Genworth Financial, Inc.
Q1 2012 Earnings Call Transcript

Published: 2 May 2012

[Operator:]

Good morning, ladies and gentlemen, and welcome to Genworth Financial's First Quarter 2012 Earnings Conference Call. My name is Huey, and I'll be your coordinator today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. [Operator Instructions] I would now like to turn the presentation over to Georgette Nicholas, Senior Vice President of Investor Relations. Ms. Nicholas, you may proceed.

[Georgette Nicholas:]

Thank you, operator. Good morning, and thank you for joining us for Genworth's first quarter earnings call. Our press release and financial supplement were released last evening. Additional information regarding U.S. Mortgage Insurance and Investments was posted to our website concurrent with our release. Additional information on Australian mortgage insurance was posted to our website earlier this morning. Today, you will hear from 2 of our business leaders, starting with Marty Klein, our acting Chief Executive Officer; followed by Jerome Upton, our Global Mortgage Insurance Chief Financial Officer. Following our prepared comments, we will open the call up for a question-and-answer period. In addition to our speakers, Pat Kelleher, Executive Vice President and Chief Executive Officer of our Insurance and Wealth Management division; Kevin Schneider, President and CEO of our Global Mortgage Insurance segment; Dan Sheehan, Chief Investment Officer; and Buck Stinson, President, Insurance Products for our U.S. Life Insurance segment will be available to take questions. With regard to forward-looking statements and the use of non-GAAP financial information, some of the statements we make during the call this morning may contain forward-looking statements. Our actual results may differ materially from such statements. We advise you to read the cautionary note regarding forward-looking statements in our earnings release and the Risk Factors section of our most recent annual report on Form 10-K, filed with the SEC in February 2012. This morning's discussion also includes non-GAAP financial measures that we believe may be meaningful to investors. In our supplement and earnings release, non-GAAP measures have been reconciled to GAAP were required in accordance with SEC rules. And finally, when we talk about International Protection and International Mortgage Insurance segment results, please note that all percentage changes exclude the impact of foreign exchange. And now, let me turn the call over to Marty Klein.

[Martin P. Klein:]

Thanks, Georgette, and good morning. Today, I will provide an overview of the business and capital results in the first quarter. But first, I want to acknowledge and thank Mike Fraizer for his contributions to the company over the years. From his early days at GE, through the IPO in 2004 and the recent financial crisis. Under Mike's tenure as CEO, he has nurtured a commitment for making a difference for the people who rely on us most

[Jerome T. Upton:]

Thanks, Marty. This morning, I will provide insights into our Australia mortgage insurance business and the first quarter trends we observed, where both the number of claims and the average claim payment increased significantly, particularly in March, as Genworth and key lenders increased focus on default management. I will also be discussing the results of the portfolio review that was conducted given the first quarter trends that led to the reserve strengthening. I will conclude with some perspectives on business performance going forward. I will be referring to the Australia MI portfolio update presentation that has been posted to our investor website. Before I begin, please note the cautionary note with regard to forward-looking statements and the basis for presenting financial information detailed on Slide 1. As shown on Slide 2, at the end of the first quarter, we had a little over $100 billion of effective risk in-force with an overall portfolio delinquency rate of 0.54%. Our risk in-force is dispersed across 4 major regions, in line with the country's population and across several years of origination or vintages. Overall, our performance has been solid. However, we are seeing pressure in the Queensland region and the 2007 and 2008 vintages. When you drill down 1 level, our business performance is particularly impacted by the Coastal Queensland area and small business and self-employed borrowers in the 2007 and 2008 vintages, with each representing approximately 6% of total risk in-force. I will provide more detail on these subsegments shortly. During late 2008 and through the first half of 2009, we strengthened guidelines and eliminated certain products, which have improved performance of our most recent vintages. Turning to Slide 3. During the first quarter, we experienced higher losses primarily due to loss reserve strengthening of $82 million before taxes, or $53 million after-tax, which was reviewed by independent third parties. The major drivers of this strengthening were

[Operator:]

[Operator Instructions] Our first questioner in queue is Andrew Kligerman with UBS.

