Loews Corporation
Q3 2017 Earnings Call Transcript

Published: 30 Oct 2017

[Operator:]

Ladies and gentlemen, thank you for standing by and welcome to the Loews Corporation Quarter Three 2017 Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will open the call for your questions. It is now my pleasure to hand over program over to Mary Skafidas. Please go ahead.

[Mary Skafidas:]

Thank you, Kristen. Good morning, everyone, and welcome to Loews Corporation's quarterly conference call. A copy of our earnings release, earnings supplement and company overview may be found on our website, loews.com. On the call this morning, we have our Chief Executive Officer, Jim Tisch; and our Chief Financial Officer, David Edelson. Following our prepared remarks this morning, we will have a question-and-answer session. Before we begin, however, I will remind you that this conference call might include statements that are forward-looking in nature. Actual results achieved by the company may differ materially from those made or implied in any forward-looking statements due to a wide range of risks, uncertainties, including those set forth in our SEC filings. Forward-looking statements reflect circumstances at the time they are made. The company expressly disclaims any obligation to update or revise any forward-looking statements. This disclaimer is only a brief summary of the company's statutory forward-looking statements disclaimer, which is included in the company's filings with the SEC. During the call today, we might also discuss non-GAAP financial measures. Please refer to our security filings and earnings supplement for a reconciliation to the most comparable GAAP measures. In a few minutes, our CFO, David Edelson will walk you through the key drivers for the quarter. However, before he does, Jim Tisch, our CEO, will kick off our call. Jim, over to you.

[James S. Tisch:]

