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The Phoenix Companies, Inc. (NYSE:PNX)

Q2 2012 Earnings Conference Call

August 1, 2012 10:00 AM ET

Executives

Jim Wehr – President and CEO

Peter Hofmann – Chief Financial Officer

Chris Wilkos – Chief Investment Officer

Phil Polkinghorn – Senior Executive Vice President for Business Development

David Pellerin – Chief Accounting Officer.

Naomi Kleinman – Head of Investor Relations

Analysts

Bob Glasspiegel – Langen McAlenney

Randy Binner – FBR Capital Markets & Co.

Steven Schwartz – Raymond James

Operator

Welcome to the Phoenix Second Quarter 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 like to turn the call over to the Head of Phoenix Investor Relations, Naomi Kleinman. You may begin.

Naomi Kleinman

Good morning 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.

After that, Peter Hofmann, our Chief Financial Officer, will provide a financial review and Chris Wilkos, our Chief Investment Officer will comment on the investment portfolio. Also joining us on the call are, Phil Polkinghorn, Senior EVP for Business Development and Doug Miller, 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 2 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 (inaudible) we use non-GAAP financial measures to evaluate our financial results. Reconciliations of these non-GAAP financial measures to the applicable (inaudible) GAAP measures are included in our press release and financial supplement.

Now, I’ll turn the call over to Jim.

Jim Wehr

Good morning everyone and thanks, Naomi. We appreciate you taking the time to join us on our second quarter 2012 earnings call. I’d like to begin by welcoming, Doug Miller, our new Chief Accounting Officer to the team. It’s has been a little over a month since Doug started and it’s has been great to have him here.

Now let me share some thoughts and comments on the quarter. To summarize, our results were mixed. On the one hand, operating income was lower than recent quarters. We had a $13 million net loss partially driven by a charge in discontinued operations. And fixed index annuity sales were down sequentially.

On the other hand, we delivered some fairly strong results demonstrating continued progress in key areas of the business. I’ll start with the positives and then work my way back to the full picture for the quarter.

Looking first at the balance sheet, we continue to improve our statutory capital position with surplus at $959 million, up 13% since year-end. Similarly, RBC has increased to an estimated 395%. Strong statutory earnings and appreciation in our alternative investments contributed to both of these increases.

Mortality experience was modestly favorable this quarter particularly in the close block. Investment income increased 3% year-over-year and our portfolio generated favorable credit results. Persistency improved across the board. Life surrenders were at an annualized rate of 5.4% for the second quarter compared with 6.4% for the first quarter. Annuity surrenders showed modest improvement as well.

We’ve maintained pre-financial crisis persistency levels for the last several quarters and expect to maintain them going forward. So, with all of these positives in our fundamentals, why the weaker GAAP results, a few reasons.

First, fee income was lower and the weak equity market also played a role, most notably by causing us to accelerate DAC amortization in our variable products.

Second, although we saw a growth in net investment income sustained low interest rates, produced some headwinds. And much of the income from alternative investments benefited closed block policy holders, but was not reflected in GAAP earnings. Expenses were up honestly in the quarter, as we are still making investments that will ultimately enable significant expense reductions in 2013. We remain committed to lowering expenses by $20 million by the end of next year and of course their taxes.

We believe we returned to a normal tax situation soon and Peter will take you through the details. But for this quarter, the effective tax rate on operating earnings was 87%.

Finally, there is the charge in our discontinued group accident and health reinsurance business. While this block has been a challenge for more than a decade, the actions we took in the second quarter significantly reduced future exposure to this business.

Now, let’s move to growth and to annuities, where our pace of growth slowed from the first quarter. We’ve consistently said we’ll be prudent in how we grow the business, balancing sales volume with profitability. And this quarter is an excellent example of that approach as second quarter fixed index annuity sales generated more embedded value than any prior quarter sales, (inaudible) quarter knowing that it could impact sales at least in the short-terms. But by applying disciplines with this product line, we improved profitability.

At the same time, we’re expanding and enhancing our product suite to stay competitive and ultimately accelerate sales. The most recent product launches were in June and we are pleased with the initial reception in the marketplace. We now have over $4.8 billion in total annuity funds under management with $1.5 billion of fixed index annuities.

Let’s move on to Saybrus, our distribution company. Saybrus posted a modest EBITDA profit this quarter slightly lower than the first quarter after making investments to enhance growth. Third-party revenues increased as work with Edward Jones and Wells Fargo expanded.

