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Reinsurance Group of America, Inc. (NYSE:RGA)

Q4 2011 Earnings Call

January 31, 2012 09:00 am ET

Executives

Greig Woodring – President and Chief Executive Officer

Jack Lay – Senior Executive Vice President and​ Chief Financial Officer

Analysts

Jimmy Bhullar – JP Morgan Securities Inc.

Andrew Kligerman – UBS

Steven Schwartz – Raymond James

Nigel Dally – Morgan Stanley

Jeffrey R. Schuman – KBW

Sarah DeWitt – Barclays Capital

John Nadel – Sterne Agee

Ryan Krueger – Dowling & Partners

Thomas Gallagher – Credit Suisse

Operator

Good day and welcome to the Reinsurance Group of America Fourth Quarter 2011 results conference call. Today’s call is being recorded. (Operator instructions.) At this time, I would like to introduce the President and Chief Executive Officer, Mr. Greig Woodring, and Senior Executive Vice President and Chief Financial Officer, Mr. Jack Lay. Please go ahead, Mr. Lay.

Jack Lay

Thank you. Good morning and welcome to RGA’s fourth quarter 2011 conference call. Joining me this morning is Greig Woodring, our CEO. I’ll turn the call over to Greig after a quick reminder about forward-looking information and non-GAAP financial measures. Following Greig’s prepared remarks, including premium and earnings guidance for 2012, we’ll open the line for your questions.

To help you better understand RGA’s business, we will make certain statements and discuss certain subjects during this call that will contain forward-looking information including among other things, investment performance, statements relating to projections of revenue or earnings, and future financial performance and growth potential for RGA and its subsidiaries.

Keep in mind that actual results could differ materially from the expected results. A list of important factors that could cause actual results to differ materially from expected result is included in the earnings release we issued yesterday.

In addition, during the course of the call, we will make comments on pretax and after-tax operating income, which is considered a non-GAAP financial measure under SEC regulations. We believe this measure better reflects the ongoing profitability and underlying trends of our business. Please refer to the tables in our press release and quarterly financial supplement for more information on this measure and reconciliations of operating income to net income for the various business segments. These documents and additional financial information may be found on our Investor Relations website at rgare.com.

I’ll turn the call over to Greig.

Greig Woodring

Thanks, Jack, and good morning, everyone. Thank you for joining us. We are pleased to report a solid fourth quarter and completion of a strong year in terms of operating earnings, capital generation and overall business growth and development. We’ve achieved approximately 13% or better operating ROE in each of the last six years now. By almost any financial measure, we feel RGA has performed consistently and strongly for an extended period of time, which speaks to the abilities of the team to develop and execute its business plans even in difficult economic times.

Getting back to the quarter, most of our markets performed better than expected, notably Canada and several markets in Europe and South Africa. The only underperformance related to poor disability claims experience in Australian operation and our US group operation. Consolidated operating income was $141 million, or $1.91 per diluted share, in line with our expectation, but not as strong as last year’s $161 million or $2.15 per share, which included $0.20 per share associated with the extension of the tax-related active financing exception legislation by Congress. That quarter also reflected better than expected claims experience.

The current quarter results included several tax related adjustments involving claims experience on certain treaties, deferred tax refinements and other items and totaled a $9 million reduction in tax provision or approximately $0.12 per share. Also, we did not close a prior tax year with the IRS in 2011, so there was no FIN 48 related reductions in the tax provision or interest expense. Failure to close cost RGA an estimated after-tax amount of approximately $19 million or $0.26 per share, the combined effect of tax provision and interest expense.

Net foreign currency fluctuations lower operating income by $1.6 million or about $0.02. Quarterly reported premiums exceeded $2 billion for the first time ever and increased 13% over 2010’s last quarter. Investment income was down 14% compared with the prior fourth quarter totaling $305 million, including a $51 million decrease in the fair value of option contracts, which are included in funds withheld at interest and support equity indexed annuities. Excluding those contracts, investment income was flat quarter over quarter despite a 24 basis point climb in yield.

For the year, operating income increased 7% to $539 million from $504 million in 2010. On a per share basis, operating income was up 8% totaling $7.28, including $0.13 of net favorable foreign currency fluctuations. Premiums grew 10% year over year and totaled $7.3 billion. Excluding foreign currency fluctuations, premiums increased 8%. Book value per share increased 22% during 2011 to $83.65 including AOCI. Without AOCI, book value per share grew 9%. Our net unrealized gain position now totals $1.4 billion, more than double the position at the end of 2010.

Turning now to our segment results, our US traditional business reported fourth quarter pretax operating income of $86 million compared with $107 million last year. Group disability claims, which can be quite volatile over short periods of time, were nearly $11 million higher than expected. This adverse experience was primarily attributable to a few clients in this short-term business. We’ve already adjusted prices where appropriate.