Thank you, Mary. Good morning, and thank you for joining us today. This quarter I'd like to focus primarily on Loews Hotels and the latest developments that are going on there. But before I do, I want to give a brief update on the impact of hurricanes, Irma and Harvey, on Loews' subsidiaries in Houston and Florida. First and foremost, we're counting our blessings that all our employees are safe and fully accounted for. But of course, many were severely affected by these catastrophic storms. We're hoping to provide support to those employees and their families and happy to report that Boardwalk, Diamond Offshore, and Loews Hotels were minimally impacted from an operations perspective. Our CFO, David Edelson, will share details later in our call about the impact that these storms have had on CNA and its results. But I would be remiss if I didn't highlight how well the company has navigated this challenging, catastrophe-filled quarter. CNA's posted net operating income of $159 million despite losses from hurricanes Harvey, Irma and Maria, and the company's capital position actually improved during the quarter. And now on to Loews Hotels. Over the last two years, Loews Hotels has experienced dynamic growth. At the end of 2015, we had 23 hotels with almost 11,500 rooms. Since then, 2 hotels have been sold and we have opened and/or committed to opening 7 new hotels, which will add about 5,000 keys to our room count. Even while the chain has been expanding, operating margins have been increasing steadily. Additionally, Jon Tisch step back into his role as CEO of Loews Hotels last fall, just in time to leave this charge. There is no one we trust more at the helm. Notwithstanding the company's impressive growth, the hospitality industry is facing an increasingly challenging environment. For almost a decade, the hotel industry has seen consistent top line growth, but in many markets supply is now outpacing demand and RevPAR growth has decelerated. Social media, instant availability of information, distribution intermediaries, mobile devices and the sharing economy, all exert pressure on a hospitality industry. Simultaneously, hotel companies have consolidated into industry behemoths with economies of scale pressuring smaller operators. So, how is Loews Hotels addressing this host of challenges? The company's strategy is twofold. First, we are concentrating on highly-profitable, distinguished hotels in the upper upscale market. Properties that cater to group business and are therefore better able to withstand disruptors such as the sharing economy and technological disintermediation. These hotels typically have 300 to 800 rooms along with significant meeting space; properties such as the Loews Chicago Hotel, the Loews Vanderbilt Hotel in Nashville, and the Loews Miami Beach Hotel. Secondly, Loews Hotels continues to seek out partners who come to the party with properties that have unique built-in demand generators, similar to what we have done so successfully in our long-term partnership with Orlando Resorts – with Universal Orlando Resorts. This strategy of growth in immersive destinations leverages our demonstrated success at managing themed concepts, exemplified by our one-of-a-kind destinations such as the Hard Rock Hotel and the Cabana Bay Beach Resort, both in Orlando. Our partnership with Universal began almost 20 years ago with a joint venture in the first three hotels on the theme park campus. Today, Loews Hotels in partnership with Universal has five hotels and 5,600 rooms in Orlando, and we'll open our sixth property in the summer of 2018, the 600-room Aventura Hotel, and there's more to come. In the next several weeks, the partnership plans to announce a project that will be our largest investment so far in Orlando in terms of both rooms and dollars. So, stay tuned. Our initial three-hotel investment in the Orlando joint venture has yielded spectacular returns and the properties continue to flourish. The second phase of our expansion in Orlando occurred in 2014, with the opening of the Cabana Bay Beach Resort, a 2,200-room hotel that has already recouped much of its initial investment. During 2016, we opened the Loews Sapphire Falls Resort Hotel with a 1,000 guest rooms, and connected it to the Loews Royal Pacific to create a combined 2,000-room complex with nearly 250,000 square feet of meeting space. All our properties on the Universal campus consistently deliver occupancy rates and room rates well above their competition, meaning that our RevPAR there is market-leading. Universal has been an outstanding partner and our joint ventures have been a great investment for both of us, and our expectation is that it will continue to be so. Separating apart from Orlando, over the last several months, we have announced three additional new hotel projects that have great promise. The first hotel fits nicely into the part of our core strategy that focuses on group business. It's the 800-key Loews Kansas City hotel. This hotel, which will open in 2020, will be physically connected to the Kansas City Convention Center, which we believe will drive healthy group demand. This property will be the first new major hotel in Kansas City in over 30 years. The second and third new projects under development fits squarely into our immersive destination strategy. Together with The Cordish Companies, Loews Hotels has announced a new partnership called Live! by Loews. The first two such properties will be located in Arlington, Texas and in St. Louis, Missouri, and will open in 2019 and 2020 respectively. These properties are adjacent to the major sports arenas in those cities as well as being located in The Cordish Companies' entertainment districts. In St. Louis, we'll partner with the St. Louis Cardinals; and in Arlington, we'll join forces with the Texas Rangers. Both teams have a deep-rooted fan base and we look forward to welcoming them to our new best-in-class assets, but have no fear these hotels will do plenty of business on non-game nights too. The stadiums and the Cordish entertainment districts will host many concerts and events throughout the year, and our hotels will include significant meeting space, making these ideal destinations for groups and transient customers looking for a unique immersive experience. These three new hotels are all development projects. Why have we focused more on building versus buying? It's simple. First, when you build something, you get exactly what you want. Second, we think the returns are great. We typically look to greenlight projects with mid-teen cash-on-cash returns on equity. And third, Loews Hotels is both an owner and an operator, a business model that is increasingly rare for hotel companies. This makes us an attractive partner for developers, immersive destination owners and municipalities alike. We think like owners because we are owners, which creates mutually beneficial partnership dynamics for all constituents, something Loews Hotels has prided itself on for almost 60 years that we've been in the business. We're pleased with the growth and the growth prospects at Loews Hotels. The company's flexibility, its agile operating philosophy and its willing and ability to invest in its projects, all represent competitive advantages. Over the coming years, we will continue to leverage our strong competitive standing in the industry and seek to invest in projects with above-market returns as well as cultivating new and existing partnerships. We're confident in Loews Hotels' strategy, its leadership and the company's ability to create value for our shareholders over the long term. Now, I'd like to turn the call over to our CFO, David Edelson.

[David B. Edelson:]