In preparing for these calls, I often look back at what we’ve said, questions people have had and our overall strategic thinking. This time last year, I talked about how we’re going to continue to focus on the four pillars I laid out in 2009; balance sheet strength, policy holder service, operational efficiency and profitable growth. I said we were getting the fundamental results we anticipated and we were making steady progress. Looking at this quarter, I believe those statements remain on target.

While a lot of variables affected the quarter, the fact remains that we continue to build this company and even with the occasional curve ball make the steady progress we need to make. The management team remains committed to building a profitable growing enterprise and as demonstrated that commitment through meaningful open market purchases of Phoenix shares in the first half of this year. These purchases reinforce our commitment too and alignment with shareholders.

With that, let me turn it over to Peter. Peter?

Peter Hofmann

Thanks, Jim. As Jim mentioned we had a mixed quarter, you can see no Slide 3, our financials reflect week GAAP but strong statutory results, while fundamentals were generally positive. GAAP pretax operating earnings were $7.9 million or $0.07 per share which is below recent quarters. The biggest drivers were decline in fee income and the weak equity market.

We had a GAAP net loss of $13.2 million or $0.11 per share reflecting $0.06 related to the discontinued reinsurance business and $0.06 of mark-to-market losses on fixed index annuity hedges. We again had an unusually high GAAP tax rate because of strong taxable earnings.

Statutory surplus grew 13% continuing the theme of meaning capital generation. Our insurance fundamentals remain solid. Mortality experienced a persistency where both favorable and the investment portfolio continues to perform well with growth in that investment income and impairments lower than expectations.

With respect to new business initiatives, although second quarter fixed index annuity sales were lower, as Jim pointed out, they generated more embedded value than any prior quarter sales. At Saybrus, third-party revenue grew by 22% sequentially and EBITDA remained positive despite the decline in Phoenix annuity sales.

Slide 4 shows quarterly GAAP income statement details. You can see that open block revenues were down $9.3 million from the first quarter and $11.7 million from a year ago, driven primary by decline in fees. Cost of insurance fees decreased as a result of policy lapses. Surrender charges also decreased due to lower surrenders and the acing of the business. And other fees were lower and part due to the impact of the equity markets on asset balances.

Operating expenses were higher versus last quarter and a year ago, this is primary due to higher employee benefit and legal costs. The weak equity market also resulted in higher DAC amortization and higher benefit reserves in the variable annuity business.

Overall, we estimate that the weak market reduced pretax earnings by about $5 million relative to our expectations. The regulatory closed block contributed $11.4 million consistent with the glide path of the block.

Realized investment losses included a $7 million loss and call options purchased to hedge annual index credits and fixed index annuities and $5.1 million of impairments, partially offset by $4 million in transactional gains and a small gain in our surplus hedge.

On an economic basis, our variable annuity hedge program had a loss of $4.6 million in the quarter. This is more than offset by a $5.9 million gain on the non-performance risk factor which we consider to be non-economic.

Moving to the discontinued operations line, we commuted approximately half of our remaining discontinued group accidents and health reinsurance exposure during the second quarter. You will recall that we took a charge in the fourth quarter in anticipation of these commutations. We incurred a modest incremental cost of $7 million to move these exposures of our books at reasonable costs for certainty.

As importantly, we believe that the contracts we commuted were those with the greatest likelihood of adverse development in the future, leaving us with a modest run up book to manage. Our reserves, as of June 30, were $34.8 million which includes $5 million of commutations that we expect to close in the third quarter.

As you saw in our earnings release, this quarter we made some adjustments to our non-GAAP operating income measures. Because the fixed index annuity block is becoming more meaningful to our earnings, we changed the definition of operating income this quarter to adjust for certain items related to that business.

Our goal with these changes, which are detailed on Slide 5, is to capture the essence of the fixed index annuity business as a spread business. These are products which we priced to earn a spread over the interest we credit to policy holders. For index annuities, we seek to earn the spread over the cost of the options we purchased to hedge index credits.

Similar to the measures used by other index annuity writers, our new definition excludes the change and fair value of embedded derivative liabilities other than the portion related to current period index credits. We also add the actual cost of purchasing derivatives and the proceeds from derivatives used to fund index credits in the current period.

You can see that after DAC and tax assets, the adjustment in Q2 related to these items netted to $2.4 million. We continued to exclude derivative asset gains and losses recorded in the realized gain and loss lines as we have all along.

