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Primerica Inc  (NYSE:PRI)
Q3 2018 Earnings Conference Call
Nov. 07, 2018, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, my name is Krista and I'll be your conference operator today. At this time, I would like to welcome everyone to the Primerica Third Quarter 2018 Earning Results Conference Call. All lines have been placed on mute to prevent any background noise and after the speakers' remarks, there will be a question-and-answer session. (Operator Instructions)

I will now turn the call over to Kathryn Kieser, Executive Vice President of Investor Relations, you may begin your conference.

Kathryn Kieser -- Executive Vice President, Investor Relations

Thank you, Krista. Good morning, everyone. Welcome to Primerica's third quarter earnings call. A copy of our earnings release, financial supplement, presentation and a webcast of today's call are available on our website at investors.primerica.com.

Glenn Williams, our Chief Executive Officer, and Alison Rand, our Chief Financial Officer will deliver prepared remarks. Then we'll open it up for questions.

We reference certain non-GAAP financial measures in our press release and on this call. These non-GAAP measures have limitations and reconciliations between GAAP and non-GAAP financial measures are attached to our press release. We will also make forward-looking statements in accordance with the Safe Harbor provisions of the Securities Litigation Reform Act.

The Company will not revise or update these statements to reflect new information, subsequent events or changes in strategy, risks and uncertainties that could cause actual events to differ materially from those expressed or implied are discussed in the Company's 2017 Annual Report on Form 10-K as updated by our quarterly reports on Form 10-Q.

Now, I'll open the call to Glenn.

Glenn Williams -- Chief Executive Officer

Thanks, Kathryn, and good morning again. We're pleased to report another strong quarter of returns of Primerica. We continue to execute our strategy to drive growth and enhanced performance by expanding distribution and prudently deploying capital. On page three of our presentation, you can see our adjusted net operating income grew 27%. We also achieved a 32% increase in adjusted operating EPS and a 200-basis point increase in adjusted operating ROAE compared with the third quarter of 2017.

The solid foundation we've built over the last few years has focused on growing our sales force and meeting the expanding needs of middle-income clients. At the same time, we've been working on incremental enhancements across the business to produce positive financial returns, including an increased focus on the investments and savings business. The middle-income market need for retirement savings products is greater than ever and the strength of the economy has created more discretionary income. More of our representatives are embracing this opportunity.

The size of our mutual fund licensed sales force has grown 4% year-over-year to over 25,000 representatives. The success of our Lifetime Investment Platform has also generated excitement among our registered investment advisors as well as interest from mutual fund licensed representatives to obtain a Series 65 license. Our number of investment advisor representatives has increased to over 3,500, up 6% from the end of the third quarter of 2017.

We're working to enhance our clients' experience as well as expand distribution capabilities for our representatives. By year-end, we plan to launch an investment and savings product sales tool called Easy Key. This will allow our representatives to seamlessly move from a mobile life insurance application to prefilled information in a mobile ISP application. This will streamline the investment decision. Easy Key will help guide the client through the investment decision process and ultimately provide investment alternatives based on the client's individual situation.

We expect that the tool provide our representatives more confidence in executing investment transactions and encourage more representatives to consider obtaining a mutual fund license. This new digital capability should also create efficiencies and drive long-term productivity in our high touch distribution model as additional features are added to aid our top ISP producers.

In addition to strategic initiative to drive organic growth, we remain committed to increasing stockholder value by actively deploying capital. Our strong diverse earnings streams continue to generate significant distributable free cash flow, enabling us to deliver strong returns which are among the best in the industry. We continued optimizing our balance sheet by repurchasing $33.5 million of shares in the third quarter for a total of $167.3 million of common stock repurchased year-to-date through September 30, 2018.

We plan to repurchase about $200 million for the full-year 2018. Our confidence in our business and future prospects should provide us with the ability to deploy at or above $200 million of capital in 2019 in addition to stockholder dividends.

Shifting to distribution results on page four, the size of our life insurance licensed sales force increased 5% year-over-year to almost 130,700 representatives at the end of the third quarter. As you may recall, in the third quarter of last year we incentivized our representatives in hurricane impacted areas to remain engaged in the business by waving the Independent Business Application fee of new recruits in FEMA-designated disaster areas.

