of index credits, [inaudible] utilization patterns, commission levels, and the level of surrender benefits.

Overall, I would describe our positioning as competitive on both levels of guaranteed income and compensation, but not an outlier. This comes at the expense of being less competitive on index credits and surrender benefits, because we believe they matter less to our end customers than the areas we’ve chosen to emphasize.

Some features where we are different like market value adjustments, give us additional risk protection that we feel’s important.

I mentioned a moment ago that our competitive position changes as new and evolving offerings come to market. We also make changes periodically as a result of careful moderating of the value of our offerings, relative to new money rates available for investment.

Slide 14 is a recent comparison of the frequency of our changes on various profitability levers to those of our competitors. We performed this analysis after our first quarter changes which produced a relatively small short term drop-off in sales.

This is a market where changes and product are relatively infrequent, and some carriers pride themselves on making and price, despite changing investment opportunities. Even when these changes result in a short term drop-off in sales, we feel that it’s [inaudible] to continue the sales but at reduced or unacceptable margins.

The second column on this slide shows the percentage of companies that made a change to a particular feature, or rate in the previously 12 months. The next column indicates the number of times Phoenix changed in response to changing interest rates or other market forces.

As you can see, nearly everyone changes credited rates periodically. However, only 20% of carriers change their benefit rollup rate, Phoenix was one of those. Roughly 70% of carriers went a full year without changing payout factors. Phoenix changed twice over the same 12 month period. And about half the carriers have changed commissions. The most common changes are specials which increase commissions for a specified period of time.

For example, after our first quarter product changes, we ran a short 25 basis points special on one of our products. A small number of carriers have decreased commissions in an apparent effort to slow sales.

So, while we’re not changing factors daily as interest rates change, we do react to changes in profitability outlook on a relatively frequent basis. If we updated this chart today, the number of carriers that have changed rollup and payout rates, would probably be closer to 50%.

So in some areas we are simply faster to respond that others. Phoenix also regularly monitors the actual yields on investments backing this business, the implied profitability, and projected capitalization and makes adjustments when necessary.

The overall results to date have been in line with expectations.

A little over a year ago, we were just getting started and developed 90% of our total sales from a core group of 11 IMOs and about 50 agents. Today our sales are much larger and we are more broadly represented with 90% of our total sales from 23 IMOs and about 700 agents.

Phoenix has developed a run rate that has us approaching the top 10 in industry fixed index annuity sales. We’ve accomplished this while carefully monitoring and changing positioning when necessary and always balancing sales with capital consumption and margin maintenance.

We’ve established a strong foot hold in this market and are confident we can continue to grow at an above average rate and maintain reasonable levels of capital.

With that, I’ll turn back to Jim.

James Wehr

Thanks, Phil. The key takeaways from today’s call fit into two themes, the first is continue progress on our core business fundamentals of capital [inaudible], improving persistency, expense management and a healthy portfolio.

The second, this translating this progress and an increased acceptance of our brand into profitable, sustainable growth. We are pleased to update you on our second quarter results, and look forward to providing updates on further progress. With that, Sara, let’s open the lines for questions.

Question-and-Answer Session

Operator

Thank you sir, we will now begin the question-and-answer session. (Operator instructions). Our first question from Bob [Glassbeagle], [Langhan Macklaney], your line is open.

Bob [Glassbeagle], [Langhan Macklaney]

Good morning, everyone. Jim, we’ve – in the last month we’ve had ten-year treasuries go back to 250, stock market correct, bond market rallying in general, so I think through the implications to Phoenix, until we get to the double-dip credit scenario, it seems like it’s good for stat, not so great for GAAP. Am I directionally correct, and is there anything in the environment that makes you sort of pause any of your strategies and regroup?

James Wehr

You know, I guess, Bob, I would – I’d characterize what we’re in and probably looking forward to for a period of time as slow growth, low interest rate defensive consumer. And I would say arguably, that’s the environment we’ve been operating in for the last – certainly for the last several months and arguably for a longer period of time.