[Andrew Kligerman:]

A few questions. First, on Australia, you say that you expect to be profitable again, in particular, by the second half of 2012, does that mean that you'll get back to the sort of high-40s loss ratios that you were seeing there? And how confident are you? Second, risk-to-capital is 28.6

[Jerome T. Upton:]

Andrew, it's Jerome Upton. With respect to your Australia question around profitability in the second half, I would just say -- I break this down into 3 buckets and that is our current delinquency inventory, and the mix that we've seen come through, the loss emergence in March that we saw and the approach that we took to record our reserve strengthening of $82 million to put the issue behind us with respect to what we see in the delinquency portfolio. So we've used our best information to book that $82 million, again, to put it behind us but facts and circumstances could come through in the second and third quarter. That could call into question, that reserve adequacy, and we want to see 2 to 3 quarters come through to prove that out. Number two, the pressured segments that we're seeing, the '07 and the '08 book in Coastal Queensland and Queensland in general, we see stabilizing trends there. But again, we want to see the proof points come through in the second and third quarter. And again, as -- in my prepared remarks, we took underwriting actions particularly related to some of the pressure points we saw in '07 and '08. And you've seen the recent vintages and the new vintage performance has improved as a result of that. So we'll be profitable for the year based on our best estimates. Right now, we're going to be very volatile. In a quarter-by-quarter basis, I can't make the call but really, we want to see the next 2 to 3 quarters and the proof come through on our reserve adjustment of $82 million and the vintage, the '07 and '08, and Coastal Queensland come through. We're seeing stability, but we want to see that come through.

[Martin P. Klein:]

Andrew, it's Marty. Let me start off on your question on U.S. MI and then, I'll turn it over to Kevin. I'd start out by observing that the performance we saw in the first quarter was certainly in line with our plans -- I think it's in line with what we talked about on our February call. And so we don't have any current plans to contribute capital to U.S. MI based on what we're seeing. I'd also kind of stepping back, observe that we're certainly encouraged by seeing private equity money begin to flow into the space. They obviously have pretty high standards of returns, and I think that confirms our view around the value of new business that's being written. So we're -- very interested to see that quite frankly. When you think about capital, as we've talked in the past and you've heard Kevin talked about it at some length, there's really not a bright line in the sand on -- risk-to-capital is obviously 1 metric. It's easy for investors to look at, but regulators look much deeper than that, claim stability, solvency reserve levels -- and we think right now, with the waivers we've got in GEMICO in 44 states along with the GRMAC which has got capital to write across 50 states, we think we're in pretty good shape. But, Kevin, why don’t you speak to our performance a bit that we saw in the quarter?

[Kevin D. Schneider:]

Yes, just a piggyback on that a bit, Andrew. In the first quarter, the metrics that we've laid out for investors in our February call were operating in line with all of those metrics. In fact, a little bit favorable when you get down and look at -- but internally, in terms of what our expectations were from an overall surplus standpoint, our penetration in the market is going up. Our NIW is basically in line with our expectations. Our reserves and our delinquency development are -- the experience we're seeing there are totally in line with the reserve provisioning we did in the past. Our loss mitigation trends are on line or, in fact, a little bit ahead of our overall expectation going forward. And we think that's been sort of a nice outcome for us. The new delinquencies, which we said we are expecting, would be down about 20% year-over-year. First quarter, they're down a little more than that in the 23-ish level. So the charts that we put up on U.S.MI illustrate all of those trends that I just showed. And again, we're very comfortable at this point in time that we don't have any to put anything in. We're working closely with our regulators and the GSEs on that. And if things change, we'll let you know. But at the current time, we don't see a need for it.

[Martin P. Klein:]

And then Pat why don’t you take the LPI question?

[Patrick B. Kelleher:]

Sure. I guess the way that I look at this is that we reported an income of $5 million for the quarter. Marty had indicated that there were several items, taxes, restructuring cost and one other item that are not expected to impact the business going forward. So when you adjust for that, the earnings -- if you look at it, it's about $15 million for the quarter, which is clearly down from the $19 million in the fourth quarter and about $25 million in the first quarter of last year. And that is primarily due to the loss ratio. And what I'd say is that there are several markets or several countries that are, I'll say, performing worse than the recent trends from an unemployment perspective and from an economy growth perspective. And that's what impacted our results. I'd look at it as a smaller version of what we saw in 2009 with the general downturn in Europe. And there, what we needed to do was step back, look at our contracts and look at our ability to reprice and take measures to improve the profitability of the business going forward. While this is a lesser impact clearly than what we saw a couple of years ago, we would take the same approach and expect to improve the underwriting results over a 3- to 4-quarter timeframe.