Those efforts generated around 17,000 fee wave recruits in the prior year period, which did not recur in the third quarter of 2018, largely resulting in the recruitment of new representatives declining on a year-over-year basis. The number of representatives obtaining a life insurance license declined from the third quarter a year ago following recruiting levels in recent periods.

In 2019, we expect the size of the sales force to grow in the mid-single-digit range and anticipate both the new life licensing and non-renewal ratios to remain consistent with 2018 on a full year basis. While the size of our life insurance licensed sales force continues to grow, you can see on page five, our term life productivity has pulled back from the breakout levels we experienced in the past three years.

In the third quarter, productivity was in the historical range at 0.19 policies issued per life licensed representative per month. As a result, term life issued policies remain near the high levels achieved over the past few years although they declined on a year-over-year basis. Term life estimated annualized issued premiums grew versus the prior year period as we continue to use initiatives to meet our clients' changing needs after our initial interaction with them.

We offer clients the ability to add an increasing benefit rider to their policies, which automatically increases their total amount of coverage by 5% or 10% annually. Today, most of our new clients accept this rider, which has an additional premium, has benefits growth throughout the life of the policy. In April, we launched a new process offering an automatic increase in the amount of life insurance coverage a client can receive. For the same amount of premium quoted at the time of the sale, if the client qualifies for a better underwriting class, they can increase their coverage rather than receiving a premium refund. This new systematic offering has resulted in additional issued premiums year-to-date.

We are constantly monitoring the momentum in all facets of our business from distribution growth to life insurance, to our investment business. We look for trends in momentum and adjust messaging and incentive programs frequently to help recalibrate where necessary. One of the great strengths of our business model is our complementary term life and investment and savings products segments, and the ability to deliver solid returns even as momentum shifts between the business segments.

Shifts can occur for many reasons, including new product introductions, market performance, economic and environmental factors, to name a few. Right now we are seeing term life sales stabilize as our sales force leaders refocus after the record growth of the past few years. While we're in the process of executing levers to drive growth, we estimate 2018 term life issued policies will be down around 3.5% compared with 2017 on a full year basis. We expect issued policies to increase by about 3% year-over-year in 2019.

At the same time, our investment business is gaining momentum as a result of a more favorable market and regulatory environment, as well as recent product enhancements. Our strong investment and savings products segment performance in the quarter was driven by both sales and client asset growth. Total ISP sales increased 23% versus the year-ago period. Variable annuity sales increased 63% from the prior year quarter, reflecting recent product enhancements by our product partners that offer more attractive client benefits.

The continued success of the Lifetime Investment Platform resulted in 52% growth in managed account sales year-over-year. Positive market performance also drove 10% growth in ISP average client assets to a record $63.4 billion in the third quarter. Market volatility in the fourth quarter is pressuring average client asset values, but we are not seeing a negative impact on sales.

Since the majority of our clients' investments are in retirement accounts, we educate them on dollar-cost averaging and the value of a long-term investment strategy that focuses on time in the market rather than timing the market. So when there is short-term volatility in the market, our sales are slightly more insulated and our redemption rates are generally better than firms that work with clients with higher assets.

We excel at providing financial education and products to middle-income families and our commitment to them is unwavering. We continue to focus on expanding distribution and enhancing productivity to better serve their increasing needs. We have a proven track record of success and continue to execute a strategy to deliver growth and long-term value for all of our stakeholders.

Alison will now walk you through our financial results.

Alison Rand -- Executive Vice President and Chief Financial Officer

Thank you, Glenn, and good morning everyone. My comments today will cover the earnings results for our core business segments and then conclude with a Companywide review and insurance and other operating expenses and income taxes.

Starting on slide 6, term life continued to achieve strong financial results of 12% growth in both revenues and income before income taxes versus the prior year quarter. Adjusted direct premiums increased 13% in the third quarter and the business continues to perform well, generating a pre-tax margin of 19.6%. On a full year basis, we expect adjusted direct premiums to grow by around 13.8% in 2018 and term life margins to be around 18.8%.