It was a mean for us. I guess I’d look at it from the balance sheet perspective and then maybe the growth initiatives. I think our portfolio should hold up well. As you’ve heard from Chris, over the last couple of, well frankly, over the last couple of years, we’ve taken the appreciation of the bond marketing narrowing, the credit spreads, de-risk at the right time. We’ve got a high quality liquid diversified portfolio that for the most part is trading above book value.

And on the other side of the coin, our growth initiatives, the annuity products we’ve been selling generally have defensive features, such as downside protection or guaranteed income, which should, I would think, play pretty well in this marketplace.

And I guess the last thing I’d say is we’re a much stronger company than we were a couple years ago. We’ve got adequate capital liquidity. I mentioned, I think our product portfolio’s pretty well established. I think your thought would be probably a more favorably environment from a statutory perspective than a GAAP perspective. But maybe I’ll let Peter weigh in with any additional thought he might have.

Peter Hofmann

Yeah, I think that just broadly speaking, you know, the low interest rate environment is a risk to obviously to earnings if it sustains for a long period of time. And that has both stat and GAAP implications.

The equity markets, we are, you know, I think we’re pretty well hedged economically. But as you know, there’re accounting mismatches in both. So I’m not sure I’d categorically say one is – would be more effective than the other, but depending on what plays out, I think, you know, the GAAP results tend to be a bit more volatile.

Bob [Glassbeagle], [Langhan Macklaney]

Okay, the follow up is, what is there about the company that has sort of the volatility in taxes? Is it the fact that you’re so close to breakeven that swings it quarter to quarter? I don’t think I’ve seen a company with this amount of volatility but maybe it’s because the denominator is relatively small?

James Wehr

Peter?

Peter Hofmann

Bob, let me – I’m going to take a minute to just step back a little bit because I do feel that there is some additional explanation that might be helpful and I’ve thought about this a little bit before the call.

It is – it’s not so much the near breakeven nature, although that obviously has something to do with it as it is where we find ourselves on a GAAP perspective with respect to having deferred tax assets and related valuation allowances. So if you step back, we have DTAs that are driven by net operating losses, capital loss carry forwards and tax credits. All of those can be used to offset our future tax liabilities.

And on the GAAP books, except for a small portion of the capital loss carried forwards that are related to unrealized losses, we have a full valuation allowance against all the DTAs to the degree that there aren’t some DTLs offsetting them.

So we have, in any given period, a lot of noise coming from that. Now, focusing just on the net operating losses, as a life insurer, we also have to consider whether those net operating losses relate to the life group or the non-life activities of Phoenix overall because our ability to use non-life net operating losses is limited and we don’t have a lot of non-life income that we could use them against.

So just to put into perspective the comments that I’ve made during the – when I talked to the slides, at the end of last year, we had total net operating losses of around 150 million, the DTA related to that. So we had the ability to shield roughly 430 million of income in round numbers.

Now, of that 150, 56 million related to life insurance activities. And because – really what’s happening here is that our strong statutory life earnings are much better proxy for what our true taxable income is than our GAAP earnings. And so we’ve utilized quite a bit of the NOLs over the course of the year. So that 56 million as of 12-31 is down to about 15 million. So in other words, we’ve used about 41 million of NOL DTAs and shielded roughly 120 million in taxable income in the first half of the year with those.

And what we experienced this quarter was that we can’t use NOLs to offset 100% of the – of our taxable earnings, of our taxable income. We’re limited to about 90% and that’s what causes us to make a small alternative tax payment, about 10 million or so. And we get a credit for this, and normally you wouldn’t even see it in the GAAP tax expenses because the credit would offset the tax payment. But because of our valuation allowance, we have to put up a valuation allowance against that credit and you do see it coming though the expense line.

So this is how the DTA and valuation allowance dynamics sort of plays havoc with the GAAP tax provision.