Thank you, Jim, and good morning. For the third quarter, Loews reported net income of $157 million or $0.46 per share, down from $327 million or $0.97 per share in last year's third quarter. Page 17 of our earnings supplement sets forth the key quarterly and year-to-date drivers. Two principal factors caused the $170 million year-over-year decline in our third quarter net income. Catastrophe losses at CNA, related largely to hurricanes Harvey, Irma and Maria, reduced our third quarter net income by a $170 million. Last year, the negative impact of catastrophes was only $10 million. Additionally, both CNA and Diamond incurred debt redemption charges during the quarter, which combined to reduce our net income by $35 million. Absent CNA's catastrophe losses and the debt redemption charges, our pro forma net income was $362 million, up 7% from last year's third quarter. Now for more on CNA. The company had a strong quarter operationally, which isn't obvious from the $178 million year-to-year decline in CNA's contribution to our third quarter net income. Let me say a bit more about CNA's catastrophe losses and debt redemption charge before highlighting the company's continued underwriting progress. CNA is in the insurance business, so catastrophe losses are par for the course. The good news is that CNA's losses were very much in line with, if not somewhat below, its market share in the affected areas. We believe this highlights the company's strong risk management. Overall, CNA incurred $269 million pre-tax of catastrophe losses in the quarter versus only $16 million in Q3 2016. As previously mentioned, these cat losses reduced our net income by a $170 million this quarter as compared to $10 million last year. Now for the debt redemption charge. During the quarter, CNA issued $500 million of tenure notes and redeemed $350 million of notes due in November 2019. This early redemption generated a $42 million pre-tax charge at CNA, which reduced its contribution to our net income by $24 million. Absent the catastrophe losses and the debt redemption charge, CNA's contribution to our net income would have been $324 million, up slightly from the prior year. CNA's underwriting results continue to show real progress in the quarter. Its combined ratio before cat losses and prior-year development improved 2.9 points from the prior year from 97.5% down to 94.6%. Additionally, the company booked a hefty 7.4 points of favorable prior-year development, slightly lower than last year's 8 points, but still extremely positive. So overall, excluding catastrophes but including prior-year development, CNA's combined ratio for the quarter was 87.2% as compared to 89.4% last year. Two more CNA observations. Number one, net investment income was down slightly year-over-year mainly due to slightly lower, but still quite positive LP returns. And number two, realized gains on the investment portfolio which flow through net income, were higher last year than this year. Together, these two items accounted for a $29 million negative year-to-year net income variance for Loews. Turning to Diamond Offshore. Diamond contributed $6 million to our net income this quarter, about the same as last year. During the third quarter, Diamond issued $500 million of eight-year notes and redeemed $500 million of notes scheduled to come due in May 2019. This redemption generated a $35 million pre-tax charge which reduced Diamond's contribution to our Q3 net income by $11 million. Absent this debt redemption charge, Diamond's contribution to our net income would have been $17 million, up $10 million from the prior year. Diamond's effective tax rate can differ materially across quarters. So let me comment instead on its pre-tax income, which was down 9% excluding the debt redemption charge. Contract drilling revenues were up about 5% from the prior year and depreciation was also favorable because of prior-period rig impairments. However, these positives were offset by higher expenses, mainly contract drilling expenses as well as higher interest expense, as some interest was capitalized during last year's third quarter before the Ocean GreatWhite went on contract. As you know, the offshore drilling market remains extremely challenging. Diamond is laser-focused on maintaining its strong liquidity profile and maximizing its operating cash flow. On to Boardwalk, which posted excellent results in the quarter. The company's operating revenues net of fuel and transportation expenses were up almost 3%. EBITDA was up 9% and net income was up 48%. Boardwalk's contribution to our net income was $17 million versus $14 million in Q3 2016. Its contribution would have been $21 million this quarter, if not for a state tax-related deferred tax true-up booked at the Loews level. Boardwalk's $1.2 billion of growth projects are on time and on budget and are backed by long-term fixed-fee firm contracts. Results at Loews Hotels improved year-over-year as pre-tax income rose 132% and adjusted EBITDA was up about 13%. The company's five properties at the Universal Orlando Resort, propelled these improvements as did the Loews Miami Beach, which was under renovation during last year's third quarter. Earnings were negatively affected this year by lagging results at a few of the company's group-oriented hotels, caused mainly by renovation activity and a shift in the holiday schedule. In keeping with Jim's focus on Loews Hotels, we have added information about this business to our quarterly earnings supplement, including adjusted EBITDA and adjusted debt. These non-GAAP metrics quantify the pro rata EBITDA and mortgage debt attributable to Loews Hotels. We disclosed these metrics in part because GAAP joint venture accounting makes it difficult for investors to understand the underlying earnings power of Loews Hotels portfolio of joint venture properties. To answer an anticipated question, we do not plan to begin providing property-by-property detail. That said, we hope to provide useful color on Loews Hotels' results in future quarters. Turning to the parent company. Pre-tax net investment income was $48 million, up from $36 million last year and just $2 million last quarter. Equities drove the year-over-year improvement, offset in part by alternatives and gold-related securities. The improvement from last quarter was attributable predominantly to alternatives and equities. And now for our newest subsidiary, Consolidated Container. On page 5 of our earnings release, CCC's revenues are shown in investment income and other and its pre-tax and net income are included in corporate and other. This is the first full quarter that CCC is included in our results, so it's obviously still early days. Overall, CCC is performing well and the company remains solidly on track to deliver attractive double-digit cash-on-cash returns to Loews. On a net income basis, the company essentially broke even during the quarter. Operationally, CCC experienced some Hurricane Harvey related disruptions in Q3. CCC's management team continues to impress us with its professionalism, operational knowhow, and strategic focus. We will have more to say about CCC during our year-end earnings call. Loews continues to maintain an extremely strong and liquid balance sheet. At September 30, the parent company portfolio of cash and investments totaled $5.1 billion, with approximately 65% in cash and short-term investments and the remainder in fixed maturities, marketable equity securities and a diversified portfolio of limited partnership investments. During the third quarter, we received $86 million in dividends from our subsidiaries; $73 million from CNA and $13 million from Boardwalk. And with that, I will now hand the call back to Mary.