The group disability business is expected to be volatile and, if you will recall, performed better than expected in 2010. US mortality experience was in line with expectations. Premiums were up 9% this quarter totaling $1.1 billion for the year. Pretax operating income for US traditional business totaled $332 million versus $365 million in 2010 and premiums increased 5% to nearly $4 billion. Our US asset intensive results were quite strong in this quarter, helped by the recapture of a previously retroceded annuity treaty.

Pretax operating income totaled $27 million including$14 million associated with that recapture. Going forward, that recaptured business should add about $2 million to $3 million annual pretax operating income on our base.

For the year, this segment reported pretax operating income of $69 million versus $66 million in a strong 2010. Our VA business performed quite well this quarter, reflecting the strong equity market performance.

Financial reinsurance enjoyed a typically strong fourth quarter, taking advantage of growth opportunities and generating strong fee income. This business added $6.9 million in pretax operating income, up 23% from $5.6 million a year ago, with a full year pretax operating income totaling $26.5 million, up over 50% from 2010’s $17.5 million.

Turning to Canada, fourth quarter pretax operating income rose to $41 million compared to $37 million in last year’s fourth quarter. Both quarters were strong and reflected favorable mortality experience. Reported US dollar premiums rose 9% to $225 million from $206 million last year. In Canadian dollars, premiums were up 10% quarter over quarter. For the year, pretax operating income was up 27%, totaled $145 million including $5.4 million benefit associated with currency fluctuations. Plus, mortality improvements continue to characterize our Canadian business.

Turning to international operations, first in Asia Pacific, elevated disability claims in Australia led to a fourth quarter pretax operating loss of $1.2 million compared to a pretax operating gain of $8.1 million last year. Lower than expected terminations on disability claims cost a reserve strengthening resulting in approximately $16 million in increased liabilities. This reserve strengthening reduced our long-term claim termination assumptions on all DI business, both group and individual in Australia and New Zealand, however, Australia, reserves are larger on the group side, so the effect was greater there.

In total, we increased reserves, including IBNR by about 7%. During the fourth quarter, our experience study placed additional emphasis on broader market experience and we engaged a third party to evaluate our assumptions, our approach and conclusions.

We continue to compete in the Australian market. We like our position in the market and we like our team. We expect to generate about $150 million in disability premiums in 2012 with good margins. In this market, we have the ability to re-price group treaties when necessary and, in fact, continually do so.

The rest of Asia performed slightly better than expected in the quarter. Premiums totaled $348 million, up 8% from last year’s $323 million. For the year, pretax operating income decreased in Asia from $64 million from $84 million in 2010, primarily due to the poor disability experience that we just mentioned. Full year reported premiums were up 15% to $1.3 billion and local currency premiums rose 5% in 2011. We expect our strong brand and market shares in Asia to pay significant dividends in the future.

Next, in Europe and South Africa, fourth quarter pretax operating income was $39 million, up from $36 million last year. A very strong fourth quarter in 2010 makes for a difficult comparison, but the claims results this quarter were generally favorable throughout most markets, particularly in the UK and in South Africa. Reported premiums were $356 million, a 38% increase over last year, including about $65 million associated with a single premium transaction and $9 million drag from currency fluctuations.

For the year, pretax operating income in Europe was up 13%, $4 million. Reported premiums rose 30% to $1.2 billion. Ignoring currency fluctuations, premium rose 27% over 2010.

Overall, we’re pleased to report a good quarter and a strong financial result of $7.28 per share. Operating return on equity was 13% in 2011. Our balance sheet and capitalization remains strong and our prospects for long-term growth, particularly in our international markets, also remains strong. We estimate our excess capital position to be around $500 million. Low investment yields will continue to be a headwind, but perhaps not as strong as it will be for others in the financial services sector, given our mortality business focus.

Looking ahead to 2012, we’ve set an operating income target of $6.70 to $7.30 per share and consolidated premium growth of approximately 7% to 9%. Our guidance reflects adverse effects of approximately $0.55 and $0.15 per diluted share related to the adoption of new DAC accounting rules and of lower anticipated investment yields in 2012, respectively. As a result of these factors, we expect 2012 ROE to be adversely affected by about 50 basis points.

We’ve provided additional premium guidance in our quarterly financial supplement, which can be found on our website. We’re looking forward to our investor day conference, which will be held March 14th at the Plaza Hotel in New York City. Many of you who have already accepted, we thank you and appreciate your support and your interest in RGA. We will now take any questions you may have.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions.) Our first question this morning will come from Jimmy Bhullar with JP Morgan. Please go ahead.

Jimmy Bhullar – JP Morgan

Hi. Good morning. I had a few questions. The first one, if you could just talk about disability claims being elevated in the US and Australian businesses. I think the business re-prices each year, but this has been a recurring issue the past few quarters, so what’s your expectation for claims for 2012?