Really, it’s just a timing difference. We paid out some tax now that we will ultimately, you know, otherwise we would be paying out in a few quarters when we use up the life NOLs.

And you know, but that’s really the kind of thing that underlies the volitility and you layer on top of that some of the intra period allocation rules that I’ve talked about in the past, that can swing tax expense between the P&L and other comprehensive incomes, you have some very unpredictable results.

So if you’re going to ask me what to use to model going forward, I’d still stick with the zero percent effective rate because it’s really just the best estimate I can give you. We will, you know, review that ever quarter and if we have better visibility, we’ll let you know.

And the other point is that there’s real value to those DTAs even though they’re not reflected in the GAAP equity.

Bob [Glassbeagle], [Langhan Macklaney]

Did you say the stat, the stat benefit in taxes is 50 million this quarter? Did I hear that right?

Peter Hofmann

Yep. North of 50 million.

Bob [Glassbeagle], [Langhan Macklaney]

So it was more than the stat earnings?

Peter Hofmann

Well, we’re looking at the consolidated, you may just be – it’s more than just the Phoenix Life earnings, it’s all of it. It’s Phoenix Life, it’s PHL variable. And it’s really driven by, you know, what’s the best proxy for taxable income ultimately. And stat is closer to that.

Bob [Glassbeagle], [Langhan Macklaney]

Right. I’m just surprised you have stat earnings – I guess the tax payment are wiped out – does the tax payment come out of stat or is that not – I would think it would because it’s cash out, AMT?

Peter Hofmann

The AMT on a statutory basis, the whole valuation allowance, I mean, the whole DTA calculation is somewhat different, but it would be reflected into that.

Bob [Glassbeagle], [Langhan Macklaney]

Okay. And I won’t labor this anymore, but that was very helpful for me. Thank you very much.

Operator

(Operator Instructions). Our next question is from Steven Schwartz with Raymond James. Your line is open.

Steven Schwartz – Raymond James

Hey, guys. I was so close to understanding that and then you lost me. I thought – for a second there I thought I had it. Just on this topic though, to make my life easier. It sounded to me like you were saying that a lot of the life insurance NOL had been taken up. Doesn’t that mean – and then I’ll go into something else, but doesn’t that mean that the tax rate will start coming through, a real tax rate?

Peter Hofmann

Yeah, we have – like I say, we have a 15 million of NOL left. We also have some tax credits so if strong Life earnings continue to emerge over the next few quarters, we will begin to have the tax due again. So the zero percent is not an evergreen guidance, but it’s the best I can give you for this year.

Steven Schwartz – Raymond James

For this year, okay. So for next year though, that’s what I want to get at, that was the message I was getting here, it sounded like for next year though, we could have a real tax rate?

Peter Hofmann

Well, we’ll give you better guidance. One thing is that we will be filing our tax return this quarter and we’ll have a better view as to where our situation is going forward and we’ll give you explicit guidance for 2012.

Steven Schwartz – Raymond James

Okay.

Peter Hofman

On the next call.

Steven Schwartz – Raymond James

Okay, that will be good. If I can then go over to – my other questions. I was looking at Slide 6 and the open block mortality and something struck me. Is there a message there? I know the open block, you know, the mortality ratio is supposed to go up, but I thought it was slowly. And in this thing, it’s telling me – this slide here is telling me mortality ratio goes up very, very fast. I mean, in four quarter you go from basically 61% to 65%.

Peter Hofmann

I’ll try to address that, Steven. The – a lot of the stack relates to older-age business. And it’s a large – you know, it’s a large block with large policies. So you have the volitility of some very favorable quarters in the middle here, but the slope is steeper than you might see with a different demographic. So Phil may have an additional perspective on this.

Philip Pokinghorn

Yeah, and part of it is the drop off in new sales. When the Universal Life products are priced, the cost of insurance rate margin in the early policy durations is quite high because we want to get back our acquisition costs as quickly as possible and then the margin narrows as the policy ages and we’ve recovered a lot of our costs.