The bottom part of the slide recaps those for you so that you can see the total impact of all adjustments related to fixed index annuities. First quarter 2012 have been revised to be consistent with this new definition, 2011 results would not have changed meaningfully so we’re not adjusting earlier periods.

Moving on to Slide 6, here we have highlights of the trends and operating income and we spike out discrete items that affect period to period comparisons. Tax expense was $6.9 million in the quarter which translates into an effective tax rate of 87% on operating income.

As in the first quarter, we again incurred higher than expected alternative minimum tax expense of $4.9 million because of strong taxable income. In addition, there is about $2 million of tax expense allocated to the operating income line, which is offset below the line by a tax benefit against realized losses.

Projecting our GAAP tax provision continues to be difficult. We have accrued $13.8 million of AMT tax year-to-date on taxable income. We receive a tax credit which we can use against future earnings for this tax, but we’re not able to currently recognize that credit as a DTA for GAAP purposes.

I realized that our guidance of a 30% effective rate has not been accurate, but it remains our best estimate for modeling purposes. Book value per share, excluding AOCI, declined by $0.07 to $9.24 in the quarter, as a result of GAAP net loss.

Turning to our insurance fundamentals, Slide 7 shows mortality cost ratios for the open and closed blocks. Note that this is presented before DAC offsets. Gross mortality was favorable with expectations. Included various changes and benefit reserves, differed acquisition costs and the impact of the policy holder dividend obligations, results were favorable to pretax earnings by about $5.5 million.

As a reminder, positive mortality in the closed block does not benefit GAAP earnings, as it is added to the policy holder dividend obligation. The closed block PDO, as of June 30, improved to $120.7 million versus $73.6 million at year-end 2011.

As you can see on Slide 8, surrender rates continued to trend lower. Annualized life surrenders were at 5.4% for the second quarter and in the closed block, they were at 5.3%, well within the range of what we considered to be normal.

Annuity surrender levels were at 11.9%. This reflects the combination of our older fixed and variable annuity blocks, which has somewhat higher surrenders rates and lower surrenders in the new fixed index annuity business.

Slide 9 shows the trends in our growth initiatives. Year-to-date annuity deposits are $424 million, up 7% from a year ago. Deposits were $196 million in the second quarter, down from $227 million in the first quarter.

As we said in the past, we implement product changes more frequently than many competitors in order to respond to market conditions and remain profitable. We believe the decline in sales this quarter was driven by pricing changes implemented in February.

More recently, we’ve seen several market participants also adjust benefit. But against that backdrop, we launched several new products in June and we are believer and are well positioned for the second half of the year.

Importantly, our second quarter sales added more embedded value than any prior quarter’s fixed index annuity sales. The estimated embedded value of second quarter sales was $4.4 million bringing us to a total of $5.6 million year-to-date.

Our overall achieved spread on our fixed index annuity deposits year-to-date has been 277 basis points which is net of the factor for default. We will continue to actively manage the product in response to the market environment.

Saybrus EBITDA decreased due to the lower annuity sales, but it has also improved year-to-date. Six month 2012 EBITDA was $800,000 versus a loss of $1 million a year ago and full year losses in both 2010 and 2011.

Total revenues were $5 million at Saybrus for the second quarter compared with $4.2 million a year ago. As I mentioned earlier, this improvement was primarily driven by third-party revenue. Saybrus’ EBITDA margin for the first half was 8%.

The roll forward of our estimated RBC ratio on slide 10. The year-to-date improvement came primarily from core life insurance and annuity results as well as strong alternative asset returns which together increased the ratio by 41 points.

Phoenix Life paid $39 million in dividends to the holding company including $15 million in the second quarter which lowered the ratio by 12 percentage points. Interest rate risk has lowered the ratio by an estimated seven percentage points.

We ended the second quarter with $119 million of cash and securities at the holding company. We have remaining regulatory dividend capacity of approximately $33 million for 2012, although we will continue to balance appropriate capitalization of the Life companies with holding companies liquidity.

Finally, a remainder that we are affecting a one for 20 reverse stock split on August 10th. Approximately 100,000 fractional shares created by the split will be repurchased by the company.

With that I will turn it over to Chris.

Chris Wilkos

Thanks Peter. As Jim described, our investment portfolio sustain favorable trends in the second quarter with an increase in net investment income, continued low levels of bond impairments and strong credit metrics.