Secondly, you mentioned excess capital of $500 million. I wanted to get an idea if you’re assuming any capital deployment in your guidance, and at what point do you start deploying that capital if you don’t see any blocked transactions?

The final question I have is you mentioned the $0.15 impact on 2012 EPS from investing at lower new money rates. How should we think about that $0.15 changing as you go? If rates were to stay stable through 2013 and beyond, should that compound over time?

Greig Woodring

Okay, let me take the first question you had on disability claims, Jimmy. First of all, we don’t view that there’s any real connection between the US and Australia. The economic conditions are quite different in the two countries and so forth. While in the US, in taking a look at the claim, we didn’t think that the claims were necessarily of the sort that would be economy related. We did feel that it’s possible that the economy has an effect on recovery rates from disability.

Also, with the low interest rate environment, that in and of itself required us to think about increasing our reserves on that business. In the US, we, basically, for the year had a couple of bad groups. Those do re-price. One of them had already re-priced. One of them is to be re-priced soon.

In the fourth quarter, we actually had three groups that were troublesome. One had a good year overall. When you put 2011 and 2010 together in the US and Canada, we basically were just about exactly on plan. That business has shown the expected volatility we would reckon on, but this particular quarter was a tough one.

Turning to Australia now, the problem is mostly group business because we have so much more group business than individual business there and that does re-price periodically. Some of those group contracts in Australia may go as long as three years.

We have not seen a whole lot of excess incidents rates in Australia. We’ve seen mostly damage from recovery rates being slow and that’s an industry-wide phenomenon, that recovery rates have seemed to slow down. In that sense, it is similar to what’s happening in the US, but we’ve looked at industry information and used a lot of that, incorporated a lot of that into our reserve increases trying to get on top of it, because Australia, after a long string of very excellent years, has had a very rough 18 months. We wanted to get out in front of this, so we believe that we have, to the best of our knowledge at this point, taken care of the disability issues in Australia.

Jimmy Bhullar – JP Morgan

Are you assuming recent recovery rates in the reserve charge, or are you still assuming a reversion to how recovery rates have been historically?

Greig Woodring

We will assume recent experience. We look very deeply at reserves on the group side twice a year on the disability book, so it gets refreshed periodically, but we’re using current experience.

Jimmy Bhullar – JP Morgan

Okay.

Jack Lay

Jimmy, this is Jack. I’ll handle the question on excess capital. The guidance that we put forth does not presume that we’re taking out any significant amount of capital, either through significant increases in dividend rates, or buybacks, or anything like that, so you could think of it as we have presumed a modest redeployment of excess capital, although I’ll remind you that, typically, as we deploy capital into the business, the returns are more modest, initially, and then they tend to build over time, so the redeployment doesn’t have a dramatic effect on earnings. Hopefully, that answers that question.

I guess the other question you raised on that front was at what point during the year would we try to redetermine or take another look at any kind of capital deployment or return of capital. We really do that -- not like we have a specific timetable because we do it continually. The deliberations or what opportunities do we have to deploy that capital in the business, how much have we built any additional cushion, so to speak, in terms of the capital level and that sort of thing. Suffice it to say we do look at that continually and our trading value, the stock, obviously, as well. We look at all those things continually to see if we shouldn’t take a different step or a different tact in terms of capital refinement.

In terms of the investment yield, you should think of that $0.15 impact in 2012 as likely the most significant. We estimate that it would trail off as we get more to equilibrium with respect to new money rates and the overall portfolio rates, so we certainly wouldn’t expect to see that amount increasing. And, over time, we would expect to see it moderating somewhat. Hopefully, that answers your question.

Jimmy Bhullar – JP Morgan Securities Inc.

Okay, thank you.

Operator

We’ll take our next question from Andrew Kligerman with UBS.

Andrew Kligerman – UBS

Good morning. A few questions. First, on the robust premium growth, maybe you could give a little color on the strengths, and maybe within your guidance, where you expect premiums to go. We saw US trade up 9%, ex currency Canada was up 10%, Europe South Africa up 42%, and I think you mentioned a $65 million one-time contract in that region. I’d like a little color on what you’re thinking those numbers will be as part of your guidance for 2012.

Same thing on the tax rate. It looked unusually low this quarter. What kind of rate should we be thinking about there?

Lastly, with regard to the excess capital of $0.5 billion, how much of that do you just want to have at all times as a base just for whatever particular reason as sort of a buffer?

Greig Woodring

Okay, Andrew. This is Greig. I’ll take the first one. Our estimates for 2012 are simply that. They take into account the things that happened late in the year, the pipeline that we have that we believe we can count on, at least to some extent, and our best estimate of what we might expect going forward. We feel, for example, in the US, that we will grow our traditional business at least 5%. We think that’s a pretty solid number. We’ve had very strong growth out of Europe this year, in 2011, that is.

It’s difficult to have too much visibility going forward. There seemed to be a lot of unusual opportunities, but the regular day to day activity seems to be questionable in terms of how much growth we’ll see there.