[Operator:]

Next questioner in queue is Geoffrey Dunn with Dowling & Partners.

[Geoffrey M. Dunn:]

First on Australia, I kind of just have one question. From an oversight standpoint, is that something that needs to be revisited and revised, is this something that should have been caught earlier or is it truly something that arose in March and corporate got it in the financial report in early April?

[Jerome T. Upton:]

Geoff, it's Jerome. Thanks for the question. In the second half of 2011, we did see increasing delinquency levels, and we did observe the lender processing delays and we begun to work more closely with those lenders to improve the collection and default management techniques. It did accelerate some of the older delinquencies coming through. And as those came through in the first quarter, the claim paid counts did decrease in January and February. But it was the March loss emergence and the average claims size that really gave rise to our deep dive on the delinquency inventory and the extensive review that we undertook to strengthen loss reserves of $82 million. We'll always take a look at process. We'll always endeavor to improve, but it really was those claim payments in March that gave rise to the strengthening.

[Martin P. Klein:]

And, Geoff, it's Marty. Let me just add that we intend to review the processes in Australia quite frankly as well as related to, frankly, around the rest of our platforms. We obviously want to be in the position to see business trends developing as soon as absolutely possible. So we're going to undertake those reviews and if we can improve those processes, we'll certainly do so.

[Geoffrey M. Dunn:]

And then on the domestic front, I think coming into the quarter, you had about $80 million of IBNR cushion and you had adverse development against that [indiscernible] $50 million. But you've also had 2 quarters in a row now of positive severity developments and curtailments. Have you released that benefit relative to where severity was trending? Or is the net remaining IBNR cushion higher than the implied $30 million?

[Martin P. Klein:]

Geoff, I'm -- I apologize, but your -- the conclusion of your question broke up a little bit when it was coming in. Let me try and imagine what you just said when you're asking this because the call broke up from this end. You're right, we have had the incremental $200 million of reserves that we posted in the second quarter of last year based on expected further deterioration in cure rates. It's been operating in line with our expectation over time. There is a chart we put up on the web that shows there's about $50 million of that left after a couple of quarters. So that's in line with expectations. On the curtailment side, we have begun to have a little bit of benefit from that curtailment experience as we've worked through all the opportunities to make sure all those -- all the questions about those claims around that curtailment and the feedback from the servicers, and we had a bit of offsetting benefit of that in the quarter. I would say it's about $15 million in the quarter.

[Geoffrey M. Dunn:]

So of the total curtailment benefit, you've only released effectively $15 million of that over the last 2 quarters?

[Martin P. Klein:]

$15 million in the first quarter that we have been holding up. It's not -- that is all we've done. We have not done anything reflected in our reserve on a more broad basis if that's your -- the implication of your question.

[Operator:]

Next questioner in queue is Beth Weiss [ph] with Bank of America.

[Unknown Analyst:]

One quick clarification, question on the life block transaction. Does this have any statutory earnings impact or was the $41 million purely a GAAP earnings?

[Patrick B. Kelleher:]

It's Pat. I'll take it. Yes, we completed the first life block transaction in the quarter. It was really oriented to freeing up capital from business with good mortality and persistency, but we basically had a low return due to higher locked-in reserve financing cost. When you look at the after-tax capital benefit, a portion of it related to statutory earnings and a portion of it really related to bringing capital that was in captive securitization structures back on to the statutory balance sheet. So the capital benefit of $170 million was much larger than the statutory income benefit, which was in the neighborhood of $65 million to $70 million. Does that help?

[Unknown Analyst:]

Yes, thanks, Pat.

[Operator:]

Next questioner in queue is Anand Krishnan with Fore Research.