Let me start with investment income which is summarized on slide 11. Net investment income increased quarter-over-quarter driven largely by higher returns in alternative investments. Income for the open block increased by $1.3 million, due to higher price income from increased asset balances.

Closed block income increased by $7 million as a result of higher returns from private equity partnerships. Recall that excess investment income in the closed block is observed by the PDO and it’s not included in operating income, but does benefit statutory surplus in RBC.

Given the decline in equity markets in the second quarter of 2012, and a one quarter lagging partnership accounting, we would expect third quarter alternative returns to be more modest than returns from the first and second quarters, especially in the closed blocks, which holds almost all of our private equity partnership and investments.

Like all investors we are faced with the challenge of rapidly declining yields on new investments over the past year. The yield on our fixed income investments has declined about 20 basis points since year end. However, our overall portfolio yield has increased due to the pickup in income from alternative investments.

The impact of low interest rates on our fixed income portfolio has mitigated by a number of factors. A large portion of our bonds, more than 50% are in the closed block. Closed block investment income impacts closed block dividends, but does not impact GAAP earnings per share.

Fixed indexed annuity product credited rates are reset annually. Universal Life portfolios have intermediate to long interest rate durations. The more interest sensitive asset segments are our modest percentage of our overall portfolio and in those segments we are able to use our multi-sector bond process and our expertise in private placement and mezzanine bonds to offset some of the impact of lower treasury rates.

Impairments are illustrated on Slide 12. Second quarter credit impairments declined compared to first quarter results. They were comprised of a number of small impairments, primarily on residential and commercial mortgage-backed securities. We also had an equity impairment of $1.5 million. These impairment levels remained below our long-term assumption for credit losses driven by a solid corporate credit fundamentals and stabilization in the U.S. housing market.

In the quarter, we also had 5 million of realized gains attributable to dispositions of previously impaired securities where recoveries exceeded our impaired values.

Over the past year we have seen a decrease in CLO and CDO impairments as those assets benefit from lower default rates and credit upgrades. The corporate bond portfolio has been solid with the declining trended impairments over the last three quarters.

Our private placement bond portfolio, which totals over $3 billion, continues to perform very well. We had no fixed income impairments in private placement bonds during the quarter.

The five metrics on Slide 13 continue to demonstrate the significant improvements in our portfolio and balance sheet over the last three years. Portfolio market value stands at 106% of book value having experienced steady improvement from a low of less than 86% of book in 2008. This improvement in market value gives us greater flexibility in managing our credit and interest rate exposures compared to 2008 and 2009.

Unrealized gains in the fixed income portfolio have grown to $746 million on June 30th. While these gains allow flexibility and managing exposures, they are a double-edged sword and that they reflect a low level of interest rates available on new purchases. However, the unrealized gains provide a large cushion for the inevitable when interest rates do increase.

Our below investment grade bond holdings have been reduced from a peak level of nearly 11% of bonds down to only 8.4% of bonds even with modest purchases during the last several quarters. This reduction was accomplished in a measured manner without incurring on necessary capital losses. We remain within our investment policy range of 6% to 10% of the portfolio.

Credit impairments have dropped substantially and consistently over the last three years reflecting both the improvement in the credit markets and the strength of our portfolio.

Our structured bond holdings are very highly rated and concentrated in senior and super senior securities. The market value of those securities has appreciated substantially since the end of 2008.

With that I’ll turn the call back over to Jim.

Jim Wehr

Thanks Chris. As I said at the beginning of the call it was a mixed quarter. GAAP earnings were down sequentially driven by a decline in fees and the market impact. However, we continue to see positive fundamentals and very strong statutory results.

At the end of the day we can’t lose side of the fact that we are a turnaround story and our results are going to fluctuate from quarter-to-quarter. We remain committed to our long-term strategy and know that our ultimate success will be driven by effective execution of both Inforce Management and profitable capital friendly growth. So we remain focused and are making progress.

Thank you for your time and attention today. And now let’s open up the lines for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Randy Binner, FBR.

Randy Binner – FBR Capital Markets & Co.

Great, thank you. To and to talk about the holding company, RBC grew in the quarter as you laid out in the slides and there is still $119 million of Holdco liquidity. I mean my understanding is a kind of reasonable buffer, its $50 million. So I would love to hear kind of your thoughts on what you might be able to do to manage cash at the Holdco, whether or not do we have a preference to share buyback or debt retirement in – with the fractional share buyback, with the split? I’m wondering if that, I think we should effectively think of that as kind of being the same as share repurchase.