And then Asia, actually, we’re still refilling pipelines in Japan and Korea to some extent. Once we get that, outside of those, Asia’s growing at a very nice clip for us, too, so those are the sorts of things we take into account. In terms of unusual transactions, there seemed to be a lot of possibilities on the horizon at the moment, so that’s why we’re very optimistic about some things happening, but those are very uncertain as to when and how they’re going to --

Andrew Kligerman – UBS

Unusual transactions across Europe and Asia?

Greig Woodring

More in the US and Europe, some is Asia, as well, I guess. Across the board, we are generating quite a bit of opportunity, but it’s just that until it’s actually wrestled to the ground. We’re working hard at that but we’ll see what develops in 2012. We’re optimistic going into the year that we have a lot of momentum and a lot of things happening.

Andrew Kligerman – UBS

Greig, what was the strength in the US premium in the fourth quarter?

Greig Woodring

It comes across the board a little bit, and in any given quarter, Andrew, some of those things can be a little bit choppy, but traditional mortality markets business, as you know, has been declining in terms of growth rate for some time. That’s fallen to a reasonably low level, but when you supplement that with some of the group businesses and the long-term care business that we’ve been doing, you get a nice number.

There were some unusual transactions in the fourth quarter. There will be some in 2012; I just don’t know what they are or when they’ll appear. We will, I think, see pretty good growth rates in 2012. Like I said, we expect at least 5%.

Jack Lay

Andrew, this is Jack. I’ll take the comment on the tax rate. It was, in fact, low, actually, for the quarter, as well as for the year. I would guide you towards a run rate and it’s choppy from quarter to quarter, so don’t hold us to this each quarter, but for the year, our expectation going forward is roughly a 33% effective rate in terms of our tax provision, so I think that’s what you should presume.

This year was choppy for a variety of reasons. You may recall in the third quarter in particular we had some deferred tax liabilities that we adjusted. That went through the tax provision and as a result, it affected the effective tax rate. We also did not close a year with respect to the guidance under FIN 48. That had some impact on the effective tax rate. It had more impact on our interest expense. We, in fact, didn’t reverse some interest expense that we would normally have expected to. That’s why I just guide you towards a 33% rate expectation in terms of next year.

Relative to your question on excess capital, we have about $0.5 billion, best estimate, currently. As a matter of policy, we do try to keep a buffer or a cushion. I would characterize that as roughly half of that, so $250 million to $300 million, feels about right in terms of keeping at least some excess capital.

Now, having said that, it doesn’t mean that we would be uncomfortable if we had the opportunity tomorrow to deploy all $500 million at a meaningful return that we would take advantage of that opportunity. In other words, that buffer cushion is more long term in nature, but to the extent that we would deploy some of that cushion and then rebuild it over a relatively short period of time, we would certainly consider that.

Andrew Kligerman – UBS

It sounds like the run off opportunities that Greig was just referring to in terms of premium growth would cause you to deploy a fair chunk of that $500 million?

Jack Lay

It could. It’s just a matter of what we execute and what we don’t, but as you know, we continually look at those sorts of opportunities, but it really just depends on the extent to which we’re successful and closing.

Andrew Kligerman – UBS

Thanks.

Operator

Our next question will come from Steven Schwartz with Raymond James.

Steven Schwartz – Raymond James

Good morning everybody. I have a few as well, but I’ll take them one at a time. Looking at the guidance for 2012, a couple of questions there. I think first, Jack, are you guys assuming something from FIN 48 running through there for this year?

Jack Lay

Steven, yes, we are, although it’s far from clear whether we will be able to execute on that. It’s not particularly dramatic, but it’s not insignificant, either. I think it’s probably $0.12 to $0.14 would be the impact if we didn’t close the year, but it’s kind of hard to go year to year to year and sometimes include a year rolling off and sometimes we don’t. As a matter of procedure, we typically just presume we’ll roll off a year.

Steven Schwartz – Raymond James

Alight, and then also on guidance, I guess following up on Andrew’s question with regards to the US, now the business has slowed. We all know that. Primary companies are keeping more capital, so that’s not a surprise. I guess.

Greig, could you talk about maybe a split between how you see the in force growing as opposed to how you see, maybe, premium yield increasing as the book ages?

Greig Woodring

Our US mortality block will grow somewhere around a percent, would be my guess, Steven. It doesn’t grow a whole lot, but it doesn’t decrease. It should grow at maybe a percent, something like that.

Steven Schwartz – Raymond James

Okay, just wanted to make sure. And then, one more, please, on Australia. Greig, in your commentary, did you indicate that the problem was STD, not long-term disability?

Greig Woodring

No, it’s group long-term disability.

Steven Schwartz – Raymond James

It is long-term group disability?

Greig Woodring

Typically, lump sum.

Steven Schwartz – Raymond James

Okay, great. Thank you, guys.