In the third quarter, benefits and claims were favorable to historical trends by approximately $2 million, which we attribute to normal claims volatility. The benefits and claims ratio of 57.8% was consistent with the prior year period, which reflected a similar level of favorable claims experience. We expect the benefits and claims ratio to be around 58.2% for the full-year 2018.

The DAC amortization ratio was 15.8% this quarter, also consistent with the prior year period. Persistency in the quarter was generally in line with 2017 levels and we expect persistency to remain at this level, adjusted for typical seasonality in the fourth quarter. The DAC amortization ratio also reflects a small increase related to insurance commissions resulting from a change made to our 2018 sales force equity program that modestly shifted commission expense from deferred to non-deferred expense. On a full year basis, we expect the DAC amortization ratio to be around 16% for 2018.

The net insurance expense ratio was generally consistent year-over-year and reflects about $1 million of incremental spending on business initiatives in the quarter. For the full year, we expect the term life net insurance expense ratio to be around 8%.

As we look toward 2019, we anticipate that adjusted direct premiums will grow by around 11%. While this is lower than the growth we've seen in adjusted direct premiums in the last few years, we should continue to compare favorably to others in the industry. As we've discussed in the past, the main drivers of adjusted direct premium growth have been the IPO coinsurance transactions, including the retention of policies that continue beyond their initial policy terms starting in 2017, as well as the level of sales, policies issued over recent years. For lesser degree, exchange rates have also impacted results.

The top chart on slide seven shows how these main driver have contributed to the growth in adjusted direct premiums and the composition of the 11% growth estimate for 2019. The IPO coinsurance transactions continue to positively impact growth although the benefit has been diminishing, as expected due to growth in the post-IPO block coupled with the runoff of the pre-IPO block.

The bottom chart on slide seven illustrates this dynamic. The retention of policies that continue beyond their initial policy term provided additional growth in 2017 and 2018, it is now reaching steady state with future incremental growth considered modest. As these two drivers normalize, the level of life insurance policies issued will become an increasingly meaningful driver of adjusted direct premium growth.

The step up in life insurance policies issued in 2015, 2016 and 2017 has provided ongoing value as earnings emerge over the life of the policies. Earlier in the call, Glenn discussed that we are targeting growth in issued policies around 3% for 2019. While this will only have a small impact on 2019 results, it will help sustain our overall growth in adjusted direct premiums into the future.

On profitability perspective, in 2019, we expect the DAC amortization and benefits and claims ratio to be fairly consistent with the levels reported in 2018 at around 16% and 58.5%, respectively. We expect a modest increase in the insurance expense ratio as we continue to invest in platforms and technologies to build the business, and for the impact on overall segment margins to be relatively minor.

Moving to our investment and savings products segment, on slide eight, we continued to achieve very strong results. ISP revenues and income before income taxes grew 18% and 15%, respectively, over the prior year period. Total product sales increased 23%, primarily reflecting the significant increase in managed account and variable annuity sales previously discussed. Sales based revenues net of commissions increased 22%, in line with revenue-generating product sales. Positive net inflows and year-over-year market performance led to a 9% increase in asset-based revenues net of commissions in the third quarter.

Revisions made to our record keeping platform contracts last year resulted in account-based revenues and other operating expenses, both increasing year-over-year with a positive impact on pre-tax income of about $1 million this quarter. Also impacting our account-based earnings has been the reduction over the past few quarters in the number of accounts for which we earn record keeping fees as our clients have moved from our Lifetime Investment Platform from our fleet and managed account portfolios. We expect to see this trend stabilize in 2019 as the full transition to the Lifetime platform is completed.

Now I'll move to a discussion of the Company's insurance and other operating expenses. On slide nine you can see our third quarter expenses of $96.6 million were $13.5 million higher than the third quarter of last year. The changes to our ISP record keeping contract increased expenses by $5.7 million and as I already mentioned, this was more than offset by incremental revenues. We also had $5.8 million of additional expenses to support growth in the business. Looking ahead to the fourth quarter of 2018, we expect expenses to be about $98 million.

As described in previous earnings calls, we are making incremental investments in digital development and other technology initiatives. During 2018 we laid the groundwork for a multiyear initiative to modernize and consistent data gathering and processes to enable continuous delivery of innovation. Year-to-date we have incurred around $4 million of cost to support these initiatives, with $2 million incurred in the third quarter.