Jim Wehr

Yes, so let me take the very last conclusion or observation you made Randy. Yes, that is – it’s effectively a share repurchase of those fractional shares and that will be done as we go through the reverse split on August 10th.

So, yeah I think you’ve got it right Randy, the holding company liquidity we’ve targeted or the minimum holding company liquidity we’ve targeted is $50 million, so we’re around number $70 million in excess of that minimum level. That being said we are still emerging from a turn around. As you can see this quarter our results can be volatile, so some push in the holding company capital level is appropriate we think.

That being said, we need to manage our capital prudently and the interest of shareholders and other stakeholders. And we recognize as you pointed out that our shares and debt are trading at potentially attractive levels. We have retired debt previously and we’re going to continue to review all options and strike to make the right calls at the right time down saying as you pointed out the capital at the holding company and the valuations in capital management alternatives we have in front of us.

Randy Binner – FBR Capital Markets & Co.

All right, fair enough. And then I guess the fractional buyback, do we – is there a number that’s been published like how much that would add up to total?

Jim Wehr

So it’s approximately 100,000 shares, post reverse split, so 2 million pre-split equivalent 100,000 after the split.

Randy Binner – FBR Capital Markets & Co.

Okay. And then I’m going to jump in kind of down to the insurance company like I said discontinued operations charge, did – well, was that the result of – was your expectation of adverse development that I think you’re trying to get away from here by commuting, was that the risk of low interest rates and did that commutation there help to risk based capital ratio?

Jim Wehr

So, Randy I’m going to turn this one to Peter to answer. Peter?

Peter Hofmann

I mean that was not a direct benefit to the risk based capital ratio. I’m just stepping back, this is a block that has been around for a long time. It started out with nearly 100s of millions of dollars of exposure. Over the last several years we have seen a combination of some adverse claims experience in some of the contracts and we’ve also seen a higher propensity by various folks who still have some of this business on their books to move towards commutation and settlement. And so, over the past three years or so we have been very involved in bringing closure to as much of this exposure as we can.

We’ve incurred about 25 million or so of incremental charges over that period. And where we sit today is really pretty comfortable that we addressed the most meaningful and sort of uncertain of those exposures with some of their recent commutations and so that 30 million reserved number after we close out the last couple of commutations is sort of where we are today. If there are other opportunities to commute some additional contracts, we will do that. But we feel pretty good in terms of having, really put a box around this.

Randy Binner – FBR Capital Markets & Co.

Okay. And then actually one more…

Jim Wehr

I would just or reiterate maybe a point that Peter made in his response and then also in his script. And I think there has been an assumption and maybe a logical assumption in the market place that the residual, what is left here is the most toxic, the most challenging, the most problematic to clean up. And we are being very clear that the commutations that we’ve made in this period get at the most problematic issues we had in the block. So we’ve been – we try to be very clear about that to counter that assumption that has been out there in the market place.

Randy Binner – FBR Capital Markets & Co.

Yeah. Thanks for that Jim, that’s helpful. And then actually one on the tax rate, I know the planning for business is very difficult as you mentioned, but I think looking to 2013 I think we’re planning a kind of better earnings that we’re going to enable kind of a much better utilization of some of the tax assets and so I mean do you – can we still think about kind of a low to no tax rate in ‘13 or is that something that we need to revisit?

Peter Hofmann

A key factor there will be whether we are able to reduce the valuation allowance against our DTA. So in a normal, without the valuation allowance, you would not see this impact from the AMT you would have an offset in deferred tax benefit and you’d basically have a zero tax rate. So the key question is, will we have enough, what’s referred to under GAAP positive evidence to reduce either partially or entirely the valuation allowance against these deferred tax assets. That is a judgment that we need to look at every – you have the benefit of, so we’re improving three year cumulative earnings picture, but we are not yet in one of the critical fact patterns which is whether we have three years of cumulative positive earnings.

So, it remains a little bit of a wildcard but if the trends continue and we are able to reduce the valuation allowance, you should see a near zero tax rate. If we don’t, we will probably continue to guide in the 30% kind of the range, but that’s going to be subject to specifically what our statutory projections are going to be for next year and the GAAP projections. But that’s what I would use for now. So it’s a better again it’s hard to say definitively, but that’s the way to think about it.