So for a given tranche of business, you would expect that margin to at some point narrow quite quickly because you’ve gotten back a lot of your costs. But if you’re continually writing new business, you have some more first-year business than second year business, which has a big margin being blended in with older imports where the margin is tapering off over time as you’ve recovered your costs. So since the new business, you know, Universal Life business, is way off, all you’re seeing is the narrowing. So it is going to be a little bit more rapid than perhaps it was in the past when new business was being added on.

Steven Schwartz – Raymond James

But that’s a good – that’s the slope?

Philip Pokinghorn

Yeah, that’s the slope. So you know, you pay the commission up front, you have really, really large COI margins in the first few durations. Once you’ve gotten back a lot of your costs, they tend to taper off and narrow.

Steven Schwartz – Raymond James

Okay, and then…

James Wehr

But Phil, that was the slope we anticipated when we priced the product initially.

Philip Pokinghorn

But that’s what’s built into the DAC amortization schedules and so forth.

Steven Schwartz – Raymond James

Okay, but that’s – isn’t that a big drag on – that is a – I think we’ve had this discussion, Jim, before when you were here, that that is a – that is a drag on your earnings. Is that correct?

James Wehr

Well, the margins, over time, will shrink, but as I said, that was the pricing assumption we made initially. And it’s also a big part of the reason why we’re so focused on picking up our growth initiatives and replacing, you know, and Steven, this is a conversation we had about you know, kind of filling in that gap.

Steven Schwartz – Raymond James

Right, yeah.

James Wehr

That’s been created and why the pickup in annuity sales has been so important in terms of putting new business on the books to offset the runoff in the existing business.

And one more point, Steven, too, the absolute dollars, you know, will shrink as this shrinks, but not as much as the percentage because in the early policy durations, while that margin is quite big, a substantial portion of it is going to DAC amortization.

Steven Schwartz – Raymond James

Okay, there you go.

James Wehr

In the later durations there’s not as much DAC left to amortize, so you don’t – but it will shrink in absolute dollars, but not perhaps as pronounced as the percent margin because we’ve already amortized the DAC by the time you get to that point.

Steven Schwartz – Raymond James

Okay, got it. And then one more…

James Wehr

Steven, why I think – one last point to leave you with on this because I think it is important and it’s one of the reasons why we added in the purple line this quarter, is we’ve generally had favorable experience relative to our plans.

Steven Schwartz – Raymond James

Right. You can see that. Yeah. Okay, one more, and I always ask this question and I never remember where to look. On the alternative investment income, how much of that – how much in the open block, how much do you have in alternative investment assets?

James Wehr

I’m going to ask Chris Wilkos to track that down. Everybody is trying to locate it for you as we’re all as geographically challenged as you are, Steven, in terms of finding the information. But if you could bear with us for a second, we’ll try and get it for you.

Steven Schwartz – Raymond James

Okay, that’s what I had.

James Wehr

Yep.

Peter Hofmann

Steven, the alternative asset exposure is listed in our portfolio supplement that I referenced on the website. It’s on Page 10 of that supplement. It does not break it down by opening closed block, but I think we can – I think on my slide, in my presentation, again we list the – we list the – are you looking for the income or the balances?

Steven Schwartz – Raymond James

I’m looking for the balance.

Peter Hofmann

All right, the consolidated balance, as I mentioned, is on Page 10 of the supplement. We can split that out for you.

Steven Schwartz – Raymond James

Okay. I would appreciate that. Thank you, guys.

Peter Hofmann

All right.

Operator

And at this time, I’m showing no further questions. I’d like to turn it back over to the speakers for closing comments.

James Wehr

Well, thanks, thanks Sarah, and thanks everyone for taking the time. We know this is busy, busy week and busy time in the quarter, so once again, thanks for the time and your attention. Have a good rest of your day.

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