We anticipate spending around $7 million on a full year basis, which is less than our original estimate of $10 million, largely due to timing. We are finalizing our plans for 2019 initiatives to be reviewed with our Board later this month. We plan to provide a fuller picture of our 2019 expense expectations on next quarter's earnings call.

In the third quarter of 2018, the effective income tax rate was 23.6% and the operating effective income tax rate was 24.5%. The rates differ due to an adjustment made during the quarter of $1 million related to the transition impact of tax reform. It has been excluded from the operating effective income tax rate. The full-year 2018 operating effective income tax rate is expected to be 23.6%.

As I wrap up, let me say that we remain committed to maintaining a strong balance sheet and capital position. On page 10, you can see Primerica Life Insurance Company's statutory risk-based capital ratio was estimated to be around 450% with holding company liquidity at about $100 million at the end of the third quarter. We will continue to take out ordinary dividends from Primerica Life to the extent available with the goal of maintaining our near-term RBC ratio in the low-to-mid $400 million range.

Now, let's open it up for questions.

Questions and Answers:

Operator

(Operator Instructions) Your first question comes from the line of Mark Hughes from SunTrust. Please go ahead, your line is open.

Mark Hughes -- SunTrust -- Analyst

Good morning. The variable annuity sales are quite strong in the quarter when you have a product launch like that a big spike in sales, is that something that usually you might see a follow through impact in subsequent quarters. Is there kind of a catch-up effect and people get excited and so it may just be a one or two-quarter phenomenon. How do we think about that?

Glenn Williams -- Chief Executive Officer

I think that rate of growth is something that happens around the perfect conditions. I don't think it's something when you have a contraction in following quarters to kind of make up for it, because we do see -- our product partners are doing a great job, we represent the major players in the industry and they are doing a good job of improving our products to meet clients' needs in a better and more efficient way, more attractive way.

And so, you're right, Mark, that does create excitement at the point that those new product features are rolled out. We really don't have a lot of brand new products, but their new features and improvements to the chassis of the products we already have. And that does add to the momentum, it adds fuel to the fire, if you will. And then you'd expect things to normalize down the road somewhere. We expect continued strong performance, but you will see spikes in it as new products are rolled out around the excitement. So I'd say it's not exactly as you described it, but directionally you're correct.

Mark Hughes -- SunTrust -- Analyst

The anticipation of 3% growth in life policies issued in 2019, is that just sort of a reversion or stabilization in productivity?

Glenn Williams -- Chief Executive Officer

You've got a number of factors that are happening to our business at all times. And so as we look forward into the future and we try to take everything that's going on in consideration the pros and the cons of our business, we try to look and see where we think that would be in a year from now or within a year from now. And that's our best shot at where we think we will be. I do think there some normalization from the extraordinary growth rates of the past. At the same time, we are always working to take advantage of every opportunity that presents itself. So it's where we see things from where we stand right now, looking into the future.

Mark Hughes -- SunTrust -- Analyst

And a final question, on the term life business, Alison, you've given us a number of metrics for 2019. I think you said the net insurance expenses might be up a little bit perhaps, but not a big impact. Would we look for the margin, I guess, adjusted direct margin to be relatively steady year-over-year in that term life business?

Alison Rand -- Executive Vice President and Chief Financial Officer

Yes. And the reason I caveat is the expenses is -- we're obviously meeting with our Board later this month to go through our anticipated budget for 2019. Once we see where those final decisions land, a lot of it really depends also on how we allocate between the segments. So we usually like to talk about operating expenses less on a segment basis, more on a holistic basis.

I'm not exactly sure how the split will end up between the segments. So we really wanted to focus you on what I would consider the core drivers of how that block of business is doing, which of course are DAC and benefits and claims. That being said, we will obviously have to allocate some of what we anticipate toward term life as it is a large component of our business and that may bring the margin down a little bit, but I'd say the two critical drivers, the two sort of fundamental components of that segment are remaining extremely stable, we believe, with 2018.

Mark Hughes -- SunTrust -- Analyst

Thank you.

Operator

Your next question comes from the line of Ryan Kruger from KBW. Please go ahead, your line is open.