Randy Binner – FBR Capital Markets & Co.

But the – do the commutation heard that GAAP evidence analysis?

Peter Hofmann

There are many or there are a number of different views on how to look at that GAAP evidence. Our view is that we focus on continuing operations.

Randy Binner – FBR Capital Markets & Co.

Got you. Thanks.

Operator

Thank you. Our next question comes from Bob Glasspiegel with Langen McAlenney.

Bob Glasspiegel – Langen McAlenney

Good morning. Randy was on fire. I’ll try to see if I could fill his shoes, that’s going to be a tough act, just in his – in the last question…

Jim Wehr

Bob, you’d be good to the punch this morning.

Bob Glasspiegel – Langen McAlenney

That’s right. Randy is an aggressive young lad here. So, on Randy’s last question, who was the arbiter of the evidence? I mean clearly you guys believe in your plan and think you’re going to be generating lots of earnings and there must be some impartial personally other side ruling against it. Is that the auditors or who are your providing your evidence to?

Peter Hofmann

Well its management’s assessment that we need to abide by the GAAP requirements and obviously we need concurrence from our auditors on our critical accounting assumptions. So, at the end of the day it falls to us, but we need to be stick to the GAAP guidance.

Bob Glasspiegel – Langen McAlenney

Well, I mean can you clearly think you are going to be generating statutory earnings over the next three years of some materiality and I would think sufficient enough to justify dealing with the DCA?

Peter Hofmann

Well, if that comes to path then I think we would certainly have the evidence required to reduce the valuation allowance. The hurdle is that until the cumulative three year evidence is there, the amount – the degree to which we can rely on projections is very limited.

Bob Glasspiegel – Langen McAlenney

So it’s more of a look back than a – any…

Peter Hofmann

No look back until you have some accumulated evidence around earnings at which point you are then – you have more ability to rely on projections and tax planning strategies and so on.

Bob Glasspiegel – Langen McAlenney

Okay. So you haven’t cleared the look back hurdle to be able to go to…

Peter Hofmann

We have not yet.

Bob Glasspiegel – Langen McAlenney

Okay, I got you. And then there seems to be a greater conviction that interest rates are going to be staying low for a considerable length of time. So I would think that within your planning group, you’re contemplating tenure staying low in about 50 range for tenures is at least a theoretical consideration if not majority scenario. If it did come to a conclusion that the tenure was going to stay at 150, would that affect anything that you’re doing either on your pension assumptions or how you’re pricing products, I mean how should we think about how much vulnerability the company would have to persistent low interest rates?

Jim Wehr

So we tried to provide a bit of that in Chris’s commentary particularly around the portfolio side of things. I think it is worth pointing out that we have been operating in a low rate environment for a while Bob. I think you saw from Chris that net investment income has been in spite of that low range environment, net investment income has been flat for the last five quarters.

We do have the ability to adjust crediting rates in large portion of our business. As we’ve discussed previously most of our products have long durations which softens and spreads out the affect of lower and declining rates within the closed block. We can adjust the dividend scales. We do have levers to pull in response and I guess the last thing I would say is the composition of our portfolio while it’s heavily fixed income is also contains some less rate sensitive sectors and some non-rate sensitive sectors in terms of alternatives that while there is smaller segments of the portfolio Canon (ph) have contributed large proportions of our net investment income. So it’s not simply on interest rate games.

We have some levers we can pull. We’ve been able to hold up fairly well in a low rate environment, but we all know that a sustained low rate environment is going to be a challenge for our business and effectively challenge for the industry.

Bob Glasspiegel – Langen McAlenney

Okay. The one thing – the two things I don’t think you covered in that thorough answer which I appreciate was statutory accounting assumptions on interest rates used in pension fund.

Jim Wehr

So Bob, I am going to ask Peter to time in.

Peter Hofmann

Bob, I think you’re absolutely right that if you work to build assumptions of no reversion to some of the higher long-term rates and to cash flow testing and asset adequacy calculations, you would – there would be stress to those calculations and it would likely result in incremental reserve requirements. We’ve performed those calculations at year end across the business, across each of the companies and will need to go through that exercise again. So that is certainly one source of exposure, you’re right.

The pension plan, I would put into two categories. There is the GAAP underfunded status that we report that is sensitive to the current yield curve assumptions and as if the yield curve continues to shift downward at year end that liability will increase.