Operator

Our next question comes from Nigel Dally with Morgan Stanley.

Nigel Dally – Morgan Stanley

Great, thanks. First, another one with capital. Your excess capital is staying consistently at $500 million throughout the year. Does this imply that your ongoing operations are really not generating any incremental free cash flow? Any comment there would be helpful.

Second, on corporate expenses being particularly high this quarter, can we get some details as to what was driving that? What’s the rates move, run rates, for corporate as we look forward?

Lastly, the asset intent of annuity recapture. Are there additional treaties that you’re looking at also recapturing, or should we view that more as a one-time item? Thanks.

Jack Lay

Nigel, this is Jack. In terms of capital generation, it changes year to year but our best estimate going forward, at least for the near term, is we would generate roughly a couple hundred million, $200 million, of free cash flow, or additional capital, probably is a better way to look at it, but generally, it’s available capital. So, roughly $200 million a year, I think, is a good run rate.

In terms of the expenses, we normally, particularly in the fourth quarter because we’ve closed a year, we tend to refine some of the accruals. Incentive comp comes to mind where a lot of the team is compensated with some degree of incentive comp, and then at the end of the year, you’ve got a better picture in terms of what the calculations look like, so it’s not unusual for us in the fourth quarter. In fact, if you went back and looked, you’ll see this in quite a few of the years where we’ll refine some of the expense accruals including incentive comp. As a result, you have a little bit of dislocation in the fourth quarter.

There aren’t a whole lot of situations where we’ll recapture, although this is two years in a row where we’ve done some recapture on the annuities front. We did a smaller recapture earlier in the year in one of our other lines of business, so we’re continually on the lookout for situations where we can recapture unfavorable terms and that happens from time to time. So, it’s a run off item, but it’s not something that’s unheard of, either.

Nigel Dally – Morgan Stanley

Great. Just to follow up on the free cash play, the $200 million, is that the amount of cash which is generated to be dividended up to the [whole cores], or is the before [whole core] expense and dividends, or is that total amount available for things like buybacks going forward?

Jack Lay

Well, it’s cash flow available that we could get to the holding company if we so desired, so in that respect, it would be available for buybacks or dividends or anything like that.

Nigel Dally – Morgan Stanley

Got it. Thanks.

Operator

Our next question comes from Jeffrey Schuman with KBW. Please go ahead.

Jeffrey R. Schuman – KBW

Thanks. Good morning. I was hoping first to circle back a little bit more on Australia.

First of all, a clarification. I think when we’ve talked in the past about group disability and the weakness from a year ago, I think there was some discussion about a particular contract that had a finite life and I thought it was going to wrap up in fourth quarter of 2011. Am I remembering that correctly?

Greig Woodring

Yes, you are. The problem last year was one particular treaty that really soured badly. That treaty is no longer an issue, so this is a bit more of across the board reserve increases.

Jeffrey R. Schuman – KBW

Okay, and then I think you said for 2012, $150 million of disability premium. Is that individual and group? If so, how does that split out, approximately?

Greig Woodring

I believe that it would be predominately overwhelmingly group, 70% to 80% group, I would imagine. That’s a guesstimate, but the individual numbers are not very big.

Jeffrey R. Schuman – KBW

I just wondered directionally, because I think at investor day, there were some numbers that suggested a strength of disability was about $80 million of premiums, so I guess a little bit surprised to see it increasing given the fact that it’s been kind of a difficult market. Is that a business you think is attractive to grow at this point?

Greig Woodring

Yeah, I suspect it’s a bit of a refinement in the number, Jeff. The group business in Australia has been a very attractive market for a while, but it is a somewhat cyclical business. It has been, in our past, quite profitable. Now, it’s quite competitive and it’s going through an area where it’s difficult, so we haven’t been growing that business very much.

I would expect that you’ve seen very little growth in the last year, some growth on the individual side. Individual disability in Australia is wrapped up in all the life insurance policies, so it’s very difficult to reinsure a mortality risk without taking some disability risk as well. We take some individual disability risk incidentally, but it doesn’t amount to that much.

Jeffrey R. Schuman – KBW

Okay, and then, I’m sorry if you mentioned this, but what was the nature of the large Italian transaction?

Greig Woodring

It was a single premium business out of Italy.

Jeffrey R. Schuman – KBW

Mortality?

Greig Woodring

It was creditor business. It has a mixture of different coverages in it.

Jeffrey R. Schuman – KBW

Okay, and then lastly, I know it’s early and these things take a while, but any read from your lobbyists on the prospects for the active financing exception?

Jack Lay

Jeff, this is Jack. Our lobbyists are pretty confident that in fact that legislation will take place. I guess we’re a little more conservative, so it remains to be seen, but we are encouraged by what the lobbyists, who we paid for their opinions, we’re encouraged by what they tell us.