Ryan Kruger -- KBW -- Analyst

Good morning. I had a question on term life policies issued. If we take your 2018 guidance down 3.5%, it implies a fairly meaningful decline in the fourth quarter. Is that just kind of normalizing toward the lower end of the productivity per rep In the fourth quarter relative to a good year-ago quarter?

Glenn Williams -- Chief Executive Officer

Yes, that's exactly what it is, Ryan. As we stated in the prepared remarks, the strength of our business is the complementary nature of our product lines and so we're supporting our field leadership as they do three very important things: they build distribution, they sell life insurance and they also sell investments, and of course we work to create success in all three of those over the long term, but they don't always move in the same direction at the same pace.

And so you see right now a lot of natural momentum in our ISP business and of course we're leveraging that opportunity because it's presented itself and the momentum cycles are different in the other areas, life and distribution tend to move more in tandem, the same direction at the same time to a certain extent and the ISP business has a little bit different cycle.

And so those are the things that we're managing at all times. You'll see spurts of growth that will then normalize, sometimes you'll see a little lag that will later normalize, but they three interact with each other and you do it kind of with our field leadership get to a bandwidth limitation at some point where their attention is focused on what's working well right now and it creates a little bit of a headwind on the natural -- well, there is not as much natural momentum, but then over the long term that tends to all correct itself. So we're just seeing some of that give and take dynamic that we're accustomed to in our model.

Ryan Kruger -- KBW -- Analyst

Thanks. And then on ISP, has it mostly been just higher productivity of the existing licensed agents or you are also seeing some traction in terms of getting more of the field force license to sell investment products?

Glenn Williams -- Chief Executive Officer

It is both. As we reported in the prepared remarks, we had a 4% increase in our sales force size on the investment side, the ISP, the mutual fund Series 6 side. And so that's been lagging behind. Some of the strong numbers on the life side is actually been the catch-up and normalize as we anticipated it would. So when the business is working, in this case, the ISP business, it not only provides great momentum for the people involved in that business, it becomes more attractive to the people that are not yet involved in that business. And so we've been working hard to lay that foundation to make it more attractive to produce the results and then that makes it very fertile ground to get more people to get licensed and engage in the business. So, we're actually seeing both.

Ryan Kruger -- KBW -- Analyst

Got it. Thanks, Glenn.

Operator

Your next question comes from the line of Dan Bergman from Citi. Please go ahead, your line is open.

Dan Bergman -- Citi -- Analyst

Thanks, good morning. The non-renewal rate for the sales force increased in the third quarter, it's somewhat elevated versus where it had been in recent quarters. So I just wanted to get a sense if you could provide a little more color on the dynamics in the quarter and whether you expect this as anomaly or part of the trend (multiple speakers) that would be helpful.

Glenn Williams -- Chief Executive Officer

Absolutely. In our licensing pipeline, when you look at anything on a quarter basis, you get a lot of noise in there based on when the quarter ended, how many weekends were there in the quarter, various states or provinces that are large had renewals in certain quarters and others, also whether states and provinces are called up in their workload. And so anything that we're seeing right now, we would expect, as we've said, both our pull-through rates from recruit to licenses and our termination rates, over the full year period to stay in their traditional ranges.

And so I think you've got a little bit of an anomaly there on terminations in the third quarter. We also had some timing on the front end of our business on new licenses where the second quarter was particularly strong and took some out of the third quarter, but if you look at us year-to-date on any of those metrics, I think we're very much in line with our expectations and with the past.

Dan Bergman -- Citi -- Analyst

Got it. Very helpful, thanks. And then maybe just the guidance, I believe you said 11% adjusted direct premium growth in 2018. (inaudible) done a decent amount in the 2019 levels. I just wanted to see if you could provide any more color around what that glide path might look like post 2019, just in terms of how quickly we should be thinking about that moderating maybe closer to the pace of the sales growth?

Alison Rand -- Executive Vice President and Chief Financial Officer

Sure. And I do think that chart that we added in the presentation is useful and so we definitely use that as a point of reference, it's on page seven, I believe. So we do see it coming down and it has more to do quite frankly, if you look at what's happening from less from the sales side and more from the maturation of the IPO transactions as well as the stabilization of this sort of end of term block.