[Mary Skafidas:]

Wonderful. Thanks, David. Kristen, we're ready to begin the question-and-answer portion of our call.

[Operator:]

Thank you. Our first question comes from the line of Josh Shanker with Deutsche Bank.

[Josh D. Shanker:]

Good morning.

[James S. Tisch:]

Hello?

[Josh D. Shanker:]

How are you doing there? I wanted to ask some questions about incentive compensation and whatnot. It's an interesting sort of year quarter. CNA is doing great, but you can't account for the weather. And so, I want to know how you think about – obviously, CNA reduced their own compensation scheme and year-over-year you lose money or you lose money a quarter, because by the way the December's an ROE year-to-date, but we're not doing as well as you want to. That affects competition. How should that affect compensation at Loews? Is it purely the performance of the underlying assets, is it the operational performance? What do we think there?

[James S. Tisch:]

For the Loews – incentive compensation?

[Josh D. Shanker:]

Yeah. In a year where one of your major assets still maybe performing well, but for some reason lose a significant amount of money due to something like the weather?

[James S. Tisch:]

So, what I would direct you to do is take a look at our proxy statement, which has a very long and detailed explanation not only of our incentive compensation system, but also of our incentive compensation philosophy. And I think that that's really important. I look at that section often every year to make sure it reflects management's view of how our compensation system works here, and I think that what we have put together while unconventional, really suits us just fine.

[Josh D. Shanker:]

Okay. And does it reflect these unusual items? I mean, maybe I'll go back and take a look, but maybe what (23

[James S. Tisch:]

Let me describe briefly what it is. We have a very collegial group of senior executives here. We are managing here for the intermediate to the long term. We are not managing for an individual year. As I constantly say, our goal is to increase long-term value. And so, the thing that we do not want to do is encourage actions that might lead to spiking earnings in one year or the next, or doing things that might not lead to long-term value, but instead might just lead to a short-term pop. So we've constructed a compensation system that focuses on generally consistent earnings for senior executives, that compensates them fairly for what they do and generally results in compensation that does not have spikes because of one action or another. By doing that, we have a very collegial group here at the Loews senior management team, because everybody knows that this is a team effort to build value. And additionally, because I think in part of the way our compensation system works, there is absolutely no desire on anybody's part to spike earnings in one year or the next. And so, it's a system that is different than many other systems. We do give, to senior executives and other Loews' employees, restricted stock units that hopefully will reflect – hopefully and ultimately will reflect the value that has been created and provide some incentive, not that it's needed, but provide some incentive to the senior executives to focus on long-term value at Loews.

[Josh D. Shanker:]

Okay. Well, I appreciate that. And on the investments you're making in hotels, how should I think about the impact on 2018, 2019 cash flow?

[James S. Tisch:]

In terms of what, I'm sorry?

[Josh D. Shanker:]

The investments in hotels?

[James S. Tisch:]

The investments in Loews Hotels is entirely manageable. Loews Corporation will be providing some of the planned investments, but it's not going to be significant draw on the Loews treasury.

[Josh D. Shanker:]

Okay. Thank you very much.

[James S. Tisch:]

Thank you.

[Operator:]

Our next question comes from Bob Glasspiegel with Janney.

[Robert Glasspiegel:]

Good morning, Loews.

[James S. Tisch:]

Good morning.

[David B. Edelson:]

Good morning, Bob.

[Robert Glasspiegel:]

The hotel discussion, I appreciate both the discussion and increased disclosure. When we think about how to value it, I'm just curious what you look at adjusted EBITDA as sort of what I look at. But is there something beyond that like asset value or per room value or off balance sheet, assets that you're generating that we should think of in terms of the valuation?