Greig Woodring

Even our lobbyists have said that if it’s going to happen, it’s probably going to happen after the election in November. It’s not going to happen early in the year.

Jeffrey R. Schuman – KBW

Right. That makes sense. Thanks a lot, guys.

Operator

Our next question comes from Sarah DeWitt, Barclays Capital.

Sarah DeWitt – Barclays Capital

Hi. Good morning. Following up on your excess capital position, you’re holding a meaningful amount of excess capital and that should probably continue to build. How should we think about the timing in terms of deploying that? Are you holding on to excess capital for a certain amount of time in hopes that opportunities for acquisitions present themselves? At what point would you look at share buybacks?

Jack Lay

Sarah, this is Jack. We don’t have a set timetable. We continually look at opportunities to deploy the capital, so that’s just a matter of course. We’re continually doing that sort of thing.

Now, if we get well into the year and have not deployed any meaningful amount of that excess capital, and maybe more importantly, don’t see opportunities in the pipeline to deploy it, then we would look more seriously at what’s a better way to refine the capital base.

There’s not a set timetable, but we all are continually cognizant of the fact that we do have additional capital, so we continually have that discussion internally in terms of what’s the best course of action at this point. Did that answer the question?

Sarah DeWitt – Barclays Capital

Yeah, that’s great. Thank you. And then, secondly, I wanted to see if we get a little more color on your expectations for premium growth in Europe, South Africa and the Asia Pacific segments. I was surprised that you expect that to slow quite a bit from the double-digit levels currently and would have thought those would be your faster growing segments. Could you give a little more color on your outlook there?

Jack Lay

Yeah, Sarah. Start with Asia. As I mentioned, it’s been repairing pipelines in Korea and Japan. It looks like we’re growing again in South Korea a little bit, and in Japan we had another large treaty that ran its course or is now no longer producing and we will have to replace that.

If you exclude Japan and Korea, Asia grew at a very nice clip. We would expect that growth rate to more or less continue, with the potential exception of Australia, which, as I said, is a very competitive market on the group side and group business is a little over half of our business. We would expect Australia to have a tougher time growing but the rest of Asia will have a pretty good run, and then we expect growth from Korea and Japan to recommence soon.

You put all that together and it’s a little bit uncertain. I think the same thing could be said of Europe. We see a lot of opportunities and a lot of momentum. At the same time, we’re a little bit cautious about exactly what the organic growth rates might be in Europe with all the dislocation coming there. We believe we will do well in those markets, relatively, and we are competing strongly in most of the European markets.

South Africa is a place that grew nicely in 2011 and kind of hard to predict where it’s going to go in 2012, but we’re encouraged by the experience in South Africa in 2011. We had great results there and we’re just a little bit cautious in projecting, though, the same sort of growth rates we’ve seen in 2011 into 2012.

Sarah DeWitt – Barclays Capital

Okay, great. Thanks for the answers.

Operator

We’ll hear next from John Nadel with Sterne Agee.

John Nadel – Sterne Agee

Good morning. I had a couple of questions on the guidance. Particularly thinking about the US traditional business, in the guidance, are you assuming that session rates in the United States have bottomed?

Greig Woodring

No, John. They might come down a bit. We also expect that our market share in 2010 was higher than reasonable to expect and we expect our market share to be coming down in 2011 and a bit in 2012.

Nonetheless, we see, also, some opportunities in 2012. While we can’t count them until they’re done, like I said, we believe that 5% is a pretty good number as a minimum.

John Nadel – Sterne Agee

Okay, and then if I look at the full year 2011, so US traditional life you grew premiums about 5.5% year over year. Can you give us a sense for how much of that growth was what you guys would refer to as more traditional mortality risk business versus maybe the other less traditional businesses for you guys, group insurance or the long-term care or the combination?

Jack Lay

John, this is Jack. I’ll take that. That growth rate, I would say that what you could characterize as purely US traditional business was a little bit lower. Not dramatically, but a little bit lower than that overall growth rate, and then to the extent you get up to 5% it’s because the growth in, for instance, the group or the LTC business is at a little bit higher rate.

Keep in mind, those are substantially smaller blocks of business. It’s still the impact of what we would characterize as traditional business is the most dramatic. Long-term care grew at the fastest rate, but it’s a real small piece of the overall.

John Nadel – Sterne Agee

Thinking now to the 2012, the 5% to 7% growth that you’re looking for for premiums in the US traditional, should we be thinking sort of similar to 2011?

Jack Lay

Yeah, I think you should.

John Nadel – Sterne Agee

And then, just curious on a couple quarters ago, maybe it was even as long ago as late last year, you guys had called out that early-2000’s, maybe early- to mid-2000’s cohort of business in US trade, that was maybe producing lower returns than your overall book. You had mentioned that that was peaking or was about to peak as a percentage of the business.