So on the IPO piece, we've been following a fairly consistent trend. It's falling off a little bit more we see in 2019, but that's not really much of anything and I do think you can sort of try to trend what you think is going to happen with that, that will continue to gradually come off over the next couple of years. They really -- really what happens is the reason you get some spikes in the follow-up is when you get big blocks of business running into their end of term, that is what really will change, how fast it does or does not run off.

We did really have that added benefit that started in 2017 from the end of term block that we were retaining and that's sort of the offset, if you will, for the runoff in the IPO transactions and you can see where both of those are. And then really you have the sales piece. And so, I think what becomes completely meaningful or really meaningful is what we can do with sales as we move forward. I don't expect it to drop another 3 points in 2020, but I will say that one of the big things will be is, can we maintain our level of sales.

So I think you're going to see the first two items on that chart continue to run off at a pretty relatively slow pace, but at a pace that does have pressure on the overall number and then growth in sales to be what can really drive a meaningful change.

Dan Bergman -- Citi -- Analyst

Got it. That's very helpful. Thank you.

Operator

Your next question comes from the line of Mark Hughes from SunTrust. Please go ahead, your line is open.

Mark Hughes -- SunTrust -- Analyst

I'm curious if you have any early read on maybe asset or sales-based revenue when you look at the market volatility here early in the fourth quarter, really different from kind of the operating environment you've been facing the last, last couple of years, few years. How do you think that kind of volatility influences your sales?

Glenn Williams -- Chief Executive Officer

Mark, historically what we've seen, if the volatility is relatively brief and not too dramatic, we do have a bit of an insulation from it in our business model. It seems that our clients aren't plugged in minute-by-minute to exactly what's happening in the market. And so a lot of times we'll kind of skip across a little rough water if it's relatively brief and not too major.

And so far, as I've said in my comments, on our sales, that's kind of what we've seen so far, we haven't seen the volatility really having noticeable impact in the sales momentum we are experiencing. On the other hand, obviously, as the market drops, it does impact our AUMs and so the speed and amount with which it recovers will be important on that front. But I think we do our model in our marketplace and our clients just don't react quite as quickly or as radically as maybe the more traditional Wall Street firms might see.

Mark Hughes -- SunTrust -- Analyst

And then on managed account, you had a very good growth again in the third quarter. How much internal push are you -- is there to the shift folks over to those managed accounts, is that that kind of 40%, is that just sort of naturally happening or how much emphasis are you putting on that, how can we expect that to play out, should there be a sustained elevated growth?

Glenn Williams -- Chief Executive Officer

Well, of course we entered that business some years ago and then improved to the Lifetime Investment Platform because of the opportunity that we felt like we were not capturing as we have middle-income clients that do business with us longer and longer they amass larger and larger assets and need other options and then of course there are new clients in that part of kind of the upper end of the middle market as well.

And so we're focused on capturing a new opportunity because we believe it's out there and it's something that we haven't had the product line and the sales force in place to meet. So we are capturing new business that would not have been captured rather than just simply moving sales from one product to another that we have normally seen anyway.

That said, we were starting from zero and had tremendous trajectory in the growth numbers, that will normalize over time. So you will see those numbers come down, but we are very excited about the continuing opportunity that really we're still in the first few years of and we expect that market to -- all the industry numbers or that's the fastest growing part of the investment business, and so we want to capitalize on some more of that.

Mark Hughes -- SunTrust -- Analyst

Thank you.

Operator

We have no further questions at this time. I will turn the call back over to the presenters.

Glenn Williams -- Chief Executive Officer

Thank you for your time today everybody. We appreciate you joining us. Everybody, have a great day.

Operator

And this concludes today's conference call. Thank you for your participation and you may now disconnect.

Duration: 33 minutes

Call participants:

Kathryn Kieser -- Executive Vice President, Investor Relations

Glenn Williams -- Chief Executive Officer

Alison Rand -- Executive Vice President and Chief Financial Officer

Mark Hughes -- SunTrust -- Analyst

Ryan Kruger -- KBW -- Analyst

Dan Bergman -- Citi -- Analyst

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