[James S. Tisch:]

So in order to determine the value, I think what you have to do is look at it on a case-by-case basis, right. If you want to do a sum of the parts for Loews Hotels, you've got – for some hotels, it's fine to look at EBITDA; for a lot of them it is, but you have to understand the marketplace in which they're operating. There are other hotels that for one reason or another might not be earning in one year or multiple years significant EBITDA, but that can nonetheless be worth a lot of money. So, it's really a difficult job for someone to value all the hotels. It takes a lot of time, attention and focus. Oftentimes, it means going and visiting properties and just understanding what the potential value might be. It's something that really needs to be done by someone who is well immersed in the hotel business, who understands relative values and they should be able to come up with a pretty accurate number of what each of the individual hotels might be worth.

[Robert Glasspiegel:]

Great. That's very helpful. You said Jon had some challenges in the hotel that he's facing, but that's probably less than what he's facing in his other operation he's involved with these days. Sorry, I had to go there.

[David B. Edelson:]

Yeah.

[James S. Tisch:]

That's okay.

[Robert Glasspiegel:]

On oil, you were – on the fourth quarter 2015, kudos to you for saying oil was bouncing along in the bottom and I think you threw out somewhere between $60 and $70 as a price in three to five years, and we're more than halfway towards that target. Where does it have to get before we start to see kernels of positive in your businesses?

[James S. Tisch:]

First of all, some self-promotion. It's more than half way there. In fact, Brent is already over $60. So as I like to say, I'm going to declare victory and retreat. In terms of what has to happen now for there to be increased investment, I think it's going to happen. And as opposed to the CEO of Diamond Offshore, I think it's going to happen in fact more rapidly than Mark Edwards does. We allow different executives here to have different views. I think what's going to happen – what's happened is that there has been an enormous, enormous underinvestment in productive capacity worldwide. It's breathtaking how big that underinvestment has been. And it is my belief, based on study and research that shale oil produced in the United States, we'll not be able to fully supply worldwide oil demand over the next 5 to 10 years that there is a limit to the shale productive capacity in the United States. I know that that statement may be going against history and the trend so far, but I think that what you will see is that there is a limit to how much shale oil can be produced here. Yes, it can increase by 1 million barrels this year and 1 million barrels next year, and maybe even 1 million barrels for one or two years after that. But at some point in time, shale production will level off in the United States. And then what the world will need is more productive capacity. Typically, that productive capacity can take three to five years to come online. And already for the past 2 1/2 or 3 years, the world has been seriously under investing in that productive capacity. So, my overall view is that oil companies need – major oil companies will be forced by the market to invest in productive capacity. To date, they've had to decide between dividends and capital investing and they've come down squarely on the side of dividends. But it is my guess that with Brent trading over $60 and with WTI at $53 or $54 a barrel, this is going to start to accumulate the cash flow that will enable them to crank up some of their offshore exploration and development projects. So, while I don't expect a flood of waters this quarter into Diamond Offshore, my guess is that over the coming year or two, the offshore drilling industry will see a significant increase in inquiries for offshore drilling services.

[Robert Glasspiegel:]

Well, I didn't mean to under-congratulate you, but it's nice to hear that there could be light at the end of the tunnel within a couple of years. Is that what you're saying?

[James S. Tisch:]

Yes. Yes, yes. Yes, I think we've seen – this is not hard to say, I think we've seen the low in oil prices that – look, that was $27 a barrel, but...

[Robert Glasspiegel:]

Fourth quarter 2015 call, yeah.

[James S. Tisch:]

Yeah. But most important, I think that I'm starting to hear a bell ringing that investment in productive capacity beyond shale oil is going to start to increase.

[Robert Glasspiegel:]

Appreciate the answers, Jimmy.

[James S. Tisch:]

My pleasure.

[Operator:]

That will conclude the question-and-answer portion of today's call. I will hand the program back over to Mary.

[Mary Skafidas:]

Great. Thanks, Kristen. Always thanks to all of you for your continued interest. A replay will be available on our website at loews.com in approximately two hours. That concludes our call. Thank you.

[Operator:]

Ladies and gentlemen, thank you for joining the Loews Corporation quarter three 2017 earnings conference call. You may now disconnect your lines, and have a wonderful day.