Can you give us just an update on where that stands? I’m trying to understand as you build out your forecast for 2012, should we be expecting meaningful improvement in, let’s say, the benefit ratio or the underwriting results of US traditional?

Jack Lay

Yeah, John, those things don’t move very quickly. Peaking may give the wrong impression. Plateauing might be a better term because it doesn’t really hit a peak and come down real fast. It is the lowest return business we have and the new business we’re writing and have written for the last several years is much higher return than that business. I can say that and that will ultimately erode that negative effect from that low returns on business written from about ’98 to 2003 or 2004.

John Nadel – Sterne Agee

Okay, so slower if we’re thinking about underwriting results, let’s say, benefit ratio or benefit plus expense ratio, we ought to be thinking about more modest case of reversion back to a historical level?

Jack Lay

Oh, yeah. Yeah, I’d say it moves only gradually. It’s very soft.

John Nadel – Sterne Agee

Okay and then last, and I know this is probably a tougher one, but you reported $7.28 of operating EPS in 2011. There’s obviously changes in mortality and risk experience relative to pricing, but there’s also a lot of other one-time items, tax items, the recaptures, a few other things.

As you guys think about the right baseline that we ought to be thinking about to judge your EPS growth for 2012, is there a core level that you would point us to as the baseline for 2011 results?

Jack Lay

John, this is Jack. We did have a lot of noise, so to speak. Every year we always have some degree of noise, but in 2011, we probably had more than we would normally have, but, to me, the most obvious to pull out of there are refinements of deferred taxes. That’s truly unusual. You wouldn’t expect that to recur and that was to our benefit.

When you put all that together, we view the run rate for 2011 as roughly $7. I think that gets to the heart of your question.

John Nadel – Sterne Agee

That’s very helpful. Thank you very much.

Operator

Our next question comes from Ryan Krueger, Dowling & Partners. Please go ahead.

Ryan Krueger – Dowling & Partners

Thanks. Good morning. First, a follow up on the US growth. You mentioned further session rate declines as though it was bit lower market share expectation for 2012, but if the 5% to 7% guidance is kind of in line to better than what we saw in 2011, so I was just hoping for maybe a little bit more color.

It seems like you have some factors that maybe would push the growth rate slightly lower than 2011. I’m wondering if there’s some specific considerations we should be keeping in mind for where you’re going to pick up that lost growth.

Greig Woodring

Ryan, it does sound a little bit contradictory in some senses, but first of all, we don’t expect our business to go down a whole lot. We’re also mindful of what happened in the latter part of 2011, baking that into our expectations for 2012 as well as, to some degree, the elements that we see in the pipeline right now.

We’re putting together a lot of stuff that we have available and it’s our best estimate. It’s nothing we can actually put in the bank, but it’s something we have some conviction on based on all the things we’re seeing, and even though it does sound contradictory, I think that’s what we come out with.

Ryan Krueger – Dowling & Partners

Okay, thanks. And then, on Japan and Korea, the pipeline, can you just give us a sense of the premium growth you’re expecting in those two markets versus the rest of the geography in Asia Pacific?

Greig Woodring

Ryan, off the top of my head, I’m not sure I can do that. I would think that Korea is in single digits expectation for 2012 and I would expect Japan will struggle to get back to zero after ’11. I suspect Japan will be negative growth next year, or pretty flat, if not.

Ryan Krueger – Dowling & Partners

Lastly, on the active financing exception, should we expect a higher tax rate to be booked in the first few quarters like a 2010 experience followed by a droop once you have more clarity, or would you expect to book it the whole year like you’ll get the exception?

Jack Lay

Ryan, this is Jack. You should expect a higher tax provision, higher effective tax rate until that legislation has passed. We talked about that earlier, that it would not be unusual for that legislation not to be passed until the fourth quarter.

Ryan Krueger – Dowling & Partners

Okay, so your guidance seems it’s passed, but I guess the emergence of it would imply a little bit of a back end loaded benefit?

Jack Lay

That’s absolutely right, and you refer to 2010 and, yeah, that’s the sort of pattern that you could expect.

Ryan Krueger – Dowling & Partners

Okay, great. Thanks a lot.

Operator

We’ll hear next from Thomas Gallagher with Credit Suisse. Please go ahead.

Thomas Gallagher – Credit Suisse

Good morning. Just a few higher level questions. Can you talk a little bit about just a general competitive environment?

Some of your major competitors are European financial institutions where clearly things have been a bit more challenging. Just curious if you’re seeing related improvement in pricing pretty much across the board in terms of the geographies, because they obviously compete with you in multi jurisdictions. That’s my first question.

Greig Woodring

Tom, I would say no, that we haven’t seen any effects of any stresses on European competitors. They’re still competing very vigorously and, in fact, if anything, competition is generally a little bit higher than it’s been. It’s not unduly high, but it’s a little bit higher than it’s been in the past while as it’s trending upward, if anything, but it’s spotty.