[Anand Krishnan:]

Question again on the Australian MI unit. I guess there were a couple of other people who tried it different in ways, so I'm going to try it in a different way as well. Looking at the Supplement Page 43 -- I'm looking at the delinquency rates and if you look at September 11, 2011, delinquency rate was 59% versus December was 55%. So if you look at the delinquency rate, there was no indication that there is trouble in the unit. And obviously, you guys indicate that the frequency at which the foreclosure happened and severity was higher than expected. My question is, the delinquency rates that are being reported as well, how -- is there any time lag? And how much of a handle do you have when things start going south on some of these loans?

[Jerome T. Upton:]

Anand, this is Jerome. And you were breaking up quite a bit there. And I think I got your question. But if I missed it, please come back at me and then, we'll try again. Our delinquency rates have improved quarter-over-quarter. And the loss emergence that we saw in March was less about the delinquencies, the delinquency count, the number of delinquencies and more about the mix that was in those delinquencies. There -- again, there were some processing delays in the aged delinquencies we begun to process in the first quarter. We saw the loss emergence in March. And those delinquencies, as we've shown in the analysis, many of the late stage delinquencies have a higher mix in the areas that have given some economic pressure. So I think that was the answer to your first question. If you could come back to me with your second question, that would be helpful because you were breaking up.

[Anand Krishnan:]

The second question -- and I have a followup as well. The second question was, is there a time lag in capturing this delinquency rates? Do the lenders inform the -- and do you have a handle when things start becoming delinquent to capture them quickly? And the followup is on the reserve addition. I understand you've added, on an after-tax basis, $53 million. But when I look at the average paid claims, obviously, that went up because of the severity increase. And when I look at the reserve per delinquent loan, I see the reserve coverage is only like about 55%. So I'm just trying to see if that's adequate.

[Jerome T. Upton:]

So Anand, the answer to your first question is, there is a little bit of a delay in the delinquency inventory reporting to us by a couple of months. And one of the things that we have done around that is we are actively working with our lenders. We have on-site personnel there to give us a better perspective and insight on those delinquencies as they come through. So we do feel like we have a handle on those delinquencies, but yes, there is a little bit of lag. Does that help?

[Operator:]

The next questioner in queue is Frank Donnelly with Dalton Partners.

[Frank Donnelly:]

I just sort of have some comments. I guess, as a shareholder, I'm very disappointed that the lead director is not on the call. And if someone there could comment on the future direction, the leadership direction of the company. And also, does anyone have any thoughts on the company being put up for sale into other avenues for -- to enhance shareholder value. And the third thing I had was -- I thought I heard at the top of the conversation that we have new processes in place. And then I heard that we're under review the processes. So if there could be some clarification there. And also, could you give us some concrete steps, one, two, three, what we're doing right now to enhance shareholder value.

[Martin P. Klein:]

It's Marty. I'll take those questions. I would say that Jim Riepe, who's our lead director and was also named non-executive Chairman of the Board, have been very, very actively involved for quite some time and continue to be very involved, and Jim and I speak multiple times as he does with other members of management. So he is very involved, but he's leaving it to the management team to handle earnings calls, which is typically the case. With respect to sale of the company or other strategic aspects, I'd say that the most important thing we can be doing right now is to improve the performance of our businesses, which is very important to give us the flexibility to execute various strategies. So working on the statutory performance of the Life business to return to ordinary dividend capacity. Regular ordinary dividend capacity is very, very important. Working very actively on the turn in U.S.MI to hopefully profitability next year and managing the Australia losses. Those are all very important things because as we manage those performances, we'll be in a much better position to take better actions to improve shareholder value. The board in the meantime is very engaged on strategies, which could be ultimately a number of different things but ultimately, we have to put ourselves into place by building the financial strength of the company by improving performance. Thank you for your question. I'm sorry, I actually neglected to talk about your process change. We're very confident in our quarterly closing process -- let me just start out with that. We are undertaking review, which will start beginning next week, to make sure that our processes identify business trends as soon as absolutely possible. And if we're able to identify any of those improvements, we're simply going to make them. We'll do that in our other businesses as well. We're certainly not aware of any process breakdowns, but we'll take a look at those and make the improvements accordingly. Thanks.

[Operator:]

Thank you, sir. And with that, ladies and gentlemen, that does conclude our time for questions. And that also concludes Genworth Financial's first quarter earnings conference call. Thank you for your participation. At this time, this will end the call.