There is the other piece of it is the pension funding requirements that are also sensitive to interest rates, but less so because there is a provision for using more of a smooth rate and if you’re aware there was recently some legislation passed that provide some incremental near-term relief to funding requirements, that’s not a long-term relief ultimately. Any short form, its need to be funded, but there is the next few years potential relief and we’re accessing whether to avail ourselves of those – what that legislation provides for it.

Jim Wehr

And Bob I guess one last point and with a important big picture point and it comes back to our the improvements we’ve made in the business. Our statutory capital and liquidity across the business operating and holding companies has grown dramatically over the last few years. And I think it’s important and we think of all those things as potential cushions against whatever adverse issues or developments we may be faced with. I mean statutory capital has grown by almost $400 million over the last three years, 570 is to 960 that’s a dramatic improvement for a company our sides.

Bob Glasspiegel – Langen McAlenney

Okay. Thank you, guys.

Operator

Thank you. (Operator Instructions) Our next question comes from Steven Schwartz, Raymond James.

Steven Schwartz – Raymond James

Hey, good morning.

Jim Wehr

Good morning, Steven.

Steven Schwartz – Raymond James

Good morning. A few here if I may, Peter, just to start with I missed it, you mentioned that there were three reasons why fees look low. You said surrender charges, you said equity markets and what was the third, do you remember?

Peter Hofmann

The third was the reduction and COI revenue, COI fees as a result of policy elapses. That’s largely driven by the universal life block of business.

Steven Schwartz – Raymond James

Okay all right. So as that’s you’re referring to, okay, could we discuss the mortality experience in the open block. So unlike, which is unclear, unlike 1Q the mortality experience actually was good because the mix if you will was normal?

Jim Wehr

Peter?

Peter Hofmann

The, I’m not sure what you mean by the mix…

Steven Schwartz – Raymond James

Okay.

Peter Hofmann

Overall the growth experience was favorable both and the closed block and open block. The closed block is fully offset by the PDO, the open block has variety of reserve and back offsets and net of all of those it was still modestly favorably by about to $5 million a number.

Steven Schwartz – Raymond James

All right. And then just a couple of more…

Peter Hofmann

Sorry, $5.5 million actually.

Steven Schwartz – Raymond James

Okay, just a couple more cookies like that. I think you mentioned that the equity markets negatively affected earnings by about pretax earnings by about $5 million, how much of that was just the DAC amortization only?

Peter Hofmann

DAC would have been, we need to get back to it on that.

Steven Schwartz – Raymond James

Okay.

Peter Hofmann

There is a SOP reserve piece, there is a small fee piece I think it’s about $2 or $3 million but we’ll get back to you with the number.

Steven Schwartz – Raymond James

Okay. Miss or mister may I just continue, couple of more like this. Saybrus view the – was revenue was up year-over-year, how did it look quarter-over-quarter that go down along with the fixed index annuity sales, sequential Saybrus as the first quarter I guess is what I’m asking here.

Peter Hofmann

Sequential revenue numbers were up.

Steven Schwartz – Raymond James

So sequential revenue numbers were up but EBITDA was still down?

Peter Hofmann

I’m sorry, total revenues, was not up.

Jim Wehr

Third party was up.

Steven Schwartz – Raymond James

Third party was up, okay so your own was not, okay. All right…

Jim Wehr

And that’s directly related to the decline in annuity sales.

Steven Schwartz – Raymond James

Okay got it. And then one more, alternative investment income, how much of that was in open block versus closed block?

Jim Wehr

Just give me a second Steven.

Steven Schwartz – Raymond James

Okay.

Jim Wehr

The alternative income in the open block was $5.6 million in the quarter and in the closed block it was $19.8 million.

Steven Schwartz – Raymond James

Okay great. That’s what I had, thank you guys.

Peter Hofmann

All right. Steve, just got on the DAC, we have the answer here. The DAC piece of it was about $3.7 million in VA and VOL (ph) and the reminder was the reserve changes and fees.

Steven Schwartz – Raymond James

Okay great. Thank you.

Operator

Thank you. I would not like to turn the call back to Mr. Wehr.

Jim Wehr

Well thanks everybody once again for their time and attention. I know it’s a busy season, so we’re finishing a couple of minutes early, I’m sure everybody will appreciate that, and move on to the balance of their day. So once again, thanks to everybody for participating in this quarter’s call. Take care.

Operator

Thank you. That does conclude today’s conference call. Thank you for joining. You may disconnect at this time.

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