Thomas Gallagher – Credit Suisse

So, you’re not seeing any alleviation from a pricing standpoint?

Greig Woodring

We don’t see it.

Thomas Gallagher – Credit Suisse

Got it, and then just a question on Bermuda. There are capital changes coming, I guess, from the regulatory regime there adopting solvency, too, I believe, in 2013. Can you comment whether or not this can have any impact on you, and also, do you see this creating any potential opportunities?

Greig Woodring

First of all, it shouldn’t have very much of an impact on us. We do have a subsidiary in Bermuda that we use for some things, but it’s not really likely that that will have much of an impact at all on us, nor do we really see it as something that’s going to affect in any major way most of our competitors who use writing subsidiaries in other jurisdictions.

We would expect competition’s pretty much going to be similar. Some of the annuity transactions where the competition comes from some of the Bermudian operations might be affected a bit. We’ll see. That’s the only place where we might, and we’re not doing a whole lot in that space, given the environment right now in terms of new business activity. I really don’t expect the advent of solvency, too, in Bermuda to have any big changes.

Thomas Gallagher – Credit Suisse

Then lastly, on a related note, it would seem that the biggest area of dislocation in the US is clearly the variable annuity market. I know you had done some transactions a while ago, but do you see there being any opportunities for you as it relates to any structured variable annuity risk transfer-type deals, or any comments there?

Greig Woodring

Yeah, we continue to look at the evolution of the variable annuity space. We’re trying to find some spot where volatility is not a significant problem and where the return expectations are reasonably full. We haven’t found any yet that have encouraged us to take a plunge.

Certainly, if we wanted to reinsure variable annuities, we could have discussions with a number of companies that would like to reinsure variable annuities, either back books or new business. That’s not a problem in terms of demand from our perspective. It’s finding the right product possibilities that will enable us to go forward. We haven’t done any in, as you said, a number of years now.

Thomas Gallagher – Credit Suisse

Okay, thanks.

Operator

We’ll go next to Steven Schwartz, Raymond James. Please go ahead.

Steven Schwartz – Raymond James

Just a quick follow up. The deal in Italy, did that add or subtract earnings at all in the quarter?

Greig Woodring

I don’t know, Steven, but my guess is it would almost be zero.

Jack Lay

This is Jack. It was very modest.

Steven Schwartz – Raymond James

Okay, I just wanted to make sure.

Operator

We’ll take the next question from Jeffrey Schuman, KBW.

Jeffrey R. Schuman – KBW

Thanks. Just want to get a little more perspective on the US pipeline. It sounds like you see a number of potential kind of one-off larger transactions. I’m wondering if there are some general themes. Tom asked about variable annuities as one possibility, but are you seeing companies strategically want to exit lines of business? Are you seeing different kind of risk management exercises or capital arbitrage or any themes to dominate those opportunities?

Greig Woodring

We are seeing companies, Jeff, that do want to exit the business. We’re seeing companies that want to streamline their operations, so we are seeing some one-off disposals or one-time events as possibilities. Again, it’s hard to say what might happen or might not happen because they are quite varied, but some of them are in the traditional mortality space, so we view that as a very sweet spot for us.

Jeffrey R. Schuman – KBW

Okay, thanks a lot.

Operator

We’ll go back to John Nadel, Sterne Agee.

John Nadel – Sterne Agee

Just a quick one, maybe to take this way down into the weeds. I apologize, but just a quick one on the DAC accounting change. If we’re looking at a roughly $0.55 headwind, and more of a modeling question, but can you give us a rough sense maybe breaking down that $0.55 by region or by segment?

Jack Lay

John, this is Jack. I don’t have the breakdown in front of me, but a considerable amount of the impact relates to our international operation.

John Nadel – Sterne Agee

Yeah, I understood that.

Jack Lay

Yeah, because they’ve grown fairly rapidly, as you know, over the last few years, so there’s been a lot of infrastructure buildup—infrastructure not in terms of buildings, but just systems and people and all that sort of thing, some of which entered into the DAC calculations.

So, I would say in terms of impact on historic earnings, you’ll see more impact on the international operation than you will see on the North American operations.

John Nadel – Sterne Agee

I can follow up with you offline if necessary. I just was wondering does that mean 50% of the DAC headwind, or does that mean something more like 75% or 80% of the headwind comes from international? That’s all.

Jack Lay

Yeah, we’ll probably have to take it offline because I’m not sure that I’ve got a summary, and it’s very different from office to office and that sort of thing, so that gets to be rather involved.

John Nadel – Sterne Agee

Okay, I’ll follow up with you. Thanks.

Operator

Gentlemen, we have no questions remaining. I’ll turn the call back over to you for any additional remarks.

Greig Woodring

Thanks to everyone for joining us today, and to the extent any other issues or questions come up, feel free to give us a call here in St. Louis and we’ll respond. With that, we’ll end the call. Thank you